ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This report contains a number of projections and statements about our expected financial condition, operating results, and business plans and objectives. These statements reflect management’s estimates based upon our current expectations, in light of management’s knowledge of existing circumstances and expectations about future developments. Statements about expectations and future performance are “forward looking statements” within the meaning of applicable securities laws, which describe our goals, objectives and anticipated performance. These statements can be identified by words such as
“anticipate,” “believe,” “expect,” “intend” and similar expressions
.
These statements are inherently uncertain, and some or all of these statements may not come to pass. Accordingly, you should
not interpret these statements as promises that we will perform at a given level or that we will take any or all of the actions we currently expect to take. Our future actions, as well as our actual performance, will vary from our current expectations, and under various circumstances these variations may be material and adverse. Some of the factors that may cause our actual operating results and financial condition to fall short of our expectations are set forth in the part of this report entitled “Risk Factors” in Part II, Item 1A below. From time to time we identify other risks and uncertainties in our other filings with the Securities and Exchange Commission. The forward-looking statements in this report reflect our estimates and expectations as of the date of the report, and unless required by law, we do not undertake to update these statements as our business operations and environment change.
This discussion should be read in conjunction with the condensed consolidated financial statements and related notes included with this report.
EXECUTIVE OVERVIEW
Pope Resources, A Delaware Limited Partnership (“we” or the “Partnership”), is engaged in three primary businesses; Fee Timber, Timberland Investment Management, and Real Estate.
By far the most significant segment, in terms of owned assets and operations, is our Fee Timber segment. This segment includes timberlands owned directly by the Partnership and three private equity funds (“Fund II”, “Fund III” and “Fund IV”, collectively, the “Funds”). When we refer to the timberland owned by the Partnership, we describe it as the Partnership’s tree farms. We refer to timberland owned by the Funds as the Funds’ tree farms. When referring collectively to the Partnership’s and Funds’ timberland we refer to them as the Combined tree farms. Operations in this segment consist of growing timber and manufacturing logs for sale to domestic wood products manufacturers and log export brokers.
Our Timberland Investment Management segment is engaged in organizing and managing private equity timber funds using capital invested by third parties and the Partnership. The Funds are consolidated into our financial statements, but then income or loss attributable to equity owned by third parties is subtracted from consolidated results in our Condensed Consolidated Statements of Comprehensive Income under the caption “Net and comprehensive (income) loss attributable to non-controlling interests-ORM Timber Funds” to arrive at “Net and comprehensive income attributable to unitholders”.
Our current strategy for adding timberland acreage is centered primarily on our private equity timber fund business model. However, we acquire smaller timberland parcels from time to time to add on to the Partnership’s existing tree farms. In addition, during periods when the Funds’ committed capital is fully invested, we may look to acquire larger timberland properties for the Partnership. Our three active timber funds have assets under management totaling approximately $357 million as of
September 30, 2017
based on the most recent appraisals. Through our 20% co-investment in Fund II, our 5% co-investment in Fund III and our 15% co-investment in Fund IV, we have deployed $26 million of Partnership capital. Fund IV, launched in December 2016, has not yet deployed any capital to acquire timberland properties. Our co-investment affords us a share of the Funds’ operating cash flows while also allowing us to earn asset management and timberland management fees, as well as potential future incentive fees, based upon the overall success of each fund. We also believe that this strategy allows us to maintain more sophisticated expertise in timberland acquisition, valuation, and management on a more cost-effective basis than we could for the Partnership’s timberlands alone. We believe our co-investment strategy also enhances our credibility with existing and prospective Fund investors by demonstrating that we have both an operational and a financial commitment to the Funds’ success.
Our Real Estate segment’s activities primarily include securing permits and entitlements, and in some cases, installing infrastructure for raw land development and then realizing that land’s value by selling larger parcels to developers who, in turn, seek to take the land further up the value chain by either selling homes to retail buyers or lots to developers of commercial property. Since these projects often span multiple years, the Real Estate segment may incur losses for multiple years while a project is developed, and will not recognize operating income until that project is sold. In addition, within this segment we sometimes negotiate and sell development rights in the form of conservation easements (CE’s) on Fee Timber properties which preclude future development, but allow continued forestry operations. The strategy for our Real Estate segment centers around how and when to “harvest” or sell a parcel of land to realize its optimal value. In doing so, we seek to balance the long-term risks and costs of carrying and developing a property against the potential for income and cash flows upon sale. Land held for development by our Real Estate segment represents property in western Washington that has been deemed suitable for residential and commercial building sites. Land and timber held for sale represents those properties in the development portfolio that we expect to sell in the next year.
Third quarter highlights
|
|
•
|
Harvest volume was
21.3 million
board feet (MMBF) in
Q3
2017
compared to
17.0 MMBF
in
Q3
2016
, a
25%
increase. Harvest volume for the first
nine months
of
2017
was
71.9 MMBF
compared to
53.6 MMBF
for the corresponding period of
2016
, a
34%
increase. These harvest volume figures do not include timber deed sales of 3.6 MMBF and 6.0 MMBF for the quarter and nine months ended September 30, 2017, respectively, and 1.3 MMBF for both the quarter and nine months ended September 30, 2016. The harvest volume and log price realization metrics cited below also exclude these timber deed sales, except as noted otherwise.
|
|
|
•
|
The average realized log price was
$657
per thousand board feet (MBF) in
Q3
2017
, a
15%
increase compared to
$573
per MBF in
Q3
2016
. For the first
nine months
of
2017
, the average realized log price was
$621
per MBF compared to
$574
per MBF for the corresponding period of
2016
, an
8%
increase.
|
|
|
•
|
As a percentage of total harvest, volume sold to domestic markets in
Q3
2017
decreased to
62%
from
65%
in
Q3
2016
, while the mix of volume sold to export markets increased to
24%
in
Q3
2017
from
16%
in
Q3
2016
. For the first
nine months
of
2017
, the relative percentages of volume sold to domestic and export markets were
60%
and
23%
, respectively, compared to
64%
and
16%
, respectively, in the corresponding period of
2016
. Hardwood and pulpwood log sales make up the balance of harvest volume.
|
|
|
•
|
During the quarter, our Real Estate segment sold 15 lots from our Harbor Hill development in Gig Harbor, Washington, as well as six other residential lots for total revenue of $2.5 million.
|
|
|
•
|
During the quarter, the Partnership repurchased 8,171 units at an average price of $72.40 per unit under our unit repurchase plan. Through the first nine months of 2017, the Partnership has repurchased 8,915 units at an average price of $72.75, leaving $551,000 remaining under the plan through June 2018.
|
Outlook
We expect our total 2017 harvest volume to be between 111 and 115 MMBF, including timber deed sales. In our Real Estate segment, we expect to close on the sale of up to 78 additional single-family lots from our Harbor Hill project in the fourth quarter, up to four additional residential lots from other properties, and a potential conservation easement sale.
RESULTS OF OPERATIONS
The following table reconciles and compares key revenue and cost elements that impacted our net income (loss) attributable to unitholders for the respective quarters and
nine months ended
September 30, 2017
and
2016
. The explanatory text that follows the table describes in detail certain of these changes by business segment.
|
|
|
|
|
|
|
|
|
(in thousands)
|
Quarter Ended
September 30,
|
|
Nine Months Ended
September 30,
|
Net income attributable to Pope Resources’ unitholders:
|
|
|
|
2017 period
|
$
|
1,658
|
|
|
$
|
5,186
|
|
2016 period
|
1,970
|
|
|
1,371
|
|
Variance
|
$
|
(312
|
)
|
|
$
|
3,815
|
|
Detail of variance:
|
|
|
|
|
|
Fee Timber
|
|
|
|
|
|
Log volumes (A)
|
$
|
2,464
|
|
|
$
|
10,504
|
|
Log price realizations (B)
|
1,789
|
|
|
3,379
|
|
Gain on sale of timberland
|
44
|
|
|
12,321
|
|
Timber deed sales
|
750
|
|
|
1,460
|
|
Production costs
|
(1,322
|
)
|
|
(3,312
|
)
|
Depletion
|
(2,344
|
)
|
|
(6,636
|
)
|
Other Fee Timber
|
(589
|
)
|
|
(1,164
|
)
|
Timberland Investment Management
|
(35
|
)
|
|
(483
|
)
|
Real Estate
|
|
|
|
|
|
Land sales
|
(757
|
)
|
|
(780
|
)
|
Other Real Estate
|
(197
|
)
|
|
(686
|
)
|
General and administrative costs
|
17
|
|
|
(426
|
)
|
Net interest expense
|
(226
|
)
|
|
(948
|
)
|
Income taxes
|
70
|
|
|
61
|
|
Noncontrolling interests
|
24
|
|
|
(9,475
|
)
|
Total variances
|
$
|
(312
|
)
|
|
$
|
3,815
|
|
|
|
(A)
|
Volume variance calculated by multiplying the change in sales volume by the average log sales price for the comparison period.
