Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

x

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

For the quarterly period ended June 30, 2008

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 (or for such shorter period that the registrant was required to file such reports), 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, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer  x

 

Accelerated filer  ¨

Non-accelerated filer   ¨    (Do not check if a smaller reporting company)

 

Smaller reporting company  ¨

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 July 21, 2008, there were outstanding 78,625,172 Common Shares of the Registrant.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

         PAGE

PART I.

 

FINANCIAL INFORMATION

  

Item 1.

 

Condensed Consolidated Financial Statements (Unaudited)

  
 

Condensed Consolidated Statements of Income and Comprehensive Income for the Three and Six Months Ended June 30, 2008 and 2007

  

1

 

Condensed Consolidated Balance Sheets as of June 30, 2008 and December 31, 2007

  

2

 

Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2008 and 2007

  

3

 

Notes to Condensed Consolidated Financial Statements

  

4

Item 2.

 

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

  

24

Item 3.

 

Quantitative and Qualitative Disclosures about Market Risk

  

36

Item 4.

 

Controls and Procedures

  

36

PART II.

 

OTHER INFORMATION

  

Item 1.

 

Legal Proceedings

  

37

Item 1A.

 

Risk Factors

  

37

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

  

37

Item 4.

 

Submission of Matters to a Vote of Security Holders

  

38

Item 5.

 

Other Information

  

39

Item 6.

 

Exhibits

  

40

 

Signature

  

41


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,
June 30,
    Six Months Ended
June 30,
 
     2008     2007     2008     2007  

SALES

   $ 304,867     $ 300,351     $ 589,060     $ 600,081  
                                

Costs and Expenses

        

Cost of sales

     237,036       231,125       448,047       462,867  

Selling and general expenses

     16,862       16,122       31,806       31,967  

Other operating income, net

     (3,420 )     (1,548 )     (4,706 )     (4,542 )
                                
     250,478       245,699       475,147       490,292  

Equity in (loss) income of New Zealand joint venture

     (804 )     1,071       168       1,094  
                                

OPERATING INCOME

     53,585       55,723       114,081       110,883  

Interest expense

     (11,726 )     (13,615 )     (22,924 )     (27,233 )

Interest and miscellaneous income, net

     620       1,171       2,120       2,184  
                                

INCOME BEFORE INCOME TAXES

     42,479       43,279       93,277       85,834  

Provision for income taxes

     (5,063 )     (9,968 )     (15,310 )     (17,444 )
                                

NET INCOME

     37,416       33,311       77,967       68,390  
                                

OTHER COMPREHENSIVE (LOSS) INCOME

        

Foreign currency translation adjustment

     (1,587 )     3,128       2,509       2,270  

Amortization of pension and postretirement costs, net of tax provision of $627 and $511, and $1,189 and $1,071

     1,440       1,227       2,785       2,552  
                                

COMPREHENSIVE INCOME

   $ 37,269     $ 37,666     $ 83,261     $ 73,212  
                                

EARNINGS PER COMMON SHARE

        

Basic earnings per share

   $ 0.48     $ 0.43     $ 1.00     $ 0.88  
                                

Diluted earnings per share

   $ 0.47     $ 0.42     $ 0.98     $ 0.87  
                                

See Notes to Condensed Consolidated Financials Statements.

 

1


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

(Dollars in thousands)

 

     June 30,
2008
    December 31,
2007
 
ASSETS     

CURRENT ASSETS

    

Cash and cash equivalents

   $ 21,008     $ 181,081  

Accounts receivable, less allowance for doubtful accounts of $586 and $677

     99,023       81,068  

Inventory

    

Finished goods

     76,459       63,083  

Work in process

     6,494       9,188  

Raw materials

     7,253       10,122  

Manufacturing and maintenance supplies

     2,327       1,898  
                

Total inventory

     92,533       84,291  

Other current assets

     61,912       49,780  
                

Total current assets

     274,476       396,220  
                

TIMBER AND TIMBERLANDS, NET OF DEPLETION AND AMORTIZATION

     1,285,750       1,117,219  

PROPERTY, PLANT AND EQUIPMENT

    

Land

     24,983       25,282  

Buildings

     124,165       124,030  

Machinery and equipment

     1,228,106       1,190,852  
                

Total property, plant and equipment

     1,377,254       1,340,164  

Less-accumulated depreciation

     (1,017,183 )     (994,409 )
                
     360,071       345,755  
                

INVESTMENT IN JOINT VENTURE

     64,769       62,766  

OTHER ASSETS

     166,804       157,081  
                
   $ 2,151,870     $ 2,079,041  
                
LIABILITIES AND SHAREHOLDERS’ EQUITY     

CURRENT LIABILITIES

    

Accounts payable

   $ 78,814     $ 66,224  

Bank loans and current maturities

     585       55,585  

Accrued taxes

     15,223       7,179  

Accrued payroll and benefits

     18,192       30,065  

Accrued interest

     3,992       3,481  

Accrued customer incentives

     8,279       12,350  

Other current liabilities

     41,406       33,460  

Current liabilities for dispositions and discontinued operations (Note 11)

     10,474       10,069  
                

Total current liabilities

     176,965       218,413  
                

LONG-TERM DEBT

     794,259       694,259  

NON-CURRENT LIABILITIES FOR DISPOSITIONS AND DISCONTINUED OPERATIONS (Note 11)

     98,399       103,616  

PENSION AND OTHER POSTRETIREMENT BENEFITS (Note 13)

     68,218       67,217  

OTHER NON-CURRENT LIABILITIES

     18,412       14,439  

COMMITMENTS AND CONTINGENCIES (Notes 10 and 12)

    

SHAREHOLDERS’ EQUITY

    

Common shares, 120,000,000 shares authorized 78,623,522 and 78,216,696 shares issued and outstanding

     497,167       487,407  

Retained earnings

     518,794       519,328  

Accumulated other comprehensive loss

     (20,344 )     (25,638 )
                
     995,617       981,097  
                
   $ 2,151,870     $ 2,079,041  
                

See Notes to Condensed Consolidated Financials Statements.

 

2


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)

 

     Six Months Ended
June 30,
 
     2008     2007  

OPERATING ACTIVITIES

    

Net income

   $ 77,967     $ 68,390  

Non-cash items included in net income:

    

Depreciation, depletion and amortization

     71,899       77,997  

Non-cash cost of forest fire losses

     —         9,601  

Non-cash cost of real estate sold

     4,606       3,578  

Non-cash stock-based incentive compensation expense

     7,075       7,597  

Deferred income tax provision

     6,943       988  

Excess tax benefits on stock-based compensation

     (2,088 )     (4,675 )

Other

     2,926       2,759  

(Increase) decrease in accounts receivable

     (17,955 )     418  

Decrease in inventory

     8,126       6,011  

Increase (decrease) in accounts payable

     10,009       (7,103 )

Increase in other current assets

     (14,303 )     (7,694 )

Increase (decrease) in accrued liabilities

     1,421       (23,115 )

Increase in other non-current liabilities

     545       3,911  

Decrease (increase) in other assets

     1,096       (1,392 )

Expenditures for dispositions and discontinued operations

     (3,394 )     (5,671 )
                

CASH PROVIDED BY OPERATING ACTIVITIES

     154,873       131,600  
                

INVESTING ACTIVITIES

    

Capital expenditures

     (59,881 )     (51,162 )

Purchase of timberlands and wood chipping facilities

     (229,424 )     (11,668 )

Decrease (increase) in restricted cash

     6,591       (43,213 )

Other

     (1,510 )     102  
                

CASH USED FOR INVESTING ACTIVITIES

     (284,224 )     (105,941 )
                

FINANCING ACTIVITIES

    

Issuance of debt

     120,000       100,000  

Repayment of debt

     (75,000 )     (93,000 )

Dividends paid

     (78,343 )     (72,749 )

Repurchase of common shares

     (3,738 )     —    

Issuance of common shares

     4,335       11,256  

Excess tax benefits on stock-based compensation

     2,088       4,675  
                

CASH USED FOR FINANCING ACTIVITIES

     (30,658 )     (49,818 )
                

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     (64 )     290  
                

CASH AND CASH EQUIVALENTS

    

Decrease in cash and cash equivalents

     (160,073 )     (23,869 )

Balance, beginning of year

     181,081       40,171  
                

Balance, end of period

   $ 21,008     $ 16,302  
                

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION AND NONCASH INVESTING ACTIVITIES:

    

Cash paid during the period:

    

Interest

   $ 21,022     $ 42,797  
                

Income taxes

   $ 3,840     $ 15,653  
                

Non-cash investing activity:

    

Capital assets purchased on account

   $ 12,665     $ 8,702  
                

See Notes to Condensed Consolidated Financials Statements.

 

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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 (including 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 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 2007 Annual Report on Form 10-K.

