Weyerhaeuser Company (WY) Earnings Call Transcript & Summary

Really appreciate everybody joining us for the afternoon session here. And my name is Buck Horne. I'm the Raymond James analyst covering timber as well as all things housing-related and building materials. So really thrilled to be able to introduce to you the Weyerhaeuser panel. I've got Devin Stockfish to my right; Davie Wold, CFO of Weyerhaeuser over there to my further right. And we're going to do about 5 minutes or so of kind of operating update outlook kind of introduction, and then we'll just dive right into Q&A. So with that, Devin, please take it away.

All right. Well, thanks, Buck. Appreciate it. We'll just -- we're going to keep it really brief so we have lots of time for Q&A. Really just at a very high level, I would say for those that aren't familiar with the Weyerhaeuser story, we're the largest private owner of timberlands in North America. We have 10.5 million acres of timberlands in the U.S. We manage another 14 million acres in Canada under long-term license agreements. We're also one of the largest producers of wood products in North America. We have 35 manufacturing facilities. We manufacture lumber, oriented strand board, a variety of engineered wood products. We have 19 distribution facilities as well in key markets. And then our third business segment is real estate, energy and natural resources. That's really focused on making sure that we're maximizing the value of every acre that we own, and that includes both our traditional real estate, natural resources as well as our new natural climate solutions business, which I'm sure we'll talk about in a little bit more detail. We are one of the largest REITs in the U.S., all of our manufacturing assets in timber REIT or all of our assets are managed within the REIT structure. So a very tax-efficient way to manage this portfolio. And when we look at kind of the way we think about the business, we're focused on 4 key things: having an unmatched portfolio of assets, industry-leading performance, a strong foundation in ESG and disciplined capital allocation. I'll really just touch on 2 of those for the sake of time, starting with operating performance, really been a pretty significant success story at the company over the last several years. We've been focused on operational excellence. We've taken hundreds of millions of dollars out of the cost structure over the last number of years. We have a multiyear target for another $175 million to $250 million of OpEx improvements. And what that's really brought is the ability to be industry leading in every one of our businesses. When you look back at 2023, #1, EBITDA margin in every one of our manufacturing businesses from a timberland standpoint, EBITDA per acre, really industry leading best-in-class, which is what you have to do in these businesses. So really pleased with the work our folks have been doing over time to really put us in that industry-leading position. The second thing I would cover is just disciplined capital allocation. As a REIT, we're obviously focused on returning cash to shareholders. When you think about capital allocation for us, it's about 3 things. It's about returning cash to shareholders. It's about investing in our business and maintaining an investment-grade credit profile. And specifically, with respect to the cash return framework that we have in place, we're really focused on returning 75% to 80% of our annual adjusted funds available for distribution back to shareholders. We do that really through 2 different mechanisms. One, we have a sustainable base dividend that we look to grow 5% a year. We raised it again this year. Look to raise that next year in 2025 as well. That's supported by our timberlands and real estate business. And then anything up to that 75% to 80%, we meet that with either a supplemental dividend or share repurchase or a combination of the 2. We've returned a significant amount of cash back to shareholders over the last several years, really powerful framework in getting cash back to our shareholder group. Going back to 2021, we set out a number of multiyear targets at our Investor Day, and we're making great progress against all of those. We set a target to buy $1 billion worth of timberlands. We're well on our way to meeting that target. We're increasing our lumber production by 1 billion board feet over a 5-year period. We're making good progress there. And then growing our natural climate solutions business, which we just launched back in 2021, up to $100 million of EBITDA by the end of 2025. So making really good, strong progress against all of those. We've done a lot of great work on the balance sheet, paid down $1.2 billion worth of debt, really in a good place from a leverage standpoint. So the balance sheet is very strong. And we're feeling very good about our ability to navigate some choppy markets that we're facing currently. But as we think about the next 2, 3, 5, 7 years, we're going to have to do a lot of building in the U.S. We're massively underbuilt from a housing standpoint. We're going to have to build a lot of homes. The existing housing stock is old, it's small. There's going to be repair and remodel. So feel pretty good about the demand for wood products over the coming years. So really at a high level, that's a snapshot of Weyerhaeuser, but we can go ahead and open it up for Q&A on anything else you want to cover?

