Interfor
Annual Report 2014

Plain-text annual report

2014 Annual Report CONTENTS Financial Highlights 2014 Message to Shareholders Management’s Discussion and Analysis dated February 12, 2015 Consolidated Financial Statements Annual Information Form dated February 12, 2015 pg 3 4 8 28 79 3 FINANCIAL HIGHLIGHTS (in millions of dollars, except share and per share amounts) 2014 2013 Financial Summary Sales Adjusted EBITDA (1) Net earnings Per Share Data Net earnings per common share - basic and diluted Price range per share High Low Net book value per share Operating cash flow per share before working capital change Weighted average shares outstanding (millions) Financial Position Total assets Total debt Total shareholders’ equity Invested capital (1) Financial Ratios (%) Net debt as a % of invested capital, adjusted (1) Pre-tax return on total assets (1) Notes: (1) See Glossary for definition. 1,447.2 169.3 40.7 0.62 22.15 13.02 9.54 2.17 66.0 1,068.5 220.4 636.5 839.0 24.1% 6.4% 1,105.2 134.0 42.2 0.73 13.92 7.82 8.17 2.14 57.7 824.1 145.5 515.1 655.9 21.5% 7.3% “2014 was an outstanding year for Interfor. Significant progress was made on our growth agenda and a number of important milestones were set as the year progressed.” Message to Shareholders – February 2015 For further highlights, please see the 2014 Message to Shareholders and Management’s Discussion and Analysis on the following pages. Message to Shareholders ____________________ Overview 2014 MESSAGE TO SHAREHOLDERS 4 2014 was an outstanding year for Interfor. Significant progress was made on our growth agenda and a number of important milestones were set as the year progressed. Highlights for the year included: • Production exceeded 2 billion board feet for the first time in the Company’s history; • Sales revenue exceeded $1.4 billion; • We acquired and integrated Tolleson Lumber Company adding more than 345 million board feet of capacity to our U.S. Southeast platform. The new mills made a significant contribution to our results during the year; • New continuous dry kilns were successfully installed at our mills at Baxley and Thomaston, Georgia; • A $50 million capital project to upgrade our Castlegar mill was announced; • US$50 million in fixed-rate, long-term debt was placed at a very attractive rate; and • Agreement was reached with Simpson Lumber Company to acquire four mills (two in the U.S. Southeast and two in the U.S. Northwest) in a transaction that will close in early 2015. Most important, our share price increased by 63% over the course of the year (following a 68% increase in 2013) as investors responded positively to the steps being taken to position the Company for long-term success. Once the Simpson acquisition closes in March, Interfor will be firmly established as the 4th largest lumber producer in the world. But being big isn’t enough. Our goal is to become the world’s most profitable, valuable and respected lumber company. With the steps taken and results delivered in recent years, we are well on our way to achieving our goal. I invite you to review the material covered in the next few pages and later in this report and to form your own views on our progress. Please feel free to forward any comments or questions you might have to me directly at duncan.davies@interfor.com. Record Production and Sales Volumes Contribute to Strong Results Interfor continued to ramp up production and sales activity in 2014. For the year, lumber production was up 29% to 2.22 billion board feet from 1.73 billion board feet, with the Company’s operations in Canada accounting for 42% of production and our mills in the U.S. accounting for the balance. It was the first time in the Company’s history that production exceeded the 2 billion board foot benchmark. Sales volumes, including agency and wholesale activities, were up from 1.76 billion board feet to 2.28 billion board feet last year. Unlike recent years, product prices were relatively stable in 2014. For the year, the Random Lengths Composite Index, which measures pricing levels for a basket of products, came in at US$383 versus US$384 in 2013. In financial terms, the benefits of higher production and sales volumes had a positive impact on our results in 2014. Message to Shareholders ____________________ 5 Sales revenue was a record $1.45 billion last year compared with $1.11 billion in 2013 while net earnings were $40.7 million versus $42.2 million in 2013 in spite of a $23 million pre-tax restructuring provision taken on the closure of our Beaver sawmill in Washington State and a $23.9 million share-based compensation charge resulting from the increase in our share price over the course of the year. EBITDA1, reported before one-time items and share-based compensation expenses, hit an all-time high of $169.3 million versus $134.0 million a year earlier. Strategic Initiatives Building Value Interfor has invested actively in recent years to enhance the Company’s strategic position and to improve profitability, and 2014 was no exception. In March we completed the acquisition of Tolleson Lumber Company (“Tolleson”) of Perry, Georgia from Ilim Timber Continental, SA for US$189.5 million. The Tolleson acquisition added 345 million board feet to our platform in the U.S. Southeast and opened the door to a number of system-related synergies with our existing operations in the region. Good progress has been made on the integration of the Tolleson mills into our operations and more gains are expected in the years to come. The Tolleson mills on their own are solid performers and made a strong contribution to our results during the year. We also installed new continuous kilns at our mills at Baxley and Thomaston, Georgia, enabling higher operating rates at those mills. The new kilns significantly improve drying quality as well as increasing throughput, enabling higher grade outturns, and lower operating costs. We are looking at similar installations at a number of our other mills. In November, we announced a $50 million capital upgrade to our mill at Castlegar in the B.C. Interior. The Castlegar mill was acquired in 2008 and is located within one of the finest timber baskets in our Company. The project will convert the mill from a 3-line operation to a 2-line facility utilizing state-of-the-art technology similar to that employed at our mills at Adams Lake, Grand Forks and Port Angeles. The project will improve lumber recovery, productivity and grade outturns, lower conversion costs and eliminate approximately $20 million in non-return maintenance spending that would otherwise have been required over the next few years. The project is scheduled for completion in the 4th quarter of 2015, with full operating performance expected in early 2016. Finally, in December, we announced the acquisition of Simpson Lumber Company, LLC’s (“Simpson”) sawmilling operations in the U.S. Southeast and U.S. Northwest for a purchase price of US$94.7 million plus working capital and a series of contingent payments tied to the performance of one of the acquired mills over the next three years. 1 Refer to definition of Adjusted EBITDA in the Glossary. Message to Shareholders ____________________ 6 The Simpson mills will add to our platforms in the U.S. Southeast and U.S. Northwest and, like the Tolleson acquisition, will enable a number of system-related synergies between our legacy operations in those areas and the newly-acquired mills. With the addition of the Simpson mills, Interfor’s total production capacity will increase by another 31% to 3.1 billion board feet, solidifying our position as the fastest growing lumber company in the world. The Simpson transaction is scheduled to close March 1st. Balance Sheet is Strong Managing the risks associated with the Company’s balance sheet is a hallmark of Interfor’s management philosophy and steps were taken during the year to ensure appropriate financing was in place to support our growth agenda and investing activity. The Tolleson transaction was financed in part through an equity takeback by the vendor of 3.68 million Interfor shares. And, in early 2015, following the announcement of the Simpson acquisition, we agreed to a bought deal public offering with a group of Canadian underwriters totaling 3.3 million shares, raising an additional $63.7 million, net of the underwriters’ commission. The equity issues were supplemented with two fixed-rate debt issues: a US$50 million issue of 7 year senior secured notes at a fixed rate of 4.02% was completed in December, and a US$100 million issue of 10 year senior secured notes at a fixed rate of 4.17% was announced shortly after year-end in support of the Simpson transaction. At year-end, Interfor had net debt outstanding of $202.6 million compared with $140.8 million at the end of 2013, representing a ratio of net debt to invested capital of 24.1% versus 21.5% a year earlier. Share Structure Simplified; New Name Adopted At the AGM in May, Interfor’s shareholders voted to simplify the Company’s share structure, eliminating the Company’s Class B Common Shares, known as the Multiple Voting Shares, and redesignating the Class A Subordinated Voting Shares as Common Shares. The resulting one share structure is more in keeping with modern governance practices and was well received by investors. Also, at the AGM, shareholders voted to change the Company’s name from International Forest Products Limited to Interfor Corporation. The name change provides a direct link between the Company’s traditional trade name (i.e. “Interfor”) and its formal corporate identity and provides an opportunity to build on the successful branding efforts undertaken in recent years using the Interfor name and logo. Like the changes to the Company’s share structure, the adoption of the Interfor name has been well received by investors and other stakeholders. Positions for Long-Term Success In spite of weaker-than-expected market conditions in the first six weeks of 2015, we continue to see positive signs emerging in the world’s key lumber markets. In the U.S., housing starts continue to improve, albeit slowly, and can be expected to gain momentum as the economic recovery matures. Message to Shareholders ____________________ 7 In China, slower growth rates and policies introduced by the central government to address issues within that country’s real estate market have had an impact on construction activity and product demand. That said, we believe the underlying fundamentals in China with respect to wood products are very positive and look favorably on the prospects to grow our business platform in that market, including southern yellow pine from our operations in the U.S. Southeast. More important, though, are the steps we are taking to position Interfor for long-term success. Our business strategy is based on two primary tenets: growth by acquisition and operational excellence. We’ve made tremendous strides in both areas in recent years and we see numerous opportunities for more gains as we move forward. In closing, I would like to thank our Board of Directors for their on-going support and our employees for their dedication and efforts to build value for all our stakeholders. Last but not least I would like to thank our shareholders for their support. I’m convinced we’re on track to build significant value at Interfor and look forward to reporting to you on our progress again this time next year. Duncan Davies President & CEO February 2015  8 MANAGEMENT’S DISCUSSION AND ANALYSIS Prepared as of February 12, 2015 This Management’s Discussion and Analysis (“MD&A”) provides a review of financial condition and results of operations as at and for the three month period and year ended December 31, 2014 (“Q4’14” and “2014”, respectively). It should be read in conjunction with the audited consolidated financial statements of Interfor Corporation (“Interfor” or the “Company”) for year ended December 31, 2014, and the notes thereto which have been prepared in accordance with International Financial Reporting Standards (“IFRS”). This MD&A contains certain non-GAAP measures which, within the Non-GAAP Measures section, are discussed, defined and reconciled to figures reported in the Company’s consolidated financial statements. All figures are stated in Canadian dollars, unless otherwise noted, and references to US$/USD and ¥ are to the United States dollar and Japanese Yen, respectively. For definitions of technical terms and abbreviations used within this MD&A, refer to the Glossary in the Company’s 2014 Annual Report. Forward-Looking Statements This MD&A contains forward-looking statements that address or discuss activities, events or developments that the Company expects or anticipates may occur in the future. Forward- looking statements are included under the headings “Overview of 2014”, “Outlook”, “Summary of Fourth Quarter 2014 Financial Performance”, “Summary of 2014 Financial Performance”, “Liquidity”, “Capital Resources”, “Off-Balance Sheet Arrangements”, “Financial Instruments and Other Instruments”, “Accounting Policy Changes” and “Risks and Uncertainties”. These forward-looking statements reflect management’s current expectations and beliefs and are based on certain assumptions including those related to general business and economic conditions in Canada, the U.S., Japan and China, and assessment of risks as described under “Risks and Uncertainties”. Such forward-looking statements are subject to risks and uncertainties and no assurance can be given that any of the events anticipated by such statements will occur or, if they do occur, what benefit the Company will derive from them, if any. A number of factors could cause actual results, performance or developments to differ materially from those expressed or implied by such forward-looking statements, including those matters described under the heading “Risks and Uncertainties” and in Interfor’s current Annual Information Form available on www.sedar.com. Accordingly, readers should exercise caution in relying upon forward- looking statements and the Company undertakes no obligation to publicly revise them to reflect subsequent events or circumstances, except as required by law. Overview of 2014 Q4’14 Results Interfor recorded a net loss of $5.2 million, or $0.08 per share, and Adjusted EBITDA of $37.4 million. These figures compare with net earnings and Adjusted EBITDA of $11.0 million and $45.4 million in Q3’14, and $11.4 million and $36.2 million in Q4’13, respectively. Sales revenue amounted to $389.0 million, compared with $373.1 million in Q3’14 and $315.3 million in Q4’13. The net loss in the fourth quarter was impacted by an increase in the accrual for long term incentive compensation expense of $13.9 million, compared with an expense of $3.6 million in the third quarter. The long term incentive compensation programs are directly tied to Interfor’s share price performance and are therefore marked-to-market at each quarter end. In the fourth quarter of 2014, Interfor’s share price increased by 35.9%. Management’s Discussion and Analysis 9 ____________________ Lumber production in the fourth quarter of 2014 was 578 million board feet, up 11 million board feet or 1.9% compared to Q3’14 and up 108 million board feet or 23.0% compared to Q4’13. The production growth from Q4’13 primarily reflects the addition of two sawmills with the Tolleson acquisition and higher operating rates. Interfor generated $25.0 million of cash from operations before working capital changes and $35.1 million after considering working capital changes. Capital spending amounted to $24.7 million during the quarter. The Company reduced its net debt during the quarter to $202.6 million or 24.1% of invested capital, leaving $235.6 million of availability under its credit facilities. Significant Operational Changes, Investment & Financing On March 14, 2014, Interfor acquired all of the outstanding common shares of Tolleson Ilim Lumber Company (“Tolleson”) from Ilim Timber Continental, S.A. for total consideration of $188.5 million, comprising $126.9 million in cash and 3,680,000 Common Shares valued at $61.6 million. This acquisition added two sawmills located in Perry and Preston, Georgia, and a remanufacturing facility in Perry, Georgia. We have filed a Business Acquisition Report on SEDAR with respect to this acquisition. In conjunction with the acquisition of Tolleson, Interfor increased the credit available on two of its facilities to ensure sufficient liquidity and flexibility post-transaction. On March 21, 2014, the Company increased the credit available under its U.S. Operating Line from US$20 million to US$30 million, without significant change to other terms and conditions. On March 31, 2014, the Company increased the credit available under its Revolving Term Line from $200 million to $250 million, without change to other terms and conditions. On June 27, 2014, the Company announced a curtailment of its Beaver-Forks operation on the Olympic Peninsula in Washington State. Following a comprehensive strategic review, permanent closure of the operation and consolidation of production at Interfor’s Port Angeles facility was announced on July 31, 2014. On November 6, 2014, Interfor announced a $50 million capital project to upgrade its sawmill in Castlegar, B.C. The project will convert the Castlegar mill to a two line operation with state-of-the-art technology and optimization. The project is scheduled for completion in the fourth quarter of 2015 with full operating performance targeted for the first quarter of 2016. On December 17, 2014, the Company completed a US$50 million term debt financing with Prudential Capital Group. The Senior Secured Notes carry an annual interest rate of 4.02% and have a final maturity of June 26, 2023. On December 18, 2014, Interfor signed an agreement to acquire four sawmills from Simpson Lumber Company, LLC (“Simpson”) for consideration of US$94.7 million, plus working capital and contingent future consideration. The sawmills are located in Tacoma, Washington, Longview, Washington, Meldrim, Georgia and Georgetown, South Carolina and fit within the Company’s existing operating infrastructure. Upon closing of this acquisition, Interfor’s total production capacity will increase by 30% to 3.1 billion board feet. The Company’s lumber capacity in the U.S. Southeast and U.S. Northwest will total 1.2 billion and 900 million board feet, respectively, representing 67% of the Company’s total pro forma capacity. The completion of the transaction is subject to customary conditions and is expected on March 1, 2015. Regulatory approval was received on January 23, 2015. On January 27, 2015, Interfor closed a bought deal public offering of subscription receipts (the “Subscription Receipts”) through a syndicate of underwriters. The Company issued an aggregate of 3,300,000 (including 300,000 Subscription Receipts issued pursuant to the Management’s Discussion and Analysis 10 ____________________ exercise of the over-allotment option) Subscription Receipts at a price of $20.10 per Subscription Receipt, for aggregate gross proceeds of $66.3 million (the “Offering”). The gross proceeds from the Offering less one half of the underwriters’ commission will be held in escrow until all conditions precedent to completion of the acquisition from Simpson, described above, have been satisfied. Each Subscription Receipt entitles the holder thereof, for no additional consideration and without further action, to one Common Share of the Company upon closing of this acquisition. Net proceeds of the offering will be used to partially fund the acquisition price and thereby provide the Company with ongoing financial flexibility. Markets and Pricing Average commodity lumber prices were modestly down across the board in the fourth quarter of 2014 as demand adjusted to reflect seasonal factors. The benchmark prices for Western SPF 2x4, SYP East 2x4 and HF Stud 2x4 9’ declined US$17, US$11 and US$18, respectively, as compared to the prior quarter. Demand for lumber in China softened in the fourth quarter due to the combination of credit tightening and slowing real estate activity. Benchmark Commodity Lumber Prices Source: Random Lengths Publications, Inc. (“Random Lengths”) Lumber price levels remained above the relevant softwood lumber benchmark price in Q4’14 and enabled Canadian producers to ship lumber to U.S. markets without an export tax throughout the quarter. This export tax rate has been set at zero percent for January and February of 2015. The Company incurred $0.6 million of export taxes in the comparable period of 2013. The U.S. dollar strengthened against the Canadian dollar during Q4’14, closing up 3.5% over September 30, 2014. The average rate of 1.1350 in Q4’14 was 8.2% higher than in the comparable quarter of 2013, which positively impacted Interfor’s net earnings reported in Canadian dollars. Outlook The near term outlook for commodity lumber prices will be impacted by North American and overseas demand as well as supply side shifts within North America. With respect to demand, Interfor anticipates a gradual upward trend in U.S. housing starts for 2015 on positive gains in employment and consumer confidence while demand in China is expected to reflect a moderated real estate market. Log supply constraints in certain parts of British Management’s Discussion and Analysis 11 ____________________ Columbia are anticipated to continue, which may lead to reductions in available lumber industry production from that region. By contrast, modest increases in industry capacity and utilization rates are anticipated in the U.S. South region. Interfor’s strategy of maintaining a diversified portfolio of lumber operations allows the Company to both reduce risk and maximize returns on invested capital over the business cycle. Interfor will continue its disciplined approach to production, cost control, inventory management and capital spending. At the same time, Interfor will remain alert to growth opportunities to position the Company for long term success. Financial and Operating Highlights (1) Financial Highlights( 2 ) Total sales Lumber Logs Wood chips and other residual products Ocean freight and other Operating earnings (loss) Net earnings (loss) Net earnings (loss) per share, basic and diluted EBITDA(3) Adjusted EBITDA(3) Adjusted EBITDA margin(3) Total assets Total long-term debt Pre-tax return on total assets(3) Net debt to invested capital(3) Operating Highlights Lumber production Lumber sales Lumber - average selling price(4) Log sales(5) Logs - average selling price(5) Notes: Unit $mm $mm $mm $mm $mm $mm $mm $/share $mm $mm % $mm $mm % % For the 3 months ended December 31, 2013 2014 For the year ended December 31, 2013 2012 2014 389.0 318.6 37.4 29.1 3.9 (1.1) (5.2) (0.08) 23.2 37.4 9.6% 315.3 249.2 41.3 20.0 4.9 13.7 11.4 0.18 31.4 36.2 1,447.2 1,105.2 1,177.3 144.8 105.5 19.6 36.1 40.7 0.62 144.2 169.3 872.3 136.6 72.4 23.9 52.5 42.2 0.73 115.8 134.0 11.5% 11.7% 12.1% 1,068.5 220.4 -0.1% 24.1% 824.1 145.5 6.8% 21.5% 1,068.5 220.4 6.4% 824.1 145.5 7.3% 24.1% 21.5% 24.2% 849.2 631.2 113.9 69.4 34.7 (3.1) (9.5) (0.17) 50.2 59.9 7.1% 632.0 135.0 -0.4% million fbm million fbm $/thousand fbm thousand cubic metres $/cubic metre 578 620 514 358 84 470 500 498 397 92 2,222 2,282 516 1,440 85 1,725 1,761 495 1,339 88 1,351 1,432 441 1,352 72 (1) Figures in this table may not equal or sum to figures presented elsewhere due to rounding. (2) Financial information presented for interim periods in this MD&A is prepared in accordance with IFRS but is unaudited. (3) Refer to the Non-GAAP Measures section of this MD&A for definitions and reconciliations of these measures to figures reported in the Company’s consolidated financial statements. (4) Gross sales before export taxes. (5) For B.C. operations only. Management’s Discussion and Analysis 12 ____________________ Summary of Fourth Quarter 2014 Financial Performance Sales Interfor recorded $389.0 million of total sales, up 23.4% from $315.3 million in the fourth quarter of 2013, driven by the sale of 620 million board feet of lumber at an average price of $514 per mfbm. Lumber sales volume and average selling price increased 120 million board feet and 3.2%, respectively, over the same quarter of 2013. The growth in lumber sales volume was primarily in the U.S. market, where sales increased by 136 million board feet or 43.6% over the fourth quarter of 2013. This growth is mostly attributable to the acquisition of two sawmills in the first quarter of 2014, higher operating rates and the draw-down of lumber inventories. The increase in the average selling price of lumber is primarily related to the U.S. dollar strengthening against the Canadian dollar by 8.2%, partially offset by lower benchmark prices and an increased proportion of Southern Yellow Pine sales. Log sales of $37.4 million represents a decrease of $3.9 million or 9.4% compared to the same quarter of 2013. This reflects lower sales volume and an 8.7% decrease in the average selling price on B.C. log sales, which accounted for 80.3% of total log sales revenue in the quarter. Sales of wood chips and other residual products increased to $29.1 million, up $9.1 million over the comparable quarter of 2013. This increase mainly reflects a 23.0% rise in lumber production from Q4’13. Operations Production costs increased by $71.5 million or 26.3% over the fourth quarter of 2013, explained primarily by the 24.0% increase in lumber sales volume and the stronger U.S. dollar as noted above. Depreciation of plant and equipment was $14.7 million, up 33.2% from the fourth quarter of 2013. The majority of this increase is explained by the inclusion of depreciation on the two sawmills acquired in the first quarter of 2014 and higher operating rates. Depletion and amortization of timber, roads and other was $8.7 million, up 39.1% from the comparable quarter of 2013. This increase is mostly related to amortization of a non- competition agreement associated with the acquisition of Tolleson. Corporate and Other Selling and administration expenses were $8.9 million, up $1.9 million from the fourth quarter of 2013. This increase reflects the growth of Interfor’s operations in the U.S. Southeast and includes $0.2 million of non-recurring costs associated with the Simpson acquisition. The $13.9 million of long term incentive compensation expense reflects the impact of a 35.9% increase in the market price for Interfor Common Shares during the quarter on the Company’s share-based incentive compensation plans. Income Taxes The Company recorded income tax expense of $0.2 million, comprised primarily of current taxes in respect of its U.S. operations. Management’s Discussion and Analysis 13 ____________________ Net Earnings (Loss) The Company recorded a net loss of $5.2 million or $0.08 per share, compared to net earnings of $11.4 million or $0.18 per share in the comparable period of 2013. The net loss was impacted by the $13.9 million increase in the accrual for long term incentive compensation expense as noted above, compared to an increase of $5.2 million in the comparable quarter of 2013. Summary of 2014 Financial Performance Sales Interfor recorded $1,447.2 million of total sales, up 30.9% from $1,105.2 million in 2013, driven by the sale of 2.3 billion board feet of lumber at an average price of $516 per mfbm. Lumber sales volume and average selling price increased 521 million board feet and 4.2%, respectively, over 2013. The growth in lumber sales volume was primarily in the U.S. market, where sales increased by 512 million board feet or 47.7% over 2013. This growth is mostly attributable to the six sawmills in Georgia acquired since March of 2013 as well as increased demand. The increase in the average selling price of lumber is primarily related to the strengthening of the U.S. dollar against the Canadian dollar by 7.3%, partially offset by an increased proportion of Southern Yellow Pine sales. Log sales of $144.8 million represents an increase of $8.2 million or 6.0% compared to 2013, with higher volume partially offset by a lower average realize price. Sales of wood chips and other residual products increased to $105.5 million, up $33.1 million over 2013. This increase mainly reflects the 28.8% increase in lumber production over the prior year. Operations Production costs increased by $302.8 million or 32.2% compared to 2013, explained primarily by the acquisition of two sawmills in the first quarter of 2014, contributing to a 29.6% increase in lumber sales volume, and a 7.5% increases in B.C. log sales volumes. The stronger U.S. dollar as noted above also contributed to this increase. Depreciation of plant and equipment was $55.2 million, up 40.7% from 2013. The majority of this increase is explained by the inclusion of depreciation on the six mills in the U.S. Southeast acquired since March 2013, and higher operating rates. Depletion and amortization of timber, roads and other was $28.9 million, up 25.4% over 2013. Amortization of the non-competition agreement associated with the Tolleson acquisition contributed to this increase. Corporate and Other Selling and administration expenses were $35.5 million, up $6.7 million from 2013. This increase reflects the growth of our operations into the U.S. Southeast and includes $1.6 million of non-recurring expenses related to the Tolleson and Simpson acquisitions. Long term incentive compensation expense was $23.9 million, up $5.1 million over 2013, as a result of a higher market price for Interfor Common Shares on the Company’s share- based incentive compensation plans. Management’s Discussion and Analysis 14 ____________________ In conjunction with curtailment of the Beaver-Forks operation in the second quarter of 2014, the Company recorded asset impairment and restructuring charges of $14.2 million, net of an $8.5 million deferred tax recovery. Income Taxes The Company recorded an income tax recovery of $16.2 million, comprised of $1.3 million of current tax expense net of a $17.6 million deferred tax recovery. The deferred tax recovery includes two notable items: i) recognition of $19.3 million of previously unrecognized deferred tax assets related to its U.S. operations as a result of the acquisition of Tolleson; and ii) an $8.5 million recovery related to the Beaver-Forks restructuring and impairment charges. Net Earnings The Company recorded net earnings of $40.7 million or $0.62 per share, compared with $42.2 million or $0.73 per share of net earnings in 2013. As noted above, net earnings in 2014 were impacted by increased long term incentive compensation expense, restructuring and impairment charges associated with the curtailment of the Beaver-Forks operation and recognition of previously unrecognized deferred tax assets related to U.S. operations. Summary of Quarterly Results (1) Financial Performance (Unaudited) Total sales Lumber Logs Wood chips and other residual products Ocean freight and other Operating earnings (loss) Net earnings (loss) Net earnings (loss) per share, basic and diluted $/share EBITDA(2) Adjusted EBITDA(2) Shares outstanding - end of period Shares outstanding - weighted average $mm $mm million million $mm $mm $mm $mm $mm $mm $mm Unit Q4 2014 Q3 Q2 Q1 Q4 2013 Q3 Q2 Q1 389.0 373.1 390.2 294.8 318.6 303.0 325.2 230.4 37.6 22.4 4.4 13.3 27.5 0.43 32.3 39.2 66.7 63.8 37.4 29.1 3.9 (1.1) (5.2) (0.08) 23.2 37.4 66.7 66.7 34.4 28.3 7.4 20.1 11.0 0.16 40.9 45.4 66.7 66.7 35.4 25.8 3.8 3.8 7.4 0.11 47.8 47.3 66.7 66.7 315.3 272.7 274.7 242.5 249.2 212.2 219.5 191.4 26.1 16.6 8.4 17.2 15.2 0.27 30.6 37.1 55.9 55.9 36.6 18.4 5.4 2.3 (0.1) (0.00) 18.4 24.6 63.1 55.9 32.6 17.4 5.2 19.3 15.8 0.28 35.3 36.1 55.9 55.9 41.3 20.0 4.9 13.7 11.4 0.18 31.4 36.2 63.1 63.1 Operating Performance Lumber production Lumber sales Lumber - average selling price (3) Log sales(4) Logs - average selling price (4) million fbm million fbm $/thousand fbm thousand cubic metres $/cubic metre 578 620 514 358 84 567 595 509 380 75 582 628 518 305 103 495 439 525 398 82 470 500 498 397 92 447 446 476 353 