New Accounting Pronouncements

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 but does not require any new fair value measurements. In February 2008, the FASB issued FASB Staff Position (“FSP”) No. 157-2, Effective Date of FASB Statement No. 157, which delayed the effective date of SFAS 157 for certain non-financial assets and non-financial liabilities to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The Company adopted SFAS 157 for financial assets and liabilities on January 1, 2008. Adoption of SFAS 157 did not have any impact on the Company’s results of operations or financial position and did not result in any additional disclosures. The Company is in the process of evaluating the effect, if any, the adoption of FSP No. 157-2 will have on its results of operations or financial position.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities- Including an amendment of FASB Statement No. 115 (“SFAS 159”). This statement permits entities to choose to measure selected financial assets and liabilities at fair value. The Company did not elect to adopt the provisions of SFAS 159 for existing instruments eligible on January 1, 2008.

In December 2007, the FASB issued SFAS No. 141(R), Business Combinations (“SFAS 141(R)”). This statement modifies certain aspects of how the acquiring entity recognizes and measures the identifiable assets, the liabilities assumed and the goodwill acquired in a business combination. SFAS 141(R) is effective for fiscal years beginning after December 15, 2008. The Company has not determined the impact, if any, the statement will have on its financial condition, results of operations or cash flows.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements – an amendment of ARB No. 51 (“SFAS 160”). SFAS 160 is effective for fiscal years beginning after December 15, 2008. This statement addresses changes to noncontrolling interests (more commonly known as minority interests) which is the portion of equity in a subsidiary not attributable to the parent entity. Presently, the Company does not have any non-controlling interests. Therefore, the Company currently believes that the impact of SFAS 160, if any, will primarily depend on the materiality of non-controlling interests arising in future transactions, including those entered into during 2008, to which the financial statement presentation and disclosure provisions of SFAS 160 will apply.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities—an amendment of FASB Statement No. 133 (“SFAS 161”). This Statement requires enhanced disclosures about an entity’s derivative and hedging activities, including (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS 133”), and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company is in the process of evaluating the effect, if any, the adoption of SFAS 161 will have on its financial statements.

In May 2008, the FASB issued FASB Staff Position No. ARB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement) (“FSP ARB 14-1”). FSP ARB 14-1 requires that entities with convertible debt instruments that may be settled in cash upon conversion (including partial cash settlement) separately account for the liability and equity components in a manner that reflects the entity’s nonconvertible debt borrowing rate when interest expense is recognized in subsequent periods. The FSP is effective for financial statements issued for fiscal years beginning after December 15, 2008. The Company’s convertible debt is within the scope of FSP ARB 14-1. The Company is in the process of determining the impact the statement will have on its financial condition, results of operations and cash flows.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

2.

EARNINGS PER COMMON SHARE

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

 

     Three Months Ended
June 30,
   Six Months Ended
June 30,
     2008    2007    2008    2007

Net income

   $ 37,416    $ 33,311    $ 77,967    $ 68,390
                           

Shares used for determining basic earnings per

           

common share

     78,377,396      77,446,494      78,315,808      77,298,865

Dilutive effect of:

           

Stock options

     716,053      963,245      716,557      988,325

Performance and restricted shares

     304,038      356,953      278,336      296,056
                           

Shares used for determining diluted earnings

           

per common share

     79,397,487      78,766,692      79,310,701      78,583,246
                           

Earnings per share:

           

Basic

   $ 0.48    $ 0.43    $ 1.00    $ 0.88
                           

Diluted

   $ 0.47    $ 0.42    $ 0.98    $ 0.87
                           

 

3.

INCOME TAXES

Rayonier is a real estate investment trust (“REIT”). In general, only the Company’s taxable REIT subsidiaries, whose businesses include the Company’s non-REIT qualified activities, are subject to U.S. federal and state corporate income taxes. However, the Company is subject to U.S. 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 such built-in gain property during the first 10 years following the election to be taxed as a REIT. Accordingly, the only provision for U.S. corporate income taxes relates to current and deferred taxes on certain property sales and on income from taxable REIT subsidiary operations. In addition, the Company is subject to foreign tax on non-U.S. operations.

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 has not engaged in any prohibited transactions since it elected REIT status.

Like-Kind Exchanges

Under current tax law, the built-in gain tax from the sale of REIT property can be eliminated if sale proceeds from “relinquished” properties are reinvested in similar property consistent with the like-kind exchange (“LKE”) requirements of the Internal Revenue Code of 1986, as amended, so long as the “replacement” property is owned at least until expiration of the built-in gain period (10-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 built-in gain period.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

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. corporate income taxes have been provided on undistributed foreign earnings.

Provision for Income Taxes

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

 

     Three months ended
June 30,
 
     2008     %     2007     %  

Income tax provision at U.S. statutory rate

   $ (14.8 )   (35.0 )   $ (15.1 )   (35.0 )

State and local income taxes, net of federal benefit

     (0.2 )   (0.5 )     (0.4 )   (0.8 )

REIT income not subject to federal tax

     10.2     24.0       6.1     14.0  

Permanent differences/other

     (0.2 )   (0.2 )     0.4     0.9  
                            

Income tax provision before discrete items

   $ (5.0 )   (11.7 )   $ (9.0 )   (20.9 )

Discrete items

     (0.1 )   (0.2 )     (1.0 )   (2.1 )
                            

Income tax provision as reported

   $ (5.1 )   (11.9 )   $ (10.0 )   (23.0 )
                            
     Six months ended
June 30,
 
     2008     %     2007     %  

Income tax provision at U.S. statutory rate

   $ (32.6 )   (35.0 )   $ (30.0 )   (35.0 )

State and local income taxes, net of federal benefit

     (0.8 )   (0.9 )     (0.7 )   (0.8 )

REIT income not subject to federal tax

     17.9     19.1       13.7     16.0  

Permanent differences/other

     0.1     0.3       0.9     1.0  
                            

Income tax provision before discrete items

   $ (15.4 )   (16.5 )   $ (16.1 )   (18.8 )

Discrete items

     0.1     0.1       (1.3 )   (1.5 )
                            

Income tax provision as reported

   $ (15.3 )   (16.4 )   $ (17.4 )   (20.3 )
                            

The Company’s effective tax rate was 11.9 percent and 23.0 percent for the three months ended June 30, 2008 and 2007, and 16.4 percent and 20.3 percent for the six months ended June 30, 2008 and 2007, respectively. The rates decreased primarily due to proportionately lower expected earnings from the Company’s taxable REIT subsidiary.

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 LKE transactions. Partially offsetting these benefits is the loss of tax deductibility on interest expense of $1.3 million and $2.7 million for the three and six months ended June 30, 2008, respectively, and corporate overhead expenses associated with REIT activities of $2.9 million and $5.4 million for the same periods. The Company recognized $5.7 million in LKE tax benefits during the six months ended June 30, 2008 compared to $2.4 million in the six months ended June 30, 2007.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

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

   2005 – 2008

State of Florida

   2003 – 2008

State of Georgia

   2003 – 2008

State of Alabama

   2003 – 2008

New Zealand Inland Revenue

   2004 – 2008

The Company is currently at the Appeals administrative level related to one matter from the IRS examination of tax year 2003 and 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 June 30, 2008 adequately reflect the probable resolution of these items.

FIN 48 Disclosures

There were no significant changes to the Company’s uncertain tax positions for the six months ended June 30, 2008. For a detail of the Company’s uncertain tax positions, please refer to Note 9 – Income Taxes in the 2007 Annual Report on Form 10-K.

 

4.

RESTRICTED DEPOSITS

For certain real estate sales to qualify for LKE treatment, the sales proceeds 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 June 30, 2008 and December 31, 2007, the Company had $3.4 million and $10.0 million, respectively, of proceeds from real estate sales classified as restricted cash in “Other assets,” which were on deposit with an LKE intermediary.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

5.

SHAREHOLDERS’ EQUITY

An analysis of shareholders’ equity for the six months ended June 30, 2008 and the year ended December 31, 2007 is shown below (share amounts not in thousands):

 

     Common Shares     Retained
Earnings
    Accumulated
Other
Comprehensive
Loss
    Shareholders’
Equity
 
     Shares     Amount        

Balance, December 31, 2006

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

Net income

   —         —         174,269       —         174,269  

Dividends ($1.94 per share)

   —         —         (150,929 )     —         (150,929 )

Issuance of shares under incentive stock plans

   1,412,781       18,891       —         —         18,891  

Stock-based compensation expense

   —         13,478       —         —         13,478  

Warrants and hedge, net

   —         (355 )     —         —         (355 )

Excess tax benefit on stock-based compensation

   —         7,907       —         —         7,907  

Repurchase of common shares

   (75,911 )     (3,150 )     —         —         (3,150 )

Net loss from pension and postretirement plans

   —         —         —         (3,997 )     (3,997 )

Foreign currency translation adjustment

   —         —         —         7,005       7,005  
                                      

Balance, December 31, 2007

   78,216,696     $ 487,407     $ 519,328     $ (25,638 )   $ 981,097  

Net income

   —         —         77,967       —         77,967  

Dividends ($1.00 per share)

   —         —         (78,501 )     —         (78,501 )

Issuance of shares under incentive stock plans

   491,322       4,335       —         —         4,335  

Stock-based compensation expense

   —         7,075       —         —         7,075  

Excess tax benefit on stock-based compensation

   —         2,088       —         —         2,088  

Repurchase of common shares

   (84,496 )     (3,738 )     —         —         (3,738 )

Amortization of pension and postretirement costs

   —         —         —         2,785       2,785  

Foreign currency translation adjustment

   —         —         —         2,509       2,509  
                                      

Balance, June 30, 2008

   78,623,522     $ 497,167     $ 518,794     $ (20,344 )   $ 995,617  
                                      

 

6.

