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 September 30, 2007

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 a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer  x                    Accelerated filer  ¨                    Non-accelerated filer  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    YES  ¨    NO  x

As of October 22, 2007, there were outstanding 78,043,723 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 Nine
Months Ended September 30, 2007 and 2006

   1
  

Condensed Consolidated Balance Sheets as of September 30, 2007 and December 3l, 2006

   2
  

Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2007
and 2006

   3
  

Notes to Condensed Consolidated Financial Statements

   4

Item 2.

  

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

   23

Item 3.

  

Quantitative and Qualitative Disclosures about Market Risk

   34

Item 4.

  

Controls and Procedures

   34

PART II.

  

OTHER INFORMATION

  

Item 1.

  

Legal Proceedings

   35

Item 1A.

  

Risk Factors

   35

Item 2.

  

Unregistered Sales of Equity Securities and Use of Proceeds

   35

Item 3.

  

Defaults Upon Senior Securities

   35

Item 4.

  

Submission of Matters to a Vote of Security Holders

   35

Item 5.

  

Other Information

   35

Item 6.

  

Exhibits

   35
  

Signature

   37


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

AND COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands, except per share data)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2007     2006     2007     2006  

SALES

   $ 334,215     $ 312,029     $ 934,296     $ 901,303  
                                

Costs and Expenses

        

Cost of sales (the nine months ended September 30, 2007 includes
$10.1 million fire loss charge)

     227,357       231,454       690,224       702,893  

Selling and general expenses

     16,958       14,487       48,925       45,107  

Other operating (income) expense, net

     (2,583 )     202       (7,124 )     (1,848 )
                                
     241,732       246,143       732,025       746,152  

Equity in income (loss) of New Zealand joint venture

     151       (136 )     1,246       (985 )
                                

OPERATING INCOME BEFORE GAIN ON SALE OF
NEW ZEALAND TIMBER ASSETS

     92,634       65,750       203,517       154,166  

Gain on sale of New Zealand timber assets

     —         —         —         7,769  
                                

OPERATING INCOME

     92,634       65,750       203,517       161,935  

Interest expense

     (14,979 )     (11,057 )     (42,212 )     (35,120 )

Interest and miscellaneous income, net

     1,429       3,093       3,613       7,073  
                                

INCOME BEFORE INCOME TAXES

     79,084       57,786       164,918       133,888  

Income tax provision

     (7,627 )     (2,749 )     (25,070 )     (12,681 )
                                

NET INCOME

     71,457       55,037       139,848       121,207  
                                

OTHER COMPREHENSIVE INCOME (LOSS)

        

Foreign currency translation adjustment

     3,116       6,769       5,387       (1,936 )

Amortization of pension and postretirement costs

     1,389       —         3,941       —    
                                

COMPREHENSIVE INCOME

   $ 75,962     $ 61,806     $ 149,176     $ 119,271  
                                

EARNINGS PER COMMON SHARE

        

Basic earnings per share

   $ 0.92     $ 0.71     $ 1.80     $ 1.58  
                                

Diluted earnings per share

   $ 0.90     $ 0.70     $ 1.77     $ 1.55  
                                

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 stated)

 

     September 30,
2007
    December 31,
2006
 
ASSETS     

CURRENT ASSETS

    

Cash and cash equivalents

   $ 92,145     $ 40,171  

Accounts receivable, less allowance for doubtful accounts of $963 and $560

     105,665       100,309  

Inventory

    

Finished goods

     51,973       57,338  

Work in process

     7,079       7,823  

Raw materials

     8,887       8,496  

Manufacturing and maintenance supplies

     1,781       1,936  
                

Total inventory

     69,720       75,593  

Other current assets

     31,535       43,242  

Timber assets held for sale

     —         40,955  
                

Total current assets

     299,065       300,270  
                

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

     1,115,437       1,127,513  

PROPERTY, PLANT AND EQUIPMENT

    

Land

     25,151       25,291  

Buildings

     121,256       118,348  

Machinery and equipment

     1,193,990       1,221,305  
                

Total property, plant and equipment

     1,340,397       1,364,944  

Less - accumulated depreciation

     (991,707 )     (1,011,164 )
                
     348,690       353,780  
                

INVESTMENT IN JOINT VENTURE

     62,635       61,233  

OTHER ASSETS

     142,025       121,802  
                
   $ 1,967,852     $ 1,964,598  
                
LIABILITIES AND SHAREHOLDERS’ EQUITY     

CURRENT LIABILITIES

    

Accounts payable

   $ 55,087     $ 73,758  

Bank loans and current maturities

     585       3,550  

Accrued taxes

     15,560       16,296  

Accrued payroll and benefits

     26,743       24,879  

Accrued interest

     14,871       19,551  

Accrued customer incentives

     10,004       9,494  

Liability for uncertain tax positions

     12,021       —    

Other current liabilities

     33,625       35,110  

Current liabilities for dispositions and discontinued operations

     8,930       10,699  
                

Total current liabilities

     177,426       193,337  
                

LONG-TERM DEBT

     620,976       655,447  

NON-CURRENT LIABILITIES FOR DISPOSITIONS AND
DISCONTINUED OPERATIONS

     106,888       111,817  

PENSION AND OTHER POSTRETIREMENT BENEFITS

     64,743       73,303  

OTHER NON-CURRENT LIABILITIES

     14,044       12,716  

COMMITMENTS AND CONTINGENCIES (Notes 10 and 12)

    

SHAREHOLDERS’ EQUITY

    

Common shares, 120,000,000 shares authorized, 78,001,932
and 76,879,826 shares issued and outstanding

     479,116       450,636  

Retained earnings

     523,977       495,988  

Accumulated other comprehensive loss

     (19,318 )     (28,646 )
                
     983,775       917,978  
                
   $ 1,967,852     $ 1,964,598  
                

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 stated)

 

     Nine Months Ended
September 30,
 
     2007     2006  

OPERATING ACTIVITIES

    

Net income

   $ 139,848     $ 121,207  

Non-cash items included in net income:

    

Depreciation, depletion and amortization

     114,944       98,798  

Non-cash cost of forest fire losses

     9,601       —    

Non-cash cost of real estate sold

     7,727       10,818  

Non-cash stock-based incentive compensation expense

     10,106       8,099  

Gain on sale of New Zealand timber assets

     —         (7,769 )

Deferred income tax benefit

     (4,943 )     (9,317 )

Other

     5,114       1,511  

(Increase) decrease in accounts receivable

     (5,358 )     1,505  

Decrease in inventory

     3,922       26  

(Decrease) increase in accounts payable

     (13,538 )     227  

Decrease (increase) in other current assets

     13,108       (19,670 )

Increase in accrued liabilities

     5,904       22,012  

(Decrease) increase in other non-current liabilities

     (7,047 )     2,751  

Increase in other non-current assets

     (8,640 )     (440 )

Expenditures for dispositions and discontinued operations

     (7,017 )     (7,409 )
                

CASH PROVIDED BY OPERATING ACTIVITIES

     263,731       222,349  
                

INVESTING ACTIVITIES

    

Capital expenditures

     (67,398 )     (87,992 )

Purchase of timberlands and wood chipping facilities

     (12,434 )     (9,387 )

Purchase of real estate

     (4,350 )     (21,101 )

Proceeds from sale of portion of New Zealand timber assets

     —         21,770  

Increase in restricted cash

     (396 )     (3,599 )

Other

     1,032       920  
                

CASH USED FOR INVESTING ACTIVITIES

     (83,546 )     (99,389 )
                

FINANCING ACTIVITIES

    

Issuance of debt

     122,000       93,000  

Repayment of debt

     (160,550 )     (95,685 )

Dividends paid

     (111,628 )     (107,820 )

Issuance of common shares

     15,014       7,013  

Repurchase of common shares

     —         (526 )

Tax benefits on stock based compensation

     6,284       2,505  
                

CASH USED FOR FINANCING ACTIVITIES

     (128,880 )     (101,513 )
                

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     669       1,211  
                

CASH AND CASH EQUIVALENTS

    

Increase in cash and cash equivalents

     51,974       22,658  

Balance, beginning of year

     40,171       146,227  
                

Balance, end of period

   $ 92,145     $ 168,885  
                

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION

    

AND NONCASH INVESTING ACTIVITIES:

    

Cash paid during the period:

    

Interest

   $ 46,275     $ 24,466  
                

Income taxes

   $ 9,742     $ 22,848  
                

Non-cash investing activity:

    

Capital assets purchased on account

   $ 4,114     $ 5,384  
                

See Notes to Condensed 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)

 

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, financial position and cash flows for the periods presented. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP) 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; 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 2006 Annual Report on Form 10-K.

New Accounting Standards

In September 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements (SFAS 157). This Standard defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. It applies to other accounting pronouncements where the FASB requires or permits fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is required to adopt SFAS 157 in the first quarter of 2008 and has not yet determined the effect, if any, that the adoption will have on its results of operations or financial position.

 

2.

INCOME PER COMMON SHARE

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

 

     Three Months Ended
September 30,
   Nine Months Ended
September 30,
     2007    2006    2007    2006

Net income

   $ 71,457    $ 55,037    $ 139,848    $ 121,207
                           

Shares used for determining basic earnings per
common share

     77,760,290      76,508,135      77,454,510      76,421,839

Dilutive effect of:

           

Stock options

     895,966      1,190,336      1,011,521      1,290,432

Performance and restricted shares

     403,218      363,748      328,173      327,111
                           

Shares used for determining diluted earnings per
common share

     79,059,474      78,062,219      78,794,204      78,039,382
                           

Basic earnings per common share:

           

Net income

   $ 0.92    $ 0.71    $ 1.80    $ 1.58
                           

Diluted earnings per common share:

           

Net income

   $ 0.90    $ 0.70    $ 1.77    $ 1.55
                           

 

3.