93 418 433 507 301 90 390 383 500 289 76 Average USD/CAD exchange rate (5) Closing USD/CAD exchange rate (5) 1 USD in CAD 1 USD in CAD 1.1350 1.0890 1.0905 1.1033 1.1601 1.1208 1.0676 1.1053 1.0491 1.0385 1.0233 1.0080 1.0636 1.0303 1.0518 1.0160 Notes: (1) Figures in this table may not add due to rounding. (2) Refer to the Non-GAAP Measures section of this MD&A. (3) Gross sales before export taxes. (4) For B.C. operations. (5) Based on Bank of Canada foreign exchange rates. The Company’s quarterly financial trends are most impacted by seasonality, levels of lumber production, log costs, market prices for lumber and the USD/CAD foreign currency exchange rate. Management’s Discussion and Analysis 15 ____________________ Logging operations are seasonal due to a number of factors including weather, ground conditions and fire season closures. Generally, the Company’s B.C. Coast logging division experiences higher production levels in the latter half of the first quarter, throughout the second and third quarters and in the first half of the fourth quarter. Logging activity in the B.C. Interior is generally higher in the first half of the first quarter, slows during spring break-up and increases in the third and fourth quarters. Sawmill operations are dependent on the availability of logs from our logging operations and our suppliers. In addition, the market demand for lumber and related products is generally lower in the winter due to reduced construction activity, which increases during the spring, summer and fall. Three sawmills acquired on March 1, 2013, and one sawmill acquired on July 1, 2013, contributed to growth in production, sales and earnings. Production, sales and earnings have also benefited since the acquisition of two sawmills on March 14, 2014. The permanent closure of the Beaver sawmill impacted production and sales in subsequent to Q2’14. The volatility of the Canadian dollar against the U.S. dollar also impacted results, given that historically over 75% of the Canadian operation’s lumber sales are to the U.S. and export markets priced in U.S. dollars. A weaker Canadian dollar increases the lumber sales realizations in Canada, and increases net earnings of U.S. operations when translated to Canadian dollars. Liquidity Balance Sheet Interfor strengthened its financial position throughout the fourth quarter of 2014. Net debt at quarter-end of $202.6 million, or 24.1% of invested capital, was $61.8 million higher than at December 31, 2013, due primarily to borrowings for the Tolleson acquisition. As at December 31, 2014, the Company had net working capital of $109.7 million and available capacity on operating and term facilities of $235.6 million. These resources, in addition to cash generated from operations, will be used to support working capital requirements, debt servicing commitments and capital expenditures. We believe that Interfor will have sufficient liquidity to fund operating and capital requirements for the foreseeable future. Cash Flow from Operating Activities In 2014, the Company generated $143.0 million of cash flow from operations before changes in working capital, up $19.3 million over 2013. Incremental cash flow generated from increased sales was partially offset by a small reduction in margin on production costs and a $6.7 million increase in selling and administration costs. The increase in selling and administration costs includes $1.6 million of a non-recurring nature related to the Tolleson and Simpson acquisitions. Total cash generated from operations after changes in working capital was $161.8 million, with $18.8 million of cash released from operating working capital. The reduction in working capital was led by a $17.3 million decrease in log inventory compared to December 31, 2013. In 2013, $26.2 million of cash was consumed by operating working capital, leading to $97.5 million of total cash generated from operations. Cash Flow from Investing Activities Investing activities totaled $200.9 million in 2014, including $124.4 million related to the Tolleson acquisition, $48.9 million for property, plant and equipment and $26.7 million for Management’s Discussion and Analysis 16 ____________________ development of logging roads. Discretionary mill improvements of $25.0 million during the period included the installation of a new kiln and crane at the Thomaston sawmill, a Weinig moulder at the Gilchrist sawmill and preparatory work on the Castlegar sawmill rebuild. In 2013, total investing activities of $186.7 million included $86.6 million related to the acquisition of Rayonier’s Wood Products Business, $33.8 million for the acquisition of the Thomaston sawmill and $68.3 million of capital expenditures. Capital expenditures included the addition of two timber tenures in the Kootenay Region of B.C. from Springer Creek Management Ltd. with a combined Allowable Annual Cut of approximately 174,000 cubic metres. Cash Flow from Financing Activities Net drawings on the Company’s long term debt facilities were $59.4 million 2014, leading to total cash from financing activities of $51.5 million. This includes US$112.5 million drawn from the Company’s Revolving Term Line and Operating Line to fund the Tolleson acquisition. In 2013, net drawings on the Company’s long term debt facilities were $4.2 million with total cash from financing activities of $78.0 million. This includes $82.4 million of net cash proceeds raised from the issuance of 7,187,500 Common Shares. Summary of Contractual Obligations The estimated cash payments due in respect of contractual and legal obligations including projected major capital improvements are summarized as follows: Thousands of Canadian dollars Trade accounts payable and accrued liabilities Income taxes payable Reforestation liability Long term debt Provisions and other liabilities Operating leases and expected capital commitments Total obligations (1 ) $ Total 105,150 365 34,628 220,419 68,317 83,864 $ Up to 1 Year 105,150 365 9,797 - 31,908 64,294 $ $ Payments due by Period 4-5 Years - - 8,456 - 3,314 4,510 2-3 Years - - 9,040 104,709 12,270 10,040 $ After 5 Years - - 7,335 115,710 20,825 5,020 $ 512,743 $ 211,514 $ 136,059 $ 16,280 $ 148,890 Note: (1) Figures in this table may not add due to rounding Capital Resources The following table summarizes Interfor’s credit facilities and availability as of December 31, 2014: Thousands of Canadian dollars Available line of credit and maximum borrowing available Less: Drawings Outstanding letters of credit included in line utilization Unused portion of facility Operating Line 65,000 $ Revolving Senior U.S. Term Secured Operating Line Notes 34,803 116,010 $ $ Line 250,000 $ Total 465,813 $ - 8,637 56,363 $ 104,409 - 145,591 $ 116,010 - - - 1,183 33,620 $ 220,419 9,820 235,574 $ Interfor continues to maintain its disciplined focus on monitoring discretionary capital expenditures, optimizing inventory levels and matching production with offshore and domestic demand. Based on current pricing, cash flow projections and existing credit lines, the Company believes it has sufficient liquidity to meet all of its financial obligations. Management’s Discussion and Analysis 17 ____________________ Transactions between Related Parties Other than transactions in the normal course of business with key management personnel, the Company had no transactions between related parties in the twelve months ended December 31, 2014. Off-Balance Sheet Arrangements The Company has off-balance sheet arrangements which include letters of credit and surety performance bonds, primarily for timber sales. At December 31, 2014, such instruments aggregated $30.9 million (December 31, 2013 - $26.7 million). Off-balance sheet arrangements have not had, and are not reasonably likely to have, any material impact on the Company’s current or future financial condition, results of operations or cash flows. Financial Instruments and Other Instruments From time to time, the Company employs financial instruments, such as interest rate swaps and foreign currency forward and option contracts, to manage exposure to fluctuations in interest rates and foreign exchange rates. The Company’s policy is not to use derivatives for trading or speculative purposes. Risk management strategies and relationships are formally documented and assessed on a regular, ongoing basis to ensure derivatives are effective in offsetting changes in fair values or cash flows of hedged items. The counter- parties for all derivative contracts are the Company’s Canadian bankers who are highly- rated and, hence, the risk of credit loss on such instruments is mitigated. Interest Rate Swaps As at December 31, 2014, Interfor had drawn $104.4 million of floating rate debt, excluding letters of credit, from its operating and term credit facilities, and $116.0 million of fixed rate debt through the Senior Secured Notes. The Company’s operating and term credit facilities bear interest at the bank prime rate plus a premium, or, at the Company's option, at rates for Bankers' Acceptances for Canadian dollar loans or at LIBOR for U.S. dollar loans, in all cases dependent upon a financial ratio. The Senior Secured Notes bear interest at 4.33% and 4.02% for Series A and Series B, respectively. On April 14, 2014, the Company entered into two additional interest rate swaps, each with a notional value of US$25.0 million maturing on April 14, 2016. Under the terms of these swaps, the Company pays an amount based a fixed annual interest rate of 0.58% and receives payment based on 90 day LIBOR which recalculated at set interval dates. On March 25, 2013, the Company entered into two interest rate swaps, each with a notional value of US$25.0 million and maturing on February 17, 2017. Under the terms of these swaps, the Company pays an amount based on a fixed annual interest rate of 0.84% and receives payment based on 90 day LIBOR which is recalculated at set interval dates. These interest rate swaps convert the Company’s floating-rate interest expense to fixed-rate interest expense and have been designated as cash flow hedges. The fair value of these interest rate swaps at December 31, 2014, being an asset of $0.1 million (measured based on Level 2 of the fair value hierarchy), has been recorded in Trade accounts receivable and other (2013 - $0.2 million) and a negligible loss (2013 - $0.2 million gain) has been recognized in Other comprehensive income. Based on the Company’s average debt level during 2014, there is no net earnings exposure to changes in interest rates as all debt is covered by fixed rate instruments. Management’s Discussion and Analysis 18 ____________________ Foreign Currency Contracts The Company is exposed to currency risk on cash and cash equivalents, accounts receivable, accounts payable and provisions and long term debt that are denominated in a currency other than the respective functional currencies of the Company’s domestic and foreign operations, primarily Canadian and U.S. dollars, but also the Euro, Sterling and Yen. The Company uses foreign currency exchange forward, collar and option contracts to manage its currency risk from time to time. The Company routinely assesses its foreign exchange exposure by reviewing outstanding contracts, pending order files and working capital denominated in foreign currencies. As at December 31, 2014, the Company had outstanding forward currency exchange contract obligations to sell during 2015 a maximum of US$11.0 million at an average rate of $1.1527 per U.S. dollar and ¥53.6 million at an average rate of ¥107.1 per U.S. dollar. Under outstanding call/put option collar agreements, the Company also had the right to sell US$4 million per month at an average rate of $1.1000 per U.S. dollar and the obligation to sell US$4 million per month at an average rate of $1.1638 per U.S. dollars in each of January, February and March 2015. All foreign currency gains or losses in 2014 have been recognized in Other foreign exchange gain (loss) in Net earnings and the fair value of the foreign currency contracts has been recorded as a liability of $0.2 million in Trade accounts payable and provisions (2013 - $0.1 million asset recorded in Trade accounts receivable and other). Unrealized gains and losses arising upon translation of net foreign currency investment positions in U.S. dollar functional currency foreign operations, together with any gain or losses arising from hedges of those net investment positions, to the extent effective, are credited or charged to net change in unrealized foreign currency translation gains (losses) in the Consolidated Statement of Comprehensive Income. Upon sale, reduction or substantial liquidation of an investment position, the previously recorded net unrealized gains (losses) thereon in the Translation reserve are reclassified to the Consolidated Statement of Earnings. As at December 31, 2014, the Company had designated the US$90.0 million drawn under its Revolving Term Line and US$100.0 million drawn under its Senior Secured Notes as hedges against the net investment in its U.S. operations. The Company recorded a $20.4 million unrealized foreign exchange net gain on translation of its U.S. operations with a U.S. dollar functional currency to Other comprehensive income (loss) in 2014 (2013 - $8.2 million net gain). Outstanding Shares As of February 12, 2015, Interfor had 66,730,455 Common Shares issued and outstanding. These shares are listed on the Toronto Stock Exchange under the symbol IFP. Controls and Procedures The Company’s management, under the supervision of the Chief Executive Officer (“CEO”) and the Chief Financial Officer (“CFO”), has evaluated the design and effectiveness of the Company’s disclosure controls and procedures. Based on this evaluation, the CEO and CFO have concluded that the Company’s disclosure controls and procedures were effective as of December 31, 2014. The Company’s management, under the supervision of the CEO and CFO, has evaluated the design and effectiveness of the Company’s internal controls over financial reporting (“ICFR”) based on the criteria established within the 2013 COSO framework. Based on this Management’s Discussion and Analysis 19 ____________________ evaluation, the CEO and CFO have concluded that the Company’s ICFR were effective as of December 31, 2014. The CEO and CFO acknowledge responsibility for the design of ICFR and confirm that there were no changes in these controls that occurred during the year ended December 31, 2014, which materially affected, or are reasonably likely to materially affect, the Company’s ICFR. Critical Accounting Estimates The Company’s financial statements include critical accounting estimates made by management. Management is required to make various assumptions about matters that are highly uncertain at the time accounting estimates are made; the use of different assumptions could have a material impact on the Company’s financial condition and performance. These critical accounting estimates are described below. Valuation of Inventories. Lumber inventories are valued at the lower of cost and net realizable value on a specific product basis. Log inventories are valued at the lower of cost and net realizable value on a specific boom or sort basis. The unit net realizable value for lumber inventories and B.C. Coast log inventories is determined by reference to the average sales values by specific product in the period immediately following the reporting date. The unit realizable value for B.C. Interior and U.S. log inventories is determined by reference to the value of the projected lumber and residual outturns. The unit cost for lumber is based on a three month moving average cost, lagged by one month and adjusted for unusual items. The unit cost for B.C. Coast logs is based on a twelve month moving average cost lagged one month and for B.C. Interior logs is based on the three month moving average cost, both adjusted for unusual items. The unit cost for U.S. logs is based on purchase cost. When net realizable value is lower than cost, a charge to operating earnings is recorded. Downward movements in commodity prices could result in a material write-down of inventory at any given time. Recoverability of Property, Plant and Equipment, Logging Roads and Bridges, Timber licences, Other Intangible Assets, and Goodwill. Interfor’s assessment of recoverability of property, plant and equipment, logging roads, bridges, timber licences and other intangible assets is made with reference to projections of future cash flows to be generated by its operations. The assessment of recoverability of goodwill is also made with reference to projections of future cash flows to be generated by the related cash generating unit. In both cases the projected cash flows are discounted to estimate the recoverable amount of the related assets. The Company conducts a review of external and internal sources of information to assess existence of any impairment indicators. External factors include adverse changes in expected future prices, costs and other market and economic factors. Internal factors include changes in the expected useful life of the asset or changes to the planned capacity of the asset. Key assumptions used are based on industry sources, including Forest Economic Advisors, LLC, as well as management estimates. Assumptions encompass lumber and residual chip sales prices, applicable foreign exchange rates, operating rates of the assets, raw material and conversion costs, the level of sales to the U.S. from Canada, the export tax rate, future capital required to maintain the assets in their current operating condition, and other items. A high degree of uncertainty exists in these assumptions and, as such, any significant change in assumptions could result in a conclusion that the carrying value of these assets may not be recovered, which could necessitate a material charge against operating earnings. Management’s Discussion and Analysis 20 ____________________ Appropriate discount rates are determined by reference to current market conditions, specific company factors and asset specific factors. The inflation rate applied within the cash flow projections represents the published Bank of Canada consumer price index as at December 31, 2014. Interfor assesses the recoverability of Property, Plant and Equipment, Logging Roads and Bridges, Timber Licences and Other Intangible Assets whenever events or circumstances indicate that the carrying value may not be recoverable. Goodwill is tested for impairment annually, and whenever events or changes in circumstances indicate that impairment may exist. The Company assessed the recoverability of goodwill as at December 31, 2014 and concluded that there were no impairments. Reforestation and Other Forestry-related Liabilities. Crown legislation requires the Company to complete reforestation activities on its forest and timber tenures. Accordingly, Interfor records the estimated liability for reforestation as the timber is cut, and includes these expenses in the cost of current production. The estimate of future reforestation costs is based on detailed prescriptions of reforestation as prepared by Registered Professional Foresters employed or contracted by the Company. Considerations include the specifics of the areas logged and the treatments prescribed for those areas, as well as the timing and success rates of the planned activities. Estimates of reforestation liabilities could be materially impacted by forest fires, wildlife grazing, unfavourable weather conditions, changing legislative requirements and standards, or inaccurate projections, which could result in a charge against operating earnings. The Company also has a legal obligation to deactivate certain roads constructed for access to timber, once that access is no longer required. Accordingly, Interfor accrues the cost of road deactivation as the related timber is cut, including those expenses in the cost of current production. The estimate of future road deactivation cost is based on comprehensive plans prepared by Professional Foresters and Engineers employed by Interfor and includes such considerations as road structure and terrain. Estimates of road deactivation liability could be materially impacted by unfavourable terrain, changing legislative requirements and standards, or inaccurate projections, which could result in a charge against operating earnings. Each of these estimates is reviewed regularly on an ongoing basis. Pension and Other Post-retirement Benefits. The Company sponsors two defined benefit pension plans for those hourly employees not covered by forest industry union plans; a third defined benefit pension plan wound-up in the fourth quarter of 2014. It also sponsors two post-retirement medical and life insurance plans. The Company retains independent actuarial consultants to value the defined pension benefit obligations, the post-retirement medical and life insurance obligations and related plan asset values. Actuarial assumptions used in the valuation of plan obligations and assets include assumptions for the discount rate used in calculations of net present value of obligations, expected rates of return on plan assets to be used to fund obligations, and assumed rates of increase for employee compensation and health care costs. Actual experience can vary materially from estimates and could result in a material charge against operating earnings as well as necessitate a current cash funding requirement. Income Taxes. The Company’s provision for income taxes, both current and deferred, is based on various judgments, assumptions and estimates including the tax treatment of transactions recorded in the Company’s consolidated financial statements. Interfor records provisions for income taxes based on the respective tax rules and regulations in the jurisdictions in which the Company operates. Due to the number of variables associated Management’s Discussion and Analysis 21 ____________________ with the judgments, assumptions and estimates, and differing tax rules and regulations across the multiple jurisdictions, the precision and reliability of the resulting estimates are subject to uncertainties and may change as additional information becomes known. Income tax assets and liabilities, both current and deferred, are measured according to the income tax legislation that is expected to apply when the asset is realized or the liability settled. Deferred income tax assets and liabilities are comprised of the tax effect of temporary differences between the carrying amount and tax basis of assets and liabilities, tax loss carry forwards and tax credits. Assumptions underlying the composition of deferred income tax assets and liabilities include estimates of future results of operations and the timing of the reversal of temporary differences as well as the tax rates and laws in the applicable jurisdictions at the time of the reversal. The composition of deferred income tax assets and liabilities is reasonably likely to change from period to period due to the uncertainties surrounding these assumptions. Accounting Policy Changes A number of new standards, and amendments to existing standards and interpretations, were not yet effective for the year ended December 31, 2014, and have not been applied in preparing the Company’s 2014 annual consolidated financial statements. The following pronouncements are considered by the Company to be the most significant of several pronouncements that may affect the financial statements. IFRS 9, Financial Instruments, will replace the multiple classification and measurement models in IAS 39, Financial Instruments: Recognition and Measurement, with a single model that has only two classification categories: amortized cost and fair value. IFRS 9 is effective for annual periods beginning on or after January 1, 2018, with earlier adoption permitted. The Company does not expect this standard to have a significant effect on its financial statements. IFRS 15, Revenue from Contracts with Customers, will replace all existing IFRS revenue requirements. Application is required for annual periods beginning on or after January 1, 2017, with earlier adoption permitted. The Company has not yet completed an assessment of the impact, if any, of this standard on its financial statements. Non-GAAP Measures This MD&A makes reference to the following non-GAAP measures: EBITDA, Adjusted EBITDA, Pre-tax return on total assets and Net debt to invested capital, which are used by the Company and certain investors to evaluate operating performance and financial position. These non-GAAP measures do not have any standardized meaning prescribed by IFRS and are therefore unlikely to be comparable to similar measures presented by other issuers. The following table provides a reconciliation of these non-GAAP measures to figures as reported in the Company’s unaudited interim and audited annual condensed consolidated financial statements prepared in accordance with IFRS: Management’s Discussion and Analysis 22 ____________________ Thousands of Canadian dollars Adjusted EBITDA Net earnings (loss) Add: Depreciation of plant and equipment Depletion and amortization of timber, roads and other Restructuring costs, capital asset and timber write-downs Finance costs Other foreign exchange loss (gain) Income tax expense (recovery) EBITDA Add: Long term incentive compensation Other expense (income) Beaver sawmill post-closure wind-down costs Adjusted EBITDA Pre-tax return on total assets Operating earnings (loss) before restructuring and capital asset write-downs Total assets(1) Pre-tax return on total assets(2) Net debt to invested capital Net debt Long term debt Cash and cash equivalents Total net debt Invested capital Net debt Shareholders' equity Total invested capital Net debt to invested capital (3) For the 3 months ended December 31, 2013 2014 For the year ended December 31, 2012 2014 2013 (5,187) 11,431 40,690 42,239 (9,474) 14,707 8,699 857 2,268 1,646 160 23,150 13,864 (3) 363 37,374 11,040 6,253 49 2,097 211 324 31,405 5,205 (375) - 36,235 55,167 28,912 24,129 8,915 2,651 (16,230) 144,234 39,206 23,061 371 9,069 1,250 555 115,751 23,933 37 1,075 169,279 18,841 (602) - 133,990 28,745 23,648 529 6,441 (189) 458 50,158 10,065 (334) - 59,889 (259) 1,058,346 -0.1% 13,737 812,305 6.8% 60,192 946,325 6.4% 52,882 728,083 7.3% (2,569) 623,438 -0.4% 220,419 (17,866) 202,553 145,479 (4,717) 140,762 220,419 (17,866) 202,553 145,479 (4,717) 140,762 135,046 (14,994) 120,052 202,553 636,480 839,033 24.1% 140,762 515,137 655,899 21.5% 202,553 636,480 839,033 24.1% 140,762 515,137 655,899 21.5% 120,052 376,030 496,082 24.2% Notes: (1) Opening total assets for three month periods; average of opening and closing total assets for annual periods. (2) Annualized rate. (3) Net Debt to Invested Capital balances are as of the period end. Risks and Uncertainties The Company is exposed to many risks and uncertainties in conducting its business including, but not limited to the factors described below. Price Volatility The Company’s operating results are affected by fluctuations in the selling prices for lumber, logs and wood chips. Prices are affected by such factors as the general level of economic activity in the markets in which the Company sells its products, interest rates, construction activity (in particular, housing starts in the United States, Canada, Japan and China), and log and chip supply/demand relationships. The Company’s financial results may be significantly affected by changes in the selling prices of its products. Competition The markets for the Company’s products are highly competitive on a global basis and producers compete primarily on the basis of price. In addition, a majority of the Company’s lumber production is sold in markets where the Company competes against many producers of approximately the same or larger capacity. Some of the Company’s competitors have greater financial resources and a number are, in certain product lines, lower-cost producers. Management’s Discussion and Analysis 23 ____________________ Factors which affect the Company’s competitive position include: • • • • • • • • • the foreign currency exchange rates; the cost of labour; the costs of harvesting or purchasing logs; the ability to secure a quality log supply matched to a sawmill’s requirements; the quality of its products and customer service; the ability to secure space on vessels for overseas shipments and on trucks and railcars for North American shipments; the cost of export taxes payable on sales to the United States; and its ability to maintain high operating rates to leverage fixed manufacturing costs. If the Company is unable to successfully compete on a global basis, its financial condition could suffer. Availability and Cost of Log Supply The log requirements of the Company’s sawmills are met using logs harvested from its timber tenures, by long term trade and purchase agreements and by purchases on the open market and through timber sale bids. Logs produced but unsuitable for use in the Company’s sawmills are either traded for suitable logs or sold on the open market. Operating at normal capacity, the Company’s Canadian sawmills generally purchase less than 50% of their log requirements either through purchase agreements or on the open market. The Company relies almost entirely on purchased fibre through purchase agreements for its U.S. based sawmills, with a small volume occasionally supplied by the Company’s Canadian coastal logging operations for the sawmill located on Washington’s Olympic Peninsula. As a result, fluctuations in the price, quality or availability of log supply can have a material effect on the Company’s business, financial position, results of operations and cash flow. In addition, weather-related issues can restrict timely access to log supply. The Company relies on third-party independent contractors to harvest timber in areas over which it holds timber tenures. Increases in rates charged by these independent contractors or the limited availability of these independent contractors may increase the Company’s timber harvesting costs. Additionally, in order to ensure uninterrupted access to logs harvested from its timber tenures in Canada, the Company must also focus on the continuous development of road networks. This encompasses an integrated plan by foresters, engineers and logging operations personnel to identify future logging areas and develop the engineering for roads. The Company expects to fund its ongoing road development with cash generated from operations and through utilization of its existing Lines of Credit. Natural or Man-Made Disasters The Company’s operations are subject to adverse natural or man-made events such as forest fires, severe weather conditions, climate change, timber disease and insect infestation and earthquake activity. These events could damage or destroy the Company’s physical facilities or timber supply and similar events could also affect the facilities of the Company’s suppliers or customers. Any such damage or destruction could adversely affect the Company’s financial results as a result of decreased production output or increased operating costs. Although management believes it has reasonable insurance arrangements in place to cover certain of such incidents, there can be no assurance that these arrangements will be sufficient to fully protect the Company against such losses. As is Management’s Discussion and Analysis 24 ____________________ common in the industry, the Company does not insure loss of standing timber for any cause. Currency Exchange Sensitivity The Company’s Canadian operations ordinarily sell approximately 75% of their lumber into export markets, with the majority of these sales denominated in U.S. dollars and, to a lesser extent, in Japanese Yen. While the Canadian operations also incur some U.S. dollar– denominated expenses, primarily for ocean freight and other transportation and for equipment operating leases, the majority of expenses are incurred in Canadian