|
|
|
(B)
|
Price variance calculated by multiplying the change in average realized price by current period sales volume.
|
Fee Timber
Fee Timber results include operations on 120,000 acres of timberland owned by the Partnership and 88,000 acres of timberland owned by the Funds. Fee Timber revenue is earned primarily from the harvest and sale of logs from these timberlands which are located in western Washington, northwestern Oregon, and northern California. Revenue is driven primarily by the volume of timber harvested and the average log price realized on the sale of that timber. Our harvest volume is based typically on manufactured log sales to domestic mills and log export brokers. We also occasionally sell rights to harvest timber (timber deed sale) from the Combined tree farms. The metrics used to calculate volumes sold and average price realized during the reporting periods exclude timber deed sales, except where stated otherwise. Harvest volumes are generally expressed in million board feet (MMBF) increments while harvest revenue and related costs are generally expressed in terms of revenue or cost per thousand board feet (MBF).
Fee Timber revenue is also derived from commercial thinning operations, ground leases for cellular communication towers, and royalties from gravel mines and quarries, all of which, along with timber deed sales, are included in other revenue below. Commercial thinning consists of the selective cutting of timber stands not yet of optimal harvest age. They do, however, have some commercial value, thus allowing us to earn revenue while at the same time improving the projected value at harvest of the remaining timber in the stand.
Revenue and operating income for the Fee Timber segment for the quarters ended
September 30, 2017
,
June 30, 2017
, and
September 30, 2016
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in millions)
Quarter ended
|
|
Log Sale
Revenue
|
|
Other
Revenue
|
|
Total Fee
Timber
Revenue
|
|
Gain on Sale of
Timberland
|
|
Operating
Income
|
|
Harvest
Volume
(MMBF)
|
|
Timber Deed Sale Volume (MMBF)
|
Partnership
|
|
$
|
8.3
|
|
|
$
|
0.6
|
|
|
$
|
8.9
|
|
|
$
|
—
|
|
|
$
|
3.8
|
|
|
12.1
|
|
|
—
|
|
Funds
|
|
5.7
|
|
|
1.4
|
|
|
7.1
|
|
|
—
|
|
|
0.3
|
|
|
9.2
|
|
|
3.6
|
|
Total September 2017
|
|
$
|
14.0
|
|
|
$
|
2.0
|
|
|
$
|
16.0
|
|
|
$
|
—
|
|
|
$
|
4.1
|
|
|
21.3
|
|
|
3.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partnership
|
|
$
|
7.7
|
|
|
$
|
0.5
|
|
|
$
|
8.2
|
|
|
$
|
—
|
|
|
$
|
3.4
|
|
|
12.5
|
|
|
—
|
|
Funds
|
|
6.6
|
|
|
0.6
|
|
|
7.2
|
|
|
—
|
|
|
1.2
|
|
|
10.8
|
|
|
2.1
|
|
Total June 2017
|
|
$
|
14.3
|
|
|
$
|
1.1
|
|
|
$
|
15.4
|
|
|
$
|
—
|
|
|
$
|
4.6
|
|
|
23.3
|
|
|
2.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partnership
|
|
$
|
6.8
|
|
|
$
|
1.1
|
|
|
$
|
7.9
|
|
|
$
|
—
|
|
|
$
|
3.0
|
|
|
11.6
|
|
|
0.7
|
|
Funds
|
|
3.1
|
|
|
0.1
|
|
|
3.2
|
|
|
—
|
|
|
0.3
|
|
|
5.4
|
|
|
0.6
|
|
Total September 2016
|
|
$
|
9.9
|
|
|
$
|
1.2
|
|
|
$
|
11.1
|
|
|
$
|
—
|
|
|
$
|
3.3
|
|
|
17.0
|
|
|
1.3
|
|
Operating Income
Comparing
Q3 2017
to
Q2 2017
.
Operating income decreased $536,000, or 11%, from
Q2 2017
. Although the average realized log price rose 7%, a 9% decline in delivered log volume resulted in a 2% decrease in log sale revenue. Other revenue increased by $898,000. Also contributing to the lower operating income were 9% and 16% increases in cost of sales and operating expenses, respectively.
Comparing
Q3 2017
to
Q3 2016
.
Operating income increased $792,000, or
24%
, from
Q3 2016
, driven by a 25% increase in delivered log volume and a 15% rise in average realized log prices.
Revenue
Comparing
Q3 2017
to
Q2 2017
. Log sale revenue in
Q3 2017
de
creased $360,000, or
2%
, from
Q2 2017
due primarily to the offsetting effect of a 9% decline in harvest volume and a 7% rise in average realized log prices. The decrease in harvest volume was related to fire concerns and tight capacity in the contractor logging force. The $898,000 increase in other revenue is mainly attributable to the following: timber deed sales from Fund timberlands on volume of 3.6 MMBF, compared to 2.1 MMBF in Q2 2017; higher mineral royalties; and commercial thinning that had no counterpart during Q2 2017.
Comparing
Q3 2017
to
Q3 2016
. Log sale revenue in
Q3 2017
increased
$4.1 million
, or
41%
, from
Q3 2016
, primarily because of a 25% increase in harvest volume and a 15% rise in average realized log prices. In 2016, we deferred a large portion of our annual harvest volume to the fourth quarter, which suppressed volume during Q3 2016. Log markets were stronger in Q3 2017 relative to Q3 2016 due to increased demand in both domestic and export markets, and a reduced supply of logs. On the demand side, we are benefiting from a second production line that came on-line at a new mill in Shelton, Washington. On the supply side, reduced harvest volumes from our local competitors and lower Canadian production are creating pricing tension in the market. The increase in other revenue was due to a 2.3 MMBF increase in timber deed sales and to commercial thinning activity that had no counterpart in Q3 2016.
Revenue and operating income for the Fee Timber segment for the
nine months ended
September 30, 2017
and
2016
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in millions) Nine Months Ended
|
|
Log Sale Revenue
|
|
Other Revenue
|
|
Total Fee Timber Revenue
|
|
Gain on Sale of Timberland
|
|
Operating Income
|
|
Harvest Volume (MMBF)
|
|
Timber Deed Sale Volume (MMBF)
|
Partnership
|
|
$
|
24.7
|
|
|
$
|
1.5
|
|
|
$
|
26.2
|
|
|
$
|
—
|
|
|
$
|
11.6
|
|
|
38.8
|
|
|
—
|
|
Funds
|
|
19.9
|
|
|
2.1
|
|
|
22.0
|
|
|
12.5
|
|
|
13.7
|
|
|
33.1
|
|
|
6.0
|
|
Total September 2017
|
|
$
|
44.6
|
|
|
$
|
3.6
|
|
|
$
|
48.2
|
|
|
$
|
12.5
|
|
|
$
|
25.3
|
|
|
71.9
|
|
|
6.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partnership
|
|
$
|
18.4
|
|
|
$
|
2.0
|
|
|
$
|
20.4
|
|
|
$
|
—
|
|
|
$
|
7.4
|
|
|
31.6
|
|
|
0.7
|
|
Funds
|
|
12.4
|
|
|
0.3
|
|
|
12.7
|
|
|
0.2
|
|
|
1.4
|
|
|
22.0
|
|
|
0.6
|
|
Total September 2016
|
|
$
|
30.8
|
|
|
$
|
2.3
|
|
|
$
|
33.1
|
|
|
$
|
0.2
|
|
|
$
|
8.8
|
|
|
53.6
|
|
|
1.3
|
|
Operating Income
Comparing YTD
2017
to YTD
2016
. Operating income in the first
nine months
of
2017
increased by
$16.5 million
, or almost three-fold, from the corresponding period of
2016
. Our 2017 results reflect a $12.5 million gain on the January 2017 sale by Fund II of a 6,500-acre tree farm on the Oregon coast, whereas our 2016 results include a $226,000 gain on the sale of 205 acres of Fund timberland. Excluding the gains from these timberland sales, Fee Timber operating income increased $4.2 million, or 49%, to $12.8 million in 2017 from $8.6 million in 2016. This improvement resulted from a 34% rise in delivered log volume, 8% higher average realized log prices, and a $1.3 million increase in other revenue from 6.0 MMBF of timber deed sales in 2017, compared to 1.3 MMBF of such sales in 2016. These factors were offset partially by a 54% increase in cost of sales (tied to the volume increase), a higher average depletion rate, and a 16% rise in operating expenses.
