Good morning, ladies and gentlemen. Welcome to Interfor Quarter Analyst Conference Call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. If at any time during this call you require immediate assistance, please press star zero for the operator. This call is being recorded on Friday, the fourth of August, 2023. I would now like to turn the conference over to Ian Fillinger. Please go ahead, sir.
Thank you, operator. Thank you everyone for joining us this morning. With me today on the call, I have Rick Pozzebon, our Executive Vice President and Chief Financial Officer, along with Bart Bender, our Senior Vice President of Sales and Marketing. First off, I'd like to welcome Nicolle Butcher to our board of directors. We look forward to working with her and her contributions over the years to come. I'll start off by providing a brief recap of our quarter. Then I'll pass the call over to Rick and Bart. Turning to the last quarter, we experienced production cost decreases, price stabilization, and record shipment volumes, which all contributed to an adjusted EBITDA of CAD 41.9 million, an improvement over the previous quarter.
We also continued to advance on our key multi-year capital projects in the US South, which are focused on delivering significant returns. With respect to our outlook, recent housing data has shown modest improvements, including in the single-family sector, and it appears that strong underlying demand for housing continues to outweigh the impact of higher interest rates, and home building activity has been resilient so far. On the supply side, both North American production and European imports are easing, adding tension to the lumber market while creating a positive supply-demand situation. I'll now turn the call over to Rick, who will walk through the financials. Over to you, Rick.
Thank you, Ian. Good morning, all. Please refer to cautionary language regarding forward-looking information in our Q2 MD&A. From an overall perspective, Interfor's Q2 results represent significant and ongoing improvement since the fourth quarter of last year. In terms of earnings, adjusted EBITDA improved 61% quarter-over-quarter to $42 million. Revenues benefited from an 11% increase in lumber sales volume, combined with a 2% increase in the average realized lumber sales price, with both driven by a strengthened end-use demand. At the same time, costs benefited from continued moderation of log costs to better reflect current lumber prices and a $27 million reduction in the valuation reserve previously recorded against inventories. Q2 results were also positive in terms of cash flow and our balance sheet. Cash flow from operations totaled $123 million, including $97 million from inventory reductions.
These inventory reductions reflect a conscious management effort to reduce working capital investment on a sustained basis going forward, especially at the operations we acquired last year in Eastern and Atlantic Canada, which presented significant opportunity. For context, our total lumber inventory volume at the end of Q2 represented a 24% reduction year-over-year on a pro forma basis, including all acquired operations. We also reduced our total Canadian log inventory volume by 24% over the same period and on the same basis. The positive cash flow from operations led to our net debt to invested capital leverage ratio dropping to 29.6% at quarter end. With all else being equal, we expect further leverage reduction over the next few quarters, with the collection of pending income tax refunds totaling approximately $100 million.
In terms of capital allocation over the remainder of this year, our two key priorities are to continue reducing balance sheet leverage into our target range and to continue investing in US South-focused organic growth and optimization. We continue to anticipate total capital expenditures of about $210 million for 2023, of which the majority relates to discretionary projects in the U.S. South with attractive returns. As our balance sheet continues to delever, we will remain open to evaluating other attractive capital allocation opportunities that fit with our strategic plan. To wrap up, our second quarter results were another step in the right direction. Looking ahead, we will continue to focus on generating the best returns on capital in our industry and on maintaining balance sheet flexibility to navigate market volatility and execute on our strategic plan. That concludes my remarks.
I'll now turn the call over to Bart.
Thanks, Rick. I will provide some comments on our market outlook for the remainder of 2023. Although some of the macroeconomic factors relevant to our business remain uncertain, there are several reasons to feel optimistic as we work our way through the balance of 2023 and head into 2024. U.S. single-family starts for May and June are encouraging. Both represent a marked shift from the previous 12 months. The home builders in the U.S. are all reporting encouraging results in their quarterly earnings report, and guidance supports a continued trend for the balance of the year. With many existing homeowners having relatively competitive mortgage terms, the number of existing homes for sale remains low, which supports newly constructed homes taking a larger share of home sales going forward, a benefit for the overall and for lumber. Builder sentiment remains strong and trending upwards.
Our box store comparables remain favorable and point to a steady repair and remodel market going forward. In our Q1 2023 quarterly market outlook, we discussed improving I-joist demand. This trend has continued through Q2, and the outlook remains favorable for Q3 and Q4. In terms of lumber supply, North American production has tightened in the first half of 2023. Curtailments, and most recently, wildfires, have impacted operating rates, and in turn, shipments in both Canada and the U.S. have declined. We expect this trend to continue as the industry works through the longer impacts of the wildfires in both the Canadian East and West.
In-market inventories remain in the lower end of historical norms. As Rick mentioned, we have driven our overall inventories down by 24% year-over-year. We expect that as lumber demand increases, lead times to supply will trend upwards. This will put pressure on distributors of lumber to purchase for immediate needs, plus additional volumes to grow inventories needed to offset greater lead times to restock. Overall, we're encouraged with the market direction and look to work our way through Q3 into Q4 and finish the year with momentum. With that, back to you, Ian.
