Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q
 
( X )
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2016

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

Commission File Number 1-9035

POPE RESOURCES, A DELAWARE
LIMITED PARTNERSHIP
(Exact name of registrant as specified in its charter)
Delaware
91-1313292
(State or other jurisdiction of 
incorporation or organization) 
(IRS Employer
Identification Number)
 
19950 7th Avenue NE, Suite 200, Poulsbo, WA 98370
Telephone: (360) 697-6626
(Address of principal executive offices including zip code)
(Registrant’s telephone number including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 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 o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).      Yes x         No o

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. (Check one)
 
Large Accelerated Filer o
Accelerated Filer x
 
 
Non-accelerated Filer o
Smaller Reporting Company o
 
                                                                                                           
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)    
Yes o          No x

Partnership units outstanding at July 31, 2016: 4,349,477





Pope Resources
Index to Form 10-Q Filing
For the Six Months Ended June 30, 2016

Description
Page Number
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 





P A R T  I – FINANCIAL INFORMATION
ITEM 1
FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
Pope Resources, a Delaware Limited Partnership
June 30, 2016 and December 31, 2015
(in thousands)
 
2016
 
2015
ASSETS
 
 
 
Current assets
 
 
 
Partnership cash
$
912

 
$
6,310

ORM Timber Funds cash
1,892

 
3,396

Cash
2,804

 
9,706

Accounts receivable, net
2,601

 
3,238

Land held for sale
6,624

 
3,642

Prepaid expenses and other
651

 
810

    Total current assets
12,680

 
17,396

Properties and equipment, at cost
 

 
 

  Timber and roads, net of accumulated depletion (2016 -  $107,600; 2015 - $103,378)
263,300

 
266,104

Timberland
53,950

 
53,879

Land held for development
26,860

 
25,653

Buildings and equipment, net of accumulated depreciation (2016 - $7,520; 2015 - $7,251)
5,847

 
6,024

    Total property and equipment, at cost
349,957

 
351,660

Other assets
 
 
 
Deposit for acquisition of timberland
1,581

 

Other assets
969

 
1,000

Total assets
$
365,187

 
$
370,056

 
 
 
 
LIABILITIES, PARTNERS' CAPITAL AND NONCONTROLLING INTERESTS
 

 
 

Current liabilities
 

 
 

Accounts payable
$
1,856

 
$
1,384

Accrued liabilities
3,393

 
3,442

Current portion of long-term debt
117

 
114

Deferred revenue
317

 
278

Current portion of environmental remediation liability
11,905

 
11,200

Other current liabilities
329

 
322

    Total current liabilities
17,917

 
16,740

Long-term debt, net of current portion
93,749

 
84,537

Environmental remediation and other long-term liabilities
809

 
5,713

Partners' capital and noncontrolling interests
 

 
 

General partners' capital (units issued and outstanding 2016 - 60; 2015 - 60)
922

 
1,009

Limited partners' capital (units issued and outstanding 2016 - 4,253; 2015 - 4,240)
57,381

 
63,539

Noncontrolling interests
194,409

 
198,518

    Total partners' capital and noncontrolling interests
252,712

 
263,066

Total liabilities, partners' capital and noncontrolling interests
$
365,187

 
$
370,056

See accompanying notes to condensed consolidated financial statements.

3



CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)
Pope Resources, a Delaware Limited Partnership
For the Three and Six Months Ended June 30, 2016 and 2015
(in thousands, except per unit data)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Revenue
$
12,713

 
$
13,904

 
$
23,782

 
$
40,812

Cost of sales
(7,471
)
 
(8,815
)
 
(14,611
)
 
(23,312
)
Operating expenses
(4,041
)
 
(3,711
)
 
(7,414
)
 
(6,859
)
General and administrative expenses
(1,059
)
 
(1,198
)
 
(2,663
)
 
(2,388
)
Gain on sale of timberland

 

 
226

 

Income (loss) from operations
142

 
180

 
(680
)
 
8,253

 
 
 
 
 
 
 
 
Interest expense, net
(747
)
 
(777
)
 
(1,405
)
 
(1,522
)
 
 
 
 
 
 
 
 
Income (loss) before income taxes
(605
)
 
(597
)
 
(2,085
)
 
6,731

Income tax expense

 
(28
)
 
(50
)
 
(368
)
Net income (loss)
(605
)
 
(625
)
 
(2,135
)
 
6,363

 
 
 
 
 
 
 
 
Net and comprehensive loss attributable to noncontrolling interests - ORM Timber Funds
1,041

 
914

 
1,536

 
1,735

Net and comprehensive income (loss) attributable to unitholders    
$
436

 
$
289

 
$
(599
)
 
$
8,098

 
 
 
 
 
 
 
 
Allocable to general partners
$
6

 
$
4

 
$
(8
)
 
$
113

Allocable to limited partners
430

 
285

 
(591
)
 
7,985

Net and comprehensive income (loss) attributable to unitholders
$
436

 
$
289

 
$
(599
)
 
$
8,098

 
 
 
 
 
 
 
 
Basic and diluted earnings (loss) per unit attributable to unitholders
$
0.09

 
$
0.06

 
$
(0.15
)
 
$
1.87

 
 
 
 
 
 
 
 
Basic and diluted weighted average units outstanding
4,313

 
4,298

 
4,312

 
4,296

 
 
 
 
 
 
 
 
Distributions per unit
$
0.70

 
$
0.65

 
$
1.40

 
$
1.30

See accompanying notes to condensed consolidated financial statements.

4



CONDENSED CONSOLIDATED STATEMENTS OF PARTNERS' CAPITAL (Unaudited)
Pope Resources, a Delaware Limited Partnership
Six Months Ended June 30, 2016
(in thousands)

 
Attributable to Pope Resources
 
 
 
 
 
General Partners
 
Limited Partners
 
Noncontrolling Interests
 
Total
December 31, 2015
$
1,009

 
$
63,539

 
$
198,518

 
$
263,066

Net loss
(8
)
 
(591
)
 
(1,536
)
 
(2,135
)
Cash distributions
(85
)
 
(6,003
)
 
(2,573
)
 
(8,661
)
Equity-based compensation
8

 
586

 

 
594

Indirect repurchase of units for minimum tax withholding
(2
)
 
(150
)
 

 
(152
)
June 30, 2016
$
922

 
$
57,381

 
$
194,409

 
$
252,712



5



CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Pope Resources, a Delaware Limited Partnership
Six Months Ended June 30, 2016 and 2015
(in thousands)
 
2016
 
2015
Net income (loss)
$
(2,135
)
 
$
6,363

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities
 

 
 

Depletion
4,193

 
4,948

Equity-based compensation
594

 
580

Excess tax benefit of equity-based compensation

 
(5
)
Depreciation and amortization
371

 
314

Deferred taxes

 
203

Cost of land sold
1,037

 
6,503

Gain on sale of timberland
(226
)
 

Gain on disposal of property and equipment
(24
)
 

Cash flows from changes in operating accounts
 

 
 

