View:
Download DOC
Download PDF
Download XLS
Download XBRL
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, 2018

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
Emerging growth company o
 
Non-accelerated Filer o
Smaller Reporting Company o
 
                                                                                                           
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.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, 2018: 4,356,070




Pope Resources
Index to Form 10-Q Filing
For the Six Months Ended June 30, 2018

Description
Page Number
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 




PART I – FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
Pope Resources, a Delaware Limited Partnership
June 30, 2018 and December 31, 2017
(in thousands)
 
2018
 
2017
ASSETS
 
 
 
Current assets
 
 
 
Partnership cash
$
937

 
$
1,788

ORM Timber Funds cash
3,320

 
1,636

Cash
4,257

 
3,424

Restricted cash
1,026

 
1,860

Total cash and restricted cash
5,283

 
5,284

Accounts receivable, net
3,879

 
6,427

Contract assets
6,514

 
—

Land held for sale
10,734

 
5,728

Prepaid expenses and other current assets
1,401

 
591

    Total current assets
27,811

 
18,030

Properties and equipment, at cost
 

 
 

Timber and roads
362,311

 
267,662

Timberland
69,115

 
55,056

Land held for development
15,470

 
19,311

Buildings and equipment, net of accumulated depreciation (2018 - $7,989; 2017 - $7,833)
5,521

 
5,306

    Total property and equipment, at cost
452,417

 
347,335

Other assets
8,878

 
15,308

Total assets
$
489,106

 
$
380,673

 
 
 
 
LIABILITIES, PARTNERS’ CAPITAL AND NONCONTROLLING INTERESTS
 

 
 

Current liabilities
 

 
 

Accounts payable
$
1,313

 
$
2,430

Accrued liabilities
3,120

 
4,451

Current portion of long-term debt - Partnership
126

 
123

Deferred revenue
451

 
197

Current portion of environmental remediation liability
2,394

 
2,160

Other current liabilities
1,078

 
401

    Total current liabilities
8,482

 
9,762

Long-term debt, net of unamortized debt issuance costs and current portion - Partnership
89,796

 
70,037

Long-term debt, net of unamortized debt issuance costs - Funds
57,302

 
57,291

Environmental remediation and other long-term liabilities
4,712

 
2,957

Partners’ capital and noncontrolling interests
 

 
 

General partners' capital (units issued and outstanding 2018 - 60; 2017 - 60)
1,034

 
1,028

Limited partners' capital (units issued and outstanding 2018 - 4,258; 2017 - 4,251)
63,414

 
63,519

Noncontrolling interests
264,366

 
176,079

    Total partners’ capital and noncontrolling interests
328,814

 
240,626

Total liabilities, partners’ capital and noncontrolling interests
$
489,106

 
$
380,673

See accompanying notes to condensed consolidated financial statements.

3


CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited)
Pope Resources, a Delaware Limited Partnership
Six Months Ended June 30, 2018 and 2017
(in thousands, except per unit data)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2018
 
2017
 
2018
 
2017
Revenue
$
27,912

 
$
15,891

 
$
52,899

 
$
33,236

Cost of sales
(14,575
)
 
(8,979
)
 
(26,875
)
 
(20,180
)
Operating expenses
(5,225
)
 
(4,514
)
 
(9,334
)
 
(8,776
)
Environmental remediation expense
(2,900
)
 
—

 
(2,900
)
 
—

General and administrative expenses
(1,403
)
 
(1,405
)
 
(3,024
)
 
(3,106
)
Gain on sale of timberland
—

 
—

 
—

 
12,503

Income from operations
3,809

 
993

 
10,766

 
13,677

 
 
 
 
 
 
 
 
Interest expense, net
(1,248
)
 
(1,117
)
 
(2,392
)
 
(2,127
)
 
 
 
 
 
 
 
 
Income (loss) before income taxes
2,561

 
(124
)
 
8,374

 
11,550

Income tax expense
(29
)
 
(3
)
 
(127
)
 
(59
)
Net and comprehensive income (loss)
2,532

 
(127
)
 
8,247

 
11,491

 
 
 
 
 
 
 
 
Net and comprehensive (income) loss attributable to noncontrolling interests - ORM Timber Funds
(2,391
)
 
285

 
(2,388
)
 
(7,963
)
Net and comprehensive loss attributable to noncontrolling interests - Real Estate
58

 
—

 
58

 
—

Net and comprehensive income attributable to unitholders    
$
199

 
$
158

 
$
5,917

 
$
3,528

 
 
 
 
 
 
 
 
Allocable to general partners
$
3

 
$
2

 
$
82

 
$
49

Allocable to limited partners
196

 
156

 
5,835

 
3,479

Net and comprehensive income attributable to unitholders
$
199

 
$
158

 
$
5,917

 
$
3,528

 
 
 
 
 
 
 
 
Basic and diluted earnings per unit attributable to unitholders
$
0.04

 
$
0.03

 
$
1.35

 
$
0.80

 
 
 
 
 
 
 
 
Basic and diluted weighted average units outstanding
4,320

 
4,327

 
4,320

 
4,326

 
 
 
 
 
 
 
 
Distributions per unit
$
0.70

 
$
0.70

 
$
1.40

 
$
1.40

See accompanying notes to condensed consolidated financial statements.

4


CONDENSED CONSOLIDATED STATEMENTS OF PARTNERS’ CAPITAL AND NONCONTROLLING INTERESTS (Unaudited)
Pope Resources, a Delaware Limited Partnership
Six Months Ended June 30, 2018
(in thousands, except unit amounts)

 
 
 
Attributable to Pope Resources
 
 
 
 
 
Units
 
General Partners
 
Limited Partners
 
Noncontrolling Interests
 
Total
December 31, 2017
4,311,065

 
$
1,028

 
$
63,519

 
$
176,079

 
$
240,626

Net income
—

 
82

 
5,835

 
2,330

 
8,247

Cash distributions
—

 
(85
)
 
(6,018
)
 
(6,323
)
 
(12,426
)
Capital call
—

 
—

 
—

 
92,280

 
92,280

Equity-based compensation
15,781

 
10

 
712

 
—

 
722

Units issued under distribution reinvestment plan
1,687

 
—

 
120

 
—

 
120

Unit repurchases
(9,116
)
 
—

 
(653
)
 
—

 
(653
)
Payroll taxes paid on unit net settlements
(1,466
)
 
(1
)
 
(101
)
 
—

 
(102
)
June 30, 2018
4,317,951

 
$
1,034

 
$
63,414

 
$
264,366

 
$
328,814


See accompanying notes to condensed consolidated financial statements.


