Form 10-Q
Table of Contents

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

 

FORM 10-Q

 

 

(Mark One)

 

     x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

For the quarterly period ended June 30, 2005

 

OR

 

     ¨   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

For the transition period from                                          to                                              

 

 

COMMISSION FILE NUMBER 1-6780

 

 

 

RAYONIER INC.

 

 

 

Incorporated in the State of North Carolina

I.R.S. Employer Identification Number 13-2607329

 

50 North Laura Street, Jacksonville, FL 32202

(Principal Executive Office)

 

Telephone Number: (904) 357-9100

 

 

Indicate by check mark whether the registrant (l) has filed all reports required to be filed by Section l3 or l5(d) of the Securities Exchange Act of l934 during the preceding l2 months and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No ¨

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).  Yes x  No ¨

 

As of July 22, 2005 there were outstanding 50,465,047 Common Shares of the Registrant.

 



Table of Contents

TABLE OF CONTENTS

 

          PAGE

PART I.

   FINANCIAL INFORMATION     

Item l.

   Condensed Consolidated Financial Statements (Unaudited)     
     Condensed Consolidated Statements of Income and Comprehensive Income for the Three and Six Months Ended June 30, 2005 and 2004    1
     Condensed Consolidated Balance Sheets as of June 30, 2005 and December 3l, 2004    2
     Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2005 and 2004    3
     Notes to Condensed Consolidated Financial Statements    4

Item 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations    18

Item 3.

   Quantitative and Qualitative Disclosures About Market Risk    29

Item 4.

   Controls and Procedures    30

PART II.

   OTHER INFORMATION     

Item 1.

   Legal Proceedings    31

Item 4.

   Submission of Matters to a Vote of Security Holders    31

Item 5.

   Other Information    32

Item 6.

   Exhibits and Reports on Form 8-K    35
     Signature    35
     Exhibit Index    36


Table of Contents

 

RAYONIER INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands unless otherwise noted)

 

     Three Months Ended June 30,

    Six Months Ended June 30,

 
     2005

    2004

    2005

    2004

 

SALES

   $ 290,287     $ 326,633     $ 565,259     $ 610,463  
    


 


 


 


Costs and Expenses

                                

Cost of sales

     227,040       240,950       444,366       464,514  

Selling and general expenses

     15,260       14,440       29,800       32,268  

Other operating (income) / expense, net

     (915 )     19       (5,116 )     (594 )
    


 


 


 


       241,385       255,409       469,050       496,188  
    


 


 


 


OPERATING INCOME

     48,902       71,224       96,209       114,275  

Interest expense

     (12,827 )     (11,889 )     (25,140 )     (23,013 )

Interest and miscellaneous income, net

     1,042       288       1,531       1,053  
    


 


 


 


INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES

     37,117       59,623       72,600       92,315  

Income tax benefit (expense)

     4,458       (14,834 )     3,815       28,665  
    


 


 


 


INCOME FROM CONTINUING OPERATIONS

     41,575       44,789       76,415       120,980  
    


 


 


 


DISCONTINUED OPERATIONS, NET (Note 6)

                                

Loss on discontinued operations, net of income tax (expense) benefit of $9,863, ($88), $10,329, and ($181)

     (24,699 )     (1,076 )     (25,080 )     (1,732 )
    


 


 


 


NET INCOME

     16,876       43,713       51,335       119,248  
    


 


 


 


OTHER COMPREHENSIVE INCOME (LOSS)

                                

Unrealized loss on hedged transactions, net of income tax benefit of $358, $573, $262, and $526

     (229 )     (367 )     (410 )     (822 )

Foreign currency translation adjustment

     (4,345 )     (6,116 )     (656 )     (4,828 )

Minimum pension liability adjustments

     —         —         —         (2,496 )
    


 


 


 


COMPREHENSIVE INCOME

   $ 12,302     $ 37,230     $ 50,269     $ 111,102  
    


 


 


 


EARNINGS (LOSS) PER COMMON SHARE

                                

BASIC EARNINGS (LOSS) PER SHARE

                                

Continuing Operations

   $ 0.83     $ 0.90     $ 1.52     $ 2.45  

Discontinued Operations

     (0.49 )     (0.02 )     (0.50 )     (0.04 )
    


 


 


 


Net Income

   $ 0.34     $ 0.88     $ 1.02     $ 2.41  
    


 


 


 


DILUTED EARNINGS (LOSS) PER SHARE

                                

Continuing Operations

   $ 0.81     $ 0.88     $ 1.49     $ 2.38  

Discontinued Operations

     (0.48 )     (0.02 )     (0.49 )     (0.03 )
    


 


 


 


Net Income

   $ 0.33     $ 0.86     $ 1.00     $ 2.35  
    


 


 


 


 

See Notes to Condensed Consolidated Financial Statements.

 

1


Table of Contents

 

RAYONIER INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

(Dollars in thousands unless otherwise noted)

 

    

June 30,

2005


    December 31,
2004


 
ASSETS                 

CURRENT ASSETS

                

Cash and cash equivalents

   $ 136,315     $ 84,117  

Accounts receivable, less allowance for doubtful accounts of $1,470 and $1,271

     88,060       87,483  

Inventory

                

Finished goods

     57,790       60,155  

Work in process

     7,874       7,908  

Raw materials

     7,538       6,863  

Manufacturing and maintenance supplies

     8,210       7,814  
    


 


Total inventory

     81,412       82,740  

Timber purchase agreements

     3,432       6,419  

Other current assets

     42,156       27,237  

Assets held for sale

     50,439       77,248  
    


 


Total current assets

     401,814       365,244  
    


 


TIMBER PURCHASE AGREEMENTS

     4,221       2,440  

TIMBER, TIMBERLANDS AND LOGGING ROADS, NET OF DEPLETION AND AMORTIZATION

     1,040,418       1,053,481  

PROPERTY, PLANT AND EQUIPMENT

                

Land

     20,226       19,989  

Buildings

     115,147       114,384  

Machinery and equipment

     1,215,009       1,198,903  
    


 


Total property, plant and equipment

     1,350,382       1,333,276  

Less - accumulated depreciation

     (971,054 )     (936,161 )
    


 


       379,328       397,115  
    


 


OTHER ASSETS

     108,684       111,407  
    


 


     $ 1,938,664     $ 1,933,886  
    


 


LIABILITIES AND SHAREHOLDERS' EQUITY                 

CURRENT LIABILITIES

                

Accounts payable

   $ 65,930     $ 72,487  

Bank loans and current maturities

     63,575       48,575  

Accrued taxes

     39,652       45,562  

Accrued payroll and benefits

     16,115       24,043  

Accrued interest

     5,633       5,093  

Accrued customer incentives

     8,278       9,077  

Other current liabilities

     29,217       20,635  

Current reserves for dispositions and discontinued operations

     12,711       12,126  

Liabilities associated with assets held for sale

     3,912       4,928  
    


 


Total current liabilities

     245,023       242,526  
    


 


DEFERRED INCOME TAXES

     38,821       46,447  

LONG-TERM DEBT

     623,228       610,290  

NON-CURRENT RESERVES FOR DISPOSITIONS AND DISCONTINUED OPERATIONS

     128,539       133,928  

OTHER NON-CURRENT LIABILITIES

     101,512       100,108  

COMMITMENTS AND CONTINGENCIES (Notes 13 and 14)

                

SHAREHOLDERS’ EQUITY

                

Common Shares, 120,000,000 shares authorized, 50,439,361

                

and 49,977,553 shares issued and outstanding

     406,536       393,513  

Retained earnings

     390,476       401,479  

Accumulated other comprehensive income

     330       1,396  
    


 


       797,342       796,388  
    


 


     $ 1,934,465     $ 1,929,687  
    


 


 

See Notes to Condensed Consolidated Financial Statements.

 

2


Table of Contents

 

RAYONIER INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands unless otherwise noted)

 

     Six Months Ended June 30,

 
     2005

    2004

 

OPERATING ACTIVITIES

                

Income from continuing operations

   $ 76,415     $ 120,980  

Non-cash items included in income:

                

Depreciation, depletion and amortization

     71,998       75,256  

Non-cash cost of real estate sales

     6,003       9,245  

Deferred income tax benefit

     (12,584 )     (44,586 )

Increase in accounts receivable

     (614 )     (11,549 )

(Increase) decrease in inventory

     (2,712 )     208  

Decrease in accounts payable

     (6,565 )     (5,081 )

Increase in current timber purchase agreements and other current assets

     (12,811 )     (547 )

Increase in accrued liabilities

     2,044       22,039  

Increase in other non-current liabilities

     3,790       2,342  

Decrease (increase) in timber purchase agreements and other assets

     2,770       (7,167 )

Expenditures for dispositions and discontinued operations

     (4,804 )     (3,409 )
    


 


CASH PROVIDED BY OPERATING ACTIVITIES OF CONTINUING OPERATIONS

     122,930       157,731  
    


 


CASH PROVIDED BY OPERATING ACTIVITIES OF DISCONTINUED OPERATIONS

     965       14  
    


 


INVESTING ACTIVITIES

                

Capital expenditures, net of proceeds from sales and retirements

     (43,645 )     (34,835 )

Increase in restricted cash (Note 8)

     (1,998 )     (30,462 )
    


 


CASH USED FOR INVESTING ACTIVITIES OF CONTINUING OPERATIONS

     (45,643 )     (65,297 )
    


 


CASH USED FOR INVESTING ACTIVITIES OF DISCONTINUED OPERATIONS

     (274 )     (719 )
    


 


FINANCING ACTIVITIES

                

Issuance of debt

     75,000       116,000  

Repayment of debt

     (46,545 )     (117,545 )

Dividends paid

     (62,245 )     (55,390 )

Issuance of common shares

     7,967       10,030  
    


 


CASH USED FOR FINANCING ACTIVITIES OF CONTINUING OPERATIONS

     (25,823 )     (46,905 )
    


 


EFFECT OF EXCHANGE RATE CHANGES ON CASH

     43       (179 )
    


 


CASH AND CASH EQUIVALENTS

                

Increase in cash and cash equivalents

     52,198       44,645  

Balance, beginning of year

     84,117       21,397  
    


 


Balance, end of period

   $ 136,315     $ 66,042  
    


 


SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION

                

Cash paid during the period:

                

Interest

   $ 23,867     $ 22,529  
    


 


Income taxes

   $ 5,898     $ 814  
    


 


 

See Notes to Condensed Consolidated Financial Statements.

 

3


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

1. BASIS OF PRESENTATION

 

The unaudited condensed consolidated financial statements of Rayonier Inc. and its subsidiaries (Rayonier or the Company), reflect all adjustments (which include normal recurring adjustments) necessary for a fair presentation of the results of operations, the financial position and the cash flows for the periods presented. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires the use of certain estimates by management in determining the amount of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. There are risks inherent in estimating, and therefore, actual results could differ from those estimates. For a full description of the Company’s significant accounting policies, please refer to the Notes to Consolidated Financial Statements in the 2004 Annual Report on Form 10-K.

 

New Accounting Standards

 

In May 2005, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 154, Accounting Changes and Error Corrections. The Statement replaces Accounting Principles Board Opinion No. 20, Accounting Changes and FASB Statement No. 3, Reporting Accounting Changes in Interim Financial Statements, and changes the accounting for and reporting of a change in accounting principle. The Statement applies to all voluntary changes in accounting principle and to changes required by an accounting pronouncement when specific transition provisions are not provided. The Statement requires retrospective application to prior periods’ financial statements for changes in accounting principle, unless it is impracticable to determine the period specific or cumulative effect of the change. The Statement is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005.

 

In March 2005, the FASB issued Interpretation No. 47 (FIN 47), Accounting for Conditional Asset Retirement Obligations. This interpretation states that the term “conditional asset retirement obligation” as used in paragraph A23 of SFAS No. 143 refers to a legal obligation to perform an asset retirement in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement obligation is unconditional even though uncertainty exists about the timing and (or) method of settlement. The effective date for adopting this interpretation is no later than the end of fiscal years ending after December 15, 2005. The Company’s financial condition, results of operations and cash flows were not impacted by the adoption of FIN 47 in the second quarter of 2005.

 

In December 2004, the FASB issued a revision to SFAS No. 123, Accounting for Stock-Based Compensation (SFAS No. 123R). SFAS No. 123R supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. SFAS No. 123R requires that all stock-based compensation, including options, be expensed at fair value as of the grant date over the vesting period. Companies will be required to use an option pricing model to determine compensation expense, consistent with the model used in the already required disclosures of SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure (i.e., Black-Scholes or Binomial). In April 2005, the SEC issued a release to amend the effective date of compliance with SFAS No. 123R to the first quarter of the first fiscal year beginning after June 15, 2005. The Company expects to adopt SFAS No. 123R on January 1, 2006 and is currently evaluating the impact on its financial condition, results of operations or cash flows.

 

In December 2004, the FASB issued FASB Staff Position (FSP) 109-1, Application of SFAS No. 109, Accounting for Income Taxes, to the Tax Deduction on Qualified Production Activities Provided by the American Jobs Creation Act of 2004. The American Jobs Creation Act of 2004 (the Act) includes tax relief for domestic manufacturers by providing a tax deduction of up to 9 percent (when fully phased-in) of the lesser of “qualified production activities income” (as defined by the Act) or taxable income. In conjunction with creating this new deduction, the Act phases out the current Extraterritorial Income Exclusion (EIE) over the next two years. The FSP requires that the new deduction be accounted for as a special deduction because it is based on the future performance of specific activities, including level of wages. The Company has adopted the provisions of FSP 109-1 in 2005 and expects to record a tax benefit of approximately $0.8 million greater than the 2004 benefit under the EIE.

 

4


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

In December 2004, the FASB issued FSP 109-2, Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision within the American Jobs Creation Act of 2004. SFAS No.109 requires adjustment of deferred tax assets and liabilities for the effect of a change in tax rates in the period that includes the enactment date of the Act. The purpose of this FSP was to grant companies additional time to evaluate the effect of the Act on their plans for reinvestment or repatriation of foreign earnings, postpone recognition until such determination is made and to provide guidance for disclosures during reporting periods when determination has not yet been made. The FSP requires disclosure of a company’s status of its determination, its expected date of completion and a range of reasonably possible amounts considered for repatriation, including the related tax effects of doing so. The Company complied with the accounting and reporting guidance outlined in the FSP in 2004. The Company expects to complete its determination of foreign earnings to be repatriated in the third quarter of 2005. See also Note 7 - Income Taxes.

 

In November 2004, the FASB issued SFAS No. 151, Amendment of ARB No. 43, Chapter 4. This statement amends the guidance in Accounting Research Bulletin No. 43, Chapter 4, Inventory Pricing, to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). This statement requires that those items be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal.” In addition, this statement requires that allocation of fixed production overhead to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. The Company will adopt the standard on January 1, 2006 and does not expect a material impact on its financial condition, results of operations or cash flows.

 

In May 2004, the FASB issued FSP 106-2, Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003. The Medicare Prescription Drug, Improvement and Modernization Act of 2003 provides a prescription drug benefit under Medicare Part D to those employers that sponsor postretirement health care plans that provide prescription drug benefits to participants that are actuarially equivalent to Medicare Part D. This FSP provides reporting guidance for companies that have not made an actuarial determination and accounting guidance for when the determination is made. The Company adopted the provisions of FSP 106-2 in the first quarter of 2005; see Note 15—Employee Benefit Plans.

 

Reclassifications

 

Certain items in prior year’s condensed consolidated financial statements have been reclassified to conform to the current year presentation.

 

2. SUBSEQUENT EVENT

 

On July 15, 2005, Rayonier entered into an agreement to sell its New Zealand forests (118,000 acres) having a book value of $112 million, for approximately $184 million (based on a New Zealand /U.S. dollar exchange rate of 0.68), and simultaneously entered into a joint venture arrangement with RREEF Infrastructure, the global infrastructure investing arm of Deutsche Asset Management. The joint venture has also entered into an agreement to purchase 235,000 acres of New Zealand forests from Carter Holt Harvey (CHH), an Australasian forest products company, for approximately $296 million. The joint venture will use its investors’ capital investment and approximately $255 million of bank borrowings to purchase the Rayonier and CHH forestry assets. At a 49.7 percent level of investment, the sale of Rayonier’s forests will result in $67 million in cash proceeds (before cash taxes of $6 million), net of its initial investment in the joint venture, and a $28 million after-tax gain on the non-deferred portion of the sale of forests (38 percent of the total gain of $73 million). Rayonier has provided a letter of credit, in the amount of $25 million, as part of the bid process on the CHH forests purchase.

 

Rayonier will have an investment in the joint venture of between 40 percent and 49.7 percent, dependent upon additional third-party debt subscriptions and the joint venture’s level of debt. At a 40 percent investment level, cash proceeds will be $82 million and a $38 million after-tax gain will be recognized. Rayonier’s investment in the joint venture will be accounted for using the equity method of accounting. In addition, Rayonier will manage the joint venture. Closure of the transactions is expected in the fourth quarter of 2005.

