<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MAY 29, 1998
REGISTRATION NO. 333-48041
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
AMENDMENT NO. 2 TO
FORM S-11
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
----------------
TIMBERLAND GROWTH CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
1242 N. SECOND STREET
MEMPHIS, TN 38101
(901) 576-1400
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING
AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
RALPH M. DAVISSON, ESQ.
C/O POTLATCH CORPORATION
601 WEST RIVERSIDE AVENUE, SUITE 1100
SPOKANE, WA 99201
(509) 835-1500
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER,
INCLUDING AREA CODE, OF AGENT FOR SERVICE OF PROCESS)
COPIES TO:
BLAIR W. WHITE, ESQ. ROBERT V. JEWELL, ESQ.
GLENN Q. SNYDER, ESQ. ANDREWS & KURTH L.L.P.
DAVID R. LAMARRE, ESQ. 600 TRAVIS, SUITE 4200
PILLSBURY MADISON & SUTRO LLP HOUSTON, TEXAS 77002
P.O. BOX 7880 (713) 220-4200
SAN FRANCISCO, CALIFORNIA 94120
(415) 983-1000
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
As soon as practicable after the Registration Statement becomes effective.
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, please check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, please check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. [_]
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [_]
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS
REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH
SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID
SECTION 8(a), MAY DETERMINE.
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<PAGE>
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A +
+REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE +
+SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY +
+OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT +
+BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR +
+THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE +
+SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE +
+UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF +
+ANY SUCH STATE. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SUBJECT TO COMPLETION, DATED , 1998
15,000,000 SHARES
TIMBERLAND GROWTH CORPORATION
COMMON STOCK
(PAR VALUE $.01 PER SHARE)
----------
Timberland Growth Corporation, a Delaware corporation, is engaged in the
ownership, management and acquisition of timberlands. The Company's initial
properties consist primarily of approximately 824,000 fee acres of timberlands
located in the southeastern United States. These timberlands represent a
consolidation of the southeastern timberlands of Potlatch Corporation
("Potlatch") and all of the timberlands of Anderson-Tully Company ("ATCO") into
a real estate investment trust ("REIT"). The Company intends to pay regular
quarterly distributions, initially at an annual rate of $1.42 per share,
commencing with a pro rated distribution for the quarter ending September 30,
1998. Substantially all such distributions are expected to be treated as
capital gain distributions for federal income tax purposes.
All of the 15,000,000 shares of Common Stock offered hereby are being sold by
the Company. These shares represent approximately 42.9% of all shares of Common
Stock (or partnership interests exchangeable for shares of Common Stock)
outstanding after this offering (46.3% if the Underwriters' over-allotment
option is exercised in full). Upon consummation of this offering, Potlatch will
own limited partnership interests in the Company's operating partnership (the
"Partnership") exchangeable under certain circumstances for approximately 57.1%
of the shares of Common Stock (53.7% if the Underwriters' over-allotment option
is exercised in full) and initially will have an equal percentage of the
Company's voting power through its ownership of Special Voting Stock (as
defined herein). Prior to this offering, there has been no public market for
the Common Stock of the Company. It is currently anticipated that the initial
public offering price per share of the Common Stock will be between $18.50 and
$21.50. See "Underwriting" for a discussion of the factors to be considered in
determining the initial public offering price.
Application has been made to list the Common Stock on the New York Stock
Exchange under the symbol "TGC."
SEE "RISK FACTORS" BEGINNING ON PAGE 13 FOR A DISCUSSION OF MATERIAL RISKS
RELEVANT TO AN INVESTMENT IN THE COMMON STOCK, INCLUDING:
. Risks that are not applicable to an investment in a REIT focused on other
property types, due to the Company's status as the first publicly traded
timber REIT;
. The volatility of timber prices, which will cause the Company's operating
results and cash flow to fluctuate and may have an adverse impact on
stockholder distributions;
. Potlatch's initial control of 57.1% of the Company's voting power and
associated conflicts of interest, including the Company's dependence on
payments from Potlatch under the Timber Purchase Agreement (as defined
herein), which will initially account for substantially all of the
Company's revenues, and the absence of arm's-length negotiations with
respect to the terms of the Timber Purchase Agreement and the valuation of
the Company's timberlands;
. Limitations on the Company's ability to sell approximately 60% of its
initial timberlands, sell the balance of its initial timberlands
unencumbered by the Timber Purchase Agreement, borrow funds in certain
circumstances and engage in certain transactions, including certain
business combinations, without Potlatch's consent;
. The risk of uninsured losses from fire and other causes;
. Seasonal fluctuations in operating results and cash flow, which may
adversely affect stockholder distributions;
. Stringent environmental and endangered species regulations, which may
restrict timber harvesting;
. Uncertainties and risks associated with the Company's strategy of growth
through acquisitions;
. The Company's lack of experience in operating as an independent company or
as a REIT;
. The Company's expectation that the Internal Revenue Code will not require
the Company to distribute any material amounts of cash in order to remain
qualified as a REIT; and
. Taxation of the Company as a corporation if it fails to qualify as a REIT.
----------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
----------
<TABLE>
<CAPTION>
INITIAL PUBLIC UNDERWRITING PROCEEDS TO
OFFERING PRICE DISCOUNT(1) COMPANY(2)
-------------- ------------ -----------
<S> <C> <C> <C>
Per Share............................... $ $ $
Total(3)................................ $ $ $
</TABLE>
- -----
(1) The Company, the Partnership and Potlatch have agreed to indemnify the
Underwriters against certain liabilities, including liabilities under the
Securities Act of 1933. See "Underwriting."
(2) Before deducting estimated expenses of $3,000,000 payable by the Company.
(3) The Company has granted the Underwriters an option for 30 days to purchase
up to an additional 2,250,000 shares of Common Stock at the initial public
offering price per share, less the underwriting discount, solely to cover
over-allotments. If such option is exercised in full, the total initial
public offering price, underwriting discount and proceeds to Company will
be $ , $ and $ , respectively. See "Underwriting."
----------
The shares offered hereby are offered severally by the Underwriters, as
specified herein, subject to receipt and acceptance by them and subject to
their right to reject any order in whole or in part. It is expected that the
shares will be ready for delivery in New York, New York on or about ,
1998, against payment therefor in immediately available funds.
GOLDMAN, SACHS & CO.
----------
A.G. EDWARDS & SONS, INC.
LEGG MASON WOOD WALKER
INCORPORATED
PRUDENTIAL SECURITIES INCORPORATED
BANCAMERICA ROBERTSON STEPHENS
----------
The date of this Prospectus is , 1998.
<PAGE>
[Map of the Initial Timberlands, indicating by shading the locations of lands
held in Arkansas, Illinois, Kentucky, Louisiana, Mississippi, Missouri and
Tennessee. Lands are color-coded to indicate which were contributed by
Potlatch and which were acquired from ATCO]
All statements other than statements of historical fact included in this
Prospectus, including, without limitation, statements regarding the Company's
business strategy, estimated stockholder distributions, harvest plans and
other estimates, plans, intentions and objectives of management of the
Company, are forward-looking statements that involve risks and uncertainties.
Important factors that could cause actual results to differ materially from
the Company's estimates, plans, intentions or expectations are disclosed under
"Risk Factors," "Distribution Policy," "Management's Discussion and Analysis
of Financial Condition and Results of Operations of the Company," "Business"
and elsewhere in this Prospectus. The forward-looking statements contained
herein speak only as of the date of this Prospectus. The Company expressly
disclaims any obligation or undertaking to release publicly any updates or
revisions to any forward-looking statement contained in this Prospectus, to
reflect any change in the Company's expectations with regard thereto or any
change in events, conditions or circumstances on which any such statement is
based.
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING OVER-ALLOTMENT, STABILIZING AND SHORT-COVERING TRANSACTIONS IN SUCH
SECURITIES, AND THE IMPOSITION OF A PENALTY BID IN CONNECTION WITH THE
OFFERING. FOR A DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITING."
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C>
PROSPECTUS SUMMARY........................................................ 1
RISK FACTORS.............................................................. 13
Investment in the Company Subject to Different Risks than Other REIT
Investments............................................................. 13
Volatility of Timber Prices.............................................. 13
Conflicts of Interest.................................................... 14
Control by Potlatch..................................................... 14
Absence of Arm's-Length Negotiations or Appraisals in Formation
Transactions........................................................... 15
Risks Associated with Timber Purchase Agreement......................... 15
Conflicts of Interest in Acquisitions by the Company.................... 16
Conflicting Interests in Harvests of Timber and Sales of Timberlands.... 16
Possible Competition from Potlatch and its Affiliates................... 16
Risk of Uninsured Losses................................................. 17
Seasonality.............................................................. 17
Regulation............................................................... 17
Risks Associated with Acquisition Strategy............................... 17
No Experience in Operating as an Independent Company or as a REIT........ 18
Potential Limitations on Distributions................................... 18
Real Estate Investment Trust and Partnership Qualification............... 19
Potential Differences Between Taxable Income and Cash Available for
Distribution............................................................ 20
Factors Limiting Changes in Control...................................... 20
Contingent Liabilities; No Title Insurance............................... 21
Other Tax Risks.......................................................... 21
State Conformity with Federal Tax Law................................... 21
Capital Gains for Non-U.S. Stockholders................................. 22
Potential Payments of Tax on Capital Gain Income........................ 22
Uncertain Impact of Budget Proposal..................................... 22
Limitations on Accounting Income......................................... 23
Concentration of Ownership in Arkansas and Mississippi................... 23
Uncertainties Associated with Timber Inventory Estimates................. 23
Changes in Policies Without Stockholder Approval......................... 24
Lack of Prior Public Market and Possible Volatility of Stock Price....... 24
Immediate and Substantial Dilution....................................... 24
Adverse Effect on Stock Price of Shares Eligible for Future Sale......... 24
ERISA Risks.............................................................. 25
USE OF PROCEEDS........................................................... 25
DISTRIBUTION POLICY....................................................... 26
DILUTION.................................................................. 30
CAPITALIZATION............................................................ 31
SELECTED FINANCIAL AND OPERATING INFORMATION OF THE POTLATCH SOUTHERN
TIMBERLANDS.............................................................. 32
SELECTED CONSOLIDATED FINANCIAL INFORMATION OF ATCO....................... 33
</TABLE>
<TABLE>
<CAPTION>
PAGE
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<S> <C>
PRO FORMA CONDENSED CONSOLIDATED FINANCIAL INFORMATION................... 34
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS OF THE COMPANY............................................ 45
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS OF ATCO................................................... 58
BUSINESS................................................................. 64
Overview................................................................ 64
Business Strategy....................................................... 65
Competitive Strengths................................................... 66
Industry Background..................................................... 68
The Initial Timberlands................................................. 69
Resource Management..................................................... 73
Operations.............................................................. 75
Sales and Markets....................................................... 76
Federal and State Regulation............................................ 79
Competition............................................................. 83
Insurance Coverage...................................................... 83
Legal Proceedings....................................................... 83
Employees............................................................... 83
MANAGEMENT............................................................... 84
Directors and Executive Officers........................................ 84
Executive Compensation.................................................. 86
Employment Agreements................................................... 87
Compensation of Directors............................................... 87
Stock Incentive Plan.................................................... 88
Incentive Bonus Program................................................. 90
Severance Program for Executive Employees............................... 90
Pension Plans........................................................... 90
Compensation Committee Interlocks and Insider Participation............. 91
CERTAIN POLICIES AND OBJECTIVES.......................................... 92
Investment Policies..................................................... 92
Dispositions............................................................ 92
Financing............................................................... 92
Working Capital Reserves................................................ 94
Conflict of Interest Policies........................................... 94
Other Policies.......................................................... 94
INFORMATION REGARDING POTLATCH........................................... 95
THE FORMATION TRANSACTIONS............................................... 95
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........................... 98
Administrative Services Agreement....................................... 98
Opportunities Agreement................................................. 98
Registration Rights Agreement........................................... 98
Other Matters........................................................... 99
THE PARTNERSHIP AGREEMENT................................................ 99
Management.............................................................. 99
No Removal of the General Partner; Transfer of the General Partner's
Interest............................................................... 100
Amendments of the Partnership Agreement................................. 100
Transfer of Partnership Units; Substitute Limited Partners.............. 100
Exchange of Partnership Units........................................... 100
</TABLE>
i
<PAGE>
<TABLE>
<CAPTION>
PAGE
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<S> <C>
Issuance of Additional Limited Partnership Interests..................... 101
Extraordinary Transactions............................................... 101
Other Covenants.......................................................... 101
Exculpation and Indemnification of the General Partner................... 102
Tax Matters.............................................................. 102
Term..................................................................... 102
FEDERAL INCOME TAX CONSEQUENCES........................................... 103
Taxation of the Company.................................................. 103
Taxation of Taxable U.S. Stockholders of the Company..................... 112
Taxation of Tax-Exempt Stockholders of the Company....................... 114
Taxation of Non-U.S. Stockholders of the Company......................... 114
Tax Aspects of the Company's Ownership of Interests in the Partnership... 118
Uncertain Impact of Budget Proposal...................................... 121
Other Taxes.............................................................. 121
ERISA CONSIDERATIONS...................................................... 122
Employee Benefit Plans, Tax-Qualified Retirement Plans and IRAs.......... 122
Status of the Company and the Partnership under ERISA.................... 123
PRINCIPAL STOCKHOLDERS OF THE COMPANY AND PARTNERS OF THE PARTNERSHIP..... 125
</TABLE>
<TABLE>
<CAPTION>
PAGE
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<S> <C>
DESCRIPTION OF CAPITAL STOCK.............................................. 127
General.................................................................. 127
Common Stock and Special Voting Stock.................................... 127
Preferred Stock.......................................................... 128
Restrictions on Size of Holdings of Shares............................... 128
Transfer Agent and Registrar............................................. 130
New York Stock Exchange Listing.......................................... 130
CERTAIN PROVISIONS OF DELAWARE LAW AND THE COMPANY'S CHARTER AND BYLAWS... 131
Classification of the Board and Removal of Directors..................... 131
Business Combinations.................................................... 131
Meetings of Stockholders................................................. 132
Limitation of Liability and Indemnification Matters...................... 132
Advance Notice of Director Nominations and New Business.................. 132
Amendment of the Charter and Bylaws...................................... 132
SHARES ELIGIBLE FOR FUTURE SALE........................................... 133
UNDERWRITING.............................................................. 135
LEGAL MATTERS............................................................. 137
EXPERTS................................................................... 137
ADDITIONAL INFORMATION.................................................... 137
GLOSSARY.................................................................. 138
INDEX TO FINANCIAL STATEMENTS............................................. F-1
</TABLE>
ii
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and financial statements and related notes appearing elsewhere in
this Prospectus. Except as set forth in the financial statements and notes
thereto or otherwise as specified herein, all information in this Prospectus
assumes (i) no exercise of the Underwriters' over-allotment option, (ii) the
consummation of the transactions described under "The Formation Transactions,"
which will occur substantially contemporaneously with the consummation of the
public offering made hereby (the "Offering") and (iii) an initial public
offering price of $20.00 per share. See "The Formation Transactions" and
"Underwriting."
Unless the context otherwise requires, the term "Company," as used herein,
includes Timberland Growth Corporation and its consolidated subsidiaries,
including Timber Holdings L.P., a Delaware limited partnership (the
"Partnership"). After giving effect to the Offering and related transactions,
the Company will own an approximately 42.9% interest in the Partnership, as the
sole general partner. All references to the Company as a real estate investment
trust ("REIT") assume that the Company will qualify as a REIT beginning with
the tax year ending December 31, 1998. References to the "Initial Timberlands"
are to the approximately 500,000 fee acres and 14,000 leased acres of
timberlands that the Company will acquire from Potlatch Corporation
("Potlatch") and the approximately 324,000 fee acres of timberlands that the
Company will acquire from Anderson-Tully Company ("ATCO") in the Formation
Transactions. The Company's 824,000 fee acres include approximately 44,000
acres of roads and other non-productive acreage. See "Glossary" for the
definitions of certain additional terms used in this Prospectus.
THE COMPANY
The Company is the first publicly traded REIT primarily dedicated to the
ownership, management and acquisition of timberlands. The Company is one of the
largest private owners of softwood timberlands in Arkansas and of high quality
hardwood timberlands in North America. The Initial Timberlands, which are
located primarily in Arkansas and Mississippi, include approximately 364,000
fee acres of softwood timberlands and approximately 460,000 fee acres of
hardwood timberlands, and represent a consolidation of Potlatch's southeastern
timberlands and ATCO's timberlands into a REIT structure.
The Company plans to invest primarily in timberlands and to pursue
acquisitions of additional timberlands due to the renewable nature of timber
resources, timber's long-term history of price appreciation in excess of
inflation and the recent trend of tightening domestic timber supplies relative
to demand. The Company believes that there are many potential opportunities to
acquire additional timberlands, in part because timberland ownership in the
United States is highly fragmented with large numbers of commercial owners and
more than one-half million private non-industry owners of more than 100 acres
of timberland. The Company adopted a REIT structure because it believes that
this structure will enhance its ability to acquire additional timberlands due
to (i) its advantage over certain competing acquirors due to its ability to
focus on pre-tax cash flow returns as opposed to after-tax earnings, (ii) its
ability to offer many timberland sellers both enhanced liquidity and favorable
tax treatment through the exchange of interests in the Partnership
("Partnership Units") for timberlands (which will permit tax deferral for many
sellers), and (iii) its expectation that holders of Partnership Units will
receive capital gains treatment on substantially all of the Partnership's
initial distributions. The Company's ownership of timberland in a REIT
structure will, however, subject investors to certain risks and other
investment considerations not generally relevant to investments in REITs
focusing on other types of property. See "Risks Factors--Investment in the
Company Subject to Different Risks Than Other REIT Investments."
1
<PAGE>
The Company's timberlands contain an estimated total merchantable timber
volume of approximately 2.9 billion board feet ("BBF") of sawtimber and 24.1
million tons of pulpwood. The Company's softwood holdings consist primarily of
loblolly pine, and its hardwood lands contain high-value species such as red
oak and ash, as well as other hardwoods such as cottonwood, hackberry, sweet
gum and pecan. The Company estimates that over 40% of the hardwood sawtimber
inventory acquired from ATCO is USFS #1 grade (the highest grade), which is
more than four times greater than recent averages on all hardwood timberlands
available for commercial harvesting in ATCO's operating region, based on United
States Forest Service ("USFS") data. The Company's timberlands, which are
located in close proximity to numerous conversion facilities, are also highly
productive. In particular, the hardwood lands acquired from ATCO benefit from
excellent growing conditions, resulting in average annual growth per acre
significantly exceeding recent averages for hardwood timberlands in ATCO's
operating region, based on USFS data. The Company believes that the softwood
lands contributed by Potlatch are generally comparable in site quality to other
forest products industry lands in southern Arkansas and, based on USFS data,
exceed the average productivity of timberlands in the region. The Company's
hardwoods are utilized in different markets than its softwoods, and the Company
believes that these two categories experience different market dynamics.
Accordingly, the Company believes it should experience somewhat reduced
volatility in its operating results and cash flow than it would experience with
a less diverse species mix.
Potlatch will be required to purchase all of the timber to be harvested from
the Initial Timberlands pursuant to a long-term purchase agreement (the "Timber
Purchase Agreement") at prices designed to reflect fair market value on a
stumpage basis, determined quarterly. "Stumpage" pricing refers to the value of
standing timber. See "--The Timber Purchase Agreement" below.
The ownership, management and operation of the Company's timberlands will be
conducted solely through the Partnership, a Delaware limited partnership in
which the Company will initially hold an approximately 42.9% interest as the
sole general partner and Potlatch will initially hold an approximately 57.1%
interest as a limited partner. Upon completion of the Offering, Potlatch will
own the Company's sole share of Special Voting Stock, which will entitle
Potlatch to a number of votes equal to the number of shares of Common Stock
into which the Partnership Units held by Potlatch could be exchanged (initially
representing 57.1% of the Company's total voting power). Immediately after the
Offering, therefore, Potlatch will be able to control all matters requiring
approval by the Company's stockholders. Potlatch's control of the Company will
create certain conflicts of interest with respect to transactions under the
Timber Purchase Agreement, the pursuit of acquisitions, the Company's ability
to incur indebtedness and the selection of timberlands to be harvested or sold
by the Company. None of the Company's senior management will be employees of or
otherwise affiliated with Potlatch, a majority of the Company's directors will
not be employees of or otherwise affiliated with Potlatch, and all material
transactions between Potlatch and the Company will be reviewed by independent
directors of the Company. See "Risk Factors--Conflicts of Interest," "The
Formation Transactions," "The Partnership Agreement" and "Description of
Capital Stock."
The Company intends to pay regular quarterly distributions, initially at an
annual rate of $1.42 per share, commencing with a pro rated distribution for
the quarter ending September 30, 1998. The Company anticipates that
substantially all of its initial distributions to stockholders will be
characterized as capital gain for federal income tax purposes. If, after giving
effect to the Company's distributions for a tax year, the Company has not
distributed 100% of its capital gains, then it will be required to pay tax on
the undistributed portion of such income at regular federal corporate tax
rates. The Company expects that it will generally elect to have (i) such taxes
treated as having been paid on behalf of its stockholders and (ii) the retained
capital gains treated as having been distributed to stockholders. In such
event, the Company's stockholders will be required to take their proportionate
share of such retained capital gains into income but will be entitled to a tax
credit equal to their proportionate share of taxes paid by the Company. See
"Distribution Policy" and "Federal Income Tax Consequences--Taxation of the
Company--Income Tests" and "--Taxation of Taxable U.S. Stockholders--
Distributions by the Company."
2
<PAGE>
In addition to its timberlands, the Company also owns approximately 8,000
acres of farmland and interests in six commercial real estate properties. The
Company was incorporated in Delaware on February 4, 1998. The Company's
principal executive offices are currently located at 1242 North Second Street,
Memphis, Tennessee 38101, and its telephone number is (901) 576-1400.
SUMMARY RISK FACTORS
Prospective investors should carefully consider, among other factors, the
matters discussed under "Risk Factors" in this Prospectus before deciding
whether to invest in the shares of Common Stock offered hereby. Such risk
factors include:
. An investment in the Company will be subject to risks that are not
applicable to an investment in existing publicly traded REITs, including
risks specific to the timber business and certain tax risks associated
with the Company's status as a REIT focused on the ownership of
timberlands;
. The volatility of timber prices caused by changes in timber supply and
demand will cause the Company's operating results and cash flow to
fluctuate and may have an adverse impact on stockholder distributions;
. Potlatch's initial control of 57.1% of the Company's voting power and
associated conflicts of interest may result in transactions, including
transactions under the Timber Purchase Agreement, that do not fully
reflect the interest of all stockholders;
. The absence of arm's-length negotiations with respect to the terms of the
Timber Purchase Agreement and independent valuations of the Company's
timberlands may mean that the value of the equity interests received in
the Formation Transactions and the Offering based on the initial public
offering price exceeds the fair market value of the Company;
. The Company will be subject to limitations on its ability to sell
approximately 60% of its initial timberlands, sell the balance of its
initial timberlands unencumbered by the Timber Purchase Agreement, borrow
funds in certain circumstances, effect transactions causing a majority of
its assets to consist of non-timber assets, amend the Partnership
Agreement and engage in certain business combinations and certain other
transactions, without Potlatch's consent;
. The risk of uninsured losses from fire and other natural disasters;
. Seasonal fluctuations in operating results and cash flow may adversely
affect stockholder distributions;
. Stringent environmental and endangered species regulations may restrict
timber harvesting;
. The Company's strategy of growth through acquisitions is subject to
uncertainties and risks, including the Company's potential inability to
effect acquisitions on acceptable terms and the potential unavailability
of external financing to fund acquisitions;
. The Company's lack of experience in operating as an independent company
or as a REIT;
. Unlike most other REITs, the Company does not anticipate that the REIT
requirements of the Internal Revenue Code of 1986, as amended (the
"Code"), will require it to distribute any material amounts of cash in
order to remain qualified as a REIT, thus giving management more
discretion over the amounts of stockholder distribution than in many
other REITs;
. The Company will be taxed as a corporation if it fails to qualify as a
REIT;
. Anticipated differences between the Company's share of cash distributed
by the Partnership and the amount of taxable income allocated to it by
the Partnership could adversely affect the amount of cash distributions
to stockholders;
. The anti-takeover effect of (i) limiting actual or constructive ownership
of shares of Common Stock by a single person to 9.8% of the outstanding
shares of Common Stock (subject to certain exceptions) and (ii) certain
other provisions of the organizational documents of the Company and the
Partnership, and of Delaware law, any of which may have the effect of
3
<PAGE>
delaying or preventing a transaction or change in control of the Company
that might involve a premium price for the shares of Common Stock or
might otherwise be in the best interests of the Company's stockholders;
. The Company will acquire all of its initial timberlands subject to
environmental liabilities and other contingent liabilities, and will not
obtain title insurance;
. Other tax-related risks, including certain state tax issues and issues
under the Foreign Investment in Real Property Tax Act ("FIRPTA") for non-
United States investors;
. The Company's financial accounting income may be limited due, in part, to
the allocation to Potlatch of all of the "built-in" accounting gain
associated with the timberlands contributed by Potlatch;
. Risks associated with the concentration of approximately 94% of the
Company's timberlands in Arkansas and Mississippi;
. Uncertainties associated with timber inventory estimates;
. The ability of the Company to make changes in its investment, financing
and other policies without the approval of its stockholders could result
in policies that do not fully reflect the interests of all stockholders;
. The trading price of the Common Stock could be adversely affected by the
lack of a prior market for the Common Stock, changes in timber prices,
interest rate fluctuations and other factors;
. The immediate dilution to investors in the Offering of $10.62 per share
in the net tangible book value per share of Common Stock;
. The potential adverse effect of shares available for future sale on the
price of the Common Stock; and
. Special considerations for fiduciaries of pension, profit-sharing,
employee benefit and retirement plans and IRAs.
BUSINESS STRATEGY
The Company's primary objective is to maximize long-term cash flow per share
by pursuing the following strategies:
FOCUSING ON TIMBERLAND OWNERSHIP. The Company plans to invest primarily in
timberlands. The Company believes that timberland is a unique and attractive
asset, due to the renewable nature of timber resources, timber's long-term
history of price appreciation in excess of inflation and the recent trend of
tightening domestic timber supplies relative to demand. In addition, by owning
timberlands rather than conversion facilities, the Company will not be
directly exposed to certain risks typically encountered by integrated forest
products companies, such as potential mill overcapacity, higher capital and
maintenance costs and potential shortages of wood fiber. The Company also
believes that timber prices generally have been less volatile than wood
product prices.
AGGRESSIVELY PURSUING ATTRACTIVE ACQUISITIONS. Growth through acquisitions
is an integral part of the Company's business strategy. The Company believes
that there are many potential opportunities to acquire additional timberlands,
although the Company is not presently a party to any letter of intent or
binding agreement with respect to any acquisition other than ATCO. Timberland
ownership in the United States is highly fragmented, with large numbers of
commercial owners and more than one-half million private non-industry owners
of more than 100 acres of timberland. In the southeastern United States, where
the Company's operations are currently concentrated, non-government owners
hold a majority of all timberlands. The Company believes that it will enjoy an
advantage in competing for acquisition opportunities, in part due to its
ability to offer many potential sellers both enhanced liquidity and favorable
tax treatment through the exchange of interests in the Partnership
("Partnership Units") for timberlands. The critical elements of the Company's
acquisition strategy include: (i) identifying undervalued timberlands
throughout North America, including those that are likely to benefit from the
application of
4
<PAGE>
sophisticated resource management techniques; (ii) pursuing timberlands within
the Company's existing and future operating regions that offer potential
operational synergies; and (iii) pursuing strategic alliances with operators of
conversion facilities in North America, including Potlatch, that permit the
Company to participate in acquisitions of timberlands that include or are
vertically integrated with converting facilities.
MANAGING TIMBERLANDS TO IMPROVE LONG-TERM SUSTAINABLE YIELD. The Company
plans to manage its timberlands in a manner designed to optimize the balance
among current cash flow, timber growth and prudent environmental management, in
order to achieve increasing levels of sustainable yield (which refers to a
balance between growth and harvesting over time). The Company believes that
opportunities exist to enhance its lands' productivity and yield through
intensive cultivation of its timberlands (which is referred to as
"silvicultural" management) on a species- and site-specific basis. The Company
intends to continue to manage its timberlands to maximize sustainable yield
over the long term, although, with Potlatch's concurrence with respect to lands
subject to the Timber Purchase Agreement (as defined below), the Company may
choose to harvest timber from time to time at levels above its then-current
estimate of sustainability for various reasons, including to improve its lands'
long-term productivity.
PRACTICING SOUND ENVIRONMENTAL STEWARDSHIP. The Company pursues a program of
environmental stewardship and active involvement in federal, state and local
policymaking to maximize its assets' long-term value. Among other things, the
Company intends to manage its lands in a manner consistent with the principles
set forth in the Sustainable Forest Initiative ("SFI"), a program sponsored by
the American Forest & Paper Association. See "Business--Federal and State
Regulation--Background and Approach."
THE TIMBER PURCHASE AGREEMENT
Historically, the Initial Timberlands have been the principal source of raw
material for Potlatch's converting facilities in the southeastern United
States, including the former ATCO converting facilities that Potlatch will
acquire in the Formation Transactions. Under the Timber Purchase Agreement,
Potlatch will be required to purchase and harvest all of the timber from the
Initial Timberlands designated in the Company's harvest plans at prices
designed to reflect fair market value on a stumpage basis, determined
quarterly. In determining fair market value, Potlatch and the Partnership will
take into account such factors as they deem relevant, and initially, they will
generally consider prices paid in two types of transactions: (i) purchases of
logs on a "delivered log" basis at the mill, less harvesting and transportation
costs, and (ii) stumpage purchases. The Timber Purchase Agreement has an
initial term of 20 years and may be extended by either party for up to 18
successive ten-year periods. Neither Potlatch nor the Partnership may terminate
the agreement before the end of the initial term or any renewal period without
the other's consent, except upon certain material defaults. Consistent with the
Company's strategy of managing its timberlands on a sustainable yield basis
over the long term, the Timber Purchase Agreement requires the Company to
continue to manage the timberlands covered by the agreement in accordance with
prudent management practices and in a manner consistent with sustainable
forestry principles. The agreement covers all of the Initial Timberlands, and,
so long as Potlatch continues to own beneficially at least 20% of the Company's
outstanding voting power, certain additional timberlands that may be acquired
by the Company in the future within defined geographic areas (or that Potlatch
is required to offer to the Company in connection with Potlatch's acquisition
of a business consisting primarily of non-timberland assets) may also become
subject to the agreement at Potlatch's election. Although independent directors
of the Company will periodically review the implementation of the Timber
Purchase Agreement, Potlatch's initial control of the Company will create
conflicts of interest with respect to the negotiation of prices under the
Timber Purchase Agreement and the designation of timber to be harvested. See
"Risk Factors--Conflicts of Interest--Risks Associated with Timber Purchase
Agreement" and "Business--Sales and Markets--The Timber Purchase Agreement."
5
<PAGE>
THE FORMATION TRANSACTIONS
Substantially contemporaneously with the consummation of the Offering, the
Company, ATCO and Potlatch will engage in several transactions (the "Formation
Transactions"), which are designed to consolidate the ownership of the Initial
Timberlands in the Partnership, transfer most of ATCO's converting assets to
Potlatch, facilitate the Offering and enable the Company to qualify as a REIT
for federal income tax purposes commencing with the year ending December 31,
1998. The Formation Transactions include (i) Potlatch's contribution of its
southeastern timberlands (the "Potlatch Southern Timberlands") to the
Partnership in exchange for 20,000,000 Partnership Units; (ii) the Company's
acquisition of ATCO for approximately $410 million (including assumed
indebtedness) through a merger funded in part by the net proceeds of the
Offering; (iii) the Company's contribution to the Partnership of the
timberlands and certain other real estate assets formerly owned by ATCO
(collectively, the "ATCO Timberlands") in exchange for the issuance to the
Company of a general partner interest equivalent to 15,000,000 Partnership
Units; (iv) Potlatch's acquisition of the sole share of Special Voting Stock
from the Company; and (v) the execution of the Timber Purchase Agreement by
Potlatch and the Partnership. In connection with these transactions, Potlatch
will purchase from other entities controlled by the stockholders of ATCO
certain timber converting and log transportation assets for approximately $60
million (including assumed indebtedness).
The terms of the Formation Transactions were determined when Potlatch was the
sole stockholder of the Company. Accordingly, such terms may be less favorable
to the Company than if they had been the subject of arm's-length negotiations.
See "Risk Factors--Conflicts of Interest" and "The Formation Transactions."
As a result of the Formation Transactions, (i) the Company will own a 42.9%
interest in the Partnership as the sole general partner of the Partnership,
(ii) Potlatch will own a 57.1% interest in the Partnership as the initial
limited partner, (iii) Potlatch will own the sole share of Special Voting
Stock, initially entitling Potlatch to 57.1% of the total voting power of the
Company, (iv) the Partnership will own the Initial Timberlands, and (v) the
Partnership and Potlatch will be parties to the Timber Purchase Agreement. The
following chart illustrates the ownership structure of the Company and the
Partnership after the completion of the Formation Transactions and the
Offering:
[Diagram indicating (i) ownership of Common Stock with 42.9% of voting
power by investors in the Offering; (ii) ownership of 42.9% interest in the
Partnership by the Company; (iii) ownership by Potlatch of (a) the Company's
Special Voting Stock, entitling Potlatch to 57.1% of the Company's voting power
and (b) a 57.1% interest in the Partnership as a limited partner; and (iv)
ownership of the timberlands by the Partnership]
6
<PAGE>
DISTRIBUTIONS
The Company intends to pay regular quarterly distributions to its
stockholders. The Board of Directors, in its sole discretion, will determine
the actual distribution rate based on the Company's results of operations, cash
flow and capital requirements, economic conditions, tax considerations
(including those related to maintaining REIT status) and other factors.
The Company's first distribution, for the period ending September 30, 1998,
is anticipated to equal a pro rated share of the anticipated initial quarterly
distribution of $0.355 per share of Common Stock, which, on an annualized
basis, will represent a distribution rate of $1.42 per share of Common Stock,
or 7.1% of the initial public offering price (assuming an initial public
offering price of $20.00 per share). Substantially all of the Company's initial
stockholder distributions are expected to constitute capital gain
distributions. As the Initial Timberlands will have a low tax basis when
contributed to the Partnership, the Company anticipates that only a small
percentage, if any, of its initial distributions to stockholders will
constitute a return of capital. The Company intends to maintain a distribution
rate approximately equal to the initial quarterly distribution rate through the
quarter ending June 30, 1999 unless actual results of operations, cash flow,
economic conditions or other factors differ from the assumptions used in
calculating the initial estimated distribution rate. See "Distribution Policy"
for pro forma Funds from Operations and pro forma Cash Available for
Distribution (as defined herein) and related assumptions, and "Federal Income
Tax Consequences."
Unlike most existing REITs, the Company anticipates that its operations will
generate net capital gains and net ordinary losses, resulting in an overall net
capital gain. Accordingly, the Company does not anticipate that the requirement
that a REIT distribute 95% of its net taxable income (excluding net capital
gains) will require the Company to distribute any material amounts of cash to
remain qualified as a REIT. Notwithstanding the lack of any federal income tax
requirement that it do so, the Company plans to make certain distributions to
its stockholders, generally as a capital gain distribution. If, after giving
effect to the Company's distributions for a tax year, the Company has not
distributed 100% of its capital gains, then the Company will be required to pay
tax on the undistributed portion of such taxable income at regular federal
corporate tax rates (currently 35%). In such cases, the Company anticipates
that it would generally make an election pursuant to which (i) any federal
income tax paid by the Company on its retained capital gains would be treated
as having been paid on behalf of the Company's stockholders and (ii) such
retained capital gains would be treated as having been distributed to the
Company's stockholders. Although required to take their share of such gains
into income, stockholders (including tax-exempt U.S. stockholders) may file a
claim for refund if their proportionate share of the taxes paid by the Company
exceeds their actual tax liability (if any). See "Distribution Policy" and
"Federal Income Tax Consequences--Taxation of Taxable U.S. Stockholders--
Distributions by the Company."
7
<PAGE>
PRO FORMA SUMMARY FINANCIAL INFORMATION
(IN THOUSANDS)
The following table sets forth pro forma summary financial information for
the Company. The pro forma statement of operations data, statement of cash flow
data and other financial data are presented as if the Formation Transactions
and the Offering (assuming an initial public offering price of $20.00 per
share) had occurred at the beginning of the periods presented, and the pro
forma balance sheet data are presented as if such transactions occurred as of
March 31, 1998. Accordingly, the following pro forma summary financial
information incorporates certain assumptions that are included in the Pro Forma
Condensed Consolidated Financial Information contained elsewhere in this
Prospectus. The pro forma summary financial information is unaudited and does
not purport to represent what the Company's financial position and results of
operations would actually have been had the Formation Transactions and the
Offering, in fact, occurred as of the dates presented, or to project the
financial position or results of operations of the Company for future periods.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations of the Company" for a discussion of certain factors which may cause
the Company's future financial position and results of operations to differ
from those reflected in the pro forma summary financial information. The
following pro forma summary financial information should also be read in
conjunction with "Pro Forma Condensed Consolidated Financial Information" and
"The Formation Transactions."
8
<PAGE>
<TABLE>
<CAPTION>
PRO FORMA
----------------------------
THREE MONTHS
YEAR ENDED ENDED
DEC. 31, 1997 MARCH 31, 1998
------------- --------------
<S> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues.......................................... $ 69,957 $ 15,377
Depletion, depreciation and amortization.......... 21,237 4,767
Operating expenses................................ 7,511 1,930
Selling, general and administrative expenses...... 4,000 1,000
Earnings from operations.......................... 37,209 7,680
Minority interest in Partnership income........... (30,906) (6,032)
Net earnings...................................... 3,580 835
<CAPTION>
PRO FORMA
MARCH 31, 1998
--------------
<S> <C> <C>
BALANCE SHEET DATA:
Total assets...................................... $ 522,869
Long-term debt.................................... 129,994
Minority interest................................. 52,452
Stockholders' equity.............................. 276,002
<CAPTION>
PRO FORMA
----------------------------
THREE MONTHS
YEAR ENDED ENDED
DEC. 31, 1997 MARCH 31, 1998
------------- --------------
<S> <C> <C>
STATEMENT OF CASH FLOW DATA:
Cash flows from operations........................ $ 54,223 $ 11,259
Cash flows from investing......................... (3,209) (472)
Cash flows from financing......................... (22,781) (5,395)
<CAPTION>
PRO FORMA
----------------------------
THREE MONTHS
YEAR ENDED ENDED
DEC. 31, 1997 MARCH 31, 1998
------------- --------------
<S> <C> <C>
OTHER FINANCIAL DATA:
Net earnings (1).................................. $ 3,580 $ 835
Add:
Depletion and real estate-related depreciation
and amortization (2)........................... 20,927 4,689
Minority interest in Partnership income (3)..... 30,906 6,032
-------- ---------
Funds from Operations (4)......................... 55,413 11,556
Add:
Non-real estate-related depreciation and
amortization................................... 310 78
Subtract:
Capital expenditures (5)........................ (2,905) (483)
Principal payments on indebtedness.............. (1,481) (70)
Deferred income taxes (6)....................... (1,430) (537)
-------- ---------
Cash Available for Distribution (7)............... $ 49,907 $ 10,544
======== =========
Company's share of Cash Available for Distribution
(8).............................................. $ 21,389 $ 4,519
======== =========
</TABLE>
9
<PAGE>
- --------
(1) Included in net earnings is $910,000 and $203,000 of income tax payable to
the state of Arkansas for the year ended December 31, 1997 and for the
three months ended March 31, 1998, respectively. Arkansas is the only state
in which the Company presently anticipates doing business which has not
conformed to 1997 federal tax law changes affecting REITs. It is not
possible to predict whether Arkansas will conform to such changes and, if
it does so, whether such conformity would be retroactive to the effective
date of the 1997 federal tax law changes. Accordingly, for Arkansas state
tax purposes, the Company would likely be considered a regular corporation
and, if so, would be subject to the relevant income, franchise or income-
based excise taxes imposed by such state on the Company's income sourced to
such state, until such time as Arkansas either conforms with federal law or
the Company otherwise qualifies as a REIT under the law relating to REITs
prior to 1997. Arkansas has a history of passing conforming legislation,
but not on a retroactive basis. Accordingly, a provision for Arkansas state
income taxes has been included in the Pro Forma Condensed Consolidated
Statements of Operations. See "Risk Factors--Other Tax Risks" and "Federal
Income Tax Consequences."
(2) Depletion is a non-cash operating expense representing amortization of
costs associated with acquiring or establishing timber stands and is
charged to income when such timber is sold.
(3) Reflects Potlatch's 57.1% interest in the Partnership.
(4) The Company believes Funds from Operations is helpful to investors as a
measure of the performance of an equity REIT because, along with cash flow
from operating activities, investing activities and financing activities,
it provides investors with an understanding of the ability of the Company
to incur and service debt and make capital expenditures. The Company
calculates Funds from Operations as net earnings (computed in accordance
with GAAP) excluding significant non-recurring items, gains (or losses)
from debt restructuring and major sales of property, plus minority
interest, depletion and other real estate-related depreciation and
amortization (including amortization of logging roads) and after
adjustments for unconsolidated partnerships and joint ventures, less any
preferred stock dividends. The definition of Funds from Operations approved
by the National Association of Real Estate Investment Trusts ("NAREIT")
includes real estate-related depreciation and amortization but does not
specifically address timber-related depletion. The Company believes that it
is appropriate to include depletion in calculating Funds from Operations in
part because depletion is a non-cash operating expense and is analogous to
the real estate-related depreciation and amortization typically included in
Funds from Operations by non-timber REITs. Due to the Company's inclusion
of depletion in its calculation, the Company's Funds from Operations will
not be directly comparable to Funds from Operations reported by other
REITs, including REITs that define the term using the definition of Funds
from Operations approved by NAREIT. Funds from Operations should not be
considered as an alternative to net earnings (computed in accordance with
GAAP) as an indication of the Company's financial performance or to cash
flow from operating activities (computed in accordance with GAAP) as a
measure of the Company's liquidity, nor is it necessarily indicative of
funds available to fund the Company's cash needs, including its ability to
make distributions.