TIMBERLANDS ACQUISITION

In April 2008, the Company acquired approximately 56,300 acres of timberlands in the state of Washington for $213 million, funding the acquisition with $128 million of cash on hand and borrowings from the Company’s existing credit facility. This acquisition increased the Company’s existing holdings of merchantable Douglas fir and western hemlock timber and was accounted for as an asset purchase.

 

7.

JOINT VENTURE INVESTMENT

The Company holds a 40 percent interest in a joint venture (“JV”) that owns approximately 340,000 acres of New Zealand timberlands. Rayonier’s investment in the JV 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, the Company generally is not required to pay U.S. federal and state income taxes on its equity investment income as it is a REIT subsidiary.

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 upon formation in 2005. The deferred gain is recognized on a straight-line basis over 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 (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

The Company’s investment in the JV was $64.8 million and $62.8 million at June 30, 2008 and December 31, 2007, respectively. The increase in the investment is mainly due to the change in the exchange rate between the New Zealand Dollar and the U.S. Dollar. For the three and six months ended June 30, 2008, the Company recognized an equity loss of $0.8 million and equity earnings of $0.2 million, respectively. For the three and six months ended June 30, 2007, the Company’s equity earnings were $1.1 million.

 

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. Real Estate sales currently include the sale of all properties, including those designated for higher and better use (“HBU”). The assets of the Real Estate segment include HBU property held by the Company’s real estate subsidiary, TerraPointe LLC, and parcels previously reported in the Timber segment. Allocations of depletion expense and non-cash costs of real estate sold are recorded when the Company 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 the Company’s lumber operations. The Company’s remaining operations include 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.

Operating income(loss), as presented in the Condensed Consolidated Statements of Income and Comprehensive Income, is equal to segment income(loss). Certain income(loss) items in the Condensed Consolidated Statements of Income and Comprehensive Income are not allocated to segments. These items, which include gains(losses) from certain asset dispositions, interest income(expense), miscellaneous income(expense) and income tax (provision)benefit, are not considered by Company management to be part of segment operations.

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

 

     June 30,
2008
   December 31,
2007

ASSETS

     

Timber

   $ 1,381,963    $ 1,204,253

Real Estate

     92,975      65,101

Performance Fibers

     501,395      466,909

Wood Products

     30,383      29,307

Other Operations

     33,063      29,671

Corporate and other

     112,091      283,800
             

TOTAL

   $ 2,151,870    $ 2,079,041
             

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2008     2007     2008     2007  

SALES

        

Timber

   $ 55,258     $ 56,701     $ 102,457     $ 121,706  

Real Estate

     23,425       29,154       52,776       50,151  

Performance Fibers

     187,121       167,840       362,047       334,222  

Wood Products

     24,489       23,774       43,401       43,467  

Other Operations

     14,574       22,892       28,379       50,499  

Corporate and other

     —         (10 )     —         36  
                                

TOTAL

   $ 304,867     $ 300,351     $ 589,060     $ 600,081  
                                
     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2008     2007     2008     2007  

OPERATING INCOME (LOSS)

        

Timber (a)

   $ 9,485     $ 11,036     $ 21,505     $ 37,305  

Real Estate

     14,616       23,939       36,384       39,154  

Performance Fibers

     36,747       30,970       73,803       58,080  

Wood Products

     (338 )     (681 )     (2,882 )     (4,009 )

Other Operations

     1,092       (974 )     519       (2,255 )

Corporate and other

     (8,017 )     (8,567 )     (15,248 )     (17,392 )
                                

TOTAL

   $ 53,585     $ 55,723     $ 114,081     $ 110,883  
                                
     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2008     2007     2008     2007  

DEPRECIATION, DEPLETION AND AMORTIZATION

        

Timber (a)

   $ 21,406     $ 26,164     $ 39,473     $ 47,937  

Real Estate

     2,633       990       5,328       3,155  

Performance Fibers

     12,837       17,811       24,001       33,131  

Wood Products

     1,363       1,604       2,807       3,196  

Other Operations

     8       10       17       30  

Corporate and other

     149       74       273       149  
                                

TOTAL

   $ 38,396     $ 46,653     $ 71,899     $ 87,598  
                                

 

(a)    Three and six months ended June 30, 2007 includes the $10.1 million forest fire loss.

      

 

9.

FINANCIAL INSTRUMENTS

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 six months ended June 30, 2008, the Company realized a gain of $0.9 million and $1.1 million, respectively, on fuel oil forward contracts. During the three and six months ended June 30, 2007, the Company realized a de minimus gain and a loss of $0.3 million, respectively, on fuel oil forward contracts. The mark-to-market adjustments are recorded in “Other operating income, net.” The mark-to-market valuation on outstanding fuel oil forward contracts at June 30, 2008 resulted in an asset of $0.9 million. At December 31, 2007, there were no outstanding fuel oil or natural gas forward contracts.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

10.

GUARANTEES

The Company provides financial guarantees as required by creditors, insurance programs and state and foreign governmental agencies. As of June 30, 2008, the following financial guarantees were outstanding:

 

     Maximum
Potential
Payment
   Carrying
Amount of
Liability

Standby letters of credit (1)

   $ 71,778    $ 62,471

Guarantees (2)

     5,119      63

Surety bonds (3)

     9,789      1,441
             

Total

   $ 86,686    $ 63,975
             

 

  (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 2008 and will be renewed as required.

 

  (2)

In conjunction with RNZ’s sale of timberlands to the New Zealand 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. If the bank defaults on the bond, the Company would then have to perform. As of June 30, 2008, two annual payments, of $1.3 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 June 30, 2008 and December 31, 2007, the Company has recorded a de minimus liability to reflect the fair market value of its obligation to perform under the make-whole agreement.

 

  (3)

Rayonier 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 2009 and are renewed as required.

 

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; the Eastern Research Division (“ERD”), which ceased operations in 1981; and other miscellaneous assets held for disposition. SWP is subject to the Resource Conservation and Recovery Act (“RCRA”), or has been designated a potentially responsible party, 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 10 former SWP wood treating sites which are no longer operating.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

An analysis of activity in the liabilities for dispositions and discontinued operations for the six months ended June 30, 2008 and the year ended December 31, 2007, is as follows:

 

     June 30,
2008
    December 31,
2007
 

Balance, January 1,

   $ 113,685     $ 122,516  

Expenditures charged to liabilities

     (3,394 )     (8,575 )

Additions/(reductions) to liabilities

     (1,418 )  *     (256 )
                

Balance, end of period

     108,873       113,685  

Less: Current portion

     (10,474 )     (10,069 )
                

Non-current portion

   $ 98,399     $ 103,616  
                

 

*       Includes $2.1 million reserve reduction for Combe Fill South lawsuit. See Note 12 - Contingencies.

         

Rayonier has identified specific liabilities for three SWP sites (Augusta, GA, Spartanburg, SC, and East Point, GA) as material and requiring separate disclosure, which was presented in the Company’s 2007 Annual Report on Form 10-K. There have not been any significant changes in these sites’ liability reserves for the six months ended June 30, 2008. Rayonier accounts for environmental liabilities on an undiscounted basis. For an analysis of the activity for the three years ended December 31, 2007 and a brief description of these individually material sites, see the Company’s 2007 Annual Report on Form 10-K, Note 15 to Consolidated Financial Statements.

The Company estimates that expenditures for environmental remediation, monitoring and other costs for all dispositions and discontinued operations will be approximately $8 million in 2008 and $10 million in 2009. Such costs will be charged against its 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 may include, among other remedies, removal or treatment of contaminated soils, recovery and treatment/remediation of groundwater, 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 June 30, 2008, 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, the potential for Brownfield (environmentally impacted site considered for re-development) treatment of a site, 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 2007 Annual Report on Form 10-K.

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

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

Legal Proceedings

Combe Fill South—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 mediation process has been ongoing. In second quarter 2008, a tentative settlement of this matter was reached, subject to finalization of documentation and court approval, resulting in the Company’s liability of approximately $0.3 million, a reduction of the prior reserve by $2.1 million. The Company believes that its liabilities at June 30, 2008 adequately reflect the probable costs to be incurred upon the ultimate resolution of these matters.