5


CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Pope Resources, a Delaware Limited Partnership
Six Months Ended June 30, 2018 and 2017 (in thousands)
 
2018
 
2017
Net income
$
8,247

 
$
11,491

Adjustments to reconcile net income to net cash provided by operating activities
 

 
 

Depletion
14,141

 
8,485

Equity-based compensation
722

 
784

Depreciation and amortization
285

 
252

Deferred taxes and other
40

 
44

Cost of land sold
75

 
301

Gain on sale of timberland - Funds
—

 
(12,503
)
Gain on disposal of property and equipment
(4
)
 
(3
)
Cash flows from changes in operating accounts
 

 
 

Accounts receivable, net
2,547

 
936

Prepaid expenses, contract assets, and other assets
(6,966
)
 
5,356

Real estate project expenditures
(1,232
)
 
(4,294
)
Accounts payable and accrued liabilities
(2,447
)
 
(1,031
)
Deferred revenue
254

 
(47
)
Environmental remediation accruals
2,900

 
—

Environmental remediation payments
(885
)
 
(4,280
)
Other current and long-term liabilities
652

 
129

Net cash provided by operating activities
18,329

 
5,620

 
 
 
 
Cash flows from investing activities
 

 
 

Reforestation and roads
(1,861
)
 
(1,109
)
Capital expenditures
(462
)
 
(92
)
Proceeds from sale of property and equipment
4

 
30

Investment in unconsolidated real estate joint venture
(250
)
 
—

Acquisitions of timberland - Partnership
(6,355
)
 
(4,951
)
Acquisitions of timberland - Funds
(108,364
)
 
—

Proceeds from sale of timberland - Funds
—

 
26,444

Net cash provided by (used in) investing activities
(117,288
)
 
20,322

 
 
 
 
Cash flows from financing activities
 

 
 

Line of credit borrowings
24,300

 
18,507

Line of credit repayments
(4,500
)
 
(8,000
)
Repayment of long-term debt
(61
)
 
(5,059
)
Debt issuance costs
—

 
(77
)
Proceeds from unit issuances - distribution reinvestment plan
120

 
—

Unit repurchases
(653
)
 
(57
)
Payroll taxes paid on unit net settlements
(102
)
 
(94
)
Cash distributions to unitholders
(6,103
)
 
(6,115
)
Cash distributions - ORM Timber Funds, net of distributions to Partnership
(6,323
)
 
(23,937
)
Capital call - ORM Timber Funds, net of Partnership contribution
92,280

 
825

Net cash provided by (used in) financing activities
98,958

 
(24,007
)
 
 
 
 
Net increase in cash and restricted cash
(1
)
 
1,935

Cash and restricted cash at beginning of period
5,284

 
2,937

Cash and restricted cash at end of period
$
5,283

 
$
4,872

See accompanying notes to condensed consolidated financial statements.

6


POPE RESOURCES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 30, 2018

1.
The condensed consolidated balance sheets as of June 30, 2018, and December 31, 2017, and the related condensed consolidated statements of comprehensive income (loss) for the three- and six-month periods, and partners’ capital and cash flows for the six-month periods, ended June 30, 2018, and 2017, 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, 2017, is derived from the Partnership’s audited consolidated financial statements and notes thereto for the year ended December 31, 2017, 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, 2018.

2.
The financial statements in the Partnership’s 2017 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.

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, and the Partnership will adopt it at that time. 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 consolidated financial statements.

3.
Effective January 1, 2018, the Partnership adopted Topic 606, Revenue from Contracts with Customers. For revenue from the Partnership Timber and Funds Timber segments, which consists primarily of the sale of logs, there were no changes to the timing or amount of revenue recognized because contracts are legally enforceable, the transaction price is fixed, and performance is completed and control transfers at a point in time, typically when risk of loss and title passes to the customer. Similarly, no changes were identified to the timing or amount of revenue recognized from certain components of other revenue in these segments, including commercial thinning, royalties from gravel mines and quarries, and land use permits. For timber deed sales, the timing of revenue recognition was accelerated under the new standard to the effective date of the contract, whereas under the previous revenue recognition guidance the revenue was generally recognized when the timber was harvested by the customer. Under Topic 606, revenue recognized from timber deed sales, in the quarter and six months ended June 30, 2018, was $7.5 million greater than it would have been under the previous revenue recognition accounting standards. For the Real Estate segment, this new standard may result in accelerating the recognition of revenue for performance obligations that are satisfied over time, which generally consist of construction and landscaping activity in common areas completed after transaction closing. The Partnership adopted this standard using the cumulative effect transition method applied to uncompleted contracts as of the date of adoption. The Partnership, however, had no uncompleted contracts at the date of adoption. Accordingly, the adoption of this standard did not have a cumulative effect on the Partnership’s consolidated financial statements.

Revenue is measured based on the consideration specified in a contract with a customer. The Partnership recognizes revenue when it satisfies a performance obligation by transferring control over a product or service to a customer. Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, that are collected by the Partnership from a customer, are excluded from revenue. Shipping costs associated with delivering products to customers are included in cost of sales.

Included in “Accounts receivable, net” are $3.0 million and $4.4 million of receivables from contracts with customers as of June 30, 2018, and December 31, 2017, respectively. Significant changes in the contract asset balance during the period were as follows, and there were no contract liabilities as of June 30, 2018, and December 31, 2017:


7


Contract assets, January 1, 2018
$
—

Revenue recognized from the satisfaction of performance obligations
8,865

Transferred to receivables from contract assets
(2,351
)
Contract assets, June 30, 2018
$
6,514


The contract assets in the table above represent rights to consideration for timber deeds transferred to the customer, and are related to the Funds Timber segment. These contracts provide the customer the legal right to harvest timber on the Funds’ property. The value of a timber deed contract is determined based on the estimated timber volume by tree species multiplied by the contracted price. The contract consideration is considered variable because the timber volume is an estimate until the harvest is completed. The contract assets are transferred to receivables when the rights to consideration become unconditional, which occurs at harvest. Customers may harvest the timber at their discretion, within a time period and operational parameters stated in the contract.

The following is a description of principal activities, separated by reportable segments, from which the Partnership generates its revenue.

