Weyerhaeuser Company (WY) — Q2 2022 Earnings Call Transcript

Thank you, Rob. Good morning, everyone. Thank you for joining us today to discuss Weyerhaeuser's second quarter 2022 earnings. This call is being webcast at www.weyerhaeuser.com. Our earnings release and presentation materials can also be found on our website. Please review the warning statements in our press release and on the presentation slides concerning the risks associated with forward-looking statements, as forward-looking statements will be made during this conference call. We will discuss non-GAAP financial measures, and a reconciliation of GAAP can be found in the earnings materials on our website. On the call this morning are Devin Stockfish, Chief Executive Officer; and David Wold, Chief Financial Officer. I will now turn the call over to Devin Stockfish.

Thanks, Andy. Good morning, everyone, and thank you for joining us. Today, I'm very pleased to welcome David Wold to the call. David became our Chief Financial Officer in May. He previously served as our Chief Accounting Officer and brings 20 years of significant accounting, financial and strategic acumen to the CFO role. He's demonstrated outstanding leadership since joining Weyerhaeuser in 2013, and I'm excited to have Dave on our senior leadership team and to partner with him as we execute on our long-term strategy. This morning, Weyerhaeuser reported second quarter GAAP earnings of $788 million or $1.06 per diluted share on net sales of $3 billion. Adjusted EBITDA totaled $1.2 billion in the second quarter. We delivered strong results across each of our businesses, and I'd like to thank our teams for their exceptional work and continued focus as we continue to navigate dynamic market conditions. Through their collective efforts, we've generated year-to-date adjusted EBITDA of $2.7 billion, our strongest first half EBITDA results on record. Turning now to our second quarter business results, I'll begin the discussion with Timberlands on Pages 6 through 9 of our earnings slides. Timberlands contributed $153 million to second quarter earnings. Adjusted EBITDA totaled $219 million, a decrease of $28 million from the prior quarter. In the West, adjusted EBITDA decreased by $21 million compared to the first quarter. The Western domestic log market softened slightly in the second quarter as mill inventories recovered at the outset of the quarter and lumber prices declined considerably from elevated levels earlier in the year. As a result, our second quarter domestic log sales realizations were moderately lower compared to the first quarter, but remained high relative to historical pricing levels. While log supply in the Western system was ample at the outset of the quarter, it became constrained by unseasonably wet weather as the quarter progressed, which drove mill inventories to below target levels by quarter end, particularly in Oregon. These adverse weather conditions resulted in a moderate reduction in our fee harvest volumes compared to the first quarter. Forestry and road costs were seasonally higher, and per unit log and haul costs increased significantly in the second quarter as we transitioned into higher elevation logging units. Turning to our export markets in Japan, demand for our logs remained strong in the second quarter. Lumber imports from Europe into Japan continued to be restricted by ongoing global shipping challenges for most of the quarter. This dynamic continued to drive increased market share for our customers and robust demand for our logs. As a result, our Japanese sales realizations were moderately higher compared to the first quarter. Our sales volumes increased significantly, resulting from strong demand and timing of shipments. In China, log inventories at the ports declined slightly in the second quarter, resulting from improved takeaway as pandemic-related lockdowns started to ease. Imports of lumber and logs into China continue to be limited by global logistical challenges and port congestion. Additionally, log supply into China continues to be impacted by restrictions on Australian logs, Russia's recent ban on log exports to China and disruptions of European wood flow resulting from the Russia-Ukraine conflict. As a result, demand for our Western logs remained favorable in the quarter, and our sales realizations for China export logs increased moderately. Our sales volumes to China, however, decreased significantly as we continue to intentionally shift volume to the domestic market to support our domestic customers and capitalize on favorable margin opportunities. Moving to the South, Southern Timberlands adjusted EBITDA decreased by $5 million compared to the first quarter. Notwithstanding weakening lumber and OSB pricing and a seasonal increase in log supply, Southern sawlog markets remained favorable during the second quarter as mills maintained elevated inventories to mitigate risks from ongoing transportation challenges. Fiber markets experienced a similar dynamic. As a result, our sales realizations increased slightly compared to the first quarter. Our fee harvest volumes were moderately higher as seasonal weather patterns transitioned to drier conditions. Forestry and road costs were seasonally higher, and per unit log and haul costs increased significantly, primarily for fuel-related costs. Turning to our