Jesup Mill Consent Decree—In November 2007, the Company and the Environmental Protection Division of the Georgia Department of Natural Resources (“EPD”) reached agreement, subject to public comment, on a consent decree that would resolve certain issues relating to the color of the Jesup mill’s permitted effluent discharged to the Altamaha River. Under the consent decree, Rayonier has agreed to implement a color reduction plan which will include installation of additional brown stock washing capacity (to better remove residual pulping liquors from cooked wood pulp) and oxygen delignification technology (which reduces the lignin content in the pulp prior to bleaching), spill recovery systems and modifications to certain operating practices. These projects will be completed over a seven year period pursuant to a time frame set forth in the consent decree, and the costs are expected to approximate $75.0 million. The consent decree also provides for decreasing color limits in the mill’s effluent over the seven year period as projects are completed. No citations, fines or penalties are imposed by the consent decree, except that stipulated penalties may be assessed by EPD in the event that the projects are not completed by the agreed schedule. The public comment period has passed and the consent decree is now final.

East Point, Georgia Notice of Violation (“NOV”)—On March 28, 2008, SWP received an NOV and Proposed Consent Order (the “Order”) from EPD relating to its East Point, Georgia site. The Order asserts that SWP violated conditions in its RCRA Part B permit, specifically related to SWP’s alleged failure to report the presence of oil (referred to as DNAPL, or dense non-aqueous phase liquid) in a monitoring well. Under the terms of the Order, EPD proposed a fine of $0.8 million and is demanding that SWP perform a facility-wide remedial investigation; also, based on such investigation, EPD has required that SWP prepare a new corrective action plan for the facility. Finally, EPD is requesting an immediate increase in SWP’s financial assurance for the site to $17.6 million from the current level of approximately $4.0 million. (Note that financial assurance is provided for SWP via a Rayonier Inc. guaranty.) The Company is conducting a factual and legal analysis of EPD’s claims and intends to vigorously defend this matter. The Company believes its liabilities at June 30, 2008 adequately reflect the probable costs to be incurred upon the ultimate resolution of these matters.

Environmental Matters

The Company is subject to stringent environmental laws and regulations concerning air emissions, water discharges, waste handling and disposal, and forestry operations. Such environmental laws and regulations include the Federal Clean Air Act, the Clean Water Act, RCRA, CERCLA, the Endangered Species Act, and similar state laws and regulations. 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, regulator discretion, 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 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 the Company’s operations and financial performance.

 

   

As environmental laws and regulations change, and regulatory administrative and judicial interpretations of new and existing laws and regulations are made, the Company’s operations may be adversely affected.

 

   

In Rayonier’s 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 426,000 acres of timberlands, has among the most stringent forestry laws and regulations in the country.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

   

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 the Company’s projects. Moreover, multiple permits are often required for a project, and may involve a lengthy application process.

 

   

The Company’s discontinued operations with historical environmental contamination are subject to a number of federal, state, and local laws. As these requirements change over time, they may mandate more stringent levels of soil and groundwater investigation, remediation, and monitoring. While management believes that the Company’s current estimates are adequate, future changes to these legal requirements could adversely affect the cost and timing of its activities on these sites.

 

   

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. In general, management believes these trends will continue.

It is the opinion of management that substantial expenditures will be required over the next 10 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 employees hired prior to January 2006, 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 net periodic benefit cost for the Company’s pension and postretirement plans (medical and life insurance) for the three and six months ended June 30, 2008 and 2007 are shown in the following table:

 

     Pension     Postretirement
     Three Months Ended
June 30,
    Three Months Ended
June 30,
     2008     2007     2008    2007

Components of Net Periodic Benefit Cost

         

Service cost

   $ 1,718     $ 1,898     $ 177    $ 167

Interest cost

     4,142       3,832       680      699

Expected return on plan assets

     (5,459 )     (4,500 )     —        —  

Amortization of prior service cost

     357       334       195      194

Amortization of losses

     1,211       933       304      277
                             

Net periodic benefit cost

   $ 1,969     $ 2,497     $ 1,356    $ 1,337
                             

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

(Dollars in thousands unless otherwise stated)

 

     Pension     Postretirement
     Six Months Ended
June 30,
    Six Months Ended
June 30,
     2008     2007     2008    2007

Components of Net Periodic Benefit Cost

         

Service cost

   $ 3,304     $ 3,504     $ 341    $ 322

Interest cost

     7,966       7,077       1,308      1,261

Expected return on plan assets

     (10,276 )     (8,610 )     —        —  

Amortization of prior service cost

     686       697       374      373

Amortization of losses

     2,329       1,944       585      609
                             

Net periodic benefit cost

   $ 4,009     $ 4,612     $ 2,608    $ 2,565
                             

The Company does not have any required pension plan contributions for 2008 and has not made any discretionary pension contributions during the six months ended June 30, 2008.

 

14.

ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Accumulated Other Comprehensive Income (Loss) was comprised of the following as of June 30, 2008 and December 31, 2007:

 

     June 30,
2008
    December 31,
2007
 

Foreign currency translation adjustments

   $ 36,806     $ 34,297  

Unrecognized components of employee benefit plans, net of tax

     (57,150 )     (59,935 )
                

Total

   $ (20,344 )   $ (25,638 )
                

During the six months ended June 30, 2008, the increase in net foreign currency translation adjustments was due to the change in the New Zealand to U.S. dollar exchange rate. Amortization of unrecognized components of employee pension and postretirement plan expense of $1.4 million and $2.8 million was recognized during the three and six months ended June 30, 2008, respectively.

 

15.

CONSOLIDATING FINANCIAL STATEMENTS

In October 2007, Rayonier TRS Holdings Inc. (“TRS”), a wholly-owned subsidiary of Rayonier Inc., issued $300 million of 3.75% Senior Exchangeable Notes due 2012. The notes are guaranteed by Rayonier Inc. and are non-callable. 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 wholly-owned subsidiaries which are eliminated upon consolidation and the allocation of certain expenses of Rayonier Inc., incurred for the benefit of its subsidiaries.

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollars amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Statements of Income
For the Three Months Ended June 30, 2008
 
     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

   $ —       $ —       $ 263,434     $ 203,135     $ (161,702 )   $ 304,867  
                                                

Costs and Expenses

            

Cost of sales

     —         —         221,000       63,644       (47,608 )     237,036  

Selling and general expenses

     2,820       —         13,225       817       —         16,862  

Other operating expense (income), net

     142       —         (2,481 )     (1,081 )     —         (3,420 )
                                                
     2,962       —         231,744       63,380       (47,608 )     250,478  

Equity in (loss) income of New Zealand joint venture

     (1,027 )     —         223       —         —         (804 )
                                                

OPERATING (LOSS) INCOME

     (3,989 )     —         31,913       139,755       (114,094 )     53,585  

Interest income (expense)

     92       (3,166 )     (7,299 )     (1,357 )     4       (11,726 )

Interest and miscellaneous income (expense), net

     891       (774 )     (661 )     1,229       (65 )     620  

Equity in income from subsidiaries

     40,926       17,916       —         —         (58,842 )     —    
                                                

INCOME BEFORE INCOME TAXES

     37,920       13,976       23,953       139,627       (172,997 )     42,479  

Income tax (provision) benefit

     (504 )     1,478       (6,037 )     —         —         (5,063 )
                                                

NET INCOME

   $ 37,416     $ 15,454     $ 17,916     $ 139,627     $ (172,997 )   $ 37,416  
                                                

 

16


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Statements of Income
For the Three Months Ended June 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

   $ —       $ —      $ 236,521     $ 73,803     $ (9,973 )   $ 300,351  
                                               

Costs and Expenses

             

Cost of sales

     (119 )     —        201,699       39,537       (9,992 )     231,125  

Selling and general expenses

     3,348       —        11,907       867       —         16,122  

Other operating income, net

     (94 )     —        (146 )     (1,308 )     —         (1,548 )
                                               
     3,135       —        213,460       39,096       (9,992 )     245,699  

Equity in income of New Zealand joint venture

     330       —        741       —         —         1,071  
                                               

OPERATING (LOSS) INCOME

     (2,805 )     —        23,802       34,707       19       55,723  

Interest expense

     (72 )     —        (8,674 )     (4,903 )     34       (13,615 )

Interest and miscellaneous income (expense), net

     147       —        (1,057 )     2,115       (34 )     1,171  

Equity in income from subsidiaries

     37,681       8,310      —         —         (45,991 )     —    
                                               

INCOME BEFORE INCOME TAXES

     34,951       8,310      14,071       31,919       (45,972 )     43,279  

Income tax provision

     (1,640 )     —        (5,761 )     —         (2,567 )     (9,968 )
                                               

NET INCOME

   $ 33,311     $ 8,310    $ 8,310     $ 31,919     $ (48,539 )   $ 33,311  
                                               

 

17


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Statements of Income
For the Six Months Ended June 30, 2008
 