Partnership Timber and Funds Timber

Log sale revenue in these two segments is recognized when control is transferred and title and risk of loss passes to the buyer, which typically occurs when logs are delivered to the customer. Revenue in these two segments is earned primarily from the harvest and sale of logs from the Partnership’s and Funds’ timberland. Other revenue in these segments is generated from the sale of rights to harvest timber (timber deed sales), commercial thinning, ground leases for cellular communication towers, royalties from gravel mines and quarries, and land use permits. Timber deed sales are generally structured so that the customer pays a contracted price per volume, measured in thousands of board feet (MBF), and revenue is recognized when control is transferred to the customer, which generally occurs on the effective date of the contract. Commercial thinning consists of the selective cutting of timber stands that have not yet reached optimal harvest age. However, this timber does have some commercial value and revenue is based on the volume harvested. Royalty revenue from gravel mines and quarries is recognized monthly based on the quantity of material extracted.

The following table presents log sale and other revenue for the quarters and six months ended June 30, 2018 and 2017:

(in thousands)
Quarter ended June 30,
 
Six Months Ended June 30,
 
2018
 
2017
 
2018
 
2017
Partnership Timber
 
 
 
 
 
 
 
Log sale revenue
$
5,039

 
$
7,710

 
$
19,674

 
$
16,387

Other revenue
531

 
459

 
1,034

 
888

Total revenue
$
5,570

 
$
8,169

 
$
20,708

 
$
17,275

 
 
 
 
 
 
 
 
Funds Timber
 
 
 
 
 
 
 
Log sale revenue
$
8,494

 
$
6,630

 
$
18,003

 
$
14,232

Timber deed sale revenue
8,865

 
638

 
8,865

 
710

Other revenue
558

 
5

 
590

 
37

Total revenue
$
17,917

 
$
7,273

 
$
27,458

 
$
14,979


Timberland Investment Management (TIM)

Fee revenue generated by the TIM segment for managing the Funds includes fixed components related to invested capital and acres under management, and a variable component related to harvest volume from the Funds’ tree farms. These fees, which represent an expense in the Funds Timber segment, are eliminated in consolidation. The TIM segment occasionally earns revenue from providing timberland management-related consulting services to third-parties and recognizes such revenue as the related services are provided.


8


Real Estate

The Real Estate segment’s activities consist of investing in and later selling improved properties, holding properties for later development and sale, and managing commercial properties. Revenue is generated primarily from sales of land, sales of development rights known as conservation easements (CE’s), sales of unimproved land from the Partnership’s timberland portfolio, and residential and commercial rents. Revenue on real estate sales is recorded on the date the sale closes. When a real estate transaction is closed with obligations to complete infrastructure or other construction, the portion of the total contract allocated to the post-closing obligations may be recognized over time as that work is performed, provided the customer either simultaneously receives and consumes the benefits as we perform under the contract, our performance creates or enhances the asset controlled by the customer, or we do not create an asset with an alternative use to the customer and we have an enforceable right to payment for the performance completed. Progress towards the satisfaction of our performance obligations is generally measured based on costs incurred relative to the total cost expected to be incurred for the performance obligations.

The following table breaks down revenue for the Real Estate segment for the quarters ended June 30, 2018 and 2017:

 
Quarter ended June 30,
 
Six Months Ended June 30,
 
2018
 
2017
 
2018
 
2017
 
 
 
 
 
 
 
 
Development rights (CE)
$
3,730

 
$
—

 
$
3,730

 
$
—

Residential land sales
151

 
170

 
151

 
455

Unimproved land
125

 
—

 
125

 
—

Total land sales
4,006

 
170

 
4,006

 
455

Rentals and other
419

 
279

 
727

 
527

Total revenue
$
4,425

 
$
449

 
$
4,733

 
$
982


4.
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.

5.
ORM Timber Fund II, Inc. (Fund II), ORM Timber Fund III (REIT) Inc. (Fund III), and ORM Timber Fund IV LLC (Fund IV), collectively “the Funds”, were formed by Olympic Resource Management LLC (ORMLLC), a wholly owned subsidiary of the Partnership, for the purpose of raising 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 is organized to operate for a specific term from the end of its respective investment period; ten years for each of Fund II and Fund III, and fifteen years for Fund IV. Fund II and Fund III are scheduled to terminate in March 2021 and December 2025, respectively. Fund IV will terminate on the fifteenth anniversary of the end of its investment period, which will occur on the earlier of placement of all committed capital or December 31, 2019, subject to certain extension provisions.

Pope Resources and ORMLLC together own equity interests totaling 20% of Fund II, 5% of Fund III, and 15% of Fund IV. The Funds are considered variable interest entities because their organizational and governance structures are the functional equivalent of a limited partnership. As the 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 the obligation to absorb losses that could potentially be significant to the Funds. Accordingly, the Funds are consolidated into the Partnership’s financial statements. The obligations of each of the Funds are non-recourse to the Partnership.

In January 2018, Fund IV closed on the acquisitions of two tree farms, one in southwestern Oregon and one in south Puget Sound, Washington, for $33.6 million and $80.4 million, respectively. In 2017, Fund IV paid deposits totaling $5.7 million for these acquisitions. The Partnership’s share of the combined purchase price was $17.0 million. The combined purchase price was allocated $100.7 million to timber and roads, and $13.3 million to the underlying land.

In January 2017, Fund II closed on the sale of one of its tree farms, located on the Oregon coast, for $26.5 million. The Partnership’s share of the pretax results from this tree farm was a gain of $2.5 million for the six months ended June 30, 2017.

9



The assets and liabilities of the Funds as of June 30, 2018, and December 31, 2017, were as follows:
 
(in thousands)
June 30, 2018

December 31, 2017
Assets:
Cash
$
3,320

 
$
1,636

Other current assets
8,595

 
2,481

Total current assets
11,915

 
4,117

Properties and equipment, net of accumulated depreciation
337,526

 
235,046

Other long-term assets
—

 
5,683

Total assets
$
349,441

 
$
244,846

Liabilities and equity:
 

 
 

Current liabilities
$
3,119

 
$
2,862

Long-term debt, net of unamortized debt issuance costs
57,302

 
57,291

Funds’ equity
289,020

 
184,693

Total liabilities and equity
$
349,441

 
$
244,846


6.
Other assets consisted of the following at June 30, 2018 and December 31, 2017:

 
June 30, 2018
 
December 31, 2017
 
 
 
 
Deferred tax assets, net
$
429

 
$
465

Cash held by like-kind exchange intermediaries
—

 
598

Deposits for acquisitions of timberland
—

 
5,688

Investment in Real Estate joint venture entity
6,142

 
5,895

Advances to Real Estate joint venture entity
506

 
37

Note receivable
1,801

 
2,625

Total
$
8,878

 
$
15,308


7.
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.