Revenue
Comparing YTD
2017
to YTD
2016
.
Log sale revenue in the first
nine months
of
2017
increased
$13.8 million
, or
45%
, from the corresponding period of
2016
. The higher revenue was the result of a 34% increase in delivered log volume and 8% higher average realized log prices. In 2016, we deferred a large portion of our annual harvest volume to the fourth quarter, which resulted in lower volume during the first nine months of the year. By contrast, we have spread our 2017 harvest more evenly across the quarters. Other revenue increased $1.3 million due to timber deed sales on 6.0 MMBF of volume, compared to 1.3 MMBF from such sales in 2016.
Log Volume
We harvested the following log volumes by species from the Combined tree farms, exclusive of timber deed sales, for the quarters ended
September 30, 2017
,
June 30, 2017
, and
September 30, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Volume (in MMBF)
|
Quarter Ended
|
|
|
Sep-17
|
% Total
|
|
Jun-17
|
% Total
|
|
|
Sep-16
|
% Total
|
Sawlogs
|
Douglas-fir
|
11.0
|
|
52
|
%
|
|
13.7
|
|
59
|
%
|
|
9.8
|
|
57
|
%
|
|
Whitewood
|
6.2
|
|
29
|
%
|
|
3.3
|
|
14
|
%
|
|
3.0
|
|
18
|
%
|
|
Pine
|
1.1
|
|
5
|
%
|
|
1.3
|
|
5
|
%
|
|
0.5
|
|
3
|
%
|
|
Cedar
|
0.1
|
|
—
|
%
|
|
0.4
|
|
2
|
%
|
|
0.5
|
|
3
|
%
|
|
Hardwood
|
0.4
|
|
2
|
%
|
|
0.9
|
|
4
|
%
|
|
0.8
|
|
5
|
%
|
Pulpwood
|
All Species
|
2.5
|
|
12
|
%
|
|
3.7
|
|
16
|
%
|
|
2.4
|
|
14
|
%
|
Total
|
|
21.3
|
|
100
|
%
|
|
23.3
|
|
100
|
%
|
|
17.0
|
|
100
|
%
|
Comparing
Q3 2017
to
Q2 2017
. Harvest volume declined
2.0 MMBF
, or
9%
, in
Q3 2017
from
Q2 2017
. The 15% increase in whitewood’s relative share of harvest volume is the result of greater harvest operations during Q3 2017 at higher elevations where whitewood is more prevalent. Snow, or the anticipation of snow, often limits access to the higher elevations during other parts of the year.
Comparing
Q3 2017
to
Q3 2016
. Harvest volume increased
4.3 MMBF
, or
25%
, in
Q3 2017
from
Q3 2016
. Both domestic and export log markets were stronger in Q3 2017 than in Q3 2016. The Q3 2017 increase in the proportion of whitewood in our species mix relative to Q3 2016 reflects a 29% improvement in whitewood pricing compared to a year ago.
We harvested the following log volumes by species from the Combined tree farms, exclusive of timber deed sales, for the
nine months ended
September 30, 2017
and
2016
:
|
|
|
|
|
|
|
|
|
|
|
|
Volume (in MMBF)
|
Nine Months Ended
|
|
|
Sep-17
|
% Total
|
|
Sep-16
|
% Total
|
Sawlogs:
|
Douglas-fir
|
40.8
|
|
57
|
%
|
|
27.9
|
|
51
|
%
|
|
Whitewood
|
15.0
|
|
21
|
%
|
|
11.1
|
|
21
|
%
|
|
Pine
|
2.4
|
|
3
|
%
|
|
1.7
|
|
3
|
%
|
|
Cedar
|
1.2
|
|
2
|
%
|
|
2.5
|
|
5
|
%
|
|
Hardwood
|
1.8
|
|
2
|
%
|
|
2.0
|
|
4
|
%
|
Pulpwood:
|
All Species
|
10.7
|
|
15
|
%
|
|
8.4
|
|
16
|
%
|
Total
|
|
71.9
|
|
100
|
%
|
|
53.6
|
|
100
|
%
|
Comparing YTD
2017
to YTD
2016
. Harvest volume increased
18.3 MMBF
, or
34%
, in the first
nine months
of
2017
compared to the corresponding period of
2016
. In 2016, we planned our harvest to defer significant volume until the fourth quarter in anticipation of better log prices. In 2017, we have benefited throughout the year from higher demand from both the domestic and export markets, as well as reduced supply from our competitors, and so have spread our harvest more evenly over the year. Relative to 2016, our 2017 species mix reflects a 6% increase in Douglas-fir and modest decreases in cedar and hardwood sawlog volumes.
Log Prices
We realized the following log prices by species for the quarters ended
September 30, 2017
,
June 30, 2017
, and
September 30, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter Ended
|
|
|
Sep-17
|
|
Jun-17
|
|
Sep-16
|
Average price realizations (per MBF):
|
|
|
Sawlogs:
|
Douglas-fir
|
$
|
749
|
|
|
$
|
694
|
|
|
$
|
629
|
|
|
Whitewood
|
651
|
|
|
602
|
|
|
506
|
|
|
Pine
|
472
|
|
|
486
|
|
|
418
|
|
|
Cedar
|
1,306
|
|
|
1,414
|
|
|
1,321
|
|
|
Hardwood
|
685
|
|
|
685
|
|
|
640
|
|
Pulpwood:
|
All Species
|
303
|
|
|
297
|
|
|
284
|
|
Overall
|
|
657
|
|
|
616
|
|
|
573
|
|
The following table compares the dollar and percentage change in log prices from each of
Q2 2017
and
Q3 2016
to
Q3 2017
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change to Q3 2017 from Quarter Ended
|
|
|
Jun-17
|
|
Sep-16
|
|
|
$/MBF
|
|
%
|
|
$/MBF
|
|
%
|
Sawlogs:
|
Douglas-fir
|
$
|
55
|
|
|
8
|
%
|
|
$
|
120
|
|
|
19
|
%
|
|
Whitewood
|
49
|
|
|
8
|
%
|
|
145
|
|
|
29
|
%
|
|
Pine
|
(14
|
)
|
|
(3
|
%)
|
|
54
|
|
|
13
|
%
|
|
Cedar
|
(108
|
)
|
|
(8
|
%)
|
|
(15
|
)
|
|
(1
|
%)
|
|
Hardwood
|
—
|
|
|
—
|
%
|
|
45
|
|
|
7
|
%
|
Pulpwood:
|
All Species
|
6
|
|
|
2
|
%
|
|
19
|
|
|
7
|
%
|
Overall
|
|
41
|
|
|
7
|
%
|
|
84
|
|
|
15
|
%
|
Overall realized log prices in
Q3 2017
were
7%
higher than
Q2 2017
. Our overall average realized log price is influenced heavily by price movements for our two most prevalent species, Douglas-fir and whitewood, and the relative mix of harvest volume of those two species. From Q2 2017 to Q3 2017, realized log prices increased by 8% for both Douglas-fir and whitewood. Prices for both species rose due to higher demand in the domestic and export markets as well as reduced supply of logs from competitors.