FOREST FIRES

During the second quarter of 2007, the Company recorded a $10.1 million charge ($0.13 per share) in its Timber segment’s cost of sales for realized losses and an estimate of probable losses resulting from wildfires on approximately 64,000 acres of the Company’s timberlands in Southeast Georgia and Northeast Florida. The Company’s estimate was based primarily on aerial surveys as well as sample assessments made at the ground level. Company personnel were unable to access the entire 64,000 acres at ground level, which generally provides the best estimate of damage. The Company will continue to assess the damage during the balance of the year and believes that additional losses of $1.0 million to $3.0 million for timber damaged by fire are reasonably possible.

 

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Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

4.

INCOME TAXES

The Company is a real estate investment trust (REIT); therefore, if applicable Internal Revenue Code (Code) requirements are met, only the Company’s taxable REIT subsidiaries (which operate the Company’s non-REIT qualified businesses) are subject to corporate income taxes. However, the Company is subject to corporate income tax on built-in gains (the excess of fair market value over tax basis for property held by the Company upon REIT election at January 1, 2004) on taxable sales of property during the first ten years following its election to be taxed as a REIT. In accordance with SFAS No. 109, Accounting for Income Taxes (SFAS 109), the Company estimated the amount of timberland and other assets that will be sold in taxable transactions within the ten-year built-in gain period and retained deferred tax liabilities for such items. All deferred tax liabilities and assets related to the taxable REIT subsidiaries have also been retained.

Prohibited Transactions

As a REIT, the Company can be subject to a 100 percent tax on the gain resulting from “prohibited transactions.” The Company believes it did not engage in any prohibited transactions during the nine months ended September 30, 2007 and 2006, respectively.

Like-Kind Exchanges

Under current tax law, the built-in gain tax from the sale of REIT property can be eliminated if sales proceeds from “relinquished” properties are reinvested in similar property consistent with the requirements of the Code 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 (ten-year period which began on January 1, 2004). However, this does not restrict the Company’s ability to harvest timber on a pay-as-cut basis from such replacement property during the ten-year built-in gain period.

Undistributed Foreign Earnings

The Company has undistributed foreign earnings from its non-U.S. operations, which it intends to permanently reinvest overseas. The Company also intends to reinvest all future foreign earnings overseas. Therefore, no U.S. taxes have been provided on undistributed earnings.

Provision for Income Taxes

The Company’s effective tax rate before discrete items was 9.7 percent and 14.5 percent, and 14.2 percent and 14.6 percent in the three and nine months ended September 30, 2007 and 2006, respectively. The rates decreased principally due to higher REIT income in 2007. Including discrete items, the effective tax rate was 9.6 percent and 15.2 percent, and 4.8 percent and 9.4 percent for the three and nine months ended months ended September 30, 2007 and 2006, respectively. The 2007 discrete items included a net $5.5 million charge relating to the 2003 and 2004 IRS audits, a $3.6 million benefit from reducing a valuation allowance relating to Georgia income tax credits and a favorable $2.0 million return to accrual adjustment. The 2006 discrete items included a favorable adjustment for prior year IRS audit settlements.

The Company’s effective tax rate is below the 35 percent U.S. statutory tax rate primarily due to tax benefits associated with being a REIT, including post-REIT real estate appreciation and the effect of LKE transactions. Partially offsetting these benefits is the loss of tax deductibility on: (i) interest expense ($7.1 million in the quarter), (ii) the estimated forest fire loss ($10.1 million in the nine months ended September 30, 2007), and (iii) corporate overhead expenses associated with REIT activities ($3.7 million in the quarter). The net tax benefit from REIT activities for the third quarter of 2007 was $20.1 million compared to $11.6 million in the third quarter of 2006. The Company recognized $3.6 million in LKE tax benefits during the nine months ended September 30, 2007, compared to $4.1 million in the nine months ended September 30, 2006.

 

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Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

The following tables reconcile 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 nine months ended September 30 (millions of dollars, except percentages):

 

    

Three months ended

September 30,

 
     2007     %     2006     %  

Income tax provision at U.S. statutory rate

   $ (27.7 )   (35.0 )   $ (20.2 )   (35.0 )

REIT income not subject to federal tax

     20.1     25.4       11.6     20.1  

State and local income taxes, net of federal benefit

     (0.5 )   (0.6 )     (0.3 )   (0.5 )

Permanent differences/other

     0.4     0.5       0.8     1.2  
                            

Income tax provision before discrete items

     (7.7 )   (9.7 )     (8.1 )   (14.2 )

Taxing authority settlements and FIN 48 adjustments

     (5.5 )   (6.9 )     4.9     8.3  

Change in valuation allowance

     3.6     4.5       —       —    

Return to accrual adjustments

     2.0     2.5       (1.2 )   (2.1 )

Deferred tax adjustments/other

     —       —         1.7     3.2  
                            

Income tax provision as reported

   $ (7.6 )   (9.6 )   $ (2.7 )   (4.8 )
                            

 

    

Nine months ended

September 30,

 
     2007     %     2006     %  

Income tax provision at U.S. statutory rate

   $ (57.7 )   (35.0 )   $ (46.9 )   (35.0 )

REIT income not subject to federal tax

     33.8     20.5       25.1     18.8  

State and local income taxes, net of federal benefit

     (1.1 )   (1.0 )     (0.9 )   (0.7 )

Permanent differences/other

     1.1     1.0       3.2     2.3  
                            

Income tax provision before discrete items

     (23.9 )   (14.5 )     (19.5 )   (14.6 )

Taxing authority settlements and FIN 48 adjustments

     (5.5 )   (3.3 )     5.3     4.0  

Change in valuation allowance

     3.6     2.1       —       —    

Return to accrual adjustments

     2.0     1.3       (0.3 )   (0.2 )

Deferred tax adjustments/other

     (1.3 )   (0.8 )     1.9     1.4  
                            

Income tax provision as reported

   $ (25.1 )   (15.2 )   $ (12.6 )   (9.4 )
                            

Tax Audits

The following table provides detail of the tax years that remain subject to examination by the Internal Revenue Service (IRS) and other significant taxing jurisdictions:

 

Taxing Jurisdiction

   Open Tax Periods

U.S. Internal Revenue Service

   2003 – 2006

State of Florida

   2003 – 2006

State of Georgia

   2003 – 2006

State of Alabama

   2003 – 2006

New Zealand Inland Revenue

   2002 – 2006

In the third quarter of 2006, the Company reached a settlement with the IRS regarding disputed issues for its 2000, 2001 and 2002 tax years, resulting in the reversal of $4.9 million of federal tax liabilities previously established for these years. As a result of the settlement, the Company recorded a tax refund receivable of approximately $8.2 million (plus interest) which was received in the third quarter of 2007.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

In the third quarter of 2007, the IRS completed its examination of tax years 2003 and 2004. The Company is disputing one issue related to the taxability of a timberland sale the Company treated as an involuntary conversion in its 2003 tax year. The Company recorded a net discrete tax expense of $5.5 million as a result of the disputed issue and agreement on other tax issues.

The Company has other matters under review by various taxing authorities, including the examination of tax years 2005 and 2006 by the IRS. The Company believes its reported tax positions are technically sound and its uncertain tax position liabilities at September 30, 2007 adequately reflect the probable resolution of these items.

FIN 48 Disclosures

FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109 (FIN 48), clarifies the accounting for uncertain tax positions recognized in an enterprise’s financial statements in accordance with SFAS 109. It prescribes a recognition threshold and measurement criteria for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. In addition, it provides guidance on derecognition, classification, and interest and penalties. The Company adopted FIN 48 on January 1, 2007, which did not result in an adjustment to its opening balance of retained earnings. The disclosures associated with the adoption and the underlying uncertain tax positions follow:

 

 

(a)

The total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate at January 1, 2007 and September 30, 2007 is $5.1 million and $11.4 million, respectively.

 

 

(b)

The Company has recorded interest on the above unrecognized tax benefits of $1.1 million at January 1, 2007 and $3.2 million at September 30, 2007. The Company records interest (and penalties, if applicable) in non-operating expenses.

 

 

(c)

It is reasonably possible that within 12 months of September 30, 2007 the following unrecognized tax benefits could significantly decrease:

 

 

(i)

U.S. federal tax issues relating to the deemed taxability of foreign income.

 

 

 

The event that would cause such a change is the acceptance of IRS examination report for tax years 2005 – 2006.

 

 

 

An estimate of the reasonably possible change is a decrease of $0.9 million.

 

 

(ii)

U.S. federal tax issues relating to the deductibility of certain expenditures.

 

 

 

The event that would cause such a change is the completion of the IRS examination of tax years 2005 – 2006.

 

 

 

An estimate of the reasonably possible change is a decrease of $0.3 million.

 

 

(iii)

U.S. federal tax issues relating to utilization of foreign tax credits.

 

 

 

The event that would cause such a change is the completion of the IRS examination of tax years 2005 – 2006.

 

 

 

An estimate of the reasonably possible change is a decrease of $1.0 million.

 

 

(d)

It is reasonably possible that within 12 months of September 30, 2007 the following uncertain tax position could result in a change in tax benefits previously recognized:

 

 

(i)

U.S. federal tax issues relating to the taxability of a timberland sale treated as an involuntary conversion.

 

 

 

The event that would cause such a change is the settlement of the disputed issue at the Appeals administrative review level for tax year 2003.

 

 

 

An estimate of the range of the reasonably possible change is an increase of $4 million to a decrease of $2 million.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

5.

RESTRICTED DEPOSITS

In order to qualify for LKE treatment, cash proceeds from real estate sales must be deposited with a third party intermediary and accounted for as restricted cash until qualifying replacement property is acquired. In the event that LKE purchases are not completed, the proceeds are returned to the Company and reclassified as cash after 180 days. As of September 30, 2007 and December 31, 2006, the Company had $1.6 million and $1.2 million, respectively, of proceeds from real estate sales classified as restricted cash in “Other assets,” which were on deposit with an LKE intermediary.

 

6.