Beginning with the first quarter of 2018, we measure segment performance based on Adjusted EBITDDA in addition to operating income. We define Adjusted EBITDDA as earnings, on an internal basis, before interest, taxes, depletion, depreciation, amortization, gain or loss on sales of timberland, and environmental remediation expense. The following tables reconcile internally reported operating income (loss) from operations to Adjusted EBITDDA.

In addition, we have changed our internal reporting and our segment reporting to segregate our former “Fee Timber” segment into two segments: “Partnership Timber” includes the operating results of the Partnership’s 100%-owned timberland while “Funds Timber” includes the operating results of our three private equity timber funds. Our chief operating decision maker reviews internal financial reporting information at the Partnership Timber and Funds Timber level to allocate resources and evaluate the results of the business. Prior period segment disclosures have been revised to reflect our current segment structure.

10


Quarter ended June 30, (in thousands)
Partnership Timber
 
Funds Timber
 
Timberland Investment Management
 
Real Estate
 
Other
 
Consolidated
2018
 
 
 
 
 
 
 
 
 
 
 
Revenue - internal
$
5,693

 
$
17,917

 
$
1,140

 
$
4,542

 
$
—

 
$
29,292

Eliminations
(123
)
 
—

 
(1,140
)
 
(117
)
 
—

 
(1,380
)
Revenue - external
5,570

 
17,917

 
—

 
4,425

 
—

 
27,912

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(1,994
)
 
(11,870
)
 
—

 
(711
)
 
—

 
(14,575
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(1,837
)
 
(2,525
)
 
(1,055
)
 
(1,163
)
 
(1,428
)
 
(8,008
)
Eliminations
42

 
1,140

 
139

 
34

 
25

 
1,380

Operating, general and administrative expenses - external
(1,795
)
 
(1,385
)
 
(916
)
 
(1,129
)
 
(1,403
)
 
(6,628
)
Environmental remediation
—

 
—

 
—

 
(2,900
)
 
—

 
(2,900
)
 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
1,862

 
3,522

 
85

 
(232
)
 
(1,428
)
 
3,809

Eliminations
(81
)
 
1,140

 
(1,001
)
 
(83
)
 
25

 
—

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - external
$
1,781

 
$
4,662

 
$
(916
)
 
$
(315
)
 
$
(1,403
)
 
$
3,809

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
$
1,862

 
$
3,522

 
$
85

 
$
(232
)
 
$
(1,428
)
 
$
3,809

Depletion, depreciation, and amortization
511

 
8,947

 
17

 
68

 
11

 
9,554

Environmental remediation
—

 
—

 
—

 
2,900

 
—

 
2,900

Adjusted EBITDDA
$
2,373

 
$
12,469

 
$
102

 
$
2,736

 
$
(1,417
)
 
$
16,263

 
 
 
 
 
 
 
 
 
 
 
 
2017
 

 
 

 
 

 
 

 
 

 
 

Revenue - internal
$
8,253

 
$
7,273

 
$
817

 
$
549

 
$
—

 
$
16,892

Eliminations
(84
)
 
—

 
(817
)
 
(100
)
 
—

 
(1,001
)
Revenue - external
8,169

 
7,273

 
—

 
449

 
—

 
15,891

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(3,336
)
 
(5,190
)
 
—

 
(453
)
 
—

 
(8,979
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(1,466
)
 
(1,662
)
 
(852
)
 
(1,511
)
 
(1,429
)
 
(6,920
)
Eliminations
40

 
817

 
101

 
19

 
24

 
1,001

Operating, general and administrative expenses -external
(1,426
)
 
(845
)
 
(751
)
 
(1,492
)
 
(1,405
)
 
(5,919
)
 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
3,451

 
421

 
(35
)
 
(1,415
)
 
(1,429
)
 
993

Eliminations
(44
)
 
817

 
(716
)
 
(81
)
 
24

 
—

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - external
$
3,407

 
$
1,238

 
$
(751
)
 
$
(1,496
)
 
$
(1,405
)
 
$
993

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
$
3,451

 
$
421

 
$
(35
)
 
$
(1,415
)
 
$
(1,429
)
 
$
993

Depletion, depreciation, and amortization
942

 
2,655

 
8

 
70

 
13

 
3,688

Adjusted EBITDDA
$
4,393

 
$
3,076

 
$
(27
)
 
$
(1,345
)
 
$
(1,416
)
 
$
4,681



11


Six Months Ended June 30, (in thousands)
Partnership Timber
 
Funds Timber
 
Timberland Investment Management
 
Real Estate
 
Other
 
Consolidated
2018
 
 
 
 
 
 
 
 
 
 
 
Revenue - internal
$
20,940

 
$
27,458

 
$
2,164

 
$
4,985

 
$
—

 
$
55,547

Eliminations
(232
)
 
—

 
(2,164
)
 
(252
)
 
—

 
(2,648
)
Revenue - external
20,708

 
27,458

 
—

 
4,733

 
—

 
52,899

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(7,020
)
 
(18,822
)
 
—

 
(1,033
)
 
—

 
(26,875
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(3,347
)
 
(4,331
)
 
(2,131
)
 
(2,118
)
 
(3,079
)
 
(15,006
)
Eliminations
92

 
2,164

 
268

 
69

 
55

 
2,648

Operating, general and administrative expenses - external
(3,255
)
 
(2,167
)
 
(1,863
)
 
(2,049
)
 
(3,024
)
 
(12,358
)
Environmental remediation
 
 
 
 
—

 
(2,900
)
 
 
 
(2,900
)
 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
10,573

 
4,305

 
33

 
(1,066
)
 
(3,079
)
 
10,766

Eliminations
(140
)
 
2,164

 
(1,896
)
 
(183
)
 
55

 
—

Income (loss) from operations - external
$
10,433

 
$
6,469

 
$
(1,863
)
 
$
(1,249
)
 
$
(3,024
)
 
$
10,766

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
$
10,573

 
$
4,305

 
$
33

 
$
(1,066
)
 
$
(3,079
)
 
$
10,766

Depletion, depreciation, and amortization
1,836

 
12,369

 
27

 
136

 
25

 
14,393

Environmental remediation
—

 
—

 
—

 
2,900

 
—

 
2,900

Adjusted EBITDDA
$
12,409

 
$
16,674

 
$
60

 
$
1,970

 
$
(3,054
)
 