From
Q3 2016
to
Q3 2017
, average realized log prices increased 15%. The favorable change was attributable to increases in Douglas-fir and whitewood realized log prices of 19% and 29%, respectively. The outsized price increase for whitewood was driven by higher demand from China. Prices for pine and hardwood sawlogs, and all pulpwood species, showed healthy increases relative to Q3 2016.
The following table compares realized log prices by species for the first
nine months
of
2017
and
2016
, as well as the dollar and percentage change in log prices between the two periods:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
Sep-17
|
|
|
|
|
|
Sep-16
|
|
|
|
|
|
∆ from Sep -17 to Sep -16
|
|
|
|
|
|
|
|
$/MBF
|
|
%
|
|
|
Sawlogs:
|
Douglas-fir
|
$
|
697
|
|
|
$
|
82
|
|
|
13
|
%
|
|
$
|
615
|
|
|
Whitewood
|
602
|
|
|
78
|
|
|
15
|
%
|
|
524
|
|
|
Pine
|
488
|
|
|
10
|
|
|
2
|
%
|
|
478
|
|
|
Cedar
|
1,376
|
|
|
6
|
|
|
—
|
%
|
|
1,370
|
|
|
Hardwood
|
665
|
|
|
94
|
|
|
16
|
%
|
|
571
|
|
Pulpwood:
|
All species
|
295
|
|
|
(1
|
)
|
|
—
|
%
|
|
296
|
|
Overall
|
|
621
|
|
|
47
|
|
|
8
|
%
|
|
574
|
|
Overall realized log prices increased 8% in the first
nine months
of 2017 compared to the corresponding period of 2016. The overall average is influenced heavily by Douglas-fir and whitewood prices, which were up 13% and 15%, respectively, on higher demand in the domestic and export markets and reduced log supply from our competitors. Hardwood prices rose 16% on greater competition among our customers.
Customers
Logs from the Combined tree farms serve a number of different domestic and export markets, with domestic mills historically representing our largest market destination. Export customers consist of log brokers who sell the logs primarily to Japan, China and, to a lesser degree, Korea. The ultimate decision of whether to sell our logs to the domestic or export market is based on the net proceeds we receive after taking into account both the delivered log prices and the cost to deliver logs to the customer. As such, our reported log price realizations will reflect our properties’ proximity to customers as well as the broader log market.
The table below categorizes logs sold by customer type for the quarters ended
September 30, 2017
,
June 30, 2017
, and
September 30, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Q3 2017
|
|
Q2 2017
|
|
Q3 2016
|
|
Volume
|
|
|
|
|
Volume
|
|
|
|
Volume
|
|
|
Destination
|
MMBF
|
%
|
|
Price
|
|
MMBF
|
%
|
|
Price
|
|
MMBF
|
%
|
|
Price
|
Domestic mills
|
13.3
|
|
62
|
%
|
|
$
|
679
|
|
|
13.7
|
|
59
|
%
|
|
$
|
657
|
|
|
11.0
|
|
65
|
%
|
|
$
|
621
|
|
Export brokers
|
5.1
|
|
24
|
%
|
|
767
|
|
|
5.0
|
|
21
|
%
|
|
731
|
|
|
2.8
|
|
16
|
%
|
|
621
|
|
Hardwood
|
0.4
|
|
2
|
%
|
|
685
|
|
|
0.9
|
|
4
|
%
|
|
685
|
|
|
0.8
|
|
5
|
%
|
|
640
|
|
Pulpwood
|
2.5
|
|
12
|
%
|
|
303
|
|
|
3.7
|
|
16
|
%
|
|
297
|
|
|
2.4
|
|
14
|
%
|
|
284
|
|
Total
|
21.3
|
|
100
|
%
|
|
657
|
|
|
23.3
|
|
100
|
%
|
|
616
|
|
|
17.0
|
|
100
|
%
|
|
573
|
|
Timber deed sale
|
3.6
|
|
|
|
|
343
|
|
|
2.1
|
|
|
|
|
301
|
|
|
1.3
|
|
|
|
|
381
|
|
Total
|
24.9
|
|
|
|
|
|
|
|
25.4
|
|
|
|
|
|
|
|
18.3
|
|
|
|
|
|
|
Comparing
Q3 2017
to
Q2 2017
. The relative volume sold to export brokers rose modestly as the export market continued to strengthen. The relative volume sold as pulpwood declined as volume was diverted from pulp mills to sawmills with improved demand in the market for sawlogs. Timber deed sales in both quarters came from one of Fund III’s tree farms.
Comparing
Q3 2017
to
Q3 2016
. Volume sold to the export market increased to 24% of Q3 2017 volume from 16% of Q3 2016 volume, while volume sold to the domestic market decreased to 62% of Q3 2017 volume from 65% of Q3 2016 volume. Average realized export prices were at a premium to prices from domestic mills during Q3 2017, whereas during Q3 2016 there was no such export premium, which resulted in less log volume sold to export log brokers in 2016.
The table below categorizes logs sold by customer type for the
nine-month periods
ended
September 30, 2017
and
2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
September 2017
|
|
September 2016
|
|
Volume
|
|
|
|
Volume
|
|
|
Destination
|
MMBF
|
%
|
|
Price
|
|
MMBF
|
%
|
|
Price
|
Domestic mills
|
43.1
|
|
60
|
%
|
|
$
|
663
|
|
|
34.3
|
|
64
|
%
|
|
$
|
629
|
|
Export brokers
|
16.2
|
|
23
|
%
|
|
720
|
|
|
8.9
|
|
16
|
%
|
|
631
|
|
Hardwood
|
1.8
|
|
2
|
%
|
|
665
|
|
|
2.0
|
|
4
|
%
|
|
571
|
|
Pulpwood
|
10.8
|
|
15
|
%
|
|
295
|
|
|
8.4
|
|
16
|
%
|
|
296
|
|
Subtotal
|
71.9
|
|
100
|
%
|
|
621
|
|
|
53.6
|
|
100
|
%
|
|
574
|
|
Timber deed sale
|
6.0
|
|
|
|
|
322
|
|
|
1.3
|
|
|
|
381
|
|
Total
|
77.9
|
|
|
|
|
|
|
|
54.9
|
|
|
|
|
|
Comparing YTD
2017
to YTD
2016
. In the first
nine months
of 2017, the relative amounts of volume sold to our domestic customers decreased to 60% from 64% during the corresponding period of 2016, while volume sold to export customers increased to 23% in the current year versus 16% last year. This shift in customer mix reflects the premium prices paid by export log markets in 2017 compared to domestic log markets. The timber deed sale volumes during the first nine months of 2017 came from one of Fund III’s tree farms. The 2016 timber deed sale volumes cam from both the Partnership (0.7 MMBF) and the Funds (0.6 MMBF).
Cost of Sales
Fee Timber cost of sales, which consists predominantly of harvest, haul, tax and depletion costs, vary with harvest volume.
