Canada Markets open in 5 hrs 6 mins

Edited Transcript of PL.TO earnings conference call or presentation 13-Nov-19 3:00pm GMT

Q3 2019 Pinnacle Renewable Energy Inc Earnings Call

Nov 27, 2019 (Thomson StreetEvents) -- Edited Transcript of Pinnacle Renewable Energy Inc earnings conference call or presentation Wednesday, November 13, 2019 at 3:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Andrea Louise Johnston

Pinnacle Renewable Energy Inc. - CFO

* Robert McCurdy

Pinnacle Renewable Energy Inc. - CEO & Director

================================================================================

Conference Call Participants

================================================================================

* Ian Brooks Gillies

GMP Securities L.P., Research Division - Director of Institutional Research and Research Analyst of Energy Services & Infrastructure

* Mark Thomas Jarvi

CIBC Capital Markets, Research Division - Director of Institutional Equity Research

* Nelson Ng

RBC Capital Markets, Research Division - Analyst

* Rupert M. Merer

National Bank Financial, Inc., Research Division - MD and Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning. My name is Joanna, and I will be your conference operator today. At this time, I would like to welcome everyone to Pinnacle Renewable Energy's Third Quarter Results Conference Call and Webcast hosted by Robert McCurdy. (Operator Instructions) Today's call is also being webcast and recorded. An archived webcast will be available after the call.

I would now like to turn the conference over to Mr. Robert McCurdy. Please go ahead.

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [2]

--------------------------------------------------------------------------------

Thank you, Joanna. Good morning, and thank you for joining us. With me on the line today is Andrea Johnston, our CFO. We posted a supplementary slide deck for the call this morning, which is available on our website and through the webcast link.

I'll be starting the call today with a few key highlights and an operational update from the third quarter, then Andrea will follow up with a review of the financial results. Then we'll welcome any questions that you have.

The third quarter of 2019 was a challenging period. While the revenue was up 5.6% and adjusted EBITDA was in line with the same period a year ago, a number of our B.C. facilities were transitioning to increased use of harvest residuals as a result of the ongoing lumber market curtailments and reduction in the sawmill residual deliveries in the province. This resulted in higher cash conversion costs, which ultimately impacted our adjusted EBITDA in the third quarter.

More specifically, during July, we had 2 month-long shutdowns of very key Canfor sawmills that impacted several of our plants. And throughout the quarter, we ramped up our fiber breakdown equipment in the forest to increase the flow of harvest residuals from the bush.

Overall, we had a lower production volumes that resulted in reduced revenues and higher production costs and lower net profits.

By the end of the third quarter, we began to see production volumes improving in British Columbia as the mix and fiber supply stabilized. This is primarily driven by our very active operating management, then increased harvest residuals, advanced our First Nations fiber procurement and our processing strategies.

We also made additional investments in inventories and greater harvest residual breakdown capability. Additionally, the B.C. sawmills are now operating more consistently, albeit at reduced levels, allowing us to optimize and improve our production flows.

The production outside of B.C. in Alberta and Alabama were not impacted by fiber supply. Both areas have good sawmill residual supplies. With Aliceville, Entwistle and high level operating, we'll have over 35% of the -- 35% of our production outside of British Columbia.

Despite these challenges, we sold approximately 423,000 tons of pellets in the quarter, a slight increase compared to Q3 last year, and our revenue was up 5.6% year-over-year.

During and shortly after the end of the quarter, we entered into our eighth and ninth, long-term take-or-pay contracts since the beginning of 2018. First, with Mitsubishi in Japan for up to 120,000 tons per year beginning in 2021. The second with Mitsui for up to 100,000 tons beginning in 2023. These new contracts demonstrate our successful advancement of our strategy for sales growth in Japan and also improving our customer diversification across Japan, U.K., South Korea and Europe.

With the continued growth of the backlog, we are keenly focused on evaluating and developing further opportunities for incremental production. And this is evidenced by the announcement of the new facility to be constructed in High Level, Alberta with the partnership with Tolko.

This facility is part of our diversification strategy of the fiber supply away from the B.C. fiber basket, using high-quality wood fiber sourced primarily from Tolko's existing sawmill in High Level, and we expect to see a run rate capacity of between 170,000 and 200,000 tons per year.

The facility, which is being constructed on land owned by Tolko, began construction in August and will continue through November. It will take a pause for winter and resume construction in the spring. The initial wood pellet production from this facility is expected to start in the fourth quarter of next year.

At quarter end, our backlog had grown by $200 million over the end of the second quarter to a total backlog number of $7.1 billion. The upgrades of our Williams Lake facility are progressing on schedule. This is focused on a new dryer system as well as some infrastructure. We are also doing upgrade planning and design for the Meadowbank air filtration system. These upgrades will allow our 2 facilities to process a broader array of available fiber in the Cariboo region, which is particularly important given the current curtailments in the province. Upon completion of these projects, the facilities will have a combined production increase of about 80,000 tons per year. We expect the Williams Lake facility upgrade to be completed and commence commissioning in Q1 of next year.