Southern export business. Our log exports to China remain temporarily paused due to the new phytosanitary regulations on pine logs put in place last year by Chinese regulators. We remain optimistic that this headwind for pine exports to China will be transitory and still maintain a constructive longer-term outlook for our Southern export business to that market. In the meantime, we continue to redirect logs to domestic mills in the U.S. South and look to grow our India export market. In the North, adjusted EBITDA decreased by $2 million compared to the first quarter due to significantly lower sales volumes associated with seasonal spring breakup conditions, partially offset by significantly higher sales realizations for most products. Turning to real estate, energy and natural resources on Pages 10 and 11, real estate and ENR contributed $65 million to second quarter earnings and $107 million to adjusted EBITDA. Second quarter adjusted EBITDA was $9 million lower than the first quarter, primarily due to the timing and mix of properties sold, but was $16 million higher than a year ago quarter. Notwithstanding the recent macroeconomic headwinds, we continue to capitalize on favorable demand for HBU properties, as buyers seek the safety of hard assets in an inflationary environment, resulting in high-value transactions with significant premiums to timber value. Now for a brief comment on Natural Climate Solutions. Following our announced agreement with Oxy Low Carbon Ventures in March for our first carbon capture and storage project in Louisiana, we continue to advance discussions with high-quality developers as this market continues to emerge. Additionally, we continue to make progress on our forest carbon pilot project in Maine and are working towards project approval by year-end. Moving to Wood Products on Pages 12 through 14. Wood Products contributed $863 million to second quarter earnings and $912 million of adjusted EBITDA. Compared to the first quarter, adjusted EBITDA decreased by $321 million as lumber and OSB prices declined considerably from elevated levels earlier in the year. These are outstanding results considering the ongoing supply chain headwinds faced by our teams in the second quarter. Starting with the lumber and OSB markets, benchmark lumber and OSB prices entered the second quarter on a downward trajectory as demand for homebuilding and repair and remodel softened, and buyers maintained lean inventories given uncertainty in the markets. Despite lean inventories throughout the channel, sentiment was cautious as buyers assessed downside risk of elevated price levels and were reluctant to build inventories in a dynamic pricing environment. By late April, benchmark pricing for both products stabilized as buyers took steps to replenish inventories to prepare for the spring building season and in response to strong April housing starts data. This dynamic continued through mid-May, at which point, buyer sentiment once again turned cautious due to rapidly rising mortgage rates, housing affordability concerns and the prospects of a possible recession. This drove benchmark prices downward through late June before stabilizing at the end of the quarter as buyers reentered the market to bolster lean inventories. Despite the substantial reduction in lumber and OSB prices during the quarter, benchmark prices for both products remain elevated compared to pre-pandemic historical averages. Adjusted EBITDA for our lumber business decreased by $289 million compared to the first quarter. Our average sales realizations decreased by 25% in the second quarter, while the framing lumber composite pricing decreased by 32%. Our sales volumes increased significantly due to seasonal inventory drawdowns and improved production. Log costs increased slightly, primarily for Canadian and Southern logs, and unit manufacturing costs were slightly higher during the quarter. Adjusted EBITDA for our OSB business decreased by $60 million compared to the first quarter. Our average sales realization decreased by 14% in the second quarter while the OSB composite pricing decreased by 34%. This relative outperformance was largely a result of order files that lagged rapidly declining OSB prices. Our sales volumes increased slightly, resulting from improved production. Unit manufacturing costs were moderately higher in the quarter, and fiber costs were comparable. Engineered Wood Products adjusted EBITDA increased by $37 million compared to the first quarter and established a new quarterly EBITDA record. Sales realizations were significantly higher for most products, and we continue to benefit from previously announced price increases for solid section and I-joists products. This was partially offset by significantly higher raw material costs, primarily for OSB web stock. Production volumes were significantly higher for most products as veneer supply improved. As a result, sales volumes increased for most products in the second quarter. In Distribution, adjusted EBITDA decreased by $24 million compared to the first quarter, primarily due to lower margins resulting from the commodity price correction. The distribution team did a terrific job managing inventories in this dynamic pricing environment. With that, I'll turn the call over to Davy to discuss some financial items and our third quarter outlook.