Yes. No, there's plenty, I think, for us to dive into and speaking to the housing market and the dynamic and things are kind of mixed in terms of new residential construction, single-family seems to be doing okay, but we're held back by affordability to a degree, multifamily is coming off of a kind of a multiyear high in terms of their start. So it's been a little bit choppy. And lumber prices have not gotten a lot of traction year-to-date, and so that's been part of the concern. Now we're starting to see OSB pricing start to come in a little bit as well. Can you just give us an update on kind of where we stand kind of midyear in terms of -- are we stabilizing? Is there more pressure in terms of sawmill capacity that needs to be absorbed? What's the kind of the near-term commodity price outlook?

Sure. When we think about our business, the demand drivers are primarily residential construction and repair and remodel. And we look at residential construction, single-family is actually holding up fairly well. When we look at 2024, we're thinking you're probably going to be up about 100,000 starts from about 900,000 to a little over 1 million, full year 2024 on the single-family side. When we think about demand for wood products, single family uses ballpark 3x as much wood use as multifamily. So single family is very important for us. And that market is holding up pretty well. And as Buck mentioned, we have seen the multifamily side pull back somewhat. They don't use as much wood. But when we sort of look at single-family and multifamily together, the advances in single-family are more or less equalizing what we are losing on the multifamily from a wood usage standpoint. The bigger issue for us this year has really been a little bit of a downshift on repair and remodel demand. When we look at the repair and remodel market as a whole, we have the Pro segment, which is the professionals that are doing remodel projects. That's holding up reasonably well. I think that's on par with last year, maybe down just a little bit, but that's holding up pretty well. The bigger issue has been on the do-it-yourself market and particularly the treater market. So when you think about Southern Yellow Pine, which is one of the primary species that we manufacture out in the South, A lot of that wood goes in the treater market. So think decks, fences, any sort of outdoor activity that you're building with wood that typically flows through the treater market. That's been off quite a bit this year. And that's probably, call it, mid-single digit, maybe even slightly above that, down year-over-year. And so when you look at all of the components together, multifamily down a little bit, single-family up a little bit, but the real issue from a lumber standpoint has been on the repair and remodel side. And I think, in particular, when you look at the different species, Southern Yellow Pine by far is the laggard at present, and that's largely a function of the lower volumes going into the treated market.

Have we seen similar kind of periods of time where they are in our market kind of falls, because what it feels like, the feedback we continue to get from and see from builders as well as real estate agents is the quality of resale inventory that's out there is still very, very poor, if you will. And there's a lot of houses that need significant repair projects, and a lot of that is going to require significant wood upgrades. Are we seeing just this period where this is just a deferred maintenance cycle due to higher interest rates, and it comes back in some period of time? And how have you seen that play in prior cycles?

Yes, I think so. I mean I think there are a couple of things going on in the R&R market. So number one, with this lock-in effect, everybody having refied their mortgages at lower rates, you've got a lot of people that are sitting on very low mortgages. And so for them to trade in or trade up to -- into a 7% mortgage rate, you're just not seeing that. So the amount of existing inventory that's trading in the market right now is very low by historical levels. That is historically when people do repair and remodel projects. When you're selling a home when you're buying a home, that drives repair and remodel activity. And I think as interest rates come down and you see the existing market kind of come back to life, which we all expect that it will do at some point, that's going to spur a fair bit of R&R activity. The second thing is for some of those bigger projets, for folks that are going to have to borrow money and if you're going to hit your home equity line, it's more expensive today. And so I think that's another piece as you see interest rates come down, that will spur a little bit more activity. And then the last thing I would say is just generally speaking, particularly on the do-it-yourself component of repair and remodel, that has a pretty strong correlation to overall retail spending. And folks that are on kind of that lower end of the income level, I think a lot of those folks are -- they're stretched right now with some of the inflationary pressures. And so that's holding it back somewhat. But to your point, over time, I think you're going to see a lot of these folks that are stuck in homes today with low mortgage rates, even if mortgage rates come down to 5%, 5.5% at some point, that's still, I think, going to have a lock-in effect. And so if you're stuck in a home instead of moving to that next level home that's bigger, meets your family's needs, that in and of itself is going to drive more repair and remodel activity over time. So we're still pretty optimistic about what R&R is going to do over time. We're just in a softer moment right now.