10
<PAGE>
(5) Capital expenditures consist of the following:
<TABLE>
<CAPTION>
PRO FORMA
----------------------------
THREE MONTHS
YEAR ENDED ENDED
DEC. 31, 1997 MARCH 31, 1998
------------- --------------
<S> <C> <C>
Silviculture:
Site preparation............................ $1,880 $420
Fertilization .............................. 557 --
Other silviculture.......................... 26 59
------ ----
Total silviculture......................... 2,463 479
Roads........................................ 313 3
Other........................................ 129 1
------ ----
Total...................................... $2,905 $483
====== ====
</TABLE>
(6) Deferred income taxes is a non-cash expense representing the reversal of a
deferred tax liability recorded under the purchase method of accounting in
connection with the Company's acquisition of ATCO.
(7) Cash Available for Distribution means Funds from Operations plus non-real
estate-related depreciation and amortization, minus capital expenditures,
principal payments on indebtedness and deferred income taxes. The Cash
Available for Distribution is not intended to be a projection or forecast
of the Company's results of operations or its liquidity, nor is the
methodology upon which the foregoing adjustments were made necessarily
intended to be a basis for determining future distributions.
(8) Represents the Company's 42.9% share of pro forma Cash Available for
Distribution.
11
<PAGE>
THE OFFERING
<TABLE>
<S> <C>
Common Stock offered by the
Company...................... 15,000,000 shares
Common Stock to be outstanding
after the Offering........... 35,000,000 shares(1)
Use of proceeds............... To fund a majority of the purchase price for the
acquisition of ATCO
Proposed NYSE symbol.......... TGC
</TABLE>
- --------
(1) Includes 20,000,000 shares of Common Stock issuable under certain
circumstances in exchange for Partnership Units held by Potlatch. Excludes
3,000,000 shares of Common Stock reserved for issuance under the Company's
1998 Stock Incentive Plan. See "Management--Stock Incentive Plan" and "The
Partnership Agreement."
TAX STATUS
The Company plans to elect to be taxed as a REIT under the Code, commencing
with its taxable year ending December 31, 1998. Pillsbury Madison & Sutro LLP
has acted as counsel to the Company in connection with the Offering, the
acquisition of ATCO and the Company's election to be taxed as a REIT. Skadden,
Arps, Slate, Meagher & Flom LLP has acted as special tax counsel to ATCO in
connection with ATCO's election to be taxed as a REIT commencing with its
taxable year beginning January 1, 1998. In the opinion of Pillsbury Madison &
Sutro LLP, commencing with the Company's taxable year ending December 31, 1998,
the Company will be organized in conformity with the requirements for
qualification as a REIT, and the Company's proposed method of operation will
enable it to meet the requirements for qualification and taxation as a REIT
under the Code provided that (i) the elections and other procedural steps
described under "Federal Income Tax Consequences" are completed in a timely
fashion and (ii) the Company and the Partnership operate in accordance with
various assumptions and factual representations made by the Company and the
Partnership concerning their organization, business, properties and operations
(and the organization, business, properties and operations of ATCO prior to its
acquisition by the Company). In addition, in providing its opinion, Pillsbury
Madison & Sutro LLP is relying upon an opinion of Skadden, Arps, Slate, Meagher
& Flom LLP as to the qualification of ATCO as a REIT. In providing its opinion,
Skadden, Arps, Slate, Meagher & Flom LLP is relying upon certain factual
representations received from ATCO. As a REIT, the Company generally will not
be subject to federal income taxes on net income that it distributes to its
stockholders. See "Distribution Policy" for a discussion of this requirement in
the specific circumstances applicable to the Company. REITs are subject to a
number of organizational and operational requirements. Even if the Company
continues to qualify for taxation as a REIT, the Company may be subject to
certain federal income taxes and certain state and local taxes on its income
and property. See "Risk Factors--Real Estate Investment Trust and Partnership
Qualification," "Risk Factors--Other Tax Risks" and "Federal Income Tax
Consequences."
12
<PAGE>
RISK FACTORS
An investment in the shares of Common Stock offered hereby involves a high
degree of risk. Prospective purchasers of the Common Stock should carefully
consider the following risk factors, as well as the other information
presented in this Prospectus, in evaluating an investment in the Common Stock.
Each of these factors could adversely affect the Company's results of
operations and ability to make anticipated distributions to stockholders. All
statements other than statements of historical fact included in this
Prospectus, including, without limitation, statements regarding the Company's
business strategy, estimated stockholder distributions, harvest plans and the
other estimates, plans, intentions and objectives of management of the
Company, are forward-looking statements that involve risks and uncertainties.
Important factors that could cause actual results to differ materially from
the Company's estimates, plans, intentions and objectives are disclosed below
and elsewhere in this Prospectus.
INVESTMENT IN THE COMPANY SUBJECT TO DIFFERENT RISKS THAN OTHER REIT
INVESTMENTS
Investors in the Company will be subject to certain risks that are not
applicable to an investment in REITs focused on other types of property,
because the Company is the first publicly traded REIT to be primarily
dedicated to the ownership of timberlands. For example, while many other REITs
derive substantial portions of their cash flow from leases or other contracts
providing for relatively stable payments, the Company's cash flow will be
substantially dependent upon the market price for timber in its operating
regions, and such prices have historically been volatile. See "--Volatility of
Timber Prices." Investors should also consider the other risks discussed below
which are not typically relevant to REIT investments but which are applicable
to an investment in the Company, including risks associated with uninsured
losses from natural disasters such as fire or insect infestation, and the risk
that regulatory changes, such as those designed to protect threatened and
endangered species, could restrict timber harvesting in the future. See "--
Risk of Uninsured Losses" and "--Regulation."
In addition, the tax considerations applicable to an investment in the
Company are different than those applicable to most existing REITs. The
Company anticipates that its operations will generate net capital gains and
net ordinary losses, resulting in an overall net capital gain. Accordingly,
the Company does not anticipate that the requirement that a REIT distribute
95% of its net taxable income (excluding net capital gains) will require the
Company to distribute any material amounts of cash to remain qualified as a
REIT. Moreover, because the Company is focused on the ownership of timberland,
it is possible that the Internal Revenue Service (the "Service") may challenge
the Company's qualification as a REIT or attempt to recharacterize the nature
of the Company's income for federal income tax purposes. The Company does not
intend to seek a ruling from the Service as to the foregoing matters, and will
rely upon opinions of counsel which are not binding on the Service or any
court. See "--Real Estate Investment Trust and Partnership Qualification" and
"Federal Income Tax Consequences."
VOLATILITY OF TIMBER PRICES
Unlike many other REITs which are parties to leases and other contracts
providing for relatively stable payments, the Company's results of operations
and cash flow are, and will continue to be, affected by the volatile nature of
timber prices. The demand for and supply of standing timber have been and are
expected to be subject to cyclical and other fluctuations, which often result
in significant variations in timber prices. The demand for softwood sawtimber
is primarily affected by the level of new residential construction activity
and, to a lesser extent, home repair and remodeling activity and other
industrial uses of wood fiber, which are subject to fluctuations due to
changes in economic conditions, interest rates, population growth, weather
conditions and other factors. The demand for hardwood sawtimber depends on the
markets for furniture and other products made from hardwoods, as well as the
foregoing factors. The demand for pulpwoods is also cyclical, and tends to
fluctuate based on changes in the demand for paper, tissue and similar
products, as well as conversion capacity in the
13
<PAGE>
relevant region. Reductions in residential construction activity and other
events reducing the demand for standing timber could have a material adverse
effect on the Company's results of operations and cash flow.
The Company's results of operations and cash flow will also be affected by
changes in timber availability at the local and national level. Increases in
timber supply could adversely affect the prices that the Company receives for
timber. The Company's operations are currently concentrated in the
southeastern United States, where most timberlands are privately owned.
Historically, increases in timber prices have often resulted in substantial
increases in harvesting on private timberlands, including lands not previously
made available for commercial timber operations, causing a short-term increase
in supply that has tended to moderate price increases. In addition, any
substantial increase in sales of timber from publicly-owned lands could
significantly reduce timber prices, which could have a material adverse effect
on the Company. In the last decade, environmental concerns and other factors
have limited timber sales by government agencies, which historically have been
major suppliers of timber to the United States forest products industry,
particularly in the West. Any reversal of policy that substantially increases
public timber sales could materially adversely affect the Company's results of
operations and cash flow, as the increased availability of timber in the West
and other regions with significant public timber ownership would depress
prices for timber and converted wood products in other regions, including the
Southeast. More locally, timber supplies can fluctuate depending upon factors
such as changes in weather conditions and harvest strategies of local forest
products industry participants, as well as occasionally high timber salvage
efforts due to unusual pest infestations or fires. Furthermore, increased
imports of wood products from Canada (due to the continuation of the Asian
economic crisis, which has contributed to recent increases in imports from
Canada, the expiration in 2001 of the United States-Canada lumber trade
agreement or otherwise) and other foreign countries could reduce the prices
that the Company receives for its timber. Over the longer term, the
development and application of silvicultural techniques and genetic
improvements on forest products industry lands have also tended to expand the
overall supply of timber.
Due to the foregoing factors, timber prices have historically been volatile
and frequently experience significant monthly and quarterly fluctuations. As
an example, southeastern pine sawtimber prices fluctuated throughout the 1980s
and 1990s, including a decline of 15% from 1984 to 1985, an increase of 29%
from 1994 to 1995, a decline of 11% from 1995 to 1996 and an increase of 23%
from 1996 to 1997, according to a trade publication. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations of
the Company." The Company's results of operations and cash flow will be
substantially dependent upon the market price for timber in its operating
regions and, accordingly, are expected to fluctuate.
CONFLICTS OF INTEREST
The Formation Transactions, and future transactions involving the Company
and Potlatch or its affiliates, are subject to conflicts of interest. The
following description summarizes certain of these conflicts of interest and
the relationships through which they will tend to arise. Because of Potlatch's
initial control of the Company and the other aspects of their relationship
described below, there can be no assurance that the Company will be able to
achieve the same results in its dealings with Potlatch that it might achieve
in the absence of such relationships.
CONTROL BY POTLATCH
Upon completion of the Offering, the Company will have Common Stock, which
is entitled to one vote per share, and Special Voting Stock, which is entitled
to a number of votes per share equal to the number of shares of Common Stock
into which the Partnership Units then held by the stockholder could be
exchanged. Potlatch will own the Company's sole share of Special Voting Stock
after the Offering, which will initially entitle Potlatch to 57.1% of the
Company's voting power. Potlatch will therefore be able to control all matters
requiring approval by the stockholders of the Company,
14
<PAGE>
including the election of all of the directors, transactions that would cause
a majority of the Company's assets to consist of assets other than timber,
timberlands and related assets, and certain business combinations. Potlatch,
as a limited partner of the Partnership, will also have the right under
certain circumstances to exchange its Partnership Units for cash or, in the
Company's discretion, shares of the Company's Common Stock. See "The
Partnership Agreement," "Certain Relationships and Related Transactions" and
"Principal Stockholders of the Company and Partners of the Partnership."
Under the Partnership's Amended and Restated Agreement of Limited
Partnership (the "Partnership Agreement"), the holders of at least a majority
of the limited partnership interests must approve certain mergers and
consolidations of the Company, certain amendments to the Partnership Agreement
and certain other matters. Potlatch will initially own a 57.1% interest in the
Partnership and thus will initially be able to control any such decision. See
"--Conflicting Interests in Harvests of Timber and Sales of Timberlands" and
"The Partnership Agreement."
ABSENCE OF ARM'S-LENGTH NEGOTIATIONS OR APPRAISALS IN FORMATION TRANSACTIONS
The valuation of the Company has been determined based upon the factors
discussed under "Underwriting" rather than an asset-by-asset valuation based
on historical cost or current market value. This methodology has been used
because management believes that it is appropriate to value the Company as an
ongoing business rather than with a view to values that could be obtained in a
liquidation of the Company or its individual assets. There have been no arm's-
length negotiations or third-party appraisals for the purpose of determining
the value of the timberlands contributed by Potlatch to the Partnership upon
its formation. There can be no assurance that a similar valuation would have
been determined, had the contribution been negotiated on an arm's-length
basis. Furthermore, there were no arm's-length negotiations with respect to
the other terms of the Formation Transactions involving Potlatch, in
particular with respect to Potlatch's representations, warranties and
indemnification obligations, and the terms of the Timber Purchase Agreement.
In addition, concurrently with the Company's acquisition of ATCO, Potlatch
will purchase certain converting assets from entities controlled by the
stockholders of ATCO for approximately $60 million (including assumed
indebtedness). Accordingly, the stockholders of ATCO will receive from
Potlatch and the Company a total of approximately $470 million (including
assumed indebtedness) in connection with the Formation Transactions. The
allocation of such amount between the ATCO timberlands and the converting
assets was determined by Potlatch based on its assessment of the value of the
respective assets. However, no third party appraisal was obtained by Potlatch
with respect to such allocation. There can be no assurance that the amount to
be paid by the Company for the ATCO timberlands does not exceed the fair
market value of such timberlands.
RISKS ASSOCIATED WITH TIMBER PURCHASE AGREEMENT
Initially, the Company will receive substantially all of its revenues from
Potlatch, through Potlatch's purchases of timber under the Timber Purchase
Agreement. The Timber Purchase Agreement has an initial term of 20 years, may
be extended by either party for up to 18 successive ten-year periods, and is
generally not terminable by either party except under certain limited
circumstances. Any failure or delay by Potlatch to make payments to the
Company under the agreement may have a materially adverse effect on the
Company and its ability to make distributions to stockholders. Certain
additional timberlands that may be acquired by the Company in the future may
also become subject to the agreement at Potlatch's election. Prices payable
under the agreement will be based upon available market data and other factors
deemed relevant. Initially, prices are generally expected to take into account
prices paid in (i) arm's-length transactions for comparable logs delivered to
the mill, less Potlatch's reasonable costs of logging and transporting the
logs to the mills where they are to be processed, and (ii) stumpage sales.
Accordingly, the prices payable by Potlatch for timber may be affected by
Potlatch's reasonable logging and transportation costs. The potential exists
for
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disagreements and conflicts of interest with respect to the negotiation and
adjustment of prices under the Timber Purchase Agreement and decisions
concerning the designation of timber to be harvested and the timing of
harvests. Because Potlatch will initially have voting control of the Company,
it may be able to influence the Company's decisions in the foregoing areas.
Although a committee consisting of members of the Board of Directors not
employed by the Company or employed by or otherwise affiliated with Potlatch
will periodically review the implementation of the Timber Purchase Agreement,
including the procedures used to determine the prices paid by Potlatch, no
assurance can be given that the prices payable by Potlatch will be equivalent
to fair market value stumpage prices, or that such procedures will be
identical to those that would be established in the absence of Potlatch's
influence over the Company.
CONFLICTS OF INTEREST IN ACQUISITIONS BY THE COMPANY
Potlatch may not be inclined to permit the Company to pursue an acquisition
made in exchange for the Company's Common Stock, Partnership Units or other
equity securities, because the issuance of such securities would reduce
Potlatch's voting control over the Company. Potlatch may also have different
incentives than the Company with respect to the financial and tax
characteristics of acquired properties, and may resist acquisitions that would
be beneficial to the Company for other reasons. In addition, the Company's
ability to use debt financing to effect acquisitions may be limited due to the
Company's agreement to refrain from taking any action that would cause
Potlatch to breach its debt covenants so long as they apply to the Company.
See "--Risks Associated with Acquisition Strategy" below.
CONFLICTING INTERESTS IN HARVESTS OF TIMBER AND SALES OF TIMBERLANDS
The interests of Potlatch and the Company will differ in connection with the
proposed harvest of timber or a proposed sale of timberlands. As a result of
the Formation Transactions, the Company will acquire ATCO, which will have
unrealized gain for tax purposes in its interests in the timberlands and
timber inventories acquired from ATCO. Potlatch will also have unrealized gain
for tax purposes in its interest in the timberlands and timber inventories
that Potlatch contributed to the Company. The harvest of timber or sale of
timberlands contributed by Potlatch may cause adverse tax consequences to
Potlatch, while the harvest of timber or sale of timberlands contributed by
ATCO may cause adverse tax consequences to the Company since, as a result of
such sales, Potlatch or the Company, as the case may be, may be allocated
taxable gain by the Partnership which may exceed its respective share of the
cash distributed by the Partnership at such time. See "--Potential Differences
Between Taxable Income and Cash Available for Distribution." Potlatch and the
Company will also have differing incentives with respect to the selection of
timber to be harvested or timberlands to be sold, because harvesting or
selling the timberlands contributed to the Partnership by Potlatch will have
different financial accounting consequences for Potlatch than harvesting or
selling the ATCO Timberlands. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of the Company--Overview." The
Partnership Agreement and Timber Purchase Agreement prohibit the Company from
selling or pledging any of the Potlatch Southern Timberlands without
Potlatch's prior consent in its sole discretion, subject to limited
exceptions. In addition, the Timber Purchase Agreement can be extended past
the initial term of 20 years at Potlatch's election and (subject to limited
exceptions) will continue to apply to a tract of the former ATCO timberlands
after it is sold. This will diminish the value of such timberlands to certain
prospective buyers.
POSSIBLE COMPETITION FROM POTLATCH AND ITS AFFILIATES
Potlatch controls approximately 1,037,000 acres of timberlands not being
contributed to the Company, consisting of 672,000 acres of timberland in
Idaho, a 22,000-acre hybrid poplar farm in Oregon and 343,000 acres of
timberland in Minnesota. The Company believes that none of these properties
currently competes directly with any of the Initial Timberlands. However, the
future timber holdings of the Company may compete with Potlatch. In addition,
while Potlatch has given the
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Company a right of first opportunity, subject to limited exceptions, to
acquire additional timberlands for so long as Potlatch beneficially owns at
least 20% of the Company's outstanding voting power, Potlatch and the Company
may be in competition if the Company rejects an opportunity or under certain
other circumstances. The Partnership Agreement does not restrict Potlatch or
its affiliates from competing with the Company or from entering into long-term
supply agreements or cutting contracts with other timber companies. See
"Certain Relationships and Related Transactions."
RISK OF UNINSURED LOSSES
The volume and value of timber that can be harvested from the Company's
lands, and therefore, its operating results and cash flow, may be limited by
natural disasters such as fire, insect infestation, disease, ice storms,
windstorms, flooding and other weather conditions, and other causes. For
example, the Company's primary softwood species, the loblolly pine, is subject
to fusiform rust, and other pests such as sawflies, southern pine beetles and
pales weevil are also common on the Company's lands. As is typical in the
industry, the Company does not maintain insurance for any loss to its standing
timber from natural disasters or other causes.
SEASONALITY
The Company's operating results and cash flow will fluctuate due to several
seasonal factors. Timber harvesting activities in the Company's softwood
operations are somewhat limited during the three- to four-month Winter rainy
season. Rainfall from November to April also depresses harvest volumes to some
extent in the Company's hardwood operations, due in part to the seasonal rise
in the Mississippi River. The Company's revenues and cash flow will be
significantly reduced during the foregoing periods. Due to these seasonal
limitations, the Company may need to borrow funds to make distributions to
stockholders. There can be no assurance that such funds will be available on
reasonable terms or at all. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of the Company--Historical
Results of Operations of Potlatch Southern Timberlands--Quarterly Results of
Operations" and "--Liquidity and Capital Resources."
REGULATION
The Company's operations are subject to numerous federal, state and local
laws and regulations, including those relating to the environment, endangered
species, the Company's forestry activities, and health and safety. In
particular, the Company anticipates that laws and regulations intended to
protect threatened and endangered species, and other environmental laws and
regulations, will generally become increasingly stringent. A number of species
indigenous to the Company's timberlands, such as the red cockaded woodpecker
and the bald eagle, have been and in the future may be protected under the
federal Endangered Species Act and similar state laws. The presence of
protected species on or near the Company's timberlands may restrict timber
harvesting, road building and other activities on its lands. The Company's
operations will also be subject to specialized statutes and regulations
governing forestry operations, and to other environmental laws, some of which
impose strict liability. The Company's lands, particularly its bottomlands
along the Mississippi River, may become subject to laws and regulations
designed to protect wetlands, which may in the future restrict harvesting,
road building and other activities. There can be no assurance that current and
future laws and regulations will not cause the Company to incur significant
costs, damages, penalties and liabilities, or that they will not materially
and adversely affect harvesting operations on the Company's timberlands. See
"Business--Regulation."
RISKS ASSOCIATED WITH ACQUISITION STRATEGY
The Company's business strategy includes expanding through acquisitions. See
"Business--Business Strategy." No assurance can be given that any acquisition
by the Company will occur, or that
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any such acquisition will enhance the Company's results of operations or cash
flow. The amount of timberland available for acquisition at any given time may
be limited by various factors, including price, and the Company will compete
for timberland acquisition opportunities with entities having substantially
greater financial resources than the Company. See "Business--Competition." In
addition, the Company may need to obtain additional financing in order to
effect acquisitions. The Company's ability to obtain debt financing will be
limited by (i) certain covenants in its credit facility, (ii) the
Partnership's agreement to refrain from taking any action that would cause
Potlatch to breach its debt covenants so long as they apply to the Company
(generally, so long as Potlatch owns more than 50% of the Company's voting
power or otherwise consolidates the Company for accounting purposes), and
(iii) its inability to effect certain secured financings without Potlatch's
consent. The Company will not be able to prevent Potlatch from incurring
indebtedness or otherwise utilizing most or all of the available capacity
under Potlatch's debt covenants. If Potlatch were to utilize such capacity,
the Company may be prohibited from incurring indebtedness. There is no
assurance that additional financing will be available to the Company on terms
acceptable to the Company (and, with respect to secured financings and certain
other indebtedness as to which Potlatch's consent is required, to Potlatch).
If the Company is unable to acquire additional timberlands at attractive
prices, the Company's ability to grow and to increase distributions to holders
of Common Stock will be adversely affected.
Any acquisition that the Company consummates will involve numerous risks,
including difficulties in the assimilation of the acquired company or its
timberlands into the Company's operations, assumption of liabilities of which
the Company is unaware at the time of acquisition, potential uncertainties
associated with operating in new markets, potentially dilutive issuances of
equity securities, the possible incurrence of debt, and the possible diversion
of management's attention from other business concerns.
NO EXPERIENCE IN OPERATING AS AN INDEPENDENT COMPANY OR AS A REIT
Prior to the Partnership's acquisition of the Initial Timberlands from
Potlatch and ATCO, the Initial Timberlands were managed as part of those
companies' overall businesses, which included the operation of conversion
facilities. As such, the Company does not have an operating history as an
independent public company. Moreover, the Company's senior management team has
been assembled only recently and has no experience in managing a REIT. The
Company believes that its success will depend to a significant extent upon the
efforts and abilities of this management team, and the loss of any of the
Company's senior management could have a material adverse effect on the
Company. Following the consummation of the Offering, the Company will be
responsible for maintaining its own administrative functions, except for
certain services to be provided by Potlatch pursuant to an administrative
services agreement. See "Certain Relationships and Related Transactions."
There can be no assurance as to the Company's future operating results as an
independent public company.
POTENTIAL LIMITATIONS ON DISTRIBUTIONS
The Company intends to maintain a distribution rate approximately equal to
the initial quarterly distribution rate of $0.355 per share through the
quarter ending June 30, 1999. If actual Cash Available for Distribution falls
short of estimates, the Company may be unable to maintain its proposed initial
distribution rate. The actual amounts of the Company's stockholder
distributions may fluctuate and will depend upon numerous factors, including
timber prices, the timing and amounts of Potlatch's payments under the Timber
Purchase Agreement, required principal and interest payments on the Company's
debt, acquisition costs, issuances of debt and equity securities by the
Company, capital expenditures, adjustments in reserves and other factors, many
of which will be beyond the control of the Company. Unlike many other equity
REITs, which derive substantial portions of their cash flow from leases or
other contracts providing for relatively stable payments, the Company's cash
flow may be subject to significant short-term fluctuations due to the
anticipated volatility of timber prices. See
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"Distribution Policy" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations of the Company." The Company's ability to
pay cash distributions to stockholders may also be affected by the fact that
the Company's share of cash distributed from the Partnership is anticipated to
differ from the amount of taxable income allocated to it by the Partnership.
See "--Potential Differences Between Taxable Income and Cash Available for
Distribution." In addition, Potlatch will be able to prevent the disposition
of any of the Potlatch Southern Timberlands, with only limited exceptions. See
"--Conflicts of Interest." As a result of these and other factors, there can
be no assurance regarding the levels of distributions, if any, to be paid by
the Company.
Unlike most existing REITs, the Company anticipates that its operations will
generate net capital gains and net ordinary losses, resulting in an overall
net capital gain. Accordingly, the Company does not anticipate that the
requirement that a REIT distribute 95% of its net taxable income (excluding
net capital gains) will require the Company to distribute any material amounts
of cash to remain qualified as a REIT. Notwithstanding the lack of any federal
income tax requirement that it do so, the Company plans to make certain
stockholder distributions, as described under "Distribution Policy." In
addition to the potential differences between taxable income and Cash
Available for Distribution (as described above), differences in timing between
the receipt of income and the payment of expenses in arriving at taxable
income (as a result of seasonality or otherwise) and the effect of required
debt amortization payments could require the Company to borrow funds on a
short-term basis to make the distributions necessary to maintain its
distribution objectives. There can be no assurance that the Company will be
able to borrow funds necessary to make such distributions, due in part to
certain contractual limitations on its ability to borrow. See "Distribution
Policy" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations of the Company--Liquidity and Capital Resources."
REAL ESTATE INVESTMENT TRUST AND PARTNERSHIP QUALIFICATION
The Company intends to elect to be taxed as, and to operate so as to qualify
as, a REIT under Sections 856 through 860 of the Code, commencing with its
taxable year ending December 31, 1998. Although the Company believes that it
will be so organized and will operate in such a manner, no assurance can be
given that the Company will qualify or remain qualified as a REIT.
Qualification as a REIT involves the application of highly technical and
complex Code provisions for which there are only limited judicial or
administrative interpretations. The complexity of these provisions and of the
applicable income tax regulations that have been promulgated under the Code
(the "Treasury Regulations") is greater in the case of a REIT that holds its
assets in partnership form. The determination of various factual matters and
circumstances not entirely within the Company's control may affect its ability
to qualify as a REIT. In addition, no assurance can be given that legislation,
new regulations, administrative interpretations or court decisions will not
significantly change the tax laws with respect to qualification as a REIT or
the federal income tax consequences of such qualification. See "--Other Tax
Risks" and "Federal Income Tax Consequences."
If the Company were to fail to qualify as a REIT in any taxable year, the
Company would not be allowed a deduction for distributions to stockholders in
computing taxable income and would be subject to federal income tax on its
taxable income at regular corporate rates. Unless entitled to relief under
certain statutory provisions, the Company would also be disqualified from
treatment as a REIT for the four taxable years following the year during which
qualification was lost. As a result, the funds available for distribution to
the Company's stockholders would be materially reduced for each of the years
involved. Although the Company currently intends to operate in a manner
designed to qualify as a REIT, it is possible that future economic, market,
legal, tax or other considerations may cause the Company to fail to qualify as
a REIT or may cause the Board of Directors to revoke the Company's REIT
election. See "Federal Income Tax Consequences" and "Certain Policies and
Objectives."
The Partnership has been structured to be classified as a partnership for
federal income tax purposes. If the Internal Revenue Service challenged
successfully the tax status of the Partnership as a partnership for federal
income tax purposes, the Partnership would be treated as an association
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taxable as a corporation. In such event, the character of the Company's assets
and items of gross income would change and preclude the Company from
satisfying the asset tests and possibly the income tests imposed by the Code
and, in turn, would prevent the Company from qualifying as a REIT. See
"Federal Income Tax Consequences--Taxation of the Company--Requirements for
Qualification." In addition, the imposition of a corporate tax on the
Partnership would materially reduce the amount of Partnership funds available
for distribution to the Company and would thus materially reduce the Company's
ability to pay distributions to stockholders. See "Federal Income Tax
Consequences--Tax Aspects of the Partnership."
The Company is the first publicly traded REIT primarily dedicated to the
ownership of timberlands. It is possible, although in the view of the
Company's management (after consultation with its advisors) unlikely, that the
Service may challenge the Company's qualification as a REIT or attempt to
recharacterize the nature of the Company's income for federal income tax
purposes. The Company does not intend to seek a ruling from the Service as to
the foregoing matters, and will rely upon opinions of counsel which are not
binding on the Service or any court. See "Federal Income Tax Consequences."
POTENTIAL DIFFERENCES BETWEEN TAXABLE INCOME AND CASH AVAILABLE FOR
DISTRIBUTION
The Company's share of cash distributed from the Partnership may differ from
the amount of taxable income allocated to it by the Partnership. The
difference between the value of the assets contributed to the Partnership by
ATCO and their basis for federal income tax purposes will have to be taken
into account by the Company when the Partnership sells or harvests timber from
the ATCO Timberlands or otherwise disposes of such assets. However, the
Company's share of the cash realized from such transactions will be based on
its percentage ownership of the Partnership. ATCO's tax basis in the assets to
be contributed by ATCO to the Partnership is expected to be less than 10% of
their value. Accordingly, the Company will generally be allocated more taxable
income upon harvesting of the ATCO Timberlands (or other disposition of the
ATCO assets acquired by the Company) than the amount of cash it will be
entitled to receive from the Partnership due to such harvesting or
disposition. Similar rules will apply to the timberlands that Potlatch
contributes to the Partnership. In the case of Potlatch's contributed
property, however, the additional taxable income will be allocated to
Potlatch, and as a result the Company will be entitled to more cash from a
disposition of assets contributed by Potlatch than its share of income from
such a disposition. Accordingly, the Company's share of cash distributed from
the Partnership will generally differ from the amount of taxable income
allocated to it by the Partnership. This may adversely affect the amount of
cash distributed to the Company's stockholders, as the Company may use
otherwise distributable cash to pay its taxes on the additional income it has
been allocated.
FACTORS LIMITING CHANGES IN CONTROL
Certain restrictions on the ownership of outstanding shares of Common Stock
intended to ensure compliance with REIT qualification requirements and to
otherwise protect the Company from the consequences of a concentration of
ownership among its stockholders, as well as certain provisions of the
Partnership Agreement, the Company's Certificate of Incorporation (the
"Charter") and Bylaws (the "Bylaws") and Delaware law, may have the effect of
inhibiting a change in control of the Company or the removal of existing
management, even where such a change could be beneficial to the Company's
stockholders. These restrictions and provisions include the following.
In order for the Company to qualify and to maintain its qualification as a
REIT, not more than 50% in value of its outstanding stock may be owned,
directly or constructively, by five or fewer individuals (as defined in the
Code to include certain entities). The Charter prohibits "beneficial
ownership" (which may be direct, indirect or constructive) of more than 9.8%
of the aggregate number of the outstanding shares of the Common Stock or
preferred stock (if any) of the Company (the "Ownership Limit"), unless waived
by the Company's Board of Directors. Potlatch and its successors are excluded
from the Ownership Limit. Stock owned by a group of related individuals or
entities may be deemed to be
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beneficially owned by one individual or entity. As a result, the acquisition
of less than 9.8% of the Common Stock (or the acquisition of an interest in an
entity which owns Common Stock) by an individual or entity could cause that
individual or entity (or another individual or entity) to own constructively
in excess of 9.8% of the Common Stock, and thus subject such Common Stock to
the Ownership Limit. Beneficial ownership of shares of Common Stock in excess
of the Ownership Limit would cause the violative transfer or ownership to be
void, and cause such shares to be designated as "Excess Shares" (as defined
below). See "Description of Capital Stock--Restrictions on Size of Holdings of
Shares."
Certain provisions of Delaware law and the potential issuance of Preferred
Stock could also delay or prevent a change in control of the Company. The
Charter authorizes the Board of Directors to issue Preferred Stock in one or
more series and to establish the preferences and rights of any series of
Preferred Stock issued, all without stockholder approval. The rights of
holders of Common Stock will be subject to, and may be adversely affected by,
the rights of the holders of any Preferred Stock that may be issued in the
future. No Preferred Stock will be issued or outstanding as of the closing of
the Offering. See "Certain Provisions of Delaware Law and the Company's
Charter and Bylaws" and "Description of Capital Stock--Preferred Stock."
In addition, the staggered structure of the Company's Board of Directors may
have an anti-takeover effect by impairing a third party's ability to acquire
immediate control of the Board of Directors. The Board of Directors of the
Company will have three classes of directors serving three-year terms, with
initial terms expiring in 1999, 2000 and 2001, respectively.
CONTINGENT LIABILITIES; NO TITLE INSURANCE
The Company (through the Partnership) will acquire all of the Initial
Timberlands subject to environmental liabilities with respect to the Initial
Timberlands and certain other existing or potential liabilities. The Company
will not obtain title insurance policies for the Initial Timberlands acquired
from Potlatch and ATCO, and will rely upon the representations of Potlatch and
ATCO as to their ownership of such lands. No assurance can be given that the
Company would have adequate recourse against Potlatch for any defect in title.
In addition, there can be no assurance that the Company will not be subject to
claims or losses under environmental laws due to the Company's acquisition of
the Initial Timberlands, which have not been subjected to any investigation or
audit by an independent environmental consultant. The Company will also
succeed to any other liabilities existing on the Initial Timberlands at the
time of their conveyance to the Company.
OTHER TAX RISKS
STATE CONFORMITY WITH FEDERAL TAX LAW
While it is anticipated that the Company will qualify as a REIT for federal
income tax purposes, the qualification of the Company as a REIT under the laws
of the individual states will depend, among other things, on such states'
level of conformity with federal tax law. In particular, one change made by
the Taxpayer Relief Act of 1997 (which eliminated percentage limitations on
the amount of capital gain income a REIT can have from assets held or deemed
held for less than four years) is critical to the federal income tax treatment
described herein. Absent conformity with such change, the status of the
Company as a REIT for purposes of a particular state's tax laws would be
doubtful.
While some states automatically conform to changes in federal income tax
law, other states must pass specific legislation to adopt such changes. In the
case of a state which has automatically or by express legislative action
adopted such change in tax law, the status of the Company as a REIT for such
state's purposes would be based on its qualification as a REIT for federal
income tax purposes. See "Federal Income Tax Consequences."
Arkansas is the only state in which the Company presently anticipates doing
business which has not conformed to the 1997 federal tax law changes. It is
not possible to predict whether Arkansas will
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conform to such changes and, if it does so, whether such conformity would be
retroactive to the effective date of the 1997 federal tax law changes.
Accordingly, for Arkansas state tax purposes, the Company would likely be
considered a regular corporation and, if so, would be subject to the relevant
income, franchise or income-based excise taxes imposed by such state on the
Company's income sourced to such state, until such time as Arkansas either
conforms with federal law or the Company otherwise qualifies as a REIT under
the law relating to REITs prior to 1997.
In the case of a state which has not automatically or by express legislative
action adopted the 1997 federal income tax changes, and in which the Company
is not engaged in business (either presently or in the future due to
acquisitions), the inability of the Company to qualify as a REIT for such
state's tax purposes due to such state's lack of conformity to federal law is
not expected to have any material effect on the Company, as the Company would
generally not be subject to taxation by such state. Distributions by the
Company to its stockholders in such state, however, would likely be
characterized as dividends rather than capital gains for purposes of computing
such stockholders' state tax liability. This difference will generally be
relevant only in those states where capital gains are taxed at preferential
rates or where a stockholder has a net capital loss carryforward available for
state tax purposes. Prospective investors in the Common Stock are advised to
consult with their tax advisers concerning the state tax consequences of an
investment in the Common Stock.
CAPITAL GAINS FOR NON-U.S. STOCKHOLDERS
Non-United States stockholders should be aware that the Company anticipates
that substantially all of the amounts distributed by the Company to its
stockholders will constitute capital gains distributions. Under the provisions
of the Foreign Investment in Real Property Tax Act ("FIRPTA"), such capital
gain distributions are generally subject to withholding at a rate of 35%.
POTENTIAL PAYMENTS OF TAX ON CAPITAL GAIN INCOME
Unlike most existing REITs, the Company anticipates that its operations will
generate net capital gains and net ordinary losses, resulting in an overall
net capital gain. Accordingly, the Company does not anticipate that the
requirement that a REIT distribute 95% of its net taxable income (excluding
net capital gains) will require the Company to distribute any material amounts
of cash to remain qualified as a REIT. If, after giving effect to the
Company's distributions for a tax year, the Company has not distributed 100%
of its net taxable income (including capital gains), then the Company will be
required to pay tax on the undistributed portion of such taxable income at
regular federal corporate tax rates (currently 35%). In such cases, the
Company anticipates that it would generally make an election pursuant to which
(i) any federal income taxes paid by the Company on its retained capital gains
would be treated as having been paid on behalf of the Company's stockholders
and (ii) such retained capital gains would be treated as having been
distributed to the Company's stockholders. Although required to take their
share of such gains into income, stockholders (including tax-exempt U.S.
stockholders) may file a claim for refund if their proportionate share of the
taxes paid by the Company exceeds their actual tax liability (if any). To the
extent that the Company has funds available (including from operations,
borrowings, equity issuances, sales of assets or otherwise), the Company may
elect to use such funds to pay taxes on its retained capital gains. In order
to pay such taxes, the Company may reduce the amount of cash distributed to
its stockholders if, in the judgment of the Board of Directors, it would not
be in the Company's best interest to utilize funds from borrowings, equity
issuances, sales of assets or other sources to pay such taxes. See "Federal
Income Tax Consequences--Taxation of Taxable U.S. Stockholders--Distributions
by the Company."
UNCERTAIN IMPACT OF BUDGET PROPOSAL
The Budget Proposal submitted by the President to Congress on February 2,
1998 contains a number of provisions which could affect REITs in general and
the Company in particular. The proposal
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requests four changes to the rules applicable to REITs. The proposal would (i)
restrict the ability of any person (including any corporation) from owning
more than 50% of the vote or value of all classes of equity securities of a
REIT, effective for companies electing REIT status for tax years beginning on
or after the date of "first committee action" on the budget bill; (ii)
restrict the ability of a REIT to own more than 10% of the vote or value of
all equity securities of a corporation (in contrast to current rules, which
provide that a REIT may not own more than 10% of the vote of all equity
securities of a corporation), effective for acquisitions of stock on or after
the date of "first committee action" on the budget bill; (iii) require the
immediate taxation of all built-in-gains on the conversion of a subchapter C
corporation into a REIT (excluding conversions where the corporation at issue
had a value of $5 million or less), effective for conversions after January 1,
1999; and (iv) eliminate certain tax benefits for the few existing "paired
share" REITs. The Company does not believe that the proposed legislation, in
its current form (including the proposed effective dates), would have a
material adverse impact on the Company if it were passed in substantially the
same form as set forth in the Budget Proposal. The Company cannot presently
predict whether one or more of the provisions of such proposal will pass, what
form any final legislative language will take if so passed, or the effective
date of any such legislation.
LIMITATIONS ON ACCOUNTING INCOME
The Company does not expect to record significant net earnings for several
years and believes that prospective investors should consider the Company's
cash flow, as well as other factors, in evaluating an investment in the Common
Stock. The Company's accounting income will be significantly reduced by
depletion, which is a non-cash expense representing amortization of the costs
associated with acquiring or establishing timber stands. In particular, due to
the acquisition of ATCO under the purchase method of accounting, the depletion
associated with the cutting of timber from the ATCO Timberlands will
significantly reduce the Company's accounting income. In addition, Potlatch
will be allocated all of the "built-in" accounting gain attributable to the
Potlatch Southern Timberlands as of their contribution to the Company, which
will be substantial due to their low basis. This allocation will significantly
reduce the accounting income reported by the Company. Any decline in timber
values after the closing of the Offering may cause the Company to incur net
losses, because each partner of the Partnership (initially, Potlatch and the
Company) will be allocated its full pro rata share of any accounting gain or
loss arising upon the harvesting or sale of timber or timberlands that is
attributable to appreciation or depreciation in those assets after the closing
of the Formation Transactions. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of the Company--Overview."
CONCENTRATION OF OWNERSHIP IN ARKANSAS AND MISSISSIPPI
The Company's timber holdings are currently concentrated in Arkansas and
Mississippi, which together account for approximately 94% of the Company's
total acreage. Due to the geographic concentration of the Company's lands,
adverse events or conditions affecting operations in Arkansas and Mississippi,
such as weather conditions, localized natural disasters, mill closures and
regulatory changes in those states, will have a disproportionately adverse
effect on the Company as compared to timber companies with more widespread
ownership.
UNCERTAINTIES ASSOCIATED WITH TIMBER INVENTORY ESTIMATES
The estimated timber inventories set forth in this Prospectus are based upon
estimates by Company personnel that are inherently uncertain. Although the
Company believes that the estimated inventories set forth herein have a
reasonable basis, actual timber volumes may differ from the Company's
estimates. If actual timber volumes were materially lower than those
estimated, the amount of timber harvestable from the Company's lands could be
reduced from the levels anticipated by the Company, adversely affecting the
Company's operating results and cash flow.