 

5


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

3. INCOME PER COMMON SHARE

 

The following table provides details of the calculation of basic and diluted income per common share:

 

    

Three Months Ended

June 30,


   

Six Months Ended

June 30,


 
     2005

    2004

    2005

    2004

 

Income from continuing operations

   $ 41,575     $ 44,789     $ 76,415     $ 120,980  

Loss from discontinued operations

     (24,699 )     (1,076 )     (25,080 )     (1,732 )
    


 


 


 


Net income

   $ 16,876     $ 43,713     $ 51,335     $ 119,248  
    


 


 


 


Shares used for determining basic earnings per common share

     50,217,948       49,557,582       50,169,207       49,449,037  

Dilutive effect of:

                                

Stock options

     955,130       906,890       916,502       957,089  

Contingent performance and restricted shares

     434,995       427,144       433,355       427,144  
    


 


 


 


Shares used for determining diluted earnings per common share

     51,608,073       50,891,616       51,519,064       50,833,270  
    


 


 


 


Basic earnings (loss) per common share:

                                

Continuing operations

   $ 0.83     $ 0.90     $ 1.52     $ 2.45  

Discontinued operations

     (0.49 )     (0.02 )     (0.50 )     (0.04 )
    


 


 


 


Net income

   $ 0.34     $ 0.88     $ 1.02     $ 2.41  
    


 


 


 


Diluted earnings (loss) per common share:

                                

Continuing operations

   $ 0.81     $ 0.88     $ 1.49     $ 2.38  

Discontinued operations

     (0.48 )     (0.02 )     (0.49 )     (0.03 )
    


 


 


 


Net income

   $ 0.33     $ 0.86     $ 1.00     $ 2.35  
    


 


 


 


 

4. INCENTIVE STOCK PLANS

 

The Company accounts for stock based compensation using the intrinsic value based method under Accounting Principles Board Opinion No. 25 (APB No. 25), Accounting for Stock Issued to Employees. The 1994 Rayonier Incentive Stock Plan (the 1994 Plan) provided for the grant of incentive stock options, non-qualified stock options, stock appreciation rights, performance shares and restricted stock, subject to certain limitations. Effective January 1, 2004, the Company adopted the 2004 Rayonier Incentive Stock Plan and Management Bonus Plan (the 2004 Plan). The 2004 Plan provides for 2.5 million shares to be granted for incentive stock options, non-qualified stock options, stock appreciation rights, performance shares and restricted stock, subject to certain limitations.

 

Pursuant to the disclosure requirements of SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure, the following table provides a reconciliation for the three months and six months ended June 30, 2005 and 2004 that adds back to reported net income the recorded expense under APB No. 25, net of related income tax effects, deducts the total fair value expense under SFAS No. 123, Accounting for Stock Based Compensation, net of related income tax effects, and shows the reported and pro forma earnings per share amounts.

 

6


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

     Three Months Ended
June 30,


    Six Months Ended
June 30,


 
     2005

    2004

    2005

    2004

 

Net income, as reported

   $ 16,876     $ 43,713     $ 51,335     $ 119,248  

Total stock-based employee compensation cost included in the determination of net income, net of related tax effects

     1,906       1,700       2,715       2,998  

Total stock-based employee compensation cost determined under fair value method for all awards, net of related tax effects

     (1,568 )     (1,659 )     (3,147 )     (3,370 )
    


 


 


 


Pro forma net income

   $ 17,214     $ 43,754     $ 50,903     $ 118,876  
    


 


 


 


Earnings per share:

                                

Basic, as reported

   $ 0.34     $ 0.88     $ 1.02     $ 2.41  

Basic, pro forma

   $ 0.34     $ 0.88     $ 1.01     $ 2.40  

Diluted, as reported

   $ 0.33     $ 0.86     $ 1.00     $ 2.35  

Diluted, pro forma

   $ 0.33     $ 0.86     $ 0.99     $ 2.34  

 

5. REAL ESTATE INVESTMENT TRUST (REIT) - LEGAL AND TAX CONVERSION

 

The Company converted to a Real Estate Investment Trust (REIT) on January 1, 2004. The Company is generally not required to pay federal income taxes on its U.S. timber harvest operations and other REIT qualifying activities contingent upon meeting applicable distribution, income, asset, shareholder and other tests. The REIT-qualifying operations are conducted primarily by the Company’s wholly-owned subsidiary, Rayonier Forest Resources, L.P. (RFR). Other non-REIT qualifying and foreign operations, which will continue to pay corporate-level income tax, have been transferred to Rayonier TRS Holdings Inc., a wholly-owned subsidiary of Rayonier Inc. Rayonier TRS Holdings Inc. and its subsidiaries are sometimes referred to collectively as the “taxable REIT subsidiaries” (TRS). These operations include the Company’s Performance Fibers, New Zealand timber, and Wood Products businesses, as well as the Company’s Higher and Better Use (HBU) real estate sales activities. REIT conversion costs totaled $5 million for the six months ended June 30, 2004.

 

6. MEDIUM-DENSITY FIBERBOARD BUSINESS - HELD FOR SALE

 

On June 28, 2005, the Company’s Board of Directors approved a plan to sell its Medium-Density Fiberboard (MDF) business located in New Zealand. In accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, the Company recorded an after-tax loss of $24.1 million to adjust the MDF assets to fair market value less cost to sell. MDF’s operating results have been segregated from continuing operations in the Condensed Consolidated Statements of Income and Comprehensive Income and reported as discontinued operations for all periods presented and the assets and liabilities associated with the MDF facility have been classified as “Assets Held for Sale” and “Liabilities Associated with Assets Held for Sale” in the Condensed Consolidated Balance Sheets at June 30, 2005 and December 31, 2004. The MDF operations and associated assets were previously reported in the Company’s Wood Products segment.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Operating results of the discontinued operation are summarized below:

 

     Three Months Ended
June 30,


    Six Months Ended
June 30,


 
     2005

    2004

    2005

    2004

 

Sales

   $ 11,461     $ 10,267     $ 22,851     $ 20,150  

Operating loss, including impairment loss

   $ (34,562 )   $ (988 )   $ (35,409 )   $ (1,551 )

Impairment loss, net of income tax benefit of $9,136

   $ (24,102 )   $ —       $ (24,102 )   $ —    

Net loss from discontinued operations

   $ (24,699 )   $ (1,076 )   $ (25,080 )   $ (1,732 )

 

The Consolidated Balance Sheets include assets and liabilities of discontinued operations as follows:

 

     June 30,
2005


   December 31,
2004


 

Assets

               

Accounts receivable, net

   $ 3,076    $ 3,993  

Inventory

     8,156      8,202  

Other current assets

     6,933      (3,692 )

Property and equipment, net

     29,857      66,203  

Other assets

     2,417      2,542  
    

  


Total assets held for sale

   $ 50,439    $ 77,248  
    

  


Liabilities

               

Accounts payable

     2,158      3,775  

Other current liabilities

     1,754      1,153  
    

  


Total liabilities associated with assets held for sale

   $ 3,912    $ 4,928  
    

  


 

7. INCOME TAXES

 

As a REIT, if certain requirements are met, only the taxable REIT subsidiaries are subject to corporate income taxes. However, the Company is subject to corporate taxes on built-in gains (the excess of fair market value over tax basis at January 1, 2004) on taxable sales of property within the REIT during the first ten years following the election to be taxed as a REIT. In accordance with SFAS No. 109, Accounting for Income Taxes, the Company estimated the amount of timberland that will be sold within the ten year built-in gain period and retained a deferred tax liability for the expected income tax on such built-in gains. All deferred tax liabilities and assets related to taxable REIT subsidiaries were retained. The remaining deferred tax liability of $78 million resulting from U.S. timberland temporary differences was reversed in the first quarter of 2004 and recorded as an income tax benefit. In addition, as a REIT, the Company can be subject to a 100 percent tax on the gain from entering into prohibited transactions. The Company believes it did not engage in any prohibited transactions during the three and six months ended June 30, 2005 and during 2004.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Under current law, the built-in gains tax from the sale of REIT property can be eliminated if sales proceeds from relinquished properties are reinvested in similar property within required time periods as outlined in Internal Revenue Code (IRC) Section 1031 regarding like-kind exchanges (LKE), so long as the replacement property is owned at least until expiration of the ten-year built-in gain period (which began on January 1, 2004) or exchanged for other property. However, this does not restrict the Company’s ability to sell timber on a pay-as-cut basis from such replacement property during the ten-year built-in gain period. During the six months ended June 30, 2005, the Company has completed LKE transactions for $6.7 million of its real estate sales which will result in tax benefits of $1.8 million, $0.9 million of which has been recognized to date. No LKE tax benefits were recorded during the first six months of 2004.

 

Prior to March 31, 2004, the Company did not provide for taxes on approximately $123 million of undistributed foreign earnings as it intended to reinvest such earnings overseas in the future. Following the conversion to a REIT, this strategy was reevaluated with a greater likelihood of most future investments being made in U.S. timberlands. Accordingly, in 2004, the Company recognized $33.9 million of tax expense on undistributed foreign earnings that it expects will ultimately be repatriated. Since repatriation has not occurred, the tax payable fluctuates due to exchange rate changes and in the second quarter of 2005, the Company recorded a $2.5 million tax benefit which included the reversal of $1.1 million of tax expense recorded in the first quarter. The Company has not recognized tax expense of approximately $5 million related to $20 million of undistributed foreign earnings intended to remain permanently reinvested overseas.

 

On October 22, 2004, the American Jobs Creation Act (the AJCA) was signed into law. The AJCA includes a deduction of 85 percent of certain foreign earnings that are repatriated, as defined in the AJCA. In 2005, the Company may elect to repatriate qualifying earnings approximating $157 million (based on a .6955 exchange rate at June 30, 2005). The Company has started an evaluation of the effects of the Act’s provisions on repatriation; however, the Company may not be able to complete this evaluation until after Congress passes the proposed technical corrections bill related to the repatriation provisions and/or the Treasury Department provides additional clarifying language. The Company expects to complete its evaluation of the effects of the repatriation provision in the third quarter of 2005.

 

Prior to filing the Company’s first quarter 2005 Form 10-Q, Rayonier executed a settlement agreement with the Internal Revenue Service (IRS) regarding a disputed issue for its 1996 and 1997 taxable years. The Company reversed the final $9.5 million of a tax reserve previously established for this issue which was required to be recorded in the first quarter.

 

In June 2005, Rayonier reached an agreement with the IRS regarding disputed issues for its 1998 and 1999 taxable years, resulting in the reversal in the second quarter of 2005 of a $7.2 million reserve previously established for these issues. The Company expects cash refunds of approximately $3 million for tax deposits previously paid on these issues.

 

The Company has other matters under review by various taxing authorities, including the IRS. The Company believes its positions on these matters as well as others, including some for which a Notice of Proposed Adjustment has been received, are technically sound and its tax reserves at June 30, 2005 adequately reflect the probable resolution regarding potential adjustments by the taxing authorities. Nevertheless, it is reasonably possible that the final resolution of these matters could result in an additional tax liability of up to $8 million above established reserves.

 

8. RESTRICTED CASH - LIKE-KIND EXCHANGES

 

The Company continues to pursue additional LKE opportunities. The proceeds from real estate sales must be deposited with a third party Section 1031 intermediary in order to qualify for LKE treatment if a suitable replacement property is acquired. As of June 30 2005, and December 31, 2004, the Company had $4.2 million and $2.2 million, respectively, of proceeds from real estate sales classified as restricted cash in “Other Assets”.

 

In the event that the LKE purchases are not completed, the proceeds will be returned and reclassified as available cash after 180 days. At June 30, 2005, and December 31, 2004, the Company had $15.7 million and $3.5 million, respectively, deposited with a Section 1031 intermediary recorded in “Other Current Assets” from real estate sales that were not matched with LKE purchases, which will be reclassified to “Cash and Cash Equivalents” in the third quarter of 2005.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

9. SHAREHOLDERS’ EQUITY

 

An analysis of shareholders’ equity for the six months ended June 30, 2005 and the year ended December 31, 2004 is shown below.

 

     Common Shares

   Retained
Earnings


    Accumulated
Other
Comprehensive
Income/(Loss)


    Shareholders’
Equity


 
   Shares

   Amount

      

(Share and per share amounts not in thousands)

      

Balance, January 1, 2004

   49,018,316    $ 364,810    $ 355,956     $ (9,660 )   $ 711,106  

Net income

                 156,901               156,901  

Dividends ($2.24 per share)

                 (111,378 )             (111,378 )

Issuance of shares under incentive stock plans

   959,237      24,323                      24,323  

Unrealized loss on hedged transactions

                         (338 )     (338 )

Minimum pension liability adjustments

                         (217 )     (217 )

Tax benefit on exercise of stock options

          4,380                      4,380  

Foreign currency translation adjustment

                         11,611       11,611  
    
  

  


 


 


Balance, December 31, 2004

   49,977,553      393,513      401,479       1,396       796,388  

Net income

                 51,335               51,335  

Dividends ($1.24 per share)

                 (62,338 )             (62,338 )

Issuance of shares under incentive stock plans

   461,808      10,791                      10,791  

Unrealized loss on hedged transactions

                         (410 )     (410 )

Tax benefit on exercise of stock options

          2,232                      2,232  

Foreign currency translation adjustment

                         (656 )     (656 )
    
  

  


 


 


Balance, June 30, 2005

   50,439,361    $ 406,536    $ 390,476     $ 330     $ 797,342  
    
  

  


 


 


 

10. SEGMENT INFORMATION

 

Rayonier operates in three reportable business segments as defined by SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information: Timber and Real Estate, Performance Fibers and Wood Products. The Company’s remaining operations are combined and reported in a category called “Other Operations” as permitted by SFAS No. 131.

 

In June 2005, the Company’s MDF business was classified as held for sale and its operations are shown as discontinued operations (see Note 6, Medium-Density Fiberboard Business – Held for Sale). These operations were previously included in the Wood Products segment. The Wood Products segment amounts shown below have been restated to exclude the MDF business.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Total assets, sales, operating income (loss) and depreciation, depletion and amortization by segment including corporate and dispositions were as follows:

 

     June 30,
2005


   December 31,
2004


ASSETS

             

Timber and Real Estate

   $ 1,147,705    $ 1,146,795

Performance Fibers

     478,208      489,383

Wood Products

     46,913      44,121

Other Operations

     29,552      29,936

Corporate

     176,302      136,965

Assets Held for Sale (Note 6)

     50,439      77,248

Dispositions

     5,346      5,239
    

  

TOTAL

   $ 1,934,465    $ 1,929,687
    

  

 

     Three Months Ended June 30,

    Six Months Ended June 30,

 
     2005

    2004

    2005

    2004

 

SALES

                                

Timber and Real Estate

   $ 69,223     $ 89,728     $ 144,736     $ 176,091  

Performance Fibers

     153,283       152,407       296,227       285,333  

Wood Products

     36,348       34,455       66,896       62,115  

Other Operations

     31,504       50,315       57,790       87,220  

Intersegment Eliminations

     (71 )     (272 )     (390 )     (296 )
    


 


 


 


TOTAL

   $ 290,287     $ 326,633     $ 565,259     $ 610,463  
    


 


 


 


OPERATING INCOME (LOSS)

                                

Timber and Real Estate

   $ 33,792     $ 55,071     $ 72,812     $ 101,608  

Performance Fibers

     18,505       18,370       30,886       24,461  

Wood Products

     5,781       6,077       9,031       7,331  

Other Operations

     (382 )     1,946       (196 )     4,248  

Corporate and other

     (8,794 )     (10,240 )     (16,324 )     (23,373 )
    


 


 


 


TOTAL

   $ 48,902     $ 71,224     $ 96,209     $ 114,275  
    


 


 


 


DEPRECIATION, DEPLETION AND AMORTIZATION

                                

Timber and Real Estate

   $ 15,499     $ 17,170     $ 33,299     $ 32,320  

Performance Fibers

     18,653       20,509       34,635       38,722  

Wood Products

     1,837       2,044       3,584       3,786  

Other Operations

     156       139       306       266  

Corporate and other

     87       89       174       162  
    


 


 


 


TOTAL

   $ 36,232     $ 39,951     $ 71,998     $ 75,256  
    


 


 


 


 

Operating income (loss), as stated in the preceding tables and as presented in the Condensed Consolidated Statements of Income and Comprehensive Income, is equal to Segment income (loss). The income (loss) items below “Operating income” in the Condensed Consolidated Statements of Income and Comprehensive Income are not allocated to segments. These items, which include interest (expense) income, miscellaneous income (expense) and income tax (expense) benefit are not considered by Company management to be part of segment operations.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

11. FINANCIAL INSTRUMENTS

 

Foreign Currency Forward Contracts

 

In the Company’s Condensed Consolidated Statements of Income and Comprehensive Income for the three and six months ended June 30, 2005, gains of approximately $0.5 million and $0.8 million, respectively, were recorded on foreign currency contracts that matured, plus the time value changes for outstanding contracts. The Company recorded gains of approximately $0.4 million and $1.2 million for the three and six months ended June 30, 2004, respectively. At December 31, 2004, the Company also had an unrealized mark-to-market after tax gain of approximately $0.4 million in “Accumulated Other Comprehensive Income (Loss)” (AOCI) in the Consolidated Balance Sheet. There were no outstanding foreign currency contracts as of June 30, 2005.