Accounts receivable, net
638

 
1,397

Prepaid expenses and other assets
188

 
(2,735
)
Real estate project expenditures
(5,225
)
 
(4,615
)
Accounts payable and accrued liabilities
447

 
(288
)
Deferred revenue
40

 
64

Environmental remediation
(4,175
)
 
(572
)
Other current and long-term liabilities
(20
)
 
35

Net cash provided by (used in) operating activities
(4,297
)
 
12,192

 
 
 
 
Cash flows from investing activities
 

 
 

Maturity of short-term investments

 
1,000

Reforestation and roads
(918
)
 
(1,098
)
Buildings and equipment
(140
)
 
(166
)
Deposit for acquisition of timberland - Partnership
(1,581
)
 

Acquisition of timberland - Partnership
(1,069
)
 
(2,876
)
Proceeds from sale of timberland - Funds
723

 

Net cash used in investing activities
(2,985
)
 
(3,140
)
 
 
 
 
Cash flows from financing activities
 

 
 

Borrowings on line of credit, net
9,250

 

Repayment of long-term debt
(57
)
 
(55
)
Payroll taxes paid on unit net settlements
(152
)
 
(107
)
Excess tax benefit of equity-based compensation

 
5

Cash distributions to unitholders
(6,088
)
 
(5,637
)
Cash distributions - ORM Timber Funds, net of distributions to Partnership
(2,573
)
 
(4,163
)
Net cash provided by (used in) financing activities
380

 
(9,957
)
 
 
 
 
Net decrease in cash
(6,902
)
 
(905
)
Cash at beginning of period
9,706

 
24,028

Cash at end of period
$
2,804

 
$
23,123

See accompanying notes to condensed consolidated financial statements.


6



POPE RESOURCES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 30, 2016

1.
The condensed consolidated balance sheets as of June 30, 2016 and December 31, 2015 and the related condensed consolidated statements of comprehensive income for the three- and six-month periods and cash flows for the six-month periods ended June 30, 2016 and 2015 have been prepared by Pope Resources, A Delaware Limited Partnership (the “Partnership”), pursuant to the rules and regulations of the Securities and Exchange Commission. The condensed consolidated financial statements are unaudited, but, in the opinion of management, reflect all adjustments (consisting only of normal recurring adjustments and accruals) necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods. The financial information as of December 31, 2015 is derived from the Partnership’s audited consolidated financial statements and notes thereto for the year ended December 31, 2015, and should be read in conjunction with such financial statements and notes. The results of operations for the interim periods are not indicative of the results of operations that may be achieved for the entire fiscal year ending December 31, 2016.

2.
The financial statements in the Partnership’s 2015 annual report on Form 10-K include a summary of significant accounting policies of the Partnership and should be read in conjunction with this Quarterly Report on Form 10-Q.

On May 28, 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective on January 1, 2018. The standard permits the use of either the retrospective or cumulative effect transition method. The Partnership is evaluating the effect that ASU 2014-09 will have on its consolidated financial statements and related disclosures. Management has not yet selected a transition method nor has it determined the effect of the standard on its ongoing financial reporting.

In February 2016, the FASB issued ASU 2016-02, Leases, which requires substantially all leases to be reflected on the balance sheet as a liability and a right-of-use asset. The ASU will replace existing lease accounting guidance in U.S. GAAP when it becomes effective on January 1, 2019, though early application is permitted. The standard will be applied on a modified retrospective basis in which certain optional practical expedients may be applied. Due to the Partnership's limited leasing activity, management does not expect the effect of this standard to be material to its ongoing financial reporting.

The Partnership adopted ASU 2015-17, Balance Sheet Classification of Deferred Taxes, effective January 1, 2016. In accordance with this standard, all deferred tax assets and liabilities are classified as noncurrent on the Partnership's condensed consolidated balance sheets. Our adoption of this ASU did not have a material impact on our consolidated financial statements and related disclosures.

3.
The Partnership has two general partners: Pope MGP, Inc. and Pope EGP, Inc. In total, these two entities own 60,000 partnership units. The allocation of distributions, profits and losses among the general and limited partners is pro rata across all units outstanding.

4.
ORM Timber Fund I, LP (Fund I), ORM Timber Fund II, Inc. (Fund II), and ORM Timber Fund III (REIT) Inc. (Fund III), collectively “the Funds”, were formed by Olympic Resource Management LLC (ORMLLC), a wholly owned subsidiary of the Partnership, for the purpose of attracting capital to purchase timberlands. The objective of these Funds is to generate a return on investments through the acquisition, management, value enhancement and sale of timberland properties. Each Fund will operate for a term of ten years from the end of the respective investment period. Fund I sold all of its timberland holdings in 2014 and terminated in 2015. Fund II is scheduled to terminate in March 2021 and Fund III is scheduled to terminate in December 2025.

Pope Resources and ORMLLC together owned 20% of Fund I, currently own 20% of Fund II and 5% of Fund III. The Funds are considered variable interest entities because their organizational and governance structures are the functional equivalent of a limited partnership. As the general partner or managing member of the Funds, the Partnership is the primary beneficiary of each of the Funds as it has the authority to direct the activities that most significantly impact their economic performance, as well as the right to receive benefits and obligation to absorb losses that could potentially be significant to the Funds. Accordingly, the Funds are consolidated into the Partnership’s financial statements. Additionally, the obligations of each of the Funds do not have any recourse to the Partnership.


7



The Partnership’s condensed consolidated balance sheet included assets and liabilities of the Funds as of June 30, 2016 and December 31, 2015, which were as follows:
 
(in thousands)
June 30, 2016
 
December 31, 2015
Assets:
Cash
$
1,892

 
$
3,396

Other current assets
1,085

 
602

Total current assets
2,977

 
3,998

Properties and equipment, net of accumulated depletion and depreciation (2016 - $38,096; 2015 - $34,757)
268,456

 
271,850

Total assets
$
271,433

 
$
275,848

Liabilities and equity:
 

 
 

Current liabilities
$
1,760

 
$
1,723

Long-term debt
57,257

 
57,246

Total liabilities
59,017

 
58,969

Funds' equity
212,416

 
216,879

Total liabilities and equity
$
271,433

 
$
275,848


5.
In the presentation of the Partnership’s revenue and operating income (loss) by segment, all intersegment revenue and expense is eliminated to determine operating income (loss) reported externally. The following tables reconcile internally reported income (loss) from operations to externally reported income (loss) from operations by business segment, for the three and six months ended June 30, 2016 and 2015:

8



 
Fee Timber
 
 
Three Months Ended June 30, (in thousands)
Pope Resources
ORM Timber Funds
Total Fee Timber
 
Timberland Management
 
Real Estate
 
Other
 
Consolidated
2016
 
 
 
 
 
 
 
 
 
 
 
Revenue - internal
$
8,186

$
4,136

$
12,322

 
$
788

 
$
516

 
$

 
$
13,626

Eliminations
(52
)

(52
)
 
(788
)
 
(73
)
 

 
(913
)
Revenue - external
8,134

4,136

12,270

 

 
443

 