     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

   $ —       $ —       $ 492,280     $ 295,827     $ (199,047 )   $ 589,060  
                                                

Costs and Expenses

            

Cost of sales

     —         —         409,715       97,399       (59,067 )     448,047  

Selling and general expenses

     5,346       —         24,889       1,571       —         31,806  

Other operating income, net

     (60 )     —         (1,786 )     (2,860 )     —         (4,706 )
                                                
     5,286       —         432,818       96,110       (59,067 )     475,147  

Equity in (loss) income of New Zealand joint venture

     (3 )     —         171       —         —         168  
                                                

OPERATING (LOSS) INCOME

     (5,289 )     —         59,633       199,717       (139,980 )     114,081  

Interest income (expense)

     628       (6,305 )     (13,915 )     (3,336 )     4       (22,924 )

Interest and miscellaneous income (expense), net

     1,778       (1,547 )     (628 )     2,583       (66 )     2,120  

Equity in income from subsidiaries

     81,883       27,868       —         —         (109,751 )     —    
                                                

INCOME BEFORE INCOME TAXES

     79,000       20,016       45,090       198,964       (249,793 )     93,277  

Income tax (provision) benefit

     (1,033 )     2,945       (17,222 )     —         —         (15,310 )
                                                

NET INCOME

   $ 77,967     $ 22,961     $ 27,868     $ 198,964     $ (249,793 )   $ 77,967  
                                                

 

18


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Statements of Income
For the Six Months Ended June 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

   $ —       $ —      $ 475,227     $ 141,369     $ (16,515 )   $ 600,081  
                                               

Costs and Expenses

             

Cost of sales

     (139 )     —        406,726       73,206       (16,926 )     462,867  

Selling and general expenses

     7,083       —        23,218       1,666       —         31,967  

Other operating (income) expense, net

     (111 )     —        (1,754 )     (2,677 )     —         (4,542 )
                                               
     6,833       —        428,190       72,195       (16,926 )     490,292  

Equity in (loss) income of New Zealand joint venture

     (18 )     —        1,112       —         —         1,094  
                                               

OPERATING (LOSS) INCOME

     (6,851 )     —        48,149       69,174       411       110,883  

Interest expense

     (170 )     —        (17,297 )     (9,800 )     34       (27,233 )

Interest and miscellaneous income (expense), net

     670       —        (1,956 )     3,504       (34 )     2,184  

Equity in income from subsidiaries

     77,465       17,705      —         —         (95,170 )     —    
                                               

INCOME BEFORE INCOME TAXES

     71,114       17,705      28,896       62,878       (94,759 )     85,834  

Income tax provision

     (2,724 )     —        (11,191 )     —         (3,529 )     (17,444 )
                                               

NET INCOME

   $ 68,390     $ 17,705    $ 17,705     $ 62,878     $ (98,288 )   $ 68,390  
                                               

 

19


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Balance Sheets
As of June 30, 2008
     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

   $ 7,658    $ —       $ 5,714     $ 7,636    $ —       $ 21,008

Accounts receivable, less allowance for doubtful accounts

     47      —         94,477       4,499      —         99,023

Inventory

     —        —         137,207       —        (44,674 )     92,533

Intercompany interest receivable

     —        —         —         1,042      (1,042 )     —  

Other current assets

     11,162      —         47,271       3,479      —         61,912
                                            

Total current assets

     18,867      —         284,669       16,656      (45,716 )     274,476
                                            

TIMBER AND TIMBERLANDS, NET OF DEPLETION AND AMORTIZATION

     1,807      —         98,644       1,185,299      —         1,285,750

NET PROPERTY, PLANT AND EQUIPMENT

     2,483      —         356,121       1,467      —         360,071

INVESTMENT IN JOINT VENTURE

     91,226      —         (26,457 )     —        —         64,769

INVESTMENT IN SUBSIDIARIES

     962,654      486,884       —         —        (1,449,538 )     —  

INTERCOMPANY/NOTES RECEIVABLE

     26,344      —         32,550       6,813      (65,707 )     —  

OTHER ASSETS

     24,525      17,028       508,197       7,515      (390,461 )     166,804
                                            

TOTAL ASSETS

   $ 1,127,906    $ 503,912     $ 1,253,724     $ 1,217,750    $ (1,951,422 )   $ 2,151,870
                                            

LIABILITIES AND SHAREHOLDERS’ EQUITY

              

CURRENT LIABILITIES

              

Accounts payable

   $ 3,905    $ —       $ 74,090     $ 819    $ —       $ 78,814

Bank loans and current maturities

     —        —         585       —        —         585

Accrued taxes

     67      (5,659 )     15,529       5,286      —         15,223

Accrued payroll and benefits

     8,101      —         8,991       1,100      —         18,192

Accrued interest

     21      2,375       1,575       21      —         3,992

Accrued customer incentives

     —        —         8,279       —        —         8,279

Other current liabilities

     11,766      —         13,996       15,644      —         41,406

Current liabilities for dispositions and discontinued operations

     —        —         10,474       —        —         10,474
                                            

Total current liabilities

     23,860      (3,284 )     133,519       22,870      —         176,965
                                            

LONG-TERM DEBT

     —        300,000       441,680       52,579      —         794,259

NON-CURRENT LIABILITIES FOR DISPOSITIONS AND DISCONTINUED OPERATIONS

     —        —         98,399       —        —         98,399

PENSION AND OTHER POSTRETIREMENT BENEFITS

     68,636      —         (418 )     —        —         68,218

OTHER NON-CURRENT LIABILITIES

     14,498      —         3,214       17,102      (16,402 )     18,412

INTERCOMPANY PAYABLE

     25,295      5,594       90,446       7,327      (128,662 )     —  
                                            

TOTAL LIABILITIES

     132,289      302,310       766,840       99,878      (145,064 )     1,156,253
                                            

TOTAL SHAREHOLDERS’ EQUITY

     995,617      201,602       486,884       1,117,872      (1,806,358 )     995,617
                                            

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

   $ 1,127,906    $ 503,912     $ 1,253,724     $ 1,217,750    $ (1,951,422 )   $ 2,151,870
                                            

 

20


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Balance Sheets
As of December 31, 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

   $ 4,211    $ —       $ 173,029     $ 3,841    $ —       $ 181,081

Accounts receivable, less allowance for doubtful accounts

     217      —         79,142       1,709      —         81,068

Inventory

     —        —         88,979       —        (4,688 )     84,291

Intercompany interest receivable

     —        —         —         1,137      (1,137 )     —  

Other current assets

     12,823      —         32,226       4,731      —         49,780
                                            

Total current assets

     17,251      —         373,376       11,418      (5,825 )     396,220
                                            

TIMBER AND TIMBERLANDS, NET OF DEPLETION AND AMORTIZATION

     1,819      —         36,015       1,079,385      —         1,117,219

NET PROPERTY, PLANT AND EQUIPMENT

     2,147      —         342,173       1,435      —         345,755

INVESTMENT IN JOINT VENTURE

     89,933      —         (27,167 )     —        —         62,766

INVESTMENT IN SUBSIDIARIES

     918,269      494,063       —         —        (1,412,332 )     —  

INTERCOMPANY/NOTES RECEIVABLE

     53,397      —         12,851       14,819      (81,067 )     —  

OTHER ASSETS

     28,692      18,772       386,762       13,260      (290,405 )     157,081
                                            

TOTAL ASSETS

   $ 1,111,508    $ 512,835     $ 1,124,010     $ 1,120,317    $ (1,789,629 )   $ 2,079,041
                                            

LIABILITIES AND SHAREHOLDERS’ EQUITY

              

CURRENT LIABILITIES

              

Accounts payable

   $ 3,123    $ —       $ 60,673     $ 2,428    $ —       $ 66,224

Bank loans and current maturities

     —        —         585       55,000      —         55,585

Accrued taxes

     109      (1,687 )     6,483       2,274      —         7,179

Accrued payroll and benefits

     18,339      —         11,726       —        —         30,065

Accrued interest

     —        2,370       1,100       11      —         3,481

Accrued customer incentives

     —        —         12,350       —        —         12,350

Other current liabilities

     11,719      —         12,598       9,143      —         33,460

Current liabilities for dispositions and discontinued operations

     —        —         10,069       —        —         10,069
                                            

Total current liabilities

     33,290      683       115,584       68,856      —         218,413
                                            

LONG-TERM DEBT

     —        300,000       341,680       52,579      —         694,259

NON-CURRENT LIABILITIES FOR DISPOSITIONS AND DISCONTINUED OPERATIONS

     —        —         103,616       —        —         103,616

PENSION AND OTHER POSTRETIREMENT BENEFITS

     67,606      —         (389 )     —        —         67,217

OTHER NON-CURRENT LIABILITIES

     10,333      —         3,521       16,987      (16,402 )     14,439

INTERCOMPANY PAYABLE

     19,182      —         65,935       55,486      (140,603 )     —  
                                            

TOTAL LIABILITIES

     130,411      300,683       629,947       193,908      (157,005 )     1,097,944
                                            

TOTAL SHAREHOLDERS’ EQUITY

     981,097      212,152       494,063       926,409      (1,632,624 )     981,097
                                            

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

   $ 1,111,508    $ 512,835     $ 1,124,010     $ 1,120,317    $ (1,789,629 )   $ 2,079,041
                                            