Thanks, Bart. Operator, we're at the point to take any questions.
Thank you. Ladies and gentlemen, we will now conduct a question and answer session. If you have a question, please press star, followed by one on your touch-tone phone. You will hear a three-tone prompt acknowledging your request. If you would like to cancel your request, please press star two. Please ensure you lift the handset if you're using a speakerphone before pressing any keys. Your first question comes from the line of Sean Steuart from TD Securities. Your line is now open.
Thanks.
Hi, Sean.
Good morning, everyone. Hi, guys. Bart, I'll, I'll start with a question, just following up on your comments on the market. Your, your positioning, your take on channel inventories is still being below normal, and maybe I'm paraphrasing, but, just your perspective on market, lumber markets stalling the last few weeks and, and weakening, I guess, a little bit this week. Are you attributing this to summer slowdown? Given your perspective that inventories are still lean through the channel, wondering if you can contrast those two things against each other and help to explain why we've seen things stall a little bit the last, last few weeks?
No problem, Sean. Good questions. Definitely, you know, I think volatility is always one of those things that's gonna remain, and so, you know, we're not gonna, we're not gonna escape that. If you, if you sort of step back and you look at Q2, you know, historically, Q2 has always been a, a quarter where supply chain issues seem to be at, at its lowest. You know, I think we're pretty fluid in getting demand to market or supply to market. When you look at the summer, I mean, obviously, we've dealt with some adversity on weather, you know, pretty much across North America.
If you look at the U.S. South, I mean, right now we've got people in Phoenix, you know, putting up with 110-degree weather, and, you know, you're not gonna see the pace of building that you would normally at when that kind of thing goes on. I do think that that's probably part of it. Again, you know, I can't. I got, I gotta highlight the supply chain side. You know, everyone talks about the improvements, and that's a real thing. They have improved, getting resupply is pretty quick for our distributors, and I think that garners a different approach to the market.
Okay.
Okay.
That's, that's helpful. Question on, on working capital? You guys gave us good detail on how much log and lumber inventories are down year-over-year. Are you guys at bare minimums at this stage? Is there any room for further reductions at this point?
Hey, Sean, good morning. It's Rick speaking. Yeah, we're currently, in terms of lumber inventories, around 18-19 days of production. We think on the margin, there's still a little bit to squeeze out there, but we're pretty comfortable where we're at.
Okay. All right. Just one last one. Ian, this process for potentially selling the tenure on the coast, can you give us a little bit more detail what's involved in this subdividing process and your conversations with the ministry to get approval? How long are you guys thinking to, to resolve this?
Yeah, thanks, Sean. I mean, it, it is a file that we're working on. You know, we've been on the coast for 60 years, so, you know, the complexity of dealing with, you know, all kinds of different stakeholders, including the government, is not always on a timeline or pace that, you know, we move at. All conversations with the government have been supportive in British Columbia. Our vision of, of how this could unfold is very consistent with the government mandate. I would, you know, say that, you know, we're, we're confident in the partnership that and leadership that the government's showing to date. We just continue to, to work on that. The timeline's just, you know, quite hard to predict. I know it's really hard to model.
You know, we have transacted on a couple of tenure sales in the past, and, and we, we feel that we've got good counterparties lined up.
... and, we'll just continue to work on it, and it'll be a slow, you know, trickle in. We, we believe over, you know, quarter to quarter, and we would include, you know, when we're successful on, on sales in our, quarterly reports.
Understood. That's all I have. Thanks very much, guys.
Great. Thanks, Sean.
Thanks, Sean.
Your next question comes from the line of Paul Quinn from RBC Capital Markets. Your line is now open.
Hey, thanks very much. Morning, guys. Just, just trying to determine, you know, how much more strength we need to see in, you know, the Canadian-U.S. housing market to be able to tighten up this, this lumber market. Is your feeling that, you know, that prices could move materially higher if we get to kind of 1.5 million starts next year? Or, you know, how do you guys see the, the way unfolding going forward?
Yeah, I-- Paul, it's Bart here. I mean, certainly we've been encouraged with what we're seeing on the housing starts. We've got the single-family piece that's creeping up, from a low of 60%, getting up into 65% now of the starts. Obviously, that's a, that's a boost for lumber demand, and so we'll-- we think we're gonna see more of that, you know, as, as things move along. You know, when you look at the big builders and, and, you know, the things that they talk about, you know, it's pretty encouraging, and, and, most, if not all, are, are talking about improvements going forward. You know, I...
It's hard to put a number on it, but I think it's probably more a percentage of single family to, to the multifamily that needs, needs to come up. Yeah, we just need to continue on with what we're doing.
Yeah, and Tom. Oh, sorry, Bart. I, I would just add on the supply side, you know, Paul, as, as you, well know, I mean, we are seeing a dramatic reduction in the imports or, you know, from Europe into the U.S., which is super encouraging, given that, you know, it was quite high and, and now it's a steep drop off.