 

Interest Rate Swap Agreements

 

In April 2003, RFR entered into an interest rate swap on $40 million of 8.288 percent fixed rate notes payable maturing on December 31, 2007. The swap converts interest payments from the fixed rate to six month LIBOR plus 4.99 percent and qualifies as a fair value hedge under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. As such, the net effect from the interest rate swap is recorded as interest expense. The swap agreement settles every June 30 and December 31, until maturity. During both the three and six months ended June 30, 2005, this swap agreement reduced the Company’s interest expense by $0.1 million. Based upon current interest rates for similar transactions, the fair value of the interest rate swap agreement resulted in a liability of approximately $0.6 million and a corresponding decrease in debt at June 30, 2005.

 

In April 2004, RFR entered into an interest rate swap on $50 million of 8.288 percent fixed rate notes payable maturing on December 31, 2007. The swap converts interest payments from the fixed rate to a six month LIBOR plus 4.7825 percent rate and qualifies as a fair value hedge under SFAS No. 133. As such, the net effect of the interest rate swap is recorded in interest expense. The swap agreement settles every June 30 and December 31, until maturity. During the three and six months ended June 30, 2005, this swap agreement reduced the Company’s interest expense by $0.1 million and $0.2 million, respectively. Based upon current interest rates for similar transactions, the fair value of the interest rate swap agreement resulted in a liability of approximately $0.7 million and a corresponding decrease in debt at June 30, 2005.

 

Commodity Swap Agreements

 

The Company periodically enters into commodity forward contracts to fix some of its fuel oil costs at its Performance Fibers mills. The Company’s fuel oil contracts do not qualify for hedge accounting under SFAS No. 133 and instead are required to be marked-to-market. During the three and six months ended June 30, 2005, the Company’s realized gain on fuel oil forward contracts that matured was $0.9 million and $1.0 million, respectively. The realized gain recorded on fuel oil forward contracts maturing during both the three and six months ended June 30, 2004 was $0.4 million. The mark-to-market valuation of outstanding fuel oil forward contracts at June 30, 2005 and December 31, 2004 resulted in an asset of $2.0 million and a liability of $0.1 million, respectively. The mark-to-market adjustments are recorded in “Other Operating Income/Expense.”

 

A summary of outstanding fuel oil forward contracts as of June 30, 2005 is shown below:

 

Volume (barrels)


   Average price
per barrel


   Maturity

   Percentage of
Estimated
Consumption


 

115,000

   $ 28.83    3rd quarter 2005    66 %

110,000

   $ 35.12    4th quarter 2005    51 %

25,000

   $ 38.25    1st quarter 2006    12 %

25,000

   $ 38.35    2nd quarter 2006    16 %

30,000

   $ 38.30    3rd quarter 2006    19 %

 

During the three and six months ended June 30, 2005, the Company realized a $22 thousand gain and a $0.1 million loss on natural gas forward contracts that matured, respectively. The mark-to-market valuation of outstanding natural gas contracts at June 30, 2005 and December 31, 2004 resulted in an asset of $0.2 million and a liability of $0.2 million, respectively. The mark-to-market adjustments are recorded in “Other Operating Income/Expense.”

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Below is a summary of outstanding natural gas forward contracts as of June 30, 2005:

 

Volume (Decatherms)


   Average price
per Decatherm


  

Maturity


   Percentage of Estimated
Quarterly Consumption


 
175,000    $ 6.65   

3rd quarter 2005

   74 %
100,000    $ 7.06   

4th quarter 2005

   35 %
30,000    $ 7.96   

1st quarter 2006

   14 %

 

12. GUARANTEES

 

The Company provides financial guarantees as required by creditors, insurance programs and foreign governmental agencies. As of June 30, 2005, the following financial guarantees were outstanding:

 

     Maximum
Potential
Payment


   Carrying
Amount of
Liability


Standby letters of credit (1)

   $ 76,948    $ 61,410

Guarantees (2) and (3)

     130,627      125,043

Surety bonds (4)

     10,633      2,070
    

  

Total

   $ 218,208    $ 188,523
    

  

 

(1) Approximately $62 million of the standby letters of credit serve as credit support for industrial revenue bonds. The remaining letters of credit support obligations under various insurance related agreements, primarily workers’ compensation and pollution liability policy requirements. These letters of credit expire at various dates during 2005 and 2006 and are typically rolled over as required. See also Note 2, Subsequent Event.

 

(2) In conjunction with the sale of the New Zealand East Coast timber operations in 2002, the Company guaranteed five years of Crown Forest license obligations. In late 2003, the buyer defaulted on its loan payments to its creditors and went into receivership with the 2004 obligation paid by the receiver. The property was then re-sold. The new owner is the primary obligor and has posted a bank performance bond with the New Zealand government. If the new owner fails to pay the obligations, the New Zealand government will demand payment from the owner’s bank pursuant to the bond. The Company would have to perform under the guarantee and seek legal redress from the owner if the owner’s bank defaulted on the bond. The Company expects the owner’s bond to be sufficient to cover the license obligations. As of June 30, 2005, two payments remained outstanding, estimated at $1.5 million per year. This guarantee expires in 2007.

 

In 2004, the Company sold approximately 15,000 acres of timberland in a single transaction for approximately $25 million. As payment for this property a 15-year installment note was received from the buyer, with a fixed interest rate of 5.17 percent. In addition, the buyer delivered an irrevocable letter of credit from a major banking institution that secures all payments of principal and interest under the installment note. The Company monetized the note by contributing the note and the letter of credit to a bankruptcy-remote limited liability subsidiary that meets the requirements of a qualified special purpose entity (QSPE) as defined by SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. As such, the QSPE is not consolidated in the Company’s financial statements. Using the installment note and the letter of credit as collateral, the QSPE issued $22.5 million of 15-year Senior Secured Notes with a fixed interest rate of 5 percent and remitted cash of $22.5 million to the Company. At closing the Company had a retained interest of $2.5 million in the QSPE. In conjunction with this timberland sale and note monetization, the Company issued a make-whole agreement pursuant to which it guaranteed $2.5 million of obligations of the QSPE. At June 30, 2005, the Company had a liability of $43 thousand to reflect the fair market value of its obligation to perform under the make-whole agreement.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

(3) In conjunction with the Company’s $250 million revolving credit facility, Rayonier guarantees the borrowings of RFR and TRS. Additionally, TRS guarantees the borrowings of Rayonier Inc. At June 30, 2005, TRS had $125 million of debt outstanding on the facility that is guaranteed by Rayonier.

 

(4) Rayonier has issued surety bonds primarily to secure timber in the State of Washington and to provide collateral for the Company’s workers’ compensation self-insurance program in that state. These surety bonds expire at various dates during 2005 and 2006 and are renewed as required. In 1996, the Company was required to issue a bond to cover future potential closure costs for the MDF plant in New Zealand.

 

13. CONTINGENCIES

 

From time to time, Rayonier may become liable with respect to pending and threatened litigation and environmental and other matters. The following updates or repeats commentary included in the 2004 Annual Report on Form 10-K.

 

Legal Proceedings

 

The Company is involved in various legal actions, including environmental matters that are discussed more fully in Note 14-Reserves for Dispositions and Discontinued Operations. While the ultimate results of these legal actions and related claims cannot be determined, the Company does not expect that they will have a material adverse effect on the Company’s consolidated financial position or results of operations.

 

Between 1985 and 1995, Southern Wood Piedmont Company (SWP, a wholly owned subsidiary of the Company) sent contaminated soil excavated in connection with the cleanup of various closed wood processing sites to a third-party processor in Louisiana for recycling. The processing facility closed in 1995 and is the subject of a variety of environmental related charges and a lawsuit brought by the U.S. Department of Justice (DOJ) and the State of Louisiana, through its Department of Environmental Quality (LDEQ), in United States District Court for the Western District of Louisiana (the Court) against the owner of the processing facility. Also in dispute is disposal liability for approximately 150,000 tons of recycled material from sites operated by SWP that are still owned and retained by the processor. SWP, DOJ and LDEQ have been engaged in discussions regarding a settlement of this matter. On July 14, 2005 DOJ filed a motion to dismiss SWP’s Amended Complaint in Intervention in this case and, in the event the SWP’s complaint was not dismissed by the Court, DOJ filed an answer to the complaint. DOJ also asked the Court for leave to file a counterclaim against SWP and the Company, which would assert claims for cost recovery under the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (CERCLA) in respect of the investigation and remediation of the sites owned by the third party processor. Trial in this matter is currently scheduled for November 2005. If no settlement is reached in this matter, the Company will vigorously defend itself. The Company believes that reserves at June 30, 2005 adequately reflect the probable costs to be incurred upon the ultimate resolution of the dispute.

 

The Company received an April 22, 2005 letter from the Environmental Protection Division of the Georgia Department of Natural Resources, which identified it as a responsible party under the Georgia Hazardous Site Response Act for potential polychlorinated biphenyl (PCB) contamination allegedly originating from a third party-owned site in Jesup, Georgia. Approximately 60 other parties received similar letters. It is unclear at this time as to the nature, extent or scope of any potential contamination from the site. The Company is currently unable to estimate the amount or probability of any potential exposure.

 

Environmental Matters

 

Rayonier is subject to stringent environmental laws and regulations concerning air emissions, water discharges and waste handling and disposal. Such environmental laws and regulations include the Federal Clean Air Act, the Clean Water Act, the Resource Conservation and Recovery Act, and CERCLA. Management closely monitors its environmental responsibilities, and similar state laws and regulations, and believes that the Company is in substantial compliance with current environmental requirements. It is the opinion of management that substantial expenditures over the next ten years will be required in the area of environmental compliance. During 2005 and 2006, Rayonier expects spending on environmental capital projects to be approximately $6 million per year, primarily related to Cluster Rule compliance as discussed below.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

The EPA finalized its Cluster Rules governing air emissions in 1998 but, due to the specialty nature of Rayonier’s Performance Fibers products and operations, the agency postponed finalizing water discharge rules and certain air emissions rules governing the Company’s two Performance Fibers dissolving pulp mills and two other similar mills. In late 2003, EPA informed the Company that it was delegating its Cluster Rule rulemaking authority for these four mills to the environmental agencies of the respective states. Rayonier will continue to work with the EPA and the applicable state environmental authorities to establish such rules for its mills, but the timing and costs associated with such rulemaking are uncertain. In the opinion of management, capital costs to be incurred over the next five years (2005-2009) associated with Cluster Rule compliance and other environmental regulations are not expected to exceed $25 million at the Performance Fibers mills. Such capital expenditures are not expected to cause the Company’s 2005 total annual spending to exceed $90 million to $100 million, excluding strategic investments.

 

Federal, state and local laws and regulations intended to protect threatened and endangered species, as well as wetlands and waterways, limit and may in certain cases prevent timber harvesting, road building and other activities on private lands, including a portion of the Company’s timberlands. Over the past several years, the harvest of timber from the Company’s timberlands in the State of Washington has been restricted as a result of the listing of the northern spotted owl, the marbled murrelet and several species of salmon and trout as threatened species under the Endangered Species Act. In 1999, the Washington timber industry and federal, state, local and tribal governments, entered into an agreement, known as the Forests and Fish Report. The Washington Forest Practices Board has adopted rules implementing the Forests and Fish Report that further restrict timber harvesting within buffers along streams with fish habitat. All of these restrictions have caused Rayonier to restructure and reschedule some harvest plans and have reduced the total acreage and volume of timber available for harvest. For the most part, however, these restrictions had been anticipated and the Company expects to sustain past harvest levels in the foreseeable future.

 

14. RESERVES FOR DISPOSITIONS AND DISCONTINUED OPERATIONS

 

The Company’s dispositions and discontinued operations include its Port Angeles, WA mill, which was closed on February 28, 1997; its wholly owned subsidiary, SWP, which owns 10 former wood processing sites and ceased operations in 1989; its Eastern Research Division (ERD), which ceased operations in 1981; and other miscellaneous assets held for disposition. SWP has been designated a potentially responsible party (PRP), or has had other claims made against it, under the U.S. Comprehensive Environmental Response, Compensation and Liability Act and/or comparable state statutes at various sites where the Company no longer operates.

 

During the three and six months ended June 30, 2005, expenditures of $3.1 million and $4.8 million for monitoring and remediation activities were charged to the reserves, respectively. An analysis of activity in the reserves for dispositions and discontinued operations for the six months ended June 30, 2005 and the year ended December 31, 2004, is as follows:

 

     June 30,
2005


    December 31,
2004


 

Balance, January 1

   $ 146,054     $ 153,625  

Expenditures charged to reserves

     (4,804 )     (7,801 )

Additions to reserve

     —         460  

Reclassifications and other adjustments

     —         (230 )
    


 


Balance, end of period

     141,250       146,054  

Less: Current portion

     (12,711 )     (12,126 )
    


 


Non-current portion

   $ 128,539     $ 133,928  
    


 


 

Rayonier has identified three SWP sites (Augusta, GA, Spartanburg, SC, and East Point, GA) and Port Angeles, WA as individually material and separate disclosure was presented in the Company’s 2004 Annual Report on Form 10-K. There have not been any significant changes in these sites’ reserve requirements for the six months ended June 30, 2005, and therefore separate disclosure is not presented herein. For an analysis of the reserve activity for the two years ended December 31, 2004 and a brief description of these individually material sites, see the Company’s 2004 Annual Report on Form 10-K, Note 15 to Consolidated Financial Statements.

 

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Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

In addition, the Company is exposed to the risk of reasonably possible additional losses in excess of the established reserves for PRP sites. As of June 30, 2005, this amount is estimated at $4 million and arises from uncertainty over the effectiveness of treatments, additional contamination that may be discovered, and changes in laws, regulations and administrative interpretations and in environmental remediation technology. Excluded from this estimate are two sites for which the Company is not able to determine reasonably possible additional losses. Evaluation of these sites is in preliminary stages.

 

Rayonier currently estimates that expenditures for environmental remediation, monitoring and other costs for all dispositions and discontinued operations in 2005 and 2006 will be approximately $12 million per year. Such costs will be charged against Rayonier’s reserves for dispositions and discontinued operations, which include environmental monitoring and remediation costs. The Company believes established reserves are sufficient for costs expected to be incurred over the next 20 years with respect to its dispositions and discontinued operations. Remedial actions for these sites vary, but can include, among other remedies, removal of contaminated soils, groundwater recovery and treatment systems, and contamination source control.

 

The reliability and precision of cost estimates for these sites and the amount of actual future environmental costs can be impacted by various factors including, but not limited to, the necessity for additional or different investigation or remediation, changes in environmental remediation technologies, the discovery and extent of migration of any contamination off-site, remedial remedy selection, and the outcome of negotiations with federal and state agencies. Additionally, the potential for “brownfields” (environmentally impacted site considered for re-development) treatment of all or a portion of a site could accelerate expenditures, as well as impact the amount and/or type of remediation required, as could new laws, regulations and administrative actions. Based on information currently available, the Company does not believe that any future changes in estimates, if necessary, would materially affect its consolidated financial position or results of operations.

 

As of June 30, 2005 and December 31, 2004, Rayonier had $8 million of receivables from insurance claims, net of reserves for uncollectibility, included in “Other Assets.” Such receivables represent the Company’s claim for reimbursements in connection with property damage settlements relating to SWP’s wood preserving and ERD discontinued operations.

 

In respect of such claim, on May 2, 2005 the Company was awarded $16.2 million in connection with arbitration proceedings against ITT Industries, Inc. (as successor-in-interest to Rayonier’s former parent ITT Corporation, or “ITT”) over the distribution of environmental litigation insurance recoveries. On May 3, 2005, ITT filed a petition to vacate the award in the U.S. District Court for the Southern District of New York. On July 21, 2005, the court denied ITT’s motion and confirmed the award. It is unclear whether ITT will appeal this decision, and the timing and amount of any ultimate recovery are uncertain at this time.