 
12,713

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(3,789
)
(3,197
)
(6,986
)
 

 
(485
)
 

 
(7,471
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(1,597
)
(1,544
)
(3,141
)
 
(665
)
 
(1,133
)
 
(1,074
)
 
(6,013
)
Eliminations
32

794

826

 
62

 
10

 
15

 
913

Operating, general and administrative expenses - external
(1,565
)
(750
)
(2,315
)
 
(603
)
 
(1,123
)
 
(1,059
)
 
(5,100
)
 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
2,800

(605
)
2,195

 
123

 
(1,102
)
 
(1,074
)
 
142

Eliminations
(20
)
794

774

 
(726
)
 
(63
)
 
15

 

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - external
$
2,780

$
189

$
2,969

 
$
(603
)
 
$
(1,165
)
 
$
(1,059
)
 
$
142

 
 
 
 
 
 
 
 
 
 
 
 
2015
 

 

 

 
 

 
 

 
 

 
 

Revenue - internal
$
4,835

$
4,501

$
9,336

 
$
767

 
$
4,665

 
$

 
$
14,768

Eliminations
(64
)

(64
)
 
(767
)
 
(33
)
 

 
(864
)
Revenue - external
4,771

4,501

9,272

 

 
4,632

 

 
13,904

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(2,301
)
(3,537
)
(5,838
)
 

 
(2,977
)
 

 
(8,815
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(1,206
)
(1,407
)
(2,613
)
 
(849
)
 
(1,084
)
 
(1,227
)
 
(5,773
)
Eliminations

767

767

 
64

 
4

 
29

 
864

Operating, general and administrative expenses -external
(1,206
)
(640
)
(1,846
)
 
(785
)
 
(1,080
)
 
(1,198
)
 
(4,909
)
 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
1,328

(443
)
885

 
(82
)
 
604

 
(1,227
)
 
180

Eliminations
(64
)
767

703

 
(703
)
 
(29
)
 
29

 

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - external
$
1,264

$
324

$
1,588

 
$
(785
)
 
$
575

 
$
(1,198
)
 
$
180


9



 
Fee Timber
 
 
Six Months Ended June 30, (in thousands)
Pope Resources
ORM Timber Funds
Total Fee Timber
 
Timberland Management
 
Real Estate
 
Other
 
Consolidated
2016
 
 
 
 
 
 
 
 
 
 
 
Revenue - internal
$
12,624

$
9,498

$
22,122

 
$
1,611

 
$
1,900

 
$

 
$
25,633

Eliminations
(100
)

(100
)
 
(1,603
)
 
(148
)
 

 
(1,851
)
Revenue - external
12,524

9,498

22,022

 
8

 
1,752

 

 
23,782

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(5,397
)
(7,482
)
(12,879
)
 

 
(1,732
)
 

 
(14,611
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(2,797
)
(2,787
)
(5,584
)
 
(1,406
)
 
(2,241
)
 
(2,697
)
 
(11,928
)
Eliminations
59

1,609

1,668

 
129

 
20

 
34

 
1,851

Operating, general and administrative expenses - external
(2,738
)
(1,178
)
(3,916
)
 
(1,277
)
 
(2,221
)
 
(2,663
)
 
(10,077
)
Gain on sale of timberland

226

226

 

 

 

 
226

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
4,430

(545
)
3,885

 
205

 
(2,073
)
 
(2,697
)
 
(680
)
Eliminations
(41
)
1,609

1,568

 
(1,474
)
 
(128
)
 
34

 

Income (loss) from operations - external
$
4,389

$
1,064

$
5,453

 
$
(1,269
)
 
$
(2,201
)
 
$
(2,663
)
 
$
(680
)
 
 
 
 
 
 
 
 
 
 
 
 
2015
 

 

 

 
 

 
 

 
 

 
 

Revenue - internal
$
13,707

$
11,657

$
25,364

 
$
1,601

 
$
15,661

 
$

 
$
42,626

Eliminations
(146
)

(146
)
 
(1,601
)
 
(67
)
 

 
(1,814
)
Revenue - external
13,561

11,657

25,218

 

 
15,594

 

 
40,812

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(5,908
)
(9,532
)
(15,440
)
 

 
(7,872
)
 

 
(23,312
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(2,301
)
(2,630
)
(4,931
)
 
(1,660
)
 
(2,024
)
 
(2,446
)
 
(11,061
)
Eliminations

1,601

1,601

 
146

 
9

 
58

 
1,814

Operating, general and administrative expenses - external
(2,301
)
(1,029
)
(3,330
)
 
(1,514
)
 
(2,015
)
 
(2,388
)
 
(9,247
)
 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
5,498

(505
)
4,993

 
(59
)
 
5,765

 
(2,446
)
 
8,253

Eliminations
(146
)
1,601

1,455

 
(1,455
)
 
(58
)
 
58

 

Income (loss) from operations - external
$
5,352

$
1,096

$
6,448

 
$
(1,514
)
 
$
5,707

 
$
(2,388
)
 
$
8,253



10



6.
Basic and diluted earnings per unit are calculated by dividing net income (loss) attributable to unitholders, adjusted for non-forfeitable distributions paid out to unvested restricted unitholders and preferred shareholders of Fund II and Fund III, by the weighted average units outstanding during the period.  There were no dilutive securities outstanding during the periods presented. The following table shows the calculation of basic and diluted income (loss) per unit:

 
Quarter Ended 
 June 30,
 
Six Months Ended 
 June 30,
(in thousands, except per unit amounts)
2016
 
2015
 
2016
 
2015
Net income (loss) attributable to Pope Resources' unitholders
$
436

 
$
289

 
$
(599
)
 
$
8,098

Less:
 

 
 

 
 

 
 

Net income attributable to unvested restricted unitholders
(25
)
 
(25
)
 
(50
)
 
(37
)
Preferred share dividends - ORM Timber Funds
(8
)
 
(8
)
 
(16
)
 
(16
)
Net income (loss) for calculation of earnings (loss) per unit
$
403

 
$
256

 
$
(665
)
 
$
8,045

 
 
 
 
 
 
 
 
Basic and diluted weighted average units outstanding
4,313

 
4,298

 
4,312

 
4,296

 
 
 
 
 
 
 
 
Basic and diluted earnings (loss) per unit
$
0.09

 
$
0.06

 
$
(0.15
)
 
$
1.87


7.
In the first quarter of 2016, the Partnership granted 10,400 restricted units pursuant to the management incentive compensation program and 3,880 restricted units to members of the Board of Directors. These restricted units vest ratably over four years with the grant date fair value equal to the market price on the date of grant. During the six months ended June 30, 2016, 924 units were granted with no restrictions to certain board members who elected to receive their quarterly board compensation in the form of units rather than cash. Units granted to directors are included in the calculation of total equity compensation expense, which is recognized over the vesting period, for restricted units, or immediately for unrestricted units. Grants to retirement-eligible individuals on the date of grant are expensed immediately. We recognized $178,000 and $242,000 of equity compensation expense in the second quarter of 2016 and 2015, respectively, and $594,000 and $580,000 for the six months ended June 30, 2016 and 2015, respectively, related to these compensation programs.