dollars. The Company’s operations in the United States transact primarily in U.S. dollars. An increase in the value of the Canadian dollar relative to the U.S. dollar would reduce the amount of revenue in Canadian dollars realized by the Company from lumber sales made in U.S. dollars. This would reduce the Company’s operating margin and the cash flow available to fund operations. Consequently, a significant strengthening of the Canadian dollar against the U.S. dollar could have a material adverse effect on the Company’s business, financial condition, results of operations and cash flows. Government Regulation The Company’s operations are subject to extensive provincial, state, federal or other laws and regulations that apply to most aspects of its business activities. Where applicable, the Company is required to obtain approvals, permits and licences for its operations as a condition to operate. From time to time, changes in government policy or regulation may impact the Company’s operations. Until the details of all such changes are announced and implemented, the full impact of these changes on the Company’s production, costs, financial position and results of operations cannot be determined. Allowable Annual Cut (“AAC”) The Company holds cutting rights in British Columbia that represent an AAC of approximately of 3.9 million cubic metres. Of this amount, 3.6 million cubic metres is in the form of replaceable tenures. The remaining portion is held in non-replaceable tenures (timber licences and non-replaceable forest licences) that will expire over time. The AAC is regulated by the Ministry of Forests, Lands and Natural Resource Operations and is subject to periodic review to assess and then make determinations to set harvesting rates for each tenure. Many factors affect the AAC, such as timber inventory, operable land base, growth rates, regulations, forest health, land use and environmental and social considerations. Reductions in the Company’s AAC from any new protected areas are subject to compensation, once these areas have been formally removed. Currently there are no compensation claims outstanding. The amount of timber available for harvest in the southern portion of the B.C. Interior is expected to remain stable for the next several years, then decline as a consequence of an accelerated harvest to address the impact from the mountain pine beetle epidemic. The overall timber supply is expected to be reduced in the B.C. Interior over the next three to ten years as the surplus of dead pine is no longer useable. The AAC determinations are made by the provincial Chief Forester in a Timber Supply Review process and will vary by location. Management’s Discussion and Analysis 25 ____________________ Aboriginal Issues Aboriginal groups have claimed aboriginal title and rights over substantial portions of British Columbia, including areas where the Company’s forest tenures are situated, creating uncertainty as to the status of competing property rights. The federal and provincial governments have been seeking to negotiate settlements with aboriginal groups throughout British Columbia in order to resolve aboriginal rights and title claims. In addition, the governments have entered, and may continue to enter, into interim measures agreements with aboriginal groups. Any interim measures, agreements or settlements that may result from the treaty process may involve a combination of cash, resources, grants of conditional rights to resources on public lands and rights of self-government. The impact of aboriginal claims or treaty settlements on the Company’s forest tenures or the amounts of compensation to the Company, if any, cannot be estimated at this time. The courts have also established that the Crown has a duty to consult with aboriginal groups and, where appropriate, accommodate aboriginal interests. However, questions of responsibility and appropriateness of balancing interests will continue to evolve as the parties try to address these long-standing and complex issues. The Government of British Columbia has been working to improve the functional relationship between the Crown and aboriginal groups prior to treaty settlement. The Province of British Columbia and First Nations groups on the coast of British Columbia have signed Reconciliation Protocols that provide a shared decision making process for resource and land use, as well as new forest sector opportunities. These agreements overlap portions of the Company’s coastal tenures. The agreements will be assessed and monitored in the years ahead to determine the extent of any implications on those operations. On June 26, 2014, the Supreme Court of Canada (“SCC”) released its ruling on Tsilhqot’in vs. British Columbia. This ruling may define, for the first time, the criteria upon which aboriginal title rests and is considered a positive development for the Company. It is also an important motivation for the federal and provincial governments to move forward on the treaty process in British Columbia. The SCC ruling applies to 2% of the Tsilhqot’in traditional territory in a remote area of central British Columbia – far removed from the Company’s operations. To date, aboriginal title has not been established in any of the Company’s tenures and doing so will likely be a lengthy and complex process. The Company will continue to manage its operations within the existing legal framework while paying close attention to the direction provided by the Province of British Columbia and First Nations regarding the application of this ruling. Therefore, risks and uncertainties remain consistent with those referenced above. Softwood Lumber Agreement A portion of the Company’s products that are manufactured in Canada are exported for sale. The Company’s financial results are dependent on continued access to the export markets and tariffs and other trade barriers that restrict or prevent access represent a continuing risk to the Company. As a result of the Softwood Lumber Agreement (“SLA”) implemented by the federal governments of Canada and the United States on October 12, 2006, Canadian softwood lumber exporters pay an export charge when the Random Lengths Framing Lumber Composite Price (“RLCI”) of lumber is at or below US$355 per mfbm. On January 23, 2012, Canada and the United States agreed to a two-year extension of the SLA through October 2015. The RLCI benchmark exceeded US$355 per mfbm for all but three months in 2013 and remained above this threshold for all of 2014. There is no assurance that the SLA will be renewed or, if is renewed, that export duties will not be increased from current ranges or that other thresholds in the SLA, such as differential trigger prices, surge limits and quotas will not change in a manner that Management’s Discussion and Analysis 26 ____________________ adversely affects the Company. Further, the expiry of the SLA without its renewal, or any amendments to the SLA, could result in the imposition of export duties or other protective measures, such as antidumping duties or countervailing duties, that are in excess of the range of export duties that are currently imposed under the SLA. The SLA provides that no action may be taken with respect to the imposition of softwood lumber duties from Canada for the twelve-month period following expiry of the SLA. Stumpage Fees The Province of British Columbia charges stumpage fees to companies that harvest timber from Crown land. Stumpage payments for a harvesting area are based on a competitive market pricing system (“MPS”) that has been established for both the coast and interior regions of British Columbia. The stumpage system is complex and the subject of discussion involving, among other things, lumber trade agreements between Canada and the United States. The primary variable in the MPS is log pricing established through open market bidding for standing timber. In addition to bid prices, there are a number of operational and administrative factors that determine an individual stumpage rate for each cutting permit. Periodic changes in the provincial government’s administrative policy can affect the market price for timber and the viability of individual logging operations. There can be no assurance that current changes or future changes will not have a material impact on stumpage rates. Environment The Company has incurred, and will continue to incur, costs to minimize environmental impact, prevent pollution and for continuous improvement of its environmental performance. The Company may discover currently unknown environmental problems or conditions relating to its past or present operations, or it may be faced with an unforeseen environmental liability in the future. This may require site or other remediation costs to maintain compliance or correct violations of environmental laws and regulations or result in governmental or private claims for damage to person, property or the environment, which could have a material adverse effect on the Company’s financial condition and results of operations. Labour Disruptions Production disruptions resulting from walkouts or strikes by unionized employees could result in lost production and sales, which could have a material adverse impact on the Company’s business. The Company believes that its current labour relations are stable and does not anticipate any related disruptions to its operations in the foreseeable future. The Company depends on a variety of third parties that employ unionized workers to provide critical services to the Company. Labour disputes by these third parties could lead to disruptions at the Company’s facilities. The Company’s Acorn, Hammond, Grand Forks, and Castlegar sawmill employees are members of the Canadian United Steelworkers union (“USW”). The collective agreement with the Southern Interior USW agreement (Grand Forks and Castlegar) expires on June 30, 2018, while the USW agreement for the B.C. Coast (Acorn and Hammond) expires on June 15, 2019. The Company also has 22 employees in the B.C. Interior who are members of the Canadian Marine Service Guild (“CMSG”), and their collective agreement expired September 30, 2014. Negotiations with the CMSG regarding renewal of the expired agreement are in process, with employees continuing to work under the terms of the expired agreement with no workplace disruptions. Management’s Discussion and Analysis 27 ____________________ Additional Information Additional information relating to the Company and its operations can be found on its website at www.interfor.com, in the Annual Information Form and on SEDAR at www.sedar.com. 28 CONSOLIDATED FINANCIAL STATEMENTS MANAGEMENT’S RESPONSIBILITY FOR FINANCIAL STATEMENTS Management is responsible for the integrity and fair presentation of the accompanying consolidated financial statements. The financial statements were prepared in accordance with International Financial Reporting Standards and, where necessary, are based in part on management’s best estimates and judgements. Financial information included elsewhere in the 2014 Annual Report is consistent with that disclosed in the consolidated financial statements. Management maintains a system of internal accounting control which it believes provides reasonable assurance that financial records are reliable and form a proper basis for preparation of financial statements. The internal accounting control process includes communications to employees of Interfor’s standards for ethical business conduct. The Board of Directors is responsible for ensuring that management fulfills its responsibilities for financial reporting and internal controls. The Board exercises this responsibility primarily through its Audit Committee, the members of which are neither officers nor employees of Interfor. The Audit Committee meets periodically with management and the independent Auditors to satisfy itself that each group is properly discharging its responsibilities and to review the consolidated financial statements and the independent Auditors’ report thereon. The Company’s independent Auditors have full and free access to the Audit Committee. The Audit Committee reports its findings to the Board of Directors for consideration in approving the consolidated financial statements for issuance to the shareholders. The Committee also makes recommendations to the Board with respect to the appointment and remuneration of the independent Auditors. The consolidated financial statements have been examined by the independent Auditors, KPMG LLP, whose report follows. Duncan K. Davies John A. Horning President and Chief Executive Officer Executive Vice President and Chief Financial Officer February 12, 2015  29 CONSOLIDATED FINANCIAL STATEMENTS INDEPENDENT AUDITORS' REPORT To the Shareholders We have audited the accompanying consolidated financial statements of Interfor Corporation (the “Company”) which comprise the consolidated statements of financial position as at December 31, 2014 and December 31, 2013, the consolidated statements of earnings, comprehensive income, changes in equity and cash flows for the years ended December 31, 2014 and December 31, 2013, and notes, comprising a summary of significant accounting policies and other explanatory information. Management's Responsibility for the Consolidated Financial Statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditors’ Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on our judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, we consider internal control relevant to the Company’s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence we have obtained in our audits is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated financial statements present fairly, in all material respects, the consolidated financial position of Interfor Corporation as at December 31, 2014 and December 31, 2013, and its consolidated financial performance and its consolidated cash flows for the years ended December 31, 2014 and December 31, 2013 in accordance with International Financial Reporting Standards. KPMG LLP, Chartered Accountants February 12, 2015 Vancouver, Canada 30 Consolidated Statements of Financial Position (Expressed in thousands of Canadian dollars) As at December 31, 2014 and 2013 Note December 31 2014 December 31 2013 Assets Current assets: Cash and cash equivalents Trade accounts receivable and other Inventories Prepayments Employee future benefits Other investments and assets Property, plant and equipment Logging roads and bridges Timber licences Other intangible assets Goodwill Deferred income taxes Liabilities and Shareholders' Equity Current liabilities: Trade accounts payable and provisions Reforestation liability Income taxes payable Reforestation liability Long term debt Employee future benefits Provisions and other liabilities Deferred income taxes Equity: Share capital Contributed surplus Translation reserve Hedge reserve Retained earnings 10 $ 6 22 7 8 9 9 9 9 19 11 12 19 12 10 22 11 19 13 17,866 80,283 148,668 12,175 258,992 2,520 2,972 541,378 22,244 79,024 24,397 136,996 - $ 4,717 62,735 149,509 11,374 228,335 3,980 3,960 460,930 16,224 84,344 2,420 23,715 218 $ 1,068,523 $ 824,126 $ 139,153 9,797 $ 98,017 11,754 365 395 149,315 23,099 220,419 7,361 25,190 6,659 110,166 20,662 145,479 7,006 25,676 - 490,363 428,723 7,476 20,950 133 7,476 561 167 117,558 78,210 636,480 515,137 $ 1,068,523 $ 824,126 Commitments and contingencies (note 20); Subsequent events (note 27). See accompanying notes to consolidated financial statements. Approved on behalf of the Board of Directors: L. Sauder, Director D.W.G. Whitehead, Director  31 Consolidated Statements of Earnings (Expressed in thousands of Canadian dollars, except earnings per share) Years ended December 31, 2014 and 2013 Sales Costs and expenses: Production Selling and administration Long term incentive compensation expense Export taxes Depreciation of plant and equipment Depletion and amortization of timber, roads and other Operating earnings before restructuring costs Restructuring costs Operating earnings Finance costs Other foreign exchange loss Other income (expense) Earnings before income taxes Income tax expense (recovery): Current Deferred Net earnings Note 2014 2013 $1,447,157 $1,105,222 5 11 8 9 18 16 17 19 1,243,464 35,489 23,933 - 55,167 28,912 1,386,965 60,192 (24,129) 36,063 (8,915) (2,651) (37) (11,603) 940,667 28,829 18,841 1,736 39,206 23,061 1,052,340 52,882 (371) 52,511 (9,069) (1,250) 602 (9,717) 24,460 42,794 1,342 (17,572) (16,230) 463 92 555 $ 40,690 $ 42,239 Net earnings per share, basic and diluted 21 $ 0.62 $ 0.73 See accompanying notes to consolidated financial statements. 32 Consolidated Statements of Comprehensive Income (Expressed in thousands of Canadian dollars) Years ended December 31, 2014 and 2013 Note 2014 2013 Net earnings $ 40,690 $ 42,239 Other comprehensive income: Items that will not be recycled to Net earnings: Defined benefit plan actuarial gains (losses) 22 (1,342) 5,832 Items that are or may be recycled to Net earnings: Foreign currency translation differences for foreign operations, net of tax Gain (loss) in fair value of interest rate swaps Reclassification of loss in fair value of interest rate swaps to Net earnings Income tax on other comprehensive income Total items that are or may be recycled to Net earnings Total other comprehensive income, net of tax 26 16 19 20,389 (34) - - 20,355 19,013 8,167 241 58 212 8,678 14,510 Comprehensive income $ 59,703 $ 56,749 See accompanying notes to consolidated financial statements. 33 Consolidated Statements of Changes in Equity (Expressed in thousands of Canadian dollars) Years ended December 31, 2014 and 2013 Note Common Shares Class B Contributed Surplus Shares Translation Reserve Hedge Reserve Retained Earnings Total Equity Balance at December 31, 2012 $ 342,285 $ 4,080 $ 7,476 $ (7,818) $ (132) $ 30,139 $ 376,030 Net earnings: Other comprehensive income: Foreign currency translation differences for foreign operations, net of tax Defined benefit plan actuarial gains Gain in fair value of interest rate swaps Reclassification of loss in fair value of interest rate swap to net earnings Contributions: 22 26 16 - - - - - - - - - - Share issuance, net of share issue expenses Share exchange 13(a) 13(a) 82,358 4,080 - (4,080) Balance at December 31, 2013 428,723 Net earnings: Other comprehensive income (loss): Foreign currency translation differences for foreign operations, net of tax Defined benefit plan actuarial losses Loss in fair value of interest rate swaps Contributions: - - - - 22 26 Shares issued in business combination 5, 13(a) 61,640 - - - - - - - - - - - - - 7,476 - - - - - - - 42,239 42,239 8,379 - - - - - 561 - - - 241 58 - - - 5,832 - - - - 8,379 5,832 241 58 82,358 - 167 78,210 515,137 - 40,690 40,690 20,389 - - - - (34) - (1,342) - 20,389 (1,342) (34) - - - 61,640 Balance at December 31, 2014 $ 490,363 $ - $ 7,476 $ 20,950 $ 133 $117,558 $ 636,480 See accompanying notes to consolidated financial statements. Consolidated Statements of Cash Flows (Expressed in thousands of Canadian dollars) Years ended December 31, 2014 and 2013 34 Cash provided by (used in): Operating activities: Net earnings Items not involving cash: Note 2014 2013 $ 40,690 $ 42,239 Depreciation of plant and equipment Depletion and amortization of timber, roads and other Income tax expense (recovery) Finance costs Other assets Reforestation liability Other liabilities and provisions Write-down of plant and equipment Unrealized foreign exchange losses (gains) Other income (expense) 8,18 Cash generated from (used in) operating working capital: Trade accounts receivable and other Inventories Prepayments Trade accounts payable and accrued liabilities Income taxes paid Investing activities: Additions to property, plant and equipment Additions to logging roads Additions to timber and other intangible assets Acquisitions Proceeds on disposal of property, plant and equipment Investments and other assets Financing activities: Issuance of share capital, net of share issue expenses 13(a) Interest payments Debt refinancing costs Additions to long term debt Repayments of long term debt 10 10 8 9 19 16 12 17 8 9 9 5 55,167 28,912 (16,230) 8,915 986 1,910 (63) 20,468 2,191 46 142,992 (8,628) 15,083 1,236 14,185 (3,077) 161,791 (48,922) (26,656) (2,818) (124,421) 1,926 (13) (200,904) - (7,122) (757) 480,487 (421,059) 51,549 39,206 23,061 555 9,069 884 2,599 6,612 - (14) (484) 123,727 (9,667) (40,866) 493 24,495 (652) 97,530 (33,038) (18,676) (16,531) (120,407) 2,089 (108) (186,671) 82,358 (7,142) (1,460) 326,738 (322,517) 77,977 Foreign exchange gain on cash and cash equivalents held in a foreign currency Increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year 713 13,149 4,717 $ 17,866 887 (10,277) 14,994 4,717 $ See accompanying notes to consolidated financial statements. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 35 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 1. Nature of operations: Interfor Corporation and its subsidiaries (the “Company” or “Interfor”) produce wood products in British Columbia, the U.S. Northwest and the U.S. Southeast for sale to markets around the world. The Company is incorporated under the Business Corporations Act (British Columbia) with shares listed on the Toronto Stock Exchange. Its head office, principal address and records office are located at Suite 3500, 1055 Dunsmuir Street, Vancouver, British Columbia, Canada, V7X 1H7. These consolidated financial statements of the Company as at and for the years ended December 31, 2014 and 2013 comprise the Company and its subsidiaries. 2. Basis of Preparation: (a) Statement of compliance: These consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (“IFRS”) and were approved by the Board of Directors on February 12, 2015. (b) Basis of measurement: These consolidated financial statements have been prepared on the historical cost basis except for the following material items in the Statements of Financial Position: (i) Derivative financial instruments are measured at fair value; (ii) Liabilities for cash-settled share-based payment arrangements are measured at fair value; and (iii) Employee benefit plan assets and liabilities are recognized as the net of the fair value of the plan assets and the present value of the defined benefit obligations on a plan by plan basis. (c) Functional and presentation currency: These consolidated financial statements are presented in Canadian dollars, which is the parent company’s functional currency. Certain of the Company’s subsidiaries have a functional currency of the U.S. dollar and are translated to Canadian dollars. All financial information presented in Canadian dollars has been rounded to the nearest thousand except number of shares and per share amounts. (d) Use of estimates and judgements: The preparation of these consolidated financial statements in conformity with IFRS requires management to make judgements, estimates and assumptions that affect the application of accounting policies and the reported amounts of certain assets, liabilities, revenues and expenses. Actual results may differ from these estimates. Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognized, on a prospective basis, in the period in which the estimates are revised. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 36 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 2. Basis of Preparation (continued): (d) Use of estimates and judgements (continued): Significant areas requiring the use of management estimates relate to the determination of restructuring, reforestation, road deactivation, environmental and tax obligations, share-based compensation, recoverability of assets, rates for depreciation, depletion and amortization, fair values of assets and liabilities acquired in business combinations and impairment analysis of non-financial assets including goodwill. Information about the use of management estimates that have the most significant effect on the amounts recognized in the consolidated financial statements is included in the following notes: Note 3(e) Inventories Note 3(i) Impairment of non-financial assets Note 3(j) Reforestation and other decommissioning provisions Note 3(m) Cash-settled share based compensation Note 9 Roads and bridges, timber tenures, other intangible assets and goodwill Note 12 Reforestation liability 3. Significant accounting policies: The accounting policies set out below have been applied consistently to all periods presented in these consolidated financial statements. (a) Basis of consolidation: These consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries from their respective dates of acquisition or incorporation. All intercompany balances, including unrealized income and expenses arising from intercompany transactions have been eliminated upon consolidation. The Company measures goodwill in business acquisitions at the acquisition date as the fair value of the consideration transferred including any non-controlling interest less the fair value of the identifiable assets acquired and liabilities assumed, all measured as of the acquisition date. When the excess is negative, a bargain purchase gain is recognized immediately in Net earnings. Transaction costs, other than those associated with the issue of debt or equity securities, are expensed as incurred. (b) Foreign currency: (i) Foreign currency transactions: Transactions in foreign currencies are translated to the functional currency of the respective entity at transaction date exchange rates. Monetary assets and liabilities denominated in foreign currencies at the reporting date are revalued using the exchange rate on that date. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 37 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (b) Foreign currency (continued): (i) Foreign currency transactions (continued): Foreign exchange differences arising on revaluation are recognized in Net earnings. Where revaluations relate to trade accounts receivable those foreign exchange differences are adjusted to Sales in the Statement of Earnings; where revaluations relate to trade accounts payable those foreign exchange differences are adjusted to Production costs in the Statement of Earnings. (ii) Foreign operations: Certain of the Company’s subsidiaries have a functional currency of the U.S. dollar. Revenues and expenses of such foreign operations are translated to Canadian dollars at the transaction date exchange rate, or at average rates for the period which approximate the transaction date, as appropriate. Assets and liabilities are translated into Canadian dollars at exchange rates in effect at the reporting date. Related foreign currency translation differences are recognized in Other comprehensive income, and recorded to the Translation reserve in Equity. Foreign currency translation differences residing in the Translation reserve will be released to Net earnings upon the reduction of the net investment in foreign operations through the sale, reduction or substantial liquidation of an investment position. Monetary receivables from a foreign operation, the settlement of which are neither planned nor likely in the foreseeable future are considered to form part of the net investment in the foreign operation. Related foreign exchange translation differences are recognized in Other comprehensive income and presented in the Translation reserve in Equity. (iii) Hedge of net investment in a foreign operation: Financial liabilities denominated in foreign currencies are from time to time designated as a hedge of the Company’s investments in foreign operations. Foreign currency differences arising on the revaluation of a financial liability designated as a hedge of a net investment in a foreign operation are recognized in Foreign currency translation differences in Other comprehensive income to the extent that the hedge is effective, and presented in the Translation reserve in Equity. To the extent that the hedge is ineffective, such differences are recognized in Other foreign exchange gain (loss) in Net earnings. When the Company terminates the designation of the hedging relationship and discontinues its use of hedge accounting, any accumulated unrealized foreign exchange differences remaining in the Translation reserve and subsequent unrealized foreign exchange differences are recorded in Other foreign exchange gain (loss) in Net earnings. When the hedged net investment is disposed of, the relevant amount in the Translation reserve is reclassified to Net earnings. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 38 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (c) Financial instruments: (i) Non-derivative financial instruments: Non-derivative financial instruments comprise cash and cash equivalents, trade and other receivables, trade accounts payable and accrued liabilities, provisions, and loans and borrowings including long term debt. Cash and cash equivalents and trade and other receivables are designated as loans and receivables and are initially measured at fair value plus any direct transaction costs and thereafter at amortized cost using the effective interest rate method, less any impairment losses. Trade payables and accrued liabilities, provisions, and loans and borrowings including long term debt are designated as other financial liabilities and are initially measured at fair value and thereafter at amortized cost using the effective interest rate method. There are no financial instruments classified as available-for-sale or held-to- maturity. (ii) Derivative financial instruments: The Company at times uses derivative financial instruments for economic hedging purposes in the management of foreign exchange, interest, and commodity price risk. The Company does not utilize derivative financial instruments for trading or speculative purposes. The Company has chosen not to designate its derivative foreign currency exchange forward, collar and option contracts as hedges for accounting purposes. Consequently, these derivative financial instruments, designated as held-for- trading, are carried on the Statement of Financial Position at fair value, with changes in fair value being recorded in Other foreign exchange gain (loss) in Net earnings. The Company at times holds derivative interest rate swaps to hedge its interest rate risk exposures and may designate these financial instruments as the hedging instrument in a cash flow hedge of fluctuations in market interest rates associated with specific drawings under its long term debt. The effective portion of changes in the fair value of the derivative are recognized in Other comprehensive income and presented in the Hedging reserve in Equity. Any ineffective portion of changes in the fair value of the derivative is recognized immediately in Net earnings. (iii) Share capital: Common shares are classified as equity. Incremental costs directly attributable to the issuance of common shares and share options are recognized as a deduction from equity, net of any tax effects. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 39 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (d) Cash and cash equivalents: Cash and cash equivalents consist of cash on deposit and short-term interest bearing securities with maturities at their purchase date of three months or less. (e) Inventories: Lumber inventories are valued at the lower of cost and net realizable value on a specific product basis. Cost is determined as the weighted average of cost of production on a three month rolling average, lagged by one month and adjusted for abnormal costs, as in the case of a curtailment. Net realizable value is the estimated selling price in the normal course of business, less estimated costs of completion and selling expenses. Log inventories are valued at the lower of cost and net realizable value on a specific boom basis where logs are boomed, or in aggregate on a species and sort basis where the logs are not boomed. Cost for internally produced log inventories is determined as the weighted average cost of logging on a twelve month rolling average, lagged by one month, for the B.C. Coast and on a three month rolling average for the B.C. Interior, and adjusted for abnormal costs, as in the case of a curtailment. Log inventories purchased from external sources are costed at acquisition cost. Net realizable value of logs is based on either market replacement cost or, for logs designated for lumber processing, on estimated net realizable value less estimated costs of completion and selling expenses. Other inventories consist primarily of supplies which are recorded at lower of cost and replacement cost, which approximates net realizable value. (f) Property, plant and equipment: Property, plant and equipment are recorded at cost less accumulated depreciation and impairment losses. Depreciation on machinery and equipment is provided on the basis of hours operated relative to the asset’s lifetime estimated operating hours. Depreciation on all other assets is provided on a straight-line basis (ranging from 2.5% to 33% per year) over the estimated useful lives of the assets. Depreciation methods, useful lives and residual values are reviewed annually and adjusted, if appropriate. Maintenance costs are recorded as expenses as incurred, with the exception of programs that extend the useful life of an asset or increase its value, which are capitalized. Borrowing costs directly attributable to the acquisition, construction or production of qualifying assets, being those requiring a substantial period of time prior to availability for their intended use, are capitalized. (g) Logging roads and bridges: Logging roads and bridges are recorded at cost less accumulated amortization and impairment losses. Road and bridge amortization is computed on the basis of timber cut relative to available timber. Amortization methods, useful lives and residual values are reviewed annually and adjusted, if appropriate. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 40 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (h) Intangible assets: (i) Timber licences: Timber licences are recorded at cost less accumulated depletion and impairment losses. Timber licence depletion is computed on the basis of timber cut relative to available timber. Tree farm and forest licences are depleted on a straight-line basis over 40 years. Amortization rates are reviewed annually to ensure they are aligned with estimates of remaining economic useful lives of the associated intangible assets. (ii) Goodwill: Goodwill is measured at cost less accumulated impairment losses. See Note 3(a) for the policy on measurement of goodwill at initial recognition. (iii) Other intangible assets: Other intangible assets are recorded at cost less accumulated amortization and impairment losses. Amortization on other intangible assets is provided on a straight-line basis ranging from five to ten years, being the estimated useful lives of the assets. Amortization rates are reviewed annually to ensure they are aligned with estimates of remaining economic useful lives of the associated intangible assets. (i) Impairment of non-financial assets: The Company’s non-financial assets are reviewed for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable. Impairment tests are carried out annually for goodwill. External indicators of impairment include adverse changes in expected future prices, costs and other market and economic factors. Internal indicators include changes in the expected useful life of an asset or changes to the planned capacity of an asset. An impairment loss is charged to Net earnings if an asset’s carrying amount exceeds its recoverable amount. The recoverable amount is calculated based on the higher of its fair value less direct costs to sell and its value in use. Fair value is determined as the amount that would be obtained from the sale, net of direct selling costs, of the asset in an arm’s length transaction between knowledgeable and willing parties. Value in use is determined as the present value of the estimated future cash flows expected to arise from the continued use of the asset in its present form and its eventual disposal and does not consider future capital enhancements. For purposes of assessing impairment, assets are grouped at the lowest level for which there are separately identifiable cash inflows that are largely independent of the cash inflows from other assets or groups of assets (cash generating units or “CGU”). Goodwill is allocated to CGU’s or groups of CGU’s expected to benefit from the synergies of the combination. Impairment losses recognized for a CGU are first allocated to reduce the carrying amount of goodwill, if any, assigned to the CGU, and then to reduce the carrying amounts of the other assets in the CGU on a pro-rata basis. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 41 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (i) Impairment of non-financial assets (continued): Non-financial assets, other than goodwill, for which an impairment was previously recognized, are reviewed for possible reversal of the impairment at each reporting date. When an impairment loss is reversed, the increased carrying amount of the asset cannot exceed the carrying amount that would have been determined, net of amortization, had the impairment never been recognized. An impairment loss recorded against goodwill is not reversed. (j) Reforestation and other decommissioning provisions: Forestry legislation in British Columbia requires the Company to incur the cost of reforestation on its forest, timber and tree farm licences and to deactivate logging roads once harvesting is complete and access is no longer required. Accordingly, the Company records the fair value of the costs of reforestation and road deactivation in the period in which the timber is cut, with the fair value of the liability determined with reference to the present value of estimated future cash flows. Provisions are measured at the expected value of future cash flows, discounted to their present value and determined according to the probability of alternative estimates of cash flows occurring for each operation. The measurement under IAS 37, Provisions, Contingent Liabilities and Contingent Assets, is based on best estimates and can be based on internal or external costs, depending upon which is most likely. Significant judgements and estimates are involved in forming expectations of future activities and the amount and timing of the associated cash flows. Those expectations are formed based on existing regulatory requirements and the expertise of Registered Professional Foresters and Engineers employed or contracted by the Company. Examples of considerations include the specifics of the areas logged and the treatments prescribed for those areas, as well as the timing and success rates of the planned activities in terms of reforestation; and road structure and terrain for road deactivation. Discount rates reflect the risks specific to the decommissioning provision. Adjustments are made to decommissioning provisions each period for changes in the estimated timing or amount of cash flows, changes in the discount rate and the unwinding of the discount. As such, the discount rate reflects the current risk-free rate given that risks are incorporated into the future cash flow estimates. In periods subsequent to the initial measurement, changes in the liability resulting from the passage of time are recognized as Finance costs and revisions to fair value calculations are recognized as Production costs in Net earnings as they occur. (k) Environmental costs: Environmental expenditures are expensed or capitalized depending upon their future economic benefit. Expenditures to prevent future environmental contamination are capitalized as plant and equipment. Expenditures that relate to an existing condition caused by past operations are expensed. Liabilities are recorded when rehabilitation efforts are likely to occur and the costs can be reasonably estimated. Provisions are measured at the expected value of future cash flows, discounted to their present value and determined according to the probability of alternative estimates of cash flows using a current pre-tax rate that reflects the risks specific to the liability. The unwinding of the discount is recognized as a Finance cost in Net earnings. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 42 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (l) Employee benefits: Defined benefit pension and other post-retirement benefit obligation accruals are estimated using actuarial methods and assumptions, including management’s best estimates of the discount rate, future investment earnings, salary escalation, and health care costs and are calculated using the projected unit credit method. Plan assets are valued at fair value for the purpose of calculating the expected return on plan assets. Actuarial gains and losses arise from actual experience being different from the assumptions, or changes in actuarial assumptions used to determine the defined benefit obligation, and are recognized in Retained earnings through Other comprehensive income in the year in which they occur. Pension expenses for defined contribution plans are limited to the Company’s contribution to the plans in respect of services rendered by employees, as the Company has no legal or constructive obligation to pay further amounts. Plans administered by the government and the industry-wide unionized employees’ pension plan are treated as defined contribution plans. (m) Cash-settled share based compensation: The Company has a Share Appreciation Rights (“SAR”) Plan, a Deferred Share Unit (“DSU”) Plan and a Total Shareholder Return (“TSR”) Plan for directors, officers and certain other eligible employees. The Company uses the fair value method of accounting for obligations under the SAR, DSU and TSR Plans. Compensation expense is recorded for SARs over the vesting period based on the estimated fair value of the SARs at the date of grant. Fair value is measured using a Black-Scholes option pricing model and is adjusted to reflect the number of SARs expected to vest. Compensation expense is recorded for DSUs either at the time of the grant, in the case of DSUs which vest immediately, or over the performance period, in the case of DSUs with deferred vesting, based on the fair value at the date of the grant. Compensation expense is recorded for TSRs over the performance period based on the estimated fair value of the TSRs at the date of the grant. Fair value is measured using a combination of call options which are valued using a Black-Scholes pricing model. The fair value of the SARs, DSUs and TSRs are subsequently measured at each reporting date with any changes in fair value reflected in the Long term incentive compensation expense in Net earnings. Liabilities are recorded in Trade accounts payable and provisions and Provisions and other liabilities on the Statement of Financial Position. (n) Sales revenue: The Company recognizes sales to external customers when the product is shipped and title passes. Sales are recorded on a gross basis, including amounts charged to customers for freight, wharfage and handling costs. Actual costs of export taxes and for freight, wharfage and handling are recorded to Export taxes and Production, respectively, in Net earnings. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 43 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (o) Finance income and costs: Finance income comprises net interest income on funds invested. Finance costs comprise net interest expense on borrowings, the unwinding of the discount on decommissioning provisions, net interest on defined benefit plans, the amortization of prepaid finance costs and other related transaction costs. (p) Income tax: Income tax expense comprises current and deferred income tax. Current and deferred income taxes are recognized in Net earnings except to the extent that they relate to a business combination, or items recognized directly in Equity or in Other comprehensive income. Current tax is the expected tax payable or receivable on the taxable income or loss for the year, using tax rates enacted or substantively enacted at the reporting date, and any adjustment to tax payable in respect of previous years. Deferred income tax is recognized in respect of temporary differences between the carrying amounts of assets and liabilities for accounting purposes and the amounts used for taxation purposes. Deferred income tax is not recognized for the following temporary differences: the initial recognition of assets or liabilities in a transaction that is not a business combination and that affects neither accounting nor taxable profit or loss, and differences relating to investments in subsidiaries and jointly controlled entities to the extent that it is probable that they will not reverse in the foreseeable future. In addition, deferred income tax is not recognized for taxable temporary differences arising on the initial recognition of goodwill. Deferred income tax is measured at the tax rates that are expected to be applied to temporary differences when they reverse, based on the laws that have been enacted or substantively enacted by the reporting date. Deferred income tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets, and they relate to income taxes levied by the same tax authority on the same taxable entity, or on different tax entities, but they intend to settle current tax liabilities and assets on a net basis or their tax assets and liabilities will be realized simultaneously. A deferred income tax asset is recognized for unused tax losses, tax credits and deductible temporary differences, to the extent that it is probable that future taxable profits will be available against which they can be utilized. Deferred income tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the related tax benefit will be realized. (q) Earnings per share: Basic earnings per share is computed by dividing Net earnings by the weighted average number of common shares outstanding during the reporting period. Diluted earnings per share is determined by adjusting the Net earnings and the weighted average number of common shares outstanding during the reporting period for the effects of all dilutive potential common shares, including outstanding share options, if any. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 44 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 3. Significant accounting policies (continued): (r) New standards and interpretations not yet adopted: A number of new standards, and amendments to standards and interpretations, are not yet effective for the year ended December 31, 2014, and have not been applied in preparing these consolidated financial statements. The following pronouncement is considered by the Company to be the most significant of several pronouncements that may affect the financial statements. IFRS 9, Financial Instruments, will replace the multiple classification and measurement models in IAS 39, Financial Instruments: Recognition and Measurement, with a single model that has only two classification categories: amortized cost and fair value. IFRS 9 is effective for annual periods beginning on or after January 1, 2018, with earlier adoption permitted. The Company does not expect this standard to have a significant effect on its financial statements. In May 2014, the International Accounting Standards Board issued IFRS 15, Revenue from Contracts with Customers, which will supercede IAS 18, Revenue, IAS 11, Construction Contracts and related interpretations. The new standard is effective for annual periods beginning on or after January 1, 2017. The Company is in process of assessing the impact, if any, on the financial statements of this new standard. 4. Changes in accounting policy: Effective January 1, 2014, IAS 32, Offsetting Financial Assets and Financial Liabilities, was revised to clarify the requirements relating to the offset of financial assets and financial liabilities and was applied retrospectively. The Company has assessed whether certain of its financial assets and financial liabilities qualify for offset based on the criteria set out in the amendments and concluded that the application of the amendments had no impact on the amounts recognized in the Company’s consolidated financial statements. Effective January 1, 2014, IAS 36, Recoverable Amount Disclosures for Non-Financial Assets, was revised to remove the requirement to disclose the recoverable amount of a CGU to which goodwill or other intangible assets with indefinite useful lives had been allocated when there has been no impairment of reversal of impairment of the related CGU. The application of these amendments had no impact on the disclosures in the Company’s consolidated financial statements. 5. Acquisition: On March 14, 2014, a wholly-owned subsidiary of Interfor acquired all of the outstanding common shares of Tolleson Ilim Lumber Company (“Tolleson”) from Ilim Timber Continental, S.A. (“Ilim”), pursuant to a Share Purchase Agreement for total consideration of $188,545,000. Tolleson, through its wholly-owned subsidiary, owns and operates two sawmills in Perry and Preston, Georgia, and a remanufacturing facility in Perry, Georgia. Subsequent to the acquisition, both Tolleson and its wholly-owned subsidiary were merged into the Company’s wholly-owned subsidiary which had acquired the common shares of Tolleson. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 45 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 5. Acquisition (continued): The acquisition has been accounted for as a business combination and the value of consideration transferred is allocated as follows: Assets acquired: Cash and cash equivalents Other current assets Property, plant and equipment Other intangible assets Goodwill Liabilities assumed: Current liabilities Long term provisions and other liabilities Deferred income taxes Consideration funded by: Current liabilities Operating Line Revolving Term Line Share capital (3,680,000 Common Shares) Note 8 9 9 19 10(a) 10(b) 13(a) $ 2,484 16,790 86,561 22,190 107,419 235,444 (15,929) (6,697) (24,273) $ 188,545 $ 2,086 24,964 99,855 61,640 $ 188,545 As part of the acquisition, the Company entered into a non-competition agreement with Ilim under which Ilim and its associates are prohibited from carrying on various activities within Canada and the U.S. that would be in competition with the Company’s operating activities for a period of five years from the acquisition date. An intangible asset of $22,190,000 was recognized in respect of this non-competition agreement, which will be amortized to expense over its five year term. The goodwill of $107,419,000 recognized in the transaction is calculated as the excess of the purchase consideration transferred over the fair values of the identifiable assets acquired and liabilities assumed. The factors that contribute to the recognition of goodwill include Tolleson's historical cash flows and income levels, reputation in its markets, management team strength, efficiency of operations, synergies with other Interfor-owned sawmills in close proximity, and future cash flows and income growth projections. None of the goodwill is expected to be tax deductible. In conjunction with recognizing a $24,273,000 deferred tax liability in accounting for the acquisition of Tolleson, the Company recognized $19,253,000 of previously unrecognized deferred tax assets related to its U.S. operations. The recognition of these deferred income tax assets is included in the $17,572,000 deferred income tax recovery in Net earnings. Transaction costs of $1,368,000 related to the acquisition have been expensed in Selling and administration expenses in Net earnings. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 46 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 5. Acquisition (continued): Since acquisition, Tolleson contributed sales of $126,067,000 and earnings of $12,016,000 to the Company’s results. If the acquisitions had occurred on January 1, 2014, management estimates that Sales and Net earnings would have been $1,477,716,000 and $39,672,000 respectively. In determining these amounts, management has assumed that the fair value adjustments that arose on the acquisition date would have been the same if the acquisition had occurred on January 1, 2014. In 2013, the Company acquired Rayonier Inc.’s Wood Products Business in Georgia, U.S. for $86,641,000 and the sawmill operations of Keadle Lumber Enterprises, Inc. in Thomaston, Georgia for $41,129,000. The Thomaston sawmill acquisition resulted in the recognition of $10,518,000 in goodwill. 6. Inventories: Logs Lumber Other 2014 2013 $ 71,841 66,798 10,029 $ 89,170 51,449 8,890 $ 148,668 $ 149,509 Inventory expensed in the period includes production costs, depreciation of plant and equipment, and depletion and amortization of timber, roads and other. The inventory write-down to record inventory at the lower of cost and net realizable value at December 31, 2014 was $9,774,000 (2013 - $7,926,000). 7. Other investments and assets: Timber deposits and other investments and deposits Deferred financing fees, net of accumulated amortization $ 2014 809 2,163 $ 2013 1,771 2,189 $ 2,972 $ 3,960 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 47 8. Property, plant and equipment: Cost Note Land Buildings Equipment Equipment Equipment Improvements Machinery and Mobile Computer Site Balance at December 31, 2012 Additions Acquisitions Disposals Transfers Exchange rate movements Balance at December 31, 2013 Additions Acquisitions Disposals Transfers Exchange rate movements Balance at December 31, 2014 $ 35,066 $ 61,496 $ 413,382 $ 15,697 $ 19,047 $ 38,023 $ 5 - 3,479 (80) - 246 - 13,911 (5) 8,906 1,703 - 79,346 (1,129) 14,282 13,432 466 1,568 (707) 1,790 234 1,200 2,739 (162) 452 636 - 3,198 (10) 4,146 652 Projects in Process Other Total 6,192 $ 351 59 (20) 244 61 6,568 $ 595,471 34,813 104,853 (2,123) - 17,184 32,796 553 (10) (29,820) 220 38,711 212 1,930 (106) - 654 750,198 47,224 86,561 (2,462) (159) 35,873 $ 41,401 $ 95,872 $ 644,288 $ 27,891 $ 28,324 $ 56,470 $ 10,574 $ 12,415 $ 917,235 519,313 - 73,368 (1,270) 25,626 27,251 10,307 40,618 - - (39,207) 697 23,912 1,319 1,535 (21) 370 1,209 86,011 382 4,972 (123) 1,141 3,489 19,048 787 2,927 (719) 5,163 685 46,009 2,604 1,824 (208) 4,445 1,796 6,887 1,302 5 (15) 2,303 92 Accumulated Depreciation Buildings Equipment Equipment Equipment Improvements Other Total Machinery and Mobile Computer Site Balance at December 31, 2012 Depreciation Disposals Transfers Exchange rate movements Balance at December 31, 2013 Depreciation Disposals Transfers Impairment Exchange rate movements Balance at December 31, 2014 Net book value at December 31, 2013 December 31, 2014 $ 26,998 $ 169,689 $ 12,155 $ 13,702 $ 18,942 $ 3,483 (3) - 551 31,029 4,684 (102) - 2,996 1,147 28,861 (852) - 4,365 202,063 41,145 (959) 11 16,672 9,513 1,232 (570) - 143 12,960 2,125 (374) - - 293 2,378 (162) (6) 497 16,409 2,934 (14) (6) 7 831 2,867 (5) - 373 22,177 3,687 (208) 11 793 765 $ 39,754 $ 268,445 $ 15,004 $ 20,161 $ 27,225 $ 4,206 385 (20) 6 53 4,630 592 (15) (16) - 77 5,268 $ 245,692 39,206 (1,612) - 5,982 289,268 55,167 (1,672) - 20,468 12,626 $ 375,857 $ 38,711 $ 54,982 $ 317,250 $ 6,088 $ 41,401 56,118 375,843 12,887 7,503 $ 23,832 $ 8,163 29,245 2,257 $ 10,307 $ 460,930 12,415 541,378 5,306 There were no borrowing costs capitalized in 2014 (2013 - $nil). As at December 31, 2014, additions includes $1,698,000 in accrued contract costs (2013 - $3,428,000). Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 48 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 9. Roads and bridges, timber tenures, other intangible assets and goodwill: Cost Note Balance at December 31, 2012 Additions Acquisition Disposals Exchange rate movements Balance at December 31, 2013 Additions Transfers Acquisition Disposals Exchange rate movements 5 Roads and Bridges Timber Licences Other Intangibles $ 52,744 $ 18,676 - (21,624) 130 49,926 26,656 - - (7,461) 279 116,280 $ 14,342 - (1,269) - 129,353 - - - - - 4,778 $ 2,189 - - 106 7,073 2,818 159 22,190 - 1,179 Goodwill 13,955 - 10,518 - 119 24,592 - - 107,419 - 5,862 Balance at December 31, 2014 $ 69,400 $ 129,353 $ 33,419 $ 137,873 Accumulated amortization Roads and Bridges Timber Licences Other Intangibles Goodwill Balance at December 31, 2012 Amortization Disposals Exchange rate movements Balance at December 31, 2013 Amortization Disposals Exchange rate movements $ 35,428 $ 19,152 (20,932) 54 33,702 19,539 (6,280) 195 42,484 $ 4,040 $ 3,392 (867) - 45,009 5,320 - - 517 - 96 4,653 4,053 - 316 877 - - - 877 - - - Balance at December 31, 2014 $ 47,156 $ 50,329 $ 9,022 $ 877 Net book value at December 31, 2013 December 31, 2014 $ 16,224 $ 22,244 84,344 $ 79,024 2,420 $ 24,397 23,715 136,996 For the purpose of impairment testing, goodwill of $13,078,000 and $123,918,000 are attributable to the Coastal Whitewood cash-generating unit (“CWW CGU”) and the U.S. Southeast cash-generating units (“SE CGU’s”), respectively. The recoverable amounts for the goodwill impairment assessments were based on the CGU’s (or groups of CGU’s) value in use and were determined by discounting the future cash flows generated from the continuing use of the units for a period of twenty years. The cash flows were projected based on past experience, actual operating results and the five year business plan in both 2013 and 2014. Due to the cyclical nature of the forest industry, cash flows for a further 15 years were extrapolated based on an average trend year. The recoverable amount of the CWW CGU and the SE CGU’s as at December 31, 2014, and December 31, 2013 were determined to be higher than the related carrying amount and no impairment has been recognized. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 49 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 9. Roads and bridges, timber tenures, other intangible assets and goodwill (continued): Key assumptions used are based on industry sources, including Forest Economic Advisors, LLC and Resources Information Systems Inc., as well as management estimates. These assumptions include lumber and residual chip sales prices, applicable foreign exchange rates, operating rates of the assets, raw material and conversion costs, the level of sales to the U.S. from Canada, the export tax rate and the future capital required to maintain the assets in their current operating condition. A pre-tax discount rate of 16 percent (2013 – 16 percent) was applied in determining the recoverable amounts of each of the CGU’s. The discount rate was estimated with the assistance of external experts, past experience, and the industry average weighted average cost of capital. An inflation rate of 2.0 percent (2013 – 1.2 percent) is applied to the model for years four through twenty. The values assigned to key assumptions represent management’s assessment of future trends in the forest industry and are based on both external sources and internal historical data. 10. Cash and borrowings: 2014 Available line of credit Maximum borrowing available Drawings Outstanding letters of credit included in line utilization 2013 Available line of credit Maximum borrowing available Drawings Outstanding letters of credit included in line utilization Operating Line Revolving Term Line Senior U.S. Secured Operating Line Notes Total $ 65,000 $250,000 $116,010 $ 34,803 $ 465,813 465,813 220,419 116,010 116,010 250,000 104,409 65,000 - 34,803 - Unused portion of line $ 56,363 $ 145,591 $ 8,637 - 1,183 9,820 - - $ 33,620 $ 235,574 $ 65,000 $200,000 $ 53,180 $ 21,272 $ 339,452 339,452 145,479 200,000 90,619 53,180 53,180 21,272 744 65,000 936 7,529 - - 7,529 - - $ 20,528 $ 186,444 Unused portion of line $ 56,535 $ 109,381 $ (a) Operating Line: The Canadian operating line of credit (“Operating Line”) may be drawn in either CAD$ or US$ advances, and bears interest at bank prime plus a margin or, at the Company’s option, at rates for Bankers’ Acceptances or LIBOR based loans plus a margin, and in all cases dependent upon a financial ratio of total debt divided by twelve months’ trailing EBITDA¹. Borrowing levels under the line are subject to a borrowing base calculation dependent on certain accounts receivable and inventories. The Operating Line matures on February 27, 2017. ¹EBITDA represents earnings before interest, taxes, depreciation, depletion, amortization and non-cash asset revaluations. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 50 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 10. Cash and borrowings (continued): (a) Operating Line (continued): The Operating Line is secured by a general security agreement which includes a security interest in all accounts receivable and inventories, charges against timber tenures, and mortgage security on sawmills. The Operating Line is subject to certain financial covenants including a minimum working capital requirement, a maximum ratio of total debt to total capitalization and a minimum net worth calculation. As at December 31, 2014, the Operating Line was drawn by $8,637,000 (2013 - $8,465,000), including outstanding letters of credit. In March, 2014, the Company drew US$22,500,000 under its Operating Line to fund its acquisition in the U.S. (see note 5), which it designated as a hedge against the Company’s investment in its U.S. operations. In April, 2014, the Company transferred this borrowing to the Revolving Term Line facility. The Company recognized unrealized foreign exchange gains of $72,000 (2013 - $nil) in Other comprehensive income in relation to the Operating Line borrowing in 2014. (b) Revolving Term Line: The Revolving Term Line may be drawn in either CAD$ or US$ advances, and bears interest at bank prime plus a margin or, at the Company’s option, at rates for Bankers’ Acceptances or LIBOR based loans plus a margin, and in all cases dependent upon a financial ratio of total debt divided by twelve months’ trailing EBITDA¹. The Revolving Term Line matures on February 27, 2017. The Revolving Term Line is secured by a general security agreement which includes a security interest in all accounts receivable and inventories, charges against timber tenures, and mortgage security on sawmills. The term line is subject to certain financial covenants including a minimum working capital requirement, a maximum ratio of total debt to total capitalization and a minimum net worth calculation. On March 31, 2014, the Company increased the credit available under its Revolving Term Line from $200,000,000 to $250,000,000. All other terms and conditions of this line remained unchanged. In March, 2014, the Company drew US$90,000,000 under its Revolving Term Line to fund its acquisitions in the U.S., which it designated as a hedge against the Company’s investment in its U.S. operations. During the year, the Company repaid US$142,700,000 of drawings under the Revolving Term Line previously designated as a hedge (see note 26(c)). Related cumulative unrealized foreign exchange losses remain in Foreign currency translation differences in Other comprehensive income. As at December 31, 2014, the Revolving Term Line was drawn by US$90,000,000 (2013 – US$85,200,000) revalued at the year-end exchange rate to $104,409,000 (2013 - $90,619,000), being the total drawings under the facility and leaving an unused available line of $145,591,000 (2013 - $109,381,000). ¹EBITDA represents earnings before interest, taxes, depreciation, depletion, amortization and non-cash asset revaluations. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 51 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 10. Cash and borrowings (continued): (b) Revolving Term Line (continued): All outstanding U.S. dollar drawings under the Revolving Term Line have been designated as a hedge against the Company’s investment in its U.S. operations and cumulative unrealized foreign exchange losses of $10,770,000 (2013 – $5,538,000) arising on revaluation of the Revolving Term Line, and from translation of U.S. dollar borrowings designated as hedges and since repaid, were recognized in Foreign currency translation differences in Other comprehensive income. (c) Senior Secured Notes: On June 26, 2013, the Company issued US$50,000,000 of Series A Senior Secured Notes, bearing interest at 4.33%. On December 17, 2014, the Company issued US$50,000,000 of Series B Senior Secured Notes (together with the Series A Senior Secured Notes, the “Senior Secured Notes”), bearing interest at 4.02%. The Senior Secured Notes are subject to certain financial covenants including a minimum working capital requirement, a maximum ratio of total debt to total capitalization and a minimum net worth calculation. Payments of US$33,334,000 are required on each of June 26, 2021 and 2022, with the balance due on June 26, 2023. As at December 31, 2014, Senior Secured Notes of US$100,000,000 were outstanding (2013 – US$50,000,000) and revalued at the quarter-end exchange rate to $116,010,000 (2013 - $53,180,000). The Senior Secured Notes have been designated as a hedge against the Company’s investment in its U.S. operations and unrealized foreign exchange losses of $4,705,000 (2013 –$635,000) arising on their revaluation were recognized in Foreign currency translation differences in Other comprehensive income for the year ended December 31, 2014. (d) U.S. Operating Line: The U.S. Operating Line is secured by accounts receivable and inventories of wholly- owned subsidiary, Interfor U.S. Inc., and matures on April 28, 2015. The U.S. Operating Line is subject to a minimum tangible net worth convenant, with borrowing levels subject to a collateral calculation dependent upon certain accounts receivable and inventories. On March 21, 2014, the Company increased the credit available under this agreement from US$20,000,000 to US$30,000,000. As at December 31, 2014, the U.S. Operating Line was drawn by US$1,020,000, including outstanding letters of credit (2013 – US$700,000), revalued at the year-end exchange rate to $1,183,000 (2013 –$744,000), with cumulative unrealized foreign exchange losses of $115,000 (2013 –$67,000) recognized in Foreign currency translation differences in Other comprehensive income. Minimum principal amounts due on long term debt are follows: 2015 2016 2017 2018 2019 Thereafter $ - - 104,409 - - 116,010 $ 220,419 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 52 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 10. Cash and borrowings (continued): (e) Cash and cash equivalents: At December 31, 2014, the Company’s cash balances are restricted by contractor holdback payments of $15,000 (2013 - $168,000). 11. Provisions and other liabilities: 2014 Note Current Non-current 11(a), 18 Restructuring 11(a) Road deactivation Environmental 11(a) Cash-settled share based compensation 11(b) 11(c) 11(d) Storm damage remediation funds 11(e) 11(f) Air permit contingent payment Retained compensation liabilities 11(g) Other SAR Plan TSR Plan DSU Plan $ 627 406 56 12,450 10,614 763 224 8,121 7,193 1,175 $ 1,498 3,645 772 $ 2,494 5,059 10,614 310 - 382 416 Total 2,125 4,051 828 14,944 15,673 11,377 534 8,121 7,575 1,591 $ 41,629 $ 25,190 $ 66,819 2013 Note Current Non-current 11(a), 18 Restructuring 11(a) Road deactivation Environmental 11(a) Cash-settled share based compensation 11(b) 11(c) 11(d) Storm damage remediation funds 11(e) Air permit contingent payment 5, 11(f) Other SAR Plan TSR Plan DSU Plan $ 506 659 73 8,047 5,613 243 228 - 1,021 $ 24 3,257 719 1,987 5,243 6,147 349 7,445 505 $ Total 530 3,916 792 10,034 10,856 6,390 577 7,445 1,526 $ 16,390 $ 25,676 $ 42,066 The current portion of provisions and other liabilities is included in Trade accounts payable and provisions in the Statements of Financial Position. (a) Provisions: Forestry legislation in British Columbia requires the Company to deactivate logging roads once harvesting is complete and access is no longer required. Accordingly, the Company records the fair value of the costs of road deactivation in the period in which the timber is harvested, with the fair value of the liability determined with reference to the present value of estimated future cash flows. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 53 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 11. Provisions and other liabilities (continued): (a) Provisions (continued): Environmental provisions are made when rehabilitation efforts are likely to occur and the costs can be reasonably estimated. The environmental provision relates primarily to obligations of the Castlegar sawmill. Provisions are measured at the expected value of future cash flows, discounted to their present value and determined according to the probability of alternative estimates of cash flows using a current pre-tax discount rate that reflects the risks specific to the liability. The unwinding of the discount is recognized as a Finance cost in Net earnings. Balance at December 31, 2012 $ 457 $ 4,007 $ 832 Note Restructuring Road deactivation Environmental Provisions made during year Liabilities assumed with 18 timber acquisition Expenditures made during year Reversal of provision during year Unwind of discount Changes in estimated future expenditures Balance at December 31, 2013 371 302 (600) - - - 530 Provisions made during year Expenditures made during year Unwind of discount Changes in estimated future expenditures Exchange rate movements 18 3,248 (1,810) - - 157 451 95 (357) (170) 68 (178) 3,916 628 (103) 83 (473) - - - (11) - 13 (42) 792 - (2) 15 23 - Balance at December 31, 2014 $ 2,125 $ 4,051 $ 828 (b) Share Appreciation Rights Plan: Awards under the SAR Plan have been granted to directors, officers and certain employees of the Company. The vesting of SARs occurs at a rate of 40% two years after granting and 20% per annum thereafter. SARs expire ten years after the date of grant. The SAR Plan uses notional units that are valued based on the Company’s Common Share price on the Toronto Stock Exchange. The units are exercisable for cash and recorded as liabilities. Under the SAR Plan, awards will be expensed over the vesting periods based on the estimated fair value of the SARs at the date of grant. Fair value is measured using a Black-Scholes option pricing model and is adjusted to reflect the number of SARs expected to vest. Fair value of the SARs is subsequently measured at each reporting date with any change in fair value resulting in a change in the measure of the compensation for the award, which is amortized over the remaining vesting periods. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 54 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 11. Provisions and other liabilities (continued): (b) Share Appreciation Rights Plan (continued): Details of the Company’s SAR Plan for the years ended December 31, 2014 and 2013 are as follows: 2014 Weighted average strike price Units Outstanding, beginning of year 1,410,850 147,403 Granted (416,300) Exercised (28,000) Expired or cancelled $ 5.29 17.43 5.19 5.12 2013 Weighted average strike price $ 5.29 9.18 5.97 6.38 Units 1,898,710 255,000 (666,000) (76,860) Outstanding, end of year 1,113,953 $ 7.35 1,410,850 $ 5.62 Units exercisable, end of year 427,350 $ 4.37 572,350 $ 5.03 Weighted average fair value assumptions for grants made in 2014 and 2013 are as follows: Risk-free interest rate Expected life Annualized volatility Dividend rate Termination rate Grant date fair value 2014 2.0% 8.2 years 45% 0% 12% $9.06 2013 1.7% 8.2 years 44% 0% 12% $4.66 Details of units outstanding under the SAR Plan at December 31, 2014 are as follows: Number outstanding, Strike December 31, 2014 price $1.38-$4.64 324,050 $4.77-$5.40 187,900 $6.01-$7.09 184,100 $8.02-$17.43 417,903 Units outstanding Weighted average Weighted average strike price remaining unit life (yrs) 5.3 4.2 4.8 7.2 $ 3.45 4.87 6.14 12.02 Units exercisable Number exercisable, December 31, 2014 173,250 140,900 87,700 25,500 Weighted average strike price $ 2.42 4.89 6.29 8.02 1,113,953 $ 7.35 427,350 $ 4.37 The Company recorded a Long term incentive compensation expense in respect of the SAR Plan of $9,210,000 (2013 – $6,963,000) for the year ended December 31, 2014. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 55 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 11. Provisions and other liabilities (continued): (c) Total Shareholder Return Plan: Under terms of the TSR Plan, a participant will receive a target number of performance share units (“PSUs”) based on a target award divided by the value of the Company’s Common Shares at the effective date of the grant. The number of PSUs which will ultimately vest will be in a range from 50% to 150% of the original grant based on total shareholder return over a three year performance period. The number of PSU’s outstanding at December 31, 2014 and 2013 are as follows: Outstanding, beginning of year Granted Matured Cancelled 2014 872,699 171,730 (326,961) (8,254) 2013 662,951 209,748 - - Outstanding, end of year 709,214 872,699 Compensation expense is recorded for the TSR Plan over the performance period based on the estimated fair value of the TSR Plan payable at the date of the grant. The fair value of obligations under the TSR Plan is subsequently measured at each reporting date with any changes in fair value reflected in Long term incentive compensation expense in Net earnings. Fair value of the TSR Plan is measured using a combination of call options which are valued using a Black-Sholes pricing model with weighted average assumptions for grants as follows: Risk-free interest rate Expected life Annualized volatility Dividend rate Termination rate Grant date fair value 2014 2013 1.4% 3 years 47% to 56% 0.00% 0.00% $87,316 1.5% 3 years 46% to 56% 0.00% 0.00% $1,509 The Company recorded Long term incentive compensation expense under the TSR Plan of $10,429,000 (2013 – $9,223,000) for the year ended December 31, 2014. (d) Deferred Share Unit Plan: The Company’s directors and certain officers participate in the DSU Plan. The DSU Plan, which allows for immediate or deferred vesting, is intended to provide a better link between share performance and compensation for the participants, in that DSUs either increase or decrease in value in a direct relationship with the market price of the Company’s Common Shares. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 56 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 11. Provisions and other liabilities (continued): (d) Deferred Share Unit Plan (continued): Participants in the TSR Plan may elect, subject to the approval of the Company’s Board of Directors, to receive their award in DSUs at the end of any performance period. DSUs may also be granted directly to directors or officers of the Company at the discretion of the Board and Directors, who may also elect to take DSUs as payment of their annual retainer. The number of DSUs outstanding at December 31, 2014 and 2013 are as follows: 2014 2013 Outstanding, beginning of year 498,593 70,656 Granted¹ (18,000) Exercised Units Average unit value $13.48 15.29 21.51 Units 504,825 87,472 (93,704) Average unit value $ 8.09 10.80 11.64 Outstanding, end of year 551,249 $21.27 498,593 $13.48 Changes to the market value of the Company’s Common Shares subsequent to issuance of awards will result in adjustments to the compensation accrual and Long term incentive compensation expense in Net earnings. The Company recorded an expense of $4,890,000 (2013 – $2,752,000) for the year ended December 31, 2014 in respect of the DSU Plan, of which $4,294,000 was recorded in Long term compensation expense and $596,000 (2013 - $302,000), related to payment for director’s fees, was recorded in Selling and administration expense. ¹Fair value at the date of the grants. (e) Storm damage remediation funds: In 2011, the Company settled with its insurers for recovery of certain losses relating to storm damage suffered in 2010. An amount of $1,576,000 was set up as a provision for future remediation on roads and bridges. Under the terms of the insurance settlement, the insurance proceeds must be used for remediation. As at December 31, 2014, $534,000 (2013 - $577,000) of this provision remains unspent. (f) Air permit contingent payment: Upon acquisition of the Thomaston sawmill operations from Keadle Lumber Enterprises Inc. in 2013, the Company agreed to pay additional consideration of US$7,000,000, contingent upon receipt of an upgrade to the air permit which will allow the Company to operate a second shift. Approval was received on February 28, 2014, with the payment to be made on February 27, 2015. The liability, revalued at the year-end exchange rate to $8,121,000 (2013 - $7,445,000), is included in Trade accounts payable and provisions as at December 31, 2014. (g) Retained compensation liabilities: Upon acquisition of the Tolleson sawmills on March 17, 2014, the Company assumed certain incentive payments payable to certain senior management over a four year period. The liability of US$6,530,000 was revalued at the year-end exchange rate to $7,575,000 (2013 - $nil). Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 57 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 12. Reforestation liability: The Company has an obligation to reforest areas harvested under various timber rights. The obligation is incurred as logging occurs and the fair value of the liability for reforestation is determined with reference to the present value of estimated future cash flows required to settle the obligation. Changes in the reforestation liability for the years ended December 31 are as follows: Reforestation liability, beginning of year Reforestation expense on current logging and market logging agreements Liabilities assumed with timber acquisition Reforestation expenditures Unwind of discount Changes in estimated future reforestation expenditures Consisting of: Current reforestation liability Long term reforestation liability 2014 2013 $ 32,416 $ 28,485 11,264 - (11,770) 529 457 13,283 2,279 (11,341) 441 (731) $ 32,896 $ 32,416 $ 9,797 23,099 $ 11,754 20,662 $ 32,896 $ 32,416 The total undiscounted amount of the estimated future expenditures required to settle the reforestation obligation, adjusted for inflation, at December 31, 2014 is $34,628,000 (2013 - $35,060,000). The reforestation expenditures are expected to occur over the next one to fifteen years and have been discounted at a long term risk-free interest rate of 2% (2013 – 3%). Reforestation expense resulting from obligations arising from current logging are included in Production costs for the year and expense related to the unwinding of the discount is included in Finance costs. 13. Share capital: (a) Share transactions: Authorized capital at December 31, 2014 consists of: • 150,000,000 Common Shares without par value; and • 5,000,000 Preference Shares without par value. On May 6, 2014, the Company eliminated its 1,700,000 authorized Class B Common Shares (“Class B”), known as Multiple Voting Shares, re-designated its Class A Subordinate Voting Shares (“Class A”) as Common Shares, and increased its authorized Common Shares by 50,000,000 shares to 150,000,000 shares. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 58 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 13. Share capital (continued): (a) Share transactions (continued): Share transactions during 2014 and 2013 were as follows: Issued and Fully Paid Balance, December 31, 2012 Share issued for cash, net of share issue expenses Class B shares converted to Common shares Balance, December 31, 2013 Shares issued in business combination (see note 5) Balance, December 31, 2014 Number Common 54,847,176 Class B Total 1,015,779 55,862,955 Amount $ 346,365 7,187,500 - 7,187,500 82,358 1,015,779 63,050,455 (1,015,779) - - 63,050,455 - 428,723 3,680,000 66,730,455 - 3,680,000 - 66,730,455 61,640 $ 490,363 On August 23, 2013, the Company’s controlling shareholder, Sauder Industries Limited (“SIL”) exercised its right under the Company’s Articles to exchange its Class B Shares for Common Shares on a share for share basis without any cash or non-cash consideration. As a result of the exchange by SIL, all remaining Class B Shares were automatically converted to Common Shares. On September 30, 2013, the Company closed a public offering of 7,187,500 Common Shares at a price of $12.00 per share for gross proceeds of $86,250,000 less transaction costs of $3,892,000 to net cash proceeds of $82,358,000. Proceeds were used to fund completion of capital projects to increase the operational efficiency of, and support higher operating rates from, the Company’s assets. Initially, a portion of the proceeds was used to reduce the Company’s debt levels. On March 14, 2014, the Company issued 3,680,000 Common Shares to partially fund the acquisition of Tolleson (see note 5). There were no changes to contributed surplus in 2014 or 2013. At December 31, 2014, 1,631,740 Common Shares are reserved for possible future issuance pursuant to the share option plan. (b) Share option plan: The Company has an employee share option plan for its key employees and directors. The vesting of the options occurs at a rate of 40% two years after granting and 20% per annum thereafter. Options expire ten years after the date of the grant. There were no options outstanding at December 31, 2014 and 2013. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 59 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 14. Depreciation, depletion and amortization: Depreciation, depletion and amortization allocated by function are as follows: Production Selling and administration 15. Personnel expenses: 2014 2013 $ 79,359 4,720 $ 61,300 967 $ 84,079 $ 62,267 Note 2014 2013 Wages and salaries Government administered pensions and unemployment insurance Workers’ compensation insurance Contributions to defined contribution plans Expenses related to defined benefit plans Cash-settled share based payment transactions and other long term compensation expense Medical, dental, group insurance and other 22 22 11 16. Finance costs: Recognized in Net earnings: Interest on borrowing Net interest on defined benefit plans Reclassification of loss in fair value of interest rate swap from Other comprehensive income Unwind of discount on provisions Amortization of deferred finance costs Recognized in Other comprehensive income: $ 178,902 $ 133,795 10,054 5,046 9,543 1,270 23,933 16,446 6,601 3,392 5,789 1,183 18,841 11,046 $ 245,194 $ 180,647 2014 2013 $ (7,568) 79 $ (7,460) (210) - (627) (799) (58) (522) (819) $ (8,915) $ (9,069) 2014 2013 Effective portion of changes in fair value of interest rate swap $ (34) $ 241 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 60 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 17. Other income (expense): Gain (loss) on disposal of surplus equipment, licences and roads $ Gain on lumber futures trading 2014 (46) 9 $ 2013 484 118 $ (37) $ 602 18. Restructuring costs: Write down of plant and equipment Severance Onerous contract Other Note 8 11 11 2014 $ 20,468 1,575 1,673 413 $ 2013 - 371 - - $ 24,129 $ 371 On June 27, 2014, the Company curtailed its Beaver-Forks operation, located on the Olympic Peninsula in Washington. As a result, in 2014 the Company recorded provisions for severance, remediation, and an onerous contract totaling $2,362,000, an impairment charge of $20,468,000 on the plant and equipment to reduce the carrying value of these assets to estimated fair values, partially offset by a deferred income tax recovery of $8,532,000. The Company announced the permanent closure of the Beaver-Forks operation on July 31, 2014. The Company also recorded other severance costs of $886,000. 19. Income taxes: Income tax expense is as follows: Current tax expense: Current year Adjustments for prior periods Deferred income tax expense (recovery): Origination and reversal of temporary differences Changes in tax rates Change in unrecognized deferred income tax assets 2014 2013 $ 1,281 61 1,342 $ 434 29 463 3,330 - (20,902) (17,572) 13,273 (529) (12,652) 92 $ (16,230) $ 555 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 61 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 19. Income taxes (continued): Income tax expense (recovery) recognized in Other comprehensive income is as follows: Loss (gain) on hedge of net investment in foreign operation 2014 - - $ $ 2013 212 212 $ $ The reconciliation of income taxes at the statutory rate to the income tax expense (recovery) is as follows: Income tax expense at the statutory rate of 26.00% (2013 – 25.75%) Benefits of previously unrecognized deferred income tax assets Entities with different tax rates and foreign rate adjustments Change in future tax rates and statutory and tax recovery rate difference Other 2014 2013 $ 6,360 (20,902) (639) $ 11,019 (12,652) 2,618 - (1,049) (529) 99 $ (16,230) $ 555 The statutory tax rate increased by 0.25% as a result of changes to the B.C. income tax rate enacted in 2013. Unrecognized deferred income taxes: The Company has unrecognized deferred income tax assets in relation to certain deductible temporary differences and unused tax losses that are available to carry forward against future taxable income. The Company’s Canadian non-capital loss carry- forwards and U.S. net operating loss carry-forwards total approximately $249,000,000 (2013 - $276,000,000), expire between 2023 and 2033, and are available to reduce future taxable income. Although the Company expects to realize the full benefit of the loss carry-forwards and other deferred income tax assets, due to the cyclical nature of the wood products industry and the economic conditions over the past several years, the Company has not recognized the benefit of its deferred income tax assets in excess of its deferred income tax liabilities in respect of Canadian operations, except in limited circumstances. Deferred income tax assets are not recognized in respect of the following: Losses carried forward Deductible temporary differences 2014 $ 25,119 3,903 2013 $ 80,592 2,561 $ 29,022 $ 83,153 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 62 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 19. Income taxes (continued): Recognized deferred income taxes: December 31, 2014 Deferred income tax assets Opening Balance Recognized in Expense Recognized in Other Acquired in Business Income (loss) Combination Income Tax Comprehensive Ending Balance Losses Reserves Tax credits Defined benefit plan actuarial losses Share issuance costs Other Deferred income tax liabilities Capital assets Loss (gain) on hedge of net investment in foreign operation $ 59,904 15,242 955 $ 12,400 3,093 - $ 692 694 1,252 (78,521) - - 1,474 605 - - - - - - - $ - $ 72,304 24,579 955 6,244 - - - (188) 692 694 2,538 (30,329) (108,245) - - (176) - (176) Total $ 218 $ 17,572 $ (176) $ (24,273) $ (6,659) December 31, 2013 Deferred income tax assets Opening Balance Recognized in Expense Recognized in Other Acquired in Business Income (loss) Combination Income Tax Comprehensive Ending Balance Losses Reserves Tax credits Defined benefit plan actuarial losses Share issuance costs Other Deferred income tax liabilities Capital assets Loss (gain) on hedge of net investment in foreign operation $ 52,471 12,394 955 $ 7,433 2,848 - $ 680 668 1,523 12 26 (271) (68,331) (10,190) $ - - - - - - - - $ 59,904 15,242 - 955 - - - - 692 694 1,252 - (78,521) (262) 50 212 - - Total $ 98 $ (92) $ 212 $ - $ 218 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 63 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 20. Commitments and contingencies: (a) Operating leases and contractual obligations: The Company is obligated under various operating leases and contracts requiring minimum annual payments in each of the next five years as follows: 2015 2016 2017 2018 2019 $ 24,620 6,220 3,820 2,350 2,160 (b) Surety Performance Bonds: The Company has posted $21,129,000 in surety performance bonds, with various expiry dates extending through December, 2020. (c) Other contingencies: The Company is subject to a number of claims arising in the normal course of business in respect of which either an adequate provision has been made or for which no material liability is expected. 21. Net earnings per share: Net earnings per share is based on the earnings attributable to shareholders and a weighted average number of Common Shares outstanding for the year. The reconciliation of the numerator and denominator is determined as follows: 2014 Weighted average Net number of earnings Shares Per share 2013 Weighted average Net number of Shares earnings Per share Issued Shares at January 1 Effect of Shares issued on: September 30, 2013 March 14, 2014 Basic and diluted earnings (loss) per share $ 40,690 63,050 - 2,955 55,863 1,831 - 66,005 $ 0.62 $ 42,239 57,694 $ 0.73 There were no share options outstanding at December 31, 2014 (2013 – nil). 22. Employee future benefits and other post-retirement plans: The Company maintains a number of savings and retirement plans that are available to employees that meet certain eligibility requirements. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 64 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 22. Employee future benefits and other post-retirement plans (continued): (a) Defined contribution plans: In Canada, salaried employees of the Company are provided with the opportunity to make voluntary contributions to a Registered Retirement Savings Plan (“RRSP”) based on a percentage of an employee’s earnings. The Company matches employees’ RRSP contributions with contributions to a Deferred Profit Sharing Plan (“DPSP”) with the employee’s future retirement benefits based on these contributions along with investment earnings on the contributions. For the DPSP, the Company’s funding obligations are satisfied upon making cash contributions to an employee’s account. For 2014, the pension expense for this plan is equal to the Company’s contribution of $2,649,000 (2013 - $1,324,000). Certain eligible employees of the Canadian Merchant Services Guild (“CMSG”) are required to make contributions based on a percentage of earnings into a defined contribution plan. For 2014, the pension expense is equal to the Company’s contribution of $49,000 (2013 - $49,000). Employees of Interfor U.S. Inc. and Interfor Cedarprime Inc., the Company’s wholly-owned U.S. operating subsidiaries, contribute a percentage of their earnings to a 401(k) plan which the Company matches and which vest immediately. The Company’s funding obligations are satisfied upon making cash contributions to an employee’s account. For 2014, the pension expense for this plan is equal to the Company’s contribution of $2,502,000 (2013 - $1,317,000). (b) Unionized employees’ pension plan: The Company contributes to an industry-wide benefit plan for unionized employees based on a predetermined amount per hour worked by an employee. For 2014, the pension expense for these plans is equal to the Company’s contribution of $3,346,000 (2013 - $2,420,000). As there is insufficient information available to enable the Company to account for this plan as a defined benefit plan, the plan has been accounted for as a defined contribution plan. The Company’s liability is limited to its contributions. (c) Supplementary pension plans: The Company provides supplementary pension benefits to certain members of its senior management in the form of a notional extension to the DPSP in Canada and the 401(k) plan in the U.S. These commitments are not funded but are fully accrued by the Company, with a portion of the commitments being secured by irrevocable letters of credit. During 2014 the Company recorded an expense of $792,000 (2013 - $679,000) in respect of these plans. The amounts accrued for defined contribution commitments is $5,481,000 (2013 - $4,926,000). The accrued liabilities of this plan are included in the Company’s Statements of Financial Position as follows: Trade accounts payable and provisions Employee future benefits obligation $ 2014 372 5,109 $ 2013 317 4,609 $ 5,481 $ 4,926 Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 65 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 22. Employee future benefits and other post-retirement plans (continued): (d) Defined benefit plans: The Company and the non-union hourly employees at the Adams Lake operations make contributions to a defined benefit pension plan that provides pension benefits upon retirement. The plan entitles a retired employee to receive monthly payments based on a schedule of defined benefit accruals for different periods of service. The Company makes contributions to a defined benefit pension plan that provides pension benefits to certain eligible employees of the CMSG upon retirement. The plan provides a retired employee a monthly payment based on a percentage of their average earnings at retirement, and their years of service. In addition, the Company provides post-retirement medical and life insurance benefits to certain eligible CMSG retirees. The Company maintains a non-contributory defined benefit pension plan for a former senior executive. The Company made contributions to a defined benefit pension plan that provided pension benefits to the eligible employees of wholly-owned subsidiary Seaboard Shipping Company Limited (“SSCL”) upon retirement. The plan provided a retired employee a monthly payment based on a percentage of their final average salary at retirement, and their years of service. Effective December 31, 2013, the plan was terminated and all plan benefits were settled with either the purchase of annuities from an insurance company on November 28, 2014 or via lump sum payments. In addition, the Company provides post retirement life insurance benefits to eligible SSCL retirees. Specified individuals at SSCL also receive a supplemental pension upon retirement based on a percentage of final average earnings at retirement, and years of service. The Company measures its defined benefit obligations and the fair value of plan assets for accounting purposes as at December 31 of each year. The most recent and the next scheduled actuarial valuations for funding purposes for the significant pension plans are: Adams Lake Pension Plan CMSG Pension Plan December 31, 2013 December 31, 2013 December 31, 2016 December 31, 2016 Most Recent Valuation Next Scheduled Valuation The significant pension plans are subject to the statutory requirements (including minimum funding requirements) of their respective jurisdictions and the Income Tax Act. Each plan’s pace of funding is determined by the Company, subject to the statutory minimums and maximums. In 2014, the Company paid contributions of $1,333,000, and in lieu of making cash special payments to fund certain deficits, posted letters of credits totaling $2,376,000. In 2015, the Company expects to pay contributions of $739,000 to its defined benefit plans, and hold a total of $2,376,000 of letters of credit. The Company has determined that, in accordance with statutory requirements of the plans (such as minimum funding requirements), the present value of refunds or reductions in future contributions for all plans is not lower than the balance of the total fair value of the plan assets less the total present value of obligations. The settlement of the SSCL Plan resulted in a change in the effect of the asset ceiling, excluding interest, of $700,000. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 66 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 22. Employee future benefits and other post-retirement plans (continued): (d) Defined benefit plans (continued): The following summarizes the pension and other post-retirement obligations: Pension Benefits 2014 Other Post-retirement Benefits 2013 2014 2013 Defined benefit obligation: $ Beginning of year Service cost Employee contributions Interest cost Benefit payments Past service cost (settlements) Actuarial loss (gain) due to: 53,178 $ 746 369 2,430 (2,839) (186) 54,812 $ 716 342 2,272 (3,222) - 1,545 $ 35 - 72 (70) - Demographic assumptions Financial assumptions Experience adjustment Settlements 798 5,422 165 (11,354) 1,043 (3,390) 605 - 29 89 - - 1,833 45 - 78 (87) (17) 28 (1) (334) - End of year $ 48,729 $ 53,178 $ 1,700 $ 1,545 Plan assets: Beginning of year Interest on plan assets Employer contributions Employee contributions Benefit payments Administration costs Actuarial gain Settlements $ 56,882 $ 51,897 $ 2,595 1,263 369 (2,839) (374) 4,395 (11,716) 2,139 1,471 342 (3,222) (228) 4,483 - - $ - 70 - (70) - - - End of year $ 50,575 $ 56,882 $ - $ Asset ceiling: Beginning of year Interest effect Impact of settlements $ (700) $ (32) 732 - $ - (700) - $ - - End of year $ - $ (700) $ - $ - - 87 - (87) - - - - - - - - Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 67 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 22. Employee future benefits and other post-retirement plans (continued): (d) Defined benefit plans (continued): The following summarizes the balances recognized on the Statements of Financial Position: Pension Benefits 2014 Other Post-retirement Benefits 2013 2014 2013 Fair value of plan assets Present value of unfunded $ 50,575 $ 56,882 $ - $ - obligations 393 Present value of funded obligations 48,336 1,846 Surplus (deficit) - Effect of asset ceiling limit 414 52,764 3,704 (700) 1,700 - (1,700) - 1,545 - (1,545) - Accrued benefit (obligation) $ 1,846 $ 3,004 $ (1,700) $ (1,545) The following table shows the Company’s net expense recognized in the Statement of Earnings and the actuarial (gains) losses recognized in Retained earnings through Other comprehensive income: Statement of Earnings Production expense Finance (income) costs Restructuring costs Pension Benefits 2014 Other Post-retirement Benefits 2013 2014 2013 $ 1,120 $ (133) 176 944 $ 133 - 35 $ 72 - 28 78 - $ 1,163 $ 1,077 $ 107 $ 106 Other comprehensive loss (income) Actuarial losses (gains) Effect of asset ceiling limit $ $ 1,990 $ (732) 1,258 $ (6,225) $ 700 (5,525) $ 118 $ - 118 $ (307) - (307) The Company’s accrued benefit assets (liabilities) are included in the Company’s Statements of Financial Position as follows: Pension Benefits 2014 Other Post-retirement Benefits 2013 2014 2013 Employee future benefits asset $ 2,520 $ 3,980 $ - $ - Trade accounts payable and provisions Employee future benefits obligation (72) (602) (74) (902) (50) (1,650) (50) (1,495) $ 1,846 $ 3,004 $ (1,700) $ (1,545) Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 68 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 22. Employee future benefits and other post-retirement plans (continued): (d) Defined benefit plans (continued): Plan assets consist of: Asset category Investment Funds Canadian Equity Global Money Market Fixed Income Balanced Cash Other Total $ 2014 2013 13,515 $ 14,855 816 19,809 520 66 994 16,630 14,494 28 24,090 527 88 1,025 $ 50,575 $ 56,882 The plan assets held in investment funds are managed by Investment Managers and the fair values of these investments have been determined based on the unit price of the underlying funds. As such, all investment funds are categorized as Level 2 in the fair value hierarchy. Actuarial assumptions used in accounting for the Company maintained benefit plans (expressed as weighted averages) are: Pension Benefits 2014 2013 Other Post-retirement Benefits 2013 2014 Defined benefit obligation as of December 31 Discount rate Compensation increases¹ 3.99% 3.50% Pension expense Discount rate Compensation increases¹ 4.74% 3.50% 4.69% 3.22% 4.19% 3.39% 4.00% - 4.75% - 4.65% - 4.25% - ¹Compensation increases only relate to the CMSG plan and the SSCL plans. For measurement purposes at December 31, 2014, the Company has assumed a 5.85% health care cost trend in 2015 grading down to 4.38% in 2021 (2013 – 5.85% health care cost trend in 2014 grading down to 4.38% in 2021). Effect of 1% decrease in discount rate on defined benefit obligation $ 7,138 $ 234 Pension Benefits Other Post-retirement Benefits The sensitivity to the discount rate has been determined assuming all other assumptions remain unchanged. An increase in the discount rate would have an opposite effect of similar magnitude. The weighted average durations of the defined benefit pension plans and other post-retirement benefit plans is twelve years. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 69 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 22. Employee future benefits and other post-retirement plans (continued): (d) Defined benefit plans (continued): Through its defined benefit pension plans and other post-retirement benefits, the Company is exposed to a number of risks, the most significant of which are detailed below: Asset liability mismatch – The defined benefit plan obligations are calculated using a discount rate set with reference to corporate bond yields. While the Adams Lake and CMSG pension plans hold some fixed income investments, both plans hold a significant proportion of equities, which are expected to outperform corporate bonds in the long term. However, in the short term, there will be volatility in the funded status of the plans. The duration of the invested assets for the SSCL plan is approximately matched by the duration of the liabilities and are all held in fixed income investments. Life expectancy – The majority of obligations are to provide benefits for the life of the member, so increases in life expectancy would result in increased obligations. 23. Related party transactions: (a) Key management personnel compensation: Key management personnel are comprised of the Company’s directors and executive officers. The remuneration of key management personnel, was as follows: Salary and short-term employee benefits Post-employment benefits Other long term benefits Share-based compensation expense $ 2014 6,577 671 - 18,791 $ 2013 4,339 412 (97) 14,016 $ 26,039 $ 18,670 Obligations in relation to key management personnel, including directors, are as follows: Trade accounts payable and provisions Employee benefits obligation Provisions and other liabilities 2014 $ 13,824 3,238 16,761 $ 2013 7,960 3,131 11,675 $ 33,823 $ 22,766 (b) On August 23, 2013, SIL ceased to be a significant shareholder (see Note 13(a)). Prior to that date, the Company had lumber sales to SIL in the amount of $474,000. All transactions were conducted on a normal commercial basis, including terms and prices. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 70 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 24. Segmented information: The Company manages its business as a single operating segment, solid wood. The Company harvests and purchases logs which are sorted by species, size and quality and then either manufactured into lumber products at the Company’s sawmills, or sold. Substantially all operations are located in British Columbia, Canada and the Northwest and Southeast regions of the U.S. The Company sells to both foreign and domestic markets as follows: United States Canada China/Taiwan Japan Other export Sales by product line are as follows: Lumber Logs Wood chips and other by products Ocean freight and other 2014 2013 $ 864,309 231,733 170,785 127,279 53,051 $ 556,878 226,989 130,697 121,548 69,110 $ 1,447,157 $ 1,105,222 2014 2013 $ 1,177,258 144,770 105,506 19,623 $ 872,264 136,633 72,418 23,907 $ 1,447,157 $ 1,105,222 Non-current assets by geographic location are as follows: Canada United States 2014 2013 $ 342,290 467,241 $ 345,256 250,535 $ 809,531 $ 595,791 25. Capital management: The Company’s policy is to maintain a strong capital base so as to maintain investor, creditor and market confidence and to sustain future development of the business. The Company monitors the pre-tax return on total assets, which it defines as operating earnings before restructuring and capital asset write-downs, divided by the average of Total assets for the period. The Company seeks to maintain a balance between the higher returns that might be possible with the leverage afforded by higher borrowing levels and the security afforded by a sound capital position. The Company’s target is to create value for its shareholders over the long term through increases in share value. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 71 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 25. Capital management (continued): There were no changes in the Company’s approach to capital management during 2014. Under its debt financing agreements, the Company cannot exceed a total debt to total capitalization ratio of 45%, with total debt defined as the total of indebtedness, including letters of credit, and long term debt, net of cash and cash equivalents up to $20 million; and total capitalization defined as total debt plus shareholders’ equity and subordinated debt, excluding non-controlling interests, deferred income taxes, and a maximum of $20 million cumulative (from January 1, 2012) non-cash asset revaluations. The financial covenants under the debt financing agreements also carry a minimum working capital and a minimum net worth requirement. The Company is in compliance with all of its debt covenants and expects to remain in compliance. 26. Financial instruments: (a) Fair value of financial instruments: At December 31, 2014, the fair value of the Company's long term debt approximated its carrying value of $220,419,000 (2013 - $145,479,000). The fair values of other financial instruments approximate their carrying values due to their short-term nature. (b) Derivative financial instruments: The Company uses a variety of derivative financial instruments to reduce its exposures to risks associated with fluctuations in foreign exchange rates, lumber prices, and floating interest rates on long-term debt. These include foreign currency exchange forward, collar and option contracts, interest rate swaps and lumber futures. On March 25, 2013, the Company entered into two interest rate swaps, each with notional value of US$25,000,000 and maturing February 17, 2017. Under the terms of these swaps the Company pays an amount based on a fixed annual interest rate of 0.84% and receives a 90 day LIBOR which is recalculated at set interval dates. On April 14, 2014, the Company entered into two additional interest rate swaps, each with a notional value of US$25,000,000 and maturing on April 14, 2016. Under the terms of these interest swaps, the company pays an amount based on a fixed annual interest rate of 0.58% and receives a 90 day LIBOR which is recalculated at set interval dates. The intent of these interest rate swaps is to convert floating-rate interest expense to fixed-rate interest expense and each has been designated as a cash flow hedge. In respect of its trading in foreign currency exchange forward, collar and option contracts, and interest rate swaps, the Company does not expect any credit losses in the event of non-performance by counterparties as the counterparties are the Company’s Canadian bankers, which are all highly rated. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 72 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 26. Financial instruments (continued): (b) Derivative financial instruments (continued): Fair value of the Company’s derivative financial instruments is measured based on Level 2 of the fair value hierarchy as defined under IFRS 13, Fair Value Measurement and summarized in the following table as at December 31. Foreign exchange collars and forward contracts Interest rate swaps $ 2014 (177) 132 $ 2013 136 166 Total asset (liability), net $ (45) $ 302 Financial instruments in an asset position are classified as Trade accounts receivable and other in the Statements of Financial Position, while financial instruments in a liability position are classified as Trade accounts payable and provisions. Assets and liabilities are not netted, for purposes of presentation on the Statements of Financial Position. The following table summarizes the gain (loss) on derivative financial instruments for the years ended December 31, 2014 and 2013. Foreign exchange collars and forward contracts¹ Interest rate swaps² Lumber futures³ $ 2014 (884) (34) 9 $ 2013 (1,138) 241 118 Total gain (loss), net $ 909 $ (779) ¹ Recognized in Other foreign exchange gain (loss) in Net earnings. ² Recognized in Other comprehensive income. ³ Recognized in Other income (loss) in Net earnings. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 73 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 26. Financial instruments (continued): (c) Hedge of investment in foreign operations: As at December 31, 2014, U.S. dollar borrowings under the Revolving Term Line and Senior Secured Notes were designated as hedges against the Company’s investment in its U.S. operations with unrealized foreign exchange gains (losses) recorded in Other comprehensive income as follows: Designation date balance¹ Additions¹ Payments¹ Opening Unrealized foreign exchange gains (losses)² 2014 2013 Closing balance¹ October 1, 2008³ $ 30,200 55,000 March 2, 2013³ - June 19, 2013³ June 26, 20134 50,000 - July 1, 2013³ - March 13, 2014³ - December 15, 2017³ December 17, 20144 - $ - $ (30,200) $ (55,000) - - - - - - - (22,500) 112,500 (35,000) 35,000 - 50,000 - - - 50,000 - 90,000 - 50,000 $ (1,259) (4,184) - 120 - (4,958) (297) (4,825) $(2,075) (2,265) (1,495) (635) 297 - - - $135,200 $197,500 $ (142,700) $190,000 $(15,403) $(6,173) ¹Denominated in U.S. dollars. ²Denominated in Canadian dollars. ³Drawn on Revolving Term Line. 4Drawn on Senior Secured Notes. Repayments were de-designated as a hedge of the Company’s investment in its U.S. operations. (d) Financial risk management: Financial instrument assets include cash and cash equivalents, deposits and accounts receivable. Cash and cash equivalents, deposits and accounts receivable are designated as loans and receivables and measured at amortized cost. Financial instrument liabilities include bank indebtedness, accounts payable and other provisions, long term debt, and certain other long term liabilities. All financial liabilities are designated as other liabilities and are initially measured at fair value plus any direct transaction costs and subsequently at amortized cost using the effective interest method. There are no financial instruments classified as available-for-sale or held-to- maturity. The use of financial instruments exposes the Company to credit, liquidity and market risk. The Board of Directors has overall responsibility for the establishment and oversight of the Company’s risk management framework. The Company’s risk management policies are established to identify and analyze the risks faced by the Company, to set appropriate risk limits and controls, and to monitor risks and adherence to limits. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 74 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 26. Financial instruments (continued): (d) Financial risk management (continued): Risk management policies and systems are reviewed regularly to reflect changes in market conditions and the Company’s activities. Through its standards and procedures, management has developed a control environment in which employees are clear on roles and obligations and management regularly monitors compliance with its risk management policies and procedures. (i) Credit risk: Credit risk is the risk of financial loss to the Company if a customer or counterparty to a financial instrument fails to meet its contractual obligations, and arises primarily from the Company’s receivables from customers and from cash and cash equivalents. Accounts receivable The Company’s exposure to credit risk is dependent upon individual characteristics of each customer. Each new customer is assessed for creditworthiness before standard payment and delivery terms and conditions are offered, with such review encompassing any external ratings, and bank and other references. Purchase limits are established for each customer, and are regularly reviewed. In some cases, where customers fail to meet the Company’s benchmark creditworthiness, the Company may choose to transact with the customer on a prepayment basis. All North American sales are conducted under standard industry terms. All lumber sales outside of the North American markets are either insured as to 90% of receivable amounts by the Export Development Corporation or are secured by irrevocable letters of credit. The Company regularly reviews the collectability of its accounts receivable and establishes an allowance for doubtful accounts based on its best estimate of any potentially uncollectible accounts. Historically, the Company has managed its credit tightly and has experienced minimal bad debts. Based on this past experience and its detailed review of trade accounts receivable past due which were considered uncollectible, a reserve in respect of doubtful accounts of $46,000 was recorded as at December 31, 2014 (2013 - $42,000). Deposits The Company limits it exposure to credit risk by only investing in liquid securities and only with counterparties that have a high credit rating. As such, management does not expect any counterparty to fail to meet its obligations. Guarantees The Company did not provide any guarantees in 2014. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 75 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 26. Financial instruments (continued): (d) Financial risk management (continued): (i) Credit risk (continued): Exposure to credit risk The carrying amount of financial assets represents the maximum credit exposure for receivables in North America. As log and lumber sales outside of the North American markets are insured by the Export Development Corporation to 90% or secured by irrevocable letters of credit, credit exposure for these sales is limited. Accounts receivable carrying values at the reporting date by geographic region were as follows: Canada United States Japan China/Taiwan Other (ii) Liquidity risk: 2014 $ 16,107 44,975 7,848 4,444 6,909 2013 $ 12,813 31,093 7,962 5,065 5,802 $ 80,283 $ 62,735 Liquidity risk is the risk that the Company will not be able to meet its financial obligations as they fall due. The Company ensures, as far as possible, that it will always have sufficient liquidity to meet obligations when due and monitors cash flow requirements daily and projections weekly. Weekly debt graphs are reviewed by senior management to monitor cash balances and debt line utilizations. The Company also maintains an Operating Line, a Revolving Term Line and a U.S. Operating Line that can be drawn on to meet obligations. The estimated cash payments due in respect of contractual and legal obligations including projected major capital improvements are summarized as follows: 1 Payments due by period Up to 1 year 2-3 years 4-5 years After 5 years Total Trade accounts payable and accrued liabilities 365 Income taxes payable 34,628 Reforestation liability Long term debt 220,419 Provisions and other liabilities 68,317 Operating leases and expected capital commitments 83,864 $ 105,150 $ 105,150 $ 365 9,797 - 31,908 - $ - 9,040 104,709 12,270 - $ - 8,456 - 3,314 - - 7,335 115,710 20,825 64,294 10,040 4,510 5,020 Total obligations $ 512,743 $ 211,514 $ 136,059 $ 16,280 $ 148,890 ¹ Figures in table may not add due to rounding. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 76 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 26. Financial instruments (continued): (d) Financial risk management (continued): (iii) Market risk: Market risk is the risk that changes in market prices, such as foreign exchange rates, interest rates and equity prices, will affect the Company’s income or the value of its holdings of financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimizing the return relative to risk. Currency risk The Company is exposed to currency risk on cash and cash equivalents, accounts receivable, accounts payable and provisions and long term debt that are denominated in a currency other than the respective functional currencies of the Company’s domestic and foreign operations, primarily Canadian and U.S. dollars, but also the Euro, Sterling and Yen. The Company uses foreign currency exchange forward, collar and option contracts to manage its currency risk from time to time, as described in Note 26(b). The Company routinely assesses its foreign exchange exposure by reviewing outstanding contracts, pending order files and working capital denominated in foreign currencies. At December 31, 2014, the Company has U.S. dollar drawings under its Revolving Term Line and Senior Secured Notes of US$190,000,000 (2013 – US$135,200,000). These U.S. dollar drawings have been designated as a hedge against the Company’s net investment in its U.S. operations. As at December 31, the Company’s accounts receivable were denominated in the following currencies (in thousands): 2014 Accounts receivable Accounts receivable held by foreign CAD USD Japanese ¥ 19,745 20,773 27,211 subsidiaries with US$ functional currency - 31,184 - 2013 Accounts receivable Accounts receivable held by foreign 19,745 51,957 27,211 CAD USD Japanese ¥ 15,109 18,926 160,548 subsidiaries with US$ functional currency - 24,592 - 15,109 43,518 160,548 As at December 31, 2014, the domestic operations of the Company held cash and cash equivalents of US$2,414,000 (2013 – US$1,071,000). Cash and cash equivalents held by foreign subsidiaries totaled US$9,650,000 (2013 - US$2,845,000). Based on the Company’s net exposure to foreign currencies as at December 31, 2014, including U.S. dollar denominated cash and cash equivalents, long term debt and other financial instruments, the sensitivity of the U.S. dollar balances to the Company’s net annual earnings is as follows: Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 77 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 26. Financial instruments (continued): (d) Financial risk management (continued): (iii) Market risk (continued): U.S. dollar $0.01 increase vs CAD$ $150,000 decrease in net earnings Based on the Company’s net exposure to foreign currencies as at December 31, 2014, in respect of its net investment in U.S. subsidiaries, the sensitivity of the U.S. dollar balances to the Company’s Other comprehensive income is as follows: U.S. dollar $0.01 increase vs CAD$ $2,052,000 increase in OCI Interest rate risk The Company has reduced its exposure to changes in interest rates on borrowings by entering into interest rate swaps, as described in Note 26(b). The intent of these swaps is to convert floating-rate interest expense to fixed- rate interest expense. In addition, the Company has converted US$100,000,000 of borrowings under its Revolving Term Line to fixed rate Senior Secured Notes (see Note 10(c)). Based on the Company’s average debt level during 2014, there is no net earnings exposure to changes in interest rates as all debt is covered by fixed rate instruments. Other market price risk The Company does not enter into commodity contracts other than to meet the Company’s expected usage and sale requirements and such contracts are not settled net. 27. Subsequent events: (a) Acquisition: On December 18, 2014, a wholly-owned subsidiary of the Company entered into an asset purchase agreement with Simpson Lumber Company, LLC (“Simpson”) to acquire its sawmill operations in Meldrim, Georgia; Georgetown, South Carolina; Longview, Washington; and Tacoma, Washington (the “Acquisition”). Consideration is comprised of US$94,700,000, plus working capital and adjustments related to Simpson’s pre-closing capital expenditure commitments, and a series of future payments tied to the financial performance of the Tacoma sawmill. The contingent future payments will be calculated over the three years following the closing of the transaction as follows: (i) An annual payment equal to half of the Tacoma sawmill’s EBITDA for each of the three years post closing; and (ii) A final payment at the end of the third year equal to 2.5 times the Tacoma sawmill’s average annual EBITDA over the three year period. The minimum total contingent future payments as outlined in (i) and (ii) combined will be US$10,000,000. Notes to Consolidated Financial Statements Years ended December 31, 2014 and 2013 78 (Tabular amounts expressed in thousands of Canadian dollars, except number of shares and per share amounts) ____________________ 27. Subsequent events (continued): (a) Acquisition (continued): Regulatory approval was received on January 23, 2015. The Acquisition remains subject to various closing conditions, and is anticipated to close on March 1, 2015. The Acquisition will be financed through proceeds from a share issuance (see Note 27 (b)) and from Interfor’s existing credit facilities. (b) Public offering: On January 27, 2015, Interfor closed a bought deal public offering of subscription receipts (the “Subscription Receipts”) through a syndicate of underwriters. The Company issued an aggregate of 3,300,000 (including 300,000 Subscription Receipts issued pursuant to the exercise of the over-allotment option) Subscription Receipts at a price of $20.10 per Subscription Receipt, for aggregate gross proceeds of $66,330,000 (the “Offering”). The gross proceeds from the Offering less one half of the underwriters’ commission will be held in escrow until all conditions precedent to completion of the Acquisition from Simpson described above, have been satisfied. Each Subscription Receipt entitles the holder thereof, for no additional consideration and without further action, one Common Share of the Company upon the closing of the Acquisition. Net proceeds of the offering will be used to partially fund the acquisition price and thereby provide the Company with ongoing financial flexibility. If the Acquisition does not close, holders of the Subscription Receipts will be entitled to receive the full purchase price of their Subscription Receipts, together with their pro rata share of interest earned thereon.  79 ANNUAL INFORMATION FORM Prepared as of February 12, 2015 FORWARD-LOOKING STATEMENTS This report contains forward-looking statements. Forward-looking statements are statements that address or discuss activities, events or developments that the Company expects or anticipates may occur in the future. Forward-looking statements are included in the description of areas which are likely to be impacted by the description of future cash flows and liquidity under the headings. These forward-looking statements reflect management’s current expectations and beliefs and are based on certain assumptions including assumptions as to general business and economic conditions in the U.S., Canada, Japan and China, as well as other factors management believes are appropriate in the circumstances. Such forward-looking statements are subject to risks and uncertainties and no assurance can be given that any of the events anticipated by such statements will occur or, if they do occur, what benefit the Company will derive from them. A number of factors could cause actual results, performance or developments to differ materially from those expressed or implied by such forward-looking statements, including those matters described in the 2014 annual Management’s Discussion and Analysis under “Risks and Uncertainties” and in Interfor’s current Annual Information Form. Accordingly, readers should exercise caution in relying upon forward-looking statements and the Company undertakes no obligation to publicly revise them to reflect subsequent events or circumstance, except as required by law. DESCRIPTION OF THE BUSINESS Interfor is a leading global supplier of lumber products. The Company has sawmilling operations in British Columbia, Washington, Oregon and Georgia and supplies lumber products to markets in North America, the Asia-Pacific region and Europe. The Company’s annual production capacity is 2.4 billion board feet. Interfor also owns value-added remanufacturing facilities in Washington and Georgia. The Company was incorporated under the Company Act (British Columbia) on May 6, 1963 and on December 1, 1979, was amalgamated with subsidiary Whonnock Forest Products Limited. On January 1, 1988, a change in name from Whonnock Industries Limited to International Forest Products Limited occurred. On February 10, 2006 we transitioned under the Business Corporations Act (British Columbia). Effective on May 6, 2014, the Company’s name was changed to Interfor Corporation. Our head office as well as our registered and records offices are located at Suite 3500, 1055 Dunsmuir Street, Vancouver, British Columbia, V7X 1H7. In this document, a reference to the “Company”, “Interfor”, “we” or “our” means Interfor Corporation and its predecessors and all our subsidiaries. Our significant wholly-owned subsidiary, Interfor U.S. Inc., is incorporated in the State of Washington and owns and operates our U.S. sawmills. Other wholly-owned subsidiaries include Interfor Cedarprime Inc. (incorporated in the State of Washington), Interfor Sales & Marketing Ltd. (incorporated in British Columbia), Interfor Japan Ltd. (incorporated in British Columbia), Interfor Insurance Corporation (incorporated in Barbados), and Seaboard Shipping Company Limited (incorporated in British Columbia). Annual Information Form ____________________ 80 HISTORY Our business originated in the 1930’s with a sawmill in Whonnock, about 48 kilometres east of Vancouver B.C. Since that time, we have made significant investments to expand, upgrade and diversify our production facilities and timber base through capital programs and the acquisition of manufacturing plants and timber resources from other companies. RECENT DEVELOPMENTS 2012 North American lumber markets improved in 2012 as positive economic signs began to emerge in the U.S. and activity levels in China and Japan rose as the year progressed. Improved markets, combined with supply constraints, resulted in higher prices for most products especially in the second half of the year. Interfor took advantage of the improving market environment to increase operating rates with the combination of higher prices and increasing volumes contributing to better financial results relative to 2011. Capital upgrades started in 2011 at the Grand Forks sawmill were completed. 