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Canfor Corp. (NYSEMKT:CFP)

Q2 2009 Earnings Call

July 31 2009; 5:00 pm ET

Executives

Jim Shepard - President & Chief Executive Officer

Tom Sitar - Vice President & Chief Financial Officer

Analysts

Paul Quinn - RBC Capital Markets

Operator

Good morning, ladies and gentlemen. Welcome to the Canfor Corporation’s second quarter results 2009 conference call. A recording of the call and a transcript will be available on Canfor’s website.

During this call, Canfor’s CEO and CFO will be referring to a slide presentation that is available in the Investor Relations section of their website. Also, the company would like to point out that this call will include forward-looking statements. So, please refer to the press release for the associated risks of such statements.

I would now like to turn the meeting over to Mr. Jim Shepard, President and Chief Executive Officer for Canfor Corporation. Please go ahead, Mr. Shepard.

Jim Shepard

Thank you, operator. Good morning, everybody and welcome to Canfor’s conference call to discuss the company’s second quarter results for 2009. I’m joined here today by Tom Sitar, Canfor’s Vice President of Finance and CFO; and also Don Kayne, Vice President of Marketing and Sales, and Mark Feldinger, Vice President, Manufacturing.

I will give a brief overview of the quarter and then Tom will speak to our financial results, including providing some details on the unusual items in the quarter. There’s been talk in the last few weeks about an economic recovery. For instance, the Bank of Candice is talking about the end of the recession. Some companies are forcing acceptable quarterly profits and today, Canfor is in an awkward position, because we are reporting a profit as well, albeit a modest profit of $11 million.

But let’s be clear, this is not an operating profit. I wish I could standup today and say here once again operating in a profitable way, and talk of the end of the financial crisis. But I can’t. The fact is we have an accounting profit; part of it is derived from the recovery of previous inventory accounting write-downs, spending from our seasonal buildup of log inventories.

It is also a result of the stronger Canadian dollar, which had a positive effect on our US dollar debt. I’ll let Tom explain the accounting further in a moment. I don’t need to tell you about the low housing starts that have been plaguing our industry for sometime. You are all aware of this.

It was widely expected that housing starts would remain low going into the summer and this will largely burned itself out. But we are now concerned about the adjustable rate mortgages coming up for renewal, and the impending foreclosures, which are expected to increase the number of houses for sale. This will further delay the recovery in number of crisis. Also the rising Canadian dollar presents an additional challenge to any manufacturer for export.

Recently, we have made some very difficult decisions, including indefinitely closing three more of our mills. These closures will all be completed in the first week of August. We are also in the midst of our summer curtailment schedule, and have increased our curtailment length for at least one operation, in an effort to further remove product from the market. The affect of these curtailments has been significant.

Canfor is now running at 50% of our lumber production capacity, at 10% lower than last quarter. This statistic alone should be a good indication of where the market currently stands. Still amidst all of this cutting, we are also looking for opportunities, have invested strategically in operations that present the right conditions to ensure viability today and prosperity tomorrow.

Just last week, I visited our Mackenzie operations, where we restarted that lumber mill after an indefinite closure that lasted more than a year. This mill starting with one shift, but we hope to increase that to two shifts, when it is operationally and economically viable.

Mackenzie is a prime example of how an engaged workforce can come back the economic downturn and turn a difficult situation into an opportunity. This location at near quality fiber supply coupled with our employee’s commitment to lower cost and higher quality created the opportunity for Mackenzie to restart. They are much more in control of their destiny now.

Mackenzie is a good example of Canfor strategy to ensure, we meet the needs of our highly valued customers. It is in difficult times like this that company’s can strengthen customer relationships by ensuring that quality and customer service are not satisfied.

I also visited our Clear Lake operation south of Prince George last week. Employees there understand the economics of their mills and have approached management about improving their economics. These discussions led to a voluntary wage cut which employees voted on and approved last week.