Fee Timber cost of sales for the quarters ended
September 30, 2017
,
June 30, 2017
, and
September 30, 2016
, was as follows, with the first table expressing these costs in total dollars and the second table expressing those costs that are driven by volume on a per MBF basis:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands) Quarter Ended
|
|
Harvest, Haul and Tax
|
|
Depletion
|
|
Other
|
|
Total Fee Timber Cost of Sales
|
|
Harvest Volume (MMBF)
|
|
Timber Deed Sale Volume (MMBF)
|
Partnership
|
|
$
|
2,675
|
|
|
$
|
877
|
|
|
$
|
—
|
|
|
$
|
3,552
|
|
|
12.1
|
|
|
—
|
|
Funds
|
|
2,245
|
|
|
3,375
|
|
|
97
|
|
|
5,717
|
|
|
9.2
|
|
|
3.6
|
|
Total September 2017
|
|
$
|
4,920
|
|
|
$
|
4,252
|
|
|
$
|
97
|
|
|
$
|
9,269
|
|
|
21.3
|
|
|
3.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partnership
|
|
$
|
2,428
|
|
|
$
|
908
|
|
|
$
|
—
|
|
|
$
|
3,336
|
|
|
12.5
|
|
|
—
|
|
Funds
|
|
2,535
|
|
|
2,655
|
|
|
—
|
|
|
5,190
|
|
|
10.8
|
|
|
2.1
|
|
Total June 2017
|
|
$
|
4,963
|
|
|
$
|
3,563
|
|
|
$
|
—
|
|
|
$
|
8,526
|
|
|
23.3
|
|
|
2.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partnership
|
|
$
|
2,486
|
|
|
$
|
820
|
|
|
$
|
15
|
|
|
$
|
3,321
|
|
|
11.6
|
|
|
0.7
|
|
Funds
|
|
1,194
|
|
|
1,088
|
|
|
—
|
|
|
2,282
|
|
|
5.4
|
|
|
0.6
|
|
Total September 2016
|
|
$
|
3,680
|
|
|
$
|
1,908
|
|
|
$
|
15
|
|
|
$
|
5,603
|
|
|
17.0
|
|
|
1.3
|
|
|
|
|
|
|
|
|
|
|
|
(Amounts per MBF) Quarter Ended
|
|
Harvest, Haul and Tax *
|
|
Depletion *
|
Partnership
|
|
$
|
221
|
|
|
$
|
72
|
|
Funds
|
|
244
|
|
|
264
|
|
Total September 2017
|
|
$
|
231
|
|
|
$
|
171
|
|
|
|
|
|
|
Partnership
|
|
$
|
194
|
|
|
$
|
72
|
|
Funds
|
|
235
|
|
|
206
|
|
Total June 2017
|
|
$
|
213
|
|
|
$
|
140
|
|
|
|
|
|
|
Partnership
|
|
$
|
214
|
|
|
$
|
67
|
|
Funds
|
|
221
|
|
|
181
|
|
Total September 2016
|
|
$
|
216
|
|
|
$
|
104
|
|
|
|
*
|
Timber deed sale volumes are excluded in the per MBF computation for harvest, haul and tax costs but included in the per MBF computation for depletion.
|
Comparing
Q3 2017
to
Q2 2017
.
Cost of sales increased
$743,000
, or
9%
, in
Q3 2017
from
Q2 2017
, despite a slight decline in harvest volume, when timber deed sales are included. The higher costs are primarily attributable to a 25% rise in the Funds’ average depletion rate, as the mix of harvest volume from the Funds’ properties shifted to tree farms with higher depletion rates. Additionally, the per-MBF harvest, haul and tax rates increased 8% in Q3 2017, driven by 16% higher harvest costs on a per-MBF basis relative to Q2 2017.
Comparing
Q3 2017
to
Q3 2016
.
Cost of sales increased
$3.7 million
, or
65%
, in
Q3 2017
from Q3
2016
, as a result of a 38% increase in harvest volume (including timber deed sales). The Combined depletion rate increased 63% in Q3 2017 from Q3 2016, which was the product of two separate factors:
|
|
•
|
The Funds’ share of relative harvest volume (including timber deed sales) increased to 52% in Q3 2017 from 33% in Q3 2016. Depletion rates are higher for the Funds’ tree farms because they were purchased more recently than the Partnership’s tree farms and thus have a higher cost basis.
|
|
|
•
|
The mix of harvest volume from among the Funds’ shifted to tree farms with higher depletion rates. Unlike the Partnership’s tree farms that all use the same pooled depletion rate, each of the Funds’ tree farms carries its own depletion rate. Accordingly, the average depletion rate for the Funds may vary depending on the relative volume harvested from their tree farms in a given period.
|
Fee Timber cost of sales for the
nine months
ended
September 30, 2017
and
2016
was as follows, with the first table expressing these costs in total dollars and the second table expressing those costs that are driven by volume on a per MBF basis:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands) Nine Months Ended
|
|
Harvest, Haul and Tax
|
|
Depletion
|
|
Other
|
|
Total Fee Timber Cost of Sales
|
|
Harvest Volume (MMBF)
|
|
Timber Deed Sale Volume (MMBF)
|
Partnership
|
|
$
|
7,623
|
|
|
$
|
2,807
|
|
|
$
|
—
|
|
|
$
|
10,430
|
|
|
38.8
|
|
|
—
|
|
Funds
|
|
7,973
|
|
|
9,930
|
|
|
97
|
|
|
18,000
|
|
|
33.1
|
|
|
6.0
|
|
Total September 2017
|
|
$
|
15,596
|
|
|
$
|
12,737
|
|
|
$
|
97
|
|
|
$
|
28,430
|
|
|
71.9
|
|
|
6.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partnership
|
|
$
|
6,997
|
|
|
$
|
1,677
|
|
|
$
|
44
|
|
|
$
|
8,718
|
|
|
31.6
|
|
|
0.7
|
|
Funds
|
|
5,340
|
|
|
4,424
|
|
|
—
|
|
|
9,764
|
|
|
22
|
|
|
0.6
|
|
Total September 2016
|
|
$
|
12,337
|
|
|
$
|
6,101
|
|
|
$
|
44
|
|
|
$
|
18,482
|
|
|
53.6
|
|
|
1.3
|
|
|
|
|
|
|
|
|
|
|
|
(Amounts per MBF) Nine Months Ended
|
|
Harvest, Haul and Tax *
|
|
Depletion *
|
Partnership
|
|
$
|
196
|
|
|
$
|
72
|
|
Funds
|
|
241
|
|
|
254
|
|
Total September 2017
|
|
$
|
217
|
|
|
$
|
164
|
|
|
|
|
|
|
Partnership
|
|
$
|
221
|
|
|
$
|
52
|
|
Funds
|
|
243
|
|
|
196
|
|
Total September 2016
|
|
$
|
230
|
|
|
$
|
111
|
|
|
|
*
|
Timber deed sale volumes are excluded in the per MBF computation for harvest, haul and tax costs but included in the per MBF computation for depletion.
|
Comparing YTD
2017
to YTD
2016
. Cost of sales increased
$9.9 million
, or
54%
, in the first
nine months
of
2017
compared to the corresponding period in
2016
, primarily due to a 42% increase in harvest volume (including timber deed sales). Two other factors had opposite impacts on cost of sales. First, harvest, haul, and tax costs decreased 6% on a per MBF basis in 2017 from 2016 as a result of more competitive bidding for our business by logging contractors, a higher proportion of volume from harvest units utilizing lower-cost, ground-based logging systems, and shorter haul distances. Second, the Combined depletion rate increased 48% in 2017 from 2016, which was the product of three separate factors:
|
|
•
|
The Fund’s share of relative harvest volume (including timber deed sales) increased to 50% in 2017 from 41% in 2016.
|
|
|
•
|
The mix of harvest volume among the Funds’ tree farms shifted to tree farms with higher depletion rates.
|
|
|
•
|
The Partnership’s pooled depletion rate increased 38% due to the Q3 2016 purchase of the Carbon River tree farm.
|
Operating Expenses
Fee Timber operating expenses include the cost of maintaining existing roads and building temporary roads for harvesting, silviculture costs, and other management expenses. For the quarters ended
September 30, 2017
,
June 30, 2017
, and
September 30, 2016
, operating expenses were
$2.6 million
, $2.3 million, and
$2.1 million
, respectively. The $375,000 increase
in operating expenses in Q3 2017 from Q2 2017 is attributable to a seasonal rise in road maintenance activity. Operating expenses increased by $501,000 between Q3 2017 and Q3 2016 due to higher road maintenance and silviculture expenses resulting from the higher harvest volume.
Fee Timber operating expenses for the
nine months
ended
September 30, 2017
and
2016
were
$7.0 million
and
$6.1 million
, respectively. The increase is attributable to higher road maintenance and silviculture expenses related to the higher harvest volume and professional fees associated with the formation of Fund IV.
Gain on Sale of Timberland
The $12.5 million gain on sale of timberland in the first nine months of 2017 resulted from the Q1 2017 sale of a 6,500-acre tree farm by Fund II for $26.5 million as well as the sale of a small parcel by Fund III. The $226,000 gain on sale of timberland in the first six months of 2016 resulted from sales of two parcels owned by the Funds during Q1 2016.