On to Entwistle, the Entwistle facility was restarted in late March at a reduced production capability using dry fiber only. I'm very pleased and proud to report last week the construction phase of the dryer system rebuild was completed and the burner and driver restarted with commissioning of the new equipment in progress. The capital costs are expected to come in at approximately $15 million, and we expect substantially all the capital and operating costs associated with the incident to be recovered under insurance policies.

Also at Entwistle, we have the destoner project. This project is designed to remove stones, and more importantly, the abrasive sand from the fiber. This will help improve fiber flow, reduce cash conversion and operating costs and reduce downtime at the facility. We'll start commissioning this project during this quarter.

At Aliceville, Alabama, our improvements continue to progress, with the first completed -- with the first phase of capital completed during the quarter, which focused on improvement to fiber flow, processing and operating efficiency. As a result, we saw ongoing operating improvements at the facility starting in September, and it established several new production records. Phase 2, we expect to start in the second quarter of next year, focusing on further flow and processing improvements in order to continue to drive down costs and increase the production capability of the plant.

Additionally, Smithers facility reached full run rate capacity of 125,000 metric tons per year during the quarter and is performing very well, even considering the increased mix of harvest residuals being processed at the plant.

Andrea will give you further details on Entwistle in a moment. But before I hand it over to her, I'd like to formally welcome Rex McLennan to the Pinnacle's Board of Directors. We are fortunate to have Rex join the Board so we can lever the expertise he's gained over an impressive career at companies such as Imperial Oil, Placer Dome and Viterra. I'm confident he will further strengthen the Board and Pinnacle will benefit from his extensive experience and expertise.

I'd like now to turn it over to Andrea.

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [3]

--------------------------------------------------------------------------------

Thanks, Rob, and good morning, everyone. Before I begin with the financial summary of the quarter, I'd like to remind participants that this call contains some forward-looking statements and non-IFRS financial measures, both of which are more fully described in the published MD&A for the quarter.

Revenues for the third quarter 2019 totaled $92.6 million an increase of 5.6% compared to Q3 1 year ago, resulting from a higher selling price per metric ton and a higher proportion of cost, insurance and freight contracts or CIF contracts. Higher volumes of pellet production from the Smithers and Aliceville facilities in Q3 2019 was offset by the lower production volumes at the B.C. facilities because of the impacts from the ongoing sawmill curtailments.

Production costs were $59.4 million in the quarter compared to $57.2 million in Q3 last year. The increase was primarily due to higher fiber costs, higher cash conversion costs and increased costs incurred for third-party wood pellet purchases.

Higher fiber costs were primarily related to a shift in fiber mix due to a reduction in sawmill residuals during Q3 2019. Higher cash conversion costs were driven by fiber mix constraints, which resulted in additional repair and maintenance expense for production equipment.

An amount for business interruption insurance proceeds of $4 million for lost net profits in the Entwistle incident was recorded in production costs, offsetting the fixed overhead and incident response costs incurred during the quarter of $1.4 million.

A $2.1 million increase in distribution costs compared to Q3 last year reflects a higher proportion of those CIF contract sales during the quarter compared to FOB and higher shipping contract prices in the same period last year.

Our $0.6 million decrease in SG&A expenses in the quarter was because of a $0.5 million decrease in stock-based compensation and a $0.5 million increase in legal due diligence costs. This decrease was partially offset by the $0.4 million increase in personnel costs that we've invested in due to the expansion of our operations.

We recorded a net loss of $0.7 million in Q3 2019 compared to a net profit of $1.5 million in Q3 last year. The decrease reflects higher distribution costs, higher amortization costs, reflecting new production facilities and higher production costs due to higher fiber costs, cash conversion costs and costs incurred for third-party wood pellet purchases, partially offset by that reduced SG&A.

Adjusted gross margin in the quarter was $18.7 million or 20.2% of revenue compared to $17.9 million or 20.5% of revenue in Q3 last year. The increase in adjusted gross margin was due to higher revenue compared to Q3 2018, which was offset by higher production costs and fixed overhead costs resulting from the Entwistle incident. This was partially offset by business interruption insurance related to the Entwistle facility received during the quarter. Excluding the impact of the implementation of IFRS 16 and the Entwistle incident, adjusted gross margin was $14.3 million.

Free cash flow for Q3 2019 was $8 million compared with $5 million in Q3 last year. The increase is primarily due to a decrease of $4 million of mandatory amortization of term debt as a result of our renegotiation of that facility at the end of June 2019, a decrease of $1.1 million in maintenance CapEx because of seasonality offset by the increase of $1.9 million in interest and finance costs.