8.
Supplemental disclosure of cash flow information: interest paid, net of amounts capitalized, totaled $1.2 million and $1.4 million for the first six months of 2016 and 2015, respectively. Income taxes paid totaled $146,000 and $205,000 during the first six months of 2016 and 2015, respectively.

9.
The Partnership’s financial instruments include cash and cash equivalents and accounts receivable, for which the carrying amount of each represents fair value based on current market interest rates or their short-term nature. Carrying amounts of contracts receivable, although long-term, also approximate fair value based on current market rates.

The Partnership’s and the Funds’ fixed-rate debt collectively have a carrying value of $84.8 million and $84.9 million as of June 30, 2016 and December 31, 2015, respectively.   The estimated fair value of this debt, based on current interest rates for similar instruments (Level 2 inputs in the Fair Value Hierarchy), is approximately $93.5 million and $89.8 million, as of June 30, 2016 and December 31, 2015, respectively.

10.
The Partnership had an accrual for estimated environmental remediation costs of $12.6 million and $16.8 million as of June 30, 2016 and December 31, 2015, respectively. The environmental remediation liability represents management’s estimate of payments to be made to monitor and remediate certain areas in and around Port Gamble Bay, Washington.

In December of 2013, a consent decree and Clean-up Action Plan (CAP) related to Port Gamble were finalized with the Washington State Department of Ecology (DOE) and filed with Kitsap County Superior Court. In the third quarter of 2015, the Partnership selected a contractor to complete the remediation work. Remediation activity began in late September of 2015 and will continue through 2017, followed by a period of monitoring activity. Management's cost estimates for the project are based on amounts included in the construction contract and estimates for project management and other professional fees.

The environmental liability at June 30, 2016 is comprised of $11.9 million that management expects to expend in the next 12 months and $0.7 million thereafter.


11



Activity in the environmental liability is as follows:
 
(in thousands)
Balance at Beginning of the Period
 
Additions to Accrual
 
Expenditures for Remediation
 
Balance at Period-end
Year ended December 31, 2014
13,241

 
10,000

 
1,590

 
21,651

Year ended December 31, 2015
21,651

 

 
4,890

 
16,761

Quarter ended March 31, 2016
16,761

 

 
3,222

 
13,539

Quarter ended June 30, 2016
$
13,539

 
$

 
$
952

 
$
12,587


11.
In July 2016, the Partnership closed on the acquisition of a 7,324-acre tree farm in western Washington for $31.9 million. It consists of 6,746 owned acres and a timber deed on 578 acres that expires in 2051. The acquisition was financed with a new $32.0 million credit facility issued under the existing master loan agreement with Northwest Farm Credit Services (NWFCS) and is comprised of three segments, all of which require quarterly interest-only payments with principal due at maturity. The two fixed rate loan segments are for $11.0 million each, one of which matures in July 2026 and the other of which matures in July 2028. These segments bear interest at 3.89% and 4.13%, respectively. The third segment is for $10.0 million, matures in July 2023 and bears interest at a variable rate based on the one-month LIBOR plus a margin of 2.20%. As with the Partnership's other debt arrangements with NWFCS, this loan will be included in the lender's annual patronage program, which rebates a portion of the interest paid in the prior year back to the borrower. The loan is not collateralized by the timberland acquired in this transaction, but rather by the same portions of the Partnership's timberland that are already pledged as collateral for the Partnership's existing credit facility with NWFCS.

In July 2016, the Partnership closed on sale of 144 acres of undeveloped land in Kitsap County, Washington for $1.1 million.

In August 2016, the Partnership entered into a $21.0 million loan agreement issued under the existing master loan agreement with NWFCS. Advances under the loan require quarterly interest-only payments with principal due at maturity in July 2027. Advances under the loan agreement can bear interest at a variable rate based on the one-month LIBOR plus a margin of 1.85% (base rate loan segment) or at fixed rates based on the lender's rate pricing index, for terms of one through eleven years, plus a margin of 1.95% (fixed rate loan segment). In addition, base rate loan segments can be converted to fixed rate loan segments, though no more than four fixed rate loan segments may be outstanding at any time. The Partnership will draw $11.0 million as a base rate loan segment in August 2016 and will use the proceeds to pay down its operating line of credit so that its full capacity is available to fund either Real Estate lot development, environmental remediation expenditures, or other liquidity needs. The remaining $10.0 million under the loan agreement will be available for borrowing through March 31, 2017. As with the Partnership's other debt arrangements with NWFCS, this loan will be included in the lender's annual patronage program, which rebates a portion the interest paid in the prior year back to the borrower. The loan is collateralized by the same portions of the Partnership's timberland that are already pledged as collateral for the Partnerships existing credit facility with NWFCS.

12



ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This report contains a number of projections and statements about our expected financial condition, operating results, and business plans and objectives. These statements reflect management’s estimates based upon our current expectations, in light of management’s knowledge of existing circumstances and expectations about future developments. Statements about expectations and future performance are “forward looking statements” within the meaning of applicable securities laws, which describe our goals, objectives and anticipated performance. These statements can be identified by words such as “anticipate,” “believe,” “expect,” “intend” and similar expressions. These statements are inherently uncertain, and some or all of these statements may not come to pass. Accordingly, you should not interpret these statements as promises that we will perform at a given level or that we will take any or all of the actions we currently expect to take. Our future actions, as well as our actual performance, will vary from our current expectations, and under various circumstances these variations may be material and adverse. Some of the factors that may cause our actual operating results and financial condition to fall short of our expectations are set forth in the part of this report entitled “Risk Factors” in Part II, Item 1A below. From time to time we identify other risks and uncertainties in our other filings with the Securities and Exchange Commission. The forward-looking statements in this report reflect our estimates and expectations as of the date of the report, and unless required by law, we do not undertake to update these statements as our business operations and environment change.

This discussion should be read in conjunction with the condensed consolidated financial statements and related notes included with this report. 
 
EXECUTIVE OVERVIEW

Pope Resources, A Delaware Limited Partnership (“we” or the “Partnership”), is engaged in three primary businesses. The first, and by far most significant segment in terms of owned assets and operations, is the Fee Timber segment. This segment includes timberlands owned directly by the Partnership and operations of two private equity funds ("Fund II" and "Fund III", collectively, the “Funds”). When we refer to the timberland owned by the Partnership, we describe it as the Partnership’s tree farms. We refer to timberland owned by the Funds as the Funds’ tree farms. When referring collectively to the Partnership’s and Funds’ timberland we will refer to them as the Combined tree farms. Operations in this segment consist of growing timber to be harvested as logs for sale to domestic manufacturers and export brokers. The second most significant business segment in terms of total assets owned is the development and sale of real estate. Real Estate activities primarily take the form of securing permits, entitlements, and, in some cases, installing infrastructure for raw land development and then realizing that land’s value by selling larger parcels to buyers who will take the land further up the value chain by either selling homes to retail buyers or lots to developers of commercial property. Since these land projects span multiple years, the Real Estate segment may incur losses for multiple years while a project is developed, and will not recognize operating income until that project is sold. In addition, within this segment we sometimes negotiate and sell development rights in the form of conservation easements (CE’s) on Fee Timber properties which preclude future development, but allow continued forestry operations. Our third business segment, which we refer to as Timberland Management, is engaged in organizing and managing private equity timber funds using capital invested by third parties and the Partnership.