 

16


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

15. EMPLOYEE BENEFIT PLANS

 

     Pension

    Postretirement

     Three Months Ended
June 30,


    Three Months Ended
June 30,


     2005

    2004

    2005

   2004

Components of Net Periodic Benefit Cost

                             

Service cost

   $ 1,825     $ 1,681     $ 152    $ 173

Interest cost

     3,250       3,147       540      482

Expected return on plan assets

     (3,550 )     (3,441 )     —        —  

Amortization of prior service cost

     350       392       71      77

Amortization of losses

     1,125       781       264      189
    


 


 

  

Net periodic benefit cost

   $ 3,000     $ 2,560     $ 1,027    $ 921
    


 


 

  

     Pension

    Postretirement

     Six Months Ended
June 30,


    Six Months Ended
June 30,


     2005

    2004

    2005

   2004

Components of Net Periodic Benefit Cost

                             

Service cost

   $ 3,650     $ 3,434     $ 303    $ 346

Interest cost

     6,500       6,102       1,077      964

Expected return on plan assets

     (7,100 )     (6,417 )     —        —  

Amortization of prior service cost

     700       752       141      154

Amortization of losses

     2,250       1,572       526      378

Amortization of transition asset

     —         (1 )     —        —  
    


 


 

  

Net periodic benefit cost

   $ 6,000     $ 5,442     $ 2,047    $ 1,842
    


 


 

  

 

The Company does not have any required pension plan contributions for 2005; however, discretionary contributions ranging from $11 million to $26 million are expected this year.

 

In the first quarter of 2005, the Company’s actuary determined that the prescription drug benefit provided by the Company’s postretirement plans is considered to be actuarially equivalent to the benefit provided under the Medicare Prescription Drug, Improvement and Modernization Act of 2003. As such, FASB Staff Position 106-2 was retroactively applied to the date of enactment. As a result, the Company’s 2005 net periodic postretirement medical benefits cost decreased by a de minimus amount while its accumulated projected benefit obligation decreased by $0.3 million.

 

16. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

 

Accumulated Other Comprehensive Income (Loss) was comprised of the following as of June 30, 2005 and December 31, 2004:

 

     June 30, 2005

    December 31, 2004

 

Foreign currency translation adjustments

   $ 33,114     $ 33,770  

Unrealized gains on hedged transactions

     —         410  

Minimum pension liability adjustments

     (32,784 )     (32,784 )
    


 


Total

   $ 330     $ 1,396  
    


 


 

During the six months ended June 30, 2005, the decrease in net foreign currency translation adjustments was due to the change in the New Zealand to U.S. dollar exchange rate.

 

17


Table of Contents
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Critical Accounting Policies and Use of Estimates

 

The preparation of Rayonier’s consolidated financial statements requires the Company to make estimates, assumptions and judgments that affect the Company’s assets, liabilities, revenues and expenses and disclosure of contingent assets and liabilities. The Company bases these estimates and assumptions on historical data and trends, current fact patterns, expectations and other sources of information it believes are reasonable. Actual results may differ from these estimates under different conditions. For a full description of the Company’s critical accounting policies, see Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations in the 2004 Annual Report on Form 10-K.

 

Segment Information

 

Rayonier operates in three reportable business segments as defined by SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information: Timber and Real Estate, Performance Fibers, and Wood Products. The Timber and Real Estate segment’s strategies include buying, selling and managing timber and timberlands, as well as selling higher and better use (HBU) real estate to be used for conservation, development and large tract preservation. For presentation purposes, the Company classifies its sales activities into Timber sales and Real Estate sales. Timber sales include all activities that relate to the harvesting of timber, while Real Estate sales include the sale of all land, including those designated for HBU. The Performance Fibers segment includes two major product lines, Cellulose Specialties and Absorbent Materials. The Wood Products segment solely includes the Company’s lumber operations (previously, the Company’s Medium Density Fiberboard (MDF) operations were included). The Company’s remaining operations include purchasing, harvesting and selling timber acquired from third parties (log trading) and trading wood products. As permitted by SFAS No. 131, these operations are combined and reported in an “Other” category. Sales between operating segments are made based on fair market value and intercompany profit or loss is eliminated in consolidation. The Company evaluates financial performance based on the operating income of the segments.

 

The Company has committed to a plan to sell its MDF business in New Zealand which requires discontinued operations treatment. As such, the Wood Products segment has been restated to exclude the operations and assets of MDF in all periods presented. See Note 6 – Medium-Density Fiberboard Business – Held for Sale to Condensed Consolidated Financial Statements for additional information.

 

Operating income (loss), as stated in the following table and as presented in the Condensed Consolidated Statements of Income and Comprehensive Income, is equal to segment income (loss). The income (loss) items below “Operating income” in the Condensed Consolidated Statements of Income and Comprehensive Income are not allocated to segments. These items, which include interest, miscellaneous income (expense) and income tax (expense) benefit, are not considered by Company management to be part of segment operations.

 

18


Table of Contents

Results of Operations, Three and Six Months Ended June 30, 2005 Compared to Three and Six Months Ended June 30, 2004.

 

Sales of $290 million and $565 million and operating income of $49 million and $96 million for the three and six months ended June 30, 2005, respectively, decreased over the prior year periods due primarily to the absence of a $26 million sale of timber lease rights that occurred in April 2004 and contributed $24 million in operating income to that year’s results, partly offset by improved performance fibers and timber sales and operating income in 2005. As a result, income from continuing operations, net income, and earnings per share for the three and six months ended June 30, 2005 were also below the same prior year periods. Income tax benefits from continuing operations for the three and six months ended June 30, 2005 were $4.5 million and $3.8 million compared to income tax expense of $14.8 million and an income tax benefit of $28.7 million for the three and six months ended June 30, 2004. The income tax benefit for the six months ended 2005 included $16.7 million of tax benefits from favorable IRS audit settlements while the six months ended June 30, 2004 included a net tax benefit of $49.7 million associated with two REIT conversion related items. Net income for the six months ended June 30, 2005 and 2004, excluding the $16.7 million tax benefits from favorable IRS settlements in 2005, and the $49.7 million tax benefit from the REIT conversion in 2004, was $34.6 million and $69.6 million, respectively.

 

Financial Information (in millions)

 

     Three Months Ended
June 30,


    Six Months Ended
June 30,


 
     2005

    2004

    2005

    2004

 

Sales

                                

Timber and Real Estate

                                

Timber

   $ 54.6     $ 49.3     $ 106.5     $ 102.4  

Real Estate

     14.6       40.4       38.2       73.7  
    


 


 


 


Total Timber and Real Estate

     69.2       89.7       144.7       176.1  
    


 


 


 


Performance Fibers

                                

Cellulose Specialties

     108.1       107.2       209.1       200.3  

Absorbent Materials

     45.2       45.2       87.1       85.0  
    


 


 


 


Total Performance Fibers

     153.3       152.4       296.2       285.3  
    


 


 


 


Wood Products

     36.3       34.5       66.9       62.1  

Other operations

     31.5       50.3       57.8       87.2  

Intersegment Eliminations

     —         (0.3 )     (0.4 )     (0.3 )
    


 


 


 


Total Sales

   $ 290.3     $ 326.6     $ 565.2     $ 610.4  
    


 


 


 


Operating Income (Loss)

                                

Timber and Real Estate

                                

Timber

   $ 23.2     $ 20.1     $ 46.8     $ 42.9  

Real Estate

     10.6       35.0       26.0       58.7  
    


 


 


 


Total Timber and Real Estate

     33.8       55.1       72.8       101.6  
    


 


 


 


Performance Fibers

     18.5       18.4       30.9       24.5  

Wood Products

     5.8       6.1       9.0       7.3  

Other operations

     (0.4 )     1.9       (0.2 )     4.3  

Corporate and other expenses / eliminations

     (8.8 )     (10.3 )     (16.3 )     (23.4 )
    


 


 


 


Total Operating Income

     48.9       71.2       96.2       114.3  

Interest Expense

     (12.8 )     (11.9 )     (25.1 )     (23.0 )

Interest / Other Income

     1.0       0.3       1.5       1.0  

Income tax (expense) benefit

     4.5       (14.8 )     3.8       28.7  
    


 


 


 


Income from Continuing Operations

     41.6       44.8       76.4       121.0  
    


 


 


 


Discontinued Operations, Net

     (24.7 )     (1.1 )     (25.1 )     (1.7 )
    


 


 


 


Net Income

   $ 16.9     $ 43.7     $ 51.3     $ 119.3  
    


 


 


 


Diluted Earnings Per Share

   $ 0.33     $ 0.86     $ 1.00     $ 2.35  
    


 


 


 


 

19


Table of Contents

Timber and Real Estate

 

Second quarter sales declined by approximately $20 million, year over year, primarily due to the absence of a major sale of timber lease rights on approximately 5,500 acres in the second quarter of 2004.

 

In the Northwest U.S., timber prices improved in the three and six months ended June 30, 2005 due to continued strong demand from lumber mills and lower imports of Canadian timber due to a weaker U.S. dollar. Northwest volumes decreased due to the abnormally high 2004 harvest levels resulting from the deferral of fourth quarter 2003 sales contracts as a result of term revisions the Company made in preparation for its REIT conversion on January 1, 2004. In the Southeast U.S., timber prices were relatively unchanged when compared to the prior year second quarter while volumes were higher due to the third quarter 2004 timberland acquisition of 83,000 acres in Alabama. During the six months ended June 30, 2005, volumes increased slightly, while prices were lower due to the sale of salvage timber in the early part of 2005 as a result of the major hurricanes in 2004. In New Zealand, pine prices increased during the three and six months ended June 30, 2005 due to favorable foreign exchange rates, while volumes decreased slightly.

 

Sales (in millions)

 

          Changes Attributable to:

    
     2004*

   Price

    Volume

    Mix/Other*

    Foreign
Exchange


   2005

Three months ended June 30,

                                            

Timber

   $ 49.3    $ 6.1     $ (1.6 )   $ 0.2     $ 0.6    $ 54.6

Real Estate

     40.4      (8.5 )     8.7       (26.0 )     —        14.6
    

  


 


 


 

  

Total Sales

   $ 89.7    $ (2.4 )   $ 7.1     $ (25.8 )   $ 0.6    $ 69.2
    

  


 


 


 

  

Six months ended June 30,

                                            

Timber

   $ 102.4    $ 10.0     $ (6.9 )   $ 0.2     $ 0.8    $ 106.5

Real Estate

     73.7      (6.5 )     (3.0 )     (26.0 )     —        38.2
    

  


 


 


 

  

Total Sales

   $ 176.1    $ 3.5     $ (9.9 )   $ (25.8 )   $ 0.8    $ 144.7
    

  


 


 


 

  

 

Operating income for the quarter declined by $21 million due primarily to lower real estate sales offset by higher timber income primarily due to the strong prices in the Northwest U.S. The nature of real estate sales is such that year over year fluctuations may be material due to the uncertain timing of such transactions. For the six months ended June 30, operating income decreased due to the absence of the major timber lease rights sale in second quarter 2004, offset by higher timber operating income.

 

Operating Income (in millions)

 

          Changes Attributable to:

     
     2004*

   Price

    Volume

    Mix/Costs*

    Foreign
Exchange


    2005

Three months ended June 30,

                                             

Timber

   $ 20.1    $ 6.7     $ (1.8 )   $ (1.7 )   $ (0.1 )   $ 23.2

Real Estate

     35.0      (8.5 )     8.5       (24.4 )     —         10.6
    

  


 


 


 


 

Total Operating Income

   $ 55.1    $ (1.8 )   $ 6.7     $ (26.1 )   $ (0.1 )   $ 33.8
    

  


 


 


 


 

Six months ended June 30,

                                             

Timber

   $ 42.9    $ 10.8     $ (3.6 )   $ (3.0 )   $ (0.3 )   $ 46.8

Real Estate

     58.7      (6.5 )     0.5       (26.7 )     —         26.0
    

  


 


 


 


 

Total Operating Income

   $ 101.6    $ 4.3     $ (3.1 )   $ (29.7 )   $ (0.3 )   $ 72.8
    

  


 


 


 


 

 

* 2004 includes the sale of timber lease rights on approximately 5,500 acres that contributed $26 million in sales and $24 million in operating income.

 

See also Note 2, Subsequent Event.

 

20


Table of Contents

Performance Fibers

 

Sales during the second quarter 2005 were relatively unchanged compared to the prior year; however, for the six months ended June 30, sales improved 4 percent as a result of increased prices in both cellulose specialties and absorbent materials product lines.

 

Cellulose Specialties prices increased three percent in both the three and six months ended June 30, 2005, compared to the same periods in 2004 primarily as a result of strong market demand for acetate pulp. Second quarter 2005 volume decreased while year to date volumes improved due to the strong acetate market and production efficiencies realized at both the Fernandina Beach, FL and Jesup, GA mills.

 

Absorbent Materials prices increased eight percent in both the three and six months ended June 30, 2005. These increases were primarily a result of strong fluff pulp market conditions that continued from the first quarter. Volumes declined in the second quarter and six months ended 2005 primarily as a result of lower production at the Jesup, GA mill in an effort to increase production of higher value Cellulose Specialties.

 

Sales (in millions)

 

          Changes Attributable to:

    
     2004

   Price

   Volume

    Mix/Other

   2005

Three months ended June 30,

                                   

Cellulose Specialties

   $ 107.2    $ 2.9    $ (2.0 )   $ —      $ 108.1

Absorbent Materials

     45.2      3.0      (3.0 )     —        45.2
    

  

  


 

  

Total Sales

   $ 152.4    $ 5.9    $ (5.0 )   $ —      $ 153.3
    

  

  


 

  

Six months ended June 30,

                                   

Cellulose Specialties

   $ 200.3    $ 5.2    $ 3.6     $ —      $ 209.1

Absorbent Materials

     85.0      6.1      (4.0 )     —        87.1
    

  

  


 

  

Total Sales

   $ 285.3    $ 11.3    $ (0.4 )   $ —      $ 296.2
    

  

  


 

  

 

Operating income was relatively unchanged in the second quarter 2005 compared to prior year; however, operating income for the six month period improved primarily due to higher prices slightly offset by increased caustic and energy costs.

 

Operating Income (in millions)

 

          Changes Attributable to:

     
     2004

   Price

   Volume

    Mix /Other

   Costs

    2005

Three months ended June 30,

                                           
    

  

  


 

  


 

Total Operating Income

   $ 18.4    $ 5.9    $ (0.6 )   $ 0.7    $ (5.9 )   $ 18.5
    

  

  


 

  


 

Six months ended June 30,

                                           
    

  

  


 

  


 

Total Operating Income

   $ 24.5    $ 11.3    $ 0.4     $ 1.3    $ (6.6 )   $ 30.9
    

  

  


 

  


 

 

21


Table of Contents

Wood Products

 

The Company has committed to a plan to sell its MDF business in New Zealand which requires disclosure as a discontinued operation. As such, the Wood Products segment has been restated to exclude the operations and assets of MDF in all periods presented. See Note 6 – Medium-Density Fiberboard Business – Held for Sale to Condensed Consolidated Financial Statements for additional information.

 

Lumber sales increased 5 percent and 8 percent during the three and six months ended June 30, 2005, respectively, due to higher prices as strong demand from the housing market and reduced Canadian imports resulting from the weaker U.S. dollar and continuing trade tariffs. Volumes remained relatively unchanged during the second quarter and six months ended June 30, 2005.

 

Sales (in millions)

 

          Changes Attributable to:

     
   2004

   Price

   Volume

    Mix / Other

    2005

Three months ended June 30,

                                    
    

  

  


 


 

Total Sales

   $ 34.5    $ 2.2    $ (0.1 )   $ (0.3 )   $ 36.3
    

  

  


 


 

Six months ended June 30,

                                    
    

  

  


 


 

Total Sales

   $ 62.1    $ 5.5    $ (0.1 )   $ (0.6 )   $ 66.9
    

  

  


 


 

 

Operating income was relatively unchanged during the second quarter as higher lumber prices were offset by increased wood and conversion costs. For the six months ended, operating income increased as higher prices more than offset the increase in wood costs.

 

Operating Income (in millions)

 

          Changes Attributable to:

     
   2004

   Price

   Mix/Other

    Costs

    2005

Three months ended June 30,

                                    
    

  

  


 


 

Total Operating Income

   $ 6.1    $ 2.2    $ (0.8 )   $ (1.7 )   $ 5.8
    

  

  


 


 

Six months ended June 30,

                                    
    

  

  


 


 

Total Operating Income

   $ 7.3    $ 5.5    $ (0.9 )   $ (2.9 )   $ 9.0
    

  

  


 


 

 

Other Operations

 

Sales for the second quarter and six months ended 2005 declined primarily due to weaker trading activity and lower coal extractions. Other operating income decreased in both the second quarter and six months ended June 30, 2005 due to lower trading margins and coal income.

 

Corporate and Other Expenses / Eliminations

 

Corporate and other expenses of $8.8 million in the second quarter of 2005 decreased $1.5 million from the prior year quarter. The decrease is primarily due to lower incentive compensation costs of approximately $1.1 million and reduced legal fees of approximately $0.4 million. For the six months ended June 30, 2005, corporate and other expenses of $16.3 million were $7.1 million below prior year principally due to the absence of REIT conversion costs.

 

Other Income / Expense

 

Interest expense of $12.8 million in the second quarter of 2005 was $0.9 million above the comparable prior year period due to increased short term borrowings at the TRS from the purchase of real estate from RFR, and higher interest rates. For the six months ended June 30, interest expense was $25.1 million, $2.1 million above the comparable prior year period due to higher debt levels and interest rates.