Timberland Investment Management
The Timberland Investment Management (TIM) segment manages timberland portfolios on behalf of three private equity timber funds that currently own a combined 88,000 acres of commercial timberland in western Washington, northwestern Oregon, and northern California. Total assets under management are $357 million based on the most recent appraisals.
Fund Distributions and Fees Paid to the Partnership
Fund distributions are paid from available Fund cash, generated primarily from the harvest and sale of timber after paying all Fund expenses, management fees, and recurring capital costs. The Partnership received combined distributions from the Funds of $6.1 million and $282,000 during the
nine months ended
September 30, 2017
and
2016
, respectively. The 2017 distributions included $5.5 million from Fund II’s sale of a 6,500-acre tree farm. The Partnership earned asset, investment, and timberland management fees from the Funds of
$2.5 million
and
$2.4 million
for the
nine months ended
September 30, 2017
and
2016
, respectively. These fees are eliminated as the Funds are consolidated in our financial statements, as shown in the table below.
Revenue and Operating Loss
The fees earned from managing the Funds include a fixed component related to invested capital and acres owned, and a variable component related to harvest volume from the Funds’ tree farms.
Revenue and operating loss for the TIM segment for the quarters ended
September 30, 2017
and
2016
were as follows:
|
|
|
|
|
|
|
|
|
|
(in thousands, except invested
|
|
Quarter Ended
|
capital, volume and acre data)
|
|
Sep-17
|
|
Sep-16
|
Revenue internal
|
|
$
|
829
|
|
|
$
|
772
|
|
Intersegment eliminations
|
|
(829
|
)
|
|
(772
|
)
|
Revenue external
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
Operating income internal
|
|
$
|
49
|
|
|
$
|
64
|
|
Intersegment eliminations
|
|
(728
|
)
|
|
(708
|
)
|
Operating loss external
|
|
$
|
(679
|
)
|
|
$
|
(644
|
)
|
|
|
|
|
|
Invested capital (in millions)
|
|
$
|
240
|
|
|
$
|
258
|
|
Acres owned by Funds
|
|
88,000
|
|
|
94,000
|
|
Harvest volume - Funds (MMBF), including timber deed sales
|
|
12.8
|
|
|
6.0
|
|
Comparing
Q3 2017
to
Q3 2016
.
TIM generated management fee revenue of
$829,000
and
$772,000
from managing the Funds during
Q3 2017
and
Q3 2016
, respectively. The increased harvest volume during
Q3 2017
served to boost revenue
generated from fees based on harvest volume, though this was offset partially by a decline in revenue generated from fees based on invested capital and acres owned resulting from Fund II’s tree farm sale in Q1 2017.
Operating expenses incurred for the quarters ended
September 30, 2017
, and
2016
totaled
$679,000
and
$644,000
, respectively. The increase in operating expenses is attributable to costs associated with the launch of our fourth timber fund, which occurred at the tail end of 2016, as well as additional personnel costs to manage our expanding timber fund portfolio.
Revenue and operating loss for the TIM segment for the
nine months ended
September 30, 2017
and
2016
were as follows:
|
|
|
|
|
|
|
|
|
|
(in thousands, except invested
|
|
Nine Months Ended
|
capital, volume and acre data)
|
|
Sep-17
|
|
Sep-16
|
Revenue internal
|
|
$
|
2,494
|
|
|
$
|
2,383
|
|
Intersegment eliminations
|
|
(2,494
|
)
|
|
(2,375
|
)
|
Revenue external
|
|
$
|
—
|
|
|
$
|
8
|
|
|
|
|
|
|
Operating income (loss) internal
|
|
$
|
(211
|
)
|
|
$
|
269
|
|
Intersegment eliminations
|
|
(2,185
|
)
|
|
(2,182
|
)
|
Operating loss external
|
|
$
|
(2,396
|
)
|
|
$
|
(1,913
|
)
|
|
|
|
|
|
Invested capital (in millions)
|
|
$
|
240
|
|
|
$
|
258
|
|
Acres owned by Funds
|
|
88,000
|
|
|
94,000
|
|
Harvest volume - Funds (MMBF), including timber deed sales
|
|
39.1
|
|
|
22.6
|
|
Comparing YTD
2017
to YTD
2016
. TIM generated management fee revenue of
$2.5 million
and
$2.4 million
from managing the Funds for the
nine months
ended
September 30, 2017
and
2016
, respectively. The increased harvest volume during 2017 served to boost revenue generated from fees based on harvest volume, though this was offset partially by a decline in revenue generated from fees based on invested capital and acres owned resulting from Fund II’s tree farm sale in Q1 2017.
Operating expenses incurred by the TIM segment for the
nine months
ended
September 30, 2017
and
2016
totaled
$2.4 million
and
$1.9 million
, respectively. The increase in operating expenses is attributable to costs associated with the launch of our fourth timber fund, which occurred at the tail end of 2016, as well as additional personnel costs to manage our expanding timber fund portfolio.
Real Estate
The Partnership’s Real Estate segment produces its revenue primarily from the sale of land within its 2,200-acre portfolio. Additional sources of revenue include sales of development rights and tracts of land from the Partnership’s timberland portfolio, together with residential and commercial property rents earned from our Port Gamble and Poulsbo properties. Real Estate holdings are located in the Washington counties of Pierce, Kitsap, and Jefferson with sales of land for this segment typically falling into one of three general types:
|
|
•
|
Residential, commercial, and business park plat land sales represent land sold after development rights have been obtained and are generally sold with prescribed infrastructure improvements.
|
|
|
•
|
Rural residential lot sales that generally require some capital improvements such as zoning, road building, or utility access improvements prior to completing the sale.
|
|
|
•
|
The sale of unimproved land, which generally consists of larger acreage sales rather than single lot sales, is normally completed with very little capital investment prior to sale.
|
In addition to outright sales of fee simple interests in land, we also enter into conservation easement (CE) sales that allow us to retain the right to harvest and manage timberland, but bar any future subdivision of, or real estate development on, the property.
“
Land Held for Development” on our Condensed Consolidated Balance Sheets represents the Partnership’s cost basis in land that has been identified as having greater value as development property than timberland. Our Real Estate segment personnel work with local officials to obtain entitlements for further development of these parcels.
Those properties that are for sale, under contract, and management expects to sell within the next 12 months, are classified on our balance sheet as a current asset under “Land and Timber Held for Sale”. The
$9.5 million
amount currently in Land and Timber Held for Sale reflects properties that are under contract and expected to close between now and the end of the third quarter of 2018, comprising 78 single-family residential lots from our Harbor Hill project and four single-family lot sales from a separate project.
Project costs that are associated directly with the development and construction of a real estate project are capitalized and then included in cost of sales when the property is sold, along with our original basis in the underlying land and the closing costs associated with the sale transaction.
Results from Real Estate operations often vary significantly from period-to-period as we make multi-year investments in entitlements and infrastructure prior to selling entitled or developed land.
Comparing
Q3 2017
to
Q3 2016
.
We closed on the sale of 15 residential lots from our Harbor Hill project and six residential lots from other properties for $2.5 million during
Q3
2017
, whereas during
Q3
2016
we closed on the sale of two parcels of undeveloped land comprising 265 acres for $1.7 million. The gross margin from the 2016 sales was $774,000 higher than the 2017 transactions as the properties sold in 2016 had a lower cost basis as undeveloped land. Real Estate operating expenses were
$1.2 million
and
$1.0 million
during
Q3 2017
and
Q3 2016
, respectively. The increase in operating expenses is due primarily to legal and professional fees in connection with planning and development for a number of properties, as well as for pursuing potential insurance recoveries for our Port Gamble environmental remediation costs. These factors resulted in an operating loss of
$491,000
for
Q3
2017
compared to operating income of
$463,000
for
Q3
2016
.