SHAREHOLDERS’ EQUITY

An analysis of shareholders’ equity for the nine months ended September 30, 2007 and the year ended December 31, 2006 is shown below:

 

     Common Shares     Retained
Earnings
    Accumulated
Other
Comprehensive
Income/(Loss)
    Shareholders’
Equity
 

(Share and per share amounts not in thousands)

   Shares     Amount        

Balance, December 31, 2005

   76,092,566     $ 422,364     $ 461,903     $ 7,604     $ 891,871  

Net income

   —         —         178,134       —         178,134  

Dividends ($1.88 per share)

   —         —         (144,049 )     —         (144,049 )

Issuance of shares under incentive stock plans

   801,521       12,611       —         —         12,611  

Stock-based compensation expense

   —         12,078       —         —         12,078  

Repurchase of common shares

   (14,261 )     (560 )     —         —         (560 )

Minimum pension liability adjustments

   —         —         —         13,339       13,339  

Tax benefit on stock-based compensation

   —         4,143       —         —         4,143  

Foreign currency translation adjustment

   —         —         —         3,226       3,226  

Impact of adopting SFAS No. 158

   —         —         —         (52,815 )     (52,815 )
                                      

Balance, December 31, 2006

   76,879,826     $ 450,636     $ 495,988     $ (28,646 )   $ 917,978  

Net income

   —         —         139,848       —         139,848  

Dividends ($1.44 per share)

   —         —         (111,859 )     —         (111,859 )

Issuance of shares under incentive stock plans

   1,122,106       12,090       —         —         12,090  

Stock-based compensation expense

   —         10,106       —         —         10,106  

Tax benefit on stock-based compensation

   —         6,284       —         —         6,284  

Amortization of pension and postretirement costs

   —         —         —         3,941       3,941  

Foreign currency translation adjustment

   —         —         —         5,387       5,387  
                                      

Balance, September 30, 2007

   78,001,932     $ 479,116     $ 523,977     $ (19,318 )   $ 983,775  
                                      

 

7.

JOINT VENTURE INVESTMENT

The Company holds a 40 percent interest in a joint venture (JV) that owns approximately 351,000 acres of New Zealand timberlands, which is accounted for using the equity method of accounting. In addition to the Company having an equity investment, Rayonier New Zealand Limited (RNZ), a wholly-owned subsidiary of Rayonier Inc., serves as the manager of the JV forests, for which it receives a fee. Income from the JV is reported in the Timber segment as operating income since the Company manages the forests and its JV interest is an extension of its operations. While the JV is subject to New Zealand income taxes, its timber harvest operations are held within the REIT; therefore, the Company generally is not required to pay U.S. federal income taxes on its equity investment income.

A portion of the Company’s equity method investment is recorded at historical cost which generates a difference between the book value of the Company’s investment and its proportionate share of the JV’s net assets. The difference represents the Company’s unrecognized gain from RNZ’s sale of timberlands to the JV. The deferred gain is being recognized on a straight-line basis over nine years (the estimated number of years the JV expects to harvest from the timberlands).

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

On June 30, 2006, the Company sold 9.72 percent of its interest in the JV to AMP Capital Investors Limited, a subsidiary of the Australian Corporation AMP Limited, thereby reducing its investment in the JV from 49.72 percent to 40 percent. The Company received approximately $21.8 million in cash proceeds and recorded an after-tax gain of $6.5 million, or $0.08 per common share.

The Company’s investment in the JV was $62.6 million and $61.2 million, at September 30, 2007 and December 31, 2006, respectively. For the three and nine months ended September 30, 2007, the Company’s equity in earnings from the JV were $0.2 million and $1.2 million, respectively. For the three and nine months ended September 30, 2006, the Company’s equity in the JV’s losses were $0.1 million and $1.0 million, respectively.

 

8.

SEGMENT INFORMATION

Rayonier operates in four reportable business segments as defined by SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information (SFAS 131): Timber, Real Estate, Performance Fibers, and Wood Products. Timber sales include all activities that relate to the harvesting of timber. The Real Estate segment includes the sale of all properties, including timberlands and those designated for higher and better use (HBU). In 2006, the Real Estate segment entered into two participation agreements with developers as part of the Company’s strategy to move up the real estate value chain and, in the future, the Real Estate segment may also include revenue generated from properties with entitlements and infrastructure improvements. The assets of the Real Estate segment include HBU property held by TerraPointe LLC (TerraPointe), Rayonier’s wholly-owned real estate development subsidiary, and timberlands under contract to be sold, as previously reported in the Timber segment. Allocations of depletion expense and the non-cash cost basis of real estate sold are recorded when the Real Estate segment reports the sale of an asset from the Timber segment. The Performance Fibers segment includes two major product lines: Cellulose Specialties and Absorbent Materials. The Wood Products segment is comprised of the Company’s lumber operations. 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 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.

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

 

     September 30,
2007
   December 31,
2006

ASSETS

     

Timber (a)

   $ 1,268,836    $ 1,255,443

Real Estate

     57,177      53,583

Performance Fibers

     482,425      476,148

Wood Products

     32,013      35,234

Other Operations

     29,438      29,252

Corporate and Other

     97,963      114,938
             

TOTAL

   $ 1,967,852    $ 1,964,598
             

 

(a)

In the third quarter 2007, the Company elected not to sell the forestry rights for $35 million of timber parcels located in Arkansas, Louisiana, Alabama and Texas and incorporated these parcels into its timberland management program. These parcels, which were acquired in the fourth quarter 2006, were previously stated as assets held for sale.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2007     2006     2007     2006  

SALES

        

Timber

   $ 50,260     $ 44,290     $ 171,966     $ 159,803  

Real Estate

     55,963       46,278       106,113       77,166  

Performance Fibers

     188,800       163,470       523,022       475,311  

Wood Products

     24,291       26,273       67,758       90,076  

Other Operations

     14,901       31,773       65,401       99,131  

Corporate and other

     —         (55 )     36       (184 )
                                

TOTAL

   $ 334,215     $ 312,029     $ 934,296     $ 901,303  
                                
     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2007     2006     2007     2006  

OPERATING INCOME (LOSS)

        

Timber (a)

   $ 11,979     $ 17,099     $ 49,283     $ 78,445  

Real Estate

     47,672       37,604       86,826       58,750  

Performance Fibers

     43,075       21,160       101,155       47,317  

Wood Products

     (1,461 )     (3,226 )     (5,470 )     1,328  

Other Operations

     307       131       (1,948 )     96  

Corporate and other

     (8,938 )     (7,018 )     (26,329 )     (24,001 )
                                

TOTAL

   $ 92,634     $ 65,750     $ 203,517     $ 161,935  
                                
     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2007     2006     2007     2006  

DEPRECIATION, DEPLETION AND AMORTIZATION

        

Timber (b)

   $ 17,473     $ 10,271     $ 65,410     $ 38,777  

Real Estate

     1,360       16       4,515       1,376  

Performance Fibers

     16,607       19,791       49,738       52,235  

Wood Products

     1,436       1,776       4,632       5,365  

Other Operations

     9       148       39       445  

Corporate and other

     63       195       211       600  
                                

TOTAL

   $ 36,948     $ 32,197     $ 124,545     $ 98,798  
                                

 

(a)

Nine months ended September 30, 2007 includes the $10.1 million estimated forest fire loss. Nine months ended September 30, 2006 includes the $7.8 million gain on sale of New Zealand timber assets.

 

(b)

Nine months ended September 30, 2007, includes the $9.6 million of non-cash cost related to forest fire losses.

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). Certain 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)

 

9.

FINANCIAL INSTRUMENTS

Interest Rate Swap Agreements

Rayonier Forest Resources, L.P. (RFR), a wholly-owned subsidiary of Rayonier Inc., previously entered into an interest rate swap on $40 million of 8.288 percent fixed rate notes payable which matures 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 (SFAS 133). As such, the net effect from the interest rate swap is recorded as interest expense. The interest rate differentials on the swap agreement settle every June 30 and December 31, until maturity. During the three and nine months ended September 30, 2007, this swap agreement increased interest expense by $0.2 million and $0.6 million, respectively. During the three and nine months ended September 30, 2006, this swap agreement increased the Company’s interest expense by $0.2 million and $0.5 million, respectively. Based upon current interest rates for similar transactions, the fair value of the interest rate swap agreement at September 30, 2007 and December 31, 2006 resulted in a liability of approximately $0.2 million and $0.8 million, respectively, with corresponding decreases in debt.

In addition, RFR holds an interest rate swap on $50 million of 8.288 percent fixed rate notes payable which also matures 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 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 nine months ended September 30, 2007, this swap agreement increased the Company’s interest expense by $0.3 million and $0.8 million, respectively. During the three and nine months ended September 30, 2006, this swap agreement increased the Company’s interest expense by $0.3 million and $0.6 million, respectively. Based upon current interest rates for similar transactions, the fair value of the interest rate swap agreement at September 30, 2007 and December 31, 2006 resulted in a liability of approximately $0.3 million and $0.9 million, respectively, with corresponding decreases in debt.

Commodity Swap Agreements

The Company enters into commodity forward contracts to fix some of its fuel oil and natural gas costs at its Performance Fibers mills. The Company’s commodity forward contracts do not qualify for hedge accounting under SFAS 133 and instead are required to be marked-to-market.

During the three and nine months ended September 30, 2007, the Company realized gains of $0.1 million and $0.3 million, respectively, on matured fuel oil forward contracts. The realized gains recorded on fuel oil forward contracts maturing during the three and nine months ended September 30, 2006 were $0.4 million and $1.5 million, respectively. At September 30, 2007, there were no outstanding fuel oil contracts. The mark-to-market valuation of outstanding fuel oil forward contracts at December 31, 2006 resulted in a liability of $0.4 million. The mark-to-market adjustments are recorded in “Other operating income/expense.”

During the three and nine months ended September 30, 2007, the Company realized a deminimus loss and gain, respectively, on matured natural gas forward contracts. During the three and nine months ended September 30, 2006, the Company realized losses of $0.2 million and $0.6 million, respectively, on matured natural gas forward contracts. At September 30, 2007, there were no outstanding natural gas contracts. At December 31, 2006, there was a $0.1 million liability associated with outstanding natural gas contracts. The mark-to-market adjustments are recorded in “Other operating income/expense.”