$
28,059

 
 
 
 
 
 
 
 
 
 
 
 
2017
 

 
 

 
 

 
 

 
 

 
 

Revenue - internal
$
17,444

 
$
14,979

 
$
1,665

 
$
1,216

 
$
—

 
$
35,304

Eliminations
(169
)
 
—

 
(1,665
)
 
(234
)
 
—

 
(2,068
)
Revenue - external
17,275

 
14,979

 
—

 
982

 
—

 
33,236

 
 
 
 
 
 
 
 
 
 
 
 
Cost of sales
(6,878
)
 
(12,283
)
 
—

 
(1,019
)
 
—

 
(20,180
)
 
 
 
 
 
 
 
 
 
 
 
 
Operating, general and administrative expenses - internal
(2,710
)
 
(3,435
)
 
(1,925
)
 
(2,716
)
 
(3,164
)
 
(13,950
)
Eliminations
97

 
1,665

 
208

 
40

 
58

 
2,068

Operating, general and administrative expenses - external
(2,613
)
 
(1,770
)
 
(1,717
)
 
(2,676
)
 
(3,106
)
 
(11,882
)
Gain on sale of timberland
—

 
12,503

 
—

 
—

 
—

 
12,503

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
7,856

 
11,764

 
(260
)
 
(2,519
)
 
(3,164
)
 
13,677

Eliminations
(72
)
 
1,665

 
(1,457
)
 
(194
)
 
58

 
—

Income (loss) from operations - external
$
7,784

 
$
13,429

 
$
(1,717
)
 
$
(2,713
)
 
$
(3,106
)
 
$
13,677

 
 
 
 
 
 
 
 
 
 
 
 
Income (loss) from operations - internal
$
7,856

 
$
11,764

 
$
(260
)
 
$
(2,519
)
 
$
(3,164
)
 
$
13,677

Depletion, depreciation, and amortization
1,964

 
6,556

 
16

 
143

 
27

 
8,706

(Gain) loss on sale of timberland
—

 
(12,503
)
 
—

 
—

 
—

 
(12,503
)
Adjusted EBITDDA
$
9,820

 
$
5,817

 
$
(244
)
 
$
(2,376
)
 
$
(3,137
)
 
$
9,880


12



8.
Basic and diluted earnings per unit are calculated by dividing net income 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 earnings per unit:

 
Quarter Ended 
 June 30,
 
Six Months Ended 
 June 30,
(in thousands, except per unit amounts)
2018
 
2017
 
2018
 
2017
Net and comprehensive income attributable to Pope Resources’ unitholders
$
199

 
$
158

 
$
5,917

 
$
3,528

Less:
 

 
 

 
 

 
 

Non-forfeitable distributions paid to unvested restricted unitholders
(27
)
 
(25
)
 
(53
)
 
(56
)
Preferred share dividends - ORM Timber Funds
(8
)
 
(8
)
 
(16
)
 
(16
)
Net and comprehensive income for calculation of earnings per unit
$
164

 
$
125

 
$
5,848

 
$
3,456

 
 
 
 
 
 
 
 
Basic and diluted weighted average units outstanding
4,320

 
4,327

 
4,320

 
4,326

 
 
 
 
 
 
 
 
Basic and diluted net earnings per unit
$
0.04

 
$
0.03

 
$
1.35

 
$
0.80


9.
In the first quarter of 2018, the Partnership issued 11,393 restricted units pursuant to the management incentive compensation program and 3,575 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, 2018, 801 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. The Partnership recognized $199,000 and $180,000 of equity compensation expense in the second quarter of 2018 and 2017, respectively, related to these compensation programs and $722,000 and $784,000 for the six months ended June 30, 2018 and 2017, respectively.

10.
Supplemental disclosure of cash flow information: interest paid, net of amounts capitalized, totaled $2.0 million and $1.9 million during the first six months of 2018 and 2017, respectively. Income taxes paid totaled $564,000 and $24,000 for the first six months of 2018 and 2017, respectively.

11.
During the first half of 2018, the Partnership closed on six acquisitions of timberland in western Washington totaling 1,342 acres for $7.2 million. The Partnership utilized $598,000 of funds held by like-kind exchange intermediaries to fund a portion of these acquisitions. The aggregate purchase price was allocated $869,000 to land and $6.3 million to timber and roads. Part of the consideration paid for one of these transactions involved the conveyance by the Partnership of 365 acres of non-strategic timberland to the seller, valued at $214,000, with the remainder paid in cash.

12.
The Partnership’s financial instruments include cash, accounts receivable, and a note receivable, included in other assets, for which the carrying amount of each represents fair value based on current market interest rates or their short-term nature.

Collectively, the Partnership’s and the Funds’ fixed-rate debt has a carrying value of $101.6 million as of June 30, 2018 and December 31, 2017. 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 $102.0 million and $104.6 million as of June 30, 2018 and December 31, 2017, respectively.

13.
The Partnership had an accrual for estimated environmental remediation costs of $7.0 million and $5.0 million as of June 30, 2018 and December 31, 2017, respectively. The environmental remediation liability represents management’s estimate of payments to be made to remediate and monitor certain areas in and around Port Gamble Bay, Washington.

In December 2013, a consent decree and Clean-up Action Plan (CAP) related to Port Gamble Bay were finalized with the Washington State Department of Ecology (DOE) and filed with Kitsap County Superior Court. In the third quarter of 2015,

13


the Partnership selected a contractor to complete the remediation work. Remediation activity began in late September 2015. The required in-water portion of the cleanup was completed in January 2017. This will be followed by cleanup activity on the millsite and by a monitoring period, which is estimated to be approximately 15 years. Management’s cost estimates for the remainder of the project are based on amounts included in construction contracts, bids from contractors, and estimates for project management and other professional fees.

In February 2018, the Partnership and DOE entered into an agreed order with respect to the millsite under which the Partnership will perform a remedial investigation and feasibility study and develop a CAP. As with the in-water portion of the project, the CAP will define the scope of the remediation activity for the millsite. Management expects the design of the millsite cleanup to be substantially completed by approximately the end of 2018. Based on design work completed to date, it appears that a greater volume of sediment will need to be removed from the millsite than was previously anticipated. As a result of this, as well as updated estimates of long-term monitoring costs, the Partnership increased its accrual by $2.9 million in the second quarter of 2018. Because the design of the millsite cleanup is not yet finalized, it is reasonably possible that the accrual for the millsite component of the liability may still increase. The bulk of the millsite cleanup activity is expected to occur in 2019.