Thank you, Devin, and good morning, everyone. It's a pleasure to be speaking with you all today and an honor to be serving as the CFO during such an exciting time in our company's history. I look forward to capitalizing on the opportunities in front of us and working with our incredible teams to continue driving growth for our businesses and superior long-term value for our shareholders. This morning, I will be covering key financial items and second quarter financial performance before moving into our third quarter outlook. I'll begin with key financial items, which are summarized on Page 16. We generated over $1.1 billion of cash from operations in the second quarter and more than $2.1 billion year-to-date. This represents our highest first half operating cash flow on record, surpassing the previous record established just last year. We ended the quarter with approximately $1.7 billion of cash and cash equivalents and total debt of just over $5 billion. Capital expenditures for the quarter were $81 million, which is a typical level for the second quarter. We returned $138 million to shareholders through share repurchase activity. These shares were repurchased at an average price of $36.23, and as of quarter end, we had approximately $670 million of remaining capacity under our $1 billion share repurchase program. We will continue to leverage our flexible cash return framework and look to repurchase shares opportunistically. We also returned $134 million to shareholders through the payment of our quarterly base dividend, which was increased in the first quarter by 5.9% to $0.18 per share. Adjusted funds available for distribution for the second quarter totaled $1.1 billion, as highlighted on Page 18, and we have generated over $1.9 billion of adjusted FAD year-to-date. As a reminder, we will supplement our base dividends each year with an additional return of cash to achieve the targeted annual payout of 75% to 80% of adjusted FAD. As demonstrated in 2021, we have the flexibility in our framework to return this additional cash in the form of a supplemental dividend or a combination of supplemental dividend and opportunistic share repurchase. Second quarter results for our unallocated items are summarized on Page 15. Adjusted EBITDA for this segment increased by $66 million compared to the first quarter. This increase was primarily attributable to an $18 million non-cash benefit for the elimination of intersegment profit in inventory and LIFO in the second quarter compared to a $59 million noncash charge in the prior quarter. The benefit was driven by a decrease in log and lumber inventories from elevated levels at the end of the first quarter. Key outlook items for the third quarter are presented on Page 19. In our Timberlands business, we expect third quarter earnings before special items and adjusted EBITDA will be lower than the second quarter, but moderately higher than the third quarter of 2021. Turning to our Western Timberlands operations. Domestic log demand was favorable at the outset of the third quarter, particularly in Oregon, as mills sought to bolster inventories prior to wildfire season. Log supply has improved following a period of unseasonably wet weather in the second quarter and is expected to remain elevated for the majority of the third quarter. As a result, we expect our domestic log sales realizations to be moderately lower in the third quarter, absent fire-related disruptions in the region. Forestry and road costs are expected to be seasonally higher, and per unit log and haul costs are expected to be lower as fuel prices have decreased. We anticipate our fee harvest volumes will be comparable to the second quarter. Moving to the export markets. In Japan, demand for our logs is expected to soften in the third quarter due to a number of factors including a recent increase of European lumber imports into Japan and a weakening Japanese housing market. As a result, our Japanese log sales realizations are expected to decrease moderately from the second quarter, and sales volumes are expected to decrease significantly. In China, although log consumption has improved slightly as pandemic-related lockdowns have eased, log demand is expected to soften in the third quarter, resulting from elevated log inventories at the ports and a reduction in construction activity during the summer rainy season. As a result, our sales realizations on log imports into China are expected to be moderately lower compared to the second quarter. We anticipate our sales volumes will be lower as we continue to flex logs to our domestic customers to capture the highest margin. In the South, log demand in the third quarter is expected to remain stable as the mills continue to mitigate risks from ongoing transportation challenges by maintaining elevated inventories. As a result, we expect our sales realizations to be comparable to the second quarter. We anticipate our fee harvest volumes will be moderately higher in the third quarter as weather conditions remain favorable. Forestry and road costs are expected to be seasonally higher, and we anticipate comparable per unit log and haul costs. In the North, sales realizations are expected to be moderately lower due to mix. Fee harvest volumes are expected to be significantly higher compared to the second quarter as we have fully transitioned from spring breakup conditions. Turning to Real Estate, Energy and Natural Resources, consistent with prior years, we expect our real estate activity will be heavily weighted towards the first half of the year. We expect third quarter earnings and adjusted EBITDA will be slightly lower than the third quarter of 2021 due to a decrease in acres sold year-over-year. As Devin mentioned, Real Estate markets have remained strong year-to-date, and we have capitalized on strong demand and pricing for HBU properties. As a result, we are revising our guidance for full year 2022 adjusted EBITDA to $325 million, an increase of $25 million from prior guidance. Additionally, we now expect basis as a percentage of real estate sales to be 30% to 40% for the year. For our Wood Products segment, we expect third quarter earnings and adjusted EBITDA will be comparable to the second quarter, excluding the effects of changes in average sales realizations for lumber and oriented strand board. Following a substantial reduction in pricing during the second quarter, benchmark prices for lumber and OSB entered the third quarter having stabilized as buyers reentered the market to bolster lean inventories. This dynamic continued throughout July, resulting in a steady increase in benchmark prices for both products. As shown on Page 21, for both lumber and OSB, our current and quarter-to-date realizations are significantly lower than the second quarter averages. For our lumber business, we expect comparable sales volumes in the third quarter and moderately lower log costs. Unit manufacturing costs are expected to be comparable. For our oriented strand board business, we expect slightly lower sales volumes and significantly higher unit manufacturing costs due to planned annual maintenance outages. Fiber costs are expected to be comparable. For our engineered wood products business, we expect significantly lower raw material costs, primarily for OSB web stock. We anticipate this will be partially offset by lower sales realizations, primarily for plywood products. Sales realizations for our solid section and I-joist products are expected to be comparable. Our sales volumes are expected to be comparable to the second quarter, and unit manufacturing costs will be slightly higher as a result of planned annual maintenance outages in the third quarter. For our distribution business, we are expecting adjusted EBITDA to be lower than the second quarter due to lower sales realizations for most products. I'll wrap up with a few additional comments on our total company financial items, all of which are summarized in our full year 2022 outlook update on Page 20. As a result of the debt refinancing transactions executed in the first quarter, we now expect our full year interest expense to be $275 million, a $30 million decrease from prior guidance. Each year in the second quarter, we finalize prior year-end estimates for pension assets and liabilities. As a result, we recorded a $67 million improvement in our net funded status, as well as a reduction in our noncash, non-operating pension and post-employment expense. Finally, we now anticipate our full year outlook for capital expenditures to be $460 million due primarily to the acceleration of equipment orders with extended lead times for future planned capital projects. There is no change to our previously announced multiyear guidance of $420 million to $440 million of annual capital expenditures for 2023 through 2025. With that, I'll now turn the call back to Devin, and I look forward to your questions.