Our current strategy for adding timberland acreage is centered primarily on our private equity timber fund business model. However, we will acquire smaller timberland parcels from time to time to add on to the Partnership's existing tree farms. In addition, during periods when the Funds' committed capital is fully invested, we may look to acquire larger timberland properties for the Partnership as we did in July 2016 with the acquisition of a 7,324-acre tree farm as discussed below under Recent Developments. We have closed and invested capital from three timber funds, with assets under management totaling approximately $364 million as of June 30, 2016 based on the most recent appraisals. Through our 20% co-investment in Fund II and our 5% co-investment in Fund III, we have deployed $26 million of Partnership capital. Our co-investment affords us a share of the Funds’ operating cash flows while also allowing us to earn asset management and timberland management fees, as well as potential future incentive fees, based upon the overall success of each fund. We also believe that this strategy allows us to maintain more sophisticated expertise in timberland acquisition, valuation, and management on a more cost-effective basis than we could for the Partnership’s timberlands alone. We believe our co-investment strategy also enhances our credibility with existing and prospective Fund investors by demonstrating that we have both an operational and a financial commitment to the Funds’ success.

The Funds are consolidated into our financial statements, but then income or loss attributable to equity owned by third parties is eliminated from consolidated results in our Condensed Consolidated Statements of Comprehensive Income (Loss)

13



under the caption “Net and comprehensive loss attributable to non-controlling interests-ORM Timber Funds” to arrive at net and comprehensive income (loss) attributable to unitholders of the Partnership.

The strategy for our Real Estate segment centers around how and when to “harvest” a parcel of land and optimize value realization by selling the property, balancing the long-term risks and costs of carrying and developing a property against the potential for income and cash flows upon sale. Land held for development by our Real Estate segment represents property in western Washington that has been deemed suitable for residential and commercial building sites.  Land held for sale represents those properties in the development portfolio that we expect to sell in the next year.
 
Second quarter highlights

Harvest volume was 20.9 million board feet (MMBF) in Q2 2016 compared to 15.1 MMBF in Q2 2015, a 38% increase. Harvest volume for the first six months of 2016 was 36.6 MMBF compared to 39.6 MMBF for 2015, an 8% decrease. These harvest volume figures do not include timber deed sales of 0.6 MMBF in Q1 2015 sold by Fund III. The harvest volume and log price realization metrics cited below also exclude these timber deed sales.
Average realized log price per thousand board feet (MBF) was $563 in Q2 2016 compared to $562 per MBF in Q2 2015. For the first six months of 2016, the average realized log price was $575 per MBF compared to $591 per MBF for 2015, a 3% decrease.
As a percentage of total harvest, volume sold to export markets in Q2 2016 increased only slightly to 15% from 14% in Q2 2015, while the mix of volume sold to domestic markets was 66% in Q2 2016 compared to 68% in Q2 2015. For the first six months of 2016, the relative percentages of volume sold to export and domestic markets were 17% and 63%, respectively, compared to 17% and 61%, respectively, in 2015. Hardwood, cedar and pulpwood log sales make up the balance of harvest volume.
The percentage of total harvest comprised of Douglas-fir sawlogs dropped to 45% in Q2 2016 from 52% in Q2 2015, with an increase in the whitewood sawlog component to 26% in Q2 2016 from 20% in Q2 2015. For the first six months of 2016, Douglas-fir sawlogs increased to 50% of total harvest volume from 48% in 2015.
The Partnership acquired 287 acres of timberland during Q2 2016 for $1.1 million.

Outlook

Depending on log markets, we expect our total 2016 harvest volume to be between 88 and 93 MMBF, including volume from the 7,324-acre tree farm acquired in July 2016. For our Real Estate segment, markets remain strong and in the second half of 2016 we anticipate significant residential lot sales from our Harbor Hill project as well as some potential sales of undeveloped land.


RECENT DEVELOPMENTS

As mentioned above, on July 22, 2016, we closed on the acquisition of a 7,324-acre tree farm in western Washington for $31.9 million. The property consists of 6,746 owned acres and a timber deed on 578 acres that expires in 2051. The acquisition was financed with a new $32.0 million loan from Northwest Farm Credit Services (NWFCS) and consists of multiple balloon maturities: $10 million in 2023, $11.0 million in 2026, and $11.0 million in 2028.

In August 2016, we entered into a new $21.0 million loan agreement with NWFCS. Advances under the loan are due at maturity in 2027. We plan to borrow $11.0 million in August 2016 to pay down our operating line of credit so that its full capacity is available to fund either Real Estate lot development, Port Gamble environmental remediation expenditures, or other liquidity needs. The remaining $10.0 million under this loan agreement will be available for borrowing through March 31, 2017.

See also footnote 11 to the condensed consolidated financial statements for information about these transactions and terms of the loan agreements.

The following table and chart present our capitalization and debt maturities, respectively, on a pro-forma basis as of September 30, 2016.

14



September 30, 2016 Pro Forma Capitalization
(Partnership only)
 
 
 
 
 
 
 
 
 
 
 
 
amounts in thousands, debt balances exclude debt issuance costs
 
 
 
 
Sources
 
Uses
 
 
Maturity
Net Interest Rate (1)
 
Balance 6/30/2016
 Timberland Acquisition Mortgage
Other Mortgage (2)
 
Timberland Acquisition
Debt Repayment
Other uses (3)
Pro Forma Balance 9/30/2016
Interest-only, fixed-rate mortgage
2017
3.85
%
 

$5,000

 
 
 
 
 
 

$5,000

Interest-only, fixed-rate mortgage
2019
5.40
%
 
9,800

 
 
 
 
 
 
9,800

Revolving line of credit (4)
2020
1.22
%
 
9,250

 
 
 
 

($9,250
)
 

Amortizing, fixed-rate mortgage
2023
2.80
%
 
2,636

 
 
 
 
(29
)
 
2,607

Interest-only, fixed-rate mortgage
2025
5.05
%
 
10,000

 
 
 
 
 
 
10,000

Interest-only, variable-rate mortgage (5)
2023
1.89
%
 
 

$10,000

 
 
 
 
 
10,000

Interest-only, fixed-rate mortgage
2026
3.08
%
 
 
11,000

 
 
 
 
 
11,000

Interest-only, variable-rate mortgage (6)
2027
1.54
%
 
 
 

$11,000

 
 
 
 
11,000

Interest-only, fixed-rate mortgage
2028
3.32
%
 
 
11,000

 
 
 
 
 
11,000

Total debt
 
 
 

$36,686

 
 
 
 
 
 
$
70,836

Less: Cash
 
 
 
912


$32,000


$11,000

 

($31,901
)