 

10.

GUARANTEES

The Company provides financial guarantees as required by creditors, insurance programs and foreign governmental agencies. As of September 30, 2007, the following financial guarantees were outstanding:

 

     Maximum
Potential
Payment
   Carrying
Amount of
Liability

Standby letters of credit (1)

   $ 72,898    $ 63,067

Guarantees (2)

     71,601      65,096

Surety bonds (3)

     9,089      1,717
             

Total

   $ 153,588    $ 129,880
             

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

 

(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 2007 and are typically renewed as required.

 

 

(2)

In August 2006, the Company entered into a $250 million unsecured revolving credit facility. Under this agreement, the Company guarantees the borrowings of its subsidiaries, RFR and Rayonier TRS Holdings Inc. (TRS), and TRS guarantees the borrowings of the Company. At September 30, 2007, the TRS had $65.0 million of outstanding borrowings on the revolving credit facility guaranteed by the Company.

In conjunction with the sale of RNZ’s timberlands to the JV in October 2005, the Company guaranteed five years of Crown Forest license obligations. The JV is the primary obligor and has posted a bank performance bond with the New Zealand government. If the JV fails to pay the obligation, the New Zealand government will demand payment from the bank that posted the bond. The Company would have to perform if the bank defaulted on the bond. A deminimus liability, representing Rayonier’s obligation to perform, was recorded in accordance with FASB Interpretation No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. As of September 30, 2007, three annual payments, of $1.2 million each, remain. This guarantee expires in 2010.

In conjunction with a timberland sale and note monetization in the first quarter of 2004, the Company issued a make-whole agreement pursuant to which it guaranteed $2.5 million of obligations of a qualified special purpose entity that was established to complete the monetization. At September 30, 2007 and December 31, 2006, the Company has recorded a deminimus liability to reflect the fair market value of its obligation to perform under the make-whole agreement.

 

 

(3)

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 2007 and are renewed as required.

 

 

(4)

See Note 15 – Subsequent Event for information on guarantees associated with the October 2007 debt offering.

 

11.

LIABILITIES FOR DISPOSITIONS AND DISCONTINUED OPERATIONS

The Company’s dispositions and discontinued operations include its Port Angeles, WA mill, which was closed in 1997; Southern Wood Piedmont Company (SWP), which ceased operations in 1989 except for investigation and remediation activities; 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 of 1980 (CERCLA) and/or other federal or state statutes relating to the investigation and remediation of environmentally-impacted sites, with respect to ten former wood processing sites which are no longer operating.

An analysis of activity in the liabilities for dispositions and discontinued operations for the nine months ended September 30, 2007 and the year ended December 31, 2006, is as follows:

 

     September 30,
2007
    December 31,
2006
 

Balance, January 1,

   $ 122,516     $ 140,382  

Expenditures charged to liabilities

     (7,017 )     (9,789 )

(Reductions)/additions to liabilities

     319       (8,077 )
                

Balance, end of period

     115,818       122,516  

Less: Current portion

     (8,930 )     (10,699 )
                

Non-current portion

   $ 106,888     $ 111,817  
                

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Rayonier has identified specific liabilities for three SWP sites (Augusta, GA, Spartanburg, SC, and East Point, GA) and Port Angeles, WA as material and requiring separate disclosure, which was presented in the Company’s 2006 Annual Report on Form 10-K. There have not been any significant changes in these sites’ estimated liabilities for the nine months ended September 30, 2007, and therefore separate disclosure is not presented herein. For an analysis of the liability activity for the three years ended December 31, 2006 and a brief description of these individually material sites, see the Company’s 2006 Annual Report on Form 10-K, Note 15 to Consolidated Financial Statements.

The Company currently estimates that expenditures for environmental remediation, monitoring and other costs for all dispositions and discontinued operations in 2007 and 2008 will be approximately $10 million and $7 million, respectively. Such costs will be charged against liabilities for dispositions and discontinued operations, which include environmental investigation, remediation and monitoring costs. The Company believes established liabilities 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 source remediation and/or control.

In addition, the Company is exposed to the risk of reasonably possible additional losses in excess of the established liabilities. As of September 30, 2007, this amount could range up to $30 million and arises from uncertainty over the effectiveness of treatments, additional contamination that may be discovered, changes in applicable law and the exercise of discretion in interpretation of applicable law and regulations by governmental agencies, and in environmental remediation technology.

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 significant changes in discharge or treatment volumes, requirements to perform additional or different remediation, changes in environmental remediation technology, the extent of groundwater contamination migration, additional findings of contaminated soil or sediment off-site, remedy selection, and the outcome of negotiations with federal and state agencies. Additionally, a site’s potential for “brownfields” (environmentally impacted site considered for re-development), or other similar projects, could accelerate expenditures as well as impact the amount and/or type of remediation required, as could new laws, regulations and the exercise of discretion in interpretation of applicable law and regulations by governmental agencies. 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.

 

12.

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 2006 Annual Report on Form 10-K.

The Company has been named as a defendant in various lawsuits and claims arising in the normal course of business. While we have procured reasonable and customary insurance covering risks normally occurring in connection with our businesses, we have in certain cases retained some risk through the operation of self-insurance, primarily in the areas of workers compensation, property insurance, and general liability. In our opinion, these other lawsuits and claims, either individually or in the aggregate, are not expected to have a material effect on our financial position, results of operations, or cash flow.

Legal Proceedings

In 1998, the U.S. Environmental Protection Agency (EPA) and the New Jersey Department of Environmental Protection (DEP) filed separate lawsuits against Rayonier Inc., and approximately 30 other defendants, in the U.S. District Court, District of New Jersey, seeking recovery of current and future response costs and natural resource damages under applicable federal and state law relating to a contaminated landfill in Chester Township, New Jersey, referred to as Combe Fill South (Combe). It is alleged that the Company’s former ERD in Whippany, New Jersey sent small quantities of dumpster waste, via a contract hauler, to Combe in the 1960s and early 1970s. The Company is working with other defendants in a joint defense group, which subsequently filed third-party actions against over 200 parties seeking contribution. A court-ordered, nonbinding alternative dispute resolution process has been ongoing for several years and, in March of 2006, a court-appointed neutral issued a report and recommendations. While settlement discussions have been active during the past quarter, no final agreement has yet been reached. The Company believes that its liabilities at September 30, 2007 adequately reflect the probable costs to be incurred upon the ultimate resolution of these matters.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Environmental Matters

The Company is subject to stringent environmental laws and regulations concerning air emissions, water discharges, waste handling and disposal, forestry operations, and real estate development. Such environmental laws and regulations include the Federal Clean Air Act, the Clean Water Act, the Resource Conservation and Recovery Act, as amended, CERCLA, the Endangered Species Act and similar state laws and regulations, and various state and local laws and regulations affecting forestry and real estate. Management closely monitors its environmental responsibilities, and believes that the Company is in substantial compliance with current environmental requirements. Notwithstanding Rayonier’s current compliance status, many of its operations are subject to stringent and constantly evolving environmental requirements which are often the result of legislation, regulation and negotiation. As such, contingencies in this area include, without limitation:

 

 

 

The Company’s manufacturing facilities operate in accordance with various permits, which often impose operating conditions that require significant expenditures to ensure compliance. Upon renewal and renegotiation of these permits, the issuing agencies often seek to impose new or additional conditions, which could adversely affect our operations and financial performance.

 

 

 

As environmental laws and regulations change, and administrative and judicial interpretations of new and existing laws and regulations are made, our operations may be adversely affected. For example, at our Performance Fibers mills, implementation of the EPA’s 1998 “Cluster Rules” (parallel rulemaking for air and water-based technology discharge limits for pulp and paper mills) with respect to certain portions of dissolving pulp mills has been delegated to the respective states, and since they have not yet been proposed, the timing and ultimate costs are uncertain.

 

 

 

In our forestry operations, federal, state and local laws and regulations intended to protect threatened and endangered animal and plant species and their habitat, as well as wetlands and waterways, limit, and in some cases may prevent, timber harvesting, road construction and other activities on private lands. For example, Washington, where the Company holds approximately 370,000 acres of timberlands, has among the most stringent forestry laws and regulations in the country.

 

 

 

Environmental requirements relating to real estate development, and especially in respect of wetland delineation and mitigation, stormwater management, drainage, waste disposal, and potable water supply and protection, may significantly impact the size, scope, timing, and financial returns of our projects. Moreover, multiple permits and approvals are often required for a project, and may involve a lengthy application process.

 

 

 

Over time, the complexity and stringency of environmental laws and regulations have increased significantly, and the cost of compliance with these laws and regulations has also increased. Similarly, the investigatory and remedial standards and requirements relating to our discontinued operations continue to tighten over time. In general, management believes these trends will continue.

Given all of these contingencies, it is the opinion of management that substantial expenditures will be required over the next ten years in the area of environmental compliance. See Note 11 – Liabilities for Dispositions and Discontinued Operations for additional information regarding the Company’s environmental liabilities.

 

13.

EMPLOYEE BENEFIT PLANS

The Company has four qualified non-contributory defined benefit pension plans which collectively cover substantially all of its employees and an unfunded plan that provides benefits in excess of amounts allowable under current tax law in the qualified plans. Employee benefit plan liabilities are calculated using actuarial estimates and management assumptions. These estimates are based on historical information, along with certain assumptions about future events. Changes in assumptions, as well as changes in actual experience, could cause the estimates to change.