Certain environmental laws allow state, federal, and tribal trustees (collectively, the Trustees) to bring suit against property owners to recover damages for injuries to natural resources. Like the liability that attaches to current property owners in the cleanup context, liability for natural resource damages (NRD) can attach to a property owner simply because an injury to natural resources resulted from releases of hazardous substances on that owner’s property, regardless of culpability for the release. In the case of Port Gamble, the Trustees are alleging that the Partnership has NRD liability because of releases that occurred on its property. The Partnership has been in discussions with the Trustees regarding their claims and the alleged conditions in Port Gamble Bay, and has also been discussing restoration alternatives that might address the damages the Trustees allege. Discussions with the Trustees may result in an obligation for the Partnership to fund NRD restoration activities and past assessment costs that are greater than it has estimated, and it is reasonably possible that this component of the liability may increase beyond what has been accrued in the liability. Management expects to update its estimate of the NRD liability, or range of liability, during the next twelve months.

The environmental liability at June 30, 2018 is comprised of $2.4 million that management expects to expend in the next 12 months and $4.6 million thereafter.

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, 2016
16,761

 
7,700

 
(11,691
)
 
12,770

Year ended December 31, 2017
12,770

 
—

 
(7,791
)
 
4,979

Quarter ended March 31, 2018
$
4,979

 
$
—

 
$
(219
)
 
$
4,760

Quarter ended June 30, 2018
$
4,760

 
$
2,900

 
$
(666
)
 
$
6,994



14


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. Some of 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 four primary businesses: Partnership Timber, Funds Timber, Timberland Investment Management, and Real Estate.

By far the most significant segments, in terms of owned assets and operations, are our two timber segments, which we refer to as Partnership Timber and Funds Timber. These segments include timberlands owned directly by the Partnership and three private equity funds (“Fund II”, “Fund III” and “Fund IV”, collectively, the “Funds”), respectively. We refer to the timberland owned by the Partnership as the Partnership’s tree farms, and our Partnership Timber segment reflects operations from those properties. We refer to timberland owned by the Funds as the Funds’ tree farms, and operations from those properties are reported in our Funds Timber segment. When referring collectively to the Partnership’s and Funds’ timberland, we refer to them as the Combined tree farms. Operations in each of these segments consist of growing timber and manufacturing logs for sale to domestic wood products manufacturers and log export brokers.

Our Timberland Investment Management segment is engaged in organizing and managing private equity timber funds using capital invested by third parties and the Partnership. The Funds are consolidated into our financial statements, but then income or loss attributable to equity owned by third parties is subtracted from consolidated results in our Condensed Consolidated Statements of Comprehensive Income under the caption “Net and comprehensive (income) loss attributable to non-controlling interests-ORM Timber Funds” to arrive at “Net and comprehensive income attributable to unitholders”.

Our current strategy for adding timberland acreage is centered primarily on our private equity timber fund business model. However, we 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. Our three active timber funds have assets under management totaling approximately $490 million as of June 30, 2018 based on the most recent appraisals. Through our 20% co-investment in Fund II, our 5% co-investment in Fund III, and our 15% co-investment in Fund IV, we have deployed $43 million of Partnership capital. Fund IV, launched in December 2016, is still in its investment period and has not yet drawn or deployed all of its committed 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.

Our Real Estate segment’s activities primarily include securing permits and entitlements, and in some cases, installing infrastructure for raw land development and then realizing that land’s value by selling larger parcels to developers who, in turn, seek to take the land further up the value chain by either selling homes to retail buyers or lots to developers of commercial

15


property. More recently, we have acquired and developed other real estate properties (not owned by the Partnership), either on our own or by partnering with another developer in a joint venture. Since these projects often 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 Partnership Timber properties which preclude future development, but allow continued forestry operations. The strategy for our Real Estate segment centers around how and when to “harvest” or sell a parcel of land to realize its optimal value. In doing so, we seek to balance 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 and timber held for sale includes those properties in the development portfolio that we expect to sell in the next 12 months.

Outlook

We expect our 2018 harvest volume will be approximately 67 million board feet (MMBF) for the Partnership, and approximately 82 MMBF for the Funds, including timber deed sales. The 67 MMBF for the Partnership includes 15 MMBF of volume from timber located on Real Estate properties and recent small-tract acquisitions that is not factored into our long-term, sustainable harvest plan of 52 MMBF. On a look-through basis, defined as the Partnership plus its portion of the Funds based on its ownership interest in each Fund, 2018 harvest volume is expected to be 77 MMBF including timber deed sales. We will continue to monitor log markets and adjust our harvest levels accordingly as the year progresses.

The Puget Sound housing market remains strong, and we anticipate closing on additional residential lots from our Harbor Hill project in the fourth quarter, as well as potential sales from other projects in Kitsap County.

Timber - Overall
 
Operations. Timber results include operations on 120,000 acres of timberland owned by the Partnership in western Washington, and 124,000 acres of timberland owned by the Funds in western Washington, northwestern Oregon, southwestern Oregon, and northern California. Timber revenue is earned primarily from the harvest and sale of logs from these timberlands, and is driven primarily by the volume of timber harvested and the average log price realized on the sale of that timber. Our harvest volume typically represents delivered log sales to domestic mills and log export brokers. We also occasionally sell rights to harvest timber (timber deed sales) from the Combined tree farms. The metrics used to calculate volumes sold and average price realized during the reporting periods exclude 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).

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. The ultimate decision of whether to sell our logs to the domestic or export 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.

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 in the tables that follow. Commercial thinning consists of the selective cutting of timber stands not yet of optimal harvest age. The smaller diameter logs harvested in these operations do, however, 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.

Log Prices. During Q2 2018, log prices declined slightly from prices realized during Q1 2018, but were well above the prices realized during Q2 2017. On a Combined basis, Q2 2018 realized log prices versus Q1 2018 for Douglas-fir sawlogs were down 4% and for whitewood sawlogs were up 2%. Q2 2018 realized log prices versus Q2 2017 for Douglas-fir sawlogs were up 19% and for whitewood sawlogs were up 13%. West Coast softwood lumber production during Q2 2018 was slightly below that of Q1 2018 and in line with that of Q2 2017. West Coast softwood log exports in Q2 2018 were 18% above exports during Q1 2018 and 2% above Q2 2017.