The Entwistle incident resulted in a $2.1 million positive impact on free cash flow. Our maintenance CapEx for Q3 was $2 million, down from $3.1 million in Q3 a year ago. Maintenance CapEx can vary from quarter-to-quarter, as we mentioned, and certainly, in Q3, we were working hard with the changed fiber mix. And we can expect a range in total of $10 million to $12 million in 2019, and that encompasses all of our facilities.

At quarter end, we had cash and cash equivalents of $8.3 million and available liquidity of $58.2 million to fund our growth activities.

At the end of Q3, the ratio of net debt to last 12 months adjusted EBITDA was 5.5x. This ratio was elevated due to the investment in the Aliceville facility, significant new capacity at the Entwistle and Smithers facility in advance of us achieving our run rate adjusted EBITDA and the expansion projects of Williams Lake, Meadowbank and High Level. As these facilities reach their run rate capacity, this ratio is expected to decline.

Adjusted EBITDA totaled $14.3 million for the quarter compared to $14.5 million in Q3 a year ago. Increased revenue was offset by those higher cash conversion costs due primarily to fiber mix constraints, which increased our repair and maintenance costs. Excluding the impact of $1.9 million in costs and $4 million of business interruption insurance from the Entwistle incident as well as an increase of $1.8 million related to the adoption of IFRS 16, adjusted EBITDA was $10.3 million in the quarter.

Before providing information concerning our financial outlook for the remainder of 2019, I'd like to provide a summary on the Entwistle Facility.

As Rob mentioned, we successfully completed the dryer rebuild last week, and the furnace and dryer have been restarted, and we're actively working with our customers and partners to mitigate the impacts of the anticipated production shortfall this year as a result of the incident. We're also working closely with our insurance providers to determine the insurance recoveries available for the Entwistle incident and expect that substantially all the costs incurred will be recoverable through insurance.

Capital costs and other expenses required to replace the dryer and restore the Entwistle facility are estimated to be approximately $25 million in total, with capital costs to replace the dryer area to be approximately $15 million of that. The remaining costs are approximately $10 million, of which $7.6 million has been incurred year-to-date.

As of the end of the third quarter, we've recognized a total of $8 million net of deductibles in insurance recoverables related to property insurance and $8.5 million from business interruption insurance.

I'll now turn to the outlook for 2019.

In B.C., weakness in lumber prices and the high stumpage rates are continuing to apply pressure to the cost of available fiber supplies. Through Q4 2019 and into the first half of 2020, there is uncertainty in sawmill production volumes. Our BC facilities will continue to process a wider mix of harvest residuals in the coming quarters resulting in an ongoing impact to our production levels, fiber and cash conversion costs. However, we found sustainable supplies of harvest residuals to fill the gap of some residuals where necessary for our B.C. mills in Q4 2019. We've also provided -- or improved the robustness of the fiber supply and increased grinding and shipping facilities resulting in increased inventory.

I want to take a minute just to talk to you on the opportunities and actions that we're taking to reduce the cost of the impact of processing additional harvest residuals on our facilities. So like any manufacturing facility, our pellet mills produce much better when they're provided with consistent materials in front of them. So the fiber procurement team has been working hard to make sure and have a consistent supply of harvest residuals, along with the other available sawmill residuals in front of them.

One of the key things that they're doing is finding closer in harvest residuals now that they've had the time and understand what the availability will be in the regions surrounding our mills. They're also making sure that they're finding cleaner fiber where possible. A lot of harvest residuals can have sand and gravel mixed in with it. And they're finding the residuals that are more economic to access and looking at grinding and fiber breakdown right in the field before it's shipped to our facilities.

Rob mentioned that we've built up some off-site inventories, and that's really to help our facilities operate very consistently, as we said, so if there is to be fluctuation in some of the sawmill residual output, we can keep our operations flowing, again with that consistent input of fiber. We don't have to reduce our production volumes as we're waiting for additional deliveries of a good mix of fiber.

There's also in each of our mills that are impacted by this, there's some specific projects, including looking at the impact of additional ash content in the fiber, to limit the buildup in our burners, we're doing maintenance optimization processes, including we're changing the preventative maintenance schedules at the facilities to deal with the change in residuals. And certainly, we're taking steps to change the process on our off-site inventory handling management. As you can imagine, as you start up a new process, there's inefficiencies in that, we've got extra labor and handling processes where now we have the opportunity and the time to go in and make those as optimized as possible.

And of course, we're continuing ongoing negotiation with both our fiber and our haulage suppliers and working with additional communities. By getting this more consistent fiber in front of our facilities, we expect to lower the repairs and maintenance costs and increase our production volume at impacted facility.

So we do expect to see an improvement in both fiber and cash conversion costs in Q4 2019 compared to Q3 2019.

As previously mentioned, we continue to proceed on the recovery of the Entwistle facility and returning the plant to its commissioning curve. Additional capital improvements underpinned by the destoner project are on schedule for completion within budget in Q4 2019 where we have now successfully restarted our operation of the dryer, we don't expect the facility to provide a meaningful contribution during the quarter. We remain confident that Entwistle would generate $19 million to $21 million of EBITDA when it reaches its full run rate production.