And how do you think about inventory that's kind of in the supply chain kind of as it stands today? And are there wildcards and we obviously had the issue of European imports hit us probably this time last year. Is there anything else in terms of the import window or any other channel checks you can see in terms of how tight we are?

I think a few things. From a lumber standpoint, in particular, inventories in the channel are pretty light right now. Most dealers, brokers, buyers, they don't really have to hold a lot of inventory because right now, there's adequate supply. They can pick up a phone, they can get a truckload of lumber on relatively short notice. So there's really no need to build inventory, which can be risky if you start to see that market turn and people are trying to provide lumber to a work site and they can't get it, that's when you really start to see material increases in lumber prices. So inventory is relatively light. We have seen the European supply coming into the U.S. down somewhat versus the last couple of years. So that's down. I think a couple of other factors that are going to be coming into play soon. Number one, we are on the verge of fire season again, and that can cause some havoc in the system to the extent you have a serious wildfire season that can pull some supply out of the system. Number two, the duties from the softwood trade dispute with Canada are kicking up to a higher level starting in August. Today, they're at an 8% duty for lumber coming in from Canada. They're going to go up over the course of the summer to 14%. So that puts a little bit more cost pressure. And then I think the other thing, which is really the big wild card, at today's lumber prices in many geographies in the U.S. and Canada, manufacturers are just underwater. So I think you have a lot of producers that are operating below cash flow breakeven. People will do that for some period of time, but they won't do it indefinitely. So at some point, you're going to see lumber prices come up because the current price isn't sustainable in certain geographies.

And can we talk a little bit about just how OSB is trading relative to lumber, because OSB seem to be acting very differently than lumber for a period of time. What was the primary driver of that disconnect?

Well, when you think about lumber, about 40% of the demand comes from repair and remodel. On the OSB side, it's a little bit more heavily focused to residential construction. And that market has been relative to R&R holding up better. So it's really just the end use for OSB. We did see OSB have a pretty strong run earlier in the spring. It came off a little bit. But just over the last several weeks, we saw that bottom out, and it's starting to come back up again. So OSB is holding up pretty well in the market. And I think as long as residential construction stays at today's levels, that should hold up pretty well here in the near term.

Got it. Got it. Engineered wood products. Are we getting more traction? Are the builders starting to take more of that product back into their mix of deliveries? And how does the pricing outlook for engineered wood look?

Yes. I mean when you go back to the period of '21, '22 during the pandemic with all of the supply disruptions and the amount of building that was going on, builders just couldn't get all of the engineered wood products that they wanted. And so some builders were forced to go to other products, open web, different types of products to meet the needs of the local building crews. We have been working to get that business back. And I think we're making some progress there. I mean, for us, we typically don't have a problem selling our product out, but the industry as a whole is working on reconverting some of that engineered lost business back to the EWP product. I'd say on balance, EWP is a good market, strong market, certainly better than it was a few years ago pre-pandemic. We have seen prices come in just a little bit over the last 12 months or so. And I think that's just largely a reflection of relative to the pandemic, we have seen somewhat less building activity. But it's still a strong product, still feel very good about the market outlook for EWP, both in the near term and in the medium term.