($9,279
)

($2,732
)

Net debt
 
 
 

$35,774

 
 
 
 
 
 

$70,836

Equity market cap (7)
 
 
 

$282,639

 
 
 
 
 
 

$282,639

Net debt / enterprise value (8)
 
 
 
11.2
%
 
 
 
 
 
 
20
%
Weighted average interest rate, net of patronage
 
3.9
%
 
 
 
 
 
 
3.3
%
 
 
 
 
 
 
 
 
 
 
 
 
(1) Interest rate net of patronage of 100 bps on debt held at 6/30/16 and 81 bps on new debt
(2) Additional $10.0 million available, must be drawn by 3/31/2017
(3) Including, but not limited to, acquisition closing costs, environmental remediation expenditures and Harbor Hill development costs
(4) Maximum borrowing limit of $20.0 million
(5) Rate is based on LIBOR of 0.50% plus spread of 1.39% (net of patronage)
(6) Rate is based on LIBOR of 0.50% plus spread of 1.04% (net of patronage)
(7) Based on unit price of $65 and outstanding units of 4,348,298
(8) Enterprise value equals equity market cap plus net debt


15




Taking into account the aforementioned borrowings, our interest coverage, (defined as EBITDDA attributable to unitholders divided by interest expense attributable to unitholders, including capitalized interest) is consistent with our timber-REIT peers and maintains a balance sheet that enables us to take advantage of the harvest optionality characteristic that is so important for the timberland asset class. The following table presents the calculation of our interest coverage ratio on a pro-forma basis utilizing 2015 results and interest expense under these new loans.

Amounts in thousands, except interest coverage ratio
 
Net income attributable to unitholders
$
10,943

Interest expense
2,970

Less: interest expense attributable to noncontrolling interests
(2,111
)
Income taxes
207

Less: income tax expense attributable to noncontrolling interests
(292
)
Depreciation and amortization expense
736

Less: depreciation and amortization expense attributable to noncontrolling interests
(20
)
Depletion expense
9,900

Less: depletion expense attributable to noncontrolling interests
(7,076
)
EBITDDA attributable to unitholders
$
15,257

 
 
Interest expense attributable to unitholders, including capitalized interest
1,743

Interest expense related to new $32 and $11 million borrowings
1,062

Pro-forma 2015 interest expense attributable to unitholders, including capitalized interest
$
2,805

Pro-forma interest coverage ratio
5.4



16



RESULTS OF OPERATIONS

The following table reconciles and compares key revenue and cost elements that impacted our net income (loss) attributable to unitholders for the respective quarters and six months ended June 30, 2016 and 2015.  The explanatory text that follows the table describes in detail certain of these changes by business segment.
(in thousands)
Quarter Ended 
 June 30,
 
Six Months Ended 
 June 30,
Net income (loss) attributable to Pope Resources' unitholders:
 
 
 
2016 period
$
436

 
$
(599
)
2015 period
289

 
8,098

Variance
$
147

 
$
(8,697
)
Detail of variance:
 

 
 

Fee Timber
 

 
 

Log volumes (A)
$
3,260

 
$
(1,773
)
Log price realizations (B)
21

 
(586
)
Gain on sale of timberland

 
226

Production costs
(942
)
 
1,886

Depletion
(206
)
 
675

Other Fee Timber
(752
)
 
(1,423
)
Timberland Management
182

 
245

Real Estate
 

 
 

Land sales
(1,590
)
 
(3,314
)
Conservation easement sales

 
(4,311
)
Other Real Estate
(150
)
 
(283
)
General and administrative costs
139

 
(275
)
Net interest expense
30

 
117

Income taxes
28

 
318

Noncontrolling interests
127

 
(199
)
Total variances
$
147

 
$
(8,697
)
(A)
Volume variance calculated by extending change in sales volume by the average log sales price for the comparison period.
(B)
Price variance calculated by extending the change in average realized price by current period sales volume.


17



Fee Timber
 
Fee Timber results include operations on 111,000 acres of timberland owned by the Partnership and 94,000 acres of timberland owned by the Funds. Fee Timber revenue is earned primarily from the harvest and sale of logs from these timberlands which are located in western Washington, northwestern Oregon, and northern California. This revenue source is driven primarily by the volume of timber harvested and the average log price realized on the sale of that timber. Our harvest volume is based typically on manufactured log sales to domestic mills and log export brokers. We also occasionally sell rights to harvest timber (timber deed sale) from the Combined tree farms. The metrics used to calculate volumes sold and average price realized during the reporting periods exclude the timber deed sales, except where stated otherwise. Harvest volumes are generally expressed in million board feet (MMBF) increments while harvest revenue and related costs are generally expressed in terms of revenue or cost per thousand board feet (MBF).

Fee Timber revenue is also derived from commercial thinning operations, ground leases for cellular communication towers, and royalties from gravel mines and quarries, all of which, along with timber deed sales, are included in other revenue below. Commercial thinning consists of the selective cutting of timber stands not yet of optimal harvest age.  However, they do have some commercial value, thus allowing us to earn revenue while at the same time improving the projected value at harvest of the remaining timber in the stand.

Revenue and operating income for the Fee Timber segment for the quarters ended June 30, 2016, March 31, 2016, and June 30, 2015 were as follows:
 
(in millions)
Quarter ended
 
Log Sale
Revenue
 
Other
Revenue
 
Total Fee
Timber
Revenue
 
Gain on Sale of
Timberland
 
Operating
Income
 
Harvest
Volume
(MMBF)
 
Timber Deed Sale Volume (MMBF)
Partnership
 
$
7.7

 
$
0.5

 
$
8.2

 
$

 
$
2.8

 
13.7

 

Funds
 
4.1

 

 
4.1

 

 
0.2

 
7.2

 

Total June 2016
 
$
11.8

 
$
0.5

 
$
12.3

 
$

 
$
3.0

 
20.9

 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Partnership
 
$
4

 
$
0.4

 
$
4.4

 
$

 
$
1.6

 
6.3

 

Funds
 
5.2

 
0.2

 
5.4

 
0.2

 
0.9

 
9.3

 

Total March 2016
 
$
9.2

 
$
0.6

 
$
9.8

 
$
0.2

 
$
2.5

 
15.6

 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Partnership
 
$
4.1

 
$
0.7

 
$
4.8

 
$

 
$
1.3

 
7.2

 

Funds
 
4.3

 
0.2

 
4.5

 

 
0.3

 
7.9

 

Total June 2015
 
$
8.4

 
$
0.9

 
$
9.3

 
$

 
$
1.6

 
15.1

 

 
Operating Income
 
Comparing Q2 2016 to Q1 2016.  Operating income increased $485,000, or 20%, from $2.5 million in Q1 2016 to $3.0 million in Q2 2016. This increase is due primarily to a 34% increase in harvest volume offset partially by a 5% decrease in average realized log prices, a 19% increase in cost of sales due to the higher harvest volume and a $713,000 increase in operating expenses. In addition, Q1 2016 included a $226,000 gain on the sales of two small Fund properties that had no counterpart in Q2 2016.
 