 

21


Table of Contents

RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Statements of Cash Flows
For the Six Months Ended June 30, 2008
 
     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

   $ 77,967     $ 22,961     $ 27,868     $ 198,964     $ (249,793 )   $ 77,967  

Non-cash items included in net income:

            

Equity in income from investments in subsidiaries

     (81,883 )     (27,868 )     —         —         109,751       —    

Depreciation, depletion and amortization

     —         —         30,546       64,353       (23,000 )     71,899  

Non-cash cost of real estate sold

     —         —         8,583       13,357       (17,334 )     4,606  

Non-cash stock-based incentive compensation expense

     2,689       —         4,386       —         —         7,075  

Deferred income tax (benefit) provision

     (227 )     (1,027 )     8,197       —         —         6,943  

Excess tax benefits on stock-based compensation

     —         —         (2,088 )     —         —         (2,088 )

Other

     806       —         2,120       —         —         2,926  

Dividends from investments in subsidiaries

     37,500       30,000       —         —         (67,500 )     —    

Decrease (increase) in accounts receivable

     170       —         (15,335 )     (2,790 )     —         (17,955 )

Decrease in inventory

     —         —         8,126       —         —         8,126  

Increase in accounts payable

     782       —         8,866       361       —         10,009  

Decrease (increase) in other current assets

     1,662       —         (17,215 )     1,250       —         (14,303 )

(Decrease) increase in accrued liabilities

     (9,984 )     (3,967 )     4,749       10,623       —         1,421  

Increase (decrease) in other non-current liabilities

     922       —         (493 )     116       —         545  

(Increase) decrease in other assets

     (1,987 )     717       (177,048 )     (962 )     180,376       1,096  

Change in intercompany accounts

     2,776       5,594       (18,310 )     9,940       —         —    

Expenditures for dispositions and discontinued operations

     —         —         (3,394 )     —         —         (3,394 )
                                                

CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES

     31,193       26,410       (130,442 )     295,212       (67,500 )     154,873  
                                                

INVESTING ACTIVITIES

            

Capital expenditures

     —         —         (44,124 )     (15,757 )     —         (59,881 )

Purchase of timberlands

     —         —         (61,643 )     (167,781 )     —         (229,424 )

Decrease in restricted cash

     —         —         —         6,591       —         6,591  

Investment in subsidiaries

     —         3,590       —         —         (3,590 )     —    

Other

     —         —         460       (1,970 )     —         (1,510 )
                                                

CASH USED FOR INVESTING ACTIVITIES

     —         3,590       (105,307 )     (178,917 )     (3,590 )     (284,224 )
                                                

FINANCING ACTIVITIES

            

Issuance of debt

     —         —         120,000       —         —         120,000  

Repayment of debt

     —         —         (20,000 )     (55,000 )     —         (75,000 )

Dividends paid

     (78,343 )     —         —         —         —         (78,343 )

Issuance of common shares

     4,335       —         —         —         —         4,335  

Excess tax benefits on stock-based compensation

     —         —         2,088       —         —         2,088  

Repurchase of common shares

     (3,738 )     —         —         —         —         (3,738 )

Repayment of intercompany notes

     50,000       —         —         (50,000 )     —         —    

Distributions to / from Parent

     —         (30,000 )     (33,590 )     (7,500 )     71,090       —    
                                                

CASH (USED FOR) PROVIDED BY FINANCING ACTIVITIES

     (27,746 )     (30,000 )     68,498       (112,500 )     71,090       (30,658 )
                                                

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     —         —         (64 )     —         —         (64 )
                                                

CASH AND CASH EQUIVALENTS

            

Increase (decrease) in cash and cash equivalents

     3,447       —         (167,315 )     3,795       —         (160,073 )

Balance, beginning of year

     4,211       —         173,029       3,841       —         181,081  
                                                

Balance, end of period

   $ 7,658     $ —       $ 5,714     $ 7,636     $ —       $ 21,008  
                                                

 

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RAYONIER INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Dollar amounts in thousands unless otherwise stated)

 

     Condensed Consolidating Statements of Cash Flows
For the Six Months Ended June 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

   $ 68,390     $ 17,705     $ 17,705     $ 62,878     $ (98,288 )   $ 68,390  

Non-cash items included in net income:

            

Equity in income from investments in subsidiaries

     (77,465 )     (17,705 )     —         —         95,170       —    

Depreciation, depletion and amortization

     —         —         37,729       40,268       —         77,997  

Non-cash costs of forest fire losses

     —         —         —         9,601       —         9,601  

Non-cash cost of real estate sold

     —         —         1,458       2,531       (411 )     3,578  

Non-cash stock-based incentive compensation expense

     3,115       —         4,482       —         —         7,597  

Deferred income tax (benefit) provision

     (13,168 )     —         14,156       —         —         988  

Excess tax benefits on stock-based compensation

     —         —         (4,675 )     —         —         (4,675 )

Other

     18       —         2,741       —         —         2,759  

Dividends from investments in subsidiaries

     65,000       —         —         —         (65,000 )     —    

(Increase) decrease in accounts receivable

     (53 )     —         (674 )     1,145       —         418  

Decrease in inventory

     —         —         6,011       —         —         6,011  

Decrease in accounts payable

     (7,138 )     —         (679 )     (1,533 )     2,247       (7,103 )

(Increase) decrease in other current assets

     (865 )     —         (8,351 )     1,522       —         (7,694 )

Increase (decrease) in accrued liabilities

     8,567       —         (41,179 )     5,968       3,529       (23,115 )

Increase in other non-current liabilities

     3,541       —         374       16,398       (16,402 )     3,911  

(Increase) decrease in other assets

     (1,585 )     —         (16,443 )     234       16,402       (1,392 )

Change in intercompany accounts

     (1,465 )     —         7,203       (5,738 )     —         —    

Expenditures for dispositions and discontinued operations

     —         —         (5,671 )     —         —         (5,671 )
                                                

CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES

     46,892       —         14,187       133,274       (62,753 )     131,600  
                                                

INVESTING ACTIVITIES

            

Capital expenditures

     —         —         (34,401 )     (16,761 )     —         (51,162 )

Purchase of timberlands and wood chipping facilities

     —         —         (8,669 )     (2,999 )     —         (11,668 )

Increase in restricted cash

     —         —         —         (43,213 )     —         (43,213 )

Other

     —         —         102       —         —         102  
                                                

CASH USED FOR INVESTING ACTIVITIES

     —         —         (42,968 )     (62,973 )     —         (105,941 )
                                                

FINANCING ACTIVITIES

            

Issuance of debt

     —         —         40,000       60,000       —         100,000  

Repayment of debt

     —         —         (33,000 )     (60,000 )     —         (93,000 )

Dividends paid

     (72,749 )     —         —         —         —         (72,749 )

Issuance of common shares

     11,256       —         —         —         —         11,256  

Excess tax benefits on stock-based compensation

     —         —         4,675       —         —         4,675  

Distributions to / from Parent

     —         —         —         (65,000 )     65,000       —    
                                                

CASH (USED FOR) PROVIDED BY FINANCING ACTIVITIES

     (61,493 )     —         11,675       (65,000 )     65,000       (49,818 )
                                                

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     —         —         290       —         —         290  
                                                

CASH AND CASH EQUIVALENTS

            

(Decrease) increase in cash and cash equivalents

     (14,601 )     —         (16,816 )     5,301       2,247       (23,869 )

Balance, beginning of year

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

Balance, end of period

   $ 13,950     $ —       $ (2,949 )   $ 5,301     $ —       $ 16,302  
                                                

 

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

Safe Harbor

When we refer to “we”, “us”, “our”, “the Company”, or “Rayonier”, we mean Rayonier Inc. and its consolidated subsidiaries. References herein to “Notes to Financial Statements” refer to the Notes to the Condensed Consolidated Financial Statements of Rayonier Inc. included in Item 1 of this Report.

Certain statements in this document regarding anticipated financial outcomes including earnings guidance, if any, business and market conditions, outlook and other similar statements relating to Rayonier’s future financial and operational performance, 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 are identified by the use of words such as “may”, “will”, “should”, “expect”, “estimate”, “believe”, “anticipate” and other similar language. Forward-looking statements are not guarantees of future performance and undue reliance should not be placed on these statements.