These are people who are intimately aware of the hardships facing our industry and one part of the solution, and they are not alone. They are following the foot steps of all of our Directors, all of our executive and all of our staff and many of our contractors and suppliers who had direct reductions in their compensation.

In other times and in other companies there have been instances were cost reduction campaigns have resulted in great disruptions, but that is not the case here at Canfor. As this economic storm has increased intensity, we seen our employees mobilize and they are driving our safety and productivity gains, cost reductions, improved product quality and customer service. The entire organization is a strong sense of purpose that is yielding good measurable improvement in all those areas we can control.

For more details of our finance results in the second quarter, I would now like to turn the call over to Tom Sitar.

Tom Sitar

Thank you, Jim. My comments this morning will focus on our financial results for the second quarter of 2009 with special emphasis on those items that affect comparability with other quarters and those factors that contributed significantly to our results. I will draw your attention to our Q2 overview slide presentation which you’ll find on our website in the Investor Relations section, presentation tab. I will refer to it periodically. Also I note that for easy reference, I will be referring to all amounts rounded to the nearest million.

Yesterday Canfor reported second quarter net income of almost $11 million or $0.07 per share. This compared to a net loss of $59 million for the first quarter of 2009 and a net income of $64 million in the second quarter of 2008. All those results include a number of usual items.

On slide 4 of our presentation, we have highlighted the current quarter’s unusual items and I will detail them now. Please note that the amounts I refer to are on an after-tax basis. First, a charge of $8 million or $0.05 a share due to the restructuring, mill closure and severance cost related principally to the investment closures of three sawmill operations announced in the quarter.

Second, we had a gain of $20 million or $0.14 a share due to the effect of translation of our U.S. dollar denominated debt net of investments. Third, a gain of $17 million or $0.12 a share on derivative financial instruments principally due to the increase in the value of the Canadian dollar relative to the U.S. dollar.

Lastly, a charge of $2 million or $0.01 a share to adjust the previously recorded gain related to the NCP mill fire. After taking account of these items, the second quarter adjusted net loss is $17 million or $0.12 per share compared to an adjusted net loss of $78 million for the first quarter of 2009. This represents an improvement of $61 million.

These figures are further skewed by the impact of inventory write-downs from cost to net realizable value required by accounting standards, which on the quarter-over-quarter basis, positively impacted net income by about $57 million or $0.41 per share after tax.

Slide 5 of our presentation, shows the history of US housing starts and SPF lumber prices, clearly showing the record low levels in Q1 and only a very modest improvement from those levels in Q2.

Turning to our operating performance, and I am now referring to slide 6 of our presentation. Sales increased by $54 million to $542 million, up 11% from the prior quarter. Sales were higher across all segments.

The company generated positive EBITDA of $7 million and $92 million improvement from the previous quarter. But, if you remove the effect of inventory devaluations and restructuring cost, EBITDA in the second quarter was negative $34 million, an improvement of $15 million from the negative EBITDA of $48 million in the first quarter.

Now, looking at each of our business segments in turn, now I am referring to slide 7. The lumber segment had a positive EBITDA of $11 million in the second quarter of 2009 compared to negative EBITDA of $69 million for the previous quarter. Two major factors affect comparability.

First, that it was the quarter-over-quarter $67 million positive impact of log inventory valuation adjustments, principally reflecting the effect of spring breakup and results in reduction in log inventories, but also improved costs and net sales volumes.

Second, restructuring and closure cost was 7 million higher in Q2. When these items are adjusted out, EBITDA was negative $23 million, which represented a $19 million quarter-over-quarter improvement from the negative $42 million recorded in the first quarter.

This change was primarily driven by modest increase in Western SPF prices and lower unit manufacturing costs which were down about 7%. These were partially offset by the strengthening of the Canadian dollar. As a reminder, we no longer report our panels business as a separating operating segment given that all but one of company’s panel operations are now indefinitely idle.