That with, you know, curtailments and some permanent curtailments, and we still believe there's more to come out, I think just, you know, kind of adds to your comment around, you know, the 1.5 and, you know, Bart's comments around the market and, and the supply side contracting in a couple areas is, you know, I think at 1.5, that, that's a, you know, used to be a great number and, you know, just given these dynamics, who knows what the market will do? I think the fundamentals are lining up pretty nicely.
Okay. Just wondering, you know, given the current conditions, are we gonna see any change in your production profile in the back half of the year from the front half of the year?
I would, I would say there, you know, given the curtailments that we have taken in the first, you know, six months, particularly around balancing the, you know, the inventory that Rick had talked about, and then the market weakness. You know, we probably, you know, given everything equal today, should see, you know, a production increase going forward in the last half of this year.
All right. That's all I had. That's all. Thanks.
Thanks, Paul.
Thanks, Paul.
Your next question comes from the line of Ketan Mamtora from BMO. Your line is now open.
Good morning, and thank you. Maybe to start with, Bart, can you talk a little bit about, you know, how are the inventories from the European imports, you know, where are they right now? I know the actual volumes have started to come down, is, is there still a lot sitting, sitting along the eastern seaboard?
Yeah, it's definitely moderating, for sure. I mean, obviously we saw some fairly significant increases on what was imported tail end of last year and, and beginning of this year. That was all about the correction of the supply chain constraints that were, that were happening over in Europe, and so a lot of that wood made its way to market. You know, I will say that, that quite a bit of that wood was aged, so you could tell it was sitting on the docks, whether in Europe or in the U.S. for some time, and so that's one issue that the, you know, that the industry and the markets are working through. I can tell you, Well, you see the stats as well.
The imports that are coming in have dropped dramatically, and our intel tells us that there's potential for further further declines. It's just a matter of time before everything cleans up, but we're certainly hearing a lot less about imports today than we were, you know, call it Q1. Definite improvement.
Got it. That's helpful. Then, can you give us a quick update on how you guys are thinking about, you know, the multi-year CapEx program that you all have talked about in the past? Is, is there any Are you reassessing in terms of kind of how you should approach it, given, you know, a market backdrop, which is quite fluid?
Ketan, Ian here. Thanks for the question. Our, our adjustments to the CapEx, strategic CapEx plan is largely unchanged, you know, since our last call. The key projects in the U.S. South are moving along. You know, we, we continue to stay committed to those and feel that in the long term, medium term, long term, those will obviously pay off nicely for us. No, no update, you know, or changes expected in the CapEx plan, you know, from last quarter.
Got it. That's, that's helpful. I'll jump back in the queue. Good luck.
Okay, thank you.
Ladies and gentlemen, as a reminder, should you have any questions, please press star followed by one. Your next question comes from the line of Hamir Patel from CIBC Capital Markets. Your line is now open.
Hi, good morning. Ian, do you expect Interfor will be selected as a mandatory respondent in the trade case for the ongoing review? Do you see any risks there, just given the approach that the Commerce previously took with the other Eastern producer that was previously selected?
Yeah, Hamir, I mean, we, we scenario plan for this, so, are, is Interfor ready to respond and take on the work that, is required if you are a, you know, selected? We're in really good shape that way. Obviously, we're continually running models, so we don't see a big risk coming at us either way, whether we're selected or not. Yeah, I don't really have much more to comment on that.
Okay, great. Do you have a sense of the timing as to when maybe a determination would be made there, and when would that potentially take effect?
No, no, I don't actually. You know, it's, it's not this year, so it would be, you know, I guess it would be next year or the year after, but don't have the exact timing there, Hamir.
Okay, fair enough. Just the last question I had is on the fiber cost side. How do you see costs playing out, across the different operating regions, over the next year?
Yeah, well, obviously, BC, and Rick, you can jump in if you, if I missed anything. BC was the, the stumpage adjustment, you know, was great for us. You know, as it sort of realigned log costs to current market conditions. You know, the BC's government's move to, you know, a, a shorter timeline on, on stumpage adjustments, we think is positive and something that we've been working, you know, with our partners with, and government to make happen for many years. That's, that's great. Yeah, in our other jurisdictions, they're, they're holding or, or reassessing downwards. Yeah, we're confident that, you know, given the market condition today, we're seeing the right trends in log costs across our system.
Hamir, good morning, it's Rick. Exactly what Ian said, you know, the BC interior, we expect stumpage to come down another, say, $10-$15 a cubic meter in Q3 versus Q2. We're also gonna see some benefit in Quebec from fire salvaged timbers. There'll be a reduction in stumpage rate, likely at the end of Q3 into Q4 and beyond, about $5-$10 a cubic meter.
That's okay. All right, great. Thanks. That's, that's all I had. I'll, I'll turn it over.
Thank you, Hamir.
There are no further questions at this time. I will now hand over the call to Mr. Fillinger. Please continue.
Okay, just to wrap up, thanks for your interest in the company, and as usual, feel free to reach out to any one of us at any time. Concludes our call, and have a great weekend.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.