2013 Increased North American demand as U.S. housing markets continued to improve, coupled with price tension created by off-shore markets resulted in higher sales realizations and higher operating rates in 2013. On March 1, 2013, Interfor concluded the acquisition of Rayonier Inc.’s Wood Products Business in Georgia, U.S.A. for US$84.4 million, adding three sawmills (Baxley, Eatonton and Swainsboro) and a combined 360 million board feet to its annual lumber capacity and broadening its product mix to include Southern Yellow Pine. We have filed a Business Acquisition Report on SEDAR with respect to this acquisition. On May 1, 2013, the Company acquired two timber tenures in the Kootenay Region of B.C. from Springer Creek Management Ltd. The tenures have a combined allowable annual cut (“AAC”) of approximately 174,000 cubic metres and will support increased production levels at the Castlegar sawmill. On July 1, 2013, the Company added a fourth sawmill (Thomaston) in Georgia for US$39.1 million, of which US$32.1 million was paid on closing. Payment of US$7.0 million was contingent upon receipt of an upgrade to the air permit which would allow the Company to operate a second shift. This permit was received in 2014 and the payment will be made in February, 2015. On September 30, 2013, the Company closed a public offering of 7,187,500 Common Shares at a price of $12.00 per share for gross proceeds of $86.3 million, with proceeds used to complete capital upgrades and reduce debt. 2014 On March 14, 2014, Interfor acquired all of the outstanding common shares of Tolleson Ilim Lumber Company from Ilim Timber Continental, S.A. for total consideration of $188.5 million, comprising $126.9 million in cash and 3,680,000 Common Shares valued at $61.6 million. This acquisition added two sawmills located in Perry and Preston, Georgia, and a remanufacturing facility in Perry, Georgia. We have filed a Business Acquisition Report on SEDAR with respect to this acquisition. On June 27, 2014, the Company announced a curtailment of its Beaver-Forks operation on the Olympic Peninsula in Washington State. Following a comprehensive strategic review, permanent closure of the operation and consolidation of production at Interfor’s Port Angeles facility was announced on July 31, 2014. Annual Information Form ____________________ 81 On November 6, 2014, Interfor announced a $50 million capital project to upgrade its sawmill in Castlegar, B.C. The project will convert the Castlegar mill to a two line operation with state-of-the-art technology and optimization. The project is scheduled for completion in the fourth quarter of 2015 with full operating performance targeted for the first quarter of 2016. On December 17, 2014, the Company completed a US$50 million term debt financing with Prudential Capital Group. The senior secured notes carry an annual interest rate of 4.02% and have a final maturity of June 26, 2023. On December 18, 2014, Interfor signed an agreement to acquire four sawmills from Simpson Lumber Company, LLC, for consideration of US$94.7 million, plus working capital and contingent future consideration. The sawmills are located in Tacoma, Washington, Longview, Washington, Meldrim, Georgia and Georgetown, South Carolina and fit within the Company’s existing operating infrastructure. Upon closing of this acquisition, Interfor’s total production capacity will increase by 30% to 3.1 billion board feet. The Company’s lumber capacity in the U.S. Southeast and U.S. Northwest will total 1.2 billion and 900 million board feet, respectively, representing 67% of the Company’s total pro forma capacity. The completion of the transaction is subject to customary conditions and is expected to occur on March 1, 2015. Regulatory approval was received on January 23, 2015. MANUFACTURING AND TIMBER SUPPLY We operate five sawmills in B.C., one sawmill and one remanufacturing plant in Washington, U.S.A., two sawmills in Oregon, U.S.A., and six sawmills and one remanufacturing plant in Georgia, U.S.A. These operations produce a wide range of products for sale in North American and offshore markets. The products range from commodity structural lumber through to specialty products, such as exterior decking and siding, machine stress rated products, industrial timbers and a wide range of appearance grade items. The mills are capable of cutting logs of various species and grades ranging in diameter from 4 inches to 80 inches. Many of our manufacturing facilities have recently been upgraded and modified to improve the matching of timber resources with customers' lumber requirements. In addition to improving our manufacturing capability through upgrades, we have increased our efficiency and geographic diversity and expanded our capacity through the addition of two sawmills in Georgia during 2014. Annual Information Form ____________________ 82 Rated capacity and production of lumber for each mill is set out in the following table: Sawmills B.C. Coast(2) B.C. Interior U.S. Northwest(3) U.S. Southeast(4) Present Rated Capacity (1) Production for years ended December 31, 2014 2013 2012 (millions of board feet) 320 720 470 880 198 744 539 741 182 699 569 275 203 623 525 - Total 2,390 2,222 1,725 1,351 (1) Based on two shifts per day and adjusted for regional operating parameters. (2) Volumes include lumber custom-cut at third party facilities under the direction of Hammond management amounting to 11 million board feet in 2014. (3) The Beaver sawmill was curtailed on June 27, 2014. (4) The Baxley, Eatonton and Swainsboro sawmills were acquired March 1, 2013. The Thomaston sawmill was acquired on July 1, 2013. The Perry and Preston sawmills were acquired March 14, 2014. Volumes reported are Interfor only. CANADIAN OPERATIONS B.C. Coast Hammond The Hammond operation is located on the Fraser River in Maple Ridge, B.C. The facility is focused on western red cedar and supplies siding, decking, fascia and timbers for both offshore and North American markets. The facility consists of a three-line sawmill, a planer mill and dry kilns. Acorn The Acorn operation is located on leased land in Delta, B.C. The facility consists of a log dewatering and merchandizing system, a sawmill, a planer mill and dry kilns. The sawmill specializes in sizes and grades of lumber for use in Japanese traditional housing made primarily from hemlock and Douglas-fir logs. B.C. Interior Adams Lake The Adams Lake operation is located near Kamloops, B.C. The mill manufactures kiln-dried lumber for the U.S. and Canadian construction markets as well as for offshore markets. Adams Lake has the capability to cut Douglas-fir as well as spruce-pine-fir (“SPF”), western red cedar and hemlock. The sawmill has been specifically designed to match the current and future timber resource in the area and to address the challenges of sawing timber affected by the Mountain Pine Beetle. The sawmill incorporates proven technology that materially improved the operating efficiency and cost structure of the Adams Lake operation. Castlegar Our Castlegar operation, located in the southern interior of B.C., includes a sawmill, dry kilns, a planer and transportation system for moving logs on Arrow Lake. It has timber tenures with an AAC of 630,000 cubic metres and manufactures fir-larch, SPF, cedar and hemlock dimension lumber. Annual Information Form ____________________ 83 In the fall, 2014, Interfor approved the installation of state-of-the-art technology in Castlegar, which will convert the sawmill from its current three line configuration to a two- line facility. Construction is scheduled for completion in the fourth quarter of 2015, with full operating performance targeted for the first quarter of 2016. Capacity is expected to increase to 210 million board feet. Grand Forks Our Grand Forks sawmill is located in the southern interior of B.C. on a 75 acre site and manufactures kiln dried lumber for the U.S. and Canadian construction markets as well as the housing market in Japan. It has timber tenures with an AAC of 514,000 cubic metres. The sawmill cuts approximately 75% SPF and 25% fir-larch. In late 2012, Interfor completed the installation of a new small log line to replace an existing two line facility and the installation of an automated lumber grading system. Including the expanded scope of enhancements approved in 2012, the Company spent $20.1 million, and a further $4.2 million on an upgrade of the mill’s log and lumber storage. B.C. Timber Supply In the Province of British Columbia (the “Crown”) owns about 95% of the timberlands from which the majority of our timber is harvested. The remaining 5% of timberland is private land which is primarily located on Vancouver Island and held by a few large industrial forest landowners. Forest and timber harvesting operations on Crown land in B.C. are regulated under the B.C. Government’s Forest and Range Practices Act (British Columbia) and the Forest Act (British Columbia). The Government is responsible for setting the AAC, approving forest development plans and cutting permits, determining the stumpage system and managing compliance and enforcement. The Province provides for the use of Crown forest land through the granting of various forms of timber tenures. These tenure agreements provide timber harvesting rights in exchange for annual rent to cover general administration and fire preparedness obligations and stumpage fees payable to the Crown. Our Company is required to manage forest resources under our tenures in accordance with the requirements of the applicable laws and regulations. Forest management of our tenures is guided by a team of forest professionals that are engaged in a wide array of activities such as resource planning, forest development, road building and harvesting, reforestation, forest protection and environmental certification. We hold various Forest Licence (“FL”), Tree Farm Licence (“TFL”) and Timber Licence (“TL”) tenures that currently provide for an AAC of approximately of 3.9 million cubic metres. The majority of Interfor’s tenures are long-term (15 and 25 year) renewable agreements that are generally replaced every five years. Our timber supply needs are met by a combination of logs harvested from our own timber tenures, long-term trade and supply agreements, and by log purchases on the open market. When operating at normal capacity, our mills in B.C. currently require approximately one- third of their log supply from external sources. On the B.C. Coast, we harvest a variety of species consisting primarily of western hemlock, amabilis fir, western red cedar and Douglas-fir. In the B.C. Interior, the species mix consists of spruce, pine, fir, Douglas-fir, larch and cedar. The harvest is derived from both old growth and second growth stands. Whereas one-third of the harvest currently comes from second growth stands on the B.C. Coast, this amount is expected to increase significantly over the next several decades. Logging operations are seasonal due to a number of factors including weather, ground conditions and fire season closures. Annual Information Form ____________________ 84 The following table shows our AAC under our FL and TFL tenures and other cutting rights and the volume of timber harvested under our FLs and TFLs and other cutting rights for the periods specified. It also presents the volume of log purchases and sales during the period. B.C. Timber Supply 2015 2014 2013 2012 Years ended December 31, Allowable Annual Cut (1) — Forest Licences — Tree Farm Licences — Non Replaceable Forest Licences — Discretionary Annual Harvest Levels Total AAC Log Production — Coast(2) — Interior Total Log Production (thousands of cubic metres) 2,775 2,775 2,684 2,684 875 220 80 875 220 40 801 286 40 801 286 40 3,950 3,910 3,811 3,811 1,523 1,639 1,526 1,517 1,959 1,770 3,040 3,598 3,296 Log Purchases 1,395 1,131 1,156 Log Sales 1,440 1,339 1,352 (1) AAC status at the beginning of each year (includes a provision for non-recoverable fibre). (2) 2014 volumes include production volume of 48,000 cubic metres of third party timber sales managed by Interfor (2013 - 25,000 cubic metres; 2012 – 10,000 cubic metres). U.S. OPERATIONS U.S. Northwest Gilchrist The Gilchrist sawmill is located in Gilchrist, Oregon, on approximately 140 acres. The sawmill primarily processes lodgepole pine, ponderosa pine and white fir to produce a wide range of specialty and dimension lumber products. The sawmill has an on-site cogeneration plant to produce electricity for its own use as well as steam for its dry kilns. At this location, we own and operate a short line railroad to connect to a mainline for shipment of lumber and chips. Molalla The Molalla sawmill is located in Molalla, Oregon, approximately 50 kilometres southeast of Portland. The sawmill processes primarily hemlock and Douglas-fir logs to produce stud lumber for the U.S. market. Port Angeles The Port Angeles sawmill is situated in Port Angeles, Washington, on a 64 acre site near a major highway and waterways which are convenient for shipping lumber and chips as well as for receiving logs. The sawmill primarily processes hemlock and Douglas-fir logs to produce stud dimension lumber for the U.S. market but is also capable of producing metric sizes for export. Annual Information Form ____________________ Cedarprime 85 Interfor Cedarprime Inc. is located on leased premises in Sumas, Washington. The plant has a siding line, chop line, planing and finger-jointing equipment as well as access to on- site dry kilns enabling it to produce 20 million board feet of finger-jointed and cut-stock products for both North American and offshore markets. U.S. Southeast Baxley This sawmill in Baxley, Georgia was acquired on March 1, 2013 from Rayonier Inc. It operates on a two shift basis and produces southern yellow pine lumber primarily in 2x4 through 2x12 products, and 4x4 timbers as market conditions warrant. Eatonton This sawmill in Eatonton, Georgia was acquired on March 1, 2013 from Rayonier Inc. It operates on an extended one shift basis and produces southern yellow pine lumber primarily in 2x4 and 2x6 products. Swainsboro This sawmill in Swainsboro, Georgia was acquired on March 1, 2013 from Rayonier Inc. It operates on a two shift basis and produces southern yellow pine lumber primarily in 2x4 and 2x6 products. Thomaston On July 1, 2013, the Company completed the acquisition of the Thomaston, Georgia sawmill from Keadle Lumber Enterprises, Inc. Interfor has invested in additional kilns and infrastructure over the course of 2014 to increase production capacity on a two shift basis producing 2x4 through 2x12 dimension products. Preston This sawmill in Preston, Georgia was acquired on March 14, 2014 from Ilim Timber Continental, S.A. The mill operates two shifts and produces 2x4 through 2x12 dimension products. Perry This sawmill in Perry, Georgia was acquired on March 17, 2014 from Ilim Timber Continental, S.A. The mill operates an extended single shift and produces 2x4 through 2x12 dimension products. U.S. Timber Supply U.S. Northwest Timber supply in the U.S. Northwest (“NW”) is sourced from a broad distribution of forest land ownership (forest industrial lands; small private landowners; and State and Federal lands). These sources represent a long-term supply base from which mills purchase their timber supply. In 2014, about 58% of the log supply in the NW came from land that is owned by industrial and small private landowners, while the remainder was sourced from State, Federal and tribal lands. Our timber supply requirements at the Port Angeles sawmill are weighted to western hemlock with lesser volumes of Douglas-fir and sitka spruce. Douglas-fir is the prominent species, with smaller volumes of western hemlock and white fir at the Molalla sawmill. The Port Angeles and Molalla sawmills depend on private industrial landowners and small private landowners for the majority of their supply. In the case of Port Angeles, this timber is supplemented with timber from State, Federal, and tribal lands. Annual Information Form ____________________ 86 At the Gilchrist sawmill, log purchases consist primarily of lodgepole pine, ponderosa pine and white fir that are harvested from second growth forests and the thinning of young stands from surrounding National Forests. This volume is supplemented with purchases from industrial and non-industrial private lands. U.S. Southeast Timber in the U.S. Southeast (“SE”) is sourced primarily from privately held timberlands with only minor volumes coming from publicly owned timberlands. Private timberland ownership includes non-industrial private owners, timber real estate investment trusts (“timber REITs”) and various institutional investors such as pension funds, who are typically represented by a timberland investment management organization (“TIMO”). Both timber REITs and TIMOs are considered industrial timberland owners. Interfor’s sawmills in Georgia purchase timber comprised exclusively of southern yellow pine, originating from each of these sources. At the time the Company acquired the Baxley, Swainsboro and Eatonton sawmills from Rayonier Inc. in March 2013, the parties entered into a services-for-fee contract under which Rayonier Inc.’s fibre procurement group would continue to manage timber procurement activities for the three sawmills on behalf of Interfor. This contract expired during 2014 when the Company began managing all procurement activities at each of the three sawmills. The total 2015 log supply requirement for the mills in the U.S. is estimated to be supplied from the following sources: Expected Sources of Timber 2015 State, Federal and tribal lands Industrial lands Private lands U.S. Northwest U.S. Southeast 42% 51% 7% 100% 1% 20% 79% 100% SALES, MARKETING AND COMPETITIVE POSITION The global markets for the Company’s products are highly competitive and producers compete primarily on the basis of price. In addition, a majority of Interfor’s lumber production is sold into markets where competitors have the same or larger capacity and may be lower cost producers. Annual Information Form ____________________ 87 The following table shows our lumber sales by geographic area and total sales by product line for the past three years: Lumber — Canada — U.S.A — Japan — China — Other export Offshore transportation and handling Logs Wood chips and other residuals Ocean freight, contract services and other Total sales Years ended December 31, 2014 2013 2012 (thousands of dollars) $ 103,599 $ 90,470 $ 84,760 770,153 107,561 109,205 46,812 39,928 1,177,258 144,770 105,506 498,524 105,590 105,703 38,675 33,302 872,264 136,633 72,418 319,365 87,609 73,886 31,353 34,265 631,238 113,902 69,376 19,623 $1,447,157 23,907 $1,105,222 34,680 $849,196 Lumber Sales Like other commodities, the demand for lumber is cyclical. It is affected by factors such as interest rates, foreign currency exchange rates, freight rates, government tariffs and import policies, and demand for housing. However, in recent years, the residential repair and remodeling market in North America has become a significant consumer of lumber. This has lessened the impact of fluctuations in new housing starts. In order to diminish the impact of rapid cyclical changes in any one market, we strategically target worldwide markets and offer a diverse range of products. Interfor also has a specific customer and product base in various countries, providing a diversified sales profile, and it is aggressively targeting China’s rapidly growing wood frame construction market. Product and market diversification is particularly important for B.C. Coastal producers where the variability inherent in the log resource produces a much wider spectrum of product sizes and quality than is the case in the B.C. Interior, the NW or the SE. A continuing priority for our Company is to develop products and markets that more fully realize the potential for higher grades, special dimensions and value-added items. Lumber sales and marketing activities are organized into two sales groups to leverage global expertise: Export and North America. Interfor Japan Ltd., with an office in Tokyo, has developed niche markets and has increased sales directly to end-users. We also have an office in France to serve Continental Europe and Middle East markets and recently opened an office in China. The primary market for our cedar lumber continues to be North America where markets are serviced through a combination of regional wholesale distributors and direct retail sales. Gains have been made, however, in diversifying cedar sales into offshore markets in Europe, China, Japan and Australia. North American dimension and stud lumber produced in Canada and the NW is sold out of our office in Bellingham, Washington to leverage our market expertise and to provide a more diverse customer base for the Canadian mills in terms of geographic and market sectors. Annual Information Form ____________________ 88 Southern yellow pine (“SYP”) lumber produced in Georgia mills is sold out of our office in Peachtree City, Georgia to leverage our regional knowledge of SYP market segments and distribution channels. Log Sales We purchase and sell logs in order to obtain the appropriate size, grade and species of log to suit market conditions and each mill’s cutting profile. We buy or trade logs through agreements and open market transactions and sell logs that are either unsuitable for cutting or in excess of our manufacturing requirements. Wood Chips and Other Residuals Sales As a by-product of lumber production, our sawmills produce wood chips and other residuals. Essentially all of our wood chips produced in B.C. are sold under short- and long-term contracts to pulp producers. In general, wood chips produced on the B.C. Coast are sold at prices related to current Northern Bleached Softwood Kraft (“NBSK”) pulp prices, while the wood chips produced in the B.C. Interior are sold at current market prices for chips. Chips from our NW and SE operations are sold to pulp producers or fiber board manufacturers under short-term arrangements, with the exception of the Baxley sawmill which has a long- term contract with a pulp producer. DISTRIBUTION We use various modes of surface transportation to deliver our lumber products. Shipments to export markets are done by container and break-bulk vessels while shipments of lumber within North America are done by truck and rail. The majority of break-bulk shipments in 2014 were carried by our wholly-owned subsidiary Seaboard International Shipping Company Limited (Barbados). In 2015, break-bulk shipments will move under contract with an independent ocean carrier. Chips and logs are normally delivered by tug and barge or by truck. In Gilchrist, Oregon, and in Grand Forks, B.C. we own short line railroads that connect to Class 1 railroads for shipping lumber and chips. HUMAN RESOURCES In B.C., we directly employ approximately 1,034 people in our logging and manufacturing operations and corporate offices. The United Steel Workers (“USW”) is the certified bargaining agent for approximately 521 of these people. The agreement with the USW for the B.C. Coast has an expiry date of June 14, 2019, while the Southern Interior USW agreement expires on June 30, 2018. The Canadian Marine Service Guild (“CMSG”) represents 22 employees, and their collective agreement expired September 30, 2014. Negotiations with the CMSG regarding renewal of the expired agreement are in process, with employees continuing to work under the terms of the expired agreement with no workplace disruptions. In the U.S., we employ approximately 1,548 employees in our sawmill and remanufacturing operations in Washington, Oregon, Georgia and in our offices located in Bellingham, Washington and Peachtree City, Georgia. THE ENVIRONMENT Interfor is committed to responsible stewardship of the environment. We maintain an Environmental Management System (“EMS”) for all of our woodlands and manufacturing facilities. The EMS provides a structure for identifying, addressing and managing environmental issues. Audits are performed regularly in both the woodlands and manufacturing operations to verify its effectiveness. Annual Information Form ____________________ Regulatory Compliance 89 Interfor operates in compliance with extensive provincial, state, federal or other laws and regulations that apply to most aspects of our business activities. Forest Management Certification Interfor has achieved the internationally recognized Sustainable Forestry Initiative (“SFI”) forest management certification for all of our B.C. woodlands operations. Interfor also has Forest Stewardship Council (“FSC”) certification on its tenures in the B.C. Mid-Coast as part of group certification for that area. Independent third party certification audits are conducted by KPMG Performance Registrar Inc. Chain of Custody (CoC) and Responsible Purchasing Interfor maintains Chain-of-Custody (“CoC”) certifications at certain mills and fibre sourcing procedures that track logs coming from sustainably managed forests through the manufacturing process. Coast Forest Conservation Initiative (CFCI) Interfor is a member of the CFCI – a collaborative effort of five B.C. forest product businesses committed to finding new approaches to forest conservation and management in B.C.’s Central and North Coast. CFCI collaborates with the Rainforest Solution Project (a group of environmental organizations namely Forest Ethics, Greenpeace and the Sierra Club, B.C. Chapter) in a forum known as the Joint Solutions Project (“JSP”). JSP works with the B.C. Government and First Nations on strategic items related to the implementation of ecosystem based management (“EBM”). The joint work done by JSP is a major step towards fulfilling the landmark Great Bear Rainforest agreement. First Nations First Nations (“FN”) groups have claimed aboriginal title and rights over substantial portions of British Columbia. Interfor tenures overlap with the traditional territories of over 60 different FN groups. The Company’s operations in B.C. account for approximately 40% of its total lumber production. Interfor has a number of agreements and initiatives with FN in B.C., and as such, remains committed to working with FN to develop economic opportunities of mutual benefit. Each FN group is notified prior to development activities as part of the Forest Stewardship Planning process. On June 26, 2014 the Supreme Court of Canada (“SCC”) released its ruling on the Tsilhqot’in vs. British Columbia. To the extent that this defines for the first time the criteria upon which Aboriginal title rests is a positive development. It is also an important motivation for the federal and provincial governments to move forward on the treaty process in British Columbia. The SCC ruling applies to two percent of the Tsilhqot’in traditional territory in a remote area of Central B.C. – far removed from Interfor’s operations. To date, Aboriginal title has not been established in any of Interfor’s tenures; and doing so will likely be a lengthy and complex process. The Company will continue to manage its operations within the existing legal framework while paying close attention to the direction provided by the Province and First Nations regarding the application of this ruling. Mountain Pine Beetle The Mountain Pine Beetle (“MPB”) infestation has resulted in the mortality of a significant portion of the mature pine trees in the B.C. interior The greatest impact has been in the central interior region where there is a high percentage (over 60%) of pine in the forest. Interfor operations are in the southern interior which have a much lower percentage of pine Annual Information Form ____________________ 90 (less than 30%) and are less affected by the MPB. The longer term timber supply impacts of the MPB are not expected to have a significant impact on the Company’s operating areas. Continual Improvement Each year a formal Management Review of the Company’s program and performance is completed as part of the process of continual improvement. Additional information about our environmental work and third party certification is available on our website at www.interfor.com. RESEARCH AND DEVELOPMENT We contribute to and participate in industry research organizations that have made numerous technical developments beneficial to us in areas such as sawing technology, drying techniques and anti-sap stain applications. We also are committed to applied research and development in the areas of environment, health and safety, forest management, and product and market development. We also conduct product and market research on our own in Canada and the U.S. RISK FACTORS Discussion of risk factors relating to the Company and its operations is included under the heading Risks and Uncertainties within Management’s Discussion and Analysis prepared as of February 12, 2015, which is incorporated by reference herein and available on SEDAR at www.sedar.com. CAPITAL STRUCTURE The authorized share structure of the Company consists of: • 150,000,000 Common Shares without Par Value with Special Rights and Restrictions (“Common Shares”); and • 5,000,000 Preference Shares without Par Value with Special Rights and Restrictions (“Preference Shares”). As at February 12, 2015 there were 66,730,455 Common Shares outstanding. There were no Preference Shares outstanding. The following is a summary of the material provisions of the authorized share capital of the Company. Common Shares The holders of Common Shares are entitled, at the discretion of the board of directors of the Company, after providing for all dividends payable in respect of the Preference Shares, if any, to non-cumulative preferential dividends of up to 13⅓ cents per annum for each Common Share and if, after providing for all dividends payable in respect of Preference Shares, there shall remain any assets, profits or surplus available for dividends, such assets, profits or surplus or any part thereof may, in the discretion of the board of directors of the Company, be declared and paid in equal amounts per Common Share. The holders of Common Shares are entitled to receive notice of and attend all meetings of shareholders, with each Common Share held entitling the holder to one vote on any resolution to be passed at such shareholder meetings. The Common Shares are entitled, upon liquidation, dissolution or winding-up of the Company, to receive the remaining assets of the Company available for distribution to shareholders. The provisions relating to the Common Shares may not be varied unless sanctioned by a resolution of the holders of the Common Shares passed by at least three-fourths of the votes cast. Annual Information Form ____________________ Preference Shares 91 The Preference Shares of each series rank on a parity with the Preference Shares of every other series, and are entitled to preference over the Common Shares and over any other shares ranking junior to the Preference Shares, with respect to payment of dividends and the distribution of assets of Interfor in the event of liquidation, dissolution, or winding-up of Interfor. MARKET FOR SECURITIES OF THE COMPANY The Common Shares are listed on the Toronto Stock Exchange (“TSX”) under the symbol IFP. The following table sets out the market price range and trading volumes of the Common Shares on the TSX for the periods indicated: Toronto Stock Exchange (TSX) 2014 Trading Volumes Ticker: IFP $ Low $ High Volume 13.02 14.31 15.60 14.83 15.90 14.55 14.15 14.35 15.33 14.59 16.84 17.49 15.85 18.09 18.25 17.49 18.16 16.65 15.33 17.50 17.23 17.15 18.54 22.15 6,383,619 7,048,930 8,499,348 5,862,068 3,959,204 4,210,755 4,584,537 4,253,513 2,816,661 3,702,144 5,098,010 8,075,233 Month January February March April May June July August September October November December TRANSFER AGENT The transfer agent for our Common Shares is Computershare Investor Services Inc. at its principal offices in Vancouver, British Columbia. MATERIAL CONTRACTS The Company or one of its subsidiaries entered into the following material contracts during 2014: 1. Share Purchase Agreement, dated February 8, 2014, between the Company, Interfor U.S. Inc. Ilim Timber Continental, S.A. and Tolleson Ilim Lumber Company (“Tolleson”) for the acquisition of all of the issued and outstanding shares of common stock of Tolleson for a total consideration of approximately $188.5 million, including issuance of 3,680,000 Common Shares of the Company. The Tolleson operations include two sawmills in Preston and Perry, Georgia. The transaction was completed on March 14, 2014. 2. Interfor March 31, 2014 Amended and Restated Credit Agreement, dated for reference March 31, 2014, between the Company, the Agent, the Arranger and the Lenders (capitalized terms are defined in the agreement) to, among other things, increase the credit available under its revolving term line from $200 million to $250 million, without change to other terms and conditions. Annual Information Form ____________________ 92 3. First Amendment to the Interfor March 31, 2014 Amended and Restated Credit Agreement, dated for reference December 1, 2014, to, among other things, provide for the US$50 million term debt financing with Prudential Capital Group. 4. Amendment, dated March 13, 2014, between Prudential Investment Management, Inc., the holders of the notes, and International Forest Products Limited to, among other things, amend the springing lien covenant in respect of the Tolleson Lumber acquisition and restrict modifications to the preferred share financing structure 5. Second Amendment, dated March 31, 2014, between Prudential Investment Management, Inc., the holders of the notes, and International Forest Products Limited to, among other things, amend provisions relating to restricted subsidiaries, include a covenant addressing the contribution of the company and the restricted subsidiaries, and amend and restate the events of default. 