I’m now turning to Pulp & Paper segment, slide 8 of our presentation. The second quarter results recorded for the Pulp & Paper segment include Canfor’s sale of pulp mill combined with Canfor Pulp Limited Partnership.

The second quarter EBITDA was positive $6 million and was up by $11 million compared to the first quarter of 2009, principally due to the impact on unit manufacturing cost of higher production volumes as well as lower fiber chemical and natural gas cost, which more than offset a decline in average US list price and the effect of the stronger Canadian dollar. Results of Canfor Pulp Limited Partnership of which we own 50.2%, were discussed in Canfor Pulp income funds news release and conference call earlier this week.

Capital spending in the second quarter was just over $7 million, which was comprised of $5 million that for our solid wood business and $2 million for Canfor Pulp. We anticipate that full year capital spending will be about $40 million on the solid wood side of the business.

At the end of about the second quarter, Canfor excluding Canfor Pulp had cash of $135 million and unused lines of credit approximately $398 million. We made long-term debt payments on April 1st of $60 million U.S. from our cash reserve. The net debt to capitalization at the end of June was 16% on a consolidated basis, excluding Canfor Pulp the net debt to capitalization is 9%.

Jim, with that I’ll turn the call back over to you.

Jim Shepard

Thank you, Tom. I would be remised if I didn’t make some reference to what we can expect moving forward. I am not a fan of making prediction, but as Warren Buffett recently stated the economic turnaround is coming. He just doesn’t know when.

If Warren Buffett doesn’t know then I sure don’t and therefore Canfor will continue with its focus on cash conservation and cost reduction opportunities. But we can take hard in the fact that our company has become very lean and efficient to the committed effort of all of our employees.

Operator, I would now like to ask that we take questions from the telephone lines.

Question-and-Answer Sessions

Operator

(Operator Instructions) Your first question comes from Paul Quinn - RBC Capital Markets.

Paul Quinn - RBC Capital Markets

A couple of questions; one, just on cost improvement, especially in the wood product side seen a very impressive cost reductions as far as back I’ve got the records. I guess the question is, you’ve seen some drop in log cost and you’ve seen probably the benefit of closures from higher cost facilities. What do you think the underlying cost reduction in your course at mills that you’re running now has been sort of year-over-year?

Jim Shepard

I don’t think that we wanted get into that detail, Paul in all fairness.

Paul Quinn - RBC Capital Markets

Okay, then how about an easier one then?

Jim Shepard

Yeah. Try an easier one.

Paul Quinn - RBC Capital Markets

Labor strategy going forward, you’ve mentioned that directors have taken cuts, executive staffs have taken cuts and some of your contractors have taken cuts. I know you don’t want to negotiate in the public with your labor force in the upcoming contract. What are sort of the strategic directions that Canfor wants to see as our labor force move to over the next number of years? Is that more like that a Clear Lake contract, is it more like a Conifex type contract that we’ve seen, is it something like McKenzie, what is it?

Jim Shepard

Well, first of all, we’ve given our position to the [Union Lake] and their positions. So we’re just commencing negotiations, quite frankly we just can never comment on that aspect of it.

Let me just give you a little bit of a background to your like I’ve just said to you, right from the beginning of at least my tenure here, in the last two and a half years, we have seen the directors, we’ve seen the executive, we’ve seen management, we’ve seen the staff, we’ve seen our contractor, suppliers and recently as I mentioned in my comments here we’ve seen McKenzie and Clear Lake which is a non-union mill, a step forward and become in line with the direction we’re going in.

So quite frankly, when results hadn’t done, which we are looking for alignment and our purpose is here is to be a survivor and a competitive mill which is going to provide quality products for customers going forward.

Operator

(Operator Instructions) We have no more questions at this time. I will like to return the meeting over to Mr. Shepard.

Jim Shepard

Anybody from the media. Okay, everybody and thank you very much for participating today and I look forward to speak with again at the end of the next quarter.

Operator

Thank you. This concludes today’s conference call. Please disconnect your lines at this time and we thank you for your participation.

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