The following important factors, among others, could cause actual results to differ materially from those expressed in forward-looking statements that may have been made in this document:

 

   

the cyclical and competitive nature of the industries in which we operate;

 

   

fluctuations in demand for, or supply of, our forest products and real estate offerings;

 

   

entry of new competitors into our markets;

 

   

changes in global economic conditions and world events, including political changes in particular regions or countries;

 

   

changes in energy and raw material prices, particularly for our performance fibers and wood products businesses;

 

   

impacts of the rising cost of fuel, including the cost and availability of transportation for our products, both domestically and internationally, and the cost and availability of third party logging and trucking services;

 

   

unanticipated equipment maintenance and repair requirements at our manufacturing facilities;

 

   

the geographic concentration of a significant portion of our timberland;

 

   

our ability to identify and complete timberland acquisitions;

 

   

changes in environmental laws and regulations, including laws regarding air emissions and water discharges, remediation of contaminated sites, timber harvesting, delineation of wetlands, and endangered species, that may restrict or adversely impact our ability to conduct our business, or increase the cost of doing so;

 

   

adverse weather conditions, natural disasters and other catastrophic events such as hurricanes, wind storms and wildfires, which can adversely affect our timberlands and the production, distribution and availability of our products and raw materials such as wood, energy and chemicals;

 

   

interest rate and currency movements;

 

   

the availability of credit generally, including its impact on the cost and terms of obtaining financing;

 

   

our capacity to incur additional debt, and any decision we may make to do so;

 

   

changes in tariffs, taxes or treaties relating to the import and export of our products or those of our competitors;

 

   

the ability to complete like-kind exchanges of property;

 

   

changes in key management and personnel;

 

   

our ability to continue to qualify as a REIT and to fund distributions using cash generated through our taxable REIT subsidiaries; and,

 

   

changes in tax laws that could reduce the benefits associated with REIT status.

In addition, specifically with respect to our Real Estate business, the following important factors, among others, could cause actual results to differ materially from those expressed in forward-looking statements that may have been made in this document:

 

   

the cyclical nature of the real estate business generally, including fluctuations in demand for both entitled and unentitled property;

 

   

the lengthy, uncertain and costly process associated with the ownership, entitlement and development of real estate, especially in Florida, which also may be affected by changes in law, policy and political factors beyond our control;

 

   

the potential for legal challenges to entitlements and permits in connection with our properties;

 

   

unexpected delays in the entry into or closing of real estate transactions;

 

   

the existence of competing developers and communities in the markets in which we own property;

 

   

the pace of development and the rate and timing of absorption of existing entitled property in the markets in which we own property;

 

   

changes in the demographics affecting projected population growth and migration to the southeastern U.S.;

 

   

changes in environmental laws and regulations, including laws regarding water withdrawal and management and delineation of wetlands, that may restrict or adversely impact our ability to sell or develop properties;

 

   

the cost of the development of property generally, including the cost of property taxes, labor and construction materials;

 

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the timing of construction and availability of public infrastructure; and,

 

   

the availability of financing for real estate development and mortgage loans.

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 2007 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: Timber, Real Estate, Performance Fibers, and Wood Products. Timber sales include all activities that relate to the harvesting of timber. Real Estate sales currently include the sale of all properties, including those designated for higher and better use (“HBU”). The assets of the Real Estate segment include HBU property held by the Company’s real estate subsidiary, TerraPointe LLC, and parcels previously reported in the Timber segment. Allocations of depletion expense and non-cash costs of real estate sold are recorded when the Company 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 the Company’s lumber operations. Our remaining operations include 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.

Operating income(loss), as presented in the Condensed Consolidated Statements of Income and Comprehensive Income, is equal to segment income(loss). Certain income(loss) items in the Condensed Consolidated Statements of Income and Comprehensive Income are not allocated to segments. These items, which include gains(losses) from certain asset dispositions, interest income(expense), miscellaneous income (expense) and income tax (provision)benefit, are not considered by Company management to be part of segment operations.

 

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

Results of Operations, Three and Six Months Ended June 30, 2008 Compared to Three and Six Months Ended June 30, 2007.

 

Financial Information (in millions)

   Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2008     2007     2008     2007  

Sales

        

Timber

   $ 55.3     $ 56.7     $ 102.5     $ 121.7  

Real Estate

        

Development

     —         27.9       0.8       31.6  

Rural

     12.5       1.3       36.3       18.6  

Non-Strategic Timberlands

     10.9       —         15.7       —    
                                

Total Real Estate

     23.4       29.2       52.8       50.2  
                                

Performance Fibers

        

Cellulose Specialties

     147.0       129.0       279.7       258.5  

Absorbent Materials

     40.1       38.8       82.3       75.7  
                                

Total Performance Fibers

     187.1       167.8       362.0       334.2  
                                

Wood Products

     24.5       23.8       43.4       43.5  

Other operations

     14.6       22.9       28.4       50.5  
                                

Total Sales

   $ 304.9     $ 300.4     $ 589.1     $ 600.1  
                                

Operating Income (Loss)

        

Timber (a)

   $ 9.5     $ 11.0     $ 21.5     $ 37.3  

Real Estate

     14.6       24.0       36.4       39.2  

Performance Fibers

     36.7       31.0       73.8       58.1  

Wood Products

     (0.3 )     (0.7 )     (2.9 )     (4.0 )

Other operations

     1.1       (1.0 )     0.5       (2.3 )

Corporate and other expenses / eliminations

     (8.0 )     (8.6 )     (15.2 )     (17.4 )
                                

Total Operating Income

     53.6       55.7       114.1       110.9  

Interest expense

     (11.7 )     (13.6 )     (22.9 )     (27.2 )

Interest and miscellaneous income, net

     0.6       1.2       2.1       2.1  

Provision for income taxes

     (5.1 )     (10.0 )     (15.3 )     (17.4 )
                                

Net Income

   $ 37.4     $ 33.3     $ 78.0     $ 68.4  
                                

Diluted Earnings Per Share

   $ 0.47     $ 0.42     $ 0.98     $ 0.87  
                                

 

(a)

Timber segment operating income for the three and six months ended June 30, 2007 includes the $10.1 million fire loss.

 

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Timber

 

Sales (in millions)

   Changes Attributable to:
     2007    Price     Volume/Mix    Other     2008

Three months ended June 30,

            

Total Sales

   $ 56.7    $ (14.2 )   $ 13.6    $ (0.8 )   $ 55.3
                                    

Six months ended June 30,

            

Total Sales

   $ 121.7    $ (23.9 )   $ 6.0    $ (1.3 )   $ 102.5
                                    

Timber sales declined for second quarter and year-to-date 2008 from the prior year periods as sawlog prices decreased due to the weak housing market and oversupply of salvaged timber in the Northwest from a December 2007 storm.

In the Eastern region, average prices were down 15 percent and 11 percent for the three and six months ended June 30, 2008, respectively. The impact of the prices on the East’s timber sales was lessened as sales volumes rose 38 percent and 6 percent from the prior year periods due to strong pulpwood demand.

In the Western region, average prices were down 22 percent and 18 percent for the three and six months ended June 30, 2008, respectively, from the prior year periods. Price declines were partially offset by a change in sales mix. Stumpage sales volumes declined 24 percent and 35 percent for the quarter and year-to-date, respectively, while log sales increased 56 percent and 39 percent for the same periods due to salvaged wood sales.

 

Operating Income (in millions)

   Changes Attributable to:
     2007    Price     Volume/Mix     Cost*    2008

Three months ended June 30,

            

Total Operating Income

   $ 11.0    $ (14.2 )   $ 1.2     $ 11.5    $ 9.5
                                    
            

Six months ended June 30,

            

Total Operating Income

   $ 37.3    $ (23.9 )   $ (1.4 )   $ 9.5    $ 21.5
                                    

 

*

Includes impact of the $10.1 million charge for forest fire losses in 2007 and the $2.4 million and $1.8 million unfavorable change in income from the New Zealand operations for the three and six months ended June 30, 2008, respectively.

Operating income decreased for the three and six months ended June 30, 2008 largely due to depressed sawlog prices and, to a lesser extent, lower equity earnings resulting from increased freight costs and weak demand in New Zealand. Excluding the 2007 fire losses, costs were relatively consistent for the three and six months ended June 30, 2008 compared to the prior year periods.

 

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Real Estate

 

Sales (in millions)

        Changes Attributable to:      
     2007    Price     Volume/Mix     2008

Three months ended June 30,

         

Development

   $ 27.9    $ —       $ (27.9 )   $ —  

Rural

     1.3      (6.1 )     17.3       12.5

Non-Strategic Timberlands

     —        —         10.9       10.9
                             

Total Sales

   $ 29.2    $ (6.1 )   $ 0.3     $ 23.4
                             

Six months ended June 30,

         

Development

   $ 31.6    $ 0.4     $ (31.2 )   $ 0.8

Rural

     18.6      1.5       16.2       36.3

Non-Strategic Timberlands

     —        —         15.7       15.7
                             

Total Sales

   $ 50.2    $ 1.9     $ 0.7     $ 52.8
                             

Operating Income (in millions)

        Changes Attributable to:      
     2007    Price     Volume/Mix     2008

Three months ended June 30,

         

Total Operating Income

   $ 24.0    $ (6.1 )   $ (3.3 )   $ 14.6
                             

Six months ended June 30,

         

Total Operating Income

   $ 39.2    $ 1.9     $ (4.7 )   $ 36.4
                             

Sales and operating income declined in second quarter 2008 from the prior year period primarily due to a shift in sales from development to rural HBU property and non-strategic timberlands. In first quarter 2008, we began selling non-strategic timberland holdings that did not meet our investment criteria. Also affecting the quarter’s results was a decline in price per acre for rural properties reflecting a change in geographic sales mix.