Comparing Q2 2016 to Q2 2015.  Operating income increased $1.4 million, or 88%, from $1.6 million in Q2 2015 to $3.0 million in Q2 2016. This increase is due primarily to a 38% increase in harvest volume, offset partially by a 20% increase in cost of sales due to the higher harvest volume, and a $468,000 increase in operating expenses.
 
Revenue
 
Comparing Q2 2016 to Q1 2016.  Log sale revenue in Q2 2016 increased $2.6 million, or 28%, from Q1 2016 due to a 34% increase in harvest volume, offset partially by a 5% decrease in average realized log prices. Poor weather conditions

18



during Q1 2016 and expectations of better prices later in the year caused harvest volumes in that quarter to be lower than usual, creating a low base against which to compare Q2 2016 harvest volume.

Comparing Q2 2016 to Q2 2015.  Log sale revenue in Q2 2016 increased $3.4 million, or 40%, from Q2 2015, primarily as a result of a 38% increase in harvest volume. The increase in harvest volume in the current year is related to differences in weather patterns during the first quarter of each comparable year that created intra-quarter harvest timing differences. In 2015, temperatures were unseasonably warm, allowing for increased access to timberland throughout our region. As a result, our harvest volume was relatively higher in the first quarter of 2015 and then lower in the second quarter. By contrast, weather conditions were comparatively poor in early 2016, reflected by lower harvest volume in the first quarter and higher harvest volume in the second quarter. The decrease in other revenue is attributable primarily to $391,000 of commercial thinning activity in Q2 2015 that had no counterpart in Q2 2016.
 
Revenue and operating income for the Fee Timber segment for the six months ended June 30, 2016 and 2015 were as follows:
 
(in millions) Six Months Ended
 
Log Sale Revenue
 
Other Revenue
 
Total Fee Timber Revenue
 
Gain on Sale of Timberland
 
Operating Income
 
Harvest Volume (MMBF)
 
Timber Deed Sale Volume (MMBF)
Partnership
 
$
11.6

 
$
0.9

 
$
12.5

 
$

 
$
4.4

 
20.0

 

Funds
 
9.5

 
0.2

 
9.7

 
0.2

 
1.1

 
16.6

 

Total June 2016
 
$
21.1

 
$
1.1

 
$
22.2

 
$
0.2

 
$
5.5

 
36.6

 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Partnership
 
$
12.4

 
$
1.2

 
$
13.6

 
$

 
$
5.4

 
19.7

 

Funds
 
11.0

 
0.6

 
11.6

 

 
1.1

 
19.9

 
0.6

Total June 2015
 
$
23.4

 
$
1.8

 
$
25.2

 
$

 
$
6.5

 
39.6

 
0.6

 
Operating Income
 
Comparing YTD 2016 to YTD 2015.  Operating income decreased by $1.0 million, or 15%, from $6.5 million in the first six months of 2015 to $5.5 million in the first six months of 2016, primarily as a result of an 8% decrease in harvest volume and a 3% decrease in average realized log prices. Also contributing to the decline in operating income was a $585,000 increase in operating expenses and $792,000 reduction in other revenue due to commercial thinning operations and timber deed sales in 2015 that had no counterparts in 2016. These decreases in operating income were offset partially by a 17% reduction in cost of sales related to the decline in harvest volume and a $226,000 gain on the sale of two small Fund properties during 2016 that had no counterpart in 2015.
 
Revenue
 
Comparing YTD 2016 to YTD 2015.  Log sale revenue in the first half of 2016 decreased $2.3 million, or 10%, from the first half of 2015. The reduction in revenue was the result of an 8% decrease in harvest volume and a 3% decrease in average realized log prices. Since the expiration of the Softwood Lumber Agreement (SLA) last October, Canadian lumber has been sold duty-free into the U.S. market, and will continue to do so at least until October of this year. This, combined with a strong U.S. Dollar, has contributed to a 36% increase in British Columbia exports of softwood lumber to the U.S. compared to 2015. This influx of Canadian lumber has kept lumber prices, and in turn, log prices in check when compared to last year. The $792,000 decrease in other revenue is due to commercial thinning operations and timber deed sales on the Combined tree farms in 2015 that had no counterparts in 2016.

Log Volume

We harvested the following log volumes by species from the Combined tree farms, exclusive of timber deed sales, for the quarters ended June 30, 2016, March 31, 2016, and June 30, 2015:
 

19



Volume (in MMBF)
Quarter Ended
 
 
Jun-16
% Total
 
Mar-16
% Total

 
Jun-15
% Total
Sawlogs
Douglas-fir
9.4

45
%
 
8.6

55
%
 
7.8

52
%
 
Whitewood
5.4

26
%
 
2.7

17
%
 
3.0

20
%
 
Pine
1.2

6
%
 

%
 
1.1

7
%
 
Cedar
1.0

5
%
 
0.9

6
%
 
0.5

3
%
 
Hardwood
0.7

3
%
 
0.6

4
%
 
0.4

3
%
Pulpwood
All Species
3.2

15
%
 
2.8

18
%
 
2.3

15
%
Total
 
20.9

100
%
 
15.6

100
%
 
15.1

100
%
 
Comparing Q2 2016 to Q1 2016. Harvest volume increased 5.3 MMBF, or 34%, in Q2 2016 from Q1 2016. The increase stems from unusually low harvest volumes during Q1 2016 when poor weather conditions limited access to our higher-elevation timberlands, combined with the expectation that log prices would improve later in the year as the U.S. housing market continues to recover. Our species mix shifted from Douglas-fir in Q1 2016 towards whitewood and pine in Q2 2016. This is a function of weather patterns and tree farm mix. The better weather conditions in Q2 2016 allowed for access to higher-elevation timberlands, where whitewoods are more prevalent. The pine volume comes almost exclusively from Fund III’s McCloud tree farm in northern California, where we conducted no operations during Q1 2016.
 
 Comparing Q2 2016 to Q2 2015. Harvest volume increased 5.8 MMBF, or 38%, in Q2 2016 from Q2 2015. The increase is due to different weather patterns this year relative to last year. In 2016, poor weather constrained our harvest in the first quarter which we recovered by increasing our harvest in the second quarter when the weather improved. By contrast, in 2015 the weather was unusually warm in the first quarter, allowing us to harvest more volume than is typical for that time of year, which resulted in comparatively low volume in the second quarter. Our species mix shifted from Douglas-fir in Q2 2015 towards whitewood in Q2 2016 due to improved whitewood log markets and less favorable Douglas-fir log markets relative to the prior year.
 