Thanks, Dave. Before wrapping up this morning, I'll make a few comments on the housing and repair and remodel markets. Second quarter housing starts averaged 1.65 million units on a seasonally adjusted basis, a 4% reduction compared to the first quarter. While April housing starts reached the highest monthly level since 2006, activity softened as the quarter progressed. Housing permits in the second quarter averaged 1.73 million units, a 7% reduction compared to the quarter. As we look out at the rest of the year, we do expect some softening in residential construction relative to earlier in the year, primarily as a result of the rapid increase in mortgage rates, ongoing housing affordability concerns, high inflation and concerns over a possible recession. We've already started seeing impacts from these headwinds with the reduction in new and existing home sales in recent months and through the most recent homebuilder sentiment data. However, as always, context is important. To that end, I would note that we are still expecting housing starts and demand for wood products to be above pre-pandemic levels in 2022 despite these near-term challenges. Homebuilders have a significant backlog of houses to complete and we expect this backlog will support construction activity in the back half of 2022. And importantly, we remain constructive longer term on housing demand fundamentals given favorable demographic trends of significantly under-built housing stock, a healthy labor market and solid household balance sheets. Turning to repair and remodel, where activity remained fairly stable quarter-over-quarter and continue to be supported by favorable demand from the professional segment. Demand from the do-it-yourself segment softened slightly in the second quarter as consumer sentiment turned cautious due to the recent macro uncertainties. That said, as the housing market enters a period of relative softening, this should result in more people remaining in their existing homes. And with healthy household balance sheets, favorable home equity and an aging housing stock, we continue to expect steady demand from the repair and remodel segment with activity above pre-pandemic levels. In closing, our teams are delivering strong operational and financial results. Year-to-date, we've generated $2.7 billion of adjusted EBITDA and $1.9 billion of adjusted funds available for distribution. Looking forward, we remain constructive on long-term demand fundamentals that support our businesses, notwithstanding the recent macroeconomic headwinds. Our financial position is exceptionally strong and we remain committed to serving our customers and delivering industry-leading operating performance across our businesses. We are very well positioned to navigate these dynamic market conditions and to generate long-term value for our shareholders. And with that, I think we can open it up for questions.