I'll now turn the call back over to Rob for closing comments.

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [4]

--------------------------------------------------------------------------------

Thank you. We remain very focused on improving our fiber, fiber processing, haulage and cash conversion costs as well as diversifying the company outside of the B.C. fiber basket. Our partnership mills in B.C. are cooperating to ensure the facilities have additional visibility and helping us replace fiber sources where possible. The fiber team has been working on securing cleaner, low cost, consistent sources of fiber to fill these identified gaps and to ensure that we'll deliver more fiber than what the plants need during Q4 and Q1 of 2020.

We are now better prepared to manage the impacts of the curtailments than in previous quarters. And within -- and we're excited with Entwistle restarting.

We continue to evaluate brownfield, greenfield and M&A opportunities or new facilities and there will be more production occurring outside of the impacted B.C. fiber basket with Entwistle, High Level and Aliceville production.

Also, we have the upgrades of the existing facilities that will help us handle the anticipated fiber mix.

So at this time, I'd like to thank you, and also, we'll open the line up for questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) And your first question is from Nelson Ng from RBC Capital Markets.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [2]

--------------------------------------------------------------------------------

Just the first question relates to the fiber inventory. You mentioned that you're getting some inventory or getting some off-site inventory, could you just talk about the expected cost? And also, maybe like big picture in terms of how many days of inventory are you currently at versus where you want to be by the end of Q1 next year?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [3]

--------------------------------------------------------------------------------

Yes. So 2-part question or actually many part question. So as far as inventory, what we've done is we've created strategic inventory at clusters of plants and it depends on what the plants can handle. And I'll give you one example. Down at Lavington, we have an inventory that we're building there that's about 2 kilometers down the road. And we're building up something in the neighborhood of 1 month to 1.5 months of inventory there. At other places, we'll have a combination of forest residuals and bio logs that will create the inventory and that depends on the plant. So it ranges from plant to plant. But our goal right now, and we're on stream, is to bring more fiber into the system than what we'll process, allowing us to build up these inventories and also have that robustness of the supply chain.

As far as costs, I'll pass it over to Andrea to answer that one.

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [4]

--------------------------------------------------------------------------------

Thanks, Rob. So in terms -- you can see in the financial statements that we've increased our inventory of raw fiber and we've increased it from about $7 million last year at the same time to over $14 million. So it is an additional working capital investment, but one that we think will result in lower costs. The -- as I look at the buildup of inventory over time, we don't expect that investment to increase by too much more because we do have seasonality such as breakup as we're producing and logging activities onto incurring in the bush. So we might see an additional $2 million to $5 million of investment throughout the coming quarters.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [5]

--------------------------------------------------------------------------------

Okay. That's great. And then just moving on to Williams Lake and Meadowbank, I think when you initially announced the projects earlier this year, you were expecting to spend about $34 million and have everything completed by, I think, the end of this year. Can you just give an update as to whether that it's still $34 million? Like the -- any kind of color in terms of why some of the completion dates pushed out to next year? And what's been incurred to date so far?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [6]

--------------------------------------------------------------------------------

So the $34 million is still on target, and we're well within that -- with our spend in our estimate. The project, as we call it, the Cariboo Project, it incorporates both William Lake and Meadowbank. The part of the project, which is the most expensive part and the part that will give us the best gain is the one at Williams Lake. And that includes replacing and installing a new dryer. And we'll use a bed dryer technology there. As far as the delay, there was really 2 things. One, we were delayed by permitting, and the other one was the lead time on the Meadowbank equipment.

--------------------------------------------------------------------------------

Operator [7]

--------------------------------------------------------------------------------

The next question is from Rupert Merer from National Bank.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [8]

--------------------------------------------------------------------------------

We had production down a little bit quarter-over-quarter with fiber concerns. I think you mentioned that you're already working with your partners to meet your obligations on the contracts. Were you able to meet those contract obligations in Q3? And are there any risks of penalties going forward for not meeting obligations?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [9]

--------------------------------------------------------------------------------

No, thanks. So the real short answer is, no penalties, no risk, but a lot of credit goes to the team. Vaughn worked very hard and very respectful with our customers to work through. And our customers were quite understanding and Vaughn worked very hard with them as well as the production teams worked very hard to match up shipments to make sure. So no risk on penalties. Right now, everything is okay.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [10]

--------------------------------------------------------------------------------

And the outlook for Q4 is similar. That should be okay relative to your obligations?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [11]

--------------------------------------------------------------------------------

Yes, yes.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [12]

--------------------------------------------------------------------------------

Okay. Great. And then secondly, you mentioned you weren't offside on any of your debt covenants this quarter. What's your confidence level on being able to meet your confidence going into -- sorry, meet your covenants going into the next quarter?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [13]