All right. Well, I'm going to have to shift gears because there's so much to cover with your company. So we covered the Wood Products segment pretty thoroughly. Let's talk a little bit about the timberland side and kind of the raw materials that go into the wood products. So what are the kind of the different market dynamics are you seeing in terms of log pricing or trends, whether is the South acting differently than the West at this stage of the game? And what are the factors driving pricing tension in the log markets right now?

Sure. Well, as you know, Buck, the dynamic in the Pacific Northwest is very different than the dynamic across the U.S. South. The Pacific Northwest remains a very tensioned wood basket. There just aren't enough logs to go around. We have a strong export program. And so you see pricing for logs in the Pacific Northwest typically stay relatively high. They are more correlated to lumber prices because, obviously, mills are not going to buy logs at a price that causes them to be in the red for any material period of time. But prices stayed pretty strong in the Northwest and really just are governed by a ceiling of lumber prices. So we are in a slightly softer lumber environment right now. So I think log prices in the West, well, they're good by historical levels, they're probably going to remain range-bound until you see a little bit more movement up on lumber prices. In the U.S. South, I mean, it's really more of the same. They've been kind of at a steady pace for a while. We did see a little bit of improvement during the pandemic. But generally speaking, a lot of the wood baskets in the U.S. South have plenty of log inventory, and so that really keeps a lid on how much you can raise prices. So we're seeing steady demand. Pricing is remaining solid, but we're certainly not seeing the price appreciation that you can see in the Pacific Northwest.

Is there a continued drag from just the softness in pulp and paper markets, and you've seen a lot of mill closures related to the pulp industry recently. Have we kind of bottomed out there? Or is there maybe still more to come?

No, I feel like in terms of the end use for pulp and paper products, that market seems to be getting better. I think we probably have bottomed out a while ago. There was a lot of global destocking, I think, that really put some serious pressure on the pulp and paper markets. As you mentioned, we did see some additional mills closed down. And so those things all together, I think, have tension that market up a little bit better. So the pulp and paper folks are a little bit more optimistic today, and you're starting to see a little bit of traction there. I mean, the pulp markets, there's still a lot of pulp wood out in the market. And so I don't see pulp log prices moving up materially here in the near term. But certainly, we're not having an issue in finding homes for our pulp wood.

Got you. Got you. And as you think about the M&A opportunities for your -- towards your goal for $1 billion of timber acquisitions. So you made some -- a lot of progress towards that goal already. Where do you see the more attractive opportunities? Do you go into the U.S. South where pricing just hasn't quite gotten lift off yet? Or do you go into a more tension market like the Pacific Northwest? What's the thought process there?

Yes. Buck, you're right. We've got our $1 billion target through 2025 to acquire Timberlands, and we've made great progress against that goal. We've done over half of that towards that target. With respect to where are we looking to acquire timberlands, we're really agnostic about the exact location. I mean our main goal is to invest in the places that we think we can generate the best returns. So while we have been active in the South, that's primarily been a function of where the availability of parcels has been over the last few years. We've seen some come to market in the west, but less so. So as we look forward, we've got strategic investment zones within each of the South and the West, places that we think have particularly good markets across all-in products, so pulp and sawlog markets, and we'll continue to be disciplined while we pursue that target over the next few years. Just the nature of who we are. We are active and seeing pretty much anything that comes to market, and so we'll continue to evaluate those opportunities. We'll be in discipline along the way.

Now has the market shifted in terms of what your -- maybe the window which you're willing to consider? I mean you've done some really -- some deals that are very well stocked timber in previous acquisitions. But now there's more potential optionality going back to the climate solutions opportunities. Are you willing to potentially consider timberland that's maybe younger age or maybe it's already been recently clear cut you could use that for potential NCS opportunities? Or what's the opportunity set and what you're willing to consider?