I have three questions, and then I'll pass it on. Congratulations again, Dave. First, regarding the acceleration of equipment with extended lead times, could you clarify what's changed that allows for quicker deliveries on machinery that previously had long lead times? Is there an improvement in the supply chain? Secondly, concerning wood, is there anything unusual with the maintenance you’re conducting in OSB during the third quarter? Could you provide insights on what is happening at the mills and any potential production loss? Lastly, could you give us an update on Maine, specifically regarding the audits and certification? I know you aim to be ready by year-end, but any additional details would be appreciated. Best of luck this quarter.

Yes. Well, thanks, George. Well, first, on the CapEx, really, it's just a function of what we're seeing in the market right now is extended lead time for pretty much all equipment. So this incremental $20 is just really a reflection of our view you need to get into the queue so that you can manage these longer-term capital projects efficiently. So, it's really not that things are getting better. It's just an acknowledgment that the timeline for getting equipment is a bit extended. So in order to get in the queue, you can put down your deposits now, and that just will make for a more efficient and effective flow of projects over the next 18 to 24 months. On the OSB side, really nothing to say there other than just each OSB mill has maintenance that we do. It's the typical annual maintenance. From a dimension standpoint, probably $5 million to $10 million in terms of lost production quarter-over-quarter.

And then lastly on Maine.

Yes. And on Maine, thanks. So it's progressing as expected. We're working with the third-party certifiers. We still expect to get it approved by the end of the year. So, it's really progressing in accordance with our schedule, and we're pleased with the progress.

Let me offer my congrats to Davy as well. Good to have you on the call.

Thank you. Great to be here.

My first question is, obviously, housing has been a key topic as we've gone through the quarter. And with a lot of the homebuilders starting to prepare their businesses just sort of guide their businesses to a more normalized sort of pre-COVID sales pace for next year. How are you thinking about your business? How it's sized to that level of activity? And where inventories are today and how you're preparing for something like that?

Yes. Well, great question. Obviously, there's been a lot of commentary around what's going on with the housing market. We can get into that in further detail if you'd like. But certainly, I think we are seeing some slowing. As we think about heading into this period of some choppiness in the housing market, I think the key takeaway is we've been preparing our business for just this situation for a number of years. All the work that we've done around OpEx and cost control to have industry-leading performance, the work we've done to get the balance sheet in a really good place, the variable dividend structure. All of these things give us a lot of flexibility if we run into a period of softness. Now our personal view is we'll probably see some softening. I'm not sure it's going to last all that long because we still feel pretty good about the underlying fundamentals with the under-built housing stock and all the other things we've been talking about for a number of years. But if we do see a period of softening, we'll continue to operate our business well, focus on cost, focus on OpEx and innovation to make sure that we protect our margins as much as possible and serve our customers. So we'll see what happens from a housing standpoint, but I think we're really well positioned if we do see some softening.

Yes. Okay. I appreciate that. And then can you talk a little bit about Timberland, the valuations that you're seeing there, has anything changed as the macro outlook has perhaps softened a bit in the quarter? And how you're thinking about the supply and demand dynamics there?

Yes. If you're talking about Timberlands transactions in particular, I think the answer is no, things really haven't changed. We're still seeing very strong demand for Timberland transactions. I think you've seen that in some of the deals that have been announced lately, we're seeing very strong pricing for Timberland assets. I think that's really a function of a few different things. First of all, historically, Timberlands have been a good place to be in an inflationary environment. So there may be some of that. But I think more importantly, there's just a view that the longer-term value in Timberland assets is there. And you've seen really over the last 12 to 18 months, the values that people are paying for Timberland deals continues to go up. And I think it's just a reflection of interest in the asset class. So notwithstanding some of the choppiness we've seen and some of the uncertainty we've seen in the markets generally, that really hasn't flowed through to the Timberlands transactions.

Yes. Okay. I'm going to sneak one more in, which is you did increase the amount of repurchases you did this quarter relative to what you've done in the first quarter and certainly relative to last year. Can you just talk a bit about your appetite for further repurchases given the valuation today and how you're thinking about the outlook for the business?

Yes, Sue, this is Davy. As we've mentioned before, we consider share repurchase to be a valuable method for returning cash to shareholders when it's the optimal choice for generating long-term shareholder value. The increase in our share repurchase authority to $1 billion last fall has given us more flexibility to buy back stock when favorable opportunities arise. In the second quarter, we repurchased $138 million at an average price of $36.23 per share, and we will continue to seek out these opportunities moving forward. Overall, we've made steady progress toward that $1 billion authorization, having completed $333 million in repurchases year-to-date. We will keep evaluating share repurchases alongside other cash deployment options and will provide updates on this activity quarterly.

Devin, if we do go through a period of softer markets in wood products because of housing, what are some of the other factors that you think might make where pricing and profitability for your business stabilize, different than maybe what it might have previously, beyond some of these internal measures that you've taken, in particular, I'm thinking about high costs in BC. Is that going to be a factor, do you think, in the future being different than what five years ago, let's say, how things might have played out in a softer supply-demand environment?