--------------------------------------------------------------------------------

So we remain confident. And with the impact that we saw on the EBITDA in Q3, we, of course, monitor this very closely. But as we've disclosed in our materials, we do get run rate EBITDA at the -- for the facilities that are under construction. So High Level, for example, but also for our growth projects where we do expect incremental EBITDA, so Meadowbank and Williams Lake. We get the benefit of those add backs and more significantly for Entwistle. With Entwistle restarted now, we would expect in the coming quarters to start seeing positive EBITDA contribution and increased EBITDA contribution from Aliceville and Smithers on a year-over-year basis. So we're confident that, particularly with the revision in our credit agreement that we got in June of 2019, that we will be able to remain compliant.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [14]

--------------------------------------------------------------------------------

And on the fixed charge coverage ratio, you have confidence of meeting the covenants on that one as well?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [15]

--------------------------------------------------------------------------------

Indeed, we do.

--------------------------------------------------------------------------------

Operator [16]

--------------------------------------------------------------------------------

Our next question is from Mark Jarvi of CIBC Capital Markets.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [17]

--------------------------------------------------------------------------------

Andrea, I just wanted to go back to your comments about margin improvement probably through in Q4. Just clarify whether or not how you guys think about insurance recoveries in that comments, whether or not you'd exclude that from the Q3? Or you're anticipating some in Q4? Maybe just clarify.

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [18]

--------------------------------------------------------------------------------

So twofold. Of course, we do -- when we're looking at year-over-year margin or even quarter-to-quarter, we back out that business interruption impact and look at same facility. And of course, within the company, we're monitoring margins on every single facility to drive reduction in costs and see some improvement. In Q4, as we mentioned, we expect to see the impact of the cash conversion costs to be reduced because of some of the activities that I expected. Q4 is a colder month than Q3. So it will be seasonally adjusted, if you will.

In terms of business interruption proceeds, we've received or recognized in the financial statements a total of $8.5 million. We expect there to be more to recognize. With business interruption, it's always a negotiation and careful analysis and diligence working with our underwriters. We won't push time for settlement, if you will, in -- as a trade to the total amount that we get. So now that we're nearing the end, we're reaching that important phase of diligence and analysis, so we would expect some of the business interruption proceeds and recognition to delay into early 2020. However, we'll work hard to push and make sure that we can put some additional amounts in Q4 as well.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [19]

--------------------------------------------------------------------------------

Okay. And then, obviously, backlog continues to grow and you guys do require some further production increases. When you think about opportunities to add more production, just wondering what you see right now in sort of gating items to the next facility beyond High Level? Is it partnership agreements? Permitting? Is it just basing of capital outlays? Maybe some commentary on how you guys think about the timing and the pace of moving forward on further expansion.

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [20]

--------------------------------------------------------------------------------

So we have Leroy very active on working on our next opportunity and Adnan Khan came on Board and is coming up his ramp-up curve in the construction side. That's a very strong team in that area. So we continue to work very diligently and have moved some projects on a long way as we want to be very careful and meticulous and do our planning and our analysis very carefully. So that's our due diligence that we're undergoing right now.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [21]

--------------------------------------------------------------------------------

Okay. And then obviously, you need all your facilities right now to meet your production obligations or your contract offtakes. But as you think about some of the things you've gone through in B.C. and you expand over the next couple of years, do you think about rationalizing sort of the facility number in B.C. over time, smaller facilities? Or how do you guys think about the most efficient and sort of optimizing margins in B.C. over the next sort of 3 to 5 years?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [22]

--------------------------------------------------------------------------------

So we continue to look at that, and it will be an ongoing evaluation that we do. And it's really how you look at the fiber basket and transportation of that fiber to the plant. So we'll continue to do that. And it's really an ongoing process that we look at on a continuous basis. Remember, though, that with Entwistle and High Level and Aliceville, we're diversifying away from the B.C. basket and also when you look at where the most robust fiber baskets are right now, it is the U.S. Southeast.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [23]

--------------------------------------------------------------------------------

Right. And then maybe let's finish with one detailed question, maybe this is for Andrea. But you talked about the higher fiber inventories, but also pellet inventories are higher. Was there anything around just timing of shipments or materials at port? I'm just trying to wonder that uptick in finished material inventory?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [24]

--------------------------------------------------------------------------------

Yes. Thanks, Mark. There is actually, in terms of finished good inventories, you pointed out one thing, we load pretty large ship, particularly off the West Coast. So you can have pretty significant fluctuations quarter-to-quarter or year-over-year in the inventory at port based on ship's arrival timing. We work hard to have it just in time, but it doesn't always work out that way. The additional factor, of course, is this year, we're shipping off of 2 coasts. And so we will have a certain amount of fiber or finished goods inventory down in the U.S. Southeast as well.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [25]

--------------------------------------------------------------------------------

But there wasn't any delays or anything like that? Was shipping just happen to be just timing?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [26]

--------------------------------------------------------------------------------

Just quarter end timing.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [27]

--------------------------------------------------------------------------------

Okay.