 

Interest and miscellaneous income of $1.0 million in the second quarter of 2005 was $0.7 million above prior year, while the year to date amount was $0.5 million higher due to increased interest income.

 

22


Table of Contents

Provision for Income Taxes from Continuing Operations

 

The effective tax rates for the second quarter and first six months of 2005, before discrete items, decreased from 27.6 percent to 14.1 percent, and from 24.5 percent to 15.7 percent, respectively, compared to the prior year periods. The decreased rates were the result of increased tax benefits from REIT income, lower taxes on foreign operations due to foreign exchange translation and higher state tax benefits, partially offset by reduced tax benefits from U. S. export sales.

 

The Company’s overall net tax benefit of $3.8 million for the first six months of 2005 included the following three discrete adjustments:

 

  i. favorable IRS audit settlements ($9.5 million first quarter benefit, $7.2 million second quarter benefit),

 

  ii. the recognition of non-realizable New Zealand tax credits on U.S. withholding tax for prior years’ intercompany note interest ($2.9 million first quarter expense), and

 

  iii. the effect of foreign exchange rate changes on U.S. tax on undistributed foreign earnings ($1.1 million first quarter expense, $2.5 million second quarter benefit).

 

In the first six months of 2004, the Company’s overall tax benefit of $28.7 million included the following three discrete adjustments:

 

  i. a reversal of deferred taxes resulting from the REIT conversion (a $77.9 million benefit),

 

  ii. a related change in business strategy regarding repatriation of foreign earnings (a $28.2 million expense), and

 

  iii. the effect of foreign exchange rate changes on U.S. tax on undistributed foreign earnings (a $1.6 million benefit).

 

The Company’s effective tax rate is below the 35 percent U.S. statutory tax rate primarily due to tax benefits associated with becoming a REIT, under which the Company’s U.S. timberland operations are not subject to federal income taxes if applicable distribution, income, asset and shareholder tests are met, as well as LKE transactions. Partially offsetting these benefits is the loss of tax deductibility on interest expense ($4.7 million in the quarter) and corporate overhead expenses associated with REIT activities ($2.9 million in the quarter). The net tax benefit from REIT activities was $7.3 million compared to $7.7 million in the second quarter of 2004. The Company’s net tax benefit from REIT activities for the six months ended June 30, 2005 and 2004 was $13.0 million and $12.8 million, respectively. During the second quarter of 2005 the Company completed a $6.7 million like-kind exchange (LKE) which resulted in a tax benefit of $1.8 million, $0.9 million of which was recognized during the six months ended June 30, 2005. No LKE tax benefits were recorded during the six months ended June 30, 2004.

 

The following table reconciles the Company’s income tax provision at the U.S. statutory tax rate to the reported provision and effective tax rate for the three and six months ended June 30 (millions of dollars):

 

     Three months ended June 30,

 
     2005

    %

    2004

    %

 

Income tax provision from continuing operations at U.S. statutory rate

   $ (13.0 )   (35.0 )   $ (20.9 )   (35.0 )

State and local income taxes, net of federal benefit

     (0.1 )   (0.3 )     (1.0 )   (1.7 )

REIT income not subject to federal tax

     7.3     19.7       7.7     12.9  

Foreign operations, primarily rate differentials

     0.4     1.1       (3.2 )   (5.5 )

Tax benefit on U.S. export sales

     0.5     1.3       1.1     1.9  

Permanent differences

     0.1     0.2       0.3     0.5  

Tax credits and other, net

     (0.4 )   (1.1 )     (0.4 )   (0.7 )
    


 

 


 

Income tax provision from continuing operations before discrete items

     (5.2 )   (14.1 )     (16.4 )   (27.6 )

Tax benefit from IRS audit settlement

     7.2     19.4       —       —    

Foreign exchange rate change on U.S. tax from undistributed foreign earnings

     2.5     6.7       1.6     2.8  
    


 

 


 

Income tax benefit/(provision) from continuing operations as reported

   $ 4.5     12.0     $ (14.8 )   (24.8 )
    


 

 


 

 

23


Table of Contents
     Six months ended June 30,

 
     2005

    %

    2004

    %

 

Income tax provision from continuing operations at U. S. statutory rate

   $ (25.4 )   (35.0 )   $ (32.3 )   (35.0 )

State and local income taxes, net of federal benefit

     (0.5 )   (0.7 )     (1.4 )   (1.5 )

REIT income not subject to federal tax

     13.0     18.0       12.8     13.9  

Foreign operations, primarily rate differentials

     0.5     0.7       (2.9 )   (3.0 )

Tax benefit on U.S. export sales

     1.1     1.5       1.6     1.7  

Permanent differences

     0.3     0.3       0.5     0.4  

Tax credits and other, net

     (0.4 )   (0.5 )     (0.9 )   (1.0 )
    


 

 


 

Income tax provision from continuing operations before discrete items

     (11.4 )   (15.7 )     (22.6 )   (24.5 )

Tax benefits from IRS audit settlements

     16.7     23.0       —       —    

Foreign exchange rate change on U.S. tax from undistributed foreign earnings

     1.4     1.9       1.6     1.7  

Non-realizability of New Zealand tax credits on U.S. withholding tax for prior years’ intercompany note interest

     (2.9 )   (4.0 )     —       —    

Reversal of deferred tax liability-REIT conversion

     —       —         77.9     84.4  

U.S. tax on prior undistributed foreign earnings

     —       —         (28.2 )   (30.5 )
    


 

 


 

Income tax benefit from continuing operations as reported

   $ 3.8     5.2     $ 28.7     31.1  
    


 

 


 

 

Discontinued Operations

 

In June 2005, the Company’s Board of Directors authorized the sale of its MDF business located in New Zealand. The MDF operations qualify for separate discontinued operations treatment in the Company’s Consolidated Financial Statements. The Company had a net loss of $24.7 million or $0.48 per share from discontinued operations in the second quarter of 2005. This consisted of a net loss from operations of $0.6 million and a net loss of $24.1 million on the write down of MDF’s assets to net realizable value. For the six months ended June 30, 2005, the net loss from discontinued operations was $25.1 million or $0.49 per share.

 

A reconciliation of the income tax provision for discontinued operations at the U. S. statutory rate to the reported provision for income taxes follows:

 

     Three months ended June 30,

 
     2005

    %

    2004

    %

 

Income tax benefit from discontinued operations at U. S. statutory rate

   $ 12.1     35.0     $ 0.3     35.0  

State and local income taxes, net of federal benefit

     0.4     1.2       —       —    

Permanent differences related to foreign exchange rate changes

     (2.6 )   (7.7 )     (0.4 )   (43.9 )
    


 

 


 

Income tax benefit (provision) from discontinued operations as reported

   $ 9.9     28.5     $ (0.1 )   (8.9 )
    


 

 


 

 

24


Table of Contents
     Six months ended June 30,

 
     2005

    %

    2004

    %

 

Income tax benefit from discontinued operations at U. S. statutory rate

   $ 12.4     35.0     $ 0.5     35.0  

State and local income taxes, net of federal benefit

     0.4     1.2       —       —    

Permanent differences related to foreign exchange rate changes

     (2.5 )   (7.0 )     (0.7 )   (46.7 )
    


 

 


 

Income tax benefit (provision) from discontinued operations as reported

   $ 10.3     29.2     $ (0.2 )   (11.7 )
    


 

 


 

 

Outlook

 

The Company’s third quarter 2005 income from continuing operations is expected to be comparable to second quarter, excluding the tax benefit of $7.2 million (from an IRS audit settlement), due to significantly improved real estate earnings partly offset by lower results in performance fibers due to higher costs and reduced foreign exchange related tax benefits. Earnings are expected to well exceed third quarter 2004 primarily due to stronger U.S. timber prices and real estate results.

 

Liquidity and Capital Resources

 

Cash Flow

 

Cash flow provided by operating activities of $123 million for the first six months of 2005 was $35 million below the prior year period, primarily due to lower operating income and higher working capital requirements. Cash provided by operating activities was used to provide capital expenditures of $44 million and to pay dividends of $62 million, while also contributing to the June 30, 2005 ending cash balance by approximately $52 million when compared to year end. Cash used for investing activities for the six months of 2005 decreased $19 million to $46 million compared to the prior year period. The decrease was primarily due to lower restricted cash (held for possible LKE land acquisitions) partly offset by increased capital expenditures. Cash used for financing activities for the six months of 2005 decreased $21 million to $26 million compared to the prior year period. The Company’s cash dividend increased $7 million during the first six months of 2005, while short term borrowings in the TRS increased $30 million due to intercompany activity. Proceeds from the exercise of stock options decreased $2 million in the first six months of 2005 to $8 million compared to $10 million in 2004. The Company had $136 million of cash and cash equivalents at June 30, 2005, consisting of marketable securities with maturities at date of acquisition of 90 days or less, compared to $84 million at December 31, 2004.

 

At June 30, 2005, debt was $687 million, $28 million above the December 31, 2004 balance. The debt-to-capital ratio at June 30, 2005 weakened slightly to 46.3 percent from 45.3 percent at December 31, 2004, primarily due to the increase in short term borrowings during the first six months of 2005.

 

There were no pension contributions made during the first six months of 2005 compared to a $10 million discretionary contribution made in June 2004. The Company anticipates making discretionary payments ranging from $11 million to $26 million before year-end. While no assurances can be given, dividends for the fourth quarter of 2005 are expected to remain at the third quarter level of $0.62 cents per share, which was 10.7 percent above the prior year quarterly dividend. Pre-tax spending for environmental costs in 2005 is expected to be approximately $12 million. Capital expenditures for 2005, excluding any significant acquisition opportunities, are expected to total $96 million.

 

In July 2005, the Company entered into a consortium, led by RREEF Infrastructure, the global infrastructure investing arm of Deutsche Asset Management, that will purchase Rayonier’s New Zealand forest assets for approximately $184 million and certain Carter Holt Harvey forest assets for $296 million. The Company plans to invest between $101 million and $117 million in the consortium, resulting in net cash proceeds ranging from $67 million to $83 million. The sale and investment are expected to take place in the fourth quarter of 2005. See also Note 2 - Subsequent Event.

 

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Table of Contents

Liquidity Performance Indicators

 

The discussion below is presented to enhance the reader’s understanding of Rayonier’s ability to generate cash, its liquidity and its ability to satisfy rating agency and creditor requirements. This information includes two measures of financial results: Earnings from Continuing Operations before Interest, Taxes, Depreciation, Depletion and Amortization (EBITDA), and Adjusted Cash Available for Distribution (Adjusted CAD). These measures are not defined by Generally Accepted Accounting Principles (GAAP) and the discussion of EBITDA and Adjusted CAD is not intended to conflict with or change any of the GAAP disclosures. Management considers these measures to be important to estimate the enterprise and shareholder values of the Company as a whole and of its core segments, and for allocating capital resources. In addition, analysts, investors and creditors use these measures when analyzing the financial condition and cash generating ability of the Company. EBITDA is defined by the Securities and Exchange Commission; however, Adjusted CAD as defined may not be comparable to similarly titled measures reported by other companies.

 

EBITDA and Adjusted CAD have been restated to exclude the discontinued operations of New Zealand’s MDF business for all periods presented.

 

EBITDA is a non-GAAP measure of the operating cash generating capacity of the Company. For the three and six months ended June 30, 2005, EBITDA was $86.2 million and $169.7 million, $25.2 million and $20.9 million below the prior year periods, respectively. The decrease in EBITDA for both periods was primarily due to higher operating income during 2004 from higher real estate closings in the first half of the year.

 

Below is a reconciliation of Cash Provided by Operating Activities to EBITDA for the respective periods (in millions of dollars):

 

     Three Months Ended
June 30,


 
     2005

    2004

 

Cash Provided by Operating Activities of Continuing Operations

   $ 47.5     $ 74.5  

Non-cash cost basis of real estate sold

     (2.0 )     (1.3 )

Income tax (expense) benefit

     (4.5 )     14.8  

Interest expense

     12.8       12.0  

Working capital increase

     21.0       15.8  

Other balance sheet changes

     11.4       (4.4 )
    


 


EBITDA

   $ 86.2     $ 111.4  
    


 


     Six Months Ended
June 30,


 
     2005

    2004

 

Cash Provided by Operating Activities of Continuing Operations

   $ 122.9     $ 157.7  

Non-cash cost basis of real estate sold

     (6.0 )     (9.2 )

Income tax (expense) benefit

     (3.8 )     (28.7 )

Interest expense

     25.1       23.1  

Working capital increase (decrease)

     20.1       (7.8 )

Other balance sheet changes

     11.4       55.5  
    


 


EBITDA

   $ 169.7     $ 190.6  
    


 


 

A non-cash expense critical to the economics of our Timber and Real Estate business is the non-cash cost basis of real estate sold. EBITDA plus the non-cash cost basis of real estate sold for the three and six months ended June 30, 2005 totaled $88.2 million and $175.7 million, respectively.

 

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Table of Contents

Adjusted CAD is a non-GAAP measure of cash generated during a period that is available for dividend distribution, repurchase of the Company’s common shares, debt reduction and for strategic acquisitions net of associated financing (e.g. realizing like-kind exchange benefits). The Company defines Cash Available for Distribution (CAD) as Cash Provided by Operating Activities of Continuing Operations less capital spending, the tax benefit on the exercise of stock options, the tax benefits associated with certain strategic acquisitions and the change in committed cash. Committed cash represents outstanding checks that have been drawn on the Company’s zero balance bank accounts but have not been paid. In compliance with recent Securities and Exchange Commission requirements for non-GAAP measures, the Company also reduces CAD by mandatory debt repayments resulting in the Company’s measure entitled “Adjusted CAD.”

 

Adjusted CAD for the six months ended June 30, 2005, was $92.1 million, $22.4 million favorable to the prior year period. The increase is due to the lower mandatory debt repayments ($50 million), the release of restricted cash ($12.0 million) (see Note 8 - Restricted Cash—Like-Kind Exchanges) and the change in committed cash ($5.5 million) offset by lower cash provided by operating activities of continuing operations ($34.8 million) and higher capital spending ($8.9 million). The Adjusted Cash Available for Distribution generated in the current period is not necessarily indicative of amounts that may be generated in future periods.

 

Below is a reconciliation of Cash Provided by Operating Activities of Continuing Operations to Adjusted CAD for the six months ended June 30:

 

     Six Months Ended
June 30,


 
     2005

    2004

 

Cash provided by Operating Activities of Continuing Operations

   $ 122.9     $ 157.7  

Capital spending, net

     (43.7 )     (34.8 )

Change in committed cash

     5.5       —    

LKE tax benefits

     (0.9 )     —    

Release of restricted cash*

     12.0       —    

Tax benefit on exercise of stock options

     (2.2 )     (1.7 )
    


 


Cash Available for Distribution

     93.6       121.2  

Mandatory debt repayments**

     (1.5 )     (51.5 )
    


 


Adjusted Cash Available for Distribution

   $ 92.1     $ 69.7  
    


 


 

* Released July 19, 2005.
** The mandatory repayments in 2004 included $50 million of debt that matured during the period and was refinanced through the Company’s bank facility. No discretionary debt repayments were made in the first six months of 2005 or 2004.

 

Liquidity Facilities

 

In connection with the $250 million revolving credit facility, certain covenants must be met, including ratios based on the facility’s definition of EBITDA (Covenant EBITDA). Covenant EBITDA consists of earnings from continuing operations before the cumulative effect of accounting changes and any provision for dispositions, income taxes, interest expense, depreciation, depletion, amortization and the non-cash cost basis of real estate sold. In addition, there are covenant requirements in effect for Rayonier Forest Resources, L.P. (RFR) on the ratio of cash flow available for fixed charges to fixed charges. At June 30, 2005, the Company had available borrowings of $125 million under the revolving credit facility.

 

Covenant Funds from Operations (Covenant FFO), another facility covenant, is defined as Consolidated Net Income excluding gains or losses from debt restructuring and investments in marketable securities plus depletion, depreciation and amortization and the non-cash cost basis of real estate sold. This dividend restriction covenant limits the sum of dividends in any period of four fiscal quarters to 90 percent of Covenant FFO plus the aggregate amount of dividends permitted under Covenant FFO in excess of the amount of dividends paid during the prior four fiscal quarters.

 

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Table of Contents

The covenants listed below are calculated on a trailing 12-month basis. The most restrictive long-term debt covenants in effect for Rayonier as of June 30, 2005 were as follows:

 

     Covenant
Requirement


  Actual ratio at
June 30, 2005


  Favorable
(Unfavorable)


Covenant EBITDA to consolidated interest expense should not be less than

   2.50 to 1   6.28 to 1   3.78

Total debt to Covenant EBITDA should not exceed

   4.00 to 1   2.25 to 1   1.75

RFR cash flow available for fixed charges to RFR fixed charges should not be less than

   2.50 to 1   5.72 to 1   3.22

Dividends paid should not exceed 90 percent of Covenant FFO

   90%   45%   45%

 

The Company is currently in compliance with all of its financial covenants. In addition to the financial covenants listed above, the credit agreements include customary covenants that limit the incurrence of debt, the disposition of assets, and the making of certain payments between RFR and Rayonier among others. An asset sales covenant in the Company’s RFR installment note-related agreements requires the Company, subject to certain exceptions, to either reinvest cumulative timberland sales proceeds in excess of approximately $100 million (the “excess proceeds”) in timberland-related investments and activities or, once the amount of excess proceeds not reinvested exceeds $50 million, to make an offer to the note holders to prepay the notes ratably in the amount of the excess proceeds. At June 30, 2005 the amount of excess proceeds was approximately $31 million.