Yes, absolutely, Mark. Putting aside the cost side, which we've discussed a lot in the past, I believe that on the sales realization side, particularly with lumber, we need to consider that there will be a different cost structure depending on the geography. We've touched on this previously, but the dynamics of fiber availability and how it has affected the cost structure in British Columbia suggest that for a significant portion of the overall lumber capacity in North America, reaching a certain price level will make it difficult for many mills to remain cash flow positive. There's some debate about whether that level is $550 million or $600 million, and while we don’t have insight into our competitors' cost structures, we do possess a mill in British Columbia that we believe operates at a top quartile cost. This gives us some perspective. I believe that, in relation to the situation across North America, the cost structure in British Columbia will play a role in keeping lumber prices at a floor that is higher than historical levels. This is likely to be reflected going forward. Additionally, from a wood construction standpoint, our industry is continually seeking to increase the share of wood in building, whether it’s for single-family homes, multi-family units, or taller wooden structures. We are also exploring opportunities, particularly at the margins, in infrastructure. These factors may make the current situation look notably different compared to the last time we experienced a market dip.

Okay. I have a small question. With the CME launching a new futures contract, do you think it will impact your business? Also, why might there be nothing regarding Southern Pine?

Yes, Mark, we're aware of the new contract that's being rolled out. We'll keep an eye on it as it's introduced, although we monitor the futures market, it's not something we've used extensively given our business objectives and the volumes that have historically been traded there. And to your point on the species involved, it's possible the new contract may provide a little more volume and liquidity in the market. There may be a scenario where we'd have some use for the new contract and targeted transactions, but it's not something we'd anticipate using broadly at this point.

Regarding Southern Yellow Pine, Mark, I believe that will be addressed later. They have mentioned considering it, but they are currently focusing on this project first before turning their attention to Southern Yellow in the future.

I would like to understand what you're currently experiencing in your order books, particularly regarding wood products. Are you noticing any reductions in committed orders or an increase in purchases? I'm asking this in light of the recent rise in homebuilder cancellation rates, which has led to more homes being put on the market by builders. Is it possible that what homebuilders are observing is affecting your order book for wood products?

Yes. We haven't really seen it happen yet. In fact, on the OSB side, I'd say our order files are pretty much normal. On the lumber side, actually, our order books are a little elevated relative to normal, so a little longer on the lumber side. And on the EWP side, we're still on full allocation. So we really haven't seen that translate into our order files. And frankly, I think part of that, too, is just inventories across the channel are pretty lean. And so there's still building going on and people need product that they're just not carrying much inventory. So there's a need to cover short-term requirements at present.

Got you. How far do they typically the order books, in terms of line of sight.

Yes. For OSB, the normal timeframe is between two to four weeks. For lumber, it's usually one to two weeks, and we are likely at the higher end of that range. Regarding EWP, it is currently on allocation, so the situation is a bit different there.

I appreciate it. I have a quick follow-up question. I'm curious about how you're approaching the current environment with slowing housing demand. Reflecting on the Great Recession, I remember that Weyerhaeuser cut its harvest by over 30% around 2009-2010, and many of your peers made similar adjustments. This led to a gradually improving housing market after the recession. Currently in the U.S. South, there's excess timber that hasn't been fully addressed due to the previous downturn. If we enter a recession, which we may already be in based on recent GDP figures, how do you plan to manage your harvest to prevent a repeat of the challenges faced during the Great Recession?

Yes. So a couple of comments I would offer on that. I think, first of all, not that our crystal ball is perfect, but we're not expecting anything close to the Great Recession. And any sort of normal recessionary environment, I wouldn't anticipate our harvest level really changing much. We have an integrated model. So we have internal mill customers, we manage our harvest levels to stay at sustainable levels over time. So in a normal run-of-the-mill recession, I wouldn't anticipate that really impacting our harvest levels. Now obviously, if we have a Great Recession type of event, which, again, seems pretty unlikely to us, then of course, we're going to dial in our harvest levels to match that supply to demand. But particularly given the dynamic with all of the new mills coming into the U.S. South, ultimately, even if markets soften, the U.S. South is a place where you make money really almost under any lumber pricing scenario. So, Southern mills are going to run. So I don't really have a whole lot of concern about really reducing harvest levels in the South, absent something really, really significant.

I would like to begin by discussing Western log prices. Historically, the domestic market has been quite aligned with lumber, and you mentioned your expectations for realizations to decrease slightly in Q3. Could you elaborate on potential trends for 2023? Specifically, if lumber prices were to stabilize at current levels, do you foresee any additional downside? Also, how are factors in the export market influencing this outlook?

Yes, that's a great question. The answer really depends on several factors. In the West, there is a clear relationship between log prices and lumber prices. A sawmill won't pay a log price that leads to negative cash flow, so log prices do correlate with lumber prices. However, there are two additional factors to consider. One is the very tight supply-demand situation in the West, where the wood basket is highly pressured. Typically, this means log prices will remain close to levels that allow mills to earn some profit. The other factor is the export market, which is significant for us. We export a considerable amount of logs to Japan and depending on domestic conditions, also to China. These three factors effectively work together to determine log prices. As we enter 2023, despite economic conditions, the wood basket will still be under pressure, and we expect continued strong demand from our export customers. Therefore, I believe log prices will remain sufficiently robust to ensure mills can maintain some profitability. We anticipate a solid market in 2023, even with a potential slight economic downturn.