The Company closed enrollment in its pension and postretirement medical plans to salaried employees hired after December 31, 2005. Salaried employees hired after December 31, 2005 are automatically enrolled in the Company’s 401(k) plan and receive an enhanced retirement contribution.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

The net periodic benefit cost for the Company’s pension and postretirement plans (medical and life insurance) for the three and nine months ended September 30, 2007 and 2006 are shown in the following table:

Components of Net Periodic Benefit Cost

 

     Pension     Postretirement
     Three Months Ended
September 30,
    Three Months Ended
September 30,
     2007     2006     2007    2006

Service cost

   $ 1,571     $ 1,839     $ 167    $ 193

Interest cost

     3,722       3,264       656      632

Expected return on plan assets

     (4,840 )     (3,862 )     —        —  

Amortization of prior service cost

     363       356       194      192

Amortization of losses

     1,094       1,214       317      305
                             

Net periodic benefit cost

   $ 1,910     $ 2,811     $ 1,334    $ 1,322
                             
     Pension     Postretirement
     Nine Months Ended
September 30,
    Nine Months Ended
September 30,
     2007     2006     2007    2006

Service cost

   $ 5,074     $ 5,820     $ 489    $ 578

Interest cost

     10,800       10,328       1,916      1,898

Expected return on plan assets

     (13,450 )     (12,219 )     —        —  

Amortization of prior service cost

     1,060       1,126       568      578

Amortization of losses

     3,039       3,841       926      916
                             

Net periodic benefit cost

   $ 6,523     $ 8,896     $ 3,899    $ 3,970
                             

The Company does not have any required pension plan contributions for 2007; however, the Company made a discretionary contribution of $20 million during the third quarter of 2007. Further contributions are not expected in the fourth quarter of 2007.

 

14.

ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Accumulated Other Comprehensive Income (Loss) was comprised of the following as of September 30, 2007 and December 31, 2006:

 

     September 30,
2007
    December 31,
2006
 

Foreign currency translation adjustments

   $ 32,679     $ 27,292  

Unrecognized components of employee benefit plans, net of tax

     (51,997 )     (55,938 )
                

Total

   $ (19,318 )   $ (28,646 )
                

During the nine months ended September 30, 2007, the net foreign currency translation adjustments were due to changes in the New Zealand to U.S. dollar exchange rate. After-tax amortization of unrecognized components of employee pension and postretirement plans of $1.4 million and $3.9 million was recognized during the three and nine months ended September 30, 2007, respectively.

 

15


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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

15.

SUBSEQUENT EVENT

In October 2007, Rayonier TRS Holdings Inc. issued $300 million of 3.75% Senior Exchangeable Notes due 2012. The notes are guaranteed by Rayonier Inc., are non-callable, and are exchangeable by holders for cash and, in certain circumstances, common stock of Rayonier Inc. The initial exchange rate is 18.24 shares per $1,000 principal based on an exchange price equal to 122% of our stock’s closing price of $44.93 on October 10, 2007. In order to limit potential dilution to Rayonier shareholders, TRS and Rayonier Inc. entered into separate exchangeable note hedge and warrant transactions which will have the effect of increasing the conversion premium from 22% to 40% or to $62.90 per share. We will use a portion of the net proceeds of the offering to repay in full indebtedness outstanding under our revolving credit facility and to repay a $112.5 million note maturing on December 31, 2007.

In connection with this offering, the Company is providing the following condensed consolidating financial information in accordance with SEC Regulation S-X Rule 3-10 Financial Statements of Guarantors and Issuers of Guaranteed Securities Registered or Being Registered. Each entity in the consolidating financial information follows the same accounting policies as described in the consolidated financial statements, except for the use of the equity method of accounting to reflect ownership interests in subsidiaries which are eliminated upon consolidation and the allocation of certain expenses of Rayonier Inc., incurred for the benefit of its subsidiaries.

The following condensed consolidating financial information presents the balance sheets as of September 30, 2007 and December 31, 2006, the statements of income for the three and nine months ended September 30, 2007 and 2006, and the statements of cash flows for the nine months ended September 30, 2007 and 2006 for the parent guarantor (Rayonier Inc.), the issuer (Rayonier TRS Holdings Inc.), the subsidiary non-guarantors and consolidating adjustments.

 

16


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

CONDENSED CONSOLIDATING STATEMENTS OF INCOME

 

    

Three Months Ended

September 30, 2007

 
     Rayonier Inc.
(Parent
Guarantor)
    Rayonier TRS
Holdings Inc.
(Issuer)
   Subsidiaries of
Rayonier TRS
Holdings Inc.
(Non-guarantors)
    All Other
Subsidiaries
(Non-guarantors)
    Consolidating
Adjustments
    Total
Consolidated
 

SALES

   $ —       $ —      $ 258,029     $ 87,273     $ (11,087 )   $ 334,215  
                                               

Costs and Expenses

             

Cost of sales

     407       —        209,612       28,462       (11,124 )     227,357  

Selling and general
expenses

     3,667       —        12,424       867       —         16,958  

Other operating (income)
expense, net

     (47 )     —        1,187       (3,723 )     —         (2,583 )
                                               
     4,027          223,223       25,606       (11,124 )     241,732  

Equity in income (loss) of New
Zealand joint venture

     295       —        (144 )     —         —         151  
                                               

OPERATING (LOSS)
INCOME

     (3,732 )     —        34,662       61,667       37       92,634  

Interest expense

     (2,148 )     —        (7,888 )     (4,943 )     —         (14,979 )

Interest, dividends and
miscellaneous income
(expense), net

     465       —        (866 )     1,830       —         1,429  

Equity in income from
subsidiaries

     84,086       24,559      —         —         (108,645 )     —    
                                               

INCOME BEFORE INCOME
TAXES

     78,671       24,559      25,908       58,554       (108,608 )     79,084  

Income tax provision

     (7,214 )     —        (1,349 )     —         936       (7,627 )
                                               

NET INCOME

   $ 71,457     $ 24,559    $ 24,559     $ 58,554     $ (107,672 )   $ 71,457  
                                               
    

Three Months Ended

September 30, 2006

 
     Rayonier Inc.
(Parent
Guarantor)
    Rayonier TRS
Holdings Inc.
(Issuer)
   Subsidiaries of
Rayonier
TRS Holdings Inc.
(Non-guarantors)
    All Other
Subsidiaries
(Non-guarantors)
    Consolidating
Adjustments
    Total
Consolidated
 

SALES

   $ 824     $ —      $ 282,484     $ 35,958     $ (7,237 )   $ 312,029  
                                               

Costs and Expenses

             

Cost of sales

     488       —        224,250       18,891       (12,175 )     231,454  

Selling and general
expenses

     2,805       —        10,892       790       —         14,487  

Other operating (income)
expense, net

     (345 )     —        1,553       (1,006 )     —         202  
                                               
     2,948       —        236,695       18,675       (12,175 )     246,143  

Equity in (loss) income of
New Zealand joint venture

     (727 )     —        591       —         —         (136 )
                                               

OPERATING (LOSS)
INCOME

     (2,851 )     —        46,380       17,283       4,938       65,750  

Interest expense

     (116 )     —        (5,954 )     (4,995 )     8       (11,057 )

Interest, dividends and
miscellaneous income, net

     252       —        1,678       1,171       (8 )     3,093  

Equity in income from
subsidiaries

     52,637       28,187      —         —         (80,824 )     —    
                                               
             

INCOME BEFORE INCOME
TAXES

     49,922       28,187      42,104       13,459       (75,886 )     57,786  

Income tax benefit
(provision)

     5,115       —        (13,917 )     —         6,053       (2,749 )
                                               

NET INCOME

   $ 55,037     $ 28,187    $ 28,187     $ 13,459     $ (69,833 )   $ 55,037  
                                               

 

17


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

CONDENSED CONSOLIDATING STATEMENTS OF INCOME

 

    Nine Months Ended September 30, 2007  
    Rayonier Inc.
(Parent Guarantor)
    Rayonier TRS
Holdings Inc.
(Issuer)
  Subsidiaries of
Rayonier TRS
Holdings Inc. (Non-
guarantors)
    All Other
Subsidiaries (Non-
guarantors)
    Consolidating
Adjustments
    Total
Consolidated
 

SALES

  $ —       $ —     $ 733,255     $ 228,642     $ (27,601 )   $ 934,296  
                                             

Costs and Expenses

           

Cost of sales (includes $10.1 million fire loss charge)

    268       —       616,337       101,668       (28,049 )     690,224  

Selling and general
expenses

    10,750       —       35,642       2,533       —         48,925  

Other operating income, net

    (159 )     —       (563 )     (6,402 )     —         (7,124 )
                                             
    10,859       —       651,416       97,799       (28,049 )     732,025  

Equity in income of New Zealand
joint venture

    277       —       969       —         —         1,246  
                                             

OPERATING (LOSS)
INCOME

    (10,582 )     —       82,808       130,843       448       203,517  

Interest expense

    (2,318 )     —       (25,184 )     (14,744 )     34       (42,212 )

Interest, dividends and
miscellaneous income
(expense), net

    1,135       —       (2,823 )     5,335       (34 )     3,613  

Equity in income from
subsidiaries

    161,551       42,262     —         —         (203,813 )     —    
                                             

INCOME BEFORE INCOME
TAXES

    149,786       42,262     54,801       121,434       (203,365 )     164,918  

Income tax provision

    (9,938 )     —       (12,539 )     —         (2,593 )     (25,070 )
                                             

NET INCOME

  $ 139,848     $ 42,262   $ 42,262     $ 121,434     $ (205,958 )   $ 139,848  
                                             
    Nine Months Ended September 30, 2006  
    Rayonier Inc.
(Parent Guarantor)
    Rayonier TRS
Holdings Inc.
(Issuer)
  Subsidiaries of
Rayonier TRS
Holdings Inc.
(Non-guarantors)
    All Other
Subsidiaries (Non-
guarantors)
    Consolidating
Adjustments
    Total
Consolidated
 

SALES

  $ 1,841     $ —     $ 776,045     $ 146,235     $ (22,818 )   $ 901,303  
                                             

Costs and Expenses

           

Cost of sales

    176       —       668,841       65,354       (31,478 )     702,893  

Selling and general
expenses

    9,488       —       33,292       2,327       —         45,107  

Other operating (income)
expense, net

    (97 )     —       1,906       (3,657 )     —         (1,848 )
                                             
    9,567       —       704,039       64,024       (31,478 )     746,152  

Equity in (loss) income of
New Zealand joint venture

    (1,882 )     —       897       —         —         (985 )
                                             