 

Equity Resources

 

In 1996, the Company began a Common Share repurchase program to minimize the dilutive effect of earnings per share of its employee incentive stock plans. This program limits the number of shares that may be purchased each year to the greater of 1.5 percent of outstanding shares at the beginning of the year or the number of incentive shares actually issued to employees during the year. In October 2000, the Company’s Board of Directors authorized repurchase of an additional 1.5 million shares. These shares were authorized separately from the 1.5 percent of outstanding shares anti-dilutive program, neither of which have expiration dates. Below is a summary of the share repurchases.

 

     Six Months Ended
June 30,


     2005

   2004

Shares authorized for repurchase

     2,065,313      2,050,925

Shares repurchased

     —        —  

Cost of repurchased shares

   $ —      $ —  

Average cost per share

   $ —      $ —  

 

At June 30, 2005, the Company has $247 million available under its $500 million shelf registration filed with the Securities and Exchange Commission in 2003. As authorized by the Company’s Board of Directors, an acquisition shelf registration on Form S-4 covering 7,000,000 common shares was declared effective on May 10, 2004.

 

Contractual Financial Obligations and Off-Balance Sheet Arrangements

 

The Company’s guarantee for the annual payment of the New Zealand Crown Forest licenses has two years remaining since the May 2005 payment was made. With the exception of the $30 million increase in intercompany guarantees (Rayonier guarantees the TRS’ third party debt) on the revolving credit facility, no other material changes to the Company’s guarantees or financial instruments such as letters of credit and surety bonds occurred during the first six months of 2005. See Note 12 - Guarantees, for details on the outstanding letters of credit, surety bonds and total guarantees outstanding as of June 30, 2005.

 

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Table of Contents

Segment EBITDA

 

EBITDA (defined above) is also used for evaluating segment cash return on investment, allocating resources and for valuation purposes. EBITDA by segment is a critical valuation measure used by the Chief Operating Decision Maker, existing shareholders and potential shareholders to measure how management is performing relative to the assets with which they have been entrusted. EBITDA by segment for the three and six months ended June 30, 2005 and 2004 was as follows (millions of dollars):

 

     Three Months Ended
June 30,


    Six Months Ended
June 30,


 
     2005

    2004

    2005

    2004

 

EBITDA *

                                

Timber and Real Estate

   $ 50.0     $ 72.5     $ 106.9     $ 134.5  

Performance Fibers

     37.2       39.1       65.6       63.6  

Wood Products

     7.5       8.1       12.5       11.1  

Other Operations

     (0.2 )     2.2       0.1       4.5  

Corporate and other

     (8.3 )     (10.5 )     (15.4 )     (23.1 )
    


 


 


 


Total

   $ 86.2     $ 111.4     $ 169.7     $ 190.6  
    


 


 


 


 

* Item 5(a) provides a reconciliation of Cash Provided by Operating Activities of Continuing Operations by segment to EBITDA by segment for the three and six month periods presented above.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Market Risk

 

The Company is exposed to various market risks, including changes in foreign exchange rates, interest rates and commodity prices. The Company’s objective is to minimize the economic impact of these market risks. Derivatives are used in accordance with policies and procedures approved by the Finance Committee of the Board of Directors and are managed by a senior executive committee whose responsibilities include initiating, managing and monitoring resulting exposures. The Company does not enter into financial instruments for trading or speculative purposes. See Note 11 - Financial Instruments included in the Notes to the Condensed Consolidated Financial Statements.

 

Cyclical pricing of commodity market paper pulp ultimately influences Performance Fibers prices, particularly in the Absorbent Materials product line. However, since Rayonier is a non-integrated producer of specialized Performance Fibers for non-papermaking end uses, its high-value product mix tends to lag (on both the upturn and downturn) commodity paper pulp prices with peaks and valleys less severe.

 

Most of Rayonier’s revenues and expenses are U.S. dollar-denominated. However, the Company does have some risk in its New Zealand operation related to foreign currency pricing and costs and periodically enters into foreign currency forward contracts to hedge the risks of foreign currency fluctuations. At June 30, 2005, there were no outstanding foreign currency contracts to purchase New Zealand dollars.

 

The fair market value of the Company’s long-term fixed interest rate debt is subject to interest rate risk; however, Rayonier intends to hold most of its debt until maturity. Rayonier periodically enters into interest rate swap agreements to manage its exposure to interest rate changes, or in back-to-back arrangements at the time debt is issued in order to cost effectively place the debt. These swaps involve the exchange of fixed and variable interest rate payments without exchanging principal amounts. At June 30, 2005, the Company had two interest rate swap agreements both maturing in 2007 that resulted in a liability with a fair market value of $1.3 million. Generally, the fair market value of fixed-interest rate debt will increase as interest rates fall and decrease as interest rates rise.

 

The Company periodically enters into commodity forward contracts to fix some of its fuel oil and natural gas costs. The forward contracts partially mitigate the risk of a change in Performance Fibers margins resulting from an increase or decrease in fuel oil and natural gas prices. The Company does not enter into commodity forwards for trading or speculative purposes. The net amounts paid or received under the contracts are recognized as an adjustment to fuel oil or natural gas expense. The Company’s natural gas and fuel oil contracts do not qualify for hedge accounting and as such mark-to-market adjustments are recorded in “Other Operating

 

29


Table of Contents

(Income) Expense, net.” See Note 11 - Financial Instruments for outstanding forward contracts at June 30, 2005 as well as gains and losses recognized from such contracts.

 

For a full description of the Company’s market risk, please refer to Item 7, Management Discussion and Analysis of Financial Condition and Results of Operations, in the 2004 Annual Report on Form 10-K.

 

Safe Harbor

 

Comments relating to anticipated demand, pricing, earnings, tax planning opportunities and rates, and real estate sales and development opportunities are forward-looking and are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The following important factors, among others, could cause actual results to differ materially from those expressed in the forward-looking statements: the ability of the Company, and the New Zealand joint venture in which it participates, to fulfill the conditions necessary to complete the transactions described in this report, including, without limitation, receipt of approval of the New Zealand Overseas Investment Commission, and the ability of the Company to effectuate a sale of its MDF business on acceptable terms. In addition, future results could be affected by changes in global market trends and world events; interest rate and currency movements; fluctuations in demand for or supply of cellulose specialties, absorbent materials, timber, wood products or real estate and entry of new competitors into these markets; adverse weather conditions affecting production; timber availability and sales, or distribution; changes in production costs for wood products or performance fibers, particularly for raw materials such as wood, energy and chemicals; unexpected delays in the closing of real estate sale transactions; changes in law or policy that might limit or restrict the development of real estate, particularly in the southeastern U.S.; the ability of the Company to identify and complete timberland and higher-value real estate acquisitions; the Company’s ability to satisfy complex rules in order to qualify as a REIT; the availability of tax deductions and the ability of the Company to complete tax-efficient exchanges of real estate; and implementation or revision of governmental policies and regulations affecting the environment, endangered species, import and export controls or taxes, including changes in tax laws that could reduce the benefits associated with REIT status. For additional factors that could impact future results, please see the Company’s most recent Form 10-K on file with the Securities and Exchange Commission.

 

Item 4. Controls and Procedures

 

Rayonier management is responsible for establishing and maintaining adequate disclosure controls and procedures. Disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”)) are designed with the objective of ensuring that information required to be disclosed by the Company in reports filed under the Exchange Act, such as this Quarterly Report on Form 10-Q, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.

 

Because of the inherent limitations in all control systems, no control evaluation can provide absolute assurance that all control exceptions and instances of fraud have been prevented or detected on a timely basis. Even systems determined to be effective can provide only reasonable assurance that its objectives are achieved.

 

Based on an evaluation as of the end of the period covered by this Quarterly Report on Form 10-Q by the Company’s management, the Chief Executive Officer and Chief Financial Officer concluded that the design and operation of disclosure controls were effective as of June 30, 2005.

 

There were no changes in the Company’s internal controls or in other factors that could significantly affect internal controls subsequent to the date of their most recent evaluation.

 

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Table of Contents

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

See Notes 13 and 14 of the Notes to Condensed Consolidated Financial Statements set forth in Part I of this Report, which is hereby incorporated by reference.

 

Item 4. Submission of Matters to a Vote of Security Holders

 

The Annual Meeting of Shareholders of the Company was held on May 19, 2005 (the “Annual Meeting”). At that meeting, four directors were elected as follows:

 

     Votes For

   Votes Withheld

Directors of Class II, Terms Expire in 2008

         

James H. Hance, Jr.

   44,999,507    962,314

Paul G. Kirk, Jr.

   45,326,226    635,594

Carl S. Sloane

   45,349,521    612,299

Director of Class III, Term Expires in 2006

         

Richard D. Kincaid

   45,538,712    423,109

 

The following directors’ terms of office also continued after the Annual Meeting: Rand V. Araskog, Ronald M. Gross, Thomas I. Morgan, W. Lee Nutter, Katherine D. Ortega and Ronald Townsend.

 

Abstentions and broker non-votes, as well as votes withheld, were not counted for or against a nominee.

 

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Table of Contents

 

Item 5(a). Selected Supplemental Financial Data

 

     Three Months Ended

    Six Months Ended

 
     June 30,
2005


    June 30,
2004


    June 30,
2005


    June 30,
2004


 

Timber and Real Estate

                        

Sales volume - Timber

                        

Northwest U.S.,
in millions of board feet

   69     81     145     169  

Southeast U.S.,
in thousands of short green tons

   1,206     1,140     2,427     2,389  

New Zealand,
in thousands of metric tons

   143     158     237     264  

Timber sales volume -

                        

Intercompany

                        

Southeast U.S.,
in thousands of short green tons

   2     21     23     21  

New Zealand,
in thousands of metric tons

   1     —       2     —    

Acres sold

   6,185     10,831 *   16,934     27,881 *

Performance Fibers

                        

Sales Volume

                        

Cellulose specialties,
in thousands of metric tons

   113     115     220     216  

Absorbent materials,
in thousands of metric tons

   69     75     136     143  

Production as a percent of capacity

   102.8 %   99.8 %   102.6 %   98.9 %

Wood Products

                        

Lumber sales volume, in millions of board feet

   90     91     173     174  

 

* Includes 5,487 acres associated with a Northeast Florida sale ($26 million) in which we had timber lease rights.

 

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Table of Contents

 

Item 5(a). Selected Supplemental Financial Data (millions of dollars)

 

     Three Months Ended

    Six Months Ended

 
     June 30,
2005


    June 30,
2004


    June 30,
2005


    June 30,
2004


 

Geographical Data (Non-U.S.)

                                

Sales

                                

New Zealand

   $ 14.1     $ 14.1     $ 23.0     $ 24.0  

Other

     2.8       9.4       5.5       15.4  
    


 


 


 


Total

   $ 16.9     $ 23.5     $ 28.5     $ 39.4  
    


 


 


 


Operating income (loss)

                                

New Zealand

   $ 0.8     $ 1.4     $ 1.5     $ 1.8  

Other

     (0.5 )     (0.5 )     (0.6 )     (1.0 )
    


 


 


 


Total

   $ 0.3     $ 0.9     $ 0.9     $ 0.8  
    


 


 


 


Timber

                                

Sales

                                

Northwest U.S.

   $ 26.0     $ 22.0     $ 52.3     $ 46.2  

Southeast U.S.

     21.6       20.6       42.5       44.1  

New Zealand

     6.9       6.7       11.6       12.1  
    


 


 


 


Total

   $ 54.5     $ 49.3     $ 106.4     $ 102.4  
    


 


 


 


Operating income

                                

Northwest U.S.

   $ 16.0     $ 11.9     $ 32.4     $ 25.8  

Southeast U.S.

     5.8       6.2       12.2       14.5  

New Zealand

     1.3       2.0       2.2       2.6  
    


 


 


 


Total

   $ 23.1     $ 20.1     $ 46.8     $ 42.9  
    


 


 


 


 

33


Table of Contents

 

Item 5(a). Selected Supplemental Financial Data (millions of dollars)

 

The following tables reconcile Cash Provided by Operating Activities by segment to EBITDA by segment:

 

     Timber and
Real Estate


    Performance
Fibers


   Wood
Products


    Other
Operations


    Corporate
and other


    Total

 

Three Months Ended June 30, 2005

                                               

Cash provided by operating activities of continuing operations

   $ 37.6     $ 28.8    $ 6.9     $ 2.5     $ (28.3 )   $ 47.5  

Less: Non-cash cost basis of real estate sold

     (1.7 )     —        —         (0.3 )     —         (2.0 )

Income tax benefit

     —         —        —         —         (4.5 )     (4.5 )

Add: Interest expense

     —         —        —         —         12.8       12.8  

Working capital increases (decreases)

     9.4       8.3      0.7       (2.0 )     4.6       21.0  

Other balance sheet changes

     4.7       0.1      (0.1 )     (0.4 )     7.1       11.4  
    


 

  


 


 


 


EBITDA

   $ 50.0     $ 37.2    $ 7.5     $ (0.2 )   $ (8.3 )   $ 86.2  
    


 

  


 


 


 


Three Months Ended June 30, 2004

                                               

Cash provided by operating activities from continuing operations

   $ 80.0     $ 30.6    $ 7.6     $ (0.6 )   $ (43.1 )   $ 74.5  

Less: Non-cash cost basis of real estate sold

     (1.1 )     —        —         (0.2 )     —         (1.3 )

Add: Income tax expense

     —         —        —         —         14.8       14.8  

Interest expense

     —         —        —         —         12.0       12.0  

Working capital increases (decreases)

     (3.6 )     8.3      0.5       3.2       7.4       15.8  

Other balance sheet changes

     (2.8 )     0.2      —         (0.2 )     (1.6 )     (4.4 )
    


 

  


 


 


 


EBITDA

   $ 72.5     $ 39.1    $ 8.1     $ 2.2     $ (10.5 )   $ 111.4  
    


 

  


 


 


 


Six Months Ended June 30, 2005

                                               

Cash provided by operating activities from continuing operations

   $ 110.0     $ 54.6    $ 8.5     $ (1.2 )   $ (49.0 )     122.9  

Less: Non-cash cost basis of real estate sold

     (5.7 )     —        —         (0.3 )     —         (6.0 )

Income tax benefit

     —         —        —         —         (3.8 )     (3.8 )

Add: Interest expense

     —         —        —         —         25.1       25.1  

Working capital increases (decreases)

     0.9       11.0      4.1       0.1       4.0       20.1  

Other balance sheet changes

     1.7       —        (0.1 )     1.5       8.3       11.4  
    


 

  


 


 


 


EBITDA

   $ 106.9     $ 65.6    $ 12.5     $ 0.1     $ (15.4 )   $ 169.7  
    


 

  


 


 


 


Six Months Ended June 30, 2004

                                               

Cash provided by operating activities from continuing operations

   $ 154.0     $ 46.3    $ 8.8     $ 6.0     $ (57.4 )   $ 157.7  

Less: Non-cash cost basis of real estate sold

     (9.0 )     —        —         (0.2 )     —         (9.2 )

Income tax benefit

     —         —        —         —         (28.7 )     (28.7 )

Add: Interest expense

     —         —        —         —         23.1       23.1  

Working capital increases (decreases)

     (11.4 )     15.9      2.3       (0.6 )     (14.0 )     (7.8 )

Other balance sheet changes

     0.9       1.4      —         (0.7 )     53.9 (a)     55.5  
    


 

  


 


 


 


EBITDA

   $ 134.5     $ 63.6    $ 11.1     $ 4.5     $ (23.1 )   $ 190.6  
    


 

  


 


 


 


 

(a) Includes reversal of deferred taxes not required after REIT conversion partly offset by additional taxes for repatriation of foreign earnings.

 

34


Table of Contents
Item 6. Exhibits and Reports on Form 8-K

 

  (a) See Exhibit Index

 

  (b) Reports on Form 8-K:

 

  1) On April 26, 2005, Rayonier filed a report on Form 8-K to announce first quarter 2005 earnings.

 

  2) On May 9, 2005, Rayonier filed a report on Form 8-K to announce that on May 2, 2005 the Company was awarded $16.2 million in connection with arbitration proceedings against ITT Industries, Inc. over the distribution of environmental litigation insurance recoveries.

 

  3) On May 24, 2005, Rayonier filed a report on Form 8-K to announce that Gordon I. Ulmer retired from the Company’s Board of Directors in accordance with the Board’s mandatory retirement age policy.