Got it. Okay. That's helpful. And then for my second question, I mean, the contributions from the EWP business have been really exceptional over the last couple of quarters. And I guess as you kind of look out, there's a number of different crosscurrents there, right, with demand being heavily dependent on new residential construction, but the supply side at least right now is still very, very tight. Commodity prices have been quite volatile, but EWP prices are obviously have made some significant gains over the last two years. So was hoping if you could just talk a bit about how you think about the prospects for that business into 2023?

Yes. Well, first, just a shout out to our EWP team. They're doing just a remarkable job running that business. It's been a really good run. We've had a lot of demand for EWP products. And so that's really translated into great profitability in that business. As we look forward, you're absolutely right. That product line is much more tailored to single family. And so to the extent you see some softening there, clearly, that will have some impact. But I do think just for perspective, that is a market where the supply of EWP has been pretty short, and that's resulted in a lot of shortages for our homebuilder customers. And so to some level or to some extent, there's a little bit of room just to catch up to have that supply meet demand, even if you see single-family tick down a little bit. The other thing I would just mention is during this period where there's been such a shortage of engineered wood products, you have seen builders converting into 2x10, 2x12s, open web, and so there's still some opportunity for EWP if housing softens a bit to go take some of that market share back. So absolutely, it is tied to single family, but I think even with a softening housing environment, the EWP business is still going to be pretty strong in 2023.

I have a couple of questions. Welcome aboard, Davy. Devin, could you discuss the performance of Wood Products over the last couple of years? Are there any issues with your REIT test?

No, we're in full compliance, expect to remain in full compliance, so no issues from a REIT standpoint.

Okay. And then back to the Investor Day in '21, you had wanted to grow your lumber production by about 5% annually. Is that going to happen in 2022 here?

Yes. We are going to grow organic lumber production in 2022. I think our latest estimate is we'll be somewhere in the neighborhood of 5 billion board feet of production. And so that's along the path that we have to getting that 5% per year annual target. I will say we've got a little bit of catching up to do just because particularly in the early part of the year with all the COVID disruptions, et cetera, probably lost a little bit of production, but we're well on the way to meet that target over the multiyear period.

Okay. And then what really needs to happen to accelerate and fully develop your Natural Climate solutions initiative?

Yes, a couple of things. I mean, one of them is just time. A lot of these efforts take time to develop, whether it's the carbon capture and storage business. We feel really, really good about the long-term prospects. But it takes time to get those signed up, get the infrastructure built, etc., similarly, with the forest carbon business. Solar, we're signing up lots of solar deals, but those take several years to get up and running and connect to the grid. So part of it is just time. I think part of it is we do need to see the pricing develop. I'll give you the example of forest carbon pricing. That's been bouncing around between $10 and $15 per ton. We do think that's going to increase over time. But clearly, if we're going to flex some of our forestry into carbon markets from our historical timber markets, that has to be margin positive. So you need to see that pricing come up. I do think there's a piece of it that's regulatory in nature. And so just for example, the current bill that's being looked at in Congress right now does have some provisions that would help accelerate that, whether it's the increased tax credit from 45Q to help with carbon capture and storage, direct air capture, whether it's additional support for building out wind and solar. Those things ultimately are going to happen regardless, but I think certainly some support there from a regulatory standpoint can help accelerate that. But I feel really good about the work the team is doing, just a tremendous job across the board, whether it's wind, solar, carbon capture and storage, mitigation banking across the board. Russell and his team are building out that organization and making some really good progress.

Just first of all, kind of curious for both of you. It sounded to me this morning, like you're maybe toggling a little more toward kind of the potential for share repurchase activity and perhaps in light of kind of prospective weakness in the housing market and weakness in share prices. Is that fair? It just seemed like you put more emphasis on that this morning than I have ever heard in the past.

Yes, Mark. I want to emphasize that we view share repurchase as a valuable tool in the right circumstances. We're fortunate to have various options available, such as mergers and acquisitions, investing in the business, reducing debt, and making both base and variable dividend payments. We believe share repurchase can play an important role in our capital allocation strategy. Ultimately, it will depend on our evaluation of acquisition targets and the patience required as we remain disciplined in pursuing Timberland acquisitions, considering all available options to enhance shareholder value over time.