OPERATING (LOSS)
INCOME BEFORE GAIN
ON SALE OF
NEW ZEALAND
TIMBER ASSETS

    (9,608 )     —       72,903       82,211       8,660       154,166  

Gain on sale of New Zealand
timber assets

    —         —       7,769       —         —         7,769  
                                             

OPERATING (LOSS)
INCOME

    (9,608 )       80,672       82,211       8,660       161,935  

Interest expense

    (560 )     —       (20,077 )     (14,759 )     276       (35,120 )

Interest, dividends and
miscellaneous income, net

    774       —       4,848       1,727       (276 )     7,073  

Equity in income from
subsidiaries

    128,362       46,750     —         —         (175,112 )     —    
                                             

INCOME BEFORE INCOME
TAXES

    118,968       46,750     65,443       69,179       (166,452 )     133,888  

Income tax benefit
(provision)

    2,239       —       (18,693 )     —         3,773       (12,681 )
                                             

NET INCOME

  $ 121,207     $ 46,750   $ 46,750     $ 69,179     $ (162,679 )   $ 121,207  
                                             

 

18


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

CONDENSED CONSOLIDATING BALANCE SHEETS

 

     As of September 30, 2007
     Rayonier Inc.
(Parent
Guarantor)
   Rayonier TRS
Holdings, Inc.
(Issuer)
   Subsidiaries of
Rayonier TRS
Holdings Inc.
(Non-guarantors)
    All Other
Subsidiaries
(Non-guarantors)
   Consolidating
Adjustments
    Total
Consolidated

ASSETS

               

CURRENT ASSETS

               

Cash and cash equivalents

   $ 7,964    $ —      $ 19,250     $ 64,931    $ —       $ 92,145

Accounts receivable, less allowance
for doubtful accounts

     1,140      —        101,436       3,089      —         105,665

Inventory

     —        —        71,607       24      (1,911 )     69,720

Other current assets

     3,882      —        25,382       2,271      —         31,535

Intercompany interest receivable

     —        —        —         1,024      (1,024 )     —  
                                           

Total current assets

     12,986      —        217,675       71,339      (2,935 )     299,065
                                           

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

     1,815      —        37,338       1,076,284      —         1,115,437

PROPERTY, PLANT
AND EQUIPMENT, NET

     2,321      —        345,063       1,306      —         348,690

INVESTMENT IN JOINT VENTURE

     88,837      —        (26,202 )     —        —         62,635

INVESTMENT IN SUBSIDIARIES

     951,636      261,860      —         —        (1,213,496 )     —  

INTERCOMPANY/NOTES RECEIVABLE

     30,726      —        14,170       16,417      (61,313 )     —  

OTHER ASSETS

     36,575      —        395,670       6,348      (296,568 )     142,025
                                           

TOTAL ASSETS

   $ 1,124,896    $ 261,860    $ 983,714     $ 1,171,694    $ (1,574,312 )   $ 1,967,852
                                           

LIABILITIES AND
SHAREHOLDERS’ EQUITY

               

CURRENT LIABILITIES

               

Accounts payable

   $ 3,698    $ —      $ 49,220     $ 2,169    $ —       $ 55,087

Bank loans and current maturities

     —        —        585       —        —         585

Accrued taxes

     1,054      —        5,243       6,670      2,593       15,560

Accrued payroll and benefits

     15,071      —        11,672       —        —         26,743

Accrued interest

     2,107      —        7,858       4,906      —         14,871

Accrued customer incentives

     —        —        10,004       —        —         10,004

Liability for uncertain tax positions

     12,021      —        —         —        —         12,021

Other current liabilities

     3,538      —        11,255       18,832      —         33,625

Current liabilities for dispositions
and discontinued operations

     —        —        8,930       —        —         8,930
                                           

Total current liabilities

     37,489      —        104,767       32,577      2,593       177,426
                                           

LONG-TERM DEBT

     —        —        411,635       209,341      —         620,976

NON-CURRENT LIABILITIES
FOR DISPOSITIONS AND
DISCONTINUED OPERATIONS

     —        —        106,888       —        —         106,888

PENSION AND OTHER
POSTRETIREMENT BENEFITS

     65,116      —        (373 )     —        —         64,743

OTHER NON-CURRENT LIABILITIES

     11,749      —        1,724       16,973      (16,402 )     14,044

INTERCOMPANY PAYABLES

     26,767      —        97,213       5,174      (129,154 )     —  
                                           

TOTAL LIABILITIES

     141,121      —        721,854       264,065      (142,963 )     984,077
                                           

TOTAL SHAREHOLDERS’ EQUITY

     983,775      261,860      261,860       907,629      (1,431,349 )     983,775
                                           

TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY

   $ 1,124,896    $ 261,860    $ 983,714     $ 1,171,694    $ (1,574,312 )   $ 1,967,852
                                           

 

19


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

CONDENSED CONSOLIDATING BALANCE SHEETS

 

     As of December 31, 2006
     Rayonier
Inc. (Parent
Guarantor)
   Rayonier
TRS
Holdings
Inc.
(Issuer)
   Subsidiaries
of Rayonier
TRS
Holdings
Inc. (Non-
guarantors)
    All Other
Subsidiaries
(Non-
guarantors)
   Consolidating
Adjustments
    Total
Consolidated

ASSETS

               

CURRENT ASSETS

               

Cash and cash equivalents

   $ 28,551    $ —      $ 13,867     $ —      $ (2,247 )   $ 40,171

Accounts receivable, less allowance
for doubtful accounts

     591      —        95,319       4,399      —         100,309

Inventory

     —        —        81,220       24      (5,651 )     75,593

Other current assets

     14,415      —        24,479       4,348      —         43,242

Intercompany interest receivable

     —        —        —         1,095      (1,095 )     —  

Timber assets held for sale

     —        —        40,955       —        —         40,955
                                           

Total current assets

     43,557      —        255,840       9,866      (8,993 )     300,270
                                           

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

     1,814      —        42,039       1,083,660      —         1,127,513

PROPERTY, PLANT AND EQUIPMENT, NET

     2,470      —        349,957       1,353      —         353,780

INVESTMENT IN JOINT VENTURE

     87,445      —        (26,212 )     —        —         61,233

INVESTMENT IN SUBSIDIARIES

     876,639      219,594      —         —        (1,096,233 )     —  

INTERCOMPANY/NOTES RECEIVABLE

     10,849      —        —         7,352      (18,201 )     —  

OTHER ASSETS

     18,663      —        371,592       4,381      (272,834 )     121,802
                                           

TOTAL ASSETS

   $ 1,041,437    $ 219,594    $ 993,216     $ 1,106,612    $ (1,396,261 )   $ 1,964,598
                                           

LIABILITIES AND SHAREHOLDERS’
EQUITY

               

CURRENT LIABILITIES

               

Accounts payable

   $ 10,860    $ —      $ 60,738     $ 4,407    $ (2,247 )   $ 73,758

Bank loans and current maturities

     —        —        3,550       —        —         3,550

Accrued taxes

     1,651      —        10,148       2,566      1,931       16,296

Accrued payroll and benefits

     12,404      —        12,394       81      —         24,879

Accrued interest

     8,505      —        11,046       —        —         19,551

Accrued customer incentives

     —        —        9,494       —        —         9,494

Other current liabilities

     4,963      —        14,162       15,985      —         35,110

Payable to Parent

     —        —        —         2,013      (2,013 )     —  

Current liabilities for dispositions and
discontinued operations

     —        —        10,699       —        —         10,699
                                           

Total current liabilities

     38,383      —        132,231       25,052      (2,329 )     193,337
                                           

DEFERRED INCOME TAXES

     1,055      —        5,253       —        (6,308 )     —  

LONG-TERM DEBT

     —        —        447,220       208,227      —         655,447

NON-CURRENT LIABILITIES FOR
DISPOSITIONS AND DISCONTINUED
OPERATIONS

     —        —        111,817       —        —         111,817

PENSION AND OTHER POSTRETIREMENT
BENEFITS

     73,511      —        (208 )     —        —         73,303

OTHER NON-CURRENT LIABILITIES

     10,510      —        1,624       582      —         12,716

INTERCOMPANY PAYABLE

     —        —        75,685       —        (75,685 )     —  
                                           

TOTAL LIABILITIES

     123,459      —        773,622       233,861      (84,322 )     1,046,620
                                           

TOTAL SHAREHOLDERS’ EQUITY

     917,978      219,594      219,594       872,751      (1,311,939 )     917,978
                                           

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

   $ 1,041,437    $ 219,594    $ 993,216     $ 1,106,612    $ (1,396,261 )   $ 1,964,598
                                           

 

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Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS

 

     Nine Months Ended September 30, 2007  
     Rayonier
Inc. (Parent
Guarantor)
    Rayonier
TRS
Holdings
Inc.
(Issuer)
    Subsidiaries
of Rayonier
TRS
Holdings
Inc. (Non-
guarantors)
    All Other
Subsidiaries
(Non-
guarantors)
    Consolidating
Adjustments
    Total
Consolidated
 

OPERATING ACTIVITIES

            

Net income

   $ 139,848     $ 42,262     $ 42,262     $ 121,434     $ (205,958 )   $ 139,848  

Non-cash items included in net income:

            

Equity in income from investments in
subsidiaries

     (161,551 )     (42,262 )     —         —         203,813       —    

Depreciation, depletion and amortization

     —         —         57,301       57,643       —         114,944  

Non-cash cost of forest fire losses

     —         —         —         9,601       —         9,601  

Non-cash cost of real estate sold

     —         —         5,167       3,008       (448 )     7,727  

Non-cash stock-based incentive compensation
expense

     4,143       —         5,963       —         —         10,106  

Deferred income tax (expense) benefit

     (15,285 )     —         10,342       —         —         (4,943 )

Other

     (277 )     —         5,391       —         —         5,114  

Dividends from investments in subsidiaries

     86,500       —         —         —         (86,500 )     —    

(Increase) decrease in accounts receivable

     (549 )     —         (6,119 )     1,310       —         (5,358 )