For the six months ended June 30, 2008, sales improved $3 million from the prior year period due to a greater number of acres sold but operating income declined $3 million due to the shift in mix toward rural properties and non-strategic timberlands.

Performance Fibers

 

Sales (in millions)

        Changes Attributable to:      
     2007    Price    Volume/Mix     2008

Three months ended June 30,

          

Cellulose Specialties

   $ 129.0    $ 10.4    $ 7.6     $ 147.0

Absorbent Materials

     38.8      4.0      (2.7 )     40.1
                            

Total Sales

   $ 167.8    $ 14.4    $ 4.9     $ 187.1
                            

Six months ended June 30,

          

Cellulose Specialties

   $ 258.5    $ 21.2    $ —       $ 279.7

Absorbent Materials

     75.7      8.7      (2.1 )     82.3
                            

Total Sales

   $ 334.2    $ 29.9    $ (2.1 )   $ 362.0
                            

Sales increased for the three and six months ended June 30, 2008 from the prior year periods primarily due to higher prices resulting from strong market demand. Also favorably impacting the quarter was a net increase in sales volumes as higher

 

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cellulose specialties volumes more than offset lower absorbent materials volumes. Cellulose specialties volumes were up for the quarter but flat for the year due to the timing of customer orders between the first and second quarters. Absorbent materials volumes were down for both second quarter and year-to-date due to product shortage resulting from unplanned maintenance in the first quarter.

 

Operating Income (in millions)

        Changes Attributable to:      
     2007    Price    Volume/Mix    Costs     2008

Three months ended June 30,

             

Total Operating Income

   $ 31.0    $ 14.4    $ 3.1    $ (11.8 )   $ 36.7
                                   

Six months ended June 30,

             

Total Operating Income

   $ 58.1    $ 29.9    $ 1.4    $ (15.6 )   $ 73.8
                                   

Operating income increased by approximately $6 million and $16 million for the three month and six month periods ended June 30, 2008, respectively. Increased prices and lower depreciation expense more than offset higher chemical, wood, energy and maintenance costs.

Wood Products

 

Sales (in millions)

        Changes Attributable to:     
     2007    Price     Volume/Mix    2008

Three months ended June 30,

          

Total Sales

   $ 23.8    $ 0.7     $ —      $ 24.5
                            

Six months ended June 30,

          

Total Sales

   $ 43.5    $ (0.3 )   $ 0.2    $ 43.4
                            

Sales were consistent with the prior year periods. For the quarter, the slight price improvement reflected an increase in demand coupled with a temporary supply shortage in the market.

 

Operating Loss (in millions)

         Changes Attributable to:        
     2007     Price     Volume/Mix     Costs     2008  

Three months ended June 30,

          

Total Operating Loss

   $ (0.7 )   $ 0.7     $ —       $ (0.3 )   $ (0.3 )
                                        

Six months ended June 30,

          

Total Operating Loss

   $ (4.0 )   $ (0.3 )   $ (0.1 )   $ 1.5     $ (2.9 )
                                        

Operating results improved for the three and six months ended June 30, 2008. Second quarter 2008 benefited from the price increase. Year-to-date results also profited from lower log costs in first quarter 2008 compared to the prior year period. Log costs declined in second quarter 2007 and have remained relatively stable to date.

Other Operations

Sales of $15 million and $28 million for the second quarter and year-to-date periods, respectively, were $8 million and $22 million lower than the prior year periods reflecting the impact of the closure of our Northwest wood products trading business in May 2007.

Corporate and Other

Corporate and Other Expenses of $8 million and $15 million for the three and six months ended June 30, 2008, respectively, were $1 million and $2 million below the prior year periods, respectively, due to lower incentive compensation.

 

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Other Income / Expense

Interest expense decreased $2 million and $4 million for the three and six months ended June 30, 2008 compared to the prior year periods, respectively. Lower interest rates resulting from the fourth quarter 2007 debt refinancing more than offset higher average debt balances due to strategic acquisitions.

Interest/Other income declined slightly in the second quarter 2008 due to lower cash balances.

Provision for Income Taxes

The Company’s effective tax rate was 11.9 percent and 23.0 percent for the three months ended June 30, 2008 and 2007, and 16.4 percent and 20.3 percent for the six months ended June 30, 2008 and 2007, respectively. The rates decreased primarily due to proportionately lower expected earnings from the Company’s taxable REIT subsidiary.

See Note 3 – Income Taxes for additional information regarding the provision for income taxes.

Outlook

Given the continued weak outlook for sawlogs, we expect third quarter and full year 2008 earnings to be below prior year periods as we continue to limit our harvest. In Performance Fibers, results are expected to be above prior year with strong demand for our cellulose specialty products more than offsetting escalating raw material, energy and transportation costs. In Real Estate, we expect results to be below prior year. We anticipate continued interest for rural HBU properties and expect to sell additional non-strategic timberlands to take advantage of favorable demand. Real estate sales are expected to be more heavily weighted to the fourth quarter. Overall, cash available for distribution is expected to remain strong, although below 2007.

Employee Relations

On June 30, 2008, the collective bargaining agreements covering approximately 700 hourly employees at our Jesup mill expired. The parties are working without an agreement while negotiations continue. While there can be no assurance, we expect to reach mutually satisfactory agreements with our unions. Any failure to do so accompanied by a work stoppage could have a material adverse effect on our business, results of operations and financial condition. See Item 1 – Business in the 2007 Annual Report on Form 10-K for more information on employee relations.

Liquidity and Capital Resources

Historically our operations have generally produced consistent cash flows and required limited capital resources. Short-term borrowings help fund cyclicality and seasonality in working capital needs. Long-term debt has been used to fund major acquisitions.

Summary of Liquidity and Financing Commitments (in millions of dollars)

 

     As of June 30,
2008
    As of December 31,
2007
 
    

Cash and cash equivalents

   $ 21     $ 181  

Total debt

     795       750  

Shareholders’ equity

     996       981  

Total capitalization (total debt plus equity)

     1,791       1,731  

Debt to capital ratio

     44 %     43 %

Cash and cash equivalents consisted primarily of marketable securities with maturities at date of acquisition of 90 days or less.

 

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Cash Provided by Operating Activities (in millions of dollars)

 

     2008    2007    Increase

Six months ended June 30,

   $ 155    $ 132    $ 23

Cash provided by operating activities increased $23 million primarily from lower working capital requirements due to the timing of interest, tax and accounts payable payments, offset by the timing of accounts receivable receipts.

Cash Used for Investing Activities (in millions of dollars)

 

     2008     2007     Increase  

Six months ended June 30,

   $ (284 )   $ (106 )   $ (178 )

Cash used for investing activities increased $178 million primarily due to the purchase of $229 million of timberlands in 2008 versus $12 million of timberlands and wood chipping facilities purchases in 2007, partially offset by a $50 million decrease in restricted cash deposits.

Cash Used for Financing Activities (in millions of dollars)

 

     2008     2007     Decrease

Six months ended June 30,

   $ (31 )   $ (50 )   $ 19

Cash used for financing activities decreased $19 million primarily due to a $45 million increase in outstanding debt in 2008 to fund timberland acquisitions compared to an increase of $7 million in 2007, partially offset by a decrease in cash proceeds on stock options exercised and an increase in dividend payments.

Expected 2008 Expenditures

There were no pension contributions made during the six months of 2008 or 2007; however, we anticipate making discretionary contributions of approximately $8 million to $12 million in the next six months. Income tax payments totaled $4 million in the first six months of 2008 compared to payments of $16 million in 2007 and we expect net tax payments to be $13 million for full year 2008, compared to $26 million for full year 2007. Capital expenditures are expected to range from $105 million to $110 million in 2008. Environmental costs related to dispositions and discontinued operations were $3 million for the six months ended June 30, 2008; full year expenditures of $8 million are anticipated.

Liquidity Performance Indicators

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

 

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EBITDA is a non-GAAP measure of our operating cash generating capacity. For the six months ended June 30, 2008, EBITDA was $186 million, $12 million below the prior year period primarily due to softness in sawlog prices partially offset by strong demand for Performance Fibers. Below is a reconciliation of Cash Provided by Operating Activities to EBITDA for the respective periods (in millions of dollars):

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2008     2007     2008     2007  

Cash Provided by Operating Activities

   $ 54.7     $ 79.2     $ 154.9     $