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [28]

--------------------------------------------------------------------------------

We had a ship at Westview, Mark, that was delayed because of a couple of days weather, and that just tipped it over into the next quarter.

--------------------------------------------------------------------------------

Operator [29]

--------------------------------------------------------------------------------

The next question is a follow-up from Nelson Ng from RBC Capital Markets.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [30]

--------------------------------------------------------------------------------

So just for Entwistle now that you're commissioning the dryer, could you just talk about the ramp-up time frame for that facility? I know when it was initially built, I think you factored in like a 1-year ramp-up. But now that you've been kind of operating part of the facility, can you just talk about whether that ramp-up time frame is going to be much shorter?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [31]

--------------------------------------------------------------------------------

Yes, you're spot on. We don't have to go back and restart. So there's really 3 components. All the time while we're rebuilding the dryer, the crews were doing an excellent job at the dry end of the plant. And there's lots of pieces there. So there's everything from the shaving, the stent, all the conveyors, the pelleters, the hammer mills, the site of the storage. And they've been working on really fine-tuning that and really bringing up the curve. And they would store up fiber and then run it hard to simulate higher rates of production to make sure there's no bottleneck. So they've done a good job over the summer of really tuning up that side of the process. The other one is that we don't have to start with scratch because things like the furnace in the West, we got a lot of the bugs out of it or commissioning pieces out of it before the incident. And the crew has been doing a lot of training during the period as well and we've got an excellent crew on the start-up. So we'll have some commissioning issues and start-up issues, but we expect to jump back up on the curve where we left off and then ramp up from there.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [32]

--------------------------------------------------------------------------------

Okay. Got it. And then just staying with Entwistle, you mentioned that destoner will be done this quarter, and you spent about $4.5 million to date. Could you just talk about the total cost of the destoner? And also if you're likely to add a destoner to other facilities?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [33]

--------------------------------------------------------------------------------

Go ahead, Andrea. Go ahead.

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [34]

--------------------------------------------------------------------------------

Yes. So the total cost of destoner project is about $8 million to $9 million. And we would expect most of that to be incurred in the coming quarter with some balance perhaps into early 2020 from a payables perspective. In terms of additional destoner capacity, we're looking throughout our facilities to see what capital equipment would help with the changed fiber mix that we have. But remember, Entwistle had a pretty unique situation in terms of its fiber in the fact that they're operating sawmills right around that facility that it had inventories of residuals for some time that had been moved and handled and had additional rock and gravel mixed in and also a different zone in terms of the type of rock and gravel in the fiber. That being said, we do -- with the additional harvest residuals, we've seen increased sand and gravel coming in from the logging areas as well, so we will review if it will have a cost-effective reduction in repairs and maintenance costs and handling costs with additional destoning equipment.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [35]

--------------------------------------------------------------------------------

Okay. And then my next question just relates to the, I guess, the competition for fiber. So I think I read something about a torrefied pellets facility under development in Hazelton and I presume that's pretty close to Smithers. Could you just talk about whether there's going to be, I guess, that project goes through, I presume there's going to be more competition for fiber in that region?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [36]

--------------------------------------------------------------------------------

I guess to be a little bit flippant, I've got a desk full of torrefied proposals that people have. I'm not terribly optimistic that this project will proceed through to finish. It doesn't have an offtake. It doesn't have fiber secured. So I'm not sure this project will be successful. And so that's the first piece. The second piece is what they're proposing is quite a small plant. And at this moment in time, I don't see it as a threat.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [37]

--------------------------------------------------------------------------------

Okay. And then just moving on to the Southeast, I think Enviva wants to build a pellet facility in -- what is it, in Western Alabama Epes Industrial Park. And I think that one is a pretty large facility. And I just tried to Google Map it and it is relatively close to Aliceville. Is that right? I'm just wondering, again, from a, I guess, competition for fiber perspective whether that impacts your Aliceville facility in any way?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [38]

--------------------------------------------------------------------------------

No, it doesn't. It's close, and we monitor it and we understand it. But if you remember, when we came into Aliceville, we have secured very long-term contracts for the fiber for that plant. And so right now, as you'll see, that plant is well fibered up. It's got lots of inventory at it. And we've got other sources that are under contract that we can tap as well. And also, we have backed up the chipper and the log yard is still there. Even though we don't use it right now, it's there. It's back up. Right now, we can source residual fiber from sawmills at a much cheaper cost than bringing in logs.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [39]

--------------------------------------------------------------------------------

Okay. And then just while at Aliceville, I know the -- I guess the ideal production capacity is 270,000 metric tons per year. After the first -- after kind of completing the first phase of improvements, is there a sense of where production could go up to after the first phase?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [40]

--------------------------------------------------------------------------------

I think it's a worthwhile exercise to look at Lavington where the nameplate when we built it was something like 225 million tons -- or 225,000 tonnes, and now we're running at about 300,000 tons. So with all our plants, we look at it, how can we debottleneck machine centers and continue to drive it well over the nameplate. And Aliceville will be no exception.