Year-to-date 2018 realized log prices increased 23% from the same period of 2017. On a Combined basis, YTD 2018 realized log prices versus YTD 2017 for Douglas-fir sawlogs were up 26% and for whitewood sawlogs were up 19%. West Coast softwood lumber production during the first six months of 2018 increased 4% relative to the same period a year ago, while West Coast softwood log exports decreased 9%.

16



Partnership Timber

Partnership Timber operating results for the quarters ended June 30, 2018, March 31, 2018, and June 30, 2017, and the six months ended June 30, 2018, and June 30, 2017, were as follows:
 
 
 
 
 
 
 
Six Months Ended
 
Q2 2018
 
Q1 2018
 
Q2 2017
 
Jun-18
 
Jun-17
Partnership
 
 
 
 
 
 
 
 
 
Overall log price per MBF
$
726

 
$
779

 
$
616

 
$
765

 
$
615

Total volume (in MMBF)
6.9

 
18.8

 
12.5

 
25.7

 
26.6

 
 
 
 
 
 
 
 
 
 
(in thousands)
 
 
 
 
 
 
 
 
 
Log sale revenue
$
5,039

 
$
14,635

 
$
7,710

 
$
19,674

 
$
16,387

Other revenue
531

 
503

 
459

 
1,034

 
888

Total revenue
5,570

 
15,138

 
8,169

 
20,708

 
17,275

Cost of sales
(1,994
)
 
(5,026
)
 
(3,336
)
 
(7,020
)
 
(6,878
)
Operating expenses
(1,795
)
 
(1,460
)
 
(1,426
)
 
(3,255
)
 
(2,613
)
Operating income
$
1,781

 
$
8,652

 
$
3,407

 
$
10,433

 
$
7,784


Operating Income
 
Comparing Q2 2018 to Q1 2018.  Operating income decreased $6.9 million, or 78%, from Q1 2018. An average realized log price decrease of 7%, coupled with a 63% decrease in delivered log volume, resulted in a 66% decrease in log sale revenue. The decrease in delivered log volume during the second quarter reflects the decision to pull a significant amount of volume ahead into Q1 2018, when log prices were stronger than Q2 2018. A 23% increase in operating expenses was more than offset by a 60% decrease in cost of sales from the lower harvest volume.
 
Comparing Q2 2018 to Q2 2017.  Operating income decreased $1.6 million, or 48%, from Q2 2017, driven by a 45% decrease in delivered log volume, which was partially offset by an 18% rise in average realized log prices.

Comparing YTD 2018 to YTD 2017. Operating income increased $2.6 million, or 34% for the first six months of 2018 from the first six months of 2017.

Revenue
 
Comparing Q2 2018 to Q1 2018.  Log sale revenue in Q2 2018 decreased $9.6 million, or 66%, from Q1 2018 due to a 63% decrease in delivered log volume and a 7% decline in average realized log prices.

Comparing Q2 2018 to Q2 2017.  Log sale revenue in Q2 2018 decreased $2.7 million, or 35%, from Q2 2017, due to a 45% decrease in harvest volume, which was partially offset by an 18% rise in average realized log prices. Other revenue increased by $72,000.

Comparing YTD 2018 to YTD 2017. Log sale revenue in the first six months of 2018 increased by $3.3 million, or 20%, from the first six months of 2017.

 Log Prices

Partnership Timber log prices for the quarters ended June 30, 2018, March 31, 2018, and June 30, 2017, and six months ended June 30, 2018, and 2017, were as follows:


17


Average price realizations (per MBF)
 
 
 
 
 
 
Six Months Ended
 
Q2 2018
 
Q1 2018
 
Q2 2017
 
Jun-18
 
Jun-17
Partnership
 
 
 
 
 
 
 
 
 
Douglas-fir domestic
$
812

 
$
850

 
$
674

 
$
841

 
$
660

Douglas-fir export
843

 
922

 
723

 
896

 
696

Whitewood domestic
529

 
549

 
474

 
542

 
462

Whitewood export
714

 
764

 
686

 
742

 
653

Cedar
1,373

 
1,458

 
1,513

 
1,422

 
1,423

Hardwood
721

 
708

 
687

 
713

 
661

Pulpwood
351

 
375

 
307

 
367

 
298

Overall log price
726

 
779

 
616

 
765

 
615


Comparing Q2 2018 to Q1 2018. Overall realized log prices in Q2 2018 were 7% lower than Q1 2018. Our overall average realized log price is influenced heavily by price movements for our two most prevalent species, Douglas-fir and whitewood, and the relative harvest volume mix of those two species. Realized sawlog prices decreased by 5% in Q2 2018 versus Q1 2018 for Douglas-fir and by 6% for whitewood. Prices for both species are above historic averages and reflect the continued strong demand in both the domestic and export markets during the quarter.

Comparing Q2 2018 to Q2 2017. From Q2 2017 to Q2 2018, average realized log prices increased 18%. The favorable change was attributable to an increase in lumber production which when combined with a strong export market resulted in price strength for both of our primary species with increases in Douglas-fir and whitewood log prices of 19% and 10%, respectively. Relative to Q2 2017, prices for cedar were down 9%, while hardwood sawlogs and all pulpwood species showed increases of 5% and 14%, respectively.

Comparing YTD 2018 to YTD 2017. Average realized log prices increased by 24% for all our species groups during the first six months of 2018, relative to the same period in 2017. Douglas-fir and whitewood realized log prices increased 27% and 19%, respectively. Prices increased for other species groups include: pine (21%), cedar (3%), hardwood (8%) and pulpwood (23%).