23
<PAGE>
CHANGES IN POLICIES WITHOUT STOCKHOLDER APPROVAL
The Board of Directors of the Company determines the Company's investment
and financing policies, as well as its policies with respect to certain other
activities, including its growth, capitalization, distributions and operating
policies. Although the Board of Directors has no present intention to amend or
revise these policies, the Board of Directors may do so at any time without a
vote of the Company's stockholders. See "Certain Policies and Objectives."
LACK OF PRIOR PUBLIC MARKET AND POSSIBLE VOLATILITY OF STOCK PRICE
Prior to the Offering, there has been no public market for the Common Stock,
and there can be no assurance that an active trading market will develop or be
sustained. The initial public offering price for the Common Stock will be
determined by negotiations among the Company and the representatives of the
Underwriters and may bear no relationship to the price at which the Common
Stock will trade after completion of the Offering. See "Underwriting" for a
description of the factors to be considered in determining such offering
price.
The market price of the Common Stock could be subject to significant
fluctuations in response to quarter-to-quarter variations in operating results
and cash flow, levels of stockholder distributions, fluctuations in timber
prices, changes in environmental or tax laws, revisions of securities
analysts' estimates, the opening or closing of conversion facilities within
the regions served by the Company's timberlands, announcements of changes in
federal or state timber sales or timber management policies, and other events
or factors. The trading price of the Common Stock may also be influenced by
the annual yield from distributions by the Company on the Common Stock as
compared to yields on other financial instruments. An increase in market
interest rates will result in higher yields on certain other financial
instruments, which could adversely affect the market price of the Common
Stock. In addition, in recent years the stock market has experienced extreme
price and volume fluctuations that have particularly affected the market
prices of many forest products companies and REITs and that have often been
unrelated or disproportionate to the operating performance of such companies.
These fluctuations, as well as general economic and market conditions, may
adversely affect the market price of the Common Stock. See "--Volatility of
Timber Prices."
IMMEDIATE AND SUBSTANTIAL DILUTION
Purchasers of shares of Common Stock in the Offering will experience
immediate and substantial dilution of $10.62 per share in the net tangible
book value of the shares of Common Stock from the assumed initial public
offering price of $20.00 per share. See "Dilution."
ADVERSE EFFECT ON STOCK PRICE OF SHARES ELIGIBLE FOR FUTURE SALE
Sales of substantial amounts of Common Stock (including shares issued in
exchange for Partnership Units pursuant to the Partnership Agreement), or the
perception that such sales could occur, may adversely affect prevailing market
prices for the Common Stock. An aggregate of 20,000,000 Partnership Units will
be held by Potlatch, as the sole initial limited partner of the Partnership,
upon completion of the Formation Transactions. The Partnership Units held by
the Partnership's limited partners may be exchanged at any time after the
second anniversary of the completion of the Offering (or earlier, in the event
of certain tender or exchange offers, extraordinary dividends, mergers and
other fundamental transactions) for cash, or at the Company's option, for
shares of Common Stock on a one-for-one basis (subject to antidilution
adjustments). See "The Partnership Agreement--Exchange of Partnership Units."
The shares of Common Stock issuable upon exchange of the Partnership Units may
be sold in the public market pursuant to Rule 144 under the Securities Act of
1933. The Company also has granted Potlatch certain "piggyback" and "demand"
registration rights commencing on the second anniversary of the completion of
the Offering. See "Certain Relationships and Related Transactions" and "Shares
Eligible for Future Sale." If the
24
<PAGE>
Company elects to issue shares of Common Stock in exchange for Partnership
Units, the number of shares eligible for sale in the public market would
increase substantially, which could have a material adverse effect on the
trading price of the Common Stock. The Company and Potlatch have agreed, with
certain exceptions, not to offer or sell shares of Common Stock for one year
after the date of this Prospectus without the consent of Goldman, Sachs & Co.
Additionally, approximately 150,000 shares of Common Stock issuable upon
exercise of stock options will be eligible for sale in the public market one
year after the date of this Prospectus, upon expiration of lock-up agreements
with Goldman, Sachs & Co.
The Company's acquisition strategy will depend in part on access to
additional capital through sales and issuances of equity securities, including
Partnership Units. The market price of the Common Stock may be adversely
affected by the availability for future sale of shares of Common Stock that
may be issued in future acquisitions, or that may be issued upon exchange of
Partnership Units issued in future acquisitions. No predictions can be made as
to the effect that future sales of shares, or the perception that such sales
could occur, will have on the price of the Common Stock.
ERISA RISKS
The Employee Retirement Income Security Act of 1974, as amended ("ERISA"),
and section 4975 of the Code prohibit certain transactions that involve (i)
certain pension, profit-sharing, employee benefit, or retirement plans or
individual retirement accounts (each, a "Plan") and (ii) the assets of a Plan.
A "party in interest" or "disqualified person" with respect to a Plan will be
subject to (x) an initial 15% excise tax on the amount involved in any
prohibited transaction involving the assets of the Plan and (y) an excise tax
equal to 100% of the amount involved if any prohibited transaction is not
corrected. Consequently, the fiduciary of a Plan contemplating an investment
in the Common Stock should consider whether the Company, any other person
associated with the issuance of the Common Stock, or any affiliate of the
foregoing is or might become a "party in interest" or "disqualified person"
with respect to the Plan. In such a case, the acquisition or holding of Common
Stock by or on behalf of the Plan could be considered to give rise to a
prohibited transaction under ERISA and the Code. See "ERISA Considerations--
Employee Benefit Plans, Tax Qualified Retirement Plans and IRAs."
Regulations of the Department of Labor that define "plan assets" (the "Plan
Asset Regulations") provide that in some situations, when a Plan acquires an
equity interest in an entity, the Plan's assets include both the equity
interest and an undivided interest in each of the underlying assets of the
entity, unless one or more exceptions specified in the Plan Asset Regulations
are satisfied. In such a case, certain transactions that the Company might
enter into in the ordinary course of its business and operations might
constitute "prohibited transactions" under ERISA and the Code. The Company
does not believe that the assets of the Company should be deemed to be "plan
assets" of any Plan that invests in the Common Stock. See "ERISA
Considerations--Status of the Company and the Partnership under ERISA."
USE OF PROCEEDS
The net proceeds to the Company from the sale of the 15,000,000 shares of
Common Stock being offered by the Company are estimated to be $276.0 million
($317.9 million, if the Underwriters' over-allotment option is exercised in
full), assuming an initial public offering price of $20.00 per share and after
deducting estimated underwriting discounts and commissions and offering
expenses. The Company intends to use all of the net proceeds of the Offering
to fund a majority of the purchase price for its acquisition of ATCO, with the
balance to be funded through the assumption of approximately $18.9 million of
indebtedness and $111.1 million in borrowings under the Company's credit
facility ($69.2 million, if the Underwriters' over-allotment option is
exercised in full). See "The Formation Transactions."
25
<PAGE>
DISTRIBUTION POLICY
The Company intends to pay regular quarterly distributions to its
stockholders. The Board of Directors, in its sole discretion, will determine
the actual distribution rate based on the Company's results of operations,
cash flow and capital requirements, debt service, economic conditions, tax
considerations (including those related to maintaining REIT status) and other
factors. The first distribution, for the period ending September 30, 1998, is
anticipated to equal a pro rated share of the anticipated initial quarterly
distribution of $0.355 per share of Common Stock, which, on an annualized
basis, is $1.42 per share of Common Stock, or 7.1% of the assumed initial
public offering price. The Company does not expect to change its anticipated
initial distribution rate per share of Common Stock if the Underwriters' over-
allotment option is exercised.
The anticipated initial distribution rate is based in part on the Company's
pro forma Cash Available for Distribution for the twelve months ended March
31, 1998. The Company's calculation of pro forma Cash Available for
Distribution for such period is presented for the purpose of setting the
initial distribution rate and is not intended to be a projection of the
Company's results of operations or its liquidity, nor is the methodology used
to set the anticipated initial distribution rate necessarily intended to be a
basis for determining future distributions. The Company's pro forma Cash
Available for Distribution does not include: (i) estimated increases in
harvest volumes based on the initial harvest plans set forth in the Timber
Purchase Agreement, (ii) any adjustments to prices due to the unpredictability
of future timber prices, and (iii) anticipated increases in capital
expenditures. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations of the Company--Certain Factors Affecting Results of
Operations and Cash Flow."
The following table describes the calculation of pro forma Cash Available
for Distribution for the twelve months ended March 31, 1998 (in thousands,
except per share data):
<TABLE>
<S> <C>
Pro forma net earnings for the year ended December 31, 1997 (1)....... $ 3,580
Add:
Depletion and real estate-related depreciation and amortization (2). 20,927
Minority interest in Partnership income (3)......................... 30,906
-------
Pro forma Funds from Operations for the year ended December 31, 1997
(4).................................................................. 55,413
Subtract: Pro forma Funds from Operations for the three months ended
March 31, 1997 (4)................................................... (9,665)
Add: Pro forma Funds from Operations for the three months ended March
31, 1998 (4)......................................................... 11,556
-------
Pro forma Funds from Operations for the twelve months ended March 31,
1998 (4)............................................................. 57,304
Add: Non-real estate-related depreciation and amortization............ 311
Subtract:
Principal payments on indebtedness.................................. (1,453)
Capital expenditures (5)............................................ (3,112)
Deferred income taxes(6)............................................ (1,063)
-------
Pro forma Cash Available for Distribution (7)......................... $51,987
=======
Company's share of pro forma Cash Available for Distribution (8)...... $22,280
=======
Expected initial annual distribution to Company stockholders.......... $21,300
=======
Expected initial annual distribution per share........................ $ 1.42
=======
Expected initial payout ratio based on Company's share of pro forma
Cash Available for Distribution (9).................................. 96%
</TABLE>
26
<PAGE>
- --------
(1) Included in net earnings is $910,000 of income tax payable to the state of
Arkansas. Arkansas is the only state in which the Company presently
anticipates doing business which has not conformed to 1997 federal tax law
changes affecting REITs. It is not possible to predict whether Arkansas
will conform to such changes and, if it does so, whether such conformity
would be retroactive to the effective date of the 1997 federal tax law
changes. Accordingly, for Arkansas state tax purposes, the Company would
likely be considered a regular corporation and, if so, would be subject to
the relevant income, franchise or income-based excise taxes imposed by
such state on the Company's income sourced to such state, until such time
as Arkansas either conforms with federal law or the Company otherwise
qualifies as a REIT under the law relating to REITs prior to 1997.
Arkansas has a history of passing conforming legislation, but not on a
retroactive basis. Accordingly, a provision for Arkansas state income
taxes has been included in the Pro Forma Condensed Consolidated Statement
of Operations. See "Risk Factors--Other Tax Risks" and "Federal Income Tax
Consequences."
(2) Depletion is a non-cash operating expense representing amortization of
costs associated with acquiring or establishing timber stands and is
charged to income when such timber is sold.
(3) Reflects Potlatch's 57.1% interest in the Partnership.
(4) The Company believes Funds from Operations is helpful to investors as a
measure of the performance of an equity REIT because, along with cash flow
from operating activities, investing activities and financing activities,
it provides investors with an understanding of the ability of the Company
to incur and service debt and make capital expenditures. The Company
calculates Funds from Operations as net earnings (computed in accordance
with GAAP) excluding significant non-recurring items, gains (or losses)
from debt restructuring and major sales of property, plus minority
interest, depletion and other real estate-related depreciation and
amortization (including amortization of logging roads) and after
adjustments for unconsolidated partnerships and joint ventures, less any
preferred stock dividends. The definition of Funds from Operations
approved by NAREIT includes real estate-related depreciation and
amortization but does not specifically address timber-related depletion.
The Company believes that it is appropriate to include depletion in
calculating Funds from Operations in part because depletion is a non-cash
operating expense and is analogous to the real estate-related depreciation
and amortization typically included in Funds from Operations by non-timber
REITs. Due to the Company's inclusion of depletion in its calculation, the
Company's Funds from Operations will not be directly comparable to Funds
from Operations reported by other REITs, including REITs that define the
term using the definition of Funds from Operations approved by NAREIT.
Funds from Operations should not be considered as an alternative to net
earnings (computed in accordance with GAAP) as an indication of the
Company's financial performance or to cash flow from operating activities
(computed in accordance with GAAP) as a measure of the Company's
liquidity, nor is it necessarily indicative of funds available to fund the
Company's cash needs, including its ability to make distributions.
(5) Capital expenditures consist of the following:
<TABLE>
<CAPTION>
PRO FORMA
TWELVE MONTHS
ENDED
MARCH 31, 1998
--------------
(IN THOUSANDS)
<S> <C>
Silviculture:
Site preparation......................................... $2,066
Fertilization............................................ 557
Other silviculture....................................... 76
------
Total silviculture..................................... 2,699
Roads...................................................... 283
Other...................................................... 130
------
Total.................................................. $3,112
======
</TABLE>
27
<PAGE>
(6) Deferred income taxes is a non-cash expense representing the reversal of a
deferred tax liability recorded under the purchase method of accounting in
connection with the Company's acquisition of ATCO.
(7) Cash Available for Distribution means Funds from Operations plus non-real
estate-related depreciation and amortization, minus capital expenditures,
principal payments on indebtedness and deferred income taxes. The pro
forma Cash Available for Distribution for the twelve months ended March
31, 1998 is not intended to be a projection or forecast of the Company's
results of operations or its liquidity, nor is the methodology upon which
the foregoing adjustments were made necessarily intended to be a basis for
determining future distributions.
(8) Represents the Company's 42.9% share of pro forma Cash Available for
Distribution.
(9) Represents the expected initial distribution to stockholders divided by
the Company's 42.9% share of pro forma Cash Available for Distribution.
The Company intends to maintain a distribution rate approximately equal to
the initial rate through the quarter ending June 30, 1999 unless actual
operating results, cash flow, economic conditions or other factors differ from
the assumptions used in calculating the initial estimated distribution rate.
The Company's actual cash flow and the amount available for distribution to
stockholders will be affected by a number of factors, including the Company's
actual harvest levels, changes in timber prices, the operating expenses of the
Company, the interest expense incurred on its borrowings, tax considerations
and unanticipated capital expenditures. No assurance can be given that the
Company's estimates will prove accurate. In addition, pro forma results of
operations do not purport to represent the actual results that can be expected
for future periods. Factors that could cause actual results to differ
materially from the Company's estimates are discussed below and under "Risk
Factors" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations of the Company."
Substantially all of the Company's stockholder distributions are expected to
constitute capital gain distributions for federal income tax purposes. As the
Initial Timberlands being acquired by the Company will have a low tax basis
when contributed to the Partnership, the Company anticipates that only a small
percentage, if any, of its distributions to stockholders will constitute a
return of capital. For a discussion of the federal income tax treatment of
distributions to holders of Common Stock, see "Federal Income Tax
Consequences." Unlike most existing REITs, the Company does not anticipate
that the 95% distribution requirement applicable to REITs will require the
Company to distribute any material amounts of cash in order to remain
qualified as a REIT. Notwithstanding the lack of any federal income tax
requirement that it do so, the Company intends to make certain distributions
to its stockholders, generally as a capital gain distribution. If, after
giving effect to the Company's distributions for a tax year, the Company has
not distributed 100% of its net taxable income (including capital gains), then
the Company will be required to pay tax on the undistributed portion of such
taxable income at regular federal corporate tax rates (currently 35%). In such
cases, the Company anticipates that it would generally make an election
pursuant to which (i) any federal income taxes paid by the Company on its
retained capital gains would be treated as having been paid on behalf of the
Company's stockholders and (ii) such retained capital gains would be treated
as having been distributed to the Company's stockholders. As a result of such
election, the Company's stockholders will be required to take their share of
such retained capital gains into income, but will be entitled to claim a tax
credit equal to their proportionate share of such taxes paid by the Company,
and their basis in the Company's Stock will be increased by their
proportionate share of the capital gains (net of such tax credit) retained by
the Company. To the extent a stockholder's share of the taxes paid by the
Company exceeds such stockholder's tax liability on the capital gains deemed
distributed, such stockholder (including tax-exempt U.S. stockholders) may
file a claim for refund for such excess. If the Company has funds available
(including from operations, borrowings, equity issuances, sales of assets or
otherwise), the Company may elect to use such funds to pay taxes on its
retained capital gains. If the Company would not have sufficient funds, after
giving effect to expected distributions to its stockholders, to pay its taxes
on such retained capital gains and if, in the judgment of the Board of
Directors, it would not be in the best interests of the Company and its
stockholders to obtain
28
<PAGE>
or use funds from borrowings, equity issuances, sales of assets or other
sources to pay such taxes, then the amount of cash actually distributed to the
Company's stockholders may be reduced to the extent necessary to pay such
taxes.
Future distributions by the Company will be at the sole discretion of the
Board of Directors and will depend on the actual results of operations, cash
flow and capital requirements, economic conditions, tax considerations
(including those relating to maintaining REIT status) and such other factors
as the Board of Directors deems relevant. See "Risk Factors--Potential
Limitations on Distributions," "Risk Factors--Changes in Policies Without
Stockholder Approval" and "Federal Income Tax Consequences--Taxation of the
Company as a REIT."
29
<PAGE>
DILUTION
The initial price per share to the public of the Common Stock offered hereby
exceeds the net tangible book value per share. Therefore, Potlatch will
realize an immediate increase in the net tangible book value of the
Partnership Units issued to Potlatch in connection with the Formation
Transactions, while purchasers of Common Stock in the Offering will realize an
immediate and substantial dilution of the net tangible book value of their
shares. Net pro forma tangible book value per share is determined by
subtracting pro forma total liabilities from pro forma total tangible assets
and dividing the remainder by the number of shares of Common Stock that will
be outstanding after the Offering (assuming the exchange of all of Potlatch's
Partnership Units for Common Stock). The following table illustrates the
dilution to purchasers of Common Stock sold in the Offering, based on an
assumed initial public offering price of $20.00 per share:
<TABLE>
<S> <C> <C>
Assumed initial public offering price.......................... $20.00
Pro forma net tangible book value per share as of March 31,
1998 prior to the Offering, attributable to Partnership Units
issued to Potlatch(1)......................................... $2.62
Increase attributable to new investors......................... $6.76
-----
Pro forma net tangible book value per share as of March 31,
1998 after the Offering(2).................................... $ 9.38
------
Dilution to new investors...................................... $10.62
======
</TABLE>
- --------
(1) Based on the Pro Forma Condensed Consolidated Balance Sheet contained
elsewhere in this Prospectus.
(2) Based on pro forma stockholders' equity of $276,002,000 and minority
interest of $52,452,000 divided by 35,000,000 shares of Common Stock
outstanding. This assumes all Partnership Units held by Potlatch have been
exchanged for Common Stock.
The following table sets forth the number of shares of Common Stock offered
to the public hereby, the total price to be paid for such shares (assuming an
initial public offering price of $20.00 per share), the number of Partnership
Units to be issued to Potlatch in exchange for assets in the Formation
Transactions, and the net book value of the average contribution per share of
Common Stock and per Partnership Unit based on total contributions (all
determined as if the Formation Transactions had been consummated on March 31,
1998):
<TABLE>
<CAPTION>
SHARES SOLD BY
COMPANY AND PURCHASE
PARTNERSHIP UNITS CASH/BOOK VALUE OF PRICE/BOOK
ISSUED BY CONTRIBUTIONS TO VALUE OF
PARTNERSHIP COMPANY/PARTNERSHIP CONTRIBUTION
------------------ ------------------------- PER
NUMBER PERCENT AMOUNT PERCENT SHARE/UNIT
---------- ------- ----------- ---------- ------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
New investors in the
Offering............... 15,000,000 42.9% $ 300,000(1) 85.1% $20.00(1)
Partnership Units issued
to Potlatch............ 20,000,000 57.1% $ 52,452(2) 14.9% $ 2.62(2)
---------- ----- ----------- --------
Total................. 35,000,000 100.0% $ 352,452 100.0% $10.07
========== ===== =========== ========
</TABLE>
- --------
(1) Before deducting estimated underwriting discounts and commissions and
estimated expenses of the Offering.
(2) Based on the March 31, 1998 net book value of assets to be contributed to
the Partnership by Potlatch in the Formation Transactions.
The foregoing table assumes no exercise of any outstanding stock options.
Upon the closing of the Offering, the Company intends to grant options to
purchase an aggregate of approximately 290,000 shares of Common Stock to
certain officers, directors and employees. Of these options, approximately
16,800 will have an exercise price of $1.71 per share less than the initial
public offering price ($18.29, assuming an initial public offering price of
$20.00 per share), which will result in an immaterial amount of compensation
expense to the Company, and the remainder will have an exercise price equal to
the initial public offering price. To the extent these options are exercised,
there will be further dilution to new investors. See "Management--Stock
Incentive Plan" and Notes to Consolidated Financial Statements of the Company.
30
<PAGE>
CAPITALIZATION
The following table sets forth the consolidated capitalization of the
Company as of March 31, 1998 (i) on a historical basis and (ii) on a pro forma
basis after giving effect to the Formation Transactions, including the sale of
the 15,000,000 shares of Common Stock being offered by the Company at an
assumed initial public offering price of $20.00 per share and the application
of the estimated net proceeds therefrom as set forth under "Use of Proceeds."
<TABLE>
<CAPTION>
MARCH 31, 1998
-------------------
(IN THOUSANDS)
PRO FORMA AS
ACTUAL ADJUSTED(1)
------ ------------
<S> <C> <C>
Long-term debt............................................. $-- $129,994
---- --------
Minority interest.......................................... -- 52,452
---- --------
Stockholders' equity:
Preferred Stock, $.01 par value; 50,000,000 shares
authorized; no shares issued and outstanding............ -- --
Common Stock, $.01 par value; 100 shares authorized,
issued and outstanding actual; 250,000,000 shares
authorized, 15,000,000 shares issued and outstanding pro
forma as adjusted(2)(3)................................. -- 150
Special Voting Stock, $.01 par value; one share
authorized, none issued and outstanding actual; one
share issued and outstanding pro forma as adjusted(3)... -- --
Additional paid-in capital............................... 2 275,852
Retained earnings........................................ -- --
---- --------
Total stockholders' equity............................. 2 276,002
---- --------
Total capitalization....................................... $ 2 $458,448
==== ========
</TABLE>
- --------
(1) To reflect assumed net proceeds of approximately $276.0 million from the
sale by the Company of shares of Common Stock in the Offering at an
assumed initial public offering price of $20.00 per share (the midpoint of
the Offering range), after deducting estimated underwriting discounts and
offering expenses and the transactions described under "The Formation
Transactions" and "Use of Proceeds."
(2) Shares issued and outstanding excludes (i) 20,000,000 shares of Common
Stock that may be issued upon exchange of Partnership Units held by
Potlatch, and (ii) 3,000,000 shares of Common Stock reserved for issuance
and available for grant or sale under the Company's 1998 Stock Incentive
Plan. See "The Partnership Agreement--Exchange of Partnership Units" and
"Management--Stock Incentive Plan."
(3) In the Formation Transactions, the 100 shares of Common Stock initially
issued to Potlatch will be exchanged for the Company's sole share of
Special Voting Stock.
31
<PAGE>
SELECTED FINANCIAL AND OPERATING INFORMATION
OF THE POTLATCH SOUTHERN TIMBERLANDS
(IN THOUSANDS, EXCEPT FOR OPERATING DATA)
The selected financial information set forth below under the caption "Income
Statement Data" for each of the years in the three-year period ended December
31, 1997 and the caption "Balance Sheet Data" as of December 31, 1996 and 1997
are derived from the financial statements of the Potlatch Southern
Timberlands, which are included elsewhere in this Prospectus and have been
audited by KPMG Peat Marwick LLP, independent certified public accountants,
whose report thereon is also included herein. The selected financial
information set forth below under the caption "Income Statement Data" for the
years ended December 31, 1993 and 1994 and the three months ended March 31,
1997 and 1998 and the caption "Balance Sheet Data" as of December 31, 1993,
1994 and 1995 and March 31, 1997 and 1998 has been derived from unaudited
financial statements of the Potlatch Southern Timberlands which, in the
opinion of management, include all adjustments (consisting only of normal
recurring adjustments) necessary for a fair statement of the results as of and
for such periods. The results of operations for the three months ended March
31, 1998 are not necessarily indicative of the results to be expected for the
full fiscal year.
The data set forth below are qualified by, and should be read in conjunction
with, "Management's Discussion and Analysis of Financial Condition and Results
of Operations of the Company--Historical Results of Operations of Potlatch
Southern Timberlands," and the financial statements of the Potlatch Southern
Timberlands and the notes thereto included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
------------------------------------------- --------------------
1993 1994 1995 1996 1997 1997 1998
------- ------- ------- ------- ------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA
Revenues................ $23,726 $19,854 $29,715 $28,318 $40,449 $ 6,004 $ 8,160
------- ------- ------- ------- ------- --------- ---------
Costs and expenses:
Depletion,
depreciation and
amortization......... 1,285 1,364 1,398 3,466 1,683 322 344
Operating expenses.... 3,247 3,599 4,232 4,523 4,788 1,141 1,112
Allocated Potlatch
Corporation
administration
expenses............. 909 887 1,053 1,016 1,192 261 273
------- ------- ------- ------- ------- --------- ---------
Total costs and
expenses............... 5,441 5,850 6,683 9,005 7,663 1,724 1,729
------- ------- ------- ------- ------- --------- ---------
Earnings from
operations............. 18,285 14,004 23,032 19,313 32,786 4,280 6,431
Other income (expense),
net.................... 3,980 639 (393) (363) (488) (447) (436)
Income tax expense...... (9,102) (5,708) (8,782) (7,523) (12,769) (1,503) (2,350)
------- ------- ------- ------- ------- --------- ---------
Net earnings............ $13,163 $ 8,935 $13,857 $11,427 $19,529 $ 2,330 $ 3,645
======= ======= ======= ======= ======= ========= =========
BALANCE SHEET DATA
Timber and timberlands.. $47,278 $50,189 $51,924 $50,898 $52,328 $ 50,886 $ 52,416
Total assets............ 47,735 50,500 52,479 51,364 52,807 51,325 52,867
Potlatch Corporation
equity................. 46,317 48,633 50,884 49,164 50,896 49,850 51,857
OPERATING DATA
Sawtimber harvested
(MBF).................. 77,331 64,205 81,831 93,498 97,169 15,942 17,787
Pulpwood harvested
(tons)................. 493,579 466,599 545,583 624,577 583,061 95,265 111,444
Average prices:
Sawtimber ($/MBF)..... $266.34 $261.47 $311.09 $258.03 $367.19 $ 339.72 $ 415.49
Pulpwood ($/ton)...... $ 6.34 $ 6.57 $ 7.81 $ 6.71 $ 8.18 $ 6.18 $ 6.90
</TABLE>
32
<PAGE>
SELECTED CONSOLIDATED FINANCIAL INFORMATION OF ATCO
(IN THOUSANDS, EXCEPT OPERATING AND PER SHARE DATA)
The selected consolidated financial information as of July 31, 1995, 1996
and 1997, and for the fiscal years then ended, and as of December 31, 1997 and
for the five months then ended, set forth below under the captions "Income
Statement Data" and "Balance Sheet Data" has been derived from audited
financial statements of ATCO. ATCO's consolidated financial statements for
each of the three years in the period ended July 31, 1997 and for the five
months ended December 31, 1997 have been audited by Deloitte & Touche LLP,
independent auditors, whose report with respect to such consolidated financial
statements appears elsewhere in this Prospectus. ATCO's consolidated financial
statements for the three months ended March 31, 1997 and 1998, for the five
months ended December 31, 1996 and for the years ended July 31, 1994 and 1993
have not been audited by independent auditors. However, in the opinion of
management, the selected financial data for such periods include all
adjustments (which include only normal recurring adjustments) necessary for a
fair presentation of the data. This data should be read in conjunction with
ATCO's financial statements and notes thereto and "Management's Discussion and
Analysis of Financial Condition and Results of Operations of ATCO" appearing
elsewhere in this Prospectus. The results of operations for the three months
ended March 31, 1998 are not necessarily indicative of the results to be
expected for the full fiscal year.
The following selected consolidated financial information of ATCO will not
be comparable to the results of operations and cash flow that the Company will
derive from the ATCO Timberlands in future periods. The historical financial
statements of ATCO include the results of certain converting facilities and
barge operations not being acquired by the Company, and do not reflect recent
and anticipated changes in harvest levels as described under "Management's
Discussion and Analysis of Financial Condition and Results of Operations of
the Company."
<TABLE>
<CAPTION>
FIVE MONTHS THREE MONTHS
YEAR ENDED JULY 31, ENDED DEC. 31, ENDED MAR. 31,
------------------------------------------------ ----------------- -----------------
1993 1994 1995 1996 1997 1996 1997(2) 1997 1998
------- ------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA
Total revenues, net..... $79,376 $86,626 $ 91,246 $ 87,745 $ 96,488 $ 35,612 $ 52,222 $ 23,361 $ 25,377
Total costs and
expenses............... 71,402 75,588 77,717 76,620 84,635 32,881 45,232 20,595 19,305
Income from operations.. 7,974 11,038 13,529 11,125 11,853 2,731 6,990 2,766 6,072
Interest expense, net... 702 863 1,491 2,368 2,911 931 2,339 855 1,564
Income before minority
interest............... 9,525 8,157 7,661 6,087 7,470 1,452 64 2,209 4,508
Net earnings (loss)..... $ 9,525 $ 8,157 $ 7,661 $ 6,087 $ 5,650 $ 962 $ (1,316) $ 1,757 $ 4,443
Net earnings (loss) per
share.................. $16,335 $14,022 $ 13,174 $ 10,479 $ 9,749 $ 1,660 $ (2,271) $ 3,032 $ 7,666
BALANCE SHEET DATA
Timberland and timber,
net.................... $11,165 $10,912 $ 11,951 $ 11,343 $ 9,968 $ 10,367 $ 9,281 $ 10,239 $ 9,224
Total assets............ 74,710 83,297 101,640 121,184 136,486 125,012 132,099 128,109 131,786
Total debt.............. 10,057 14,455 27,906 44,609 51,170 44,358 104,143 48,147 102,501
Total stockholders'
equity (deficit)....... 40,430 45,647 50,026 52,345 54,373 49,685 (5,877) 51,442 (2,192)
OPERATING DATA
Harvest volumes (ATCO
lands):
Sawtimber (MBF)......... 57,783 58,353 54,546 52,068 80,721 29,121 40,439 17,339 20,943
Pulpwood (tons)......... --(1) --(1) 209,725 277,302 363,540 141,554 274,781 82,709 121,190
</TABLE>
- --------
(1) Not available.
(2) Results of operations for the five months ended December 31, 1997 includes
a $5.1 million loss on the sale of assets primarily associated with the
laminated flooring plant.
33
<PAGE>
PRO FORMA CONDENSED CONSOLIDATED
FINANCIAL INFORMATION
The following Pro Forma Condensed Consolidated Statements of Operations for
the year ended December 31, 1997 and the three months ended March 31, 1998
present unaudited pro forma operating results of the Company, including the
Partnership's results on a consolidated basis, as if the Formation
Transactions and the Offering had occurred as of January 1, 1997 and 1998,
respectively. See "The Formation Transactions." The following Pro Forma
Condensed Consolidated Balance Sheet presents the unaudited pro forma
financial condition of the Company as if the Formation Transactions and the
Offering had occurred as of March 31, 1998.
The Pro Forma Condensed Consolidated Financial Information reflects
adjustments to the historical financial statements of the Potlatch Southern
Timberlands and ATCO that (i) eliminate results of operations and related
assets and liabilities that will not be acquired by the Company, (ii) reflect
purchase method of accounting adjustments associated with the Company's
acquisition of ATCO,(iii) adjust historical results of operations to reflect
the Timber Purchase Agreement, (iv) include estimated incremental expenses
associated with the Company's operation as a public company, and (v) reflect
other adjustments, such as the issuance of Common Stock and incurrence of
indebtedness, as discussed in "The Formation Transactions." The Pro Forma
Condensed Consolidated Financial Information does not purport to represent
what the Company's financial position or results of operations actually would
have been had the Formation Transactions, in fact, occurred on the dates
indicated, or to project the Company's financial position or results of
operations at any future date or for any future period.
The Pro Forma Condensed Consolidated Financial Information should be read in
conjunction with (i) the Company's historical consolidated balance sheet as of
February 27, 1998, (ii) the Potlatch Southern Timberlands' historical
financial statements, (iii) ATCO's historical consolidated financial
statements, all of which are included elsewhere herein and (iv) "Management's
Discussion and Analysis of Financial Condition and Results of Operations of
the Company."
34
<PAGE>
PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
HISTORICAL
---------------------------
POTLATCH
SOUTHERN PRO FORMA
COMPANY TIMBERLANDS ATCO(a) ADJUSTMENTS PRO FORMA
------- ----------- ------- ----------- ---------
<S> <C> <C> <C> <C> <C>
Revenues:
Timber sales............ $ -- $40,449 $ 3,676 $ 22,519 (b) $69,957
3,313 (c)
Other revenue........... -- -- 104,196 (104,196)(d) --
----- ------- ------- --------- -------
Total revenues........ -- 40,449 107,872 (78,364) 69,957
----- ------- ------- --------- -------
Costs and Expenses:
Depletion, depreciation
and amortization....... -- 1,683 9,247 10,307 (e) 21,237
Operating expenses...... -- 4,788 79,823 (77,100)(d) 7,511
Selling, general and
administrative
expenses............... -- 1,192 6,672 (1,192)(f) 4,000
(6,672)(d)
4,000 (g)
----- ------- ------- --------- -------
Total costs and
expenses............. -- 7,663 95,742 (70,657) 32,748
----- ------- ------- --------- -------
Earnings from operations. -- 32,786 12,130 (7,707) 37,209
Other income, net........ -- 1,362 1,046 2,997 (d) 5,405
Interest expense......... -- (1,850) (4,438) 1,850 (f) (8,648)
3,145 (d)
(7,355)(h)
----- ------- ------- --------- -------
Earnings before minority
interest and income
taxes................... -- 32,298 8,738 (7,070) 33,966
Minority interest in
Partnership income...... -- -- (2,710) 2,710 (d) (30,906)
(30,906)(i)
----- ------- ------- --------- -------
Earnings before income
taxes................... -- 32,298 6,028 (35,266) 3,060
Income taxes............. -- (12,769) (2,656) 12,769 (f) 520
2,656 (d)
520 (j)
----- ------- ------- --------- -------
Net earnings........... $ -- $19,529 $ 3,372 $ (19,321) $ 3,580
===== ======= ======= ========= =======
Weighted average number
of shares............... 15,000
=======
Net earnings per share
(k)..................... $ 0.24
=======
</TABLE>
35
<PAGE>
PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 1998
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
HISTORICAL
---------------------------
POTLATCH
SOUTHERN PRO FORMA
COMPANY TIMBERLANDS ATCO(l) ADJUSTMENTS PRO FORMA
------- ----------- ------- ----------- ---------
<S> <C> <C> <C> <C> <C>
Revenues:
Timber sales.............. $ -- $8,160 $1,433 $ 4,838 (b) $15,377
946 (c)
Other revenue............. -- -- 22,780 (22,780)(d) --
----- ------ ------ -------- -------
Total revenues.......... -- 8,160 24,213 (16,996) 15,377
----- ------ ------ -------- -------
Costs and Expenses:
Depletion, depreciation
and amortization......... -- 344 1,876 2,547 (e) 4,767
Operating expenses........ -- 1,112 15,926 (15,108)(d) 1,930
Selling, general and
administrative expenses.. -- 273 1,351 (273)(f) 1,000
(1,351)(d)
1,000 (g)
----- ------ ------ -------- -------
Total costs and
expenses............... -- 1,729 19,153 (13,185) 7,697
----- ------ ------ -------- -------
Earnings from operations... -- 6,431 5,060 (3,811) 7,680
Other income, net.......... -- 31 1,047 (29)(d) 1,049
Interest expense........... -- (467) (1,599) 467 (f) (2,196)
1,209 (d)
(1,806)(h)
----- ------ ------ -------- -------
Earnings before minority
interest and income taxes. -- 5,995 4,508 (3,970) 6,533
Minority interest in
Partnership income........ -- -- (65) 65 (d) (6,032)
(6,032)(i)
----- ------ ------ -------- -------
Earnings before income
taxes..................... -- 5,995 4,443 (9,937) 501
Income taxes............... -- (2,350) -- 2,350 (f) 334
334 (j)
----- ------ ------ -------- -------
Net earnings............. $ -- $3,645 $4,443 $ (7,253) $ 835
===== ====== ====== ======== =======
Weighted average number of
shares.................... 15,000
=======
Net earnings per share (k). $ 0.06
=======
</TABLE>
36
<PAGE>
PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
MARCH 31, 1998
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
HISTORICAL
---------------------------
POTLATCH
SOUTHERN PRO FORMA
COMPANY TIMBERLANDS ATCO(m) ADJUSTMENTS PRO FORMA
------- ----------- ------- ----------- ---------
<S> <C> <C> <C> <C> <C>
ASSETS:
Cash and cash
equivalents............ $ 2 $ -- $ -- $ 276,000 (n) $ 2
111,119 (o)
(387,119)(o)
Other current assets.... -- -- 1,936 -- 1,936
Timber and timberlands,
net.................... -- 52,416 9,224 354,840 (o) 476,480
60,000 (p)
Property, plant and
equipment, net......... -- 451 1,093 (93)(o) 1,451
Commercial real estate
and farmlands.......... -- -- 29,628 13,372 (o) 43,000
---- ------- ------- --------- --------
Total assets.......... $ 2 $52,867 $41,881 $ 428,119 $522,869
==== ======= ======= ========= ========
LIABILITIES AND STOCKHOLDERS'
EQUITY:
Accounts payable and
accrued expenses....... $-- $ 415 $ 4,006 $ -- $ 4,421
Long-term debt.......... -- -- 18,875 111,119 (o) 129,994
Deferred taxes.......... -- 595 -- (595)(q) 60,000
60,000 (p)
Minority interest....... -- -- -- 52,452 (q) 52,452
Common stock............ -- -- -- 150 (n) 150
Additional paid-in
capital................ 2 -- -- 275,850 (n) 275,852
Retained earnings ...... -- -- -- -- --
Potlatch Corporation
equity................. -- 51,857 -- (51,857)(q) --
Difference between book
basis of assets and
liabilities acquired... -- -- 19,000 (19,000)(o) --
---- ------- ------- --------- --------
Total liabilities and
equity............... $ 2 $52,867 $41,881 $ 428,119 $522,869
==== ======= ======= ========= ========
</TABLE>
37
<PAGE>
NOTES TO PRO FORMA CONDENSED CONSOLIDATED FINANCIAL INFORMATION
(a) The following schedule presents the calculation of ATCO's historical
operating results for the year ended December 31, 1997, based upon the results
for the year ended July 31, 1997, and the reclassification of certain balances
in order to conform to the Company's presentation.
<TABLE>
<CAPTION>
SUBTRACT
YEAR FIVE MONTHS ADD FIVE
ENDED ENDED MONTHS ENDED YEAR ENDED
JULY 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, AS
1997 1996 1997 1997 RECLASSIFICATIONS ADJUSTED
-------- ------------ ------------ ------------ ----------------- --------
<S> <C> <C> <C> <C> <C> <C>
REVENUES:
Timber sales........... $ -- $ -- $ -- $ -- $ 3,676 (i) $ 3,676
Other revenue.......... 96,488 35,612 52,222 113,098 (3,676)(i) 104,196
(5,226)(ii)
------- ------- ------- -------- ------- --------
Total revenues........ 96,488 35,612 52,222 113,098 (5,226) 107,872
------- ------- ------- -------- ------- --------
COSTS AND EXPENSES:
Depletion, depreciation
and amortization...... -- -- -- -- 9,247 (iii) 9,247
Operating expenses..... 78,609 30,468 42,173 90,314 (9,247)(iii) 79,823
(1,244)(iv)
Selling, general and
administrative
expenses.............. 6,026 2,413 3,059 6,672 -- 6,672
------- ------- ------- -------- ------- --------
Total costs and
expenses............. 84,635 32,881 45,232 96,986 (1,244) 95,742
------- ------- ------- -------- ------- --------
Earnings from
operations............. 11,853 2,731 6,990 16,112 (3,982) 12,130
Other income (expense),
net.................... 2,888 643 (5,181) (2,936) 5,226 (ii) 1,046
(1,244)(iv)
Interest expense........ (3,380) (1,316) (2,374) (4,438) -- (4,438)
------- ------- ------- -------- ------- --------
Earnings before minority
interest and income
taxes.................. 11,361 2,058 (565) 8,738 -- 8,738
Minority interest....... (1,820) (490) (1,380) (2,710) -- (2,710)
------- ------- ------- -------- ------- --------
Earnings before income
taxes.................. 9,541 1,568 (1,945) 6,028 -- 6,028
Income taxes (3,891) (606) 629 (2,656) -- (2,656)
------- ------- ------- -------- ------- --------
Net earnings.......... $ 5,650 $ 962 $(1,316) $ 3,372 $ -- $ 3,372
======= ======= ======= ======== ======= ========
</TABLE>
- --------
(i) To reclassify timber sales made to third parties from other revenue to
timber sales.
(ii) To reclassify revenue from commercial real estate, hunting leases and
farmlands to other income (expense), net.
(iii) To reclassify depletion, depreciation and amortization from
operating expenses to a separate line.
(iv) To reclassify expenses from commercial real estate, hunting leases
and farmlands to other income (expense), net.
(b) To record timber sales from the ATCO Timberlands in accordance with the
terms of the Timber Purchase Agreement as if the agreement were in effect for
the entire period. The adjustment consists of the actual volume of fee timber
harvested for the year ended December 31, 1997 and the three months ended
March 31, 1998, multiplied by ATCO's transfer prices, determined based on
38
<PAGE>
historical external market information for the various species in the region.