Yes. I mean, you're right. There's been a great increase in interest over the last few years in the space, at least partially attributed to the greater interest in the natural climate solutions space, whether that's forest carbon, carbon capture and sequestration, renewables, mitigation banking conservation, there's really just a greater appreciation for everything that can be done with an acre of timberlands. I would say at this point, where we are focused is making sure we can reach a set of targets that we have as we evaluate these parcels. So we're primarily focused on acres where we can generate a 4% to 6% near-term cash-on-cash return. And then over time, we've got the ability to benefit from all of those other things that you mentioned. To date, we're really not underwriting a whole lot of those alternate values. We're really focused on the core timber attributes, maybe some real estate components that we've got a long track record on. But just given the timeline for some of those opportunities to play out, it's a little bit more challenging to underwrite those. So certainly, with our scale, folding these acres into our existing properties with our expertise, things like the genetics and infrastructure that we have with logistics, transportation, just really the way we operate these timberlands, we'll add additional returns over time in that profile and also benefit from appreciation and values.

I certainly appreciate that you guys are being conservative with the underwriting in that approach. But the markets are ambitious and right? So there's lots of animal spirits and how the private buyers of timberland seem to be underwriting more than just timber values right now. Maybe you can walk us through that dynamic and what are you seeing in terms of what competitors or other private market players are willing to underwrite right now and how is that affecting timberland value?

Yes. No question. I mean in an environment that we've seen over the last few years, where interest rates have been moving upward, what we see from industry data surveys is that the discount rates being used to underwrite timberland transactions have actually been going down. And I think that kind of comes back to the complexity in using a discounted cash flow model. If you're trying to build in, all right, we're going to have this forest carbon or this carbon capture and sequestration deal in year 3 versus year 7, that's going to have a very significant impact on a discounted cash flow. And so I think in lieu of being able to have a lot of precision, I think investors have been adjusting the discount rates really just to reflect that additional upside.

So can we, Devin, I mean there's a lot to chew on with the Climate Solutions and all the opportunities here. Let's maybe go into them kind of one by one in terms of the alternative uses and kind of what seems to be maybe the nearest case monetization, whether that's the forest carbon credits or maybe solar leasing or -- if we can kind of dive into those one by one.

Sure. Maybe I'll start with Forest Carbon. This is an area that I think we've started to see more momentum of late. So just a few things that have happened even just over the last few weeks. So SBTI has come out and said they're going to allow carbon offsets for Scope 3 emissions, okay? It's a little technical, but what that does is it opens up, I think, opportunity for a lot of folks that are out and have made net zero commitments to use forest carbon credits and carbon offsets. The Biden administration just last week came out supporting the role of voluntary carbon markets with the appropriate governance around it. Michael Bloomberg came out with an OpEd, EDF has come out with some commentary. So you're starting to see more momentum. And I would say just acknowledgment around forest carbon and carbon offsets and the voluntary carbon markets playing a role and what we're trying to do from a climate standpoint. I think in the near term, what that allows is more companies that want to buy these, and I will tell you, lots of companies want to buy them. Their concern is they just don't want to end up on the front page of the Wall Street Journal, for example, for greenwashing. And so people want to feel comfortable that there's an integrity. And so the good news is there is, if you do it right, we all know that these are real. So it's just been an education process for folks to understand it. So we think this is something that's going to play out over years. Obviously, last year, we sold our first carbon credits for a very strong price. And we have several more projects coming to fruition this year, 2 more that are close to approval and then a couple on the back half of the year. So I think this market will continue to develop. Carbon Capture and Storage, also a very exciting opportunity. We've got 3 different agreements in place with Lapis, Occidental Petroleum and Exxon. I mean this is, I think, a part of the Natural Climate Solutions business that over time will be the largest profit generator within natural climate solutions. The challenge is it just takes a while. You have to go through the permitting and whether that's through the EPA or at the state level. That process is taking a long time. And then you have to build out the infrastructure with the pipelines and the injection facilities. The opportunity set there is there. I think we have a high degree of confidence that this is going to be part of the future. If you're a heavy emitting facility, there's really no way to get to net zero without carbon capture and storage, and we're going to be a player in that space. So we're excited. On the renewables side, particularly for solar, the amount of interest in solar is just off the charts. We've signed a whole bunch of agreements. We're over 60 now. Not all of those will convert into actual projects, but a good percentage of them will. And these things like a lot of the other aspects of natural climate solutions, it takes a while to get these things permitted at the local level tied into the grid. That process is taking longer than we would like. But it's going to happen. We're very sure that we're going to have solar on a good chunk of our property. And the beauty about solar is once it's in, just like these other businesses, it's a recurring revenue stream that will last for decades with very minimal effort on our part.