 

  4) On May 25, 2005, Rayonier filed a report on Form 8-K to announce that the Company formed a real estate company, TerraPointe LLC, to maximize the value of the Company’s HBU properties.

 

  5) On July 20, 2005, Rayonier filed a report on Form 8-K that provides details on New Zealand forests sale/investment, exit from MDF business, and other items. (Subsequent event)

 

SIGNATURE

 

Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

RAYONIER INC. (Registrant)

BY:  

/s/ HANS E. VANDEN NOORT

   

Hans E. Vanden Noort

   

Vice President and

Corporate Controller

 

July 26, 2005

 

35


Table of Contents

 

EXHIBIT INDEX

 

EXHIBIT NO.

  

DESCRIPTION


  

LOCATION


  2         Plan of acquisition, reorganization, arrangement, liquidation or succession    None
  3.1      Amended and restated articles of incorporation    None
  3.2      By-laws    None
  4         Instruments defining the rights of security holders, including indentures.    Not required to be filed. The Registrant hereby agrees to file with the Commission a copy of any instrument defining the rights of holders of the Registrant’s long-term debt upon request of the Commission.
10.38    Master Shareholder Agreement in Relation to Matariki Forests, dated July 15, 2005, by and among SAS Trustee Corporation, Deutshe Bank AG (Sydney Branch), Deutshe Asset Management (Australia) Limited, Rayonier Canterbury LLC, Rayonier New Zealand Limited, Cameron and Company Limited, Matariki Forests Australia Pty Limited, Matariki Forestry Group and Matariki Forests    Filed herewith
10.39    Agreement for the Sale and Purchase of Assets, dated July 15, 2005, between Rayonier New Zealand Limited, as seller, and Matariki Forests, as purchaser    Filed herewith
11         Statement re: computation of per share earnings    Not required to be filed
12         Statement re: computation of ratios    Filed herewith
15         Letter re: unaudited interim financial information    None
18         Letter re: change in accounting principles    None
19         Report furnished to security holders    None
22         Published report regarding matters submitted to vote of security holders    None
23         Consents of experts and counsel    None
24         Power of attorney    None
31         Certifications    Filed herewith
32         Certification of periodic financial reports under Section 906 of the Sarbanes-Oxley Act of 2002    Furnished herewith

 

36

MASTER SHAREHOLDER AGREEMENT

Exhibit 10.38

 

MASTER SHAREHOLDER AGREEMENT IN RELATION TO MATARIKI FORESTS AUSTRALIA PTY LIMITED, MATARIKI FORESTRY GROUP AND MATARIKI FORESTS

 

Dated 15 July 2005

 

SAS Trustee Corporation

 

Deutsche Bank AG (Sydney Branch)

 

Deutsche Asset Management (Australia) Limited

 

Rayonier Canterbury LLC

 

Rayonier New Zealand Limited

 

Cameron and Company Limited

 

Matariki Forests Australia Pty Limited

 

Matariki Forestry Group

 

and

 

Matariki Forests


 

CONTENTS

 

1.

   INTERPRETATION    2

2.

   SUBSCRIPTION, ISSUE AND PAYMENT OF AUSCO SHARES    9

3.

   SUBSCRIPTION, ISSUE AND PAYMENT OF HOLDCO SHARES    11

4.

   SUBSCRIPTION, ISSUE AND PAYMENT OF TREECO SHARES    12

5.

   NON-SATISFACTION OF CHH SPA CONDITIONS    13

6.

   PROCEDURAL MATTERS FOLLOWING EXECUTION    14

7.

   REIMBURSEMENT AND INDEMNITY    14

8.

   GOVERNANCE    16

9.

   FUNDING    17

10.

   DEALING IN SHARES IN HOLDCO    18

11.

   FURTHER PROVISIONS REGARDING DEALING IN SHARES    23

12.

   WARRANTIES    25

13.

   COMPLIANCE WITH THIS AGREEMENT AND THE CONSTITUTION    25

14.

   DEFAULT IN RELATION TO HOLDCO    26

15.

   LIQUIDATION    27

18.

   GENERAL    28
SCHEDULE ONE    35

SUBSCRIPTION DETAILS

   35
SCHEDULE TWO    36
     GOVERNANCE OF AUSCO    36
SCHEDULE THREE    39
     GOVERNANCE OF HOLDCO AND ITS SUBSIDIARIES    39
SCHEDULE FOUR    44
     ADDRESS DETAILS OF THE PARTIES    44
SCHEDULE FIVE    47
     FORM OF ACCESSION DEED    47
SCHEDULE SIX    49
     UNDERWRITING ARRANGEMENTS    49

 

i


 

AGREEMENT dated                              2005

 

PARTIES

 

SAS TRUSTEE CORPORATION, a statutory corporation established under the Superannuation Administration Act 1987 (NSW) (under its former name State Authorities Superannuation Board) and continued by the Superannuation Administration Act 1991 (NSW) and the Superannuation Administration Act 1996 (NSW) of c/- Level 21, 83 Clarence Street, Sydney, NSW 2000, Australia (STC);

 

DEUTSCHE BANK AG (SYDNEY BRANCH), having its registered office at Level 18, 225 George Street, Sydney, NSW 2000 (DBAG);

 

DEUTSCHE ASSET MANAGEMENT (AUSTRALIA) LIMITED having its registered office at Level 21, 83 Clarence Street, Sydney, NSW 2000 (DAM);

 

RAYONIER CANTERBURY LLC, a limited liability company incorporated in Delaware (RCL);

 

RAYONIER NEW ZEALAND LIMITED, a limited liability company incorporated in New Zealand having its registered office at Level 5, 49 Symonds Street, Auckland, New Zealand (RNZ);

 

CAMERON & COMPANY LIMITED, a limited liability company having its registered office at Level 12, HP tower, 171 Featherston Street, Wellington, New Zealand (CAM);

 

MATARIKI FORESTS AUSTRALIA PTY LIMITED, a limited liability company incorporated in Australia, having its registered office at C-RREEF Infrastructure, Level 21, 83 Clarence Street, Sydney NSW 2000, Australia (Ausco);

 

MATARIKI FOREST GROUP, an unlimited liability company incorporated in New Zealand having its registered office at Level 5,49 Symonds Street, Auckland, New Zealand (Holdco); and

 

MATARIKI FORESTS, an unlimited liability company incorporated in New Zealand having its registered office at Level 5, 49 Symonds Street, Auckland, New Zealand (Treeco).

 

BACKGROUND

 

(A) STC is a client of RREEF Infrastructure (RREEF), the infrastructure business of DBAG. RCL is a Delaware incorporated limited liability company, wholly owned by Rayonier Inc (Rayonier). RREEF and Rayonier have procured the establishment of Holdco, a New Zealand incorporated unlimited liability company, in which Rayonier, STC and one or more other clients of RREEF intend to invest, either directly or indirectly, for the purpose of acquiring certain forestry assets currently owned by Carter Holt Harvey Limited (CHH Assets) and RNZ (RNZ Assets). CAM is a financial adviser to RREEF and RNZ.

 

(B) STC will invest in Ausco, an Australian incorporated limited liability company. Rayonier will invest in Holdco through RCL. RCL will hold shares in Holdco directly. It has also agreed to subscribe for shares in Ausco, but this obligation may be exchanged for an obligation to subscribe for further shares in Holdco.

 

(C)

Pursuant to this agreement, STC, DBAG, RCL and CAM agree to subscribe for shares in Ausco in percentage proportions of 41.65%, 41.65% 16.21% and 0.49% respectively,


 

and Ausco and RCL agree to subscribe for shares in Holdco in percentage proportions of 60% and 40% respectively.

 

(D) Each of DBAG, CAM and RCL have agreed to subscribe for shares in Ausco in an underwriting capacity, with the intention of transferring those obligations, or Ausco Shares or Holdco Shares issued pursuant to them, to new participants, who may be clients of RREEF.

 

(E) Holdco has incorporated a wholly owned subsidiary (Treeco), a New Zealand incorporated unlimited liability company. Holdco shall subscribe for shares in Treeco. Treeco shall purchase the CHH Assets and the RNZ Assets. The purchase of the CHH Assets and RNZ Assets by Treeco shall be funded as follows:

 

  (i) by the payment of subscription moneys by Holdco to Treeco;

 

  (ii) by investor loans advanced by each of the Ausco Shareholders and RCL to Treeco; and

 

  (iii) by bank debt.

 

(F) The CHH Assets and RNZ Assets, once purchased by Treeco, shall be managed by RNZ, pursuant to the Management Agreement.

 

(G) The parties wish to enter into this master shareholder agreement to record their respective rights and obligations in relation to Ausco, Holdco and Treeco, including arrangements as to the sell down of DBAG, CAM and RCL’s subscription obligations in relation to Ausco, or the Ausco Shares or Holdco Shares resulting from such obligations.

 

IT IS AGREED as follows:

 

1. INTERPRETATION

 

1.1 Definitions: In this agreement:

 

Acceptance Date has the meaning set out in clause 10.5.

 

Accession Deed means a deed substantially in the form attached as schedule five.

 

Adjustment Amount has the meaning set out in clause 9.1(a)(i).

 

Adjustment Notice has the meaning set out in clause 9.1(a)(i).

 

Aggregate First Ausco Subscription Amount means the aggregate of the First Ausco Subscription Amounts payable by the Ausco Subscribers to Ausco in accordance with clause 2.3.

 

Aggregate First Holdco Subscription Amount means the aggregate of the First Holdco Subscription Amounts payable by the Holdco Subscribers to Holdco in accordance with clause 3.3.

 

Aggregate Second Ausco Subscription Amount means the aggregate of the Second Ausco Subscription Amounts payable by the Ausco Subscribers to Ausco in accordance with clause 2.5.

 

Aggregate Second Holdco Subscription Amount means the aggregate of the Second Holdco Subscription Amounts payable by the Holdco Subscribers to Holdco in accordance with clause 3.5.

 

2


Auditor means the auditor of Ausco or Holdco (or a subsidiary of Holdco) for the time being.

 

Ausco Board means the board of directors of Ausco for the time being.

 

Ausco Constitution means the constitution of Ausco, as amended from time to time, and in the first instance means the Replaceable Rules, as that term is defined in the Corporations Act.

 

Ausco Share means any ordinary share in Ausco.

 

Ausco Subscribers means the parties listed in Part A of schedule one, as amended in accordance with clause 5.7 of schedule 6.

 

Ausco Shareholders means the holders of Ausco Shares.

 

Ausco Subscription Shares means:

 

  (a) in relation to an Ausco Subscriber, the number of Ausco Shares for which it is subscribing pursuant to clauses 2.3 and 2.5; and

 

  (b) together, the Ausco Shares issued and allotted pursuant to this agreement.

 

Holdco Board means the board of directors of Holdco for the time being.

 

BNZ means Bank of New Zealand.

 

Business Day means any day (other than a Saturday) when banks in Auckland, New Zealand are open for the transaction of normal business.

 

Buyer has the meaning set out in clause 10.6.

 

CHH means Carter Holt Harvey Limited.

 

CAM Transaction Fee means the transaction fee payable to CAM (on a post tax basis) pursuant to the engagement letter between CAM, RREEF and RNZ dated 20 June 2005.

 

CHH Assets means the assets being transferred pursuant to the CHH SPA.

 

CHH SPA means the agreement for the sale and purchase of the CHH Assets between CHH and Treeco, in the form agreed by CHH, RREEF and Rayonier.

 

Class means the Holdco Class A Shares or the Holdco Class B Shares as the context requires.

 

Companies Act means the Companies Act 1993 (New Zealand).

 

Corporations Act means the Corporations Act 2001 (Australia).

 

Debt Commitment means, in relation to an Ausco Shareholder or RCL, that party’s Commitment under, and as defined in, the Investor Loan Facility.

 

Deed of Indemnity means the deed of indemnity to be executed by RNZ in favour of BNZ in relation to:

 

  (a) RNZ’s obligation to pay BNZ all amounts that BNZ is called on to pay CHH under the LC; and

 

3


  (b) LC Costs.

 

Defaulting Ausco Shareholder has the meaning set out in clause 7.2(b).

 

Defaulting Holdco Shareholder has the meaning set out in clause 14.1.

 

Drawdown Notice means a drawdown notice deliverable by Treeco to BNZ under the Senior Facility Agreement.

 

Equity Proportion means, at any time, in relation to an Ausco Subscriber:

 

  (a) the percentage proportion of Ausco Shares for which that Ausco Subscriber is obliged to subscribe pursuant to clause 2; or

 

  (b) if the Ausco Subscription Shares have been issued by Ausco in accordance with clause 2, the percentage proportion of Ausco Shares that Ausco Shareholder holds,

 

(such percentage proportion being, for the purpose of this definition, that Ausco Subscriber’s Interest)

 

provided that so long as CAM is an Ausco Subscriber, its Interest shall be excluded from the calculation of any Ausco Subscriber’s Equity Proportion.

 

Event of Default has the meaning set out in clause 14.2.

 

Fair Value means fair market value, determined in accordance with clause 10.17.

 

First Ausco Subscription Amount means, in respect of an Ausco Shareholder, the dollar amount specified as the First Ausco Subscription Amount in the First Ausco Subscription Notice.

 

First Ausco Subscription Notice means the notice issued by the Ausco Board in accordance with clause 2.2.

 

First Ausco Subscription Satisfaction Date means the date specified as such in the First Ausco Subscription Notice.

 

First Ausco Subscription Satisfaction Notice means the notice issued by the Ausco Board in accordance with clause 2.3(b).

 

First Holdco Subscription Amount means:

 

  (a) in relation to Holdco Class A Shareholders, a sum equal to the Aggregate First Ausco Subscription Amount; and

 

  (b) in relation to Holdco Class B Shareholders, a sum (RCL First Subscription Amount) calculated in accordance with the following formula:

 

A = (B ÷ C) x D

 

Where:

 

A = RCL First Subscription Amount

 

B = Aggregate First Ausco Subscription Amount

 

C = 6

 

D = 4

 

4


First Holdco Subscription Satisfaction Notice means the notice issued by the Holdco Board in accordance with clause 3.3(b).

 

First Treeco Subscription Amount means a sum equivalent to the Aggregate First Holdco Subscription Amount.

 

Forestry Assets means the CHH Assets and the RNZ Assets collectively.

 

Forestry Rights means the forestry licences to be entered into by CHH and Treeco pursuant to the CHH SPA, in the form agreed by CHH, RREEF and Rayonier.

 

Holdco Class A Directors means the directors appointed to Holdco by the Holdco Class A Shareholders, in accordance with clause 2.1(a) of schedule three.

 

Holdco Class A Shares mean the ordinary shares in Holdco issued or to be issued to the Holdco Class A Subscribers.

 

Holdco Class A Shareholders means the holders of Holdco Class A Shares from time to time.

 

Holdco Class A Subscribers means the parties identified as such in Part B of schedule one.

 

Holdco Class B Directors means the directors appointed to Holdco by the Holdco Class B Shareholders, in accordance with clause 2.1(b) of schedule three.

 

Holdco Class B Shares mean the ordinary shares in Holdco issued or to be issued to the Holdco Class B Subscribers.

 

Holdco Class B Shareholders means the holders of Holdco Class B Shares from time to time.

 

Holdco Class B Subscribers means the parties identified as such in Part B of schedule one.

 

Holdco Constitution means the constitution of Holdco, as amended from time to time.

 

Holdco Share means any ordinary share in Holdco, of whatever Class.

 

Holdco Shareholders means the holders of Holdco Shares from time to time.

 

Holdco Subscribers means the parties listed in Part B of schedule one.

 

Holdco Subscription Shares means:

 

  (a) in relation to a Holdco Subscriber, the number of Holdco Shares for which it is subscribing pursuant to clauses 3.3 and 3.5, and

 

  (b) together, the Holdco Shares issued and allotted pursuant to this agreement.

 

Intercreditor Deed means the intercreditor deed to be entered into between the parties to the Senior Facility Agreement, the Ausco Shareholders and RCL.

 

5


Investment Agreement means any investment management agreement between RREEF and an Ausco Shareholder or Holdco Shareholder, pursuant to which RREEF manages that party’s investment in Ausco or Holdco.

 

Investor Loan Facility means the investor loan facility agreement between the Ausco Subscribers, RCL and Treeco, dated on or around the date of this agreement.

 

LC means the letter of credit for $25,000,000 issued or to be issued by BNZ to CHH as security for certain obligations of Treeco under the CHH SPA.

 

LC Costs means all costs, losses, expenses and liabilities of any other kind payable by RNZ under the Deed of Indemnity, excluding the LC Fee.

 

LC Fee means the initial fee of $10,000 payable by RNZ to BNZ pursuant to clause 3(a) of the Deed of Indemnity, and any additional fee payable by RNZ to BNZ under the Deed of Indemnity.

 

LC Parties means the Ausco Subscribers (other than RCL), and LC Party means any one of them as the context requires.