Accordingly, these transfer prices approximate the prices that would have been
determined pursuant to the Timber Purchase Agreement had it been in effect for
such periods. See "Business--Sales and Markets--The Timber Purchase
Agreement--Pricing."
(c) To reflect the pricing that would have been determined pursuant to the
Timber Purchase Agreement had it been in effect for such periods, multiplied
by the actual volume of timber transferred during the periods indicated from
the Potlatch Southern Timberlands. External market information for the year
ended December 31, 1997 and the three months ended March 31, 1998 for the
various species in the region was used for purposes of calculating such
prices. See "Business--Sales and Markets--The Timber Purchase Agreement--
Pricing."
(d) To reflect the elimination of the results of operations related to ATCO
assets and liabilities that will not be acquired by the Company. Historically,
ATCO's activities have largely been comprised of converting timber into
finished goods and selling those finished goods. In the future, the Company's
business will be to manage its timberlands on a "sustainable yield" basis and
sell timber on the stump to other companies who will then log and convert the
timber into finished products. Because a significant portion of ATCO's
historical revenues and expenses will not be incurred by the Company, such
amounts have been eliminated.
(e) To reflect the following depletion, depreciation and amortization
adjustments:
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED ENDED
DECEMBER 31, MARCH 31,
1997 1998
------------ ------------
(IN THOUSANDS)
<S> <C> <C>
Elimination of historical ATCO depletion,
depreciation and amortization.................... $ (9,247) $(1,876)
New depletion expense related to application of
purchase method of accounting to ATCO
timberlands...................................... 18,303 4,125
New depreciation expense related to application of
purchase method of accounting to ATCO commercial
real estate and equipment........................ 1,251 298
-------- -------
Net adjustment.................................. $ 10,307 $ 2,547
======== =======
</TABLE>
(f) To eliminate the Potlatch Southern Timberlands' allocated share of
Potlatch general and administrative expenses, interest expense and income
taxes.
(g) To reflect estimated general and administrative costs that would have
been incurred by the Company had it operated on a stand-alone basis. Such
costs include management salaries and benefits, legal fees, preparation of tax
returns and stockholder reports, investor relations and other costs related to
operating as an independent, publicly-traded entity.
39
<PAGE>
(h) To adjust interest expense to reflect interest for the respective
periods on borrowings either incurred or assumed by the Company to consummate
the Formation Transactions. The interest rates on each respective debt
instrument and the pro forma interest expense attributable to each for the
year ended December 31, 1997 and three months ended March 31, 1998 are as
follows:
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED ENDED
DECEMBER 31, MARCH 31,
1997 1998
------------ ------------
(IN THOUSANDS)
<S> <C> <C>
Senior revolving credit facility payable bank,
interest at floating rates (6.5% at December
31, 1997 and March 31, 1998)................... $7,355 $1,806
Notes payable finance institutions,
collateralized by shopping centers, interest
ranging from 7.56% to 9.875%................... 788 193
Note payable bank, collateralized by an
industrial warehouse, interest at floating
rates (6.92% at December 31, 1997 and 7.17% at
March 31, 1998)................................ 343 168
Note payable finance institution, collateralized
by an industrial warehouse, interest at 10%.... 162 29
------ ------
$8,648 $2,196
====== ======
</TABLE>
A change in interest rates of 1/8 percent would have caused pro forma
interest expense to change by approximately $162,000 and $41,000 for the year
ended December 31, 1997 and three months ended March 31, 1998, respectively.
(i) To reflect Potlatch's equity in earnings of the Partnership. The
calculation of Potlatch's equity in the Partnership's earnings will include
any realization of "built-in gains" on assets contributed by Potlatch to the
Partnership (that is, the excess of fair market value over accounting basis
when such assets were contributed to the Partnership in the Formation
Transactions). In addition, Potlatch will be allocated its proportionate share
of any earnings or losses realized by the Partnership after taking into
account the "built-in gains." See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of the Company" and "The
Partnership Agreement."
The calculations of Potlatch's equity in Partnership earnings for the year
ended December 31, 1997 and three months ended March 31, 1998 are as follows:
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED ENDED
DECEMBER 31, MARCH 31,
1997 1998
------------ ------------
(IN THOUSANDS)
<S> <C> <C>
Contributed value of former Potlatch timber....... $ 26,509 $ 5,208
Depletion, depreciation and amortization of former
Potlatch assets.................................. (1,683) (344)
-------- -------
Built-in gain................................... $ 24,826 $ 4,864
======== =======
Earnings before minority interest and income
taxes............................................ $ 33,966 $ 6,533
Less built-in gain................................ (24,826) (4,864)
Add depletion of additional basis in former ATCO
timber........................................... 1,500 375
-------- -------
Allocable income................................ $ 10,640 $ 2,044
======== =======
Potlatch's 57.1% share of allocable income...... $ 6,080 $ 1,168
Add built-in gain............................... 24,826 4,864
-------- -------
Minority interest in Partnership income........... $ 30,906 $ 6,032
======== =======
</TABLE>
40
<PAGE>
(j) To provide for federal and state income taxes on retained capital gains
and Arkansas state income taxes. Arkansas is the only state in which the
Company presently anticipates doing business which has not conformed to 1997
federal tax law changes affecting REITs. It is not possible to predict whether
Arkansas will conform to such changes and, if it does so, whether such
conformity would be retroactive to the effective date of the 1997 federal tax
law changes. Accordingly, for Arkansas state tax purposes, the Company would
likely be considered a regular corporation and, if so, would be subject to the
relevant income, franchise or income-based excise taxes imposed by such state
on the Company's income sourced to such state, until such time as Arkansas
either conforms with federal law or the Company otherwise qualifies as a REIT
under the law relating to REITs prior to 1997. Arkansas has a history of
passing conforming legislation, but not on a retroactive basis. Accordingly, a
provision for Arkansas state income taxes has been included in the Pro Forma
Condensed Consolidated Statements of Operations. See "Risk Factors--Other Tax
Risks" and "Federal Income Tax Consequences."
The provision for income taxes consists of the following for the year ended
December 31, 1997:
<TABLE>
<CAPTION>
FEDERAL STATE TOTAL
------- ----- -------
(IN THOUSANDS)
<S> <C> <C> <C>
Current income taxes:
Arkansas nonconformity.............................. $ -- $ 910 $ 910
Retained capital gains.............................. -- -- --
----- ----- -------
-- 910 910
----- ----- -------
Deferred income taxes:
Arkansas nonconformity.............................. (319) (740) (1,059)
Retained capital gains.............................. (351) (20) (371)
----- ----- -------
(670) (760) (1,430)
----- ----- -------
$(670) $ 150 $ (520)
===== ===== =======
</TABLE>
The provision for income taxes consists of the following for the three
months ended March 31, 1998:
<TABLE>
<CAPTION>
FEDERAL STATE TOTAL
------- ----- ------
(IN THOUSANDS)
<S> <C> <C> <C>
Current income taxes:
Arkansas nonconformity............................... $ -- $ 203 $ 203
Retained capital gains............................... -- -- --
------ ----- ------
-- 203 203
------ ----- ------
Deferred income taxes:
Arkansas nonconformity............................... (71) (170) (241)
Retained capital gains............................... (280) (16) (296)
------ ----- ------
(351) (186) (537)
------ ----- ------
$ (351) $ 17 $ (334)
====== ===== ======
</TABLE>
(k) The weighted average number of shares outstanding used to calculate net
earnings per share consists of Common Stock and Special Voting Stock.
Partnership Units owned by Potlatch are exchangeable under certain
circumstances for Common Stock of the Company and are common stock
equivalents. The impact of the Partnership Units is antidilutive, however.
Therefore, the Partnership Units have not been included in the weighted
average number of shares outstanding used to calculate net earnings per share.
41
<PAGE>
(l) The following schedule presents the reclassification of ATCO's
historical operating results for the three months ended March 31, 1998 in
order to conform to the Company's presentation.
<TABLE>
<CAPTION>
THREE MONTHS
ENDED AS
MARCH 31, 1998 RECLASSIFICATIONS ADJUSTED
-------------- ----------------- --------
<S> <C> <C> <C>
REVENUES:
Timber sales....................... $ -- $ 1,433 (i) $ 1,433
Other revenue...................... 25,377 (1,433)(i) 22,780
(1,164)(ii)
------- ------- -------
Total revenues.................... 25,377 (1,164) 24,213
------- ------- -------
COSTS AND EXPENSES:
Depletion, depreciation and
amortization...................... -- 1,876 (iii) 1,876
Operating expenses................. 17,954 (1,876)(iii) 15,926
(152)(iv)
Selling, general and administrative
expenses.......................... 1,351 -- 1,351
------- ------- -------
Total costs and expenses.......... 19,305 (152) 19,153
------- ------- -------
Earnings from operations............ 6,072 (1,012) 5,060
Other income, net................... 35 1,164 (ii) 1,047
(152)(iv)
Interest expense.................... (1,599) -- (1,599)
------- ------- -------
Earnings before minority interest
and income taxes................... 4,508 -- 4,508
MInority interest in Partnership
income............................. (65) -- (65)
------- ------- -------
Earnings before income taxes........ 4,443 -- 4,443
Income taxes........................ -- -- --
------- ------- -------
Net earnings...................... $ 4,443 $ -- $ 4,443
======= ======= =======
</TABLE>
(i)To reclassify timber sales made to third parties from other revenue
to timber sales.
(ii)To reclassify revenue from commercial real estate, hunting leases
and farmlands to other income (expense), net.
(iii)To reclassify depletion, depreciation and amortization from
operating expenses to a separate line.
(iv)To reclassify expenses from commercial real estate, hunting leases
and farmlands to other income (expense), net.
(m) The following schedule reflects the elimination of the assets and
liabilities of ATCO that will not be acquired by the Company.
<TABLE>
<CAPTION>
MARCH 31, 1998
-----------------------------------
SUBTRACT
NET ASSETS NET ASSETS
THAT WILL NOT TO BE
BE ACQUIRED ACQUIRED BY
ATCO BY COMPANY COMPANY
-------- ------------- -----------
<S> <C> <C> <C>
ASSETS:
Cash and cash equivalents................ $ 2,860 $ (2,860) $ --
Other current assets..................... 22,094 (20,158) 1,936
Timber and timberlands, net.............. 9,224 -- 9,224
Property, plant and equipment, net....... 64,154 (63,061) 1,093
Commercial real estate and farmlands..... 29,628 -- 29,628
Other assets............................. 3,826 (3,826) --
-------- --------- -------
Total assets............................. $131,786 $ (89,905) $41,881
======== ========= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT):
Accounts payable and accrued expenses. $ 13,699 $ (9,693) $ 4,006
Long-term debt........................... 102,501 (83,626) 18,875
Deferred taxes........................... 13,971 (13,971) --
Other long-term liabilities.............. 880 (880) --
Minority interest........................ 2,927 (2,927) --
Common stock............................. 1,159 (1,159) --
Retained deficit......................... (3,351) 3,351 --
Difference between book basis of assets
and liabilities......................... -- 19,000 19,000
-------- --------- -------
Total liabilities and equity........... $131,786 $ (89,905) $41,881
======== ========= =======
</TABLE>
42
<PAGE>
The Company did not acquire ATCO's converting assets because its strategic
focus is on owning timber and timberlands, not converting assets and because
of the REIT requirements under the Code. Potlatch has signed asset purchase
agreements with certain entities affiliated with ATCO pursuant to which
Potlatch will purchase two hardwood sawmills, a veneer plant and log
transportation assets for approximately $60 million (including the assumption
of indebtedness). The transactions will close substantially contemporaneously
with the consummation of the Offering. ATCO also operated other businesses
that were not vertically integrated with its hardwood timberlands, which will
not be acquired by either the Company or Potlatch.
(n) Reflects the issuance by the Company of 15,000,000 shares of Common
Stock and the Company's receipt of net proceeds of approximately $276 million
(assuming an initial public offering price of $20.00 per share and after
deducting underwriting discounts and commissions and estimated offering
expenses). The Company currently has 100 shares of Common Stock authorized,
issued and outstanding, all of which are currently owned by Potlatch.
Concurrently with the consummation of the Offering, these 100 shares of Common
Stock will be exchanged for the sole authorized share of Special Voting Stock.
Immediately after consummation of the Offering, the Company will have
250,000,000 shares of Common Stock authorized, 15,000,000 Common Shares issued
and outstanding, and one share of Special Voting Stock authorized, issued and
outstanding.
(o) To adjust the cost basis of ATCO assets to reflect the Company's
purchase (in thousands):
<TABLE>
<S> <C>
Elimination of historical cost of ATCO timber and timberlands, net
of accumulated depletion......................................... $ (9,224)
Purchase price of ATCO timber and timberlands..................... 364,064
--------
Net adjustment.................................................. $354,840
========
Elimination of historical cost of ATCO equipment, net of
accumulated depreciation......................................... $ (1,093)
Purchase price of ATCO equipment.................................. 1,000
--------
Net adjustment.................................................. $ (93)
========
Elimination of historical cost of ATCO commercial real estate and
farmland, net of accumulated depreciation........................ $(29,628)
Purchase price of ATCO commercial real estate and farmlands....... 43,000
--------
Net adjustment.................................................. $ 13,372
========
</TABLE>
The total purchase price of $410 million is comprised of (in thousands):
<TABLE>
<S> <C>
Proceeds from debt financing arrangements.......................... $111,119
Net proceeds from the sale of 15,000,000 shares of Common Stock.... 276,000
Liabilities of ATCO assumed by the Company......................... 44,281
Less repayment of Potlatch loan to ATCO............................ (21,400)
--------
Total purchase price............................................. $410,000
========
</TABLE>
43
<PAGE>
The Company will borrow approximately $111.1 million under a Senior
Revolving Credit Facility (assuming an initial public offering price of $20.00
per share), $89.7 million of which will be applied toward the purchase price
of ATCO, and $21.4 million will be used to repay the Company's assumed portion
of a $50.0 million loan that Potlatch extended to ATCO in October 1997.
The $410 million total purchase price is allocated to the assets and
liabilities of the Company based on fair values as follows (in thousands):
<TABLE>
<S> <C>
Assets acquired:
Timber and timberlands........................................... $364,064
Commercial real estate and farmland.............................. 43,000
Equipment........................................................ 1,000
Current assets................................................... 1,936
--------
410,000
Less:
Accounts payable and accrued expenses assumed.................... (4,006)
Long-term debt assumed, net of Potlatch loan repaid.............. (18,875)
--------
Net assets acquired............................................ $387,119
========
</TABLE>
(p) To record deferred income taxes. The Company does not expect to
distribute all of its capital gains in the future and will pay federal and
state income taxes on any such capital gains retained. The Company will not
receive a "step-up" in tax basis of the assets acquired from ATCO. Because
purchase accounting will be required for book purposes, a significant
difference will exist between the book and tax bases of the ATCO assets. The
Company has provided for a deferred income tax liability based upon the
estimated future level of capital gains to be retained. The amount is
calculated as follows (dollars in thousands):
<TABLE>
<S> <C>
Book basis of ATCO assets acquired by the Company............... $410,000
Tax basis of ATCO assets acquired by the Company ............... 19,908
--------
Gross book/tax differences..................................... 390,092
Multiplied by the blended federal and state income tax rate..... 39.23%
--------
Tax effect of gross book/tax differences....................... 153,033
Multiplied by the expected long-term capital gain retention
rate........................................................... 39.21%
--------
Deferred tax liability......................................... $ 60,000
========
</TABLE>
(q) To record Potlatch's interest in the Company attributable to Potlatch's
contribution of the net assets of the Potlatch Southern Timberlands. Applying
the guidance in Staff Accounting Bulletin No. 48, Transfers of Nonmonetary
Assets by Promoters or Shareholders ("SAB 48"), such interest is recorded at
Potlatch's net carrying cost of the Potlatch Timberlands. Immediately prior to
the Offering, Potlatch will be the Company's sole stockholder. Concurrently
with or prior to the consumation of the Offering, Potlatch will receive
Partnership Units in exchange for the contribution of the Potlatch Southern
Timberlands to the Partnership. Subsequent to the Offering, Potlatch will have
a majority voting interest in the Company through its ownership of the
Company's sole outstanding share of Special Voting Stock. Potlatch will also
have the right to exchange the Partnership Units for the Company's Common
Stock under certain circumstances.
44
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF THE COMPANY
This Prospectus contains, in addition to historical information, forward-
looking statements that involve risks and uncertainties. The Company's actual
results could differ materially from the results discussed in the forward-
looking statements. Factors that could cause or contribute to such differences
include those discussed below, as well as those discussed under "Risk Factors"
and elsewhere in this Prospectus.
OVERVIEW
The Company is a real estate investment trust ("REIT") formed to acquire
approximately 824,000 fee acres of timberlands in the southeastern United
States, comprising Potlatch's Arkansas timberlands (the "Potlatch Southern
Timberlands") and all of ATCO's timberlands and other real estate assets (the
"ATCO Timberlands," and collectively with the Potlatch Southern Timberlands,
the "Initial Timberlands"). The Company will acquire the ATCO Timberlands,
which consist of 324,000 acres of primarily hardwood timberlands concentrated
in Arkansas and Mississippi, in a cash merger funded in part from the net
proceeds of the Offering. See "The Formation Transactions." The Potlatch
Southern Timberlands comprise approximately 500,000 fee acres and
approximately 14,000 leased acres of primarily softwood lands located in
southern Arkansas. The Initial Timberlands contain an estimated total
merchantable timber volume of approximately 2.9 billion board feet of
sawtimber and 24.1 million tons of pulpwood. See "Business."
The Company will conduct its business solely through the Partnership, a
Delaware limited partnership in which the Company will initially hold a 42.9%
interest as the sole general partner. The Company's financial statements will
consolidate those of the Partnership. Accordingly, references to the "Company"
in this discussion include references to the Partnership unless the context
otherwise requires.
The discussion below first addresses certain factors that are expected to
have particularly significant effects on the Company's future results of
operations and cash flow, followed by a discussion of the pro forma results of
operations and financial condition of the Company after giving effect to the
Company's acquisition of ATCO and the consummation of the Offering, as
described under "The Formation Transactions." The Potlatch Southern
Timberlands' historical results are then discussed under "--Historical Results
of Operations of Potlatch Southern Timberlands." The following discussions
should be read in conjunction with the "Pro Forma Condensed Consolidated
Financial Information," "Selected Financial and Operating Information of the
Potlatch Southern Timberlands" and "Selected Consolidated Financial
Information of ATCO" appearing elsewhere in this Prospectus, as well as the
historical financial statements of the Company, the Potlatch Southern
Timberlands and ATCO included in this Prospectus.
The historical financial statements of ATCO and of the Potlatch Southern
Timberlands do not reflect recent and anticipated changes in harvest levels as
described below under "--Harvest Levels." In particular, due to a recent
change in ATCO's harvest strategy, ATCO began to harvest mature timber on the
ATCO Timberlands at a higher rate in 1997, and this accelerated harvesting has
continued into 1998. As a result, the foregoing historical financial
statements will not be directly comparable to the results of operations and
cash flow that the Company will derive from the ATCO Timberlands and the
Potlatch Southern Timberlands in future periods. In addition, the historical
financial statements of ATCO and of the Potlatch Southern Timberlands will not
be comparable to the Company's future results of operations and cash flow due
to certain other factors. First, the historical financial statements of ATCO
include the results of certain converting facilities and barge operations not
being acquired by the Company. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of ATCO." Second, the Company's
results of operations and cash
45
<PAGE>
flow will reflect the terms of the Timber Purchase Agreement, which has not
historically applied to ATCO or the Potlatch Southern Timberlands. Third, the
Company's results of operations will differ from the historical results of
ATCO and the Potlatch Southern Timberlands due to the use of the purchase
method of accounting for the Company's acquisition of ATCO, which will result
in significant depletion (a non-cash expense).
The Company will account for its acquisition of the ATCO Timberlands under
the purchase method, while the Company will carry over Potlatch's low basis in
the Potlatch Southern Timberlands. As a result, Potlatch will be allocated all
of the "built-in" accounting gain attributable to the Potlatch Southern
Timberlands as of their contribution to the Partnership (that is, the
difference between fair market value and historical accounting basis as of the
contribution date), which gain will be recorded as a component of "minority
interest" in the Company's income statement. In addition, the Company's
operating income will bear all of the depletion (a non-cash expense)
attributable to the Company's stepped-up accounting basis in the ATCO
Timberlands. Accordingly, the Company does not expect to record significant
net earnings for several years and believes that prospective investors should
consider the Company's cash flow, as well as other factors, in evaluating an
investment in the Common Stock.
CERTAIN FACTORS AFFECTING RESULTS OF OPERATIONS AND CASH FLOW
Historically, the Initial Timberlands have been the principal source of raw
material for Potlatch's converting facilities in the southeastern United
States, including the lumber and veneer converting facilities that Potlatch
will acquire from ATCO and certain related entities in connection with the
Formation Transactions. In 1997, approximately 68% of the sawtimber
requirements of Potlatch's mills in the Southeast were met with timber
harvested from the Potlatch Southern Timberlands, and substantially all of the
sawtimber requirements of ATCO's mills were met with timber harvested from the
ATCO Timberlands. In connection with the Formation Transactions, the Company
has entered into the long-term Timber Purchase Agreement covering all of the
Initial Timberlands, pursuant to which Potlatch will purchase and harvest all
of the standing timber designated by the Company on an annual basis, subject
to limited exceptions. Potlatch's purchases under this agreement will
initially account for substantially all of the Company's revenues and cash
flow. See "--Harvest Levels" and "--Timber Prices" below, and "Business--Sales
and Markets--The Timber Purchase Agreement."
The Company's results of operations and cash flow will be affected by
several factors including harvest levels on its timberlands, timber prices and
operating expenses.
HARVEST LEVELS. Harvest levels will depend upon a number of factors. First,
harvest levels will depend upon the Company's estimates of the "sustainable
yield" from its properties. One of the Company's principal strategies is to
manage its timberlands on a sustainable yield basis over the long term,
reflecting a balance between timber growth and harvesting, which is also
required under the Timber Purchase Agreement. However, with Potlatch's
concurrence, the Company may choose to harvest timber from time to time at
levels above the Company's then-current estimate of sustainability for various
reasons, including to improve its lands' long-term productivity. The Company
will also have limited rights to increase the volumes to be harvested in a
given year from the volumes designated in the harvest plan under the Timber
Purchase Agreement, subject to compensating volume reductions over the
following five-year period.
The following table summarizes the historical harvest levels on the Initial
Timberlands and ranges of estimated harvest levels. As described more fully
below, actual harvest levels can be expected to differ from these estimates
due to a number of factors, many of which will be beyond the Company's
control.
46
<PAGE>
<TABLE>
<CAPTION>
SOFTWOOD HARDWOOD SOFTWOOD HARDWOOD
SAWTIMBER SAWTIMBER PULPWOOD PULPWOOD
---------- ---------- ----------- -----------
YEAR (MMBF) (MMBF) (TONS 000S) (TONS 000S)
---- ---------- ---------- ----------- -----------
<S> <C> <C> <C> <C>
Actual:
1994........................ 63 58 187(1) 280(1)
1995........................ 80 49 315(1) 230(1)
1996........................ 94 63 392(1) 540(2)
1997........................ 97 93 376(1) 704(2)
Harvest Plans(3):
1998........................ 90-100 102-112 340-376 923-1021
1999........................ 90-100 102-112 340-376 895-989
2000........................ 90-100 102-112 340-376 866-958
2001........................ 90-100 102-112 288-318 857-947
2002........................ 90-100 102-112 288-318 782-864
2003........................ 90-100 98-108 287-317 782-864
</TABLE>
- --------
(1) Potlatch Southern Timberlands only. Pulpwood harvest data for the ATCO
Timberlands are not available for calendar 1994 and 1995. Softwood
pulpwood data for 1996 and 1997 excludes immaterial volumes harvested by
ATCO.
(2) Includes softwood pulpwood harvested from the ATCO Timberlands, which ATCO
estimates were immaterial.
(3) 1998 and 1999 estimates represent 95% to 105% of the volumes designated in
the initial two-year harvest plan under the Timber Purchase Agreement,
which range was selected because a shortfall in Potlatch's actual harvest
volumes from the volumes designated under the agreement will not
constitute a breach of the agreement so long as at least 95% of the
designated volume is harvested during the relevant year or within
specified cure periods. The Partnership will have limited rights to
increase the volumes to be harvested in given year from the volumes
designated in the harvest plan, subject to compensating volume reductions
over the following five-year period. Amounts shown for 2000 to 2003 are
based on management's current estimates.
The differences between historical harvest levels and the Company's current
harvest plans are due to changes in silvicultural practices and harvesting
strategies that Potlatch and ATCO began to implement over the past three
years.
From 1994 to 1997, Potlatch's softwood sawtimber harvesting increased
somewhat as Potlatch began to shift an increasing percentage of its softwood
acreage to plantations, as described more fully below. Potlatch's softwood
pulpwood harvest levels fluctuated over this three-year period primarily due
to variations in the acreage of softwood plantations reaching ages appropriate
for thinning, and Potlatch's hardwood pulpwood harvests declined due primarily
to the sale of a hardwood tract in 1994. ATCO's harvest levels through the
mid-1990s reflect its historical business objective of enhancing the asset
value of its timber resources by maximizing the growing stock volume of
desirable species in good condition for the production of high-quality
hardwood sawtimber. In the mid-1990s, ATCO achieved its resource management
goals for quality and growing stock volume, and in early 1997, ATCO shifted
its business objective from enhancing asset value to maximizing both cash flow
and timber growth rates. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of ATCO." Due to ATCO's shift in
strategy, its hardwood harvest levels increased approximately 44% from
calendar 1996 to 1997, as ATCO began to harvest large-diameter timber at a
higher rate in order to increase cash flow and improve the long-term growth
rates of the remaining, younger timber. ATCO's new harvesting strategy also
contributed to an increase in its pulpwood harvest in 1997. As explained more
fully below, the Company intends to continue to implement this strategy,
resulting in increased harvests of hardwood sawtimber and pulpwood.
47
<PAGE>
The Company's anticipated harvest levels for its softwoods and hardwoods
will reflect the different silvicultural practices and resource management
objectives applicable to these two types of timber. In softwoods, the
Company's harvest plans will be significantly affected by its plan to improve
long-term growth rates and harvest levels by shifting an increasing percentage
of its softwood acreage from an "uneven-aged" condition to "even-aged" stands
which consist of trees of similar ages and sizes. This management change,
which Potlatch began in the mid-1990s, is being effected by clear-cutting
selected tracts, then planting genetically improved seedlings. As these stands
continue to be cut to make way for faster-growing seedlings, the Company
anticipates that its immediate-term softwood sawtimber harvest levels will
approximate 1996 and 1997 levels. As these faster-growing trees mature,
however, softwood sawtimber harvest levels are expected to rise to a level
exceeding the Company's average level in the early- to mid-1990s. Softwood
pulpwood harvest levels are expected to decline by approximately 15% from
current levels over the next four to five years due to an imbalance in the
current age distribution of plantations, which will result in fewer stands
ready to be thinned over that period.
Over the next five years, hardwood harvest levels are expected to exceed the
levels that prevailed prior to 1997 and are anticipated to be between
approximately 102 MMBF and 112 MMBF per year. This increased harvest level
reflects the recent shift in ATCO's business objective as discussed above.
Within approximately five years, the Company anticipates that this accelerated
harvesting will be substantially complete, resulting in longer-term estimated
harvest levels of hardwoods that are slightly below the current, accelerated
harvest level but above the historical average on the ATCO Timberlands.
Actual harvest levels can be expected to differ from the estimates set forth
in the Company's harvest plans. Among other things, the Company's long-term
harvest plans reflect its present estimate of long-term sustainable yield. The
Company's calculation of the sustainable yield from its properties, and thus
its harvest plans, will change over time, due in part to genetic improvements
and other silvicultural advances. Harvest levels may also be affected by
natural disasters, timber growth rates, regulatory constraints and other
factors, many of which are beyond the Company's control.
The Company's annual harvest levels will also fluctuate due to seasonal
weather factors. Softwood harvesting activities are somewhat limited during
the three- to four-month Winter rainy season in Arkansas. Rainfall from
November to April also depresses harvest volumes to some extent in the
Company's hardwood operations, due in part to the seasonal rise in the
Mississippi River. The Company's revenues and cash flow will be significantly
reduced during the foregoing periods. See "--Historical Results of Operations
of Potlatch Southern Timberlands--Quarterly Results."
Initially, Potlatch will harvest all of the timber to be harvested from the
Company's timberlands pursuant to the Timber Purchase Agreement, which has an
initial term of 20 years and may be extended by either party for up to 18
successive ten-year periods. The agreement covers all of the Initial
Timberlands. Timberlands that may be acquired by the Company in the future in
specified regions near Potlatch's and ATCO's current converting facilities and
lands offered to the Company in a Potlatch acquisition consisting primarily of
non-timberland assets may also become subject to the agreement at Potlatch's
election. Under the agreement, Potlatch will purchase all of the standing
timber designated in the Company's harvest plans at prices designed to reflect
fair market value on a stumpage basis. See "--Timber Prices" below. The
Company will recognize revenues when legal ownership and the risk of loss pass
to Potlatch. Payments under the agreement will generally be made monthly. See
"Business--Sales and Markets--The Timber Purchase Agreement."
TIMBER PRICES. The Company's results of operations and cash flow will depend
substantially upon the market price for timber in its operating regions and,
accordingly, are expected to fluctuate. Pursuant to the Timber Purchase
Agreement, timber from the Company's timberlands will be sold to Potlatch at
prices designed to reflect fair market value on a stumpage basis. The
agreement provides
48
<PAGE>
that, in determining fair market value, Potlatch and the Partnership will
consider such factors as they deem relevant. Initially, prices will generally
reflect the two methods by which Potlatch has historically supplied its
sawmills: (1) purchasing logs on a "delivered log" basis at the mill, and (2)
stumpage purchases through competitive bidding or otherwise. Accordingly,
initial prices will generally take into account (i) the price paid in arm's-
length transactions for comparable logs delivered to the mill, less Potlatch's
average costs of logging and transporting the logs to the mills where they are
to be processed, and (ii) prices paid in stumpage sales. Where Potlatch
assigns its right to harvest timber from a stand designated in the applicable
harvest plan, Potlatch will pay the Partnership the actual price paid in a
competitive bid sale (or such other price as the Partnership may agree), less
an administrative charge. The prices paid by Potlatch for timber from the
Initial Timberlands will be redetermined quarterly, and retroactive
reconciling payments will be made if necessary. See "Business--Sales and
Markets--The Timber Purchase Agreement."
Over the long term, United States timber prices have historically
appreciated faster than general inflation, although prices can be expected to
fluctuate in the short term due to the cyclical nature of the forest products
industry and the factors discussed under "Business--Industry Background--
Supply" and "Business--Industry Background--Demand." The following graph
illustrates trends in timber prices in the southern United States, as reported
in a trade publication.
HISTORICAL SOUTHERN STUMPAGE PRICES (a)
YEARLY INDEXED PRICE HISTORY
<TABLE>
<CAPTION>
Pine Hardwood Oak Pine Hardwood
Sawtimber Sawtimber Sawtimber Pulpwood Pulpwood CPI Index
--------- --------- --------- -------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
1987 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
1988 113.9 103.1 109.4 106.6 124.7 104.1
1989 111.1 109.2 117.6 117.0 173.2 109.1
1990 118.5 115.4 136.5 130.5 173.2 115.0
1991 117.6 123.1 134.1 136.4 173.2 119.8
1992 148.1 147.7 156.5 159.0 230.8 123.5
1993 175.9 206.2 215.3 181.7 288.6 127.1
1994 226.9 195.4 208.2 180.4 284.6 130.4
1995 246.3 218.5 242.4 195.1 410.9 134.1
1996 219.4 190.8 232.9 193.6 366.0 138.0
1997 269.4 218.5 270.6 221.7 439.0 141.3
</TABLE>
(a) Source: Timber Mart-South, 1998. Data for the Southeastern United States.
Hardwood sawtimber includes a mix of hardwood species; excludes oak.
Local timber prices often differ significantly from regional or national
averages, due to variations in fiber quality, local converting capacity and
demand, and other factors. Due to the high quality of its timber, ATCO has
generally realized higher stumpage prices for timber from the ATCO Timberlands
than regional averages. For example, the Company estimates that over 40% of
ATCO's hardwood sawtimber is USFS #1 grade, which is more than four times the
recent average on all hardwood
49
<PAGE>
timberlands available for commercial harvesting in ATCO's operating region,
based on USFS data. However, there can be no assurance that the Company will
continue to receive prices that exceed regional or national prices.
In addition, timber prices are indirectly affected by lumber prices, which
fluctuate depending upon a number of factors including lumber imports from
Canada. Although imports of wood products have historically been limited by
freight costs and, since April 1996, by the five-year U.S.-Canada lumber trade
agreement, the recent Asian economic crisis has contributed to increased
Canadian wood products shipments into the U.S. market.
EXPENSES. The Company's expenses will consist primarily of costs incurred in
certain silvicultural activities, depletion and road amortization, property
taxes and administrative expenses, as well as interest expense. The Company
generally intends to capitalize silvicultural costs associated with
establishing timber stands and certain road building expenditures. Other
silvicultural costs, such as the cost of thinning existing stands, will be
expensed.
The Company's financial statements will reflect significant depletion, which
is a non-cash expense representing amortization of the costs associated with
acquiring or establishing timber stands. Depletion is charged to income as
timber is cut and is determined annually, based upon the relationship of
unamortized timber costs to the estimated volume of merchantable timber. Due
to the acquisition of ATCO under the purchase method of accounting, the
depletion associated with the cutting of timber from the ATCO Timberlands will
significantly reduce the Company's net income. See "--Overview" above.
As a result of the Company's status as a public company, the Company's
future financial statements will reflect various additional expenses that were
not incurred by the Potlatch Southern Timberlands. These are expected to
include executive compensation, office rental and occupancy costs, and other
corporate administration costs. The Company estimates that these expenses will
total approximately $4.0 million in 1998. Potlatch has committed to provide
the Company with certain administrative services, in areas such as human
resources, accounting and tax, at a price equal to Potlatch's cost. See
"Certain Relationships and Related Transactions." The Company's financial
statements will also include interest expense under its initial indebtedness,
which will have an initial principal amount of approximately $130.0 million
(assuming an initial public offering price of $20.00 per share), and any
future borrowings. The Company's borrowings under its revolving credit
facility will bear interest at variable rates, which will subject the Company
to the risk of rising interest rates. See "--Pro Forma Liquidity and Capital
Resources" below.
The Company plans to elect to be taxed as a REIT commencing with its taxable
year ending December 31, 1998. As a REIT, the Company generally will not be
taxed on income that it distributes to its stockholders so long as it meets
certain organizational and operational requirements. See "Federal Income Tax
Consequences--Taxation of the Company." In certain situations, the Company may
elect to retain and pay taxes at regular corporate rates on the undistributed
portion of its net capital gains. See "Distribution Policy."
As noted under "Risk Factors--Other Tax Risks--Conformity of States to
Federal Law," the failure of the states in which the Company operates to
conform to recent federal tax law changes relating to REITs could result in
the imposition of a corporate level tax in such states until such time
(currently estimated to be four years) as the Company would be able to qualify
as a REIT under the law in effect prior to 1997. Arkansas has not yet
conformed to such recent changes. Accordingly, the pro forma results of
operations assume that the Company will pay state taxes on its income
attributable to Arkansas.
50
<PAGE>
PRO FORMA DISCUSSION
PRO FORMA RESULTS OF OPERATIONS
The following discussion gives effect to the Formation Transactions and
certain pro forma adjustments described under "Pro Forma Condensed
Consolidated Financial Information." The Company's pro forma operating results
are not indicative of the Company's future results due to anticipated changes
in harvest levels and the other factors discussed above.
The Company's pro forma revenues for the year ended December 31, 1997 and
the three months ended March 31, 1998 were $70.0 million and $15.4 million,
respectively.
Pro forma depletion, depreciation and amortization for the year ended
December 31, 1997 and the three months ended March 31, 1998 were approximately
$21.2 million and $4.8 million, respectively, primarily reflecting the
significant depletion due to the application of the purchase method of
accounting to the acquisition of the ATCO Timberlands. Pro forma operating and
general and administrative expenses for the foregoing periods were $11.5
million and $2.9 million, respectively, which includes management's estimate
of salaries, legal, accounting and other recurring administrative costs.
Pro forma other income for the year ended December 31, 1997 and the three
months ended March 31, 1998 was approximately $5.4 million and $1.0 million,
respectively, which included approximately $2.4 million and $372,000,
respectively in revenue from hunting leases, as well as approximately $2.6
million and $609,000, respectively, in income attributable to approximately
8,000 acres of farmlands and interests in six commercial real estate
properties to be acquired from ATCO.
Initially, the Company's financial statements will reflect Potlatch's
interest in Partnership income. As described above under "--Overview," when
timber is cut from the Potlatch Southern Timberlands, or when any of such
timberlands are sold, Potlatch will be allocated all of the accounting income
resulting from such assets' "built-in gain" for financial accounting purposes
(that is, the excess of fair market value over accounting basis when such
assets were contributed to the Partnership), which gain will represent a
component of "minority interest" in the Company's income statement. In the
future, each partner of the Partnership (initially, Potlatch and the Company)
will also be allocated its pro rata share of any accounting gain or loss on
sale or harvesting of the Initial Timberlands that is attributable to
appreciation or depreciation in the value of the Initial Timberlands after the
closing of the Formation Transactions. On a pro forma basis, Potlatch's equity
in Partnership income for the year ended December 31, 1997 and the three
months ended March 31, 1998 was approximately $30.9 million and $6.0 million,
respectively.
After reflecting Potlatch's pro forma equity in Partnership income, the
Company realized pro forma net earnings for the year ended December 31, 1997
and the three months ended March 31, 1998 of $3.6 million and $835,000,
respectively.
PRO FORMA LIQUIDITY AND CAPITAL RESOURCES
The net proceeds to the Company from the sale of the 15,000,000 shares of
Common Stock being offered hereby are estimated to be $276.0 million ($317.9
million, if the Underwriters' over-allotment option is exercised in full),
assuming an initial public offering price of $20.00 per share and after
deducting estimated underwriting discounts and commissions and offering
expenses. The Company intends to use the net proceeds of the Offering,
together with approximately $111.1 million in debt financing ($69.2 million,
if the Underwriters' over-allotment option is exercised in full) to fund its
acquisition of ATCO. Immediately after the consummation of the Offering and
the Formation Transactions, the Company will have no significant cash balance
and approximately $130.0 million in outstanding indebtedness (assuming the
foregoing initial public offering price and no exercise of the Underwriters'
over-allotment option), including approximately $18.9 million in indebtedness
assumed in
51
<PAGE>
the ATCO acquisition, which is secured by six commercial real estate
properties. The Company anticipates that its initial working capital, together
with anticipated cash flow from operations and anticipated borrowings under
the new credit facility described below, will provide adequate liquidity to
fund its activities in the short term and for the foreseeable future and to
allow for distributions to stockholders in accordance with the Company's
initial distribution policy through the quarter ending June 30, 1999. However,
to the extent that these sources of funds are inadequate, additional funds
will be required. In particular, one of the Company's principal business
strategies is to acquire additional timberlands. The implementation of this
strategy will require the Company to make significant capital expenditures,
and may require the Company to obtain external financing in addition to its
credit facility.
As of the date of this Prospectus, the Company had no material commitments
for capital expenditures. Capital expenditures are expected to consist
primarily of (i) timberland acquisition costs, (ii) certain reforestation
costs, which are anticipated to increase in the near term due to the Company's
planned conversion of uneven-aged pine stands to even-aged plantations, and
(iii) road building and maintenance. The Company estimates that its capital
expenditures for 1998, excluding any potential acquisitions, will be
approximately $5.4 million.
CREDIT FACILITY
The Company has received a loan commitment for, and intends to obtain, a
$200 million unsecured revolving line of credit (the "Credit Facility") from a
syndicate of commercial banks led by NationsBank, N.A. prior to the closing of
the Offering. Under the loan commitment, the Credit Facility will have a term
of five years and may be used for acquisitions, working capital and general
corporate purposes. The loan commitment provides that borrowings under the
Credit Facility will bear interest at a variable interest rate equal to a
LIBOR rate for the LIBOR period selected by the Company, plus a margin of
between 40 and 60 basis points, depending upon the Company's interest coverage
ratio, or, at the Company's election, at the prime rate of the agent bank in
effect from time to time. In addition, the loan commitment states that the
Company will be required to pay a quarterly facility fee equal to between 10
and 15 basis points of the total amount of the Credit Facility, depending upon
the Company's interest coverage ratio. The loan commitment provides that the
Credit Facility will be payable interest only, quarterly in arrears (or at the
end of a LIBOR period), until the end of its term, at which time all unpaid
principal and interest becomes due and payable. However, if the Company sells
assets with a price in excess of $100 million, the Company will be required to
prepay a portion of the outstanding principal balance of the Credit Facility
equal to 50% of the net cash proceeds received in the sale of the assets sold
and the amount available for borrowing under the Credit Facility will be
permanently reduced by a like amount unless a specified leverage ratio test
would be met after giving effect to such a sale. The Company expects that the
Credit Facility will be subject to an interest coverage ratio covenant, a
timber value to funded debt ratio covenant and other covenants, terms and
conditions of the type customary for similar credit facilities. Upon the
closing of the Offering, the Company intends to borrow approximately $111.1
million under the Credit Facility (based on the assumptions set forth above)
in order to (i) repay $21.4 million of a loan from Potlatch to ATCO,
representing the portion of the loan which the Company assumed in the
Formation Transactions, and (ii) fund the portion of the ATCO acquisition not
funded from the proceeds of the Offering. The Partnership will assume the
Company's obligations under the Credit Facility. The Company intends to use
the remaining available borrowings for acquisitions and, if necessary, to fund
the payment of stockholder distributions. To the extent the Credit Facility is
not extended at the expiration of the initial five-year term, the Company will
be required to obtain additional equity or debt financing. There can be no
assurance that any such financing will be available on acceptable terms or at
all.