Comparing YTD
2017
to YTD
2016
. In the first
nine months
of
2017
, we closed on the sale of 15 residential lots from our Harbor Hill project and seven residential lots from other properties for $2.7 million, and recognized the remaining revenue on a percentage-of-completion basis on parcels sold in Q4 2016 from our Harbor Hill development for $285,000. In the first
nine months
of
2016
, we closed on the sale of 9 residential lots from Harbor Hill and recognized the remaining revenue on a percentage-of-completion basis on parcels sold in previous periods for a combined total of $1.2 million, as well as the sale of the two parcels of undeveloped land described above. Real Estate operating expenses increased from
$3.3 million
to
$3.9 million
for the first
nine months
of
2016
and
2017
, respectively, due primarily to legal and professional fees in connection with planning and development for a number of properties as well as for pursuing potential insurance recoveries for our Port Gamble environmental remediation costs. These factors resulted in an operating loss of
$3.2 million
for the first
nine months
of
2017
compared to an operating loss of
$1.7 million
for the corresponding period of
2016
.
Real Estate revenue and gross margin are summarized in the table below for the
nine months ended
September 30, 2017
and
2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except units sold and per unit amounts)
|
|
|
|
|
|
|
|
|
For the nine months ended:
|
|
|
|
|
|
|
|
|
|
|
Description
|
|
Revenue
|
|
Gross Margin
|
|
Units Sold
|
|
Revenue per unit
|
|
Gross Margin per unit
|
Residential
|
|
$
|
2,942
|
|
|
$
|
833
|
|
*
|
Lots:
|
|
22
|
|
|
133,727
|
|
|
37,864
|
|
Total land
|
|
2,942
|
|
|
833
|
|
|
|
|
|
|
|
|
|
|
|
|
Rentals and other
|
|
863
|
|
|
(196
|
)
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2017 total
|
|
$
|
3,805
|
|
|
$
|
637
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
|
|
$
|
1,220
|
|
|
$
|
154
|
|
*
|
Lots:
|
|
9
|
|
|
135,556
|
|
|
17,111
|
|
Unimproved land
|
|
1,749
|
|
|
1,459
|
|
|
Acres:
|
|
265
|
|
|
6,600
|
|
|
5,506
|
|
Total land
|
|
2,969
|
|
|
1,613
|
|
|
|
|
|
|
|
|
|
|
|
|
Rentals and other
|
|
896
|
|
|
(88
|
)
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2016 total
|
|
$
|
3,865
|
|
|
$
|
1,525
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* Includes revenue recognized on a percentage-of-completion basis on lots sold in previous periods.
|
Environmental Remediation
As disclosed previously, we have a liability for environmental remediation at Port Gamble, Washington, due to contamination that occurred in Port Gamble prior to our 1985 acquisition of the property from Pope & Talbot, Inc. We have adjusted that liability from time to time based on evolving circumstances. The required remediation in Port Gamble Bay was completed in January 2017. Dredged sediments associated with the remediation were stockpiled on the millsite so they could be rinsed with fresh water and characterized for removal. This work was completed in the third quarter of 2017. By the end of September, all stockpiles were removed, with the bulk of the sediments being relocated to property we own a short distance from the town of Port Gamble.
We anticipate some cleanup activity to occur on the millsite in 2018. The scope of this activity will depend on the results of testing that will be conducted in this area now that the dredged sediments from Port Gamble Bay have been removed. Our liability includes an estimate of the costs for this activity.
Project costs may still vary due to a number of factors, including but not limited to:
Uncertainty with respect to the millsite cleanup:
As noted earlier, the scope and nature of remediation activity on the millsite will be determined by the results of testing to be conducted in the coming months. Until these testing results are known, our ability to accurately estimate the cost associated with this phase of the project is limited.
Natural Resource Damages (NRD):
Certain environmental laws allow state, federal, and tribal trustees (collectively, the Trustees) to bring suit against property owners to recover damages for injuries to natural resources. Like the liability that attaches to current property owners in the cleanup context, liability for natural resource damages can attach to a property owner simply because an injury to natural resources resulted from releases of hazardous substances on that owner’s property, regardless of culpability for the release. The Trustees are alleging that Pope Resources has NRD liability because of releases that occurred on its property. We have been in discussions with the Trustees regarding their claims and the alleged conditions in Port Gamble Bay. We have also been discussing restoration alternatives that might address the damages the Trustees allege. Discussions with the Trustees may result in an obligation for us to fund NRD restoration activities and past assessment costs that are greater than we have estimated.
Unforeseen conditions:
As we transition to the maintenance and monitoring phases of the project, conditions may arise that require corrective action, which could result in additional costs. Likewise, we cannot accurately predict the impacts, if any, of the alleged NRD claims.
Should any future circumstances result in a change to the estimated cost of the project, we will record an appropriate adjustment to the liability in the period it becomes known and when we can reasonably estimate the amount.
General and Administrative (G&A)
G&A expenses were relatively flat at
$1.1 million
and
$1.2 million
in the
third quarter
s of
2017
and
2016
, respectively. G&A expenses increased to
$4.2 million
for the first
nine months
of
2017
from
$3.8 million
for the first
nine months
of
2016
. The increase is primarily due to higher personnel costs, particularly equity-based compensation, and professional fees.
Interest Expense, Net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
(in thousands)
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Interest income
|
$
|
—
|
|
|
$
|
2
|
|
|
$
|
3
|
|
|
$
|
8
|
|
Interest expense
|
(1,284
|
)
|
|
(1,158
|
)
|
|
(3,664
|
)
|
|
(2,902
|
)
|
Capitalized interest
|
105
|
|
|
203
|
|
|
355
|
|
|
536
|
|
Interest expense, net
|
$
|
(1,179
|
)
|
|
$
|
(953
|
)
|
|
$
|
(3,306
|
)
|
|
$
|
(2,358
|
)
|
The Partnership’s and Fund III’s debt arrangements with Northwest Farm Credit Services (NWFCS) are included in the latter’s patronage program, which rebates a portion of interest paid in the prior year back to the borrower. This NWFCS patronage program is a feature common to most of this lender’s loan agreements. The patronage program reduced interest expense by $230,000 and $190,000 for
Q3
2017
and
Q3
2016
, respectively, and by $778,000 and $585,000 for the first
nine months
of
2017
and
2016
, respectively. The increases in both interest expense and patronage are due to higher debt balances in 2017.
Capitalized interest decreased from 2016 to 2017 due to the reduction in basis from 2016 due to completed construction activity at Harbor Hill.
Income Tax
The Partnership recorded income tax expense of
$46,000
and
$116,000
for
Q3
2017
and
Q3
2016
, respectively, and
$105,000
and
$166,000
for the first
nine months
of
2017
and
2016
, respectively.
Pope Resources is a limited partnership and is therefore not subject to federal income tax. Taxable income/loss is instead reported to unitholders each year on a Form K-1 for inclusion in each unitholder’s income tax return. However, Pope Resources and the Funds do have corporate subsidiaries that are subject to income tax, giving rise to the line item for such tax in the Condensed Consolidated Statement of Comprehensive Income (Loss).
Noncontrolling interests-ORM Timber Funds
The line item “Net and comprehensive (income) loss attributable to noncontrolling interests-ORM Timber Funds” represents the combination of the portions of the net income or loss for the Funds which are attributable to third-party owners: 80% for Fund II, 95% for Fund III, and 85% for Fund IV.
Off-Balance Sheet Arrangements
We do not have any material off-balance sheet arrangements.
Liquidity and Capital Resources
We ordinarily finance our business activities using operating cash flows and, where appropriate in our assessment, commercial credit arrangements with banks or other financial institutions. During periods of reduced operating cash flows, we have available to us lines of credit that can be accessed in order to provide for liquidity needs. We expect that funds generated internally from operations and externally through financing will provide the required resources for the Partnership’s operations and capital expenditures for at least the next twelve months.
The Partnership’s debt consists of mortgage debt with fixed and variable interest rate tranches and operating lines of credit with Northwest Farm Credit Services (NWFCS). The mortgage debt at
September 30, 2017
includes $51.8 million in
term loans with NWFCS structured in five tranches that mature from 2019 through 2028 and is collateralized by portions of the Partnership’s timberland. In addition, our commercial office building in Poulsbo, Washington is collateral for a $2.5 million loan from NWFCS that matures in 2023. We also have available a $31.0 million facility with NWFCS structured as a line of credit through December 31, 2019, after which it converts to a term loan with multiple tranches that have an ultimate maturity in July 2027. At
September 30, 2017
, $9.0 million was outstanding under this facility at a variable rate based on the one-month LIBOR rate plus 1.85%. Our $20.0 million operating line of credit matures April 1, 2020, and we had $20.0 million drawn as of
September 30, 2017
. The line of credit carries a variable interest rate that is based on the one-month LIBOR rate plus 1.50%.
