POULSBO, Wash. - Pope Resources (NASDAQ: POPE) reported net income of $436,000, on revenue of $12.7 million for the quarter ended June 30, 2016.  This compares to net income attributable to unitholders of $289,000 on revenue of $13.9 million for the comparable period in 2015.
Cash used in operations for the quarter ended June 30, 2016, was $2.3 million, compared to cash provided by operations of $3.1 million for the second quarter of 2015.  For the six months ended June 30, 2016, cash used in operations was $4.3 million, compared to cash provided by operations of $12.2 million in 2015. 
"Our overall average log price realizations over the last several quarters have been fairly narrowly range-bound," said Tom Ringo, President and CEO,  "with quarter-to-quarter variability in results for that business largely being a function of harvest volume fluctuations. More notably, in the second quarter of 2016 we invested $4.8 million of operating cash flow in our Harbor Hill residential project as we make preparations for the sale of a significant number of those lots later this year."
"Subsequent to the end of the second quarter, we closed on the acquisition of 7,324 acres of highly productive, well-stocked timberlands in Pierce County, Washington for $31.9 million. This acquisition, which was 100% debt-financed, will increase the annual sustainable harvest on Partnership-only holdings by 8%, from 48 to 52 million board feet (MMBF). We expect the acquisition to provide net cash in excess of debt service of approximately $900,000 over the remainder of the year and to continue to be cash-accretive over the near-term. With the recent conclusion of Fund III's drawdown period and the initial close of Fund IV not expected until later this year, the Partnership was in a unique position to acquire its first significant timberland holding in a number of years."

Harvest volume was 20.9 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 ORM Timber 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 $562per 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 Partnership acquired 287 acres of timberland during Q2 2016 for $1.1 million.

Second quarter and year-to-date operating results

Fee Timber:
Fee Timber operating income for Q2 2016 was $3.0 million, compared to $1.6 million for Q2 2015. In the current quarter, a 38% increase in harvest volume was primarily responsible for the increase in operating income as log prices declined only slightly.
Fee Timber operating income for the first six months of 2016 was $5.5 million compared to $6.5 million in 2015. Year-to-date declines from 2015 to 2016 in both harvest volume and average realized log prices (8% and 3%, respectively) were the major factors contributing to the lower segment operating income in 2016, along with a decrease in timber deed sales.
Driven by a strong U.S. dollar and expiration of the Softwood Lumber Agreement last October, British Columbia exports of softwood lumber to the U.S. in 2016 have increased 36% compared to 2015. This influx of Canadian lumber has kept lumber prices, and in turn, log prices in check relative to last year.
Timberland Management:
Operating losses incurred by this segment for Q2 2016 and Q2 2015 totaled $603,000 and $785,000, respectively, after eliminating revenue earned from managing the Funds of $788,000 and $767,000 of management fee revenue for Q2 2016 and Q2 2015, respectively.
Operating losses incurred by this segment for first six months of 2016 and 2015 totaled $1.3 million and$1.5 million, respectively, after eliminating management fees earned from the Funds of $1.6 million for each of the first six months of 2016 and 2015.
Real Estate:
Our Real Estate segment posted an operating loss of $1.2 million for Q2 2016 compared to operating income of $575,000 for Q2 2015.  There were no land sales in the second quarter of 2016, whereas in Q2 2015 we closed on the sale of 33 residential lots from our Harbor Hill development for $3.3 million and a 175-acre conservation land sale for $920,000. 
For the first six months of 2016, the Real Estate segment reported an operating loss of $2.2 million, having sold only nine single-family residential lots from our Harbor Hill development.  This compares to 2015 operating income of $5.7 million in 2015, driven primarily by the sale of 75 residential lots from Harbor Hill for $9.0 million and on conservation land and easement sales covering 3,861 acres for $6.0 million.
General & Administrative (G&A):
G&A expenses for Q2 2016 and 2015 were $1.1 million and $1.2 million, respectively.  For the first six months of 2016 and 2015, G&A expenses were $2.7 million and $2.4 million, respectively.  The increase in 2016 is due primarily to being fully staffed relative to the prior year.

Timberland acquisition

On July 22, 2016, we closed on a 7,324-acre timberland acquisition from a client of Hancock Timber Resource Group consisting of 6,746 owned acres and a timber deed on 578 acres that expires in 2051. The acquisition contains 17.6 MMBF of merchantable inventory, including 3.4 MMBF from acres in the timber deed. The merchantable inventory is comprised of 55% Douglas-fir and 34% whitewoods, with the remainder spread across western red cedar, red alder, and other hardwood species.
The acquisition brings total Partnership timberland to 119,000 acres, a 7% increase, with all these acres located in Washington. The acquisition also represents a 6% increase in the Partnership's merchantable volume, boosting the total to 316 MMBF.

New financing

The timberland acquisition was financed with a new $32.0 million credit facility issued under our existing master loan agreement with Northwest Farm Credit Services (NWFCS) consisting of multiple balloon maturities: $10 million in 2023, $11.0 million in 2026, and $11.0 million in 2028. The first maturity is variable-rate debt while the latter two are fixed-rate.  The three tranches carry a weighted average interest rate of 2.79%, net of patronage. The debt covenants of the master loan agreement were adjusted as well to provide more operating flexibility.
The Partnership has also entered into a second new credit facility issued under the master loan agreement with NWFCS to borrow up to $21.0 million. We expect to borrow $11.0 million on this facility in August to pay down the Partnership's operating line of credit (LOC) so that the LOC's full capacity is available to fund either Real Estate lot development, Port Gamble environmental remediation expenditures, or other liquidity needs. The Partnership's operating line of credit balance was $9.3 millionon June 30, 2016. The $11.0 million tranche will be priced at LIBOR plus a spread of 104 basis points, net of patronage, and matures in 2027. The remaining $10.0 million portion of the facility remains available through March 31, 2017 and will be used to provide additional liquidity, if needed.
Taking into account the aforementioned borrowings, our interest coverage ratio is greater than 5 to 1 on a pro-forma basis using 2015 results and layering in these new debt facilities.  This level is consistent with that of 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 this timberland asset class.
Depending on log markets, we expect our total 2016 harvest volume to be between 88 and 93 MMBF, including volume from the new timberland acquisition. 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.

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