Sure. Yes. We have a perspective on the intrinsic value of the Company, shaped by various factors. Importantly, this perspective is rooted in our long-term vision for the Company. We have some considerations in mind that we continuously assess, and our decisions will depend on the specific events and circumstances at that time, along with the opportunities open to us. However, we will remain disciplined in evaluating all options and considering them strategically.

Okay. It seems that the growing emphasis on ESG has lowered the discount rates people are applying to Timberland transactions. Do you agree with this perspective considering what you’ve observed in the Timberland market over the past three to five years? Additionally, could you provide some insight into what discount rates others might be utilizing based on the timber transactions you’ve seen recently?

Yes, Mark. So a couple of thoughts here. I do think that this view, there's an ESG play embedded within Timberlands is playing into discount rates and just the overall interest in the asset class. And you can see that around the margin, certainly with some of the private equity-like capital that's coming into the space. You see JPMorgan buying Campbell. Things of that nature, I think, are very much related to ESG, carbon, natural climate solutions, those kinds of opportunities. The thing that makes it hard to really quantify the impact of that on discount rates is you're also seeing money come in from all over the globe, where the discount rates people look for in Europe are a little different maybe than you would think in the U.S. So some of that gets a little muddied, but I think you're absolutely right directionally that ESG has lowered the discount rates people are using. In terms of giving you the range, I would still say kind of 4.5 to 5.5 is normal. But that being said, we've certainly seen some transactions lately, at least from our math, that seem to be pushing those discount rates quite a bit further. And particularly when you see some non-traditional type buyers come into the market, some of those discount rates can get really low. So, I think you are seeing on balance discount rates go down a bit in some of the transactions we've seen lately.

Okay. And just finally, real quickly, Devin. I mean the last four, four to six quarters in EWP pricing, like nothing I've ever seen before effectively just look at your graph this morning, I mean the price of I-joist looks like it's essentially doubled in about 1.5 years here. Can you talk about how you think about the stickiness of those prices if we see residential housing activities slow down?

Yes. Well, Mark, I'm probably not going to speculate on future pricing, but I will offer just a couple of directional comments on that. I think the big reason why you've seen this pricing dynamic is in a reasonably strong demand environment, there's just not enough EWP supply to go around. And so you take that, coupled with the fact that some of the input costs for EWP, so think OSB, web stock, resin, some of these other input costs have also gone up quite a bit. That's really just translated into a very strong pricing environment. And as I mentioned earlier, we're still on allocation across all of our products. Now obviously, as we go forward, this product feeds primarily into single-family, although I will say just as an aside, I do think there's lots of opportunity for EWP to find market share in commercial multifamily, some of the other focus on CLT, that kind of thing. There's more market opportunity for EWP. But even just a single family, if that goes down, that supply and demand dynamics will play out and impact pricing, but the underlying issue of EWP being in relatively short supply, unless you saw housing just fall off a cliff, I think that's more or less still going to be the case going forward.

I appreciate you including me. There continue to be numerous announcements regarding expansions and new sawmill capacity entering the U.S. South, some of which have significant costs when considering the capacity per 1,000 board feet. It appears there is currently a considerable disconnect between how the private market views valuations for U.S. South sawmill capacity and what is reflected in the public market. Do you think this creates opportunities for mergers and acquisitions or industry consolidation in the future?

Yes. Well, I think I would agree with the disconnect. I think part of that has just been in the public markets. If you're trying to figure out what mid-cycle pricing looks like, that's been really challenging with the volatility across most of the Wood Products business. And I think that has led to a bit of a disconnect between that valuation. But in terms of opportunities, well, I think absolutely, whenever there's a disconnect in the underlying value and then the way the market is otherwise seeing it, then certainly, there can be opportunities for M&A. And frankly, if we do see a little bit of a downturn, those are oftentimes the opportunities to do the best deals when you see those big value disconnects. So certainly, there's something I think everybody is watching for as we progress into the next 12 to 18 months.

Okay. I appreciate those thoughts. Lastly, just for me, fire-related risks this year, has the wet weather out West really mitigated the impact for fires this year? How do you think that may shape up as we move through the summer?

Yes. Certainly, to date, that's been the case. It was a very wet spring and summer, didn't really start in the Northwest until July 5 or 6. So I think that's really put us in a position where, from a fire risk standpoint, standing here at the end of July, we're in pretty good shape. As always, I would just say that can change, and so we will do what we always do, which is monitor this closely. We've had a pretty good track record of managing fire across our ownership. So, we'll stay on high alert. But as of today, it's definitely at a lower risk than it would ordinarily be at this time of summer.

All right. Terrific. Well, thanks, everyone, for joining us this morning, and thank you for your continued interest in Weyerhaeuser. Have a great day.