6. Asset Purchase Agreement, dated December 18, 2014, between Simpson Lumber Company, LLC and Interfor U.S. Inc. for the acquisition of four sawmills located in Meldrim, Georgia, Georgetown, South Carolina, Longview, Washington and Tacoma, Washington for a total consideration of approximately US$94.7 million, plus working capital and contingent future payments. The transaction is expected to close on February 28, 2015. All of these contracts have been posted on www.sedar.com. DIRECTORS AND OFFICERS Directors of the Company The following table sets out the Company’s directors as of February 12, 2015, their respective municipalities of residence, principal occupations within the past five years and the period during which each director has served as a director: Name and Municipality of Residence Director Since Principal Occupations From To DUNCAN K. DAVIES Vancouver, BC, Canada November 1998 President and Chief Executive Officer Interfor Corporation 2000 Present PAUL HERBERT Germantown, TN, USA March 2014 Corporate Director JEANE HULL Clayton, MI, USA May 2014 Chief Executive Officer, Ilim Group, Russia’s largest forest pulp & paper company Executive Vice President and Chief Technical Officer, Peabody Energy Corporation, a private-sector coal company 2013 Present 2007 2013 2007 Present PETER M. LYNCH Toronto, ON, Canada October 2006 President & CEO, Dieffenbacher USA, Inc., a manufacturer and designer of press and forming systems 2013 Present Independent Business Consultant 2010 2013 Executive Vice President and Director Grant Forest Products Inc. (and its predecessor), a producer of OSB and engineered wood products GORDON. H. MacDOUGALL West Vancouver, BC, Canada February 2007 Corporate Director Vice Chairman, Connor, Clark & Lunn Investment Management Ltd., an asset management firm 1993 2010 2014 Present 2006 2014 Annual Information Form ____________________ 93 Name and Municipality of Residence Director Since Principal Occupations From To J. EDDIE McMILLAN Pensacola, FL, USA October 2006 Independent Business Consultant 2002 Present Executive Vice President, Wood Products Group Willamette Industries, Inc., a forest products company 1998 2002 ANDREW K. MITTAG Colleyville, TX, USA October 2012 Corporate Director Senior Vice President, Agrium Inc. and President, Agrium Advanced Technologies, a major retail supplier of agricultural products and services, a global wholesale producer and marketer of major agricultural nutrients and industrial products 2014 Present 2005 2014 E. LAWRENCE SAUDER Vancouver, BC, Canada April 1984 Chief Executive Officer and Chairman, Metrie Canada Ltd. (formerly Sauder Industries Limited), a manufacturer and distributor of building products 2010 Present Chairman, Hardwoods Distribution Inc., a distributor of wood products 2008 Present L. SCOTT THOMSON Vancouver, BC, Canada October 2012 President and Chief Executive Officer, Finning International Inc., a distributor of Caterpillar products and support services 2013 Present Executive Vice-President, Finance and Chief Financial Officer, Talisman Energy Inc., a global upstream oil and gas company 2008 2013 DOUGLAS W.G. WHITEHEAD North Vancouver, BC, Canada April 2007 Corporate Director President and Chief Executive Officer Finning International Inc., a distributor of Caterpillar products and support services 2008 Present 2000 2008 To our knowledge, only one of the Company’s directors has in the last 10 years been an officer or director of a company that, while the person was acting in that capacity, was subject to bankruptcy or similar proceedings or securities regulatory sanctions described in National Instrument 51-102 Continuous Disclosure Obligations. From 1993 to 2010, Mr. Lynch was an executive director of Grant Forest Products Inc. (“Grant Forest”). On June 25, 2009, Grant Forest filed and obtained protection under the Companies’ Creditors Arrangement Act in order to restructure its business affairs. The term of office for all current directors will end at the conclusion of the next Annual General Meeting of the Company’s shareholders. The next Annual General Meeting is scheduled for Thursday, April 30, 2015. Annual Information Form ____________________ Committees of the Board 94 The table below lists the committees of Interfor’s board of directors and their members as of February 12, 2015: Committees Audit Corporate Governance & Nominating Committee Management Resources & Compensation Committee Environment & Safety Committee Members Douglas Whitehead (Chair) Paul Herbert Peter Lynch Andrew Mittag Scott Thomson Eddie McMillan (Chair) Jeane Hull Peter Lynch Gordon MacDougall Douglas Whitehead Gordon MacDougall (Chair) Eddie McMillan Andrew Mittag Lawrence Sauder Peter Lynch (Chair) Paul Herbert Jeane Hull Lawrence Sauder Scott Thomson Officers of the Company The following table sets out the Company’s officers as of February 12, 2015, their respective municipalities of residence and their principal occupations for at least the last five years: Name and Municipality of Residence Positions Held DUNCAN K. DAVIES Vancouver, BC, Canada President & Chief Executive Officer Interfor Corporation JOHN A. HORNING West Vancouver, BC, Canada Executive Vice President & Chief Financial Officer Interfor Corporation Senior Vice President & Chief Financial Officer Interfor Corporation J. STEVEN HOFER Bellingham, WA, USA Senior Vice President, Sales & Marketing and Senior Vice President, US Northwest Operations, Interfor Corporation Vice President, Sales & Marketing Interfor Corporation General Manager, Sales & Marketing Interfor U.S. Inc. (formerly Interfor Pacific Inc.) JOSEPH A. RODGERS Sharpsburg, GA, USA Senior Vice President, US Southeast Operations Interfor Corporation Vice President, US Operations Interfor Corporation Vice President, Operations – Solid Wood Temple-Inland Building Products Operations Manager – Solid Wood Temple-Inland Building Products From To 2000 Present 2014 Present 2002 2014 2014 Present 2011 2014 2004 2011 2014 Present 2013 2014 2011 2013 2009 2011 Annual Information Form ____________________ 95 MARTIN L. JURAVSKY Toronto, ON, Canada Senior Vice President, Corporate Development and Strategy Interfor Corporation 2014 Present Vice President, Corporate Development and Strategy Interfor Corporation Business Consultant Vice President, Corporate Development Woodland Biofuels Inc. Managing Director Macquarie Capital Markets Canada Ltd. IAN M. FILLINGER Kamloops, BC, Canada Senior Vice President, Canadian Operations Interfor Corporation Vice President, Canadian Operations Interfor Corporation Senior General Manager Interfor Corporation 2013 2014 2012 2013 2011 2012 2009 2011 2014 Present 2013 2014 2013 2013 General Manager, Adams Lake & Coastal Manufacturing Interfor Corporation 2012 2013 General Manager, Adams Lake Division Interfor Corporation MARK W. STOCK North Vancouver, BC, Canada Senior Vice President, Human Resources Interfor Corporation Vice President, Human Resources Interfor Corporation Vice President, Global Human Resources Tree Island Industries Ltd. RICHARD J. SLACO Delta, BC, Canada Vice President & Chief Forester Interfor Corporation MARILYN LOEWEN MAURITZ Vancouver, BC, Canada General Counsel & Corporate Secretary Interfor Corporation General Counsel Interfor Corporation 2005 2012 2014 Present 2012 2014 2007 2012 2002 Present 2012 Present 2007 2012 SHAREHOLDINGS OF DIRECTORS AND OFFICERS As at December 31, 2014, the directors and officers of the Company as a group owned, directly or indirectly, or exercised control of or direction over 863,705 Common Shares representing approximately 1.29% of the outstanding Common Shares. INTEREST OF MANAGEMENT AND OTHERS IN MATERIAL TRANSACTIONS Since the commencement of our most recently completed financial year, and for the three most recently completed financial years, no director or executive officer of the Company, no person or company that is the direct or indirect beneficial owner of, or who exercises control or direction over, more than 10% of the Company’s voting securities or any associate or affiliate of such persons, has had any material interest in any transaction involving the Company. Annual Information Form ____________________ LEGAL PROCEEDINGS 96 We are not a party to, and our property is not the subject of, any material legal proceedings which are currently in place or which we know to be contemplated. INTEREST OF EXPERTS KPMG LLP are the external auditors of the Company and have confirmed that they are independent with respect to the Company within the meaning of the Rules of Professional Conduct of Institute of Chartered Accountants of British Columbia and the applicable rules and regulations thereunder. AUDIT COMMITTEE INFORMATION The purpose of the Company’s Audit Committee (the "Committee") is to assist the board of directors in fulfilling its oversight responsibility relating to: • • • • • • • the integrity of the Company’s financial statements; the financial reporting process; the systems of internal accounting and financial controls; the professional qualifications and independence of the external auditors; the performance of the external auditors; risk management processes; financial plans; • pension plans; and • compliance by the Company with ethics and legal and regulatory requirements. The Committee’s Terms of Reference, attached as Appendix “A” to this Annual Information Form, sets out its responsibilities and duties. The Committee met four times in 2014 in conjunction with regularly scheduled Board meetings. Members’ Financial Literacy, Expertise and Simultaneous Service The board of directors has determined that the members of the Audit Committee during 2014 were, and all current members of the Audit Committee are literate and independent as defined in National Instrument 52-110 – Audit Committees. The table below indicates the relevant education and experience of each member of the Audit Committee: Relevant Education and Experience Director Past Occupation Douglas W.G. Whitehead Chair of the Audit Committee since May 2012 Mr. Whitehead is a Corporate Director. From 2000 to 2008, he was the President and Chief Executive Officer of Finning International Inc. (“Finning”). Prior to joining Finning, Mr. Whitehead held a number of senior executive positions with Fletcher Challenge Canada, including President and Chief Executive Officer, Senior Vice President and Chief Operating Officer and Vice President of the Crown Packaging Division. Mr. Whitehead is currently the director and Chair of Finning and a director of both Belkorp Industries Inc. and Kal Tire. Previously, he served as director of Inmet Mining Corporation, Ballard Power Systems Inc., Terasen Inc., Fletcher Challenge Canada, Finlay Forest Industries and Timberwest Forest Limited. He is a former member of the Board of Directors of Vancouver General Hospital and University of British Columbia Hospital Foundation. Mr. Whitehead holds a Bachelor of Applied Science (Engineering) from the University of British Columbia and a Masters of Business Administration from the University of Western Ontario. Annual Information Form ____________________ 97 Paul Herbert Member since May 2014 Mr. Herbert is a corporate director with over 47 years of experience in the pulp and paper industry. From 2007 to 2013, Mr. Herbert was the Chief Executive Officer of Ilim Group, Russia’s largest forest pulp & paper company. From 2003 to 2007, he was Senior Vice President of Global Strategic Initiatives for International Paper. Prior thereto, he held various senior executive positions with International Paper, including Senior Vice President, Printing and Communications, President of International Paper Europe and Vice President Engineering & Manufacturing. He is currently a director of Ilim Timber Group in Russia. He holds a degree in Engineering from East London Polytechnic University and an Executive Master of Business Administration from Texas A&M University. Peter M. Lynch Member since April 2009 Mr. Lynch is currently President & CEO of Dieffenbacher USA, Inc. (“Dieffenbacher”). Prior thereto he provided consulting services to Dieffenbacher. From 1993 to 2010, he was an Executive Vice President and director of Grant Forest Products Inc. (and its predecessor), a producer of OSB and engineered wood products. Mr. Lynch holds a LL.B from Osgoode Law School and is a member of the Law Society of Upper Canada, the Canadian Bar Association and the Ontario Bar Association. Andrew K. Mittag Member since May 2013 Mr. Mittag is a Corporate Director. From 2005 to 2014, he was Senior Vice President, Agrium Inc. and President, Agrium Advanced Technologies, a major retail supplier of agricultural products and services and a global wholesale producer and marketer of major agricultural nutrients and industrial products. In addition to being part of Agrium’s senior leadership team, he was responsible for Agrium’s enhanced efficiency fertilizer business and the development of that market internationally, especially China. Prior to joining Agrium in 2005, he was Co-founder, President and Chief Financial Officer of Rockland Capital Partners and held senior leadership roles at TXU Corp. and Koch Industries Inc. Mr. Mittag holds a Bachelor of Arts (Economics and German) from Hamilton College, a Masters of Business Administration (Accounting and Finance) from Columbia University and ICD.D designation from the Institute of Corporate Directors. L. Scott Thomson Member since November 2012 Mr. Thomson is currently President and CEO of Finning International Inc., the world's largest Caterpillar equipment dealer. From 2008 to 2013, he was Chief Financial Officer of Talisman Energy Inc. Prior thereto, Mr. Thomson was Executive Vice President, Corporate Development, Vice President, Head of Mergers and Acquisitions, and Vice President, Corporate Strategy at Bell Canada Enterprises Inc. Mr. Thomson holds a Bachelor of Arts from Queen’s University and a Masters of Business Administration from the University of Chicago. AUDIT FEES The Committee annually recommends the appointment of the Company’s external auditors and approves the annual audit plan and compensation of the external auditors for all audit, audit related and non-audit services. In the case of non-audit services, the services and compensation are approved by the Committee before the services commence. Annual Information Form ____________________ 98 KPMG LLP, Chartered Accountants, Vancouver, are the independent auditors of the Company. Fees paid or accrued to KPMG LLP for audit and other services for the years ended December 31, 2013 and December 31, 2014, were as follows: Audit fees Fees billed for professional services rendered. Audit-related fees Audit-related fees consist principally of fees for professional services rendered with respect to audits of a defined benefit pension plan, subsidiary companies, and consultation related to accounting issues (2014 and 2013); bought deal financing involvement (2013). Tax fees Tax fees consist of fees for tax compliance services, planning and related services, personal tax (foreign and domestic) compliance and planning advice (2014 and 2013); indirect tax recovery audit contingency fees which are based on percentage of recoveries, and advice on setup of Insurance Captive (2014). Other fees Forestry certification. And assistance with ERP system design and implementation and conversion review (2014 and 2013) and general IT control documentation (2013). TOTAL CODE OF ETHICS 2014 2013 $586,900 $477,000 61,500 269,100 37,771 24,376 123,347 168,978 $809,518 $939,454 We have adopted a code of ethics that applies to our directors, officers and employees. A copy of the code, entitled “Code of Conduct”, can be found on our website at www.interfor.com. ADDITIONAL INFORMATION Additional information relating to the Company, including directors’ and officers’ remuneration and indebtedness, principal holders of the Company’s securities and securities authorized for issuance under equity compensation plans, is contained in the Company’s Information Circular. Additional financial information about the Company is provided in the Company’s audited consolidated financial statements and Management’s Discussion and Analysis for the year ended December 31, 2014. Copies of the documents referred to above and additional information relating to the Company are available on the SEDAR website at www.sedar.com and may also be obtained upon request from: Interfor Corporation General Counsel & Corporate Secretary 3500-1055 Dunsmuir Street Vancouver, British Columbia Canada, V7X 1H7 Telephone: 604 689 6800 Facsimile: 604 689 6825 E-mail: corporatesecretary@interfor.com Annual Information Form ____________________ 99 Appendix “A” AUDIT COMMITTEE Terms of Reference PURPOSE The Audit Committee has been established by the Board and under powers delegated to it by the Board is mandated to oversee the accounting and financial reporting processes of the Company and audits of its financial statements in accordance with the Board Objective. COMPOSITION AND TERM OF OFFICE 1. 2. 3. 4. The Audit Committee shall consist of four or more Directors. All members of the Audit Committee shall be independent within the meaning of National Instrument 52-110 (“NI 51-110”). All members must be financially literate within the meaning of NI 52-110 or become financially literate within a reasonable period following appointment and at least one member should have accounting or related expertise. The Chair of the Audit Committee along with other Audit Committee members will be appointed annually by the Board following the AGM to hold office until the next AGM, unless any member becomes unable to serve or is removed by the Board. A casual vacancy may be filled and additional members may be appointed at any time by the Board to hold office until the next AGM. 5. A quorum shall consist of a simple majority. DUTIES AND RESPONSIBILITIES The Audit Committee shall perform the following functions, as well as any other functions specifically authorized by the Board: Financial Disclosure, Risk Management and Internal Controls 1. Review the following documents before the public disclosure of same by the Company, and, if appropriate, recommend approval by the Board of the Company’s: a. annual and quarterly financial statements; b. Management’s Discussion and Analysis; and c. annual and interim earnings press releases. The review will involve direct discussions with Management and the Company’s external auditor (the “Auditor”), including an opportunity for an in-camera meeting with the Auditor independent of Management. 2. Review and approve the disclosures required by applicable securities laws to be included in the Company’s Annual Information Form and Management Information Circular relating to the Audit Committee and audit and non-audit services and fees. Annual Information Form ____________________ 100 3. 4. 5. 6. 7. 8. Review the process for certifications of the interim and annual financial statements by the Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”) and the certification made by the CEO and CFO. Review all news releases announcing financial results, containing financial information based on unreleased financial results or non-GAAP financial measures or providing earnings guidance, forward-looking financial information and future-oriented financial information or financial outlooks before the public disclosure of same by the Company. Review financial information contained in any prospectus, take-over bid circular, issuer bid circular, rights offering circular and any other document that the Audit Committee is to review before the public disclosure of same by the Company, and, if appropriate, recommend approval by the Board. Review matters related to internal controls over financial reporting of the Company and ensure the Company has adequate procedures in place in respect thereof. Ensure that the necessary measures are taken to follow up suggestions from the Auditor’s reports. Review the principal risks of the Company, other than the risks associated with the Company’s compensation policies and practices, and ensure that an effective risk management strategy is in place. Review the Company’s derivatives policies and activities, including details of exposures to banks and other counterparties. External Auditor 9. Review and recommend to the Board the appointment of the Auditor to be nominated for the purposes of preparing or issuing an Auditor’s report and performing other audit, review or attest services for the Company. 10. Establish the mandate of the Auditor, including the annual engagement, audit plan, audit scope and compensation for the audit services, subject to shareholder approval. 11. Oversee the activities of the Auditor. The Auditor shall report directly to the Audit Committee. 12. Directly communicate and meet with the Auditor, with and without Management present, to discuss the results of their examinations. 13. Review the independence of the Auditor, any rotation of the partners assigned to the audit in accordance with applicable laws and professional standards, the internal quality control findings of the Auditor’s firm and peer reviews. 14. Review the performance of the Auditor, including the relationship between the Auditor and Management and the evaluation of the lead partner of the Auditor. 15. Resolve disagreements between Management and the Auditor regarding financial reporting. 16. Review material written communications between the Auditor and Management. Annual Information Form ____________________ Non-Audit Services 101 17. Pre-approve non-audit services. The Audit Committee may delegate to one or more of its members the authority to pre-approve non-audit services. The pre-approval of non-audit services by any member to whom authority has been delegated shall be presented to the Committee at its first scheduled meeting following such pre-approval. Company Policies 18. Satisfy itself that adequate procedures are in place for the review of the public disclosure of financial information extracted or derived from the Company’s financial statements and periodically assess the adequacy of those procedures. 19. Establish and periodically review the policies and procedures for the receipt, retention and treatment of complaints received by the Company regarding accounting, internal accounting controls or auditing matters, and the confidential, anonymous submissions by the employees of the Company regarding questionable accounting or auditing matters. 20. Review and approve the Company’s hiring policies regarding partners, employees and former partners and employees of the former and present Auditor. Insurance 21. Review the Company’s insurance programs, including the Company’s directors’ and officers’ insurance coverage, and make recommendations for their renewal or replacement. MEETINGS AND PROCEDURES 1. 2. 3. 4. The Audit Committee shall meet a minimum of four (4) times per year and, subject to these Terms of Reference and applicable law, otherwise establish its procedures and govern itself as the members of the Audit Committee may see fit in order to carry out and fulfill its duties and responsibilities hereunder. Extraordinary meetings of the Audit Committee may be called at the request of a member on the Audit Committee or the Chair of the Board to be held at such times and places as the person calling such meeting may determine. A majority of members of the Audit Committee will constitute a quorum (provided that a quorum shall not be less than two (2) members). Decisions of the Audit Committee will be by an affirmative vote of the majority of those members of the Audit Committee voting at a meeting. In the event of an equality of votes, the Chair will not have a casting or deciding vote. The Audit Committee may also act by resolution in writing signed by all the members of the Audit Committee. The Audit Committee shall appoint a Secretary who shall keep minutes or other records of its meetings and proceedings. The Chair of the Audit Committee shall report to the Board at its next regular meeting the Audit Committee’s deliberations and recommendations, if any, requiring the Board’s approval. Annual Information Form ____________________ OTHER MATTERS 102 1. 2. The Audit Committee is authorized to engage any outside advisor it deems necessary to carry out its duties and responsibilities and to arrange payment of the advisor’s compensation by the Company. The Audit Committee may, at the request of the Board or at its own initiative, investigate such other matters as it considers appropriate in furtherance of the Audit Committee’s purpose. 103 GLOSSARY Unless otherwise noted, all financial references in this Annual Report are in Canadian dollars. “Adjusted EBITDA” EBITDA excluding long term incentive compensation, other income (expense) and sawmill post-closure wind-down costs. “Allowable Annual Cut (AAC)” The average annual volume of timber which the holder of a licence from the Province of British Columbia may harvest on Crown land under the licence in a five-year control period. “Bone Dry Unit (BDU)” A unit of measurement for wood chips and other sawmill by-products, being equal to 2,400 pounds. “Custom cutting” An arrangement under which a mill contracts to cut logs owned by a customer into products of specifications defined by the customer. “Crown” Administrative agency of the provincial government of British Columbia. “EBITDA” Earnings before finance costs, income taxes, depreciation, depletion, amortization, restructuring costs, asset write-downs and other costs, and other foreign exchange gains (losses). “Forest Licence” Replaceable, volume-based timber cutting rights for a specific volume of Crown timber within a Timber Supply area. “Invested Capital” The total of Net debt and shareholders’ equity. “m³” A measure of one cubic metre of solid wood, British Columbia metric scale, as determined under the Forest Act, equal to 35.3 cubic feet of solid wood. “mfbm” or “Mbf” One thousand foot board measure equal to one thousand square feet of lumber, one inch thick. “Net debt” The total of long term debt and bank indebtedness, less cash and cash equivalents. “Pre-tax return on total assets” Earnings (loss) before income taxes, restructuring costs, asset write- downs and other costs, finance costs, other foreign exchange gains (losses) and other income (expense), divided by the average of opening and closing total assets for annual periods and by opening total assets for three month periods. “Silviculture” The art and science of controlling the establishment, growth, composition, health and quality of forests. “Stumpage” A charge assessed by the provincial government on all Crown timber harvested. “Sustained yield (sustainable log supply)” The yield that a forest area can produce on an ongoing basis without impairment of the long-term productivity of the land. “Timber Licence” Non-replaceable, area based, Crown timber cutting rights. “Tree Farm Licence” A renewable 25-year licence to manage a forest area to yield an annual harvest on a sustainable basis. “Value-added product” A commodity or other product that has been further processed to increase financial value. “Volumetric unit” A unit of measurement for wood chips and other sawmill by-products, being equal to 200 cubic feet. A volumetric unit represents between 60% and 85% of the chips in a Bone Dry Unit, depending on the species. “Whitewood” Includes the Coastal species Hemlock, Balsam Fir, Douglas-Fir and Spruce; the term whitewood is used on British Columbia Coast to differentiate the above species from Western Red Cedar and Yellow Cedar. 104 Paul Herbert Germantown, TN, US Peter M. Lynch Toronto, ON, Canada J. Eddie McMillan Pensacola, FL, US E. Lawrence Sauder (Chair) Vancouver, BC, Canada Douglas W.G. Whitehead North Vancouver, BC, Canada DIRECTORS Duncan K. Davies Vancouver, BC, Canada Jeane Hull St. Louis, MO, US Gordon H. MacDougall West Vancouver, BC, Canada Andrew K. Mittag Colleyville, TX, US L. Scott Thomson Vancouver, BC, Canada OFFICERS Duncan K. Davies John A. Horning President and Chief Executive Officer Executive Vice President & Chief Financial Officer J. Steven Hofer Joseph A. Rodgers Senior Vice President, Sales & Marketing Senior Vice President, US Northwest Operations Senior Vice President, US Southeast Operations Martin L. Juravsky Ian M. Fillinger Senior Vice President, Corporate Development & Strategy Senior Vice President, Canadian Operations Mark W. Stock Richard J. Slaco Senior Vice President, Human Resources Vice President and Chief Forester Marilyn Loewen Mauritz General Counsel & Corporate Secretary CORPORATE INFORMATION Stock Exchange Common Shares listed on The Toronto Stock Exchange Symbol: IFP Auditors KPMG LLP, Vancouver, BC Transfer Agent Computershare Investor Services Inc. Vancouver, BC and Toronto, ON 105 Media Contact Karen Brandt, Director, Public Affairs & Corporate Communications Office: 604-689-6866 karen.brandt@interfor.com Corporate Office Tel: (604) 689-6800 Fax: (604) 688-0313 P.O. Box 49114 3500-1055 Dunsmuir Street Vancouver, BC V7X 1H7 OPERATIONS AND LOCATIONS Adams Lake Division (Sawmill and Woodlands) Tel: (250) 679-3234 Fax: (250) 679-3545 9200 Holding Road Chase, BC V0E 1M2 Baxley Division (Sawmill) Tel: (912) 367-3671 Fax: (912) 367-1500 1830 Golden Isles East Baxley, GA 31513 Acorn Division (Sawmill) Tel: (604) 581-0494 Fax: (604) 581-5757 9355 Alaska Way Delta, BC V4C 4R7 Castlegar Division (Sawmill) Tel: (250) 365-4400 Fax: (604) 422-3252 P.O. Box 3728 2705 Arrow Lakes Drive Castlegar, BC V1N 3W4 Eatonton Division (Sawmill) Tel: (706) 485-4271 Fax: (706) 485-3879 370 Dennis Station Road SW Eatonton, GA 31024 Castlegar Division (Woodlands) Tel: (250) 265-3741 Fax: (604) 422-3251 P.O. Box 2000 442 Highway 6 West Nakusp, BC V0G 1R0 Gilchrist Division (Sawmill) Tel: (541) 433-2222 Fax: (541) 433-9581 P.O. Box 638 #1 Sawmill Road Gilchrist, OR 97737 Hammond Division (Sawmill) Tel: (604) 465-5401 Fax: (604) 422-3221 20580 Maple Crescent Maple Ridge, BC V2X 1B1 Interfor Cedarprime Inc. (Remanufacturing) Tel: (360) 988-2120 Fax: (360) 988-2126 601C West Front Street Sumas, WA 98295 Perry Division (Sawmill & Remanufacturing) Tel: (478) 987-2105 Fax: (478) 987-5773 903 Jernigan Street Perry, GA 31069-3435 Port Angeles Division (Sawmill) Tel: (360) 457-6266 Fax: (360) 457-1486 243701 Highway 101 West Port Angeles, WA 98363 Swainsboro Division (Sawmill) Tel: (912) 562-4441 Fax: (912) 562-3621 8796 Highway 297 Swainsboro, GA 30401 Thomaston Division (Sawmill) Tel: (706) 647-8981 Fax: (706) 647-3534 75 Ben Hill Road Thomaston, GA 30286 Coastal Woodlands Division Tel: (250) 286-1881 Fax: (250) 286-3412 1250A Ironwood Street Campbell River, BC V9W 6H5 Grand Forks Division (Sawmill and Woodlands) Tel: (250) 443-2400 Fax: (604) 422-3253 P.O. Box 39 570 68th Ave. Grand Forks, BC V0H 1H0 Molalla Division (Sawmill) Tel: (503) 829-9131 Fax: (503) 829-5481 15555 S. Hwy. 211 Molalla, OR 97038 Preston Division (Sawmill) Tel: (229) 828-5025 Fax: (229) 828-4370 378 Tolleson Road Preston, GA 31824 106 SALES AND MARKETING North America – Cedar Tel: (604) 422-3470 Fax: (604) 422-3244 600 - 2700 Production Way Burnaby, BC V5A 4X1 North America – Southern Yellow Pine Tel: (770) 282-3250 Fax: (770) 486-6837 700 Westpark Drive Peachtree City, GA 30269 North America - Whitewood Tel: (360) 788-2200 Fax: (360) 788-2210 2211 Rimland Drive, Suite 220 Bellingham, WA 98226 China Tel: +86-21-6333-6268 Fax: +86-21-6333-6290 Unit 1007, Tower No. 1 No. 268 Zhongshan South Road Shanghai, 200010, China Japan Tel: 03-5641-2351 Fax: 03-5641-2383 Kasahara Bldg. 6F, 1-7-7 Nihonbashi, Ningyocho, Chuo-ku Tokyo, Japan 103 - 0013 Europe Tel: +33-2-40-32-05-25 Fax: +33-2-40-32-02-25 ZI Cheviré 7 rue de l'Houmaille 44340 BOUGUENAIS, France Export – Whitewood & Cedar Tel: (604) 422-3468 Fax: (604) 422-3250 600-2700 Production Way Burnaby, BC V5A 4X1 

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