Log Volume

The Partnership harvested the following log volumes by species for the quarters ended June 30, 2018, March 31, 2018, and June 30, 2017, and the six months ended June 30, 2018, and 2017, were as follows:

Volume (in MMBF)
 
 
 
 
 
 
 
 
 
Six Months Ended
 
Q2 2018
 
Q1 2018
 
Q2 2017
 
Jun-18
 
Jun-17
Partnership
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Douglas-fir domestic
3.5

51
%
 
12.2

64
%
 
6.0

49
%
 
15.7

61
%
 
12.7

49
%
Douglas-fir export
0.8

12
%
 
1.8

10
%
 
1.9

15
%
 
2.6

10

 
4.9

18

Whitewood domestic
0.2

3
%
 
0.3

2
%
 
0.4

3
%
 
0.5

2

 
0.9

3

Whitewood export
0.3

4
%
 
0.5

3
%
 
0.4

3
%
 
0.8

3

 
0.9

3

Cedar
0.3

4
%
 
0.4

2
%
 
0.3

2
%
 
0.6

2

 
0.9

3

Hardwood
0.4

6
%
 
0.6

3
%
 
0.8

6
%
 
1.0

4

 
1.1

4

Pulpwood
1.4

20
%
 
3.0

16
%
 
2.7

22
%
 
4.5

18

 
5.2

20

Log sale volume
6.9

100
%
 
18.8

100
%
 
12.5

100
%
 
25.7

100
%
 
26.6

100
%
Timber deed sale volume
—

 
 
—

 
 
—

 
 
—

 
 
—

 
Total volume
6.9

 
 
18.8

 
 
12.5

 
 
25.7

 
 
26.6

 

Comparing Q2 2018 to Q1 2018. Harvest volume decreased 11.9 MMBF, or 63%, in Q2 2018 from Q1 2018. The decrease reflects our decision to pull planned harvest volume from Q2 into Q1 when log prices were stronger. Product mix was relatively consistent between the two comparable quarters, with the exception of a 15% decrease in the relative share of

18


domestic Douglas-fir, which reflects the decision to pull volume forward into Q1 as that sort received a strong premium from domestic mills as they scrambled to increase production to meet demand from the domestic softwood lumber market.

 Comparing Q2 2018 to Q2 2017. Harvest volume decreased 5.6 MMBF, or 45%, in Q2 2018 from Q2 2017. While volume was pulled forward from Q2 2018 to Q1 2018, our planned harvest volume in 2017 followed a more consistent quarterly pattern. Product mix was relatively consistent between the two comparable quarters.

Comparing YTD 2018 to YTD 2017. Relative to the first six months of 2017, YTD 2018 harvest volume decreased by 0.9 MMBF, or 3%. Product mix was relatively consistent between the two periods, with the exception of an 8% decrease in the Douglas-fir export sort and a 13% increase in the Douglas-fir domestic sort, which is indicative of the strengthening domestic market relative to the export market.

Cost of Sales
 
Cost of sales varies with harvest volume, and for the quarters ended June 30, 2018, March 31, 2018, and June 30, 2017, and the six months ended June 30, 2018, and 2017, was as follows, with the first part of the table expressing these costs in total dollars and the second part of the table expressing those costs that are driven by volume on a per MBF basis:

(in thousands)
 
 
 
 
 
 
Six Months Ended
 
Q2 2018
 
Q1 2018
 
Q2 2017
 
Jun-18
 
Jun-17
Partnership
 
 
 
 
 
 
 
 
 
Harvest, haul, and tax
$
1,513

 
$
3,728

 
$
2,428

 
$
5,241

 
$
4,948

Depletion
478

 
1,295

 
908

 
1,773

 
1,930

Other
3

 
3

 
—

 
6

 
—

Total cost of sales
$
1,994

 
$
5,026

 
$
3,336

 
$
7,020

 
$
6,878

 
 
 
 
 
 
 
 
 
 
Amounts per MBF *
 
 
 
 
 
 
 
 
 
Harvest, haul, and tax
$
219

 
$
198

 
$
194

 
$
204

 
$
186

Depletion
$
69

 
$
69

 
$
73

 
$
69

 
$
73

 *
Timber deed sale volumes are excluded in the per MBF computation for harvest, haul and tax costs but included in the per MBF computation for depletion.
 
Comparing Q2 2018 to Q1 2018. Cost of sales decreased $3.0 million, or 60%, in Q2 2018 from Q1 2018 due to a 63% decrease in harvest volume. On a per-MBF basis, the harvest, haul and tax rate increased by 10% due to higher relative cost of the units harvested in the current quarter. Higher cost units are typically harvested as the winter weather wanes, allowing access to higher elevation and more expensive portions of our tree farms.
 
Comparing Q2 2018 to Q2 2017. Cost of sales decreased $1.3 million, or 40%, in Q2 2018 from Q2 2017 due to a 45% decrease in harvest volume. On a per-MBF basis, the harvest, haul and tax rate increased by 13%, while the per-MBF depletion rate decreased by 5%. Harvest and haul costs are up in the current quarter due to higher relative cost of the units harvested in the current quarter.
Comparing YTD 2018 to YTD 2017. Year-to-date 2018 cost of sales increased $142,000, or 2%, relative to the same period in 2017 due to a 10% increase in the per-MBF harvest, haul and tax rate, which was partially offset by a 5% decrease in the per-MBF depletion rate and a 3% decline in harvest volume.

Operating Expenses
 
Operating expenses include the cost of maintaining existing roads and building temporary roads for harvesting, silviculture costs, and other management expenses. For the quarters ended June 30, 2018, March 31, 2018, and June 30, 2017, segment operating expenses were $1.8 million, $1.5 million, and $1.4 million, respectively. The $335,000 increase in operating expenses in Q2 2018 from Q1 2018 is attributable to higher management, silviculture and road maintenance expenses. Operating expenses increased by $370,000 from Q2 2017 to Q2 2018 due to higher road maintenance and management expenses, which were partially offset by lower silviculture expenses.


19


Funds Timber

Funds Timber operating results for quarters ended June 30, 2018, March 31, 2018, and June 30, 2017, and six months ended June 30, 2018, and 2017, were as follows:

 
 
 
 
 
 
 
Six Months Ended
 
Q2 2018
 
Q1 2018
 
Q2 2017
 
Jun-18
 
Jun-17
Funds
 
 
 
 
 
 
 
 
 
Overall log price per MBF
$
707

 
$
698

 
$
617

 
$
718

 
$
594

Total volume (MMBF)
28.6

 
13.1

 
12.8

 
41.7

 
26.4

 
 
 
 
 
 
 
 
 
 
(in thousands)
 
 
 
 
 
 
 
 
 
Log sale revenue
$
8,494

 
$
9,509

 
$
6,630

 
$
18,003

 
$
14,232

Other revenue
9,423

 
32

 
643

 
9,455

 
747

Total revenue
17,917

 
9,541

 
7,273

 
27,458

 
14,979

Cost of sales
(11,870
)
 
(6,952
)
 
(5,190
)
 
(18,822
)
 
(12,283
)
Operating expenses - internal
(2,525
)
 
(1,806
)
 
(1,662
)
 
(4,331
)
 
(3,435
)
Gain on sale of timberland
—

 
—

 
—

 
—

 
12,503

Operating income - internal
3,522

 
783

 
421

 
$
4,305