--------------------------------------------------------------------------------

Nelson Ng, RBC Capital Markets, Research Division - Analyst [41]

--------------------------------------------------------------------------------

The longer term, you'd expect it would go over the nameplate?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [42]

--------------------------------------------------------------------------------

Yes.

--------------------------------------------------------------------------------

Operator [43]

--------------------------------------------------------------------------------

And the next question is a follow-up from Rupert Merer, National Bank.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [44]

--------------------------------------------------------------------------------

So going back to Entwistle, you're ramping up production again. Are there any conclusions on what happened with the incident earlier this year that are informing the ramp-up this time around? You may not be able to share details on the cause of the incident, but maybe give us a little color on how you may be approaching the ramp-up differently this time?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [45]

--------------------------------------------------------------------------------

Yes, thank you, and a good question. So many, many pieces have gone into this. And extraordinary effort from everything from the capital team to the operating team to our safety to Scott Bax's leadership to Ron's leadership as well there. And so multifacet. So there's been extensive review with the crew and also training that's gone on. The other one, we've redesigned things like the deluge system, the dryer system, the valving, some of the gate valving that froze during the incident last year so that it would operate under these very cold conditions. And so also, we've involved some of the manufacturers to give us good advice as well. So it's been a multifaceted approach. And also, we've learned a lot from there and some of the learnings from there, we've incorporated back into our existing plants as well.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [46]

--------------------------------------------------------------------------------

All right. Great. And then secondly, you seem to have a drop in production cost per ton relative to Q2. And I'm getting there with or without consideration of the insurance proceeds. Am I reading that correctly? And can you give some color on what drove the change in cost quarter-over-quarter?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [47]

--------------------------------------------------------------------------------

So we can have a change in cost per ton depending on the mix of facilities that are operating. We -- as we mentioned, we've got different -- or reduced production volumes at our B.C. facilities and Aliceville and Smithers came on compared to -- or increased their production certainly compared to 2018, but also even compared to Q2. And they're operating more profitably than some of our others. So it's really a mix change in the quarter.

--------------------------------------------------------------------------------

Rupert M. Merer, National Bank Financial, Inc., Research Division - MD and Research Analyst [48]

--------------------------------------------------------------------------------

Would there also be an impact from changing volumes from third parties or even your joint ventures that could change your average cost?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [49]

--------------------------------------------------------------------------------

Yes, certainly, third-party purchases and their percentage in the mix would be the larger impact of -- yes.

--------------------------------------------------------------------------------

Operator [50]

--------------------------------------------------------------------------------

The next question is a follow-up from Mark Jarvi, CIBC Capital Markets.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [51]

--------------------------------------------------------------------------------

Just wanted to go back conversation about improvements in conversion costs and more reliable fiber. Just where you guys think now, it was 14% down, I think, same facility production even with the switch to harvest residuals. Where do you think you can run that now in terms of what the drop might have been from a year ago as you put through more, I guess, predictable fiber diet?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [52]

--------------------------------------------------------------------------------

There's many variables to that, Mark. So I think the easiest answer is to say, as we see the fourth quarter improving from the third quarter, and we see Q1 even improving better than that. As Andrea said, there's quite a mix depending on which facilities, so we've got also the various mix at various facilities and how we're feeding the fiber to them. And then also, you'll see things like the ramp-up of Entwistle and Aliceville continue to run faster and faster.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [53]

--------------------------------------------------------------------------------

But if we just think of the B.C. facilities in sort of the middle of the province that have been most impacted, how do you -- they still probably can't hit nameplate as you've adjusted to more harvest residuals? Or do you think you can push them there in the next couple of quarters?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [54]

--------------------------------------------------------------------------------

I think we're going through the budget procedure right now, and we're getting close to nameplate on some of those facilities.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [55]

--------------------------------------------------------------------------------

Okay. And then one last question, I guess, is, obviously, you do have growth ambitions and now you're in production and funding, got the debt facility, are there other forms of capital that you guys are considering that might be credit metric friendly or other ways that could allow you guys to pursue your growth and maybe allay some of the fears of headline leverage that equity investors have a hard time stomaching?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [56]

--------------------------------------------------------------------------------

Yes. We -- Mark, we definitely -- we review many options in making sure that in our capital deployment strategy, we're looking at other credit-friendly options, as you say. And one thing that we are finding is we're looking at or further growth projects is the availability of some regional incentive programs in some parts of the U.S. Southeast that we see as something that's enhancing. And there are programs that can reduce capital programs for funding of capital that are quite friendly and financing and then also programs for reduction of ongoing OpEx over time.