LIMITATIONS ON INDEBTEDNESS
In obtaining debt financing, the Company will be required to comply with
certain covenants in the Credit Facility, as described above, and with
contractual provisions in the Partnership Agreement. The
52
<PAGE>
Company and the Partnership have agreed to refrain from taking actions that
would cause Potlatch to breach its debt covenants or any similar covenants in
Potlatch's future debt instruments, so long as they are no more restrictive
than the existing covenants. Potlatch's debt covenants will generally apply to
the Company so long as Potlatch owns more than 50% of the Company's voting
power or consolidates the Company for financial reporting purposes.
Potlatch's debt covenants include financial ratios and other quantitative
tests. Under the most restrictive of these covenants (requiring a ratio of
consolidated net tangible assets to "Funded Debt" (as defined) of at least 2-
to-1), and assuming that the Offering and Formation Transactions had occurred
on December 31, 1997, Potlatch and the Company could together have incurred
between approximately $280.0 million and $560 million in additional Funded
Debt as of that date (depending on the extent to which the application of the
proceeds of such additional Funded Debt results in an increase in consolidated
tangible assets) without breaching such covenant, assuming that the Company
had $111.1 million in indebtedness under its Credit Facility as of that date.
As consolidated net tangible assets increase through acquisitions or
otherwise, the amount of Funded Debt permitted under this covenant will
increase. In the future, however, Potlatch will not be prevented from
incurring indebtedness or otherwise utilizing most or all of the available
capacity under Potlatch's debt covenants while they apply to the Company,
which may limit the Company's ability to incur additional indebtedness.
Potlatch's debt covenants also include (i) a limitation on liens (subject to
certain exceptions including exceptions for purchase money liens), (ii) a
limitation on sale-leaseback transactions, and (iii) limitations on certain
mergers and other fundamental transactions. The Partnership has also agreed
pursuant to the Timber Purchase Agreement and the Partnership Agreement to
obtain Potlatch's consent before encumbering any of the Potlatch Southern
Timberlands, subject to limited exceptions. See "The Partnership Agreement."
STOCKHOLDER DISTRIBUTIONS
The Company expects to pay regular quarterly distributions to its
stockholders. The Company's first distribution, for the period ending
September 30, 1998, is anticipated to equal a pro rated share of the
anticipated initial quarterly distribution of $0.355 per share of Common
Stock, which on an annualized basis, will represent a distribution rate of
$1.42 per share of Common Stock. See "Distribution Policy" for pro forma Funds
from Operations and pro forma Cash Available for Distribution and related
assumptions.
Because the Company expects that its income will consist largely of capital
gains, the Company does not believe it will be required to distribute any
material amounts of cash in order to maintain its status as a REIT. See
"Federal Income Tax Consequences--Taxation of the Company" and "Distribution
Policy." The Company's ability to make distributions to stockholders will be
affected by quarterly fluctuations in timber prices and other factors. See
"Risk Factors--Potential Limitations on Distributions." Due to seasonal
limitations on harvesting in the first quarter, the Company anticipates that
it may need to obtain additional financing in order to make distributions to
stockholders in certain periods to maintain its desired distribution rate. See
"--Certain Factors Affecting Results of Operations and Cash Flow" above.
The Company's ability to make distributions may also be affected by
potential differences between the Company's share of cash distributions from
the Partnership and the amount of taxable income allocated to the Company
under the Partnership Agreement. See "Distribution Policy" and "Risk Factors--
Potential Differences between Taxable Income and Cash Available for
Distribution." If, after giving effect to the Company's distributions for a
tax year, the Company has not distributed 100% of its net taxable income
(including capital gains), then the Company will be required to pay tax on the
undistributed portion of such taxable income at regular federal corporate tax
rates (currently 35%). In such cases, the Company anticipates that it would
generally make an election pursuant to which (i) any federal income taxes paid
by the Company on its retained capital gains would be treated as having been
paid on behalf of the Company's stockholders, who would be allowed a credit on
their tax returns
53
<PAGE>
in the amount of their share of the federal income taxes paid by the Company
and (ii) such retained capital gains would be treated as having been
distributed to the Company's stockholders. Stockholders (including tax-exempt
stockholders) will be able to file a claim for refund if such credit exceeds
their actual tax liability (if any). To the extent the Company has funds
available (including from operations, borrowings, equity issuances, sales of
assets or otherwise), the Company may elect to use such funds to pay taxes on
its retained capital gains. If the Company would not have sufficient funds,
after giving effect to expected distributions to its stockholders, to pay its
taxes on such retained capital gains and if, in the judgment of the Board of
Directors, it would not be in the best interests of the Company and its
stockholders to obtain or use funds from borrowings, equity issuances, sales
of assets or other sources to pay such taxes, then the amount of cash actually
distributed to the Company's stockholders may be reduced to the extent
necessary to pay such taxes. See "Distribution Policy" and "Federal Income Tax
Consequences--Taxation of Taxable U.S. Stockholders--Distributions by the
Company."
HISTORICAL RESULTS OF OPERATIONS OF POTLATCH SOUTHERN TIMBERLANDS
The net earnings of the Potlatch Southern Timberlands were $19.5 million,
$11.4 million and $13.9 million for the years ended December 31, 1997, 1996
and 1995, respectively, and $3.6 million and $2.3 million for the three months
ended March 31, 1998 and 1997, respectively. Summary results for the Potlatch
Southern Timberlands are shown below in thousands of dollars (except for
timber volumes and prices):
<TABLE>
<CAPTION>
THREE MONTHS
YEARS ENDED DECEMBER 31, ENDED MARCH 31,
---------------------------- ----------------
1995 1996 1997 1997 1998
-------- -------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
SUMMARY FINANCIAL DATA:
Revenues................... $ 29,715 $ 28,318 $ 40,449 $ 6,004 $ 8,160
Costs and expenses......... 6,683 9,005 7,663 1,724 1,729
-------- -------- -------- ------- -------
Earnings from operations... 23,032 19,313 32,786 4,280 6,431
Other income (expense),
net....................... (393) (363) (488) (447) (436)
-------- -------- -------- ------- -------
Earnings before income tax-
es........................ 22,639 18,950 32,298 3,833 5,995
Income tax expense......... 8,782 7,523 12,769 1,503 2,350
-------- -------- -------- ------- -------
Net earnings............... $ 13,857 $ 11,427 $ 19,529 $ 2,330 $ 3,645
======== ======== ======== ======= =======
OTHER DATA:
Volumes:
Sawtimber (MBF).......... 81,831 93,498 97,169 15,942 17,787
Pulpwood (tons).......... 545,583 624,577 583,061 95,265 111,444
Average internal transfer
prices:
Sawtimber (MBF).......... $ 311.09 $ 258.03 $ 367.19 $339.72 $415.49
Pulpwood (tons).......... $ 7.81 $ 6.71 $ 8.18 $ 6.18 $ 6.90
</TABLE>
During the foregoing periods, the Potlatch Southern Timberlands' revenues
consisted primarily of timber sales, predominantly to Potlatch converting
facilities. Historical timber sales have been calculated based on actual
harvest volumes multiplied by internal transfer prices.
In addition to sales of timber, revenues also include minor sales of
timberlands to parties other than Potlatch. The timberlands sold have
generally consisted of smaller tracts that were considered to be less
productive or not as strategically located as the remainder of Potlatch's
southern lands.
The Potlatch Southern Timberlands' historical costs and expenses consist of
depletion, road amortization and maintenance, property taxes, interest and
administration.
QUARTER ENDED MARCH 31, 1998 COMPARED TO QUARTER ENDED MARCH 31, 1997
For the quarter ended March 31, 1998, the Potlatch Southern Timberlands
generated revenues of $8.2 million on timber sales of approximately 17,787 MBF
of sawtimber and 111,444 tons of pulpwood, an increase of 36% from the quarter
ended March 31, 1997 when revenues were $6.0 million on timber
54
<PAGE>
sales of approximately 15,942 MBF of sawtimber and 95,265 tons of pulpwood.
The increase in revenues in the most recent quarter primarily reflects a 12%
increase in sawlog volume and a 22% increase in sawlog prices.
For the quarters ended March 31, 1998 and March 31, 1997, depletion,
amortization and depreciation were $0.3 million and operating expenses were
$1.1 million.
Net earnings for the quarter ended March 31, 1998 were $3.6 million, an
increase of 56% from the $2.3 million earned in the quarter ended March 31,
1997. The increase is primarily due to the higher revenues described above.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
In 1997, the Potlatch Southern Timberlands generated revenues of $40.4
million on timber sales of approximately 97,169 MBF of sawtimber and 583,061
tons of pulpwood, an increase of 43% from 1996 revenues of $28.3 million on
timber sales of approximately 93,498 MBF of sawtimber and 624,577 tons of
pulpwood. The improvement in revenues primarily reflected a 42% increase in
sawlog prices.
Depletion, depreciation and amortization was $1.7 million, a 51% decrease
from the $3.5 million incurred in 1996. The decrease was primarily
attributable to the lower cost basis of timber harvested in 1997, in
comparison to the timber stands harvested in 1996 (which included mature
stands purchased in 1994 and 1995). Operating expenses were $4.8 million in
1997, a 6% increase from the $4.5 million incurred in 1996.
Net earnings in 1997 were $19.5 million, an increase of 71% from the $11.4
million earned in 1996. The increase is primarily due to higher revenues
described above.
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
In 1996, the Potlatch Southern Timberlands generated revenues of $28.3
million on timber sales of approximately 93,498 MBF of sawtimber and 624,577
tons of pulpwood, a decrease of 5% from 1995 revenues of $29.7 million on
timber sales of approximately 81,831 MBF of sawtimber and 545,583 tons of
pulpwood. Revenues fell largely as a result of lower prices for pine sawlogs
and pulpwood, which more than offset a 14% increase in sawlog harvest volumes.
Depletion, depreciation and amortization was $3.5 million in 1996, a 148%
increase over the $1.4 million incurred in 1995, which is due to harvesting
recently purchased timber stands and an overall increase in harvest activity.
Operating expenses were $4.5 million in 1996, a 7% increase over 1995.
Net earnings in 1996 were $11.4 million, a decrease of 18% from the $13.9
million earned in 1995. This decrease is attributable to the lower revenues
and higher expenses described above.
55
<PAGE>
QUARTERLY RESULTS OF OPERATIONS
Historically, the Potlatch Southern Timberlands' results of operations have
been depressed in the first quarter and to some extent in the second quarter
of each year, due to limitations on harvesting caused by Winter weather. The
following table summarizes the results of operations achieved in the nine most
recent quarters (dollars in thousands, other than timber prices):
<TABLE>
<CAPTION>
1996 1997 1998
----------------------------------- ------------------------------------ -------
FIRST SECOND THIRD FOURTH FIRST SECOND THIRD FOURTH FIRST
QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER
-------- ------- -------- -------- ------- -------- -------- -------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
SUMMARY FINANCIAL DATA:
Revenues................ $ 4,746 $ 5,640 $ 9,188 $ 8,744 $ 6,004 $ 9,067 $ 12,725 $ 12,653 $ 8,160
Costs and expenses...... 1,755 2,210 2,701 2,339 1,724 2,005 1,944 1,990 1,729
-------- ------- -------- -------- ------- -------- -------- -------- -------
Earnings from
operations............. 2,991 3,430 6,487 6,405 4,280 7,062 10,781 10,663 6,431
Other income (expense),
net.................... (384) 277 41 (297) (447) 665 (418) (288) (436)
-------- ------- -------- -------- ------- -------- -------- -------- -------
Earnings before income
taxes.................. 2,607 3,707 6,528 6,108 3,833 7,727 10,363 10,375 5,995
Income tax expense...... 1,030 1,464 2,579 2,450 1,503 3,052 4,093 4,121 2,350
-------- ------- -------- -------- ------- -------- -------- -------- -------
Net earnings........... $ 1,577 $ 2,243 $ 3,949 $ 3,658 $ 2,330 $ 4,675 $ 6,270 $ 6,254 $ 3,645
======== ======= ======== ======== ======= ======== ======== ======== =======
OTHER DATA:
Volumes:
Sawtimber (MBF)........ 15,210 22,589 33,070 22,629 15,942 24,780 28,797 27,650 17,787
Pulpwood (tons)........ 124,168 97,017 211,239 192,153 95,265 115,713 192,996 179,087 111,444
Average internal
transfer prices:
Sawtimber ($/MBF)...... $ 256.67 $220.48 $ 235.28 $ 329.68 $339.72 $ 348.44 $ 365.50 $ 401.61 $415.49
Pulpwood ($/tons)...... $ 6.78 $ 6.80 $ 6.67 $ 6.68 $ 6.18 $ 3.74 $ 11.40 $ 8.65 $ 6.90
</TABLE>
The foregoing quarterly information is unaudited, but in the opinion of
management reflects all adjustments, consisting only of normal recurring
adjustments, necessary for a fair presentation of the information for the
periods presented when read in conjunction with the audited financial
statements of the Potlatch Southern Timberlands and notes thereto. The
operating results for any quarter are not necessarily indicative of results
for any future period.
LIQUIDITY AND CAPITAL RESOURCES OF POTLATCH SOUTHERN TIMBERLANDS
The Potlatch Southern Timberlands' cash flow from operations was $20.9
million, $15.5 million and $15.0 million, respectively, for the years ended
December 31, 1997, 1996 and 1995 and $3.1 million and $1.9 million for the
three months ended March 31, 1998 and 1997, respectively. Changes in period-
to-period cash flow for the Potlatch Southern Timberlands largely correspond
to the changes in net earnings for the same periods due to the absence of
significant noncash expenses other than depletion expense.
The Potlatch Southern Timberlands' capital expenditures were $2.8 million,
$2.3 million and $3.5 million, respectively, in 1997, 1996 and 1995 and $0.4
million and $0.3 million for the three months ended March 31, 1998 and 1997,
respectively. The 1995 expenditures included expenditures for timber
acquisitions. The remainder of the expenditures relate to reforestation costs,
road building and maintenance. Historically, capital projects for the Potlatch
Southern Timberlands have been funded by Potlatch's working capital, overall
operations and centralized cash management system.
OTHER MATTERS
IMPACT OF INFLATION
Inflation has not had a significant effect on the Company's operating
results, but may have an indirect effect on the Company's future results due
to the dependence of timber sales on housing starts, which are affected by
changes in interest rates caused by inflation and other factors.
56
<PAGE>
IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, Reporting Comprehensive Income, and
Statement of Financial Accounting Standards No. 131, Disclosures about
Segments of an Enterprise and Related Information. These standards, which are
effective for fiscal years beginning after December 15, 1997, require
presentation of certain additional information in the financial statements and
accompanying footnotes. The effect of implementing the new standards may
require changes in the format of some of the information that the Company
currently presents, but these changes are not expected to be material.
57
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF ATCO
OVERVIEW
Prior to January 1, 1998, ATCO was an integrated hardwood forest products
company with approximately 324,000 acres of hardwood timber located along the
Mississippi River primarily in Mississippi, Arkansas, Louisiana and Tennessee.
ATCO and a related partnership also operated facilities in Vicksburg,
Mississippi that convert sawtimber into premium hardwood lumber used in
furniture, cabinets, architectural moldings and flooring, convert hardwood
sawtimber into veneer used in laminated hardwood flooring, and sell pulpwood
and other sawtimber to third parties. ATCO and its wholly-owned subsidiaries
also operated other businesses not vertically integrated with its hardwood
forests, including a river construction and transportation business and a
laminated truck flooring facility in Memphis, Tennessee, which was sold as of
December 31, 1997. In addition, ATCO holds interests in commercial real estate
and farmland.
In May 1995, Anderson-Tully Veneers, L.P. was formed to construct and
operate a state-of-the-art rotary veneer converting facility which would
purchase certain grades of oak sawtimber from ATCO, with ATCO holding a 1%
interest as managing general partner and the ATCO shareholders holding the
remaining 99% as limited partners. Veneer operations commenced in November
1996. As managing general partner, a wholly owned subsidiary of ATCO controls
the partnership's operations and guarantees its indebtedness. Accordingly,
Anderson-Tully Veneers, L.P.'s assets, liabilities and results of operations
are included in the consolidated financial statements of ATCO with appropriate
recognition of the limited partners' approximately 99% minority interest.
At December 31, 1997, ATCO completed a series of transactions to effect the
separation of ATCO's timberlands and other real estate holdings from its
converting and other operations, which enabled ATCO to qualify as a REIT
effective January 1, 1998. As a result of those transactions, assets and
liabilities of converting and other operations owned by ATCO and its
subsidiaries (along with certain indebtedness) were transferred to Anderson-
Tully Veneers, L.P. or to newly formed operating entities owned by Anderson-
Tully Veneers, L.P. In exchange, ATCO received non-voting preferred stock
representing 82.2% and 95% of the economic interest of the timber harvesting
and lumber operations, respectively. Anderson-Tully Veneers, L.P., directly
and through its wholly-owned subsidiaries, assumed controlling ownership
interests in all converting and other operations. The historical results of
operations of ATCO presented in the consolidated financial statements included
in this Prospectus are not affected by the restructuring transactions
described above.
As described elsewhere in this Prospectus, ATCO has agreed to merge ATCO's
timberlands, commercial real estate and farmland into the Company, and certain
of ATCO's affiliated companies have agreed to sell their timber harvesting and
lumber and veneer converting operations to Potlatch. See "The Formation
Transactions."
BUSINESS AND RESOURCE MANAGEMENT OBJECTIVES
ATCO's operating results have fluctuated due to changes in ATCO's business
objectives and resource management practices and timber harvest levels. ATCO
was formed in 1889 and, throughout most of its history, its business objective
has been to enhance the asset value of its timber resources by maximizing the
growing stock volume of desirable species in good condition for the production
of high quality hardwood sawtimber. Only in the last ten years have the demand
and market prices for hardwood pulpwood reached levels allowing the harvest of
pulpwood to be commercially practicable. As a result, ATCO's historical
resource management practice was to remove trees from stands that were not
likely to enhance the value of the stand or had reached economic maturity in
order to improve the quality of the remaining stand and promote the natural
regeneration of desirable species. From the mid-1960s through the early 1990s,
the average annual harvest was less than 50 MMBF, or less than
58
<PAGE>
70% of annual growth. Because of this resource management practice, ATCO
purchased outside timber and logs in order to meet the species mix and volume
requirements of its converting facilities.
In the mid-1990s, ATCO achieved its resource management goals for quality
and growing stock volume. Based on timber productivity data accumulated for
approximately 30 years, ATCO concluded that it could increase its timber
growth rates by reducing the stocking levels of large-diameter trees through
an increased overall harvest for several years. Accordingly, in January 1997
ATCO shifted its business objective from enhancing the asset value of its
timber resources to maximizing the productivity of its timber resources and
cash flow and began an increased overall harvest with attention given to
reducing the stocking of large-diameter trees. As a result, ATCO has reduced
its purchases of timber and logs from third parties.
TIMBERLANDS REVIEW
ATCO's harvest and timber acquisition volumes for the periods presented are
as follows:
<TABLE>
<CAPTION>
THREE MONTHS
FIVE MONTHS ENDED ENDED
YEARS ENDED JULY 31, DECEMBER 31, MARCH 31,
----------------------- ----------------- --------------
1995 1996 1997 1996 1997 1997 1998
------- ------- ------- -------- -------- ------ -------
<S> <C> <C> <C> <C> <C> <C> <C>
SAWTIMBER (MBF)
ATCO lands............ 54,546 52,068 80,721 29,121 40,439 17,339 20,943
Purchased timber...... 9,800 10,583 2,852 2,814 1,907 4 --
Purchased logs........ 15,321 5,123 6,207 1,312 3,738 888 669
------- ------- ------- -------- -------- ------ -------
Total............... 79,667 67,774 89,780 33,247 46,084 18,231 21,612
PULPWOOD (TONS)
Total............... 209,725 277,302 363,540 141,554 274,781 82,709 121,190
</TABLE>
The increase in harvest volumes for the year ended July 31, 1997, the five
months ended December 31, 1997 and the three months ended March 31, 1998
compared to the corresponding periods in the previous year is due to the
implementation of ATCO's new resource management objective. The increase in
pulpwood volumes harvested in these periods also reflects increases in
pulpwood demand and is in response to higher pulpwood prices. Sawtimber
volumes harvested for the year ended July 31, 1996 decreased compared to the
previous year due to reduced lumber production resulting from start-up
inefficiencies associated with a lumber conversion facility modernization
program begun in 1995 and completed in mid-1996.
HISTORICAL RESULTS OF OPERATIONS OF ATCO
Historically, ATCO's revenues have consisted of sales of lumber, veneer,
laminated flooring and pulpwood to third parties, as well as revenues from
ATCO's river construction businesses. As a result, ATCO's historical financial
results will not be comparable to the results to be attributable to the ATCO
Timberlands in the future.
THREE MONTHS ENDED MARCH 31, 1998 (UNAUDITED) COMPARED TO THREE MONTHS ENDED
MARCH 31, 1997 (UNAUDITED)
Net revenues for the three months ended March 31, 1998 were $25.4 million,
an increase of 9% from revenues of $23.4 million for the three months ended
March 31, 1997. The increase was due to an 11% increase in timber and wood
products revenues from increased volumes shipped in all product lines of
timber and wood products except laminated truck flooring. Net revenues in all
other business segments for the three months ended March 31, 1998 were
substantially the same as the comparable period in the previous year.
59
<PAGE>
Total costs and expenses for the three months ended March 31, 1998 were
$19.3 million, a decrease of 6% from total costs and expenses of $20.6 million
for the three months ended March 31, 1997. Timber and wood products expenses
were $14.2 million for the three months ended March 31, 1998, a decrease of 4%
compared to $14.7 million for the comparable period in the previous year. The
decrease, despite an increase in revenues, is due to reduced costs resulting
from the disposal of the laminated truck flooring operations. Lumber and
veneer manufacturing costs were substantially the same in both periods despite
a combined 11% increase in volume of lumber and veneer shipped due to reduced
manufacturing downtime and improved production rates. Logging and log
transportation expenses increased 35% in the three months ended March 31, 1998
due to a comparable increase in timber volume harvested. Costs and expenses in
all other business segments in the three months ended March 31, 1998 were
substantially the same as the comparable period in the previous year.
Interest expense for the three months ended March 31, 1998 was $1.6 million,
an increase of 78% from interest expense of $0.9 million for the three months
ended March 31, 1997. The increase is due to $54 million in additional debt
remaining from the $60 million borrowed in September 1997 to fund the dividend
paid in connection with ATCO's qualification as a REIT.
No income tax expense was incurred for the three months ended March 31,
1998, compared to $1.0 million in income tax expense for the three months
ended March 31, 1997. Federal income taxes are not payable by, nor provided
for, ATCO due to ATCO's anticipated election to be treated as a REIT as of
January 1, 1998. In addition, Anderson-Tully Veneers, L.P. is generally not
subject to federal income tax as a partnership. Certain "C corporation"
entities included in ATCO's consolidated financial statements will be subject
to income taxes but had no earnings for the three months ended March 31, 1998.
Income before minority interest in the Anderson-Tully Veneers, L.P. for the
three months ended March 31, 1998 was $4.5 million compared to $2.2 million
for the comparable period in 1997. Net income (loss) for the three months
ended March 31, 1998 was $4.4 million ($7,666 per share) compared to $1.8
million ($3,032 per share) for the comparable period in the previous year. The
increases are due to increased timber harvest volumes, increased wood product
sales volumes, decreased manufacturing costs as described above and reduced
income tax expense as a result of ATCO's anticipated election to be taxed as a
REIT.
FIVE MONTHS ENDED DECEMBER 31, 1997 COMPARED TO FIVE MONTHS ENDED DECEMBER
31, 1996 (UNAUDITED)
Net revenues for the five months ended December 31, 1997 were $52.2 million,
an increase of 47% from revenues of $35.6 million for the five months ended
December 31, 1996. The increase was primarily due to a 51% increase in timber
and wood products revenues, which resulted from increased volumes shipped in
all categories of timber and wood products, including lumber, pulpwood, logs
and laminated truck flooring, as well as increased volumes of veneer shipped
resulting from five months of operations at full capacity in 1997 compared to
only three months of start-up operations in 1996. In addition, river
construction revenues increased to $11.7 million in the five months ended
December 31, 1997 from $7.6 million in the comparable period in the previous
year due to favorable Mississippi River levels extending beyond the normal
season.
Total costs and expenses for the five months ended December 31, 1997 were
$45.2 million, an increase of 38% from the $32.9 million incurred in the five
months ended December 31, 1996. Timber and wood products expenses were $29.3
million for the five months ended December 31, 1997, an increase of 28%
compared to $22.9 million for the comparable period in the previous year. The
increase is primarily due to increased logging and log transportation costs
resulting from an increased harvest level, increased veneer manufacturing
costs resulting from five months of operations at full capacity and increased
laminated flooring costs resulting from increased production and sales volume.
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Lumber manufacturing costs were approximately the same in both periods despite
a 29% increase in lumber volume shipped due to improved production rates and
reduced downtime. River construction expenses were $11.0 million in the five
months ended December 31, 1997, an increase of 73% compared to $6.3 million
for the comparable period in the previous year, due to the increase in river
construction revenues described above.
Interest expense for the five months ended December 31, 1997 was $2.4
million, an increase of 80% from the interest expense of $1.3 million incurred
in the five months ended December 31, 1996. The increase is due to increased
borrowings of approximately $60.0 million to fund the dividend paid in
September 1997 to enable ATCO to qualify as a REIT. Loss on sales of assets
for the five months ended December 31, 1997 was $5.2 million compared to a
gain of $0.3 million in the comparable period of the previous year. In late
1997, ATCO decided to dispose of the laminated truck flooring operations since
there were no vertical synergies with its timberlands. On December 31, 1997,
assets related to the laminated truck flooring plant were sold for $0.1
million in cash and a $4.9 million note receivable, which accounts for
substantially all of the loss incurred.
ATCO recorded an income tax benefit for the five months ended December 31,
1997 of $0.6 million compared to a $0.5 million expense for the five months
ended December 31, 1996. The effective income tax rate for the five-month
periods in 1997 and 1996 reflect $0.5 million and $0.2 million benefits,
respectively, of the absence of federal income taxes payable on net earnings
from Anderson-Tully Veneers, L.P.
Income before minority interest in Anderson-Tully Veneers, L.P. for the five
months ended December 31, 1997 was $0.1 million, compared to $1.5 million for
the comparable period in 1996. Net income (loss) for the five months ended
December 31, 1997 was ($1.3) million ($(2,271) per share) compared to income
of $1.0 million ($1,660 per share) for the comparable period in the previous
year. The decrease in both is due primarily to the loss on the sale of the
laminated truck flooring assets and increased interest expense offset by the
increase in income from operations as described above.
FISCAL YEAR ENDED JULY 31, 1997 COMPARED TO FISCAL YEAR ENDED JULY 31, 1996
Net revenues for the fiscal year ended July 31, 1997 were $96.5 million, an
increase of 10% from revenues of $87.7 million for the fiscal year ended July
31, 1996. The increase was primarily due to the commencement of the veneer
operations in October 1996, which contributed $8.5 million in revenues in
fiscal 1997. Increased volumes shipped and revenues from lumber, pulpwood and
logs were also experienced in fiscal 1997 due to increased lumber production
and increased timber harvest levels but were partially offset by decreases in
laminated trailer flooring sales due to lower volumes of trailers produced and
decreases in river construction revenues due to unfavorable river levels for
extended periods.
Total costs and expenses for the fiscal year ended July 31, 1997 were $84.6
million, an increase of 10% from total costs and expenses of $76.6 million for
the fiscal year ended July 31, 1996. Timber and wood products expenses were
$60.8 million for fiscal 1997, an increase of 22% compared to $49.7 million
for fiscal 1996. The increase is attributable to the veneer start-up, lumber
operations and timber sales. River construction expenses were $15.1 million in
fiscal 1997, a decrease of 22% compared to $19.2 million in fiscal 1996. The
decrease is due to decreased river construction revenues for the same periods.
Interest expense for the fiscal year ended July 31, 1997 was $3.4 million,
an increase of 28% from interest expense of $2.6 million in the year ended
July 31, 1996. The increase was due to increased borrowings primarily for the
construction of the new veneer mill, lumber manufacturing equipment
improvement and the acquisition of commercial real estate. Gain on sales of
assets for fiscal 1997 was $2.4 million compared to $0.4 million for fiscal
1996 due to sales in fiscal 1997 of certain farm and commercial properties.
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The effective income tax rate for the fiscal year ended July 31, 1997 was
34.2% compared to 33.2% for the fiscal year ended July 31, 1996. The effective
income tax rate for fiscal 1997 reflects $0.6 million benefit of no federal
income taxes payable on net earnings from Anderson-Tully Veneers, L.P.
Income before a minority interest in Anderson-Tully Veneers, L.P., for 1997
was $7.5 million, an increase of 23% from $6.1 million in 1996. The increase
was due primarily to the earnings from the veneer operations. Net income for
fiscal 1997 was $5.7 million ($9,749 per share), a decrease of 7% from $6.1
million ($10,479 per share) in 1996.
FISCAL YEAR ENDED JULY 31, 1996 COMPARED TO FISCAL YEAR ENDED JULY 31, 1995
Net revenues for the fiscal year ended July 31, 1996 were $87.7 million, a
decrease of 4% from revenues of $91.2 million for the fiscal year ended July
31, 1995. The decrease was due primarily to lower lumber sales from decreased
lumber production which occurred because of start-up inefficiencies associated
with the lumber facility modernization program begun in 1995 and completed in
Spring 1996.
Total costs and expenses for the fiscal year ended July 31, 1996 were $76.6
million, a decrease of 1% from total costs and expenses of $77.7 million for
the fiscal year ended July 31, 1995. Timber and wood products expenses were
$49.7 million for fiscal 1996, a decrease of 4% compared to $52.0 million for
fiscal 1996. The decrease is attributable to the net effect of lower labor
costs and higher depreciation expense due to the lumber facility modernization
program. River construction expenses were $19.2 million in fiscal 1996, an
increase of 6% compared to $18.1 million in fiscal 1995. The increase is due
to the 1% increase in river construction revenues for the same period.
Interest expense for the fiscal year ended July 31, 1996 was $2.6 million,
an increase of 65% from interest expense of $1.6 million in the fiscal year
ended July 31, 1995. The increase was due to increased borrowings primarily
for the construction of the new veneer mill, the lumber facility modernization
program and the acquisition of river construction equipment.
The effective income tax rate for the fiscal year ended July 31, 1996 was
33.2% compared to 34.5% for the fiscal year ended July 31, 1995.
Net income for fiscal 1996 was $6.1 million ($10,479 per share), a decrease
of 21% from $7.7 million ($13,174 per share) in fiscal 1995. The decrease is
due primarily to the decrease in timber and wood products operating income
resulting from the start-up inefficiencies associated with the lumber facility
modernization program.
LIQUIDITY AND CAPITAL RESOURCES
Cash provided by ATCO's operating activities for the three months ended
March 31, 1998 and 1997 was $4.2 million and $0.4 million, respectively. The
increase is due to increased net earnings and reduced inventory levels. Cash
provided by ATCO's operating activities for the five months ended December 31,
1997 and 1996 was $9.2 million and $7.1 million, respectively, and was $18.4
million, $14.2 million and $9.8 million, respectively, for the fiscal years
ended July 31, 1997, 1996 and 1995. Cash provided by operations for these
periods has increased despite decreases in net income in each of the fiscal
years presented because a higher percentage of total expenses are non-cash
expenses including depreciation, depletion and amortization, deferred income
taxes and minority interest in earnings.
Substantially all of ATCO's capital expenditures for all periods presented
relate to operations not being acquired by the Company. ATCO's capital
expenditures for the five months ended December 31, 1997 and 1996 were $2.7
million and $6.3 million, respectively, and were $31.1 million, $29.8 million
and $19.8 million, respectively, for the fiscal years ended July 31, 1997,
1996 and 1995. Capital
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expenditures were related to constructing the veneer plant, modernizing the
lumber and laminated trailer flooring facilities, and acquiring river
construction equipment and commercial real estate. Over half of these capital
expenditures were funded from cash flow from operations and the proceeds from
the sales of assets and commercial real estate, with the remainder funded by
the issuance of long term debt and borrowings under line of credit facilities.
The reduction in capital expenditures in the five months ended December 31,
1997 is due to the completion of the projects described above. Capital
expenditures necessary to maintain ATCO's current facilities and capacities in
future years are currently expected to be less than $4.0 million per year.
In September 1997, ATCO declared a special $100,000 per share dividend to
distribute all accumulated earnings and profits to enable ATCO to qualify as a
REIT effective January 1, 1998. This dividend was financed by a $50.0 million
note payable to Potlatch plus additional line of credit borrowings. The $50.0
million note is due on demand after June 1, 1999. As of March 31, 1998, ATCO
had two lines of credit totaling $16.5 million of which $8.2 million was
available for future borrowing. All outstanding borrowings are either the
direct obligation of, or are unconditionally guaranteed by, ATCO. Management
of ATCO believes that, absent the Formation Transactions described in this
Prospectus, cash flow from operations and access to capital under ATCO's lines
of credit would be adequate to fund ATCO's required REIT distributions, debt
service and capital expenditure needs in the foreseeable future.
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BUSINESS
This Prospectus contains, in addition to historical information, forward-
looking statements that involve risks and uncertainties. The Company's actual
results could differ materially from the results discussed in the forward-
looking statements. Factors that could cause or contribute to such differences
include those discussed below, under "Risk Factors" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations of
the Company" and elsewhere in this Prospectus.
Unless the context otherwise requires, all references to the timber
ownership and operations of the "Company" and the "Partnership" assume that
the Company's acquisition of ATCO and the divestiture of ATCO's non-timber
assets, the contribution of Potlatch's and ATCO's timberlands to Timber
Holdings L.P. (the "Partnership") and the associated issuances of partnership
interests ("Partnership Units") to Potlatch and the Company have occurred. See
"The Formation Transactions." Certain of the timber industry terms used herein
are defined in the Glossary located elsewhere in this Prospectus.
OVERVIEW
The Company is the first publicly traded real estate investment trust
("REIT") primarily dedicated to the ownership, management and acquisition of
timberlands. The Company is one of the largest private owners of softwood
timberlands in Arkansas and of high quality hardwood timberlands in North
America. The Company's Initial Timberlands, which are located primarily in
Arkansas and Mississippi, include approximately 364,000 fee acres of softwood
timberlands and approximately 460,000 fee acres of hardwood timberlands, and
represent the consolidation of Potlatch's southeastern timberlands and ATCO's
timberlands into a REIT structure. The Company's aggregate timberland acreage
includes approximately 44,000 acres of roads and other non-productive acreage.
The Company also owns approximately 8,000 acres of farmland and interests in
six commercial real estate properties.
The Company's timberlands contain an estimated total merchantable timber
volume of approximately 2.9 billion board feet ("BBF") of sawtimber and 24.1
million tons of pulpwood. The Company's timber holdings are well diversified
between softwood and hardwoods, with its merchantable sawtimber and pulpwood
inventories consisting of approximately 41% softwoods and 59% hardwoods,
measured in tons. The Company's softwood holdings consist primarily of
loblolly pine, and its hardwood lands contain high-value species such as red
oak and ash, as well as other hardwoods such as hackberry, sweet gum and
pecan. The Company's timberlands are located in close proximity to numerous
conversion facilities operated by Potlatch and others, and are highly
productive. In particular, the Company believes that the lands acquired from
ATCO are among the highest quality and most productive hardwood forests in
North America. The Company estimates that over 40% of ATCO's hardwood
sawtimber is USFS #1 grade, which is more than four times the recent averages
on all hardwood timberlands available for commercial harvesting in ATCO's
operating region, based on USFS data. See "--Competitive Strengths."
Giving effect to the Formation Transactions, the Company's pro forma
revenues were $70.0 million and $15.4 million for the year ended December 31,
1997 and the three months ended March 31, 1998, respectively. The Company's
pro forma cash flow from operations was $54.2 million and $11.3 million for
the year ended December 31, 1997 and for the three months ended March 31,
1998, respectively.
The Company's customers, which will initially consist only of Potlatch, will
convert the softwood logs harvested from the Initial Timberlands and
timberlands acquired in the future (collectively, the "Timberlands") into
lumber, primarily for use in residential home construction, remodeling and
repair and general industrial applications, and pulp for use in paper
products. Hardwoods from the Company's timberlands will generally be converted
into furniture-grade lumber, veneer and solid flooring, architectural moldings
and cabinets, as well as pulp.
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Historically, Potlatch's converting facilities (including those acquired
from ATCO in the Formation Transactions) have relied on the Company's lands
for a substantial portion of their timber requirements. In 1997, approximately
68% of the sawtimber requirements of Potlatch's mills in the Southeast were
met with timber harvested from the Potlatch Southern Timberlands, and
substantially all of the sawtimber requirements of ATCO's mills were met with
timber harvested from the ATCO Timberlands. Consistent with this historical
relationship, Potlatch will purchase all of the timber to be harvested from
Company's Initial Timberlands pursuant to the Timber Purchase Agreement, which
has an initial term of 20 years and may be extended by either party for up to
18 successive ten-year periods. The agreement covers all of the Initial
Timberlands, and may cover certain additional timberlands that may be acquired
by the Company in the future. Potlatch will be required to purchase and
harvest all of the timber designated in the Company's harvest plans, subject
to limited rights of substitution. Timber from the Company's timberlands will
be sold to Potlatch at prices designed to reflect fair market value on a
stumpage basis. The Company will generally be prohibited from selling the
500,000 acres of timberlands contributed by Potlatch without Potlatch's
consent. See "Business--Sales and Markets--The Timber Purchase Agreement."
The ownership, management and operation of the Company's timberlands will be
conducted solely through the Partnership, a Delaware limited partnership in
which the Company will hold a 42.9% interest as the sole general partner and
Potlatch will hold a 57.1% interest as a limited partner. See "The Partnership
Agreement." Upon completion of the Offering, Potlatch will own the Company's
sole share of Special Voting Stock, which will entitle Potlatch to a number of
votes equal to the number of shares of Common Stock into which the Partnership
Units held by Potlatch could be exchanged (initially representing 57.1% of the
Company's total voting power). Immediately after the Offering, therefore,
Potlatch will be able to control all matters requiring approval by the
Company's stockholders.
The Company expects that substantially all of its income will be
characterized as capital gain for federal income tax purposes. See "Federal
Income Tax Consequences--Taxation of the Company--Income Tests." Accordingly,
the Company anticipates that substantially all of its distributions to
stockholders will be characterized as capital gain for federal income tax
purposes.
BUSINESS STRATEGY
The Company's primary objective is to maximize long-term cash flow per share
by pursuing the following strategies:
. Focusing on timberland ownership;
. Aggressively pursuing attractive acquisitions;
. Managing its timberlands to improve their long-term sustainable yield;
and
. Practicing sound environmental stewardship.
FOCUSING ON TIMBERLAND OWNERSHIP. The Company plans to invest primarily in
timberlands. The Company believes that timberland is a unique and attractive
asset, due to the renewable nature of timber resources, timber's long-term
history of price appreciation in excess of inflation, and the recent trend of
tightening domestic timber supplies relative to demand. In addition, by owning
timberlands rather than conversion facilities, the Company will not be
directly exposed to certain risks typically encountered by integrated forest
products companies, such as potential mill overcapacity, higher capital and
maintenance costs and potential shortages of wood fiber. The Company also
believes that timber prices generally have been less volatile than wood
product prices.
AGGRESSIVELY PURSUING ATTRACTIVE ACQUISITIONS. Growth through acquisitions
is an integral part of the Company's business strategy. The Company believes
that there are many potential opportunities to acquire additional timberlands.
Timberland ownership in the United States is highly fragmented, with large
numbers of commercial owners and more than one-half million private non-
industry owners of more
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than 100 acres of timberland. In the southeastern United States, where the
Company's operations are currently concentrated, non-government owners hold a
majority of all timberlands. The Company believes that it will enjoy an
advantage in competing for acquisition opportunities, in part due to its
ability to offer many potential sellers both enhanced liquidity and favorable
tax treatment through the exchange of Partnership Units for timberlands. See
"--Competitive Strengths." Additionally, the Company believes that, as it
consummates further acquisitions in its existing operating region, its fixed
overhead cost structure will not increase in proportion to the acreage
acquired.
The critical elements of the Company's acquisition strategy include: (i)
identifying undervalued timberlands throughout North America, including those
that are likely to benefit from the application of sophisticated resource
management techniques; (ii) pursuing timberlands within the Company's existing
and future operating regions that offer potential operational synergies; and
(iii) pursuing strategic alliances with operators of conversion facilities in
North America, including Potlatch, that permit the Company to participate in
acquisitions of timberlands that include or are vertically integrated with
converting facilities.
MANAGING TIMBERLANDS TO IMPROVE LONG-TERM SUSTAINABLE YIELD. The Company
plans to manage its timberlands in a manner designed to optimize the balance
among current cash flow, timber growth and prudent environmental management,
in order to achieve increasing levels of sustainable yield. The Company
believes that opportunities exist to enhance its lands' productivity and yield
through intensive silvicultural management on a species- and site-specific
basis. In particular, the Company plans to accelerate the adoption of state-
of-the-art silvicultural management and reforestation techniques in its
softwood operations, and to pursue ATCO's intensive, selective harvesting
approach throughout the Company's hardwood operations. The Company intends to
continue to manage its timberlands to maximize sustainable yield over the long
term, although, with Potlatch's concurrence with respect to lands subject to
the Timber Purchase Agreement, the Company may choose to harvest timber from
time to time at levels above its then-current estimate of sustainability for
various reasons, including to improve the long-term productivity of certain
timber stands. For example, in the near term, the Company intends to continue
ATCO's recent accelerated harvesting of large-diameter timber on its hardwood
properties, in order to improve long-term growth rates.