We harvested the following log volumes by species from the Combined tree farms, exclusive of timber deed sales, for the six months ended June 30, 2016 and 2015:

Volume (in MMBF)
Six Months Ended
 
 
Jun-16
% Total
 
Jun-15
% Total
Sawlogs:
Douglas-fir
18.2

50
%
 
19.1

48
%
 
Whitewood
8.0

22
%
 
9.0

23
%
 
Pine
1.2

3
%
 
1.1

3
%
 
Cedar
1.9

5
%
 
1.8

4
%
 
Hardwood
1.3

4
%
 
1.9

5
%
Pulpwood:
All Species
6.0

16
%
 
6.7

17
%
Total
 
36.6

100
%
 
39.6

100
%
 
Comparing YTD 2016 to YTD 2015. Harvest volume decreased 3.0 MMBF, or 8%, in the first six months of 2016 compared to the first six months of 2015. The decrease in harvest volume is attributable to weaker domestic and export markets in 2016 as compared to 2015 and deferring harvest until the latter half of 2016 in expectation of better log markets. Species mix was relatively stable between 2015 and 2016.
 
Log Prices
 
Logs from the Combined tree farms serve a number of different domestic and export markets, with domestic mills historically representing our largest market destination. Export customers consist of log brokers who sell the logs primarily to Japan, China and, to a lesser degree, Korea.


20



We realized the following log prices by species for the quarters ended June 30, 2016, March 31, 2016, and June 30, 2015:
 
 
 
Quarter Ended
 
 
Jun-16
 
Mar-16
 
Jun-15
Average price realizations (per MBF):
 
 
Sawlogs:
Douglas-fir
$
596

 
$
620

 
$
608

 
Whitewood
550

 
490

 
541

 
Pine
500

 

 
552

 
Cedar
1,271

 
1,514

 
1,120

 
Hardwood
521

 
539

 
532

Pulpwood:
All Species
290

 
312

 
322

Overall
 
563

 
591

 
562


The following table compares the dollar and percentage change in log prices from each of Q1 2016 and Q2 2015 to Q2 2016:
   
 
 
Change to Q2 2016 from Quarter Ended
 
 
Mar-16
 
Jun-15
 
 
$/MBF
 
%
 
$/MBF
 
%
Sawlogs:
Douglas-fir
$
(24
)
 
(4
%)
 
$
(12
)
 
(2
%)
 
Whitewood
60

 
12
%
 
9

 
2
%
 
Pine
500

 
NA

 
(52
)
 
(9
%)
 
Cedar
(243
)
 
(16
%)
 
151

 
13
%
 
Hardwood
(18
)
 
(3
%)
 
(11
)
 
(2
%)
Pulpwood:
All Species
(22
)
 
(7
%)
 
(32
)
 
(10
%)
Overall
 
(28
)
 
(5
%)
 
1

 
%
 
Overall realized log prices in Q2 2016 were 5% lower than Q1 2016 and essentially flat compared to Q2 2015. Our overall average is influenced heavily by price movements for our two most prevalent species on the Combined tree farms, Douglas-fir and whitewood, and the relative mix of harvest volume between those two species. From Q1 2016 to Q2 2016, log prices for these two species decreased 4% and increased 12%, respectively. Douglas-fir was weighed down by weakness in the Japanese market that was offset partially by solid demand from China which also served to support domestic pricing. Whitewood prices benefitted from solid demand from China, as well as from a local mill that was short on log supply. Cedar experienced a 16% price decrease due to the closure of a cedar mill in the Hood Canal market area as well as 20% of Q2 2016 cedar volume consisting of lower-valued incense cedar produced on Fund III’s McCloud tree farm, while in Q1 2016 all cedar volume was higher-value western red cedar produced primarily on the Partnership's tree farms.

From Q2 2015 to Q2 2016, the negligible increase in average realized log prices was attributable to offsetting price movements amongst the various species, and a shift in mix from Douglas-fir in Q2 2015 towards whitewood in Q2 2016. Douglas-fir prices decreased 2% while whitewood prices increased 2%. Prices for pine, produced almost exclusively on Fund III’s McCloud tree farm, were down 9% due to an excess of pine lumber at mills in the northern California market. The 13% increase in cedar prices is due to 45% of Q2 2015 cedar volume coming from lower-valued incense cedar produced on Fund III’s McCloud tree farm, while in Q2 2016 incense cedar made up only 20% of total cedar volume.
 

21



The following table compares realized log prices by species for the first six months of 2016 and 2015, as well as the dollar and percentage change in log prices between the two periods:
 
 
 
Six Months Ended
 
 
Jun-16
 
 
 
 
 
Jun-15
 
 
 

 
∆ from Jun-16 to Jun-15
 
 

 
 
 
 
$/MBF
 
%
 
 
Sawlogs:
Douglas-fir
$
608

 
$
(21
)
 
(3
%)
 
$
629

 
Whitewood
530

 
(20
)
 
(4
%)
 
550

 
Pine
500

 
(51
)
 
(9
%)
 
551

 
Cedar
1,384

 
(14
)
 
(1
%)
 
1,398

 
Hardwood
529

 
(94
)
 
(15
%)
 
623

Pulpwood:
All species
300

 
(26
)
 
(8
%)
 
326

Overall
 
575

 
(16
)
 
(3
%)
 
591

 
Overall realized log prices decreased 3% in the first six months of 2016 versus the corresponding period of 2015. The overall average is influenced heavily by Douglas-fir and whitewood prices, which were down 3% and 4%, respectively, but all other species and pulpwood experienced a decline in price as well. Douglas-fir was down on reduced pricing in the domestic market, while whitewood declined on lower pricing in the export market. Hardwood prices declined 15% due to the influence in early 2015 of a significant portion of higher-value red alder peeler logs that had no counterpart in 2016.

Customers

The ultimate decision of whether to sell our logs into the export or domestic market is based on the net proceeds we receive after taking into account both the delivered log prices and the cost to deliver logs to the customer. As such, our reported log price realizations will reflect our properties’ proximity to customers as well as the broader log market.

The table below categorizes logs sold by customer type for the quarters ended June 30, 2016, March 31, 2016, and June 30, 2015:

 
Q2 2016
 
Q1 2016
 
Q2 2015
 
Volume
 
 

 
Volume
 
 
 
Volume
 
 
Destination
MMBF
%
 
Price
 
MMBF
%
 
Price
 
MMBF
%
 
Price
Export brokers
3.2

15
%
 
$
607

 
2.8

18
%
 
$
669

 
2.1

14
%
 
$
604

Domestic mills
13.8

66
%
 
618

 
9.4

60
%
 
653

 
10.3

68
%
 
608

Hardwood
0.7

4
%
 
521

 
0.6

4
%
 
539

 
0.4

3
%
 
532

Pulpwood
3.2

15
%
 
290

 
2.8

18
%
 
312

 
2.3

15
%
 
322

Total
20.9

100
%
 
563

 
15.6

100
%
 
591

 
15.1

100
%
 
562

 
Comparing Q2 2016 to Q1 2016. Volume sold to the export market decreased to 15% of Q2 2016 harvest volume compared to 18% of Q1 2016 volume, while volume sold to the domestic market increased to 66% of Q2 2016 harvest volume compared to 60% of Q1 2016 harvest volume. This shift in customer mix reflects the harvest of 4.6 MMBF during Q2 2016 on Fund III’s McCloud tree farm, which sells all its volume into the domestic market. There was no harvest at McCloud during Q1 2016 as the winter snow prevented access to timber stands.