The other elements that we do look at both from a strategic alignment perspective, but also from a capital deployment perspective is, we've been developing with partners, as you saw at the High Level facility. And we would expect that some of our projects in the future will also -- we'll work closely with partners, and they'll provide their proportionate capital investments.

--------------------------------------------------------------------------------

Mark Thomas Jarvi, CIBC Capital Markets, Research Division - Director of Institutional Equity Research [57]

--------------------------------------------------------------------------------

If you just think about your capital that you'll be committing, should we just continue to assume that, that comes from free cash flow and using the delayed draw facility? Or do you actually anticipate there would be other forms of securities coming in your capital structure in the next year or 2?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [58]

--------------------------------------------------------------------------------

I think for the purposes of modeling, it's best to assume deployment of our cash flow and debt financing. And you will see potentially some other forms coming in over the next few years. But with the additional production capacity that we expect to add, we felt there is sufficient room within our covenants to proceed with financing from the existing facility.

--------------------------------------------------------------------------------

Operator [59]

--------------------------------------------------------------------------------

And the next question is from Ian Gillies from GMP.

--------------------------------------------------------------------------------

Ian Brooks Gillies, GMP Securities L.P., Research Division - Director of Institutional Research and Research Analyst of Energy Services & Infrastructure [60]

--------------------------------------------------------------------------------

With adding the destoner at Entwistle, and as you think about what's transpired, I guess, over the last year, has there been any change in your view on run rate EBITDA, which, at the time of the announcement, was $19 million to $21 million per year?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [61]

--------------------------------------------------------------------------------

No, we're quite confident all the way through the team that, that holds, and we'll hit that.

--------------------------------------------------------------------------------

Ian Brooks Gillies, GMP Securities L.P., Research Division - Director of Institutional Research and Research Analyst of Energy Services & Infrastructure [62]

--------------------------------------------------------------------------------

And there's been some conversation earlier about ramp-up to full capacity and it taking quicker than a year. I mean can we draw the same analog across to EBITDA generation? Or will that take a bit longer, just given start-up costs, et cetera?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [63]

--------------------------------------------------------------------------------

I think the way I look at it is when you're in the commissioning curve, there is an EBITDA dry, if you're not running at full efficiency. Once you get it up and running then it really makes a big difference. If you can get it up and running and running smoothly and consistently, then the cost curve smooths out quite quickly. So during the first ramp-up, as Andrea said, first quarter, we don't anticipate too much contribution from it. And then as it ramps up and then once it gets full stride, then cost curve smooths out.

--------------------------------------------------------------------------------

Ian Brooks Gillies, GMP Securities L.P., Research Division - Director of Institutional Research and Research Analyst of Energy Services & Infrastructure [64]

--------------------------------------------------------------------------------

Okay. And as you look at the debottlenecking initiatives and things like adding in wood chippers and destoner, I mean, are you able to provide any context around what the EBITDA payback looks like on those initiatives relative to, say, your organic capital projects, just to get a sense of, I suppose, margin improvement as we move through the course of 2020?

--------------------------------------------------------------------------------

Andrea Louise Johnston, Pinnacle Renewable Energy Inc. - CFO [65]

--------------------------------------------------------------------------------

Sure. When we look at all of our deployment of capital, we target a CapEx EBITDA of 4 to 5.5x. With some of the projects, in some cases, where we're looking at smaller amounts, some of them can actually have a much quicker payback based on their ability to either reduce costs or increase production, and some of them will have less of a payback, and we prioritize them accordingly. But on average, we would expect them to reach that target range.

--------------------------------------------------------------------------------

Ian Brooks Gillies, GMP Securities L.P., Research Division - Director of Institutional Research and Research Analyst of Energy Services & Infrastructure [66]

--------------------------------------------------------------------------------

Okay. And with respect to stumpage fees potentially moving lower mid-2020 in B.C., at this point in time, do you expect that to have a material impact on fiber availability improving, i.e., do you think it provides some impetus for your suppliers to increase the run rate capacities?

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [67]

--------------------------------------------------------------------------------

I think it does. Each mill has a different set of economics. But certainly, stumpage is a key part of their cost structure. And I think it will have a material impact on some of the mills. There are other mills that as part of the rationalization of the Forestry Industry in B.C. will be permanently closed. So mill by mill, but certainly, it will have an impact on the economics of the mill.

--------------------------------------------------------------------------------

Operator [68]

--------------------------------------------------------------------------------

Thank you. There are no further questions. You may proceed with closing comments.

--------------------------------------------------------------------------------

Robert McCurdy, Pinnacle Renewable Energy Inc. - CEO & Director [69]

--------------------------------------------------------------------------------

Well, I'd like to thank everybody for your questions and attending the call, and I'll leave it at that. Thank you.

--------------------------------------------------------------------------------

Operator [70]

--------------------------------------------------------------------------------

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and we ask that you please disconnect your lines.