Decrease in inventory

     —         —         3,922       —         —         3,922  

Decrease in accounts payable

     (7,162 )     —         (8,956 )     (2,260 )     4,840       (13,538 )

Decrease in other current assets

     10,533       —         497       2,078       —         13,108  

Increase (decrease) in accrued liabilities

     9,998       —         (16,984 )     12,890       —         5,904  

(Decrease) increase in other non-current liabilities

     (7,156 )     —         120       16,391       (16,402 )     (7,047 )

Increase in other non-current assets

     (9,261 )     —         (12,438 )     (3,343 )     16,402       (8,640 )

Change in intercompany accounts

     26,796       —         (20,907 )     (5,889 )     —         —    

Expenditures for dispositions and discontinued
operations

     —         —         (7,017 )     —         —         (7,017 )
                                                

CASH PROVIDED BY OPERATING
ACTIVITIES

     76,577       —         58,544       212,863       (84,253 )     263,731  
                                                

INVESTING ACTIVITIES

            

Capital expenditures

     —         —         (43,126 )     (24,272 )     —         (67,398 )

Purchase of timberlands and wood chipping facilities

     —         —         (8,970 )     (36,764 )     33,300       (12,434 )

Purchase of real estate

     —         —         (4,350 )     —         —         (4,350 )

Proceeds from sale of timberlands

     —         —         33,300       —         (33,300 )     —    

Increase in restricted cash

     —         —         —         (396 )     —         (396 )

Other

     —         —         1,032       —         —         1,032  
                                                

CASH USED FOR INVESTING ACTIVITIES

     —         —         (22,114 )     (61,432 )     —         (83,546 )
                                                

FINANCING ACTIVITIES

            

Issuance of debt

     —         —         62,000       60,000       —         122,000  

Repayment of debt

     —         —         (100,550 )     (60,000 )     —         (160,550 )

Dividends paid

     (111,628 )     —         —         —         —         (111,628 )

Issuance of common shares

     15,014       —         —         —         —         15,014  

Distributions to parent

     —         —         —         (86,500 )     86,500       —    

Tax benefits on stock based compensation

     —         —         6,284       —         —         6,284  
                                                

CASH USED FOR FINANCING ACTIVITIES

     (96,614 )     —         (32,266 )     (86,500 )     86,500       (128,880 )
                                                

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     —         —         669       —         —         669  
                                                

CASH AND CASH EQUIVALENTS

            

Increase in cash and cash equivalents

     (20,037 )     —         4,833       64,931       2,247       51,974  

Balance, beginning of year

     28,551       —         13,867       —         (2,247 )     40,171  
                                                

Balance, end of period

   $ 8,514     $ —       $ 18,700     $ 64,931     $ —       $ 92,145  
                                                

 

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Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands unless otherwise stated)

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS

 

     Nine Months Ended September 30, 2006  
     Rayonier
Inc. (Parent
Guarantor)
    Rayonier
TRS
Holdings
Inc.
(Issuer)
    Subsidiaries
of Rayonier
TRS
Holdings
Inc. (Non-
guarantors)
    All Other
Subsidiaries
(Non-
guarantors)
    Consolidating
Adjustments
    Total
Consolidated
 

OPERATING ACTIVITIES

            

Net income

   $ 121,207     $ 46,750     $ 46,750     $ 69,179     $ (162,679 )   $ 121,207  

Non-cash items included in net income:

            

Equity in income from investments in
subsidiaries

     (128,362 )     (46,750 )     —         —         175,112       —    

Depreciation, depletion and amortization

     —         —         59,347       39,451       —         98,798  

Non-cash cost of real estate sold

     —         —         18,963       328       (8,473 )     10,818  

Non-cash stock-based incentive compensation
expense

     3,240       —         4,859       —         —         8,099  

Gain on sale of New Zealand timber assets

     —         —         (7,769 )     —         —         (7,769 )

Deferred income tax benefit

     97       —         (9,414 )     —         —         (9,317 )

Other

     1,882       —         (371 )     —         —         1,511  

Dividends from investments in subsidiaries

     100,000       —         —         —         (100,000 )     —    

Decrease (increase) in accounts receivable

     181       —         (1,274 )     2,598       —         1,505  

Decrease in inventory

     —         —         21       5       —         26  

Increase (decrease) in accounts payable

     2,683       —         (2,853 )     397       —         227  

Increase in other current assets

     (18,220 )     —         (1,147 )     (116 )     (187 )     (19,670 )

Increase in accrued liabilities

     6,538       —         5,958       13,289       (3,773 )     22,012  

Increase (decrease) in other non-current liabilities

     1,006       —         1,783       (38 )     —         2,751  

Decrease (increase) in other non-current assets

     1,219       —         (2,214 )     555       —         (440 )

Change in intercompany accounts

     (18,991 )     —         17,098       1,893       —         —    

Expenditures for dispositions and discontinued
operations

     —         —         (7,409 )     —         —         (7,409 )
                                                

CASH PROVIDED BY OPERATING
ACTIVITIES

     72,480       —         122,328       127,541       (100,000 )     222,349  
                                                

INVESTING ACTIVITIES

            

Capital expenditures

     —         —         (64,891 )     (23,101 )     —         (87,992 )

Purchase of timberlands and wood chipping facilities

     —         —         (5,064 )     (4,323 )     —         (9,387 )

Purchase of real estate

     —         —         (21,101 )     —         —         (21,101 )

Proceeds from sale of New Zealand timber assets

     —         —         21,770       —         —         21,770  

Increase in restricted cash

     —         —         —         (3,599 )     —         (3,599 )

Other

     —         —         920       —         —         920  
                                                

CASH USED FOR INVESTING ACTIVITIES

     —         —         (68,366 )     (31,023 )     —         (99,389 )
                                                

FINANCING ACTIVITIES

            

Issuance of debt

     —         —         —         93,000       —         93,000  

Repayment of debt

     —         —         (2,685 )     (93,000 )     —         (95,685 )

Dividends paid

     (107,820 )     —         —         —         —         (107,820 )

Issuance of common shares

     7,013       —         —         —         —         7,013  

Repurchase of common shares

     (526 )     —         —         —         —         (526 )

Distributions to parent

     —         —         —         (100,000 )     100,000       —    

Tax benefits on stock based compensation

     —         —         2,505       —         —         2,505  
                                                

CASH USED FOR FINANCING ACTIVITIES

     (101,333 )     —         (180 )     (100,000 )     100,000       (101,513 )
                                                

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     —         —         1,211       —         —         1,211  
                                                

CASH AND CASH EQUIVALENTS

            

Increase in cash and cash equivalents

     (28,853 )     —         54,993       (3,482 )     —         22,658  

Balance, beginning of year

     37,220       —         104,701       4,306       —         146,227  
                                                

Balance, end of period

   $ 8,367     $ —       $ 159,694     $ 824     $ —       $ 168,885  
                                                

 

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Table of Contents

Item 2.

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

Safe Harbor

Except for historical information, the statements made in this Quarterly Report are “forward-looking statements” made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. These forward-looking statements, which include statements regarding anticipated earnings, revenues, volumes, pricing, costs and other statements relating to Rayonier’s financial and operational performance, in some cases are identified by the use of words such as “may,” “will,” “should,” “expect,” “estimate,” “believe,” “anticipate” and other similar language. The following important factors, among others, could cause actual results to differ materially from those expressed in the forward-looking statements contained in this release: the cyclical and competitive nature of the forest products and real estate industries; fluctuations in demand for, or supply of, our performance fibers products, timber, wood products or real estate and entry of new competitors into these markets; changes in energy and raw material prices, particularly for our performance fibers and wood products businesses; changes in global market trends and world events, including those that could impact customer demand; changes in environmental laws and regulations, including laws regarding air emissions and water discharges, remediation of contaminated sites, delineation of wetlands, timber harvesting, and endangered species, that may restrict or adversely impact our ability to conduct our business; the lengthy, uncertain and costly process associated with the ownership or development of real estate, especially in Florida, which also may be affected by changes in law, policy and other political factors beyond our control; changes unexpected delays in the entry into or closing of real estate transactions; adverse weather conditions, including natural disasters, affecting our timberland and the production, distribution and availability of raw materials such as wood, energy and chemicals; our ability to identify and complete timberland and higher value real estate acquisitions; the geographic concentration of a significant portion of our timberlands; changes in key management and personnel; interest rate and currency movements; our capacity to incur additional debt; changes in import and export controls or taxes; our ability to continue to qualify as a REIT and to fund distributions using cash generated through our taxable REIT subsidiaries; the ability to complete like-kind-exchanges of timberlands and real estate; changes in tax laws that could reduce the benefits associated with REIT status; and additional factors described in the company’s most recent Form 10-K on file with the Securities and Exchange Commission. Rayonier assumes no obligation to update these statements except as may be required by law.

Critical Accounting Policies and Use of Estimates

The preparation of our consolidated financial statements requires us to make estimates, assumptions and judgments that affect our assets, liabilities, revenues and expenses and disclosure of contingent assets and liabilities. We base these estimates and assumptions on historical data and trends, current fact patterns, expectations and other sources of information we believe are reasonable. Actual results may differ from these estimates under different conditions. For a full description of our critical accounting policies, see Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations in the 2006 Annual Report on Form 10-K.

Segment Information

We operate in four reportable business segments as defined by SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information (SFAS 131): Timber, Real Estate, Performance Fibers, and Wood Products. Timber sales include all activities that relate to the harvesting of timber. Real Estate sales include the sale of all properties, including timberlands and those designated for higher and better use (HBU). In 2006, the Real Estate segment entered into two participation agreements with two developers as part of our strategy to move up the real estate value chain and, in the future, the Real Estate segment may also include revenue generated from properties with entitlements and infrastructure improvements. The assets of the Real Estate segment include HBU property held by TerraPointe LLC (TerraPointe), the Company’s wholly-owned real estate development subsidiary, and timberlands under contract to be sold, as previously reported in the Timber segment. Allocations of depletion expense and non-cash costs of land sold are recorded when the Real Estate segment sells an asset from the Timber segment. The Performance Fibers segment includes two major product lines, Cellulose Specialties and Absorbent Materials. The Wood Products segment is comprised of lumber operations. Our remaining operations include purchasing, harvesting and selling timber acquired from third parties (log trading) and trading wood products. As permitted by SFAS 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. We evaluate financial performance based on the operating income of the segments.