These debt agreements contain covenants that are measured quarterly. Among the covenants measured is a requirement that the Partnership maintain an interest coverage ratio of 3:1, and not exceed a maximum debt-to-total-capitalization ratio of 30%, with total capitalization calculated using fair market (vs. carrying) value of timberland, roads and timber. The Partnership is in compliance with these covenants as of
September 30, 2017
, and expects to remain in compliance for at least the next twelve months.
Mortgage debt within the Funds is collateralized by Fund properties only, and the Partnership and its subsidiaries do not guarantee that debt. Fund II has a timberland mortgage comprised of two fixed rate tranches totaling $25.0 million with MetLife Insurance Company. The tranches are non-amortizing and both mature in September 2020. The loans allow for, but do not require, annual principal payments of up to 10% of outstanding principal without incurring a make-whole premium. This mortgage is collateralized by a portion of Fund II’s timberland portfolio. Fund III has a timberland mortgage comprised of two fixed rate tranches totaling $32.4 million with NWFCS. The mortgage is non-amortizing and collateralized by a portion of Fund III’s timberland, with an $18.0 million tranche maturing in December 2023 and a $14.4 million tranche maturing in October 2024.
The
$7.6 million
increase in cash generated for the
nine months ended
September 30, 2017
compared to
September 30, 2016
is explained in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30,
|
(in thousands)
|
2017
|
|
Change
|
|
2016
|
Cash provided by (used in) operating activities
|
$
|
7,408
|
|
|
$
|
16,365
|
|
|
$
|
(8,957
|
)
|
|
|
|
|
|
|
Investing activities
|
|
|
|
|
|
Reforestation and roads
|
(1,665
|
)
|
|
(389
|
)
|
|
(1,276
|
)
|
Capital expenditures
|
(162
|
)
|
|
(3
|
)
|
|
(159
|
)
|
Proceeds from sale of property and equipment
|
30
|
|
|
30
|
|
|
—
|
|
Investment in unconsolidated real estate joint venture
|
(250
|
)
|
|
(250
|
)
|
|
—
|
|
Acquisition of timberland - Partnership
|
(4,951
|
)
|
|
28,373
|
|
|
(33,324
|
)
|
Proceeds from sale of timberland - Funds
|
26,590
|
|
|
25,866
|
|
|
724
|
|
Cash provided by (used in) investing activities
|
19,592
|
|
|
53,627
|
|
|
(34,035
|
)
|
Financing activities
|
|
|
|
|
|
|
|
|
Line of credit borrowings
|
23,000
|
|
|
2,974
|
|
|
20,026
|
|
Line of credit repayments
|
(8,000
|
)
|
|
(5,300
|
)
|
|
(2,700
|
)
|
Repayment of long-term debt
|
(5,088
|
)
|
|
(5,003
|
)
|
|
(85
|
)
|
Proceeds from issuance of long-term debt
|
—
|
|
|
(32,000
|
)
|
|
32,000
|
|
Debt issuances costs
|
(104
|
)
|
|
59
|
|
|
(163
|
)
|
Units issued under Distribution Reinvestment Plan
|
4
|
|
|
4
|
|
|
—
|
|
Unit repurchases
|
(648
|
)
|
|
(648
|
)
|
|
—
|
|
Payroll taxes paid upon unit net settlements
|
(94
|
)
|
|
58
|
|
|
(152
|
)
|
Cash distributions to unitholders
|
(9,168
|
)
|
|
(35
|
)
|
|
(9,133
|
)
|
Cash distributions to fund investors, net of distributions to Partnership
|
(26,359
|
)
|
|
(23,306
|
)
|
|
(3,053
|
)
|
Capital call - ORM Timber Funds, net of Partnership contribution
|
825
|
|
|
825
|
|
|
—
|
|
Cash provided by (used in) financing activities
|
(25,632
|
)
|
|
(62,372
|
)
|
|
36,740
|
|
Net increase (decrease) in cash
|
$
|
1,368
|
|
|
$
|
7,620
|
|
|
$
|
(6,252
|
)
|
The increase in cash from operating activities of
$16.4 million
resulted primarily from a
34%
increase in timber harvest volume, an
8%
rise in average log price realizations, and lower Real Estate project expenditures.
Cash from investing activities during
2017
increased by
$53.6 million
compared to
2016
due primarily to the sale of one of Fund II’s tree farms in January 2017 and the acquisition of a tree farm by the Partnership in Q3 2016.
Cash from financing activities decreased in the current year by
$62.4 million
due primarily to the distribution of the net proceeds from the sale of one of Fund II’s tree farms to that fund’s investors, net repayments of debt in 2017, and borrowings in 2016 to fund the acquisition of a tree farm by the Partnership that had no counterpart in 2017.
Seasonality
Fee Timber.
The elevation and terrain characteristics of our timberlands are such that we can conduct harvest operations virtually year-round on a significant portion of our tree farms. Generally, we concentrate our harvests from these areas in those months when weather limits operations on other properties, thus taking advantage of reduced competition for log supply to our customers and improving prices realized. As such, on a combined basis the pattern of quarterly volumes harvested is flatter than would be the case if looking at one tree farm in isolation. However, this pattern may not hold true during periods of comparatively soft log prices, when we may defer harvest volume to capture greater value when log prices strengthen. In addition, our quarterly harvest patterns may be impacted by severe weather or fire conditions.
Timberland Investment Management.
Management revenue generated by this segment consists of asset and timberland management fees. These fees, which relate primarily to our activities on behalf of the Funds and are eliminated in consolidation, vary based upon the amount of invested capital, the number of acres owned by the Funds, and the volume of timber harvested from properties owned by the Funds and are not expected to be significantly seasonal.
Real Estate.
While Real Estate results are not expected to be seasonal, the nature of the activities in this segment will likely result in periodic large transactions that will have significant positive impacts on both revenue and operating income of the Partnership in periods in which these transactions close, and relatively limited revenue and income in other periods. While the variability of these results is not primarily a function of seasonal weather patterns, we do expect to see some seasonal fluctuations in this segment because of the general effects of weather on Pacific Northwest development activities.
Capital Expenditures and Commitments
Capital expenditures, excluding timberland acquisitions, for the full year
2017
are projected to be approximately $11.1 million. The most significant expenditures relate to finishing residential lots for sale to merchant homebuilders in our Harbor Hill project, reforestation and roads, and the installation of a new wastewater treatment plant for the town of Port Gamble. The following table presents our capital expenditures by major category on a year-to-date basis and what we expect for the remainder of the year:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
|
|
Sept 30 YTD
|
|
Remainder of Year
|
|
Total
|
in millions
|
|
|
|
|
|
Harbor Hill project development
|
$
|
4.4
|
|
|
$
|
1.3
|
|
|
$
|
5.7
|
|
Port Gamble wastewater treatment plant
|
1.6
|
|
|
0.1
|
|
|
1.7
|
|
Reforestation and roads
|
1.7
|
|
|
0.7
|
|
|
2.4
|
|
Other
|
0.6
|
|
|
0.7
|
|
|
1.3
|
|
|
$
|
8.3
|
|
|
$
|
2.8
|
|
|
$
|
11.1
|
|
ACCOUNTING MATTERS
Critical Accounting Policies and Estimates
An accounting policy is deemed to be “critical” if it is important to a company’s results of operations and financial condition, and requires significant judgment and estimates on the part of management in its application. The preparation of
financial statements and related disclosures in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect certain amounts reported in the financial statements and related disclosures. Actual results could differ from these estimates and assumptions. Management believes its most critical accounting policies and estimates relate to the calculation of timber depletion, cost allocations for purchased timberland, and environmental remediation liabilities.
For a further discussion of our critical accounting policies and estimates see Accounting Matters in the Management Discussion and Analysis section of our Annual Report on Form 10-K for the year ended
December 31, 2016
. See also note 2 to the condensed consolidated financial statements.