PRACTICING SOUND ENVIRONMENTAL STEWARDSHIP. The Company pursues a program of
environmental stewardship and active involvement in federal, state and local
policymaking to maximize its assets' long-term value. Among other things, the
Company intends to manage its lands in a manner consistent with the principles
set forth in the Sustainable Forest Initiative ("SFI"), a program sponsored by
the American Forest & Paper Association which prescribes minimum levels of
reforestation and other "best management practices." The Company will also
seek to exchange timberlands with special environmental significance for
tracts more suitable for commercial timber management, subject in certain
cases to Potlatch's consent.
COMPETITIVE STRENGTHS
Management believes that the Company possesses several competitive strengths
that will enable it to execute its business strategy effectively, including:
.Strategically located, highly productive timberlands;
.High quality timber;
.An experienced senior management team and Board of Directors;
.A structure that will facilitate acquisitions of timberlands;
.A long-term purchase commitment from Potlatch; and
.A diversified species mix.
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STRATEGICALLY LOCATED, HIGHLY PRODUCTIVE TIMBERLANDS. The Initial
Timberlands are located in close proximity to numerous conversion facilities
operated by Potlatch and others. In addition, the Company's lands are
generally well consolidated into large blocks, which permits more efficient
management, harvesting and transportation of timber. The Company's timberlands
are also highly productive. In particular, the hardwood lands acquired from
ATCO benefit from excellent growing conditions, resulting in annual growth
exceeding 230 board feet ("BF") per acre, which is approximately three times
greater than the recent averages on all hardwood timberlands available for
commercial harvesting in ATCO's operating region, based on USFS data. The
Company believes that the softwood lands contributed by Potlatch are generally
comparable in site quality to other forest products industry lands in southern
Arkansas and, based on USFS data, exceed the average productivity of
timberlands in the region.
HIGH QUALITY TIMBER. The Company's lands contain substantial inventories of
high quality softwood and hardwood timber. In particular, the Company believes
that the lands acquired from ATCO are among the highest quality hardwood
forests in North America. The Company estimates that over 40% of ATCO's
hardwood sawtimber inventory is USFS #1 grade, which is more than four times
greater than recent averages on all hardwood timberlands available for
commercial harvesting in ATCO's operating region, based on USFS data. In
addition, approximately two-thirds of ATCO's sawtimber volume is in trees with
a diameter at breast height ("DBH") of at least 21 inches, compared to recent
averages of approximately 22% on all hardwood timberlands available for
commercial harvesting in ATCO's operating region, based on USFS data. The
superior grade and size of ATCO's sawtimber results in better yields of wide
lumber and lumber with minimal appearance defects, which is more suitable for
high-end uses such as furniture and commands premium prices.
EXPERIENCED SENIOR MANAGEMENT TEAM AND BOARD OF DIRECTORS. The Company's
senior management team has an average of approximately 15 years of experience
in the industry, including extensive experience in the management and
acquisition of timberlands. The Company's managers and foresters formerly
employed by Potlatch have substantial expertise in intensive silvicultural
management techniques. Additionally, the Company has 22 foresters in the
specialized area of uneven-aged, hardwood timber management. In addition, the
Company's Board of Directors includes members with extensive experience in
real estate, investments and the management of timberland assets. None of the
Company's senior management will be employees of or otherwise affiliated with
Potlatch, and a majority of the Company's Board of Directors will not be
employees of or otherwise affiliated with Potlatch.
STRONG CAPACITY TO PURSUE ACQUISITIONS OF TIMBERLANDS. As the first publicly
traded timber REIT, the Company believes that it will be well positioned to
acquire timberlands due to (i) its advantage over certain competing acquirers
due to its ability to focus on pre-tax cash flow returns as opposed to after-
tax earnings, (ii) its ability to offer many potential sellers both enhanced
liquidity and favorable tax treatment through the exchange of Partnership
Units for timberlands (which will permit tax deferral for many sellers), and
(iii) its ability to provide capital gains treatment on substantially all
initial stockholder distributions. The Company's expertise in both softwoods
and hardwoods should also facilitate acquisitions. For example, the Company
believes that its expertise in hardwoods management, gained through ATCO's
focus on hardwoods, will give the Company a strong capability to analyze,
effect and integrate other hardwood purchases.
LONG-TERM PURCHASE COMMITMENT FROM POTLATCH. The Company's long-term timber
purchase agreement with Potlatch creates an assured level of demand for the
Company's timber from a major forest products company without associated
marketing expenses. The agreement provides for prices designed to reflect fair
market value on a stumpage basis. See "--Sales and Markets--The Timber
Purchase Agreement."
DIVERSIFIED SPECIES MIX. The Company's holdings are well diversified by
timber type and species. The Company's high quality hardwoods are utilized in
different markets than its softwoods,
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and the Company believes that these two categories experience different market
dynamics. Accordingly, the Company believes it should experience somewhat
reduced volatility in its operating results and cash flow than it would
experience with a less diverse species mix.
INDUSTRY BACKGROUND
SUPPLY
Nationwide, timber supplies have tightened relative to demand over the last
decade. Particularly in the western United States, the supply of timber has
been significantly affected by reductions in timber sales by the United States
government, which owns approximately 20% of all domestic timberland acreage,
and by state governments. For example, federal timber under contract in the
United States declined from 25.9 BBF in 1986 to 5.9 BBF in 1997. These
reductions have been caused primarily by increasingly stringent environmental
and endangered species laws and by a change in the emphasis of domestic
governmental policy toward habitat preservation, conservation and recreation,
and away from timber management. Because most timberlands in the southeastern
United States are privately owned, changes in sales of publicly owned timber
affect local timber supplies and prices in the Southeast less immediately than
in the western United States and other regions with large proportions of
public timber ownership.
More locally, timber supplies can fluctuate depending upon factors such as
changes in weather conditions and harvest strategies of local forest products
industry participants, as well as occasionally high timber salvage efforts due
to unusual pest infestations or fires. Local timber supplies also change in
response to prevailing timber prices. Rising timber prices often lead to
increased harvesting on private timberlands, including lands not previously
made available for commercial timber operations. Among other things, timber
prices are indirectly affected by lumber imports from Canada. Although imports
of wood products have historically been limited by freight costs and, since
April 1996, by the five-year U.S.-Canada lumber trade agreement, the recent
Asian economic crisis has contributed to increased Canadian wood products
shipments into the U.S. market.
DEMAND
The demand for timber depends upon the markets for wood products, including
lumber, furniture, panel products, paper and other pulp-based products, which
are affected by changes in domestic and international economic conditions,
global population growth and other demographic factors, and the value of the
U.S. dollar in relation to foreign currencies. The end uses for timber vary
widely, depending on species, size and quality. As described below, softwoods
and hardwoods are utilized in different markets, although their usage overlaps
to some extent. For example, most paper products use a blend of softwood and
hardwood fiber. Historically, timber demand has experienced cyclical
fluctuations, although sometimes at different times and rates within the
markets for solid woods and pulpwood. Locally, timber demand also fluctuates
due to the expansion or closure of individual conversion facilities.
The Company's business includes managing both softwoods and hardwoods. These
two categories are targeted at different customers and experience different
market dynamics. Softwoods such as pine are used primarily for residential
construction, industrial uses and pulp. Accordingly, the demand for softwoods
is significantly dependent upon the level of residential construction and
remodeling activity, which is affected by interest rates and other economic
and demographic factors. Reductions in residential construction and remodeling
activities are generally followed by declining softwood lumber prices, which
are usually followed by declining log prices within two or three months. While
tied to housing starts and home remodeling activity to some extent, the end
uses for hardwoods are not as directly dependent on construction activities as
softwoods, and thus are generally less susceptible to seasonal downturns in
construction. Higher quality hardwoods depend primarily upon the market for
furniture, flooring, cabinets and architectural moldings.
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SOUTHEASTERN REGION
All of the Company's operations are currently located in the southeastern
United States, which is a major timber producing region. The Company's
holdings are currently concentrated in Arkansas and Mississippi, which
together account for approximately 94% of the Company's total acreage, with
additional holdings in Louisiana, Tennessee and nearby states bordering the
Mississippi River. Arkansas and Mississippi are heavily wooded states, with a
high percentage of privately owned timberlands. In Arkansas, the forest
products industry currently owns approximately 25% of all timberland and other
private owners hold 57%, with the balance owned by government agencies.
Statewide, hardwoods (primarily oak) constitute approximately 58% of all
forests, with loblolly and shortleaf pine being the predominant softwoods. In
Mississippi, the forest products industry owns approximately 18% of all
timberlands, other private owners hold 72%, and government agencies own the
remaining 10%. The forest products industry in the southeastern United States
supports a variety of hardwood and softwood sawmills, veneer and plywood
plants, pulp mills and other conversion facilities.
THE INITIAL TIMBERLANDS
Through the Partnership, the Company currently owns and manages
approximately 824,000 fee acres of timberland and approximately 14,000 leased
acres of timberland located in the southeastern United States containing a
total estimated merchantable timber volume of approximately 2.9 BBF, as well
as approximately 24.1 million tons of pulpwood. The following table depicts
the most common timber types or usage on a given acre within the Company's fee
acreage:
<TABLE>
<CAPTION>
TIMBERLAND COVER TYPE ACRES PERCENT
--------------------- ------- -------
<S> <C> <C>
Softwood plantations...................................... 81,600 9.9%
Hardwood plantations...................................... 9,000 1.1%
Natural softwood forest................................... 282,300 34.3%
Natural hardwood forest................................... 406,900 49.4%
Non-forest(a)............................................. 44,200 5.3%
------- ------
Total................................................... 824,000 100.0%
======= ======
</TABLE>
- --------
(a) Roads and other non-productive acreage.
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<PAGE>
CURRENT OPERATIONS
The following map depicts the locations of the Initial Timberlands:
[Map of the Initial Timberlands, indicating by shading the
locations of lands held in Arkansas, Illinois, Kentucky,
Louisiana, Mississippi, Missouri and Tennessee]
SOFTWOOD OPERATIONS
The Company owns and manages approximately 364,000 fee acres of softwood
timberlands. These consist primarily of 356,000 acres acquired from Potlatch
in Arkansas, which are concentrated around the towns of Prescott and Warren.
The Company also leases approximately 14,000 acres of softwood timberlands in
Arkansas under leases that generally expire in 14 to 18 years. Growing
conditions are fairly uniform on the Arkansas lands acquired from Potlatch,
which are located in uplands above the Mississippi flood plain. The terrain
around Prescott consists of rolling hills and well drained soils, and the area
around Warren is flat with poorly drained soils. Harvesting is often limited
during the wet season of November through April due to restricted access.
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<PAGE>
Loblolly pine is the prevailing softwood species on the Company's lands. The
Company believes that the optimal sawlog harvest rotations for its southern
softwoods are approximately 30 to 35 years.
HARDWOOD OPERATIONS
The Company owns approximately 460,000 fee acres of primarily hardwood
timberlands, comprising approximately 144,000 acres contributed by Potlatch
and 316,000 acres acquired from ATCO. These lands consist of approximately
equal proportions of relatively flat bottomland sites within the Mississippi
River basin, and upland sites with more diverse terrain. The Company's
timberlands contain high-value hardwood species, such as red oak and ash, as
well as other hardwoods such as cottonwood, hackberry, sweet gum and pecan.
Historically, ATCO managed its timberlands with the principal goal of
increasing stocking levels of desired species. As a result, the 316,000 acres
of hardwoods acquired from ATCO are densely stocked with an average volume of
approximately 5,500 board feet per timbered acre. ATCO's timberlands also
benefit from excellent growing conditions, including rich soils, warm climate,
long growing season and ample moisture. These stocking levels and growing
conditions combine to produce annual growth exceeding 230 BF per acre, which
is approximately three times greater than recent averages on all hardwood
timberlands available for commercial harvesting within ATCO's operating
region, based on USFS data. The Company believes that these lands produce
premium quality hardwoods. The Company estimates that over 40% of ATCO's
hardwood sawtimber inventory is USFS #1 grade, which is more than four times
the recent averages on all hardwood timberlands available for commercial
harvesting in ATCO's operating region, based upon USFS data. In addition,
approximately two-thirds of ATCO's hardwood sawtimber is in trees with DBHs of
at least 21 inches, compared to recent averages of approximately 22% on all
hardwood timberlands available for commercial harvesting in ATCO's operating
region, based on USFS data. The superior grade and size of ATCO's hardwood
sawtimber results in better yields of wide lumber and lumber with minimal
appearance defects, which is more suitable for high-end uses such as furniture
and commands premium prices.
OTHER OPERATIONS
Potlatch will assign to the Company approximately 875 hunting leases
permitting approximately 11,000 individuals to hunt game on the Company's
Arkansas fee lands. Potlatch received approximately $1.1 million in revenue
under these leases in 1996. The Company will also succeed to approximately 275
hunting leases on ATCO's lands, under which ATCO received approximately $1.5
million in revenue in the 12 months ended July 31, 1997. In addition to ATCO's
timberlands, the Company will also acquire approximately 8,000 acres of
farmland and ownership interests in six commercial real estate properties from
ATCO. These properties, which are located in the Memphis, Tennessee area,
consist of four shopping centers and two warehouses.
TIMBER INVENTORY
The Initial Timberlands include substantial holdings of merchantable timber,
consisting of stands of varying sizes and ages and comprising both of the two
basic types of timber: softwood and hardwood. The Company's estimated softwood
timber inventories are calculated by applying growth formulas to volumes and
tree sizes determined in field sampling procedures ("cruises") of individual
stands (which generally cover approximately 20% of the Company's acreage per
year), subject to periodic updates to reflect actual volumes harvested or
succeeding cruises. Estimated hardwood inventories on ATCO's former properties
are based upon the continuous forest inventory ("CFI") system implemented by
ATCO in the 1960's, which produces estimated total inventories by measuring
more than 700 permanent, one-fifth-acre plots every five years. ATCO concluded
its most recent CFI measurement in January 1998. All of the inventories shown
in this Prospectus are approximations developed by Company personnel, from
which actual quantities of timber may differ.
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<PAGE>
SAWTIMBER
The following tables depict the estimated merchantable sawtimber inventory
by species within the Initial Timberlands.
MERCHANTABLE SOFTWOOD SAWTIMBER INVENTORY
BY SPECIES(a)
(MMBF)
<TABLE>
<CAPTION>
SPECIES MMBF PERCENT
------- ----- -------
<S> <C> <C>
Loblolly Pine............................................... 1,157 90%
Shortleaf Pine.............................................. 123 10%
----- ---
Total..................................................... 1,280 100%
===== ===
</TABLE>
- --------
(a) Estimated as of January 1998, based on Doyle scale.
MERCHANTABLE HARDWOOD SAWTIMBER INVENTORY BY SPECIES(a)
(MMBF)
<TABLE>
<CAPTION>
SPECIES MMBF PERCENT
------- ----- -------
<S> <C> <C>
Oak......................................................... 373 22%
Cottonwood.................................................. 343 21%
Hackberry................................................... 181 11%
Pecan/Hickory............................................... 138 8%
Gum......................................................... 134 8%
Ash......................................................... 94 6%
Other(b).................................................... 395 24%
----- ---
Total..................................................... 1,658 100%
===== ===
</TABLE>
- --------
(a) Estimated as of January 1998.
(b) Includes approximately 20 other species including sycamore, willow and
yellow poplar on lands acquired from ATCO. Also includes approximately 38
MMBF of hardwoods other than oak on lands contributed by Potlatch,
including some of the species listed above.
PULPWOODS
The Company's inventory also includes substantial holdings of softwood and
hardwood pulpwoods, which collectively represent approximately half of the
Company's total timber inventory, measured in tons, but a substantially
smaller proportion of timber values. The following table depicts the estimated
volume of pulpwoods on the Initial Timberlands.
PULPWOOD VOLUMES(a)
(MILLIONS OF TONS)
<TABLE>
<CAPTION>
TIMBER TYPE TONS (MM) PERCENT
----------- --------- -------
<S> <C> <C>
Softwood............................................... 7 29%
Hardwood............................................... 17 71%
--- ---
Total................................................ 24 100%
=== ===
</TABLE>
- --------
(a) Estimated as of January 1998.
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<PAGE>
SIZE AND AGE DISTRIBUTION OF MERCHANTABLE TIMBER
An individual tree's value changes over time, as it progresses through its
life cycle. Beginning as unmerchantable seedlings, trees become increasingly
valuable as they attain merchantable size and quality. They continue to add
volume as they mature, although eventually at declining rates. If not
harvested, trees will ultimately decline in volume and quality due to age and
disease.
Although all trees undergo the same basic pattern of growth and decay, their
growth cycles differ depending upon their species, local growing conditions
and the application of silvicultural treatments. The Company currently
believes that the optimal harvest cycle, or "rotation," for its softwoods and
hardwoods are approximately 30 to 35 years and 40 to 80 years, respectively.
See "--Timber Growth."
The Initial Timberlands are well diversified by species mix and by age and
size distribution. The Arkansas lands acquired from Potlatch consist of
natural stands of varying ages and pine plantations generally comprising trees
under 20 years of age. The hardwoods acquired from ATCO include substantial
quantities of larger diameter timber due to ATCO's historically conservative
harvesting policies. The Company believes that the diversified nature of its
holdings may allow for relatively more stable cash flow than a more uniform
forest, as its various timber stands reach harvestable ages and sizes over
time. The Company currently manages its timberlands on both an "uneven-aged"
and an "even-aged" basis. See "Resource Management."
TIMBER GROWTH
Timber growth rate is an important variable for any forest products company,
as it ultimately determines how much timber can be harvested over the long
term. Growth rates vary depending on species, location, weather conditions,
age and forestry practice. The average annual growth rates of merchantable
timber on the Company's naturally regenerated stands of pine and on its
recently planted Arkansas pine plantations are approximately 2.6 tons and 6.1
tons per acre per year of merchantable inventory, respectively. For hardwoods,
the Company's average annual growth rate of merchantable timber has
historically exceeded 4%. The Company intends to improve its timberlands'
long-term growth rates by planting genetically improved seedlings as it shifts
an increasing percentage of its softwood acreage to even-aged plantations, and
by continuing for approximately five years the accelerated harvesting of
large-diameter hardwood timber that ATCO began in 1997. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations of
the Company--Harvest Levels." The Company also intends to improve growth rates
over the long term by applying various other silvicultural techniques. See
"Resource Management" and "Operations." However, actual results will vary
depending upon the species, the timing and types of practices utilized, and
local weather, soil and other conditions.
RESOURCE MANAGEMENT
RESOURCE MANAGEMENT OBJECTIVES
Timber is a renewable resource, and the Company's objective is to maximize
cash flow over the long term by managing its timberlands on a "sustainable
yield" basis, reflecting a balance between timber growth and harvesting. To
maximize its timberlands' long-term value, the Company intends to manage them
intensively, based upon timber species and local growing conditions, and will
create harvest plans that take into account changing market conditions,
contribute to the growth of the remaining timber and reflect the Company's
policy of environmental stewardship. See "--Harvest Plans." The Company
intends to reforest its acreage in a timely fashion, to enhance its long-term
value. Several silvicultural techniques will be employed to improve timber
growth rates. In particular, the Company plans to improve the productivity of
its softwood lands through increased vegetation control, fertilization and
thinning. In deciding whether to implement any silvicultural practice, the
Company intends to analyze the size and timing of the associated costs and
long-term benefits, with the goal of achieving an attractive return over time.
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<PAGE>
The Company intends to manage its hardwood tracts in a different manner than
its softwoods. Hardwoods will continue to be managed on an "uneven-aged"
basis, in which stands consist of trees of varying ages and sizes, while an
increasing proportion of the Company's softwoods will be managed on an "even-
aged" basis, in which stands consist of trees of similar ages. The Company
believes that both of these management approaches have silvicultural
advantages, depending upon the species, stand characteristics, and local
growing conditions. Even-aged management provides opportunities to plant
genetically improved trees exhibiting faster growth, disease resistance or
other desirable traits. Under the uneven-aged approach, trees of varying sizes
are removed selectively and more frequently, often every five to ten years,
thus requiring more intensive harvest planning than under even-aged management
but reducing regeneration costs. Hardwoods are generally most suitable for
this management approach, which requires the presence of shade-tolerant trees
capable of regenerating under an existing forest canopy.
HARVEST PLANS
As described above, the Company intends to manage its timberlands on a
"sustainable yield" basis over the long term, and the Timber Purchase
Agreement also requires the Partnership to manage the timberlands subject to
the agreement in a manner consistent with sustainable forestry principles. See
"--Sales and Markets--The Timber Purchase Agreement." In the near term, the
Company plans to harvest at levels exceeding its present estimate of the long-
term sustainable yield from its Initial Timberlands. This is due, in part, to
the need to harvest mature, large-diameter timber on the lands acquired from
ATCO in order to improve long-term growth rates.
The Company's short-term and long-term harvest plans are critical factors in
its long-term management process. Each year, the Company will prepare a
harvest plan designating the timber tracts and volumes to be harvested under
the Timber Purchase Agreement over the subsequent two years. The Company will
also update its long-term harvest plan every five years. Each harvest plan
will reflect the Company's analysis of the age, size and species distribution
of its timber, as well as its expectations about harvest methods, growth
rates, the volume of each species to be harvested, anticipated acquisitions
and dispositions, thinning operations, regulatory constraints and other
relevant information. Among other things, the optimal harvest cycles, or
"rotations," for timber vary by species and tend to change over time as a
result of biological advances, changes in the markets for different sizes and
ages of timber and other factors.
Since harvest plans are based on projections of weather, timber growth
rates, regulatory constraints and other assumptions, many of which are beyond
the Company's control, there can be no assurance that Potlatch will be able to
harvest the volumes projected or the specific stands designated in the
Company's harvest plans. The Partnership will also have limited rights to
increase the volumes to be harvested in a given year, subject to compensating
volume reductions over the following five-year period.
The Company's harvest planning will be facilitated by its geographic
information system ("GIS") covering the Arkansas lands contributed by
Potlatch. The GIS is a computer software program that includes detailed field
maps and computerized timber inventories. This system is also used to plan and
monitor harvesting operations, road construction and reforestation, as well as
for wildlife and water quality management. The Company intends to develop and
maintain similar information with respect to the ATCO Timberlands. The Company
also intends to develop computer modeling technology that can generate
simulated growth patterns over time and thus facilitate long-term harvest
planning and inventory updates.
MANAGEMENT OF LAND PORTFOLIO
In addition to its efforts to improve the productivity of its timberlands,
the Company seeks to realize the value of land that may have a higher and
better use than for timberland management, such as recreation, or that is
otherwise a candidate for sale or exchange. Sales or exchanges of the Potlatch
74
<PAGE>
Southern Timberlands will generally be subject to Potlatch's consent pursuant
to the Timber Purchase Agreement and the Partnership Agreement. The Company
will also acquire approximately 8,000 acres of farmland and interests in six
commercial real properties from ATCO.
OPERATIONS
The Company plans to pursue its resource management objectives and carry out
its harvest plans through a number of operational activities implemented on a
species- and site-specific basis. The Company also integrates environmental
and wildlife management strategies into all of its operations. See "--
Regulation--Background and Approach."
REGENERATION ACTIVITIES
The Company's policy is to reforest all of its acreage in a timely fashion,
in order to enhance the Timberlands' long-term value. Reforestation techniques
vary across the Company's timberlands. Based on the geographic and climatic
conditions of a given harvest site and other management considerations such as
whether the site is being managed on an "even-aged" or "uneven-aged" basis,
harvested areas may be regenerated naturally or may be planted with seedlings
after the harvest occurs. The Company anticipates that substantially all
hardwood tracts will be naturally regenerated. Seedlings will be planted on
the Company's softwood lands, after site preparation, as the Company intends
to manage an increasing proportion of those lands on an "even-aged" basis.
These seedlings will be genetically improved trees having desirable traits
such as superior growth rates and disease resistance. The Company intends to
supply its needs for genetically improved seed from its seed orchards in
Arkansas.
SILVICULTURAL TREATMENTS
The Company intends to employ a variety of silvicultural treatments to
improve timber growth rates and quality. Management believes that the benefits
of these activities are often maximized where they are employed in
combination, as part of an integrated effort to maintain good growing
conditions throughout the life of a stand. The benefits of fertilization,
vegetation control and thinning are well documented for softwoods. With
respect to hardwoods, silvicultural activities will generally be limited to
thinning through frequent selective harvesting because the growth response of
hardwoods has not historically justified other treatments.
FERTILIZATION
The Company intends to fertilize selected softwood stands to stimulate
growth. Fertilization is typically conducted through aerial application of
nitrogen, phosphorus and other nutrients after analysis of environmental
considerations such as proximity to streams and lakes.
VEGETATION CONTROL
The Company also plans to control competing vegetation on selected tracts to
allow younger trees to mature more quickly. Competing herbaceous material and
woody underbrush are controlled chemically and through controlled burning. In
1997, Potlatch conducted vegetation control activities on approximately 7,900
acres in Arkansas.
THINNING
Standing timber is typically thinned periodically to improve stand growth,
health and quality. The Company anticipates that it will continue to utilize
"pre-commercial" thinning to remove unmarketable saplings, and that
"commercial" thinning, which generates merchantable material, will also be
conducted. The Company believes that such thinning improves the overall
productivity of its
75
<PAGE>
timberlands by enhancing the growth and quality of the remaining trees.
Arkansas pine is typically thinned on a commercial basis at age 12 to 15 and
again at age 22 to 25. In 1997, Potlatch conducted thinning activities on
approximately 6,800 acres in Arkansas.
ACCESS AND LIMITATIONS ON ACCESS
Substantially all of the Initial Timberlands are accessible by a system of
established roadways and low-maintenance roads. Barges also serve certain of
the Company's lands located along the Mississippi River. The Timber Purchase
Agreement requires the Company to construct and maintain primary logging
roads. Third-party road crews typically conduct road and bridge construction
under the supervision of Company personnel. Hunting clubs maintain certain of
the Company's roadways under the terms of some of the Company's hunting
leases. The Company is also party to reciprocal road-use and cost-sharing
agreements with private landowners. Access to the Company's timberlands will
be affected to some extent by weather conditions and regulatory factors. The
loading of logs from the Company's Mississippi River Valley lands onto barges
will require permits from the United States Department of the Army-Corps of
Engineers. Among other things, these permits may require compliance with
certain water quality and other environmental standards when loading and
unloading logs. See "Risk Factors--Seasonality" and "--Federal and State
Regulation."
HARVESTING METHODS
The Company expects that Potlatch and its logging contractors will employ a
variety of harvesting techniques on the Initial Timberlands based on local
terrain, weather, stand characteristics and other site-specific
considerations. Due to their topography, a large portion of the Initial
Timberlands can be harvested using lower-cost mechanical methods.
Harvesting on the Initial Timberlands has historically been conducted using
a variety of methods. Some harvests, including both clear-cuts and more
selective cuts, are designed to remove mature trees in order to regenerate the
stand through planting or natural regeneration. Other harvests are prescribed
to remove dying or defective trees. In its hardwood operations, the Company
devotes significant time and resources to selective harvesting techniques
within its "uneven-aged" stands. Historically, ATCO's foresters have selected
and marked individual hardwood trees for harvest. The Company intends to
continue this practice where justified by the high value of large-diameter
hardwood trees.
The Company intends to maintain the ecosystems within its timberlands while
meeting its harvest plan objectives. For example, Company-prepared harvest
plans under the Timber Purchase Agreement may require Potlatch to leave a mix
of green and dead trees at the harvest site, including some large trees, snags
and downed logs, to enrich and protect the soil for successive generations of
trees and to provide habitats for a variety of wildlife species. The agreement
also requires Potlatch to use prudent logging practices (as defined in the
agreement) to minimize site damage, and to abide by environmental laws and
sustainable forestry principles when harvesting Company lands.
SALES AND MARKETS
Although the end use of timber is determined by market conditions, species,
timber size and quality, softwood timber from larger diameter trees is
typically processed into lumber, poles and panel products, while smaller
timber may be used for wood chips. Hardwood sawtimber is typically converted
for use in furniture, flooring, and lumber. Pulpwoods are typically used to
make panel products or pulp, which is processed into paper and other products.
Although many species may be suitable for a particular use, some of the
Company's principal species have characteristics making them particularly
desirable for certain uses. For example, cottonwood is highly valued in
furniture manufacturing due to its creamy white color and light weight.
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<PAGE>
The Timber Purchase Agreement will provide the Company with a long-term
customer for the timber harvested from the lands contributed by Potlatch and
ATCO and from certain lands acquired in the future. See "--The Timber Purchase
Agreement." Currently, Potlatch operates three sawmills and one paperboard
mill within the Company's operating region. In the Formation Transactions,
Potlatch will also acquire certain of ATCO's converting facilities and related
assets, including a hardwood sawmill complex in Mississippi, as well as a
veneer plant in Mississippi currently owned by a partnership affiliated with
ATCO.
Although Potlatch generally has no right to terminate the Timber Purchase
Agreement before the expiration of its initial term or any renewal period, the
loss of Potlatch as a customer due to its repudiation of the contract or
otherwise could have a materially adverse effect on the Company's results of
operations. It may be difficult for the Company to locate substitute customers
promptly. The availability of local customers other than Potlatch can be
expected to fluctuate due to the opening and closing of individual mills and
other factors.
THE TIMBER PURCHASE AGREEMENT
GENERAL. Potlatch and the Partnership will enter into the Timber Purchase
Agreement upon or prior to the consummation of the Offering. The Timber
Purchase Agreement has an initial term of 20 years and may be extended by
either party for up to 18 successive ten-year periods. In general, neither
Potlatch nor the Partnership may terminate the agreement before the end of the
initial term or the applicable renewal period without the other's consent,
except upon certain material defaults. The agreement covers all of the Initial
Timberlands. Pursuant to a separate agreement, the Partnership will have a
right of first opportunity to pursue the acquisition of certain timberlands,
so long as Potlatch beneficially owns at least 20% of the Company's
outstanding voting power. See "Certain Relationships and Related
Transactions." So long as the Partnership's right of first opportunity remains
in effect, certain additional timberlands that may be acquired by the
Partnership in the future, consisting of lands (i) that Potlatch offered to
the Partnership in a Potlatch acquisition consisting primarily of non-
timberland assets, or (ii) which are within specified regions surrounding
Potlatch's present conversion facilities (including the facilities that
Potlatch will acquire in the Formation Transactions), may also become subject
to the Timber Purchase Agreement at Potlatch's election.
The Partnership will generally be prohibited from selling any of the
timberlands contributed by Potlatch without Potlatch's consent. It will be
permitted, however, to transfer parcels within the former Potlatch lands
aggregating up to 5,000 acres per year (up to an aggregate of 20,000 acres in
any 20-year period), and an additional 10,000 acres per year may be
transferred in tax-deferred exchanges for equivalent or more productive
timberlands in the operating region. The Partnership may sell any timberlands
other than the former Potlatch lands. Generally, the parcels sold will remain
subject to the Timber Purchase Agreement. However, the Partnership will have
the right to require Potlatch to release its rights to timber on lands
aggregating up to 5,000 acres per year (up to an aggregate of 20,000 acres in
any 20-year period), and on an additional 10,000 acres per year that are
transferred in tax-deferred exchanges for equivalent or more productive
timberlands in the operating region. In addition, the Partnership may sell,
and Potlatch will release from the Timber Purchase Agreement, acreage
containing any incremental volume of timber that had been added to the Timber
Purchase Agreement during its term.
MANAGEMENT AND HARVESTING. Consistent with the Company's strategy of
managing its timberlands on a sustainable basis over the long term, the Timber
Purchase Agreement provides that the Partnership will manage the timberlands
subject to the agreement in accordance with prudent management practices and
in a manner consistent with sustainable forestry principles. As defined in the
agreement, sustainable forestry principles require that the timberlands be
managed (through silvicultural practices, harvest planning and land
management) in a manner designed to assure that, on a long-term basis, the
timberlands will produce a sustainable yield of merchantable timber without
significant environmental impairment and with consideration given to wildlife
conservation and
77
<PAGE>
preserving the aesthetic and recreational benefits of the forest. Under the
agreement, the implementation of sustainable forestry principles will involve,
among other things, limitations on the size and location of clear-cuts,
adherence to environmental laws and voluntary "best management practices" and
prompt reforestation (through planting or natural regeneration) of harvested
stands.
Each year, the Partnership will generate a harvest plan designating the
timber which is to be harvested during the ensuing two-year period. See
"Resource Management Objectives--Harvest Plans." Potlatch will be required to
harvest all of the designated timber, subject to limited rights of
substitution which may not materially reduce the volume of timber harvested.
The Partnership will have limited rights to increase the volumes to be
harvested in a given year, subject to compensating volume reductions over the
following five-year period. A shortfall in Potlatch's actual harvest volumes
from the designated volumes will not constitute a breach of the agreement so
long as at least 95% of the designated volume is harvested during the relevant
year or within specified cure periods thereafter. In its harvesting
operations, Potlatch will be required to adhere to the harvest plan and use
prudent logging practices to minimize damage to remaining timber and the
environment.
PRICING. The Timber Purchase Agreement provides that, for the various types
of timber harvested, Potlatch will pay the Partnership the fair market value
of those timber types sold in the relevant harvest region in arm's-length
transactions on a stumpage basis. In determining fair market value, Potlatch
and the Partnership will take into account such factors as they deem relevant.
Initially, pricing will generally take into account prices paid in two types
of transactions: (1) purchasing logs on a "delivered log" basis at the mill,
and (2) stumpage purchases through competitive bidding or otherwise. Where
Potlatch assigns its right to harvest timber from a stand designated in the
applicable harvest plan, Potlatch will pay the Partnership the actual price
paid in a competitive bid sale (or such other price as the Partnership may
agree), less an administrative charge.
When delivered log prices are utilized to determine fair market value on a
stumpage basis, the average costs incurred by Potlatch in logging and
transporting logs to its mills will be subtracted from delivered log prices.
Potlatch and the Partnership are expected to take into account delivered log
prices derived from Potlatch's purchases from third parties, Potlatch's sales
to third parties and transactions not involving Potlatch where prices are
verifiable.
In addition to delivered log prices, as discussed above, Potlatch and the
Partnership are also expected to consider the prices paid for the applicable
product in stumpage sales, which will include both Potlatch's winning bids and
the winning bids (if verifiable) in stumpage sale transactions where
Potlatch's bid was unsuccessful. For this purpose, Potlatch and the
Partnership may take into account transactions in which the price paid,
species types and relative volumes are verifiable, even if Potlatch did not
bid in the sale. Stumpage prices will be analyzed on a species-specific basis,
based on the relationship between historical species prices in delivered log
sales and such other information about species prices as the parties may
agree. Volumes in stumpage sales will be estimated because competitive bid
sales are often run on a "lump sum" basis without the seller stating the
volume to be sold. Typically, Potlatch has estimated volumes in competitive
bids by physically cruising the site before bidding. Potlatch's volume
estimates may be used in allocating a lump sum stumpage price among the
various species included in the sale.
Initially, delivered log prices and stumpage sale prices will be treated as
equally relevant so long as the parties agree that there are sufficient
numbers of verifiable transactions of both types. Species for which there is
insufficient data regarding delivered log transactions or stumpage sales will
be priced based upon the type of pricing for which data is available. For
example, certain species of hardwood sawtimber are rarely sold in delivered
log transactions, and are expected to be sold to Potlatch at a price based on
stumpage sale prices.
Prices for each harvested product will be estimated, by mutual agreement or
by a neutral third party absent agreement, at the beginning of each quarter.
Potlatch will make monthly payments to the
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<PAGE>
Partnership based on estimated prices and actual harvest volumes. At the end
of each quarter, after actual prices and volumes for that quarter have been
determined, a reconciling payment will be made to the extent necessary.
Both estimated prices and adjustments will be determined by negotiation
between Potlatch and the Partnership. If the parties cannot agree on a price
for any product within specified periods, the issue will be submitted to a
consulting forester for a final and binding decision. If no consulting
forester is serving or if the consulting forester does not reach a
determination within certain time periods, disputes will be resolved through
arbitration.
Where Potlatch and the Partnership attempt to determine the price payable
under the agreements by referring to delivered log prices, Potlatch's expenses
of logging and transportation will affect the prices that Potlatch pays the
Partnership. Thus, the prices payable under the Timber Purchase Agreement may
not be comparable to market prices paid under "stumpage contracts" or that
could otherwise be obtained in sales to parties other than Potlatch. However,
the Company believes that the agreement will set prices each year at a level
reflecting fair market stumpage prices.
RESALES AND ASSIGNMENTS. Potlatch will not be prohibited from reselling
timber that it purchases from the Partnership pursuant to the agreement
(although the price received by Potlatch in such resale may be taken into
account in setting the price payable to the Partnership under the Timber
Purchase Agreement). The Timber Purchase Agreement also permits Potlatch to
assign its rights to the timber in whole or in part. Generally, no such
assignment would release Potlatch from its obligations under the agreement. If
Potlatch assigns to a third party all of Potlatch's rights to timber in an
entire region for the remaining term of the agreement, the agreement will be
divided with the assignee becoming a direct party to a separate agreement as
to the timber in that region, and Potlatch remaining as a party to a separate
agreement governing all of the other timberlands. Both of these agreements
would be on the same terms as the original Timber Purchase Agreement, as
amended. In the event of such a regional division, Potlatch would be released
from its obligations under the Timber Purchase Agreement to the extent
assigned to the third party, but no such release may occur unless Potlatch
establishes the ability of the assignee to perform its obligations, or in any
event before the expiration of the initial 20-year term.
MONITORING OF PROCEDURES. Due to the conflicts of interest between Potlatch
and the Partnership, the Company intends to adopt policies and procedures
designed to minimize conflicts of interest with respect to pricing, harvest
planning and other procedures implemented under the agreement, and the Audit
Committee will monitor these procedures. However, there can be no assurance
that these policies and procedures will be successful in reducing the effects
of conflicts of interest.
FEDERAL AND STATE REGULATION
BACKGROUND AND APPROACH
The Company's operations are subject to numerous federal, state and local
laws and regulations, including those relating to the environment, endangered
species, the Company's forestry activities, and health and safety. Due to the
significance of regulation to its business, the Company plans to integrate
wildlife, habitat and watershed management into its resource management
practices. It also intends to take an active approach to regulatory
developments by participating in standard-setting where possible. For example,
the Company plans to work cooperatively with regulators to create voluntary
conservation plans that address environmental concerns while preserving the
Company's ability to operate its Timberlands efficiently. In 1996, Potlatch
and the USF&WS jointly developed and signed a habitat conservation plan with
respect to the red cockaded woodpecker colonies located on the Company's
Arkansas lands. The Company also seeks to maintain a favorable public
reputation for
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environmental stewardship through philanthropic and educational activities
such as its "Classroom in the Forest," a 110-acre site in Arkansas dedicated
to educating the public about forest management, and "The Lost Forty," a
pristine 40-acre forest jointly managed with the Arkansas Heritage Commission.
ATCO has also pursued a variety of wildlife conservation and other
environmental stewardship programs, such as co-founding a committee of
governmental agencies, environmentalists and industry participants dedicated
to the conservation of black bear habitat.
The Company intends to continue efforts to develop an integrated approach to
timberland stewardship in order to positively affect the policymaking and
regulatory processes. The Company has adopted comprehensive stewardship
principles, and will continue to implement water and wildlife resource
programs consisting of research, education, habitat restoration and
monitoring, and active participation in the development of environmental
partnerships. The Company believes that these activities enhance its
credibility and facilitate participation in the policymaking and regulatory
process.
Despite the Company's plan to participate actively in governmental
policymaking and regulatory standard-setting, there can be no assurance that
endangered species, environmental and other laws will not restrict the
Company's operations or impose significant costs, damages, penalties and
liabilities on the Company. In particular, the Company anticipates that
endangered species and environmental laws will generally become increasingly
stringent.
ENDANGERED SPECIES LAWS
The Federal Endangered Species Act and similar state laws and regulations
protect species threatened with possible extinction. A number of species
indigenous to the Timberlands have been and in the future may be protected
under these laws and regulations, including the red cockaded woodpecker,
Louisiana Black Bear and bald eagle. The presence of protected species on or
near the Timberlands may restrict or prohibit timber harvesting, road building
and other silvicultural activities on portions of the Company's lands that
contain the affected species or abut their habitats. In addition, the
Timberlands may be affected by regulatory requirements relating to habitats
for threatened and endangered aquatic species. Road building and harvesting
activities near streams containing such aquatic species may be limited or
prohibited due to the perceived impact on sedimentation and water quality.
The Company has identified 44 red cockaded woodpecker nesting colonies on
its timberlands. Under the terms of the recent habitat conservation plan
between Potlatch and the USF&WS, which will be binding upon the Company,
timber harvesting other than for salvage and maintenance is prohibited within
a 10-acre perimeter around each red cockaded woodpecker colony, and the
Company is required to maintain a specified percentage of the surrounding area
as forested land. This constraint does not impose a material burden on the
Company's operations. The Company is also aware of three bald eagle nests, two
of which are active, on the ATCO Timberlands, as well as the presence of
Louisiana Black Bear and certain other threatened or endangered species on its
lands, none of which currently imposes a significant constraint on the
Company's operations.