Due to the Company’s 2006 timberland acquisitions in five new states (Oklahoma, Arkansas, Texas, Louisiana, and New York), the Company has renamed its Timber segment regions from Southern and Northwestern to Eastern and Western, respectively. The Eastern region represents the Company’s operations in Florida, Georgia, Alabama, Oklahoma, Arkansas, Texas, Louisiana, and New York, while the Western region represents the Company's operations in Washington.

 

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Table of Contents

Operating income (loss), as stated in the following table and as presented in the Consolidated Statements of Income and Comprehensive Income, is equal to segment income (loss). The income (loss) items below “Operating income” in the 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 management to be part of segment operations.

Results of Operations, Three and Nine Months Ended September 30, 2007 Compared to Three and Nine Months Ended September 30, 2006.

 

Financial Information (in millions)

   Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2007     2006     2007     2006  

Sales

        

Timber

   $ 50.3     $ 44.3     $ 172.0     $ 159.8  

Real Estate

        

Development

     —         43.4       31.5       49.9  

Rural

     54.0       2.4       71.3       26.8  

Other

     1.9       0.5       3.3       0.5  
                                

Total Real Estate

     55.9       46.3       106.1       77.2  
                                

Performance Fibers

        

Cellulose Specialties

     137.6       120.3       396.1       353.4  

Absorbent Materials

     51.2       43.2       126.9       121.9  
                                

Total Performance Fibers

     188.8       163.5       523.0       475.3  
                                

Wood Products

     24.3       26.3       67.8       90.1  

Other operations

     14.9       31.8       65.4       99.1  

Intersegment Eliminations

     —         (0.2 )     —         (0.2 )
                                

Total Sales

   $ 334.2     $ 312.0     $ 934.3     $ 901.3  
                                

Operating Income (Loss)

        

Timber (a)

   $ 12.0     $ 17.1     $ 49.3     $ 78.5  

Real Estate

     47.7       37.6       86.8       58.7  

Performance Fibers

     43.1       21.1       101.2       47.3  

Wood Products

     (1.5 )     (3.2 )     (5.5 )     1.3  

Other operations

     0.3       0.1       (1.9 )     0.1  

Corporate and other expenses / eliminations

     (9.0 )     (7.0 )     (26.4 )     (24.0 )
                                

Total Operating Income

     92.6       65.7       203.5       161.9  

Interest Expense

     (15.0 )     (11.1 )     (42.2 )     (35.1 )

Interest / Other income

     1.5       3.1       3.6       7.1  

Income tax provision

     (7.6 )     (2.7 )     (25.1 )     (12.7 )
                                

Net Income

   $ 71.5     $ 55.0     $ 139.8     $ 121.2  
                                

Diluted Earnings Per Share

   $ 0.90     $ 0.70     $ 1.77     $ 1.55  
                                

 

(a)

For the nine months ended September 30, 2007, Timber segment operating income includes the $10.1 million fire loss charge. For the nine months ended September 30, 2006, Timber segment operating income reflects the $7.8 million gain on sale of New Zealand timber assets.

 

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Table of Contents

Timber

Overall Timber sales for the three and nine months ended September 30, 2007 increased from the prior year periods due to higher pulpwood and salvage timber volumes in the Eastern region partly offset by reduced sawlog volumes in the Western region and lower Eastern region pine prices.

The Eastern region’s volumes increased 62 percent and 30 percent, respectively, for the three and nine months ended September 30, 2007 primarily due to our 2006 timberland acquisitions, sales of salvage timber from the second quarter forest fires and strong market demand for pulpwood. Average pine prices declined for the three and nine months by 28 percent and 16 percent, respectively, due to the sales of salvage timber and the downturn in the housing market.

The Western region’s volumes decreased slightly for the three and nine months ended September 30, 2007, respectively, as a result of the slowdown in the housing market.

 

Sales (in millions)

        Changes Attributable to:     
     2006    Price     Volume    Mix/Other    2007

Three months ended September 30,

             

Total Sales

   $ 44.3    $ (8.3 )   $ 13.8    $ 0.5    $ 50.3
                                   
             

Nine months ended September 30,

             

Total Sales

   $ 159.8    $ (12.8 )   $ 22.1    $ 2.9    $ 172.0
                                   

Operating income for the Timber segment was below prior year periods primarily due to lower average prices and reduced margins due to sales mix in the Eastern region.

 

Operating Income (in millions)

        Changes Attributable to:      
     2006    Price     Volume    Mix/Cost*     2007

Three months ended September 30,

            

Total Operating Income

   $ 17.1    $ (8.3 )   $ 6.0    $ (2.8 )   $ 12.0
                                    
            

Nine months ended September 30,

            

Total Operating Income

   $ 78.5    $ (12.8 )   $ 17.7    $ (34.1 )   $ 49.3
                                    

 

*

For the nine months ended September 30, 2007, operating income includes the $10.1 million fire loss. In addition, 2006 operating income included the $7.8 million gain on sale of New Zealand timber assets.

Real Estate

Our real estate holdings in the Southeast have been segregated into two groups: development properties and rural properties. Development properties are predominantly located in the eleven coastal counties between Savannah, GA and Daytona Beach, FL, while the rural properties essentially include the balance of our ownership in the Southeast. Our Northwest U.S. real estate sales comprise the Other category.

During the three month periods ended September 30, sales and operating income increased primarily as a result of 3,100 acres of rural property sold in west central Florida for $46.6 million. For the nine month periods, sales and operating income improved primarily due to increased rural prices in 2007, while development prices and volumes declined. In 2007, we shifted our focus from sales of development lands to entitling activities.

 

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Table of Contents

Sales (in millions)

        Changes Attributable to:      
     2006    Price     Volume     2007

Three months ended September 30,

         

Development

   $ 43.4    $ —       $ (43.4 )   $ —  

Rural

     2.4      45.3       6.3       54.0

Other

     0.5      (1.1 )     2.5       1.9
                             

Total Sales

   $ 46.3    $ 44.2     $ (34.6 )   $ 55.9
                             
         
         

Nine months ended September 30,

         

Development

   $ 49.9    $ (5.8 )   $ (12.6 )   $ 31.5

Rural

     26.8      49.4       (4.9 )     71.3

Other

     0.5      (2.4 )     5.2       3.3
                             

Total Sales

   $ 77.2    $ 41.2     $ (12.3 )   $ 106.1
                             

 

Operating Income (in millions)

        Changes Attributable to:      
     2006    Price    Volume     2007

Three months ended September 30,

          

Total Operating Income

   $ 37.6    $ 44.2    $ (34.1 )   $ 47.7
                            
          

Nine months ended September 30,

          

Total Operating Income

   $ 58.7    $ 41.2    $ (13.1 )   $ 86.8
                            

Performance Fibers

For the three and nine months ended September 30, 2007, cellulose specialty sales improved by approximately $17 million and $43 million, respectively. Market demand for cellulose specialties resulted in average price increases of 7 percent and 10 percent, for the three and nine month periods, respectively. Volumes improved due to the timing of customer orders and fewer scheduled maintenance days.

Due to heavy demand in the fluff pulp market, sales prices for absorbent materials increased 12 percent and 11 percent, for the three and nine month periods ended September 30, 2007, respectively. Volume increased in the three month period primarily due to the timing of customer orders. For the nine month period, volume declined as a result of increased scheduled maintenance days. The result of these changes is an overall increase in absorbent material sales of $8 million and $5 million for the three and nine month periods, respectively.

 

Sales (in millions)

        Changes Attributable to:      
     2006    Price    Volume     2007

Three months ended September 30,

          

Cellulose Specialties

   $ 120.3    $ 9.2    $ 8.1     $ 137.6

Absorbent Materials

     43.2      5.4      2.6       51.2
                            

Total Sales

   $ 163.5    $ 14.6    $ 10.7     $ 188.8
                            
          

Nine months ended September 30,

          

Cellulose Specialties

   $ 353.4    $ 35.1    $ 7.6     $ 396.1

Absorbent Materials

     121.9      12.2      (7.2 )     126.9
                            

Total Sales

   $ 475.3    $ 47.3    $ 0.4     $ 523.0
                            

 

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Table of Contents

Operating income in 2007 improved by $22 million and $54 million for the three and nine month periods ending September 30, 2007, respectively, primarily due to price increases and lower costs.

 

           Changes Attributable to:     

Operating Income (in millions)

   2006    Price    Volume    Mix/Cost    2007

Three months ended September 30,

              

Total Operating Income

   $ 21.1    $ 14.6    $ 1.9    $ 5.5    $ 43.1
                                  

Nine months ended September 30,

              

Total Operating Income

   $ 47.3    $ 47.3    $ 1.5    $ 5.1    $ 101.2
                                  

Wood Products

Sales decreased compared to the prior year periods due to lower prices and volume. The 4 and 19 percent decline in lumber prices for the three and nine months ended September 30, 2007 resulted primarily from reduced demand in the housing market.

 

          Changes Attributable to:      

Sales (in millions)

   2006    Price     Volume     2007

Three months ended September 30,

         

Total Sales

   $ 26.3    $ (1.1 )   $ (0.9 )   $ 24.3
                             

Nine months ended September 30,

         

Total Sales

   $ 90.1    $ (15.8 )   $ (6.5 )   $ 67.8
                             

For the nine months ended September 30, 2007, operating income decreased compared to the prior year period due to lower prices and volume partially offset by lower wood costs. For the quarter, operating results improved primarily due to lower wood costs.

 

            Changes Attributable to:       

Operating Income/Loss (in millions)

   2006     Price     Volume     Mix/Cost    2007  

Three months ended September 30,

           

Total Operating (Loss)/Income

   $ (3.2 )   $ (1.1 )   $ 0.1     $ 2.7    $ (1.5 )
                                       

Nine months ended September 30,