 

Log Supply Agreements means the log supply agreements to be entered into by Treeco and CHH pursuant to the CHH SPA, in the form agreed by CHH, RREEF and Rayonier.

 

Management Agreement means the management agreement in the form agreed between RREEF and Rayonier.

 

Memorandum of Understanding means the memorandum of understanding entered into by RNZ and RREEF on 23 May 2005.

 

Non-Defaulting Holdco Shareholder has the meaning set out in clause 14.1.

 

Principal Completion Date means the date of Principal Completion under, and as defined in, the CHH SPA.

 

Regional Condition means the Regional Condition under, and as defined in, the CHH SPA.

 

Regional Unconditional Date means the date on which the Regional Condition is waived or satisfied, in accordance with the terms of the CHH SPA.

 

Regional Completion Date means the date of Delayed Completion under, and as defined in, the CHH SPA.

 

Relevant Proportion means the percentage proportion of the interest that each of the Ausco Subscribers and RCL holds (directly or indirectly) in Holdco from time to time, provided that so long as CAM is an Ausco Subscriber, its Interest shall be excluded from the calculation of any party’s Relevant Proportion.

 

RNZ Assets means the assets being transferred pursuant to the RNZ SPA.

 

RNZ Completion means Completion under, and as defined in, the RNZ SPA.

 

RNZ GSA means the general security agreement to be executed by RNZ, in favour of BNZ, to secure the Deed of Indemnity.

 

RNZ SPA means the agreement for the sale and purchase of the RNZ Assets between RNZ and Treeco, in the form agreed by RREEF and Rayonier.

 

6


RREEF Client means a client of RREEF who has signed or will sign an Investment Agreement, or a member of the Deutsche Bank group.

 

Sale Notice has the meaning set out in clause 10.4.

 

Sale Interest has the meaning set out in clause 10.4.

 

Sale Shares has the meaning set out in clause 10.17.

 

Second Ausco Subscription Amount means, in respect of an Ausco Shareholder, the dollar amount specified as the Second Ausco Subscription Amount in the Second Ausco Subscription Notice.

 

Second Ausco Subscription Notice means the notice issued by the Ausco Board in accordance with clause 2.4.

 

Second Ausco Subscription Satisfaction Date means the date specified as such in the Second Ausco Subscription Notice.

 

Second Ausco Subscription Satisfaction Notice means the notice issued by the Ausco Board in accordance with clause 2.5(b).

 

Second Holdco Subscription Amount means:

 

  (a) in relation to Holdco Class A Shareholders, a sum equal to the Aggregate Second Ausco Subscription Amount; and

 

  (b) in relation to Holdco Class B Shareholders, a sum (RCL Second Subscription Amount) calculated in accordance with the following formula:

 

A = (B ÷ C) x D

 

Where:

 

A = RCL Second Subscription Amount

 

B = Aggregate Second Ausco Subscription Amount

 

C = 6

 

D = 4

 

Second Holdco Subscription Satisfaction Notice means the notice issued by the Holdco Board in accordance with clause 3.5(b).

 

Second Treeco Subscription Amount means a sum equivalent to the Aggregate Second Holdco Subscription Amount.

 

Seller has the meaning set out in clause 10.4.

 

Senior Facility Agreement means the Senior Facility Agreement to be entered into between Treeco, BNZ and others.

 

Subscription Date means the First Ausco Subscription Satisfaction Date.

 

Tag Along Notice has the meaning set out in clause 10.16.

 

Tag Along Party has the meaning set out in clause 10.16.

 

7


Transaction Conditions means the Transaction Conditions under, and as defined in, the CHH SPA.

 

Transaction Unconditional Date means the date on which the last of the Transaction Conditions are waived or satisfied, in accordance with the terms of the CHH SPA.

 

Treeco Board means the board of directors of Treeco for the time being.

 

Treeco Constitution means the constitution of Treeco, as amended from time to time.

 

Treeco GSA means the general security agreement to be executed by Treeco, in favour of BNZ and others, to secure the Senior Facility Agreement.

 

Treeco Share means any ordinary share in Treeco.

 

Treeco Subscription Shares means the Treeco Shares for which Holdco is to subscribe pursuant to clause 4.

 

Tree Stock Supply Agreement means the tree stock supply agreement to be entered into by Treeco and CHH pursuant to the CHH SPA, in the form agreed by CHH, RREEF and Rayonier.

 

Trustee means any person that is at any time a party to this Agreement in its capacity as trustee of a trust, other than STC.

 

1.2 Interpretation: In this agreement, a reference to:

 

  (a) a subsidiary or holding company or related company shall be construed in accordance with sections 2(3) and 5 of the Companies Act;

 

  (b) the singular includes the plural and vice versa;

 

  (c) a statutory provision includes a reference to:

 

  (i) the statutory provision as modified or re-enacted or both from time to time (whether before or after the date of this agreement); and

 

  (ii) any subordinate legislation made under the statutory provision (whether before or after the date of this agreement);

 

  (d) persons includes a reference to any body corporate, unincorporated association or partnership;

 

  (e) a person includes a reference to that the person’s legal personal representatives or successors;

 

  (f) a clause or schedule, unless the context otherwise requires, is a reference to a clause or schedule to this agreement;

 

  (g) references to $ are to New Zealand dollars, unless otherwise specified.

 

1.3 Schedules: The schedules form part of this agreement and shall have the same force and effect as if set out in the body of this agreement, and references to this agreement include the schedules.

 

1.4 Headings: The headings in this agreement shall not affect the interpretation of this agreement.

 

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1.5 Trustee Limitation:

 

  (a) Subject to clause 1.5(c), no Trustee will be liable to pay or satisfy any obligations or liabilities under this Agreement other than out of assets of the relevant trust (Trust) in respect of which that Trustee has entered into this Agreement and in no circumstances will that Trustee be called upon or liable to satisfy any of those obligations or liabilities out of its personal assets;

 

  (b) Subject to clause 1.5(c), each party to this Agreement may only enforce its rights against a Trustee to the extent of that Trustee’s right of indemnity out of the assets held by it in respect of the relevant Trust; and

 

  (c) The limitation of liability recorded in clauses 1.5(a) and (b) above shall not apply if and to the extent that the Trustee does not have or has lost (as a result of the Trustee’s wilful breach of trust, fraud or gross negligence) a right of indemnity out of the assets held by it in respect of the relevant Trust.

 

1.6 STC Limitation of Liability: Each party to this agreement acknowledges that:

 

  (i) STC is a statutory entity constituted pursuant to the Superannuation Administration Act 1996 (NSW) (Act); and

 

  (ii) STC is entitled to the statutory indemnity and limitation of liability provided in the Act and in other Acts of Parliament referred to in the Act.

 

2. SUBSCRIPTION, ISSUE AND PAYMENT OF AUSCO SHARES

 

2.1 Subscription for Ausco Shares: Each Ausco Subscriber agrees to subscribe for, and Ausco agrees to issue, the Ausco Subscription Shares:

 

  (a) in the percentage proportions set out in Part A of schedule one; and

 

  (b) in accordance with the terms of this agreement; and

 

  (c) otherwise on and subject to the terms set out in the Ausco Constitution.

 

2.2 First Ausco Subscription: As soon as is practicable following the Transaction Unconditional Date, Ausco shall issue each Ausco Subscriber with a notice (First Ausco Subscription Notice), which notice shall specify:

 

  (a) the Australian dollar amount of the First Ausco Subscription Amount;

 

  (b) the number of Ausco Subcription Shares to be issued to that Ausco Subscriber (being one Ausco Share per Australian dollar payable pursuant to clause 2.2(a)); and

 

  (c) the date by which the First Ausco Subscription Amount must be satisfied by the Ausco Subscribers, being the Business Day prior to the Principal Completion Date (First Ausco Subscription Satisfaction Date).

 

2.3 Satisfaction of First Ausco Subscription Amount:

 

  (a) Subject to clause 2.8, each Ausco Subscriber shall satisfy the First Ausco Subscription Amount on or before the First Ausco Subscription Satisfaction Date, by payment in immediately available funds to the bank account nominated by Ausco.

 

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  (b) Upon receipt of the First Ausco Subscription Amount from each Ausco Subscriber, in accordance with clause 2.3(a), Ausco shall immediately:

 

  (i) notify the Holdco Subscribers and Holdco in writing that the First Ausco Subscription Amount has been paid (First Ausco Subscription Satisfaction Notice); and

 

  (ii) issue and allot to each Ausco Subscriber the number of fully paid Ausco Subscription Shares specified in the First Ausco Subscription Notice.

 

2.4 Second Ausco Subscription: As soon as is practicable following the Regional Unconditional Date, Ausco shall issue each Ausco Subscriber with a notice (Second Ausco Subscription Notice), which notice shall specify:

 

  (a) The Australian dollar amount of the Second Ausco Subscription Amount;

 

  (b) The number of Ausco Subcription Shares to be issued to that Ausco Subscriber (being one Ausco Share per Australian dollar payable pursuant to clause 2.4(a); and

 

  (c) The date by which the Second Ausco Subscription Amount must be satisfied by the Ausco Subscribers, being the Business Day prior to the Regional Completion Date (Second Ausco Subscription Satisfaction Date).

 

2.5 Satisfaction of Second Ausco Subscription Amount:

 

  (a) Subject to clause 2.8, each Ausco Subscriber shall satisfy the Second Ausco Subscription Amount on or before the Second Ausco Subscription Satisfaction Date, by payment in immediately available funds to a bank account nominated by Ausco.

 

  (b) Upon receipt of the Second Ausco Subscription Amount from each Ausco Subscriber in accordance with clause 2.5(a), Ausco shall immediately:

 

  (i) notify Holdco and RCL in writing that the Second Ausco Subscription Amount has been paid (Second Ausco Subscription Satisfaction Notice); and

 

  (ii) issue and allot to each Ausco Subscriber the number of fully paid Ausco Subscription Shares specified in the Second Ausco Subscription Notice.

 

2.6 Regional Condition satisfied early: The Ausco Subscribers and Ausco acknowledge that the Regional Condition may be satisfied or waived, in accordance with the terms of the CHH SPA, on or before the Transaction Unconditional Date, in which case the CHH SPA may be wholly unconditional on the Transaction Unconditional Date. If this occurs, the provisions of clause 2.4 and 2.5 shall not apply.

 

2.7 Issue of Ausco Shares: When Ausco is required to issue Ausco Subscription Shares to any party pursuant to this clause 2, Ausco will:

 

  (a) issue and allot those Ausco Subscription Shares as fully paid, in accordance with the Corporations Act; and

 

  (b)

ensure that each Ausco Subscriber is registered as the holder of its Ausco Subscription Shares, by procuring the Ausco Board to enter that Ausco

 

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Shareholder’s name in the share register of Ausco in relation to its Ausco Subscription Shares.

 

2.8 Satisfaction of Ausco subscription moneys by CAM: To the extent that CAM is required to pay a sum to Ausco in accordance with clauses 2.3(a) or 2.5(a) (Subscription Payment), upon that Subscription Payment becoming payable in accordance with clause 2.3(a) or 2.5(a), as the case may be, CAM shall be deemed to have satisfied that Subscription Payment, by RREEF and RNZ deducting an amount equal to that Subscription Payment from the CAM Transaction Fee.

 

2.9 Acknowledgement regarding CAM: The parties to this agreement acknowledge that CAM is a lender under the Investor Loan Facility. To the extent that CAM is required to advance a loan to Treeco under the Investor Loan Facility, CAM shall be deemed to have satisfied that obligation to advance, by RREEF and RNZ deducting an amount equal to that advance from the CAM Transaction Fee, and Treeco irrevocably acknowledges that such deduction shall satisfy in full CAM’s obligation to advance under the Investor Loan Facility.

 

2.10 Buyback of initial Ausco Share: At the same time that Ausco issues Ausco Shares pursuant to clause 2.3(b)(ii), it shall buy back, for no consideration, the initial Ausco Share held by RNZ. All Ausco subscribers unconditionally agree to consent to this buyback pursuant to relevant provisions of the Corporations Act and this agreement.

 

3. SUBSCRIPTION, ISSUE AND PAYMENT OF HOLDCO SHARES

 

3.1 Subscription for Holdco Shares: Each Holdco Subscriber agrees to subscribe for, and Holdco agrees to issue the Holdco Subscription Shares:

 

  (a) in the percentage proportions set out in Part B of schedule one;

 

  (b) in accordance with the terms of this agreement; and

 

  (c) otherwise on and subject to the terms set out in the Holdco Constitution.

 

3.2 First Holdco Subscription Amount payable: The First Holdco Subscription Amount shall become payable by each Holdco Subscriber to Holdco on the First Ausco Subscription Satisfaction Date.

 

3.3 Satisfaction of First Holdco Subscription Amount:

 

  (a) Ausco shall satisfy the First Holdco Subscription Amount by payment of immediately available funds to the bank account nominated by Holdco, immediately upon receipt of the First Ausco Subscription Satisfaction Notice.

 

  (b) RCL shall satisfy the First Holdco Subscription Amount by payment of immediately available funds to the bank account nominated by Holdco immediately upon RNZ Completion occurring, provided that if RNZ Completion has not occurred as a consequence of:

 

  (i) a breach of the RNZ SPA by RNZ, or

 

  (ii) a breach by BNZ under the Senior Facility Agreement

 

this clause 3.3(b) shall not apply to release RCL from its obligation to satisfy the First Holdco Subscription Amount.

 

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  (c) Upon receipt of the First Holdco Subscription Amount from each Holdco Subscriber, Holdco shall immediately:

 

  (i) notify Treeco in writing that the First Holdco Subscription Amount has been paid (First Holdco Subscription Satisfaction Notice); and

 

  (ii) issue and allot to each Holdco Subscriber one fully paid Holdco Subscription Share for each dollar paid by it pursuant to clause 3.3(a) or 3.3(b), as the case may be.

 

3.4 Second Holdco Subscription Amount payable: The Second Holdco Subscription Amount shall become payable by each Holdco Subscriber to Holdco on the Regional Completion Date.

 

3.5 Satisfaction of Second Holdco Subscription Amount:

 

  (a) Each Holdco Subscriber shall satisfy the Second Holdco Subscription Amount by payment of immediately available funds to the bank account nominated by Holdco on the Regional Completion Date.

 

  (b) Upon receipt of the Second Holdco Subscription Amount from each Holdco Subscriber, Holdco shall immediately:

 

  (i) notify Treeco in writing that the Second Holdco Subscription Amount has been paid (Second Holdco Subscription Satisfaction Notice); and

 

  (ii) issue and allot to each Holdco Subscriber one fully paid Holdco Subscription Share for each dollar payable by it pursuant to clause 3.5(a).

 

3.6 Regional Condition satisfied early: If clause 2.6 applies, clauses 3.4 and 3.5 shall not apply.

 

3.7 Issue of Holdco Shares: When Holdco is required to issue Holdco Subscription Shares to any party pursuant to this clause 3, Holdco will:

 

  (a) issue and allot those Holdco Subscription Shares fully paid in accordance with the Companies Act; and

 

  (b) ensure that each Holdco Subscriber is registered as the holder of its Holdco Subscription Shares, by procuring the Holdco Board to enter that Holdco Subscriber’s name in the share register of Holdco in relation to its Holdco Subscription Shares.

 

4. SUBSCRIPTION, ISSUE AND PAYMENT OF TREECO SHARES

 

4.1 Subscription for Treeco Shares: Holdco agrees to subscribe for, and Treeco agrees to issue the Treeco Subscription Shares:

 

  (a) in accordance with the terms of this agreement; and

 

  (b) otherwise on and subject to the terms set out in the Treeco Constitution.

 

4.2

First Treeco Subscription Amount payable: The First Treeco Subscription Amount shall become due and payable by Holdco upon the receipt by Holdco of the First Holdco

 

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Subscription Amount from all Holdco Shareholders in accordance with clause 3.3(a) or 3.3(b) as the case may be.

 

4.3 Satisfaction of First Treeco Subscription Amount: Holdco shall satisfy the First Treeco Subscription Amount by payment of immediately available funds to the bank account nominated by Treeco. Immediately upon receipt of the First Treeco Subscription Amount, Treeco shall issue and allot to Holdco one fully paid Treeco Subscription Share for each dollar payable by Holdco to Treeco pursuant to this clause 4.

 

4.4 Second Treeco Subscription Amount payable: The Second Treeco Subscription Amount shall become due and payable by Holdco to Treeco upon the receipt by Holdco of the Second Holdco Subscription Amount from all Holdco Shareholders in accordance with clause 3.5(a).

 

4.5 Satisfaction of Second Treeco Subscription Amount: Holdco shall satisfy the Second Treeco Subscription Amount by payment of immediately available funds to the bank account nominated by Treeco. Immediately upon receipt of the Second Treeco Subscription Amount, Treeco shall issue and allot to Holdco one fully paid Treeco Subscription Share for each dollar payable by Holdco to Treeco pursuant to this clause.

 

4.6 Regional Condition satisf