Consistent with its overall goal of good environmental stewardship, the
Company evaluates each tract of timber designated for thinning, harvesting or
another silvicultural operation in order to determine whether to conduct a
field inspection before commencing operations. These inspections are designed
to monitor the status of existing wildlife sites, identify areas suitable for
endangered species and determine if areas previously identified as containing
suitable habitat are, in fact, supporting endangered species. The Company also
intends to investigate reported sightings of threatened or endangered species.
The Timber Purchase Agreement requires Potlatch to use reasonable precautions
against damage to environmentally sensitive areas and to comply with
applicable environmental laws. However, the Partnership and the Company, as
the direct and indirect owners of the Timberlands, may be held responsible for
compliance with the foregoing laws and regulations by Potlatch and other
customers and contractors.
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The Company believes that it is managing its harvesting operations in the
areas affected by protected species in substantial compliance with applicable
federal and state regulations, and that the presence of such species on its
lands will not materially adversely affect the Company's ability to proceed
with its current harvest plans. There can be no assurance, however, that
additional species on or around the Timberlands will not receive protected
status under the Endangered Species Act or similar state laws, or that
currently protected species may not be discovered in significant numbers on or
around the Timberlands. Additionally, there can be no assurance that future
legislative, administrative or judicial activities related to protected
species will not adversely affect the Company, its ability to continue its
operations as currently conducted or its ability to implement its business
strategy. Any such changes could materially and adversely affect the Company's
financial condition and results of operations.
FORESTRY REGULATIONS
The operation of the Timberlands will be subject to specialized statutes and
regulations governing forestry operations. These laws address many growing,
harvesting and processing activities on forest lands. For example,
Mississippi's Forest Harvesting Law imposes post-harvest seed tree retention
and re-entry requirements. In Arkansas, the Company has followed local "best
management practices" developed by state agencies in consultation with
industry and environmental groups, which address matters such as harvesting
practices near visually sensitive areas. Operations in Mississippi and the
other states in which the Initial Timberlands are located are currently
subject to similar voluntary practices.
The Company expects to face intensifying forest practices regulations,
particularly as it acquires timberlands in other states. A number of timber
states have forest practices acts that are considerably more restrictive than
the Mississippi Forest Harvesting Law and the best management practices
currently in place in Arkansas. For example, the State of Washington requires
a rigorous regulatory review, taking 30 days or more, prior to harvesting.
Other states are considering or are expected to consider laws and regulations
governing forest practices.
ENVIRONMENTAL LAWS
Timber operations involve the use and storage of various hazardous materials
such as herbicides, pesticides, fertilizers and gasoline, and result in air
emissions or discharges of certain materials into streams and other bodies of
water. Accordingly, the Company's operations are subject to federal, state and
local environmental laws and regulations relating to the protection of the
environment. Environmental laws and regulations have changed substantially and
rapidly over the last 20 years, and the Company anticipates them to become
increasingly stringent. Although the Company believes that it is in
substantial compliance with these requirements, there can be no assurance that
these increasingly burdensome laws and regulations will not lead to
significant costs, penalties and liabilities, including those related to
claims for damages to property or natural resources, as well as restrictions
on timber harvesting and other silvicultural activities. As of the date of
this Prospectus, the Company is not aware of any pending legislative,
administrative or judicial action relating to the protection of the
environment that could materially and adversely affect the Company.
The Federal Clean Air Act and Clean Water Act, and their state equivalents,
may affect timber operations through controls on site preparation activities
such as slash burning and regulatory programs designed to reduce nonpoint
source pollution discharged into bodies of water. For example, the
Environmental Protection Agency and its state counterparts have designated
certain bodies of water as "water quality impaired," triggering a requirement
to establish Total Maximum Daily Loads ("TMDLs") for such bodies of water. The
TMDL process could result in additional limitations being placed on harvesting
activities in some or all of the states where the Company operates.
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In addition, the Company's operations will be affected by federal and state
laws designed to protect wetlands. The Federal Clean Water Act authorizes the
regulation of "wetland" areas. Access to timberlands located within a
protected wetlands area may be limited, and the Company may be required to
expend substantial sums for the protection of such wetland areas.
Some environmental statutes impose strict liability, regardless of the
negligence or fault on the part of the person held liable. Under various laws
and regulations, an owner or operator of real property may become liable for
the costs of removal or remediation of certain hazardous substances released
on or in its property, often without regard to whether the owner or operator
knew of, or was responsible for, the release of such substances. The presence
of such substances, or the failure to remediate such substances properly, may
adversely affect the owner's ability to sell such real estate or to use such
real estate as collateral. The Initial Timberlands acquired from Potlatch and
ATCO have not been subjected to a Phase I environmental audit or other similar
investigation or audit by an independent environmental consultant. In
addition, although ATCO will divest all of its converting facilities
concurrent with or prior to the Company's acquisition of ATCO, there can be no
assurance that the Company will not be subject to claims, losses and
liabilities under environmental laws due to ATCO's prior ownership or
operation of such facilities. The Partnership will acquire the Initial
Timberlands subject to environmental liabilities with respect to the Initial
Timberlands and certain other existing or potential liabilities. Although the
Company is not aware of any activities by the Company or any conditions on the
Initial Timberlands that would likely result in the Company being named a
potentially responsible party, there can be no assurance that Potlatch, ATCO
or any other prior owner or operator of the Initial Timberlands, or an owner
or operator of any lands adjacent to the Company's, has not created a material
environmental condition on the Company's lands without the Company's
knowledge. In addition, there can be no assurance that the operations of the
Company and its contractors on the Timberlands will not result in material
liabilities, fines, costs and restrictions on the Company pursuant to current
or future environmental laws and regulations. Potlatch will agree to indemnify
the Company against certain liabilities and expenses attributable to
Potlatch's operations on the Timberlands.
REGULATORY LIMITATIONS ON ACCESS TO TIMBERLANDS
Currently, logs from the Company's timberlands along the Mississippi River
may be loaded onto barges only pursuant to permits issued by the United States
Department of the Army-Corps of Engineers. These permits may impose various
environmental and other restrictions on log loading activities. In addition,
depending upon the location and scope of future acquisitions, the Timberlands
may include sections of land that are intermingled with or adjacent to
sections of land managed by federal and state agencies. Removal of trees from
those portions of the Timberlands may require additional permits and
reciprocal rights-of-way across public lands, the availability of which cannot
be assured. Among other things, federal agencies may be required to consult
with each other and to consider environmental and other factors in granting or
renewing such permits and rights-of-way.
OTHER REGULATORY MATTERS
The Company's operations will be subject to various other federal and state
regulations. For example, the Federal Insecticide, Fungicide, and Rodenticide
Act regulates the use of pesticides that may be used in forestry practices.
The operations of the Timberlands are subject to the requirements of the
Federal Occupational Safety and Health Act ("OSHA") and comparable state
statutes relating to the health and safety of employees. The Company believes
that it is in compliance with OSHA regulations, including general industry
standards, permissible exposure levels for toxic chemicals and record-keeping
requirements.
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COMPETITION
Due to transportation costs, domestic timber conversion facilities tend to
purchase raw materials within relatively confined geographic areas. Presently,
the Company and its current competitors all benefit from close proximity to
numerous mills. Additional competitive factors within a market area generally
will include species, quality, and consistency in meeting customers'
specifications and delivery requirements.
The Company competes with numerous private land and timber owners, as well
as foreign imports, primarily (but indirectly) lumber from Canada. In
addition, the Company competes with the USFS and other governmental agencies
with timber holdings. Timber sold by the federal government may be more
mature, and thus larger-diameter and more desirable, due to the government's
longer harvest rotations. The level of competition will also tend to vary
depending upon prevailing timber prices. Rising timber prices often lead to
increased harvesting on private timberlands, including lands not previously
made available for commercial timber operations. The Company will also face
intense competition for acquisition opportunities. See "Risk Factors--Risks
Associated with Acquisition Strategy." Certain of the Company's competitors
have significantly greater financial resources than the Company.
INSURANCE COVERAGE
Certain types of losses (such as damage to the Timberlands and associated
lost revenues due to fires, ice storms, pests, disease and other natural
disasters) are uninsurable at commercially justifiable rates. Accordingly, as
is typical in the industry, the Company does not carry insurance for these
losses. An uninsured loss could result in reduced revenues and cash flow. See
"Risk Factors--Risk of Uninsured Losses."
LEGAL PROCEEDINGS
Although the Company may, from time to time, be involved in litigation and
claims arising out of its operations in the normal course of business, the
Company is not presently a party to any material legal proceedings.
EMPLOYEES
Upon the closing of the Formation Transactions, the employees of the
Partnership will consist primarily of the persons currently employed by
Potlatch's Arkansas timber operation and ATCO's timber operations. As of May
1, 1998, the Company's operations had approximately 55 salaried and ten hourly
employees.
Approximately ten of the employees to be employed by the Partnership are
currently represented by a union, all of whom are currently employed by
Potlatch. Potlatch's collective bargaining agreement with this union expires
in 1998. The Company believes that it has a good relationship with its
employees.
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MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The directors and executive officers of the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Scott R. Jones...................... 39 Chief Executive Officer, President and
Prospective Director
Vice President, Chief Financial Officer and
Allan F. Trinkwald.................. 41 Treasurer
Robert M. (Robin) Jolley, Jr........ 46 Vice President--Southern Operations
Courtland L. (Court) Washburn....... 39 Vice President--Investment Strategy
Mason Browne........................ 47 Vice President--Acquisitions
John M. Richards.................... 60 Director
Christine Garvey.................... 52 Prospective Director
Parnell S. Lewis, Jr................ 50 Prospective Director
James F. Rippey..................... 66 Prospective Director
Will M. Storey...................... 66 Prospective Director
Frederick T. Weyerhaeuser........... 66 Prospective Director
</TABLE>
The business experience of the Company's directors and executive officers,
including each such person's principal occupations and employment during the
last five years, is summarized below.
Scott R. Jones has been the Chief Executive Officer and President of the
Company since May 1998 and has agreed to become a director of the Company.
Before joining the Company, Mr. Jones was employed by the Hancock Timber
Resource Group of John Hancock Mutual Life Insurance Company beginning in
1989, where he served as Director of Business Development since January 1995.
Prior to 1995, he served in various capacities for the Hancock Timber Resource
Group, including Manager of Acquisitions and Manager of Portfolio Strategy.
Previously, he was a real estate portfolio manager with Rubloff, Inc., an
institutional real estate services company, and was associated with Container
Corporation of America. Mr. Jones has a B.S. in Forestry from Elizabethtown
College, a Masters of Forestry-Economics from Duke University and a Masters of
Management from Northwestern University.
Allan F. Trinkwald has been the Vice President, Chief Financial Officer and
Treasurer of the Company since May 1998. Before joining the Company, Mr.
Trinkwald was Vice President and Chief Financial Officer of Savia
International Ltd., a forest products company, beginning in September 1995.
From September 1994 to September 1995, Mr. Trinkwald was Chief Financial
Officer and Treasurer of Crown Pacific Partners, L.P., a forest products
company. He also served as Controller and Treasurer of Plum Creek Timber
Company, L.P., from June 1989 to September 1994. Mr. Trinkwald has a B.S. in
Accounting from the State University of New York and a Masters of Business
Administration from the University of Washington. He is a Certified Public
Accountant.
Robert M. (Robin) Jolley, Jr. has been the Vice President--Southern
Operations of the Company since May 1998. Before joining the Company, Mr.
Jolley was the Resource Manager of the Southern Division of Potlatch beginning
in July 1994. Before joining Potlatch, he was the Central Operations Manager
for Scott Paper Company in Mississippi and Alabama from 1975 to 1994. Mr.
Jolley is a member of the Board of Directors of the Arkansas Forestry
Association and the Board of Directors of the American Pulpwood Association.
He received his B.S. degree in Biology from Catawba College, and his M.S.
degree in Forestry from Duke University.
Courtland L. (Court) Washburn has been the Vice President--Investment
Strategy of the Company since May 1998. Before joining the Company, Dr.
Washburn was the Director of Economic Research for the Hancock Timber Resource
Group of John Hancock Mutual Life Insurance Company, beginning in 1990. Dr.
Washburn has a B.A. in Zoology and an M.S. degree in Wildland Resource
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Science from the University of California and a Ph.D. in Forestry and
Environmental Studies from Yale University.
Mason Browne has been the Vice President--Acquisitions of the Company since
May 1998. Before joining the Company, Mr. Browne was employed by the Hancock
Timber Resource Group of John Hancock Mutual Life Insurance Company beginning
in 1988, where he served as Chief Forester/Manager of Stewardship. Mr. Brown
has a B.S. in Biology from Middlebury College, a M.S. in Forestry from the
University of Washington, and a Masters of Business Administration from City
University.
John M. Richards has been a director of the Company since its formation. Mr.
Richards is Chairman of the Board and Chief Executive Officer of Potlatch and
has served in that capacity since May 1994. He served as Potlatch's President
and Chief Operating Officer from May 1989 to May 1994. He has been a director
of Potlatch since 1991.
Christine Garvey is expected to become a director of the Company on or prior
to the consummation of the Offering. Ms. Garvey is currently the head of Bank
of America's Commercial Real Estate Services Group, and has been with Bank of
America since 1991. Ms. Garvey is also a member of the National Association of
Corporate Real Estate Executives, the Industrial Development Research Council
and the Urban Land Institute. She also serves on the Board of Directors of
Catellus Development Corporation.
Parnell S. Lewis, Jr. is expected to become a director of the Company on or
prior to the consummation of the Offering. Mr. Lewis has been the President of
ATCO since 1993, and has served as a director of ATCO since 1979. Before
joining ATCO, Mr. Lewis was a Vice President with National Guard Products from
1982 to 1987. He was employed by Union Planters National Bank from 1971 to
1981, holding several positions including Vice President and Senior Loan
Officer. Mr. Lewis received his B.B.A. from Memphis State University. He is
also a director of Union Planters Corporation.
James F. Rippey is expected to become a director of the Company on or prior
to the consummation of the Offering. Mr. Rippey co-founded Columbia Management
Company ("Columbia"), an investment management firm, and also served as its
President from 1964 through the sale of Columbia in 1997. Since such sale, Mr.
Rippey has been acting as a Portfolio Manager for Columbia. Mr. Rippey was a
director of the Columbia Family of Mutual Funds from 1966 to 1997.
Will M. Storey is expected to become a director of the Company on or prior
to the consummation of the Offering. Mr. Storey was Chief Financial Officer,
Treasurer and director of American President Companies, Ltd. (later renamed
APL Limited) from 1991 through his retirement in 1995. He was director and
Vice Chairman of Manville Inc. from 1989 to 1991, and was Vice Chairman and
Senior Financial Administrative Officer of Federated Department Stores, Inc.
from 1982 to 1988. Prior to that, he was Executive Vice President and Chief
Financial Officer of Boise Cascade Corporation, where he served for 19 years.
He is also a director of Albertsons, Inc.
Frederick T. Weyerhaeuser is expected to become a director of the Company on
or prior to the consummation of the Offering. Mr. Weyerhaeuser has been
Chairman of the Board and Treasurer of Clearwater Investment Trust, a
financial management company, since 1987. He has been a director of Potlatch
since 1960, and also serves as a director of Minnesota Mutual Life Insurance
Company and Clearwater Investment Trust. Previously, Mr. Weyerhaeuser was also
Chairman of the Board and Treasurer of Clearwater Management Co.
Mr. Richards currently serves as the Company's sole director. Prior to or
concurrently with the closing of the Offering, the Company intends to expand
the size of the Board to seven, a majority of whom will be persons not
employed by the Company or the Partnership or employed by or otherwise
affiliated with Potlatch (the "Independent Directors"). Upon expansion, the
Board will be divided into
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three approximately equal classes serving staggered three-year terms or until
their successors are duly elected and qualified. As a result, approximately
one-third of the total number of directors will be elected each year. Mr.
Richards and Mr. Weyerhaeuser will be members of Class I, the term of which
will expire at the 1999 Annual Meeting of Stockholders, Ms. Garvey and Mr.
Jones will be members of Class II, the term of which will expire at the 2000
Annual Meeting of Stockholders, and Messrs. Lewis, Rippey and Storey will be
members of Class III, the term of which will expire at the 2001 Annual Meeting
of Stockholders.
The Board of Directors will establish an Audit Committee prior to the
closing of the Offering, which will consist of the Independent Directors. The
functions of the Audit Committee will include recommending to the Board of
Directors the retention of independent auditors, reviewing the scope of the
annual audit undertaken by the Company's independent auditors and the progress
and results of their work, and reviewing the Company's financial statements,
internal accounting and auditing procedures and corporate program to ensure
compliance with applicable laws. The Audit Committee will also periodically
review the implementation of the Timber Purchase Agreement, including the
procedures used to determine the prices paid by Potlatch, and will be
responsible for reviewing and approving any transaction in which Potlatch has
a material interest.
The Board of Directors will review and approve executive compensation
policies and practices, reviewing salaries and bonuses for certain officers of
the Company, administering the Company's Stock Incentive Plan and other
benefit plans.
Officers will be elected at the first Board of Directors' meeting following
the stockholders' meeting at which directors are elected and serve at the
discretion of the Board of Directors. There are no family relationships among
any of the directors or executive officers of the Company.
EXECUTIVE COMPENSATION
The Company was organized in February 1998. The Company anticipates that,
during the fiscal year ending December 31, 1998, its most highly compensated
executive officers will be Messrs. Jones, Trinkwald, Washburn, Browne and
Jolley. These officers will be granted options to purchase shares of Common
Stock effective upon the closing of the Offering under the Company's Stock
Incentive Plan. Such options will have an exercise price equal to the initial
public offering price in the Offering, will vest in 50% increments commencing
on the first anniversary of the grant date and will expire in ten years, or
earlier if service with the Company terminates. See "--Stock Incentive Plan."
The following table summarizes all compensation anticipated to be paid in the
remainder of 1998 to the Company's Chief Executive Officer and to each of the
Company's most highly compensated executive officers other than the Chief
Executive Officer whose total annual salary and bonus is expected to exceed
$100,000 for services to be rendered in all capacities to the Company during
the fiscal year ending December 31, 1998.
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SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION
------------------------- ------------
NAME AND UNDERLYING ALL OTHER
PRINCIPAL POSITION SALARY($) BONUS($) OPTIONS(#) COMPENSATION(1)
------------------ ----------- --------- ------------ ---------------
<S> <C> <C> <C> <C>
Scott R. Jones.......... $ 225,000(2) $-- (3) 100,000 $10,512
Chief Executive Officer
Allan F. Trinkwald...... 150,000(2) -- (3) 50,000 7,014
Chief Financial Officer
Courtland L. Washburn... 100,000(4) -- (3) 50,000 4,670
Vice President--
Investment Strategy
Mason Browne............ 93,333(4) -- (3) 25,000 4,359
Vice President--
Acquisitions
Robert M. Jolley, Jr.... 90,000(4) -- (3) 41,800(5) 4,651
Vice President--South-
ern Operations
</TABLE>
- --------
(1) Represents estimated health and life insurance premiums to be paid by the
Company.
(2) Represents amounts to be paid from April 1, 1998 to December 31, 1998.
(3) Incentive bonus compensation will depend upon individual performance in
fiscal 1998 and is not
presently determinable.
(4) Represents amounts to be paid from May 1, 1998 to December 31, 1998.
(5) Includes an estimated 16,800 options to be granted in substitution for
such officer's Potlatch stock options. The actual number of such options
will depend on the initial public offering price.
EMPLOYMENT AGREEMENTS
Mr. Jones has entered into a two-year employment agreement providing for an
annual base salary of no less than $300,000, bonuses of $105,000 payable in
each of 1999 and 2000 plus participation in the Company's incentive bonus
program. The agreement also provides for a grant of options to purchase
100,000 shares of Common Stock in connection with the Offering and a grant in
1999 of options to purchase an additional 100,000 shares.
Mr. Trinkwald, Dr. Washburn and Mr. Browne have entered into similar
employment agreements providing for the following annual base salaries and
stock option grants: Mr. Trinkwald, salary of no less than $200,000 and grants
of options to purchase 50,000 shares of Common Stock in connection with the
Offering and in 1999; Dr. Washburn, salary of no less than $150,000 and grants
of options to purchase 50,000 shares of Common Stock in connection with the
Offering and in 1999; and Mr. Browne, salary of no less than $140,000 and
grants of options to purchase 25,000 shares of Common Stock in connection with
the Offering and in 1999.
COMPENSATION OF DIRECTORS
Directors of the Company who are not also employees of the Company, the
Partnership, Potlatch or one of their subsidiaries will be paid an annual
retainer of $16,000 and will receive $1,000 for each Board meeting attended
($500 for telephonic meetings) and $500 for each committee meeting attended
($250 for telephonic meetings). Each committee chair also will receive an
annual retainer of $2,000. No other director will receive cash compensation
for services as a director. All directors will, however, be reimbursed for
their expenses incurred in attending meetings.
Directors of the Company who are not also employees of the Company, the
Partnership, Potlatch or one of their subsidiaries are eligible to participate
in the Deferred Compensation Plan for Directors. Each eligible director may
elect to participate in the Deferred Compensation Plan for Directors by filing
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a deferral election within the time limits specified in such plan. A
participating director may defer all or a portion of his or her director's
fees, and a Deferred Compensation Account will be established for each
participating director. A director may elect to convert all or a portion of
his or her Deferred Compensation Account into stock units representing the
value of one share of Common Stock ("Stock Units"). Interest will be credited
to each Deferred Compensation Account and, to the extent dividends are paid on
the Common Stock, dividend equivalents will be credited to each Stock Unit
during the period of deferral.
At the time of deferral, the director will indicate the year in which
payment of the Deferred Compensation Account or Stock Units will commence,
which may not be later than age 72. The director will also indicate whether
the payment will be in a lump sum or in installments over a period of years
(but not more than 15). Deferred Compensation Account balances and Stock Units
will be paid in cash. In the event of a participating director's death, all
remaining amounts in his or her Deferred Compensation Account and all of his
or her Stock Units will be distributed to the director's beneficiary.
The Deferred Compensation Plan for Directors will be administered by the
Board of Directors. The Board of Directors may amend, suspend or terminate the
Deferred Compensation Plan for Directors at any time.
Certain directors will also be eligible to receive nondiscretionary awards
of nonstatutory stock options under the 1998 Stock Incentive Plan, as
described below.
STOCK INCENTIVE PLAN
The Board of Directors intends to adopt the 1998 Stock Incentive Plan (the
"Stock Incentive Plan") prior to the consummation of the Offering. A total of
3,000,000 shares of Common Stock will be available for issuance under the
Stock Incentive Plan. An award under this plan may be in the form of stock
options, limited stock appreciation rights, restricted stock or other share-
based awards. The stock options expected to be awarded to certain executive
officers of the Company under the Stock Incentive Plan are listed in the
Summary Compensation Table above. Other potential awards to officers and other
employees are not presently determinable.
Participants in the Stock Incentive Plan will be employees of the Company,
the Partnership or its subsidiaries who are selected by the Board of
Directors. The Company's directors who are not also employees of Potlatch, the
Company, the Partnership or one of their subsidiaries (the "Outside
Directors") will be eligible to receive only nondiscretionary awards of
nonqualified stock options under the plan. These awards will consist of an
option grant of 5,000 shares upon a director's initial election to the Board,
and thereafter an annual option grant of 1,500 shares.
The Stock Incentive Plan will be administered by the Board of Directors. The
Board will determine which employees will participate in the plan and the
terms and conditions of any award under the plan. The maximum number of stock
options, restricted stock or other share-based awards that may be granted to
an employee under the Stock Incentive Plan in any calendar year is 250,000
shares.
The Company's Board of Directors may suspend or discontinue the Stock
Incentive Plan or revise or amend it with respect to any shares not subject to
awards under the plan. However, without the approval of the stockholders of
the Company, no revision or amendment may increase the number of shares
subject to the plan, change the class of employees eligible to receive awards
under the plan, remove administration of the plan from any committee appointed
by the Board of Directors or amend the plan provision concerning amendment in
order to defeat its purpose.
Stock options granted to employees and Outside Directors will be subject to
terms and conditions specified in the Stock Incentive Plan and stock option
agreements. The exercise price of a stock option
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will be the fair market value of a share on the date of grant. The exercise
price may be paid in cash or by the surrender of Common Stock. During the
lifetime of the plan participant, the stock option will be exercisable only by
the participant and will not be assignable or transferable.
Each stock option granted to an employee will become exercisable at the time
or times specified in the applicable stock option agreement. Each stock option
granted to an Outside Director will become exercisable in 50% increments on
the first and second anniversaries of the date of grant, provided that he or
she has continuously been an Outside Director from the date of grant until
such time. In addition, commencing six months after the stock option grant,
each plan participant will have the right to exercise his or her options as
follows:
(i) Within 30 days following the sale or other disposition of all or
substantially all of the assets of the Company;
(ii) Within 30 days prior to the consummation of any transaction
(approved by the stockholders of the Company) in which the Company will
cease to be an independent publicly owned corporation;
(iii) Within 365 days following the date on which more than one-third of
the directors neither (A) were directors on the later of (x) a date three
years earlier or (y) the day following the closing of the Offering nor (B)
are individuals whose election or nomination for election as directors was
approved by at least a majority of those directors described in clause (A)
above;
(iv) Within 365 days following the date on which any "person" (as used in
sections 13(d) and 14(d) of the Securities Exchange Act of 1934, as
amended) that acquired Common Stock pursuant to a tender offer subject to
Section 14(d) of such act became entitled to vote 20% or more of the
aggregate voting power of the Company's outstanding stock; or
(v) Within 30 days prior to any dissolution or liquidation of the Company
or any merger or consolidation in which the Company is not the surviving
corporation, but not sooner than required stockholder approval is obtained.
Options not exercised during the 30-day period described in clauses (i),
(ii) and (v) above will terminate upon the last day of such period. Each stock
option granted under the Stock Incentive Plan will include a limited stock
appreciation right that may be exercised only during the periods described in
clauses (i) through (v) above. During any such period, the participant will
have the right, in lieu of exercising an option, to receive an amount equal to
the difference between the aggregate exercise price of the shares subject to
the option surrendered and the fair market value of such shares on the date of
surrender.
If the employment of a participant who is an employee is terminated for any
reason other than death, the employee may exercise within three months after
termination of employment any options that were vested at the date of
termination. The exercise period is 36 months in the event of the employee's
death or termination due to retirement or disability with respect to a
nonqualified stock option. If the employee's employment is terminated due to
misconduct (as defined in the Stock Incentive Plan), then the stock option
will cease to be exercisable.
In the event an Outside Director's services as a director are terminated for
any reason other than cause, the Outside Director may exercise within 36
months of such termination any options that were vested at the date of
termination. If the Outside Director's services are terminated for cause (as
defined in the Company's Charter), his or her stock options will cease to be
exercisable.
Subject to any required action by the stockholders, the number of shares
covered by the Stock Incentive Plan, the number of shares covered by each
award under the plan and the exercise price of each outstanding option will be
subject to antidilution adjustments upon a stock split or stock dividend and
in certain other circumstances.
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Subject to any required action by the stockholders, if the Company is the
surviving corporation in any merger, consolidation or other reorganization,
each outstanding award under the Stock Incentive Plan (whether or not vested)
will apply to the securities to which a holder of the number of shares of
Common Stock subject to the plan award would have been entitled as a result of
such transaction. Subject to the exercise rights set forth in clauses (i)
through (v) above, in the event of a dissolution or liquidation of the Company
or a merger, consolidation or other reorganization in which the Company is not
the surviving corporation, each outstanding option will terminate, unless the
merger, consolidation or reorganization agreement provides otherwise.
INCENTIVE BONUS PROGRAM
The Company intends to establish an incentive compensation plan (the
"Incentive Bonus Plan") for key employees. The Incentive Bonus Plan will
provide for payment of annual cash incentive awards to participating employees
based on the Company's attainment of key annual financial objectives and an
evaluation of the employee's personal performance during the year. The Board
of Directors will determine the awards. Awards will only be paid with respect
to years in which minimum financial objectives, as established annually by the
Board of Directors, are met. The maximum award earned in any year will be 100%
of the employee's base salary in effect for that year.
SEVERANCE PROGRAM FOR EXECUTIVE EMPLOYEES
The Company has established a Severance Program for Executive Employees (the
"Program") which covers the Company's Chief Executive Officer, Chief Financial
Officer and any elected Vice President. The Program provides that if the
Company terminates the services of a covered executive for any reason other
than failure of the Offering, cause or a change of control, the executive will
receive payment of base salary for from four to twelve months, depending on
the executive's length of service with the Company, plus eligibility for an
incentive payment allowance and benefits for the same time period under the
Company's life insurance, accidental death and dismemberment, disability,
medical and dental programs.
Should employment be terminated because of a change in control of the
Company (as defined above with respect to the Stock Incentive Plan), the
executive is entitled to the benefits described above (except that the
severance benefits are in an amount up to 2.5 times base pay), plus the value
of unvested benefits, if any, under the Company's 401(k) savings plan, pension
plan and Supplemental Benefit Plan. In no event will the benefits payable
exceed the amount that would cause them to be categorized as "excess parachute
payments" under the Code.
If an executive's employment is terminated for cause, no severance benefits
are payable. Termination for "cause" occurs when the executive has engaged in
unfair competition with the Company, induced any customer of the Company to
breach any contract with the Company, made any unauthorized disclosure of any
of the secrets or confidential information of the Company, committed an act of
embezzlement, fraud or theft with respect to the property of the Company or
engaged in conduct which is not in good faith and which directly results in
material loss, damage or injury to the business, reputation or employees of
the Company.
PENSION PLANS
Employees of the Company will be eligible to participate in a tax-qualified
defined benefit pension plan (the "Retirement Plan") and a Supplemental
Benefit Plan which replaces benefits lost because of any limitation placed on
the Company's tax-qualified defined benefit plan or the Company's 401(k)
savings plan. The following table presents the annual pension benefits
estimated to be payable under the Company's Retirement Plan and Supplemental
Benefit Plan at normal retirement date to a person having the average annual
earnings and years of credited service shown.
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PENSION PLAN TABLE
<TABLE>
<CAPTION>
YEARS OF CREDITED SERVICE
AVERAGE ------------------------------------------------------------------
ANNUAL EARNINGS 15 20 25 30 35
--------------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
$100,000 $20,165 $26,887 $33,609 $40,331 $47,053
200,000 42,665 56,887 71,109 85,331 99,553
300,000 65,165 86,887 108,609 130,331 152,053
400,000 87,665 116,887 146,109 175,331 204,553
500,000 110,165 146,887 183,609 220,331 257,053
</TABLE>
In calculating years of credited service, the period of time recognized
under Potlatch's Salaried Employees' Retirement Plan is taken into account. In
calculating final average annual earnings, the Retirement Plan and the
Supplemental Benefit Plan recognize overtime, bonuses under the Incentive
Bonus Plan and other salary- or sales-based performance incentive payments, as
reflected in the Summary Compensation Table above. Bonuses are recognized in
the year in which they are paid. The benefits of participants who are required
to retire at age 65 are calculated as if they received a standard bonus under
the Incentive Bonus Plan during each year in their period of average annual
earnings.
For the purpose of calculating retirement benefits, Messrs. Jones,
Trinkwald, Washburn and Browne currently have no years of credited service,
and Mr. Jolley has four years of credited service. Benefits under the plans
are computed as straight-life annuity amounts and are not subject to reduction
by Social Security or other benefits.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors will make decisions regarding the compensation of
executive officers. Mr. Richards, who is a director of the Company, is
Chairman of the Board and Chief Executive Officer of Potlatch. Potlatch will
initially be the sole owner of the Company's Special Voting Stock and the sole
limited partner of the Partnership, and will have certain other relationships
with the Company. See "Certain Relationships and Related Transactions."
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CERTAIN POLICIES AND OBJECTIVES
The following discussion summarizes the Company's current investment
objectives and policies, disposition and financing policies and policies with
respect to certain other activities. These policies are determined by the
Board of Directors and may be amended or revised from time to time at the
discretion of the Board of Directors without a vote of the Company's
stockholders.
As the sole general partner of the Partnership, the Company also will
determine the investment policies of the Partnership. Under the Partnership
Agreement, the Company's future investments generally must be made through the
Partnership. See "The Partnership Agreement--Management of the Partnership."
INVESTMENT POLICIES
The Company's investment objective is to maximize its cash flow consistent
with its long-term policy of increasing sustainable yield. The Company will
seek to accomplish its objective through its ownership of the Initial
Timberlands and selective acquisitions of additional timberlands.
The Company may purchase or lease properties for long- or short-term
investment and may cause the Partnership to hold or sell any or all of the
Initial Timberlands when circumstances warrant, subject to the restrictions on
sale in the Partnership Agreement and Timber Purchase Agreement. The Company
also may participate with other entities in property ownership, through joint
ventures or other types of co-ownership. Equity investments may be subject to
existing mortgage financing and other indebtedness that has priority over the
equity interest of the Company in such properties. While the Company intends
to emphasize equity investments, it may, in its discretion, invest in
mortgages, stock of other REITs, partnerships and other real estate interests.
The Partnership Agreement requires that a majority of the Company's voting
power, which Potlatch will initially control through its ownership of Special
Voting Stock, must approve any transaction which would cause 50% or more of
the fair market value of the Company's assets to consist of assets other than
timber, timberlands and related assets, with limited exceptions. There are
presently no limitations on the percentage of the Company's assets that may be
invested in any one property or venture, the number of properties in which the
Company may invest or the concentration of investments in a single geographic
region. The Board of Directors may establish such limitations, and other
policies, as it deems appropriate from time to time.
DISPOSITIONS
Other than potential sales or exchanges of small parcels, the Company has no
current intention to cause the Partnership to dispose of any of the Initial
Timberlands, although it reserves the right to do so (subject to Potlatch's
consent, in certain cases involving the Potlatch Southern Timberlands) if the
Board of Directors determines that such action would be in the best interests
of the Company. In general, the Company intends to pursue sales or exchanges
of lands which may have a higher and better use for recreational or other
purposes, which have special environmental significance, or which are
geographically isolated from its other timberlands. The Timber Purchase
Agreement and the Partnership Agreement restrict the Partnership's ability to
sell the timberlands contributed to the Partnership by Potlatch. See
"Business--The Timber Purchase Agreement" and "Business--The Partnership
Agreement."
FINANCING
The Company intends to maintain a ratio of debt to total market
capitalization (assuming the exchange of all Partnership Units for Common
Stock) of less than 35%. The Board of Directors may, however, reevaluate this
policy from time to time and reduce or increase such ratio accordingly.
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Following the completion of the Offering and the use of net proceeds
therefrom, the Company will have approximately $130.0 million of indebtedness
($88.1 million if the Underwriters' over-allotment option is exercised in
full), which will constitute approximately 19% of its total market
capitalization after giving effect to the Offering (13% if the Underwriters'
over-allotment option is exercised in full), in each case assuming the
exchange of all Partnership Units for Common Stock and an initial public
offering price of $20.00 per share. The Company will determine its financing
policies in light of then-current economic conditions and timber prices,
relative costs of debt and equity capital, market values of properties, growth
and acquisition opportunities and other factors. If the Board of Directors
determines that additional funding is desirable, the Company may raise such
funds through additional equity offerings, debt financing or retention of cash
flow (subject to provisions in the Code concerning the taxability of
undistributed REIT income and REIT qualification), or a combination of these
methods.
The Partnership Agreement prohibits the Company from taking any action,
including the assumption or incurrence of debt, that would cause Potlatch to
breach its existing debt covenants and future covenants that are no more
restrictive. These covenants generally will apply to the Company so long as
Potlatch owns more than 50% of the Company's voting power or otherwise is
required to consolidate the Company for accounting purposes, and include
limitations on liens and sale-leaseback transactions and certain financial
ratios and other quantitative tests (including a minimum level of consolidated
net tangible assets, and certain leverage and coverage ratios). The Company
will also be restricted from effecting certain other fundamental transactions
as long as it is a "significant subsidiary" for purposes of Potlatch's debt
instruments. The Company's Credit Facility will also restrict the Company's
ability to incur indebtedness. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations of the Company--Liquidity and
Capital Resources."
It is anticipated that borrowings will be made through the Partnership,
although the Company also may incur indebtedness that may be re-loaned to the
Partnership on the same terms and conditions as are applicable to the
Company's borrowing of such funds. Indebtedness may be in the form of purchase
money obligations to sellers of timberlands to the Partnership, publicly or
privately placed debt instruments, or financing from banks, institutional
investors or other lenders, any of which indebtedness may be unsecured or may
be secured by mortgages or other interests in the Company's assets. However,
the Timber Purchase Agreement restricts the use of the Potlatch Southern
Timberlands as collateral, and, as described above, the Company has agreed to
refrain from taking actions that would cause Potlatch to breach its debt
covenants, which include certain limitations on liens. Other than these
limitations, there are presently no limits on the number or amount of
mortgages or other interests which may be placed on any one property or asset.
In addition, such indebtedness may be recourse to all or any part of the
property of the Company or may be limited to the particular property to which
the indebtedness relates. The proceeds from any borrowings may be used for the
payment of distributions, for working capital, to pay the exchange price
payable for Partnership Units under the Partnership Agreement, to refinance
indebtedness, to finance acquisitions or for other purposes deemed appropriate
by the Board of Directors.
In the event that the Board of Directors determines to raise additional
equity capital, the Board has the authority, without stockholder approval, to
issue additional shares of authorized Common Stock or Preferred Stock on such
terms and for such consideration as it deems appropriate, including in
exchange for property. The Company's then-existing stockholders will have no
preemptive right to purchase any of the shares so issued. If the Board of
Directors determines to raise additional equity capital, the Company will
contribute such funds to the Partnership in return for additional Partnership
Units. In addition, under certain circumstances the Company may issue
additional shares of Common Stock in connection with the exchange of
Partnership Units for shares of Common Stock pursuant to the exercise of the
limited partners' exchange rights under the Partnership Agreement. See "The
Partnership Agreement."
The Board of Directors also has the authority to cause the Partnership to
issue additional Partnership Units in any manner (and on such terms and for
such consideration) as it deems
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appropriate, including in exchange for timberlands, subject to the requirement
that any issuance of Partnership interests having rights superior to those of
the then-existing limited partnership interests will require the prior consent
of a majority of the limited partnership interests for so long as all limited
partnership interests would, if exchanged for Common Stock, represent at least
20% of the then outstanding Common Stock. See "The Partnership Agreement--
Issuance of Additional Limited Partnership Interests."
WORKING CAPITAL RESERVES
The Company plans to maintain working capital reserves (and when not
sufficient, access to borrowings) in amounts that the Board of Directors
determines to be adequate to meet normal contingencies in connection with the
operation of the Company's business and investments and to facilitate the
payment of anticipated distributions to stockholders.
CONFLICT OF INTEREST POLICIES
The Audit Committee will periodically review the implementation of the
Timber Purchase Agreement, including the procedures used to determine the
prices paid by Potlatch, and will be responsible for reviewing and approving
other transactions in which Potlatch has a material interest. The Company, the
Partnership and Potlatch will also enter into an Opportunities Agreement
designed to allocate their respective rights to pursue certain timberland
acquisitions and other business opportunities. See "Certain Relationships and
Related Transactions." However, there can be no assurance that these
procedures and contractual provisions will eliminate the influence of
conflicts of interest, and their failure to do so could permit actions to be
taken that fail to reflect fully the interests of all stockholders. See "Risk
Factors--Conflicts of Interest."
Pursuant to Delaware law, each of the Company's directors is required to
discharge his or her duties in good faith, with the care an ordinarily prudent
person in a like position would exercise under similar circumstances and in a
manner which he or she reasonably believes to be in the best interests of the
Company. In addition, under Delaware law, a contract or transaction between
the Company and any of its directors or between the Company and a corporation,
firm or other entity in which one of its directors has a financial interest or
of which such person is an officer or director is not void or voidable solely
because of (a) such interest or position, (b) the presence or participation of
the director at the meeting of the Board or a committee of the Board that
authorizes or approves or ratifies the contract or transaction or (c) the
counting of the vote of the director for the authorization of the contract or
transaction, if (i) after disclosure of the material facts concerning such
person's interest and concerning the contract or transaction, the contract or
transaction is approved by a majority of the disinterested directors or a
majority of the stockholders, or (ii) the transaction is fair to the Company.
OTHER POLICIES
The Company intends to operate in a manner that will permit the Company to
qualify for taxation as a REIT under the Code unless, because of changes in
circumstances, the Code or the Treasury Regulations, the Board of Directors
determines that it is no longer in the Company's best interests to qualify as
a REIT. The Company also intends to operate in a manner that will not subject
it to regulation under the Investment Company Act of 1940, as amended. The
Company does not intend (i) to invest in the securities of other issuers
(other than the Partnership) for the purpose of exercising control over such
issuer, (ii) to underwrite securities of other issuers or (iii) to trade
actively in loans or other investments.
The Company may make investments other than as previously described,
although it currently does not intend to do so. The Company has authority to
repurchase or otherwise reacquire Common Stock or any other securities it may
issue and may engage in such activities in the future. The Board
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of Directors has no present intention of causing the Company to repurchase any
of the shares of Common Stock, and any such action would be taken only in
conformity with applicable federal and state laws and the requirements for
qualifying as a REIT under the Code and the Treasury Regulations. Although it
may do so in the future, except in connection with the Formation Transactions,
the Company has not issued Common Stock or any other securities in exchange
for property, nor has it reacquired any of its Common Stock or any other
securities. See "The Formation Transactions." The Company may make loans to
third parties, including, without limitation, to its officers and directors.
The Company has not engaged in trading, underwriting or agency distribution or
sale of securities of other issuers, nor has the Company invested in the
securities of other issuers other than the Partnership for the purpose of
exercising control.