So what percentage of the portfolio are we talking about that could be utilized for what's realistically attributable to like could be compatible with solar leases? What could be compatible CCS?

Yes. So what I would say is there are 2 things. Remember, with CCS and with wind, they're not in lieu of managing it for forest. We can continue to manage the forest as we do now. You just put wind mills above or CCS below. When you think about solar, you are making a trade-off. It's still going to be a small percentage of our overall portfolio. Remember, we own 10.5 million acres, and it's going to be a small percentage of that. But obviously, to the extent that forest carbon prices go up over time, I think the answer to your question, how much will be in forest carbon will be dependent on what the forest carbon prices are. At a high enough price, that will incent us to do more forest carbon. And we do think, over time, those prices are going to go up.

And so when we think about your $100 million target that's out there for year-end 2025, what's the majority of that going to be composed of? Is that the forest carbon credits being monetized?

In the near term, it's going to be -- there's going to be a lot of mitigation banking. We don't really talk about that. But when you think about all of the building activity that's going on, particularly in the U.S. South, any time you touch wetlands, the developer, whether it's a private developer or the state, whomever, you have to get mitigation banking offsets. We've got a lot of land that is amenable to that. So that's going to be a piece of it. Conservation will be a piece. Renewables will be a piece of that. I think in the early stages, CCS probably not going to be a material contributor. But over time, when we look out, say, towards the back half of the decade, you'll see forest carbon renewables and CCS be the majority contributor.

All right. So I'm going to shift gears a little bit to capital allocation real quick in the balance sheet. And so you do have the balance sheet in great position and the debt-to-EBITDA ratios are near -- correct me if I'm wrong, close to company record lows. So you've got some flexibility and you've got this flexible payout [ sched ] that you can divert cash to a dividend or repurchases, the stock being where it's at right now, does it [ bear ] to us, be trading at a very significant NAV discount. So how do you think about the trade-off in terms of where you can put incremental cash and drive the best return?

Yes, you're right, Buck. We are in a fortunate place. We've got a very strong balance sheet at the moment. Our debt is in a very good position. We're well below our 3.5x net debt-to-EBITDA target about 2.3x, and so we are fortunate to be sitting where we are. As we think about our capital allocation priorities, the beauty of our flexible capital allocation framework in the variable dividend is such that we have a lot of options. And as we look at them all, share repurchase is certainly a very attractive lever, and that can be a component, as Devin referred to earlier, of our 75% to 80% of adjusted FAD that we are going to return back to shareholders each year. Above and beyond that, we have a whole host of things that we can look at, including the timberlands M&A space. And so we're always kind of looking at the trade-offs between those things. And share repurchase, it's a very attractive lever right now. But we also -- these are the times where maybe you have some other opportunities to take advantage of some things in a more challenged environment. So we're going to be really patient as we think about all the capital allocation alternatives, and ultimately allocate our cash in the way that creates the most value for shareholders.

Would that include any potential dispositions or noncore assets you might look to?

Yes. I mean, look, we're really happy with our portfolio, but our real estate program is a great example of exactly that. We're always looking to upgrade the caliber of the portfolio, and we do that through the real estate program.

All right. Well, I think we're right there at the time limit. So with that, thank you, guys. I really appreciate it. Great job. Thank you, everybody, for attending and joining us.

All right. We appreciate it.