INFORMATION REGARDING POTLATCH
This Prospectus relates only to the Common Stock offered hereby and does not
relate to any securities of Potlatch. Potlatch, incorporated in 1903, is an
integrated forest products company engaged principally in the growing and
harvesting of timber and the manufacture and sale of wood products, printing
papers and other pulp-based products. Potlatch will own approximately 343,000
acres of timberland in Minnesota, approximately 672,000 acres of timberland in
northern Idaho and a 22,000-acre hybrid poplar plantation in Oregon after the
consummation of the Formation Transactions. Potlatch's manufacturing
facilities are located in Idaho, Arkansas, Minnesota and Nevada, and in
connection with the Formation Transactions, Potlatch will acquire additional
facilities in Mississippi.
Potlatch is subject to the informational requirements of the Exchange Act
and is required to file reports and other information with the Commission.
Copies of such reports and other information may be inspected and copied at
certain offices of the Commission located at 450 Fifth Street, N.W.,
Washington, D.C. 20549 and at the Commission's regional offices located at
Citicorp Center, 500 West Madison, 14th Floor, Chicago, IL 60661 and Seven
World Trade Center, 13th Floor, New York, NY 10048. Copies of such material
can be obtained from the Public Reference Section of the Commission at 450
Fifth Street, N.W., Washington, D.C. 20549 at prescribed rates. Such material
may also be accessed electronically at the Commission's World Wide Web site at
http://www.sec.gov and at the offices of the New York Stock Exchange, Inc., 20
Broad Street, New York, NY 10015, and the Pacific Stock Exchange, 301 Pine
Street, San Francisco, CA 94104. Potlatch is not required to, and will not,
provide annual or other reports to holders of the Company's Common Stock.
THE FORMATION TRANSACTIONS
The Company was formed in February 1998, and the Partnership was formed in
May 1998. Substantially contemporaneously with the consummation of the
Offering, the Company, Potlatch and ATCO will engage in the transactions
described below (the "Formation Transactions"), which are designed to
consolidate the ownership of the Initial Timberlands in the Partnership, to
facilitate the Offering and to enable the Company to qualify as a REIT for
federal income tax purposes commencing with the year ending December 31, 1998.
. Potlatch will contribute its timberlands in Arkansas to the Partnership
in exchange for 20,000,000 Partnership Units.
. Potlatch will acquire the sole share of the Company's Special Voting
Stock.
. The Company will sell 15,000,000 shares of Common Stock in the Offering
and will use the net proceeds of the Offering to fund a portion of the
$410 million purchase price (including assumed indebtedness) for the
acquisition of ATCO, which will be effected through the merger of a
newly formed subsidiary of the Company into ATCO, with ATCO initially
surviving as a wholly owned subsidiary of the Company.
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. Potlatch will acquire from other entities controlled by ATCO's
stockholders certain timber converting assets, consisting primarily of
two hardwood sawmills and a veneer plant located near Vicksburg,
Mississippi and a log transportation business, for approximately $60
million (including the assumption of indebtedness).
. The Company will contribute to the Partnership the ATCO Timberlands and
certain farmlands and interests in commercial real estate formerly owned
by ATCO; the Company will become the sole general partner of the
Partnership, and the Partnership will issue 15,000,000 Partnership Units
to the Company pursuant to the Partnership Agreement, which will be
amended and restated in the form described under "The Partnership
Agreement."
. The Partnership and Potlatch will enter into the Timber Purchase
Agreement.
. The Company and Potlatch will enter into an Administrative Services
Agreement, the Opportunities Agreement and a Registration Rights
Agreement providing Potlatch with registration rights, as described
under "Certain Relationships and Related Transactions."
. The Company will enter into the $200 million Credit Facility.
. The Company will borrow approximately $111.1 million under the Credit
Facility assuming a public offering price of $20.00 per share (which
amount will be increased or decreased if the net proceeds to the Company
of the Offering are less than or greater than the assumed amount of $276
million), a portion of which will be applied toward the cash purchase
price for the ATCO acquisition not funded through the Offering, and
$21.4 million of which will be used to repay the Company's assumed
portion of a $50 million loan that Potlatch extended to ATCO in October
1997. See "Certain Relationships and Related Transactions."
. The Partnership will assume the Company's obligations under the Credit
Facility.
As a result of the Formation Transactions, (i) the Company will be the sole
general partner of the Partnership and will own 15,000,000 Partnership Units,
which will represent an approximately 42.9% economic interest in the
Partnership, (ii) Potlatch will own 20,000,000 Partnership Units, which will
represent an approximately 57.1% economic interest in the Partnership, (iii)
Potlatch will own the sole share of Special Voting Stock, initially entitling
Potlatch to approximately 57.1% of the total voting power of the Company, (iv)
the Partnership will own a fee interest in the Initial Timberlands, and (v)
the Partnership and Potlatch will be parties to the Timber Purchase Agreement.
The terms of the Formation Transactions, including the provisions of the
Timber Purchase Agreement, were determined when Potlatch was the sole
stockholder of the Company. Accordingly, such terms may be less favorable to
the Company than if they had been the subject of arm's-length negotiations. In
addition, no third-party appraisal was obtained for the purpose of determining
the value of the timberlands contributed to the Partnership by Potlatch or the
timberlands to be acquired from ATCO. As a result, the value of the equity
interests received in the Formation Transactions and the Offering based on the
initial public offering price may exceed the fair market value of the Company.
See "Risk Factors--Conflicts of Interest."
In the Formation Transactions, the Company will acquire ATCO, and the
Partnership will own the timberlands, standing timber and other real estate
assets previously owned by ATCO. For federal income tax purposes, the
difference between the value of the assets contributed to the Partnership by
ATCO and their basis for federal income tax purposes must be taken into
account by ATCO (and thus, the Company) when the Partnership sells timber from
the lands contributed by ATCO or otherwise disposes of such assets. The assets
contributed to the Partnership which are attributable to ATCO are expected to
have a low tax basis. Accordingly, upon a disposition of such assets (such as
the harvesting of the ATCO Timberlands), the Company will generally be
allocated more taxable income than the amount of cash it will be entitled to
receive from the Partnership due to such disposition. On the other hand,
Potlatch will be allocated all of the gain attributable to the difference
between the value
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of the Potlatch Southern Timberlands as of their contribution to the
Partnership and their basis for federal income tax purposes. Thus, the
Company's share of cash distributed from the Partnership is expected to differ
from the amount of taxable income allocated to it by the Partnership. This may
impair the Company's ability to make distributions. See "Risk Factors--
Potential Differences Between Taxable Income and Cash Available for
Distribution."
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CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In addition to its ownership of Special Voting Stock and Partnership Units
and its commitment to purchase timber pursuant to the Timber Purchase
Agreement, Potlatch will have certain other relationships and transactions
with the Company, as described below and elsewhere in this Prospectus.
ADMINISTRATIVE SERVICES AGREEMENT
In connection with the Offering, Potlatch and the Company have entered into
an administrative services agreement whereby Potlatch has committed to provide
the Company with certain administrative services, in areas such as human
resources, accounting and tax, for up to five years following the Offering at
a price equal to Potlatch's cost. The Company will be entitled to terminate
this arrangement at any time, upon nine months' notice.
OPPORTUNITIES AGREEMENT
In connection with the Formation Transactions, Potlatch, the Company and the
Partnership will enter into an Opportunities Agreement which gives the
Partnership the first opportunity to pursue any acquisition of timberlands in
the United States, subject to certain limited exceptions. In the event that
Potlatch desires to acquire any interest in timberlands, the Opportunities
Agreement requires that Potlatch give prior notice to the Partnership, and the
Partnership will then have the exclusive right to negotiate and consummate the
proposed acquisition. Potlatch may not make the acquisition unless the
Partnership rejects or terminates its pursuit of the opportunity.
The Partnership's right of first opportunity does not apply in certain
limited circumstances. Potlatch will have a right of first opportunity to
negotiate and consummate acquisitions of timberlands located exclusively
within 150 miles of Potlatch's present converting facilities in Idaho and
Minnesota. In addition, Potlatch will have a right of first opportunity with
respect to acquisitions in which non-timberland assets represent a majority of
the fair market value of the assets being acquired. Upon Potlatch's completion
of such an acquisition, however, the Opportunities Agreement requires that
Potlatch offer (unless it is legally or contractually prohibited from doing
so) the timberland assets to the Partnership at fair market value and
otherwise on terms substantially similar to those applicable to Potlatch's
acquisition. Potlatch's offer must indicate whether the purchase price will be
payable in cash, Partnership Units (valued based on average closing prices of
the Company's Common Stock immediately prior to consummation of the
acquisition by Potlatch) or a combination thereof. Potlatch is obligated to
provide to the Partnership any information reasonably requested by the
Partnership to facilitate its evaluation of the offer, which must be accepted
(if at all) within 30 days after receipt. The fair market value of the
timberlands will be determined in accordance with an appraisal procedure
commencing immediately after the Partnership accepts the offer.
The Opportunities Agreement will terminate when Potlatch beneficially owns
less than 20% of the Company's outstanding voting power.
REGISTRATION RIGHTS AGREEMENT
Pursuant to a Registration Rights Agreement, Potlatch will be entitled to
"piggyback" registration rights commencing on the second anniversary of the
consummation of the Offering, under which it may include shares of Common
Stock acquired in exchange for Partnership Units in certain Securities Act
registrations effected by the Company in the future. Potlatch will also be
granted the right, commencing on the second anniversary of the consummation of
the Offering, to demand the registration for resale of shares acquired by
Potlatch in exchange for Partnership Units no more than twice per year, so
long as each such registration covers shares having a value of at least $50.0
million.
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OTHER MATTERS
In October 1997, Potlatch loaned $50.0 million to ATCO under a promissory
note maturing in five years. Approximately $21.4 million of this note's
outstanding balance will be assumed by the Company in connection with its
acquisition of ATCO in the Formation Transactions, and will be repaid
immediately thereafter through borrowing under the Credit Facility.
Potlatch has advanced the Company's expenses associated with the Offering,
which are estimated at $3,000,000, and will be repaid by the Company promptly
after the consummation of the Offering.
THE PARTNERSHIP AGREEMENT
The following summary of the Partnership Agreement describes the material
provisions of such agreement as it will be in effect immediately after the
Formation Transactions. This summary is qualified in its entirety by reference
to the Partnership Agreement, a form of which is filed as an exhibit to the
Registration Statement of which this Prospectus is a part.
MANAGEMENT
The Partnership was organized as a Delaware limited partnership in May 1998.
Upon consummation of the Offering, the Company will be the sole general
partner of, and will hold approximately 42.9% of the economic interests in,
the Partnership. The Company will hold all of its interests in the Partnership
as a general partner interest, and will conduct all of its business through
the Partnership.
Pursuant to the Partnership Agreement, the Company, as the sole general
partner of the Partnership, generally has full and exclusive responsibility
and discretion in the management, operation and control of the Partnership,
including the ability to cause the Partnership to enter into certain major
transactions, including acquisitions and dispositions of properties. No
limited partner may take part in the operation, management or control of the
business of the Partnership by virtue of being a holder of Partnership Units.
Certain restrictions apply to the Company's ability to take or to cause the
Partnership to take certain actions that would cause Potlatch to breach its
debt covenants and to change the nature of the Company's business, as
described below. The Partnership Agreement also restricts the Company's
ability to engage in certain business combinations, as described more fully
under "--Extraordinary Transactions" below.
The Partnership Agreement provides that all business activities of the
Company, including all activities pertaining to the acquisition and operation
of properties, must be conducted through the Partnership.
The Partnership Agreement provides that, for financial accounting purposes,
gain and loss will be allocated among the partners in a manner determined by
the general partner in good faith, and which follows as closely as practicable
the "remedial method" of allocating gain and loss for federal income tax
purposes. This method is outlined in Section 704 of the Code and the related
regulations.
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NO REMOVAL OF THE GENERAL PARTNER; TRANSFER OF THE GENERAL PARTNER'S INTEREST
The Partnership Agreement does not permit the limited partners to remove the
Company as general partner of the Partnership. The Company may not transfer
any of its interests in the Partnership (defined to include mergers and other
business combinations involving the Company) except (i) with the prior consent
of a majority of the limited partnership interests, (ii) in connection with a
merger, sale of all or substantially all of its assets or a reclassification
and certain other changes in the Company's shares for which it has obtained
the approval of a majority of the limited partnership interests, or (iii) in
connection with a consolidation or merger in which the Company is not the
surviving entity if (A) such transaction does not result in a materially
adverse tax consequence for a majority in interest of the limited partners,
(B) upon consummation the surviving entity contributes its assets to the
Partnership in exchange for Partnership Units, (C) stockholders of the Company
immediately prior to such transaction own at least 70% of the voting power of
the surviving entity upon consummation and (D) the surviving entity assumes
the obligations of the Company as general partner.
AMENDMENTS OF THE PARTNERSHIP AGREEMENT
Generally, the Partnership Agreement may be amended with the approval of the
Company, as general partner, and, so long as all limited partnership interests
would represent at least 20% of the then-outstanding Common Stock if exchanged
for Common Stock, the approval of limited partners holding a majority of the
limited partnership interests. Certain amendments that would, among other
things, convert a limited partner's interest into a general partner's
interest, modify the limited liability of a limited partner, alter the
interest of a partner in profits or losses or the right to receive
distributions, or alter or modify the exchange right described below, must be
approved by each partner that would be adversely affected by such amendment.
In addition, the prior consent of Potlatch, in its sole discretion, is
required for the amendment of certain provisions (i) restricting the
Partnership's sale or pledge of the Potlatch Southern Timberlands and certain
transactions between the Partnership and the partners, (ii) requiring the
Company to conduct its business through the Partnership and to refrain from
taking actions that would cause Potlatch to breach its debt covenants, and
(iii) providing for the transfer of the Potlatch Southern Timberlands to
Potlatch upon the Partnership's dissolution or its repudiation of the Timber
Purchase Agreement.
TRANSFER OF PARTNERSHIP UNITS; SUBSTITUTE LIMITED PARTNERS
The Partnership Agreement provides that limited partners generally may
transfer their Partnership Units without the consent of any other person, but
may substitute a transferee as a limited partner only with the prior written
consent of the Company as the general partner of the Partnership. In addition,
limited partners may not transfer Partnership Units in violation of certain
regulatory and other restrictions set forth in the Partnership Agreement.
EXCHANGE OF PARTNERSHIP UNITS
On and after the second anniversary of the completion of the Offering, the
Partnership will be obligated to exchange each Partnership Unit held by a
limited partner at the request of the holder thereof, for cash equal to the
fair market value of one share of Common Stock at the time of such exchange
(as determined in accordance with the provisions of the Partnership
Agreement), provided that the Company may elect to acquire any such
Partnership Unit presented for exchange for one share of Common Stock (subject
to antidilution adjustments) or an amount of cash of the same value. The
exchange right will also become immediately exercisable if a third party makes
a tender or exchange offer for more than 10% of the outstanding shares of
Common Stock and in the event of a sale of all or substantially all of the
Company's assets, certain extraordinary dividends and certain mergers and
other business combinations involving the Company. In addition, upon a
termination of the Timber Purchase Agreement due to the Partnership's
repudiation of that agreement, then so long
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as Potlatch or its successor and their subsidiaries hold more than 50% of the
Partnership Units initially held by Potlatch, Potlatch and any affiliate of
Potlatch holding Partnership Units may cause the Partnership to exchange all
such Partnership Units for a price equal to the cash exchange price, payable
by the transfer of title to all of the timberlands that were contributed to
the Partnership by Potlatch (or lands acquired in exchange therefor) with a
cash adjustment payable by Potlatch or the Partnership, as the case may be,
for any difference between such exchange price and the fair market value of
the transferred timberlands. With each exchange of Partnership Units, the
Company's percentage ownership interest in the Partnership will increase.
Potlatch will have certain rights, pursuant to a separate Registration Rights
Agreement, to cause the Company to register under the Securities Act the
resale of shares of Common Stock that may be issued to Potlatch in exchange
for its Partnership Units. See "Certain Relationships and Related
Transactions."
ISSUANCE OF ADDITIONAL LIMITED PARTNERSHIP INTERESTS
The Company is authorized, without the consent of the limited partners, to
cause the Partnership to issue additional Partnership Units to the Company, to
the limited partners or to other persons for such consideration and on such
terms and conditions as the Company deems appropriate, subject to the
requirement that, for so long as all limited partnership interests would
represent at least 20% of the then-outstanding Common Stock if exchanged for
Common Stock, a majority of the limited partnership interests must consent to
the issuance of any partnership interests having rights superior to those of
the then-existing limited partnership interests. If additional Partnership
Units are issued to the Company, then the Company must (i) issue additional
shares of Common Stock and must contribute to the Partnership the entire
proceeds received by the Company from such issuance or (ii) issue additional
Partnership Units to all partners in proportion to their respective interests
in the Partnership. In addition, the Company may cause the Partnership to
issue to the Company additional partnership interests in different series or
classes, which may be senior to the Partnership Units, in conjunction with an
offering of securities of the Company having substantially similar rights, the
proceeds of which are contributed to the Partnership. Consideration for
additional partnership interests may be cash or other property or assets. No
limited partner has preemptive, preferential or similar rights with respect to
additional capital contributions to the Partnership or the issuance or sale of
any partnership interests therein.
EXTRAORDINARY TRANSACTIONS
The Partnership Agreement provides that the Company may not generally engage
in any merger, consolidation or other combination with or into another person
or sale of all or substantially all of its assets, or any reclassification,
recapitalization or other change of outstanding shares without the prior
consent of at least a majority of the limited partnership interests.
Notwithstanding the foregoing, the Company may merge into another entity
without obtaining such consent if, among other things, the Company's
stockholders own at least 70% of the voting power of the surviving entity (or
the entity in control of the surviving entity) and the surviving entity
expressly assumes the obligations of the Company as general partner of the
Partnership. See "--No Removal of the General Partner; Transfer of the General
Partner's Interest" above. This provision of the Partnership Agreement may
deter third parties from making acquisition proposals and may prevent the
Company from engaging in transactions that would otherwise be permissible
under its Charter.
OTHER COVENANTS
The Partnership Agreement provides that following the Offering, the
Partnership may not sell or otherwise transfer any of the Potlatch Southern
Timberlands without the prior written consent of Potlatch, in its sole
discretion, subject to limited annual exceptions for the sale of up to 5,000
acres (up to an aggregate of 20,000 acres plus acreage containing any
incremental volume of timber added to the Timber Purchase Agreement, in any
20-year period) and the exchange of up to an additional
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10,000 acres for reasonably equivalent or more productive parcels. The
agreement also restricts the Company's ability to pledge or encumber the
Potlatch Southern Timberlands.
In addition, the agreement provides that without the approval of at least a
majority of the Company's voting power, the Partnership may not effect any
transaction that would cause a majority of the fair market value of its assets
to be attributable to any business other than the timberlands business.
The Partnership Agreement prohibits the Company and the Partnership from
incurring, assuming or guaranteeing any indebtedness, or taking any other
action, that would cause Potlatch to breach its existing debt covenants or
future debt covenants that are no more restrictive. See "Risk Factors--
Conflicts of Interest" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations of the Company--Liquidity and Capital
Resources."
EXCULPATION AND INDEMNIFICATION OF THE GENERAL PARTNER
The Partnership Agreement generally provides that the Company, as general
partner of the Partnership, will not be liable for monetary damages to the
Partnership or any limited partner for losses sustained or liabilities
incurred as a result of any act or omission taken or permitted by the Company
in connection with the Partnership's business that is determined by the
Company, in good faith, to be in or not against the Partnership's best
interests, unless such act or omission constitutes willful misconduct, fraud,
gross negligence or a knowing violation of law or the Partnership Agreement.
In addition, the Company is not responsible for any misconduct or negligence
on the part of its agents, provided that it appointed them in good faith. The
limited partners of the Partnership have agreed that, in fulfilling the
fiduciary duties owed by the Company to the limited partners, the Company is
not required to consider the separate interests of the limited partners
(including tax consequences to the limited partners), unless the Partnership
Agreement specifies otherwise.
The Partnership Agreement also provides for indemnification of the Company,
the limited partners, the directors and officers of the Company and the
limited partners, and such other persons as the Company may from time to time
designate, against any losses, claims, damages, liabilities, judgments, fines,
settlements and expenses arising from the operations of the Partnership so
long as the indemnitee acted in good faith and in a manner it reasonably
believed to be in, or not opposed to, the best interests of the Partnership,
and in the case of any criminal proceeding, the indemnitee had no reasonable
cause to believe that its conduct was unlawful.
TAX MATTERS
The Company will be the tax matters partner of the Partnership and, as such,
will generally have the authority to make tax elections under the Code on
behalf of the Partnership.
TERM
The Partnership will continue in full force and effect until December 31,
2198 or until sooner dissolved pursuant to the terms of the Partnership
Agreement.
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FEDERAL INCOME TAX CONSEQUENCES
The following summary discusses the federal income tax consequences
reasonably anticipated to be material to a prospective stockholder of the
Company in connection with his or her ownership of shares of Common Stock. The
discussion does not address the tax consequences that may be relevant to a
particular stockholder subject to special treatment under certain federal
income tax laws, such as dealers in securities, banks, insurance companies,
tax-exempt organizations (except to the extent discussed under the heading
"Taxation of Tax-Exempt Stockholders of the Company") or non-United States
person (except to the extent discussed under the heading "Taxation of Non-
United States Stockholders of the Company"). This discussion does not address
any consequences arising under the laws of any state, locality or foreign
jurisdiction.
The information in this section and the opinions of Pillsbury Madison &
Sutro LLP expressed herein (including specifically the opinions of such firm
set forth under "Taxation of the Company--General," "Taxation of the Company--
Income Tests," and "Tax Aspects of the Company's Ownership of Interests in the
Partnership--Entity Classification"), as well as the opinion of Skadden, Arps,
Slate Meagher & Flom LLP as to the qualification of ATCO as a REIT, are based
on current provisions of the Code, existing, temporary and currently proposed
Treasury Regulations thereunder, the legislative history of the Code, existing
administrative interpretations and practices of the Internal Revenue Service
(the "Service"), and judicial decisions, all of which are subject to change
either prospectively or retroactively. No assurance can be given that future
legislation, Treasury Regulations, administrative interpretations and judicial
decisions will not significantly change the current law or adversely affect
existing interpretations of current law. Except as expressly set forth in this
discussion, neither the Company nor ATCO has requested, or plans to request,
any rulings from the Service concerning the tax consequences of the
transactions described herein. Thus, no assurance can be provided that the
statements set forth herein (which do not bind the Service or the courts) will
not be challenged by the Service or will be sustained by a court if so
challenged.
As used in this section, the term "Company" refers solely to Timberland
Growth Corporation.
Each prospective purchaser of shares of Common Stock is advised to consult
with his or her own tax advisor regarding the specific tax consequences to him
or her of the ownership and disposition of shares of Common Stock in light of
his or her specific tax and investment situations and the specific federal,
state, local and foreign tax laws applicable to him or her.
TAXATION OF THE COMPANY
GENERAL
The Company plans to make an election to be taxed as a REIT under Sections
856 through 860 of the Code, commencing with its taxable year ending December
31, 1998. The Company believes that, commencing with its taxable year ending
December 31, 1998, it will be organized and will operate in such a manner as
to qualify for taxation as a REIT. The Company intends to operate in such a
manner as to qualify for taxation as a REIT under Sections 856 through 860 of
the Code for each of its tax years ending subsequent to December 31, 1998. No
assurance can be given, however, that the Company will operate in a manner so
as to qualify, or remain qualified, as a REIT.
The sections of the Code and the corresponding Treasury Regulations relating
to the taxation of REITs and their stockholders are highly technical and
complex. The following sets forth the material aspects of the rules that
govern the Federal income tax treatment of a REIT and its stockholders. This
summary is qualified in its entirety by the applicable Code provisions, rules
and regulations promulgated thereunder, and administrative and judicial
interpretations thereof.
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Pillsbury Madison & Sutro LLP has acted as counsel to the Company in
connection with the Offering, the Company's acquisition of ATCO (the
"Merger"), and the Company's election to be taxed as a REIT. Skadden, Arps,
Slate, Meagher & Flom LLP has acted as special tax counsel to ATCO in
connection with the Merger and ATCO's election to be taxed as a REIT beginning
with its taxable year commencing on January 1, 1998. In the opinion of
Pillsbury Madison & Sutro LLP, commencing with the Company's tax year ending
December 31, 1998, the Company will be organized in conformity with the
requirements for qualification as a REIT, and the Company's proposed method of
operation will enable it to meet the requirements for qualification and
taxation as a REIT provided that (i) the elections and other procedural steps
described in this discussion of "Federal Income Tax Consequences" are
completed in a timely fashion and (ii) the Company and the Partnership operate
in accordance with various assumptions and factual representations made by the
Company and the Partnership concerning their organization, business,
properties and operations (and the organization, business, properties and
operation of ATCO prior to the Merger). In addition, in providing its opinion,
Pillsbury Madison & Sutro LLP is relying upon an opinion of Skadden, Arps,
Slate, Meagher & Flom, LLP as to the qualification of ATCO as a REIT. In
providing its opinion, Skadden, Arps, Slate, Meagher & Flom LLP is relying
upon certain factual representations received from ATCO. Qualification and
taxation as a REIT depend upon the Company's ability to meet on a ongoing
basis (through actual annual operating results, distribution levels and
diversity of share ownership) the various qualification tests imposed under
the Code discussed below, the results of which will not be reviewed by
Pillsbury Madison & Sutro LLP on a continuing basis. No assurance can be given
that the actual results of the Company's operations for any particular taxable
year will satisfy such requirements. Further, the anticipated income tax
treatment described in this Prospectus may be changed, perhaps retroactively,
by legislative, administrative or judicial action at any time. See "--Failure
of the Company to Qualify as a REIT."
If the Company qualifies for taxation as a REIT, it generally will not be
subject to federal corporate income taxes on that portion of its ordinary
income or capital gain that is currently distributed to stockholders. The REIT
provisions of the Code generally allow a REIT to deduct dividends paid to its
stockholders. This deduction for dividends substantially eliminates the
"double taxation" (at the corporate and stockholder levels) that generally
results from investment in a regular corporation. However, the Company will be
subject to federal income tax as follows: First, the Company will be taxed at
regular corporate rates on any undistributed REIT taxable income, including
undistributed net capital gains. See, however, "Distribution Policy" with
respect to the Company's ability to elect to treat as having been distributed
to its stockholders certain of its capital gains upon which the Company has
paid taxes, in which event so much of the taxes as have been paid by the
Company with respect to such income would also be treated as having been
distributed to stockholders. Second, under certain circumstances, the Company
may be subject to the "alternative minimum tax" on certain of its items of tax
preference. Third, if the Company has (i) net income from the sale or other
disposition of "foreclosure property" which is described in Section 1221(1) of
the Code (generally, property held primarily for sale to customers in the
ordinary course of the Company's trade or business) or (ii) other
nonqualifying income from foreclosure property, the Company will be subject to
tax at the highest corporate rate on such income. Fourth, if the Company has
net income from prohibited transactions (which are, in general, certain sales
or other dispositions of property described in Section 1221(1) of the Code),
such income will be subject to a 100% tax. Fifth, if the Company should fail
to satisfy the 75% gross income test or the 95% gross income test (as
discussed below), but has nonetheless maintained its qualification as a REIT
because certain other requirements have been met, the Company will be subject
to a 100% tax on an amount equal to (i) the gross income attributable to the
greater of the amount by which the Company fails the 75% or 95% test
multiplied by (ii) a fraction intended to reflect the Company's profitability.
Sixth, if the Company should fail to distribute during each calendar year at
least the sum of (i) 85% of its REIT ordinary income for such year, (ii) 95%
of its REIT capital gain net income for such year (other than capital gain
income the Company elects to retain and pay tax on) and (iii) any
undistributed taxable income from prior periods (other than capital
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gains from such years which the Company elected to retain and pay tax on), the
Company would be subject to a 4% excise tax on the excess of such required
distribution over the amounts actually distributed. Seventh, with respect to
any asset (a "Built-In Gain Asset") acquired by the Company from a corporation
which is or has been a C corporation (i.e., generally a corporation subject to
full corporate-level tax) in a transaction in which the basis of the Built-In
Gain Asset in the hands of the Company is determined by reference to the basis
of the asset in the hands of the C corporation, if the Company recognizes gain
on the disposition of such asset during the ten-year period (the "Recognition
Period") beginning on the date on which such asset was acquired by the
Company, then pursuant to regulations that have not yet been promulgated, to
the extent of the Built-In Gain (i.e., the excess of (a) the fair market value
of such asset over (b) the Company's adjusted basis in such asset, determined
as of the beginning of the Recognition Period), such gain will be subject to
tax at the highest regular corporate rate.
The results described above with respect to the recognition of Built-in Gain
assume that the Company will make an election pursuant to Notice 88-19 issued
by the Service. In this regard, the Built-In Gain rules would apply with
respect to any assets of ATCO deemed acquired by the Company as a result of
the Merger. For federal income tax purposes, the Merger is expected to be
treated as though the Company purchased the stock of ATCO from the former ATCO
stockholders for cash and then liquidated ATCO into the Company. The Company
believes that ATCO will qualify as a REIT during the period commencing on
January 1, 1998 and ending on the date of the Merger, and has obtained an
opinion of Skadden, Arps, Slate, Meagher & Flom LLP, special tax counsel to
ATCO, that ATCO will qualify as a REIT during such period, based in part on
certain assumptions and factual representations made to such firm by ATCO.
ATCO, in connection with its first REIT tax return for the short tax year
ending on the date of the Merger, expects to file an election under Notice 88-
19. ATCO has submitted a request for a ruling from the Service to the effect
that gain derived by ATCO from the disposal of its timber pursuant to an
agreement which qualifies for treatment under Section 631(b) will not be
subject to the Built-In Gain tax. Prospective stockholders should be aware
that there is currently no controlling authority concerning the applicability
of Notice 88-19 to gains derived by the Company from the disposition of
standing timber pursuant to an agreement which qualifies for treatment under
Section 631(b) of the Code. The Service, however, has concluded in a number of
private letter rulings that the Built-in Gain tax does not apply to such
transactions. Although private letter rulings are not binding precedent, they
offer insight into the Service's current position on a particular issue.
Accordingly, although no assurance can be given that the Service will issue a
favorable private letter ruling to ATCO on the Built-in Gain tax issue, the
Company does not anticipate that the disposal of ATCO's timber pursuant to an
agreement which qualifies under Section 631(b) will result in the imposition
of the Built-In Gain tax.
If ATCO does not timely file an election under Notice 88-19, or if ATCO does
not qualify as a REIT at all times during the period commencing on January 1,
1998 and ending on the date of the Merger, and, in either such case, the
Company does not make an election pursuant to Notice 88-19 (or if that
election was no longer available due to a change in applicable law), then ATCO
would recognize taxable gain as a result of the Merger under the Built-In Gain
rules. The Company intends to make a protective election under Notice 88-19
relating to the assets of ATCO in order to avoid the adverse tax consequences
that could otherwise result.
REQUIREMENTS FOR QUALIFICATION
To qualify as a REIT, the Company must elect to be so treated and must meet
the requirements, discussed below, relating to the Company's organization,
sources of income, nature of assets and distributions of income.
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ORGANIZATIONAL REQUIREMENTS
The Code defines a REIT as a corporation, trust or association (i) which is
managed by one or more trustees or directors; (ii) the beneficial ownership of
which is evidenced by transferable shares or by transferable certificates of
beneficial interest; (iii) which would be taxable as a domestic corporation
but for Sections 856 through 859 of the Code; (iv) which is neither a
financial institution nor an insurance company subject to certain provisions
of the Code; (v) the beneficial ownership of which is held by 100 or more
persons; and (vi) during the last half of each taxable year not more than 50%
in value of the outstanding stock of which is owned, directly or indirectly
through the application of certain attribution rules, by five or fewer
individuals (as defined in the Code to include certain entities). In addition,
certain other tests, described below, regarding the nature of its income and
assets must also be satisfied. The Code provides that conditions (i) to (iv)
above, inclusive, must be met during the entire taxable year and that
condition (v) must be met during at least 335 days of a taxable year of twelve
months, or during a proportionate part of a taxable year of less than twelve
months. Conditions (v) and (vi) will not apply until after the first taxable
year for which an election is made to be taxed as a REIT.
The Company believes that it will have issued sufficient Common Stock with
sufficient diversity of ownership in the Offering to allow it to satisfy
conditions (v) and (vi) above. In addition, the Company's Charter provides for
restrictions intended to assist the Company in continuing to satisfy the share
ownership requirements described in (v) and (vi), above, regarding the
transfer and ownership of Common Stock. Such ownership and transfer
restrictions are described in "Description of Capital Stock--Restrictions on
Ownership and Transfer." As more fully described in "Description of Capital
Stock--Restrictions on Ownership and Transfer," the Charter provides that
stock in excess of the Ownership Limit owned by, or deemed to be owned or
transferred to, a stockholder will automatically be converted into Excess
Stock and transferred to a charity for resale, with the original stockholder
entitled to receive certain proceeds from such a resale. However, because of
the absence of authority on this issue, there is no assurance that the
operation of the Excess Stock or other provisions contained in the Charter
will, as a matter of law, prevent a concentration of ownership of stock in
excess of the Ownership Limit thereby causing the Company to violate the share
ownership requirement described in (vi), above. If the Company fails to
satisfy such share ownership requirement, the Company's status as a REIT will
terminate. See "--Failure of the Company to Qualify as a REIT." In rendering
its opinion that the Company is organized in a manner that permits the Company
to qualify as a REIT, Pillsbury Madison & Sutro LLP is relying on the
representations of the Company that the ownership of its stock (without regard
to the Excess Stock provisions of the Charter) satisfies the stock ownership
requirements set forth in clause (vi) above.
In addition, a corporation may not elect to become a REIT unless its taxable
year is the calendar year. The Company will have a calendar taxable year.
In order to qualify as a REIT, the Company cannot have at the end of any
taxable year any undistributed "earnings and profits" that are attributable to
a "C corporation" taxable year. The Company itself will be a newly formed
entity and will make a REIT election for its first taxable year. Hence, the
Company itself will not have any undistributed "C corporation earnings and
profits." As a result of the Merger and the related deemed liquidation of ATCO
for federal income tax purposes, however, the Company will succeed to certain
tax attributes of ATCO. ATCO expects to have distributed all of its "C
corporation earnings and profits" on or prior to December 31, 1997. ATCO
expects to qualify as a REIT during the short tax year commencing on January
1, 1998 and ending on the date of the Merger, and has obtained an opinion from
Skadden, Arps, Slate, Meagher & Flom LLP, special tax counsel to ATCO, to the
effect that, based on certain assumptions and factual representations, ATCO
will qualify as a REIT for such short tax year. If ATCO does not, for any
reason, qualify as a REIT during such short tax year, or if ATCO has any
accumulated earnings and profits from any year prior to such short tax year,
then the Company will succeed to such earnings and profits.
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If the Company does not distribute such earnings and profits by the end of its
first tax year, it will fail to qualify as a REIT. The Company and ATCO each
believe that ATCO will qualify as a REIT during the short tax year ending on
the date of the Merger and that ATCO has no accumulated "C corporation
earnings and profits" attributable to any year prior to the short tax year
with respect to which ATCO elected REIT status. There can be no assurance,
however, that the Service would not contend otherwise on a subsequent audit of
ATCO.
In the event that ATCO were determined not to qualify as a REIT, the
Company, if the Company were considered a "successor" to ATCO, would not be
eligible to elect REIT status for up to five years after the year in which
ATCO first failed to qualify as a REIT. The Company would be considered a
"successor" for these purposes, however, only if (i) persons who own more than
50% of the Common Stock of the Company at any time during the taxable year
ending after the Merger occurs owned, directly or indirectly, 50% or more in
value of the shares of ATCO during the first year in which it ceased to
qualify as a REIT and (ii) a significant portion of the Company's assets were
assets owned by ATCO. The Company does not believe that it will be considered
a successor to ATCO since it does not expect that persons who owned, directly
or indirectly, 50% or more in value of the shares of ATCO during the first
year in which ATCO ceased to qualify as a REIT will own more than 50% of the
Common Stock of the Company.
In the case of a REIT which is a partner in a partnership, Treasury
Regulations provide that the REIT will be deemed to own its proportionate
share of the assets of the partnership and will be deemed to be entitled to
the income of the partnership attributable to such share. In addition, the
character of the assets and gross income of the partnership shall retain the
same character in the hands of the REIT for purposes of Section 856 of the
Code, including satisfying the gross income tests and the asset tests. A
summary of the rules governing the federal income taxation of partnerships and
their partners is provided below in "--Tax Aspects of the Company's Ownership
of Interests in the Partnership."
INCOME TESTS
In order to maintain qualification as a REIT, the Company annually must
satisfy two gross income requirements. First, at least 75% of the Company's
gross income (excluding gross income from prohibited transactions) for each
taxable year must be derived directly or indirectly from investments relating
to real property or mortgages on real property (including "rents from real
property" and "gain from the sale or other disposition of real property" other
than property described in Section 1221(1) of the Code) or from certain types
of temporary investments. Second, at least 95% of the Company's gross income
(excluding gross income from "prohibited transactions") for each taxable year
must be derived from such real property investments, dividends, interest and
gain from the sale or disposition of stock or securities (or from any
combination of the foregoing).
The Company believes that the income it will receive under the Timber
Purchase Agreement will be characterized for federal income tax purposes as
gain from the sale or other disposition of real property which is not property
described in Section 1221(1) of the Code. In the opinion of Pillsbury Madison
& Sutro LLP, counsel to the Company in connection with its election to be
taxed as a REIT, income realized by the Partnership from the disposal of
timber held (or deemed held pursuant to the Code) for more than one year
pursuant to the Timber Purchase Agreement: (i) will be characterized as gain
from the sale or other disposition of real property, and (ii) will not
constitute income from the sale or other disposition of property described in
Section 1221(1) of the Code, provided that: (a) the Company, the Partnership
and Potlatch comply with the terms and conditions of the Timber Purchase
Agreement and (b) the Company, the Partnership and Potlatch operate in
accordance with various assumptions and factual representations made by the
Company, the Partnership and Potlatch. Investors should be aware that there
are no controlling Treasury Regulations, published rulings or judicial
decisions involving agreements with terms substantially the same as the Timber
Purchase
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Agreement that discuss whether income from such an agreement will be
characterized as gain from the sale or other disposition of real property
which is not described in Section 1221(1) of the Code. The opinion of
Pillsbury Madison & Sutro LLP discussed above is based on all of the facts and
circumstances and upon legislative history, judicial decisions, rulings,
regulations and other regulatory pronouncements involving analogous
situations. Opinions of counsel are not binding upon the Service or any court,
and there can be no complete assurance that the Service will not successfully
assert a contrary position. If the income realized by the Partnership from the
disposal of timber held (or deemed held pursuant to the Code) for more than
one year pursuant to the Timber Purchase Agreement is not characterized as
gain from the sale or other disposition of real property, or if such income is
considered to be income from the sale or other disposition of property
described in Section 1221(1) of the Code, then the Company may not be able to
satisfy either the 75% or the 95% gross income tests and, as a result, may
lose its REIT status.
Rents received by the Company will qualify as "rents from real property" in
satisfying the gross income requirements for a REIT described above only if
several conditions are met. First, the amount of rent must not be based in
whole or in part on the income or profits of any person. However, an amount
received or accrued generally will not be excluded from the term "rents from
real property" solely because it is based on a fixed percentage or percentages
of receipts or sales. Second, rents received from a tenant will not qualify as
"rents from real property" in satisfying the gross income tests if the REIT,
or an actual or constructive owner of 10% or more of the REIT, actually or
constructively owns 10% or more of such tenant (a "Related Party Tenant").
Third, if rent attributable to personal property, leased in connection with a
lease of real property, is greater than 15% of the total rent received under
the lease, then the portion of rent attributable to such personal property
will not qualify as "rents from real property." Finally, for rents received to
qualify as "rents from real property," the REIT generally must not operate or
manage the property or furnish or render services to the tenants of such
property, other than through an independent contractor from whom the REIT
derives no revenue. The REIT may, however, directly perform certain services
that are "usually or customarily rendered" in connection with the rental of
space for occupancy only and are not otherwise considered "rendered to the
occupant" of the property. To the extent that services (other than those
customarily furnished or rendered in connection with the rental of real
property) are rendered to the tenants of the property by an independent
contractor, the cost of the services must be borne by the independent
contractor. The Company does not and will not (i) charge rent for any property
that is based in whole or in part on the income or profits of any person
(except by reason of being based on a percentage of receipts or sales, as
described above), (ii) rent any property to a Related Party Tenant (unless the
Board determines in its discretion that the rent received from such Related
Party Tenant is not material and will not jeopardize the Company's status as a
REIT), (iii) derive rental income attributable to personal property (other
than personal property leased in connection with the lease of real property,
the amount of which is less than 15% of the total rent received under the
lease), or (iv) perform services considered to be rendered to the occupant of
the property, other than through an independent contractor from whom the
Company derives no revenue.
The Company anticipates that the only rental income it will receive will be
from certain farmlands and commercial properties acquired from ATCO and from
certain hunting leases. The Company believes that the income from such hunting
leases and properties will constitute "rents from real property" under the
rules discussed above.
If the Company fails to satisfy one or both of the 75% or 95% gross income
tests for any taxable year, it may nevertheless qualify as a REIT for such
year if it is entitled to relief under certain provisions of the Code. These
relief provisions will generally be available if the Company's failure to meet
such tests was due to reasonable cause and not due to willful neglect, the
Company attaches a schedule of the sources of its income to its federal income
tax return, and any incorrect information on the schedule was not due to fraud
with intent to evade tax. It is not possible, however, to state whether in all
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circumstances the Company would be entitled to the benefit of these relief
provisions. As discussed above in "--General," even if these relief provisions
apply, a tax would be imposed with respect to the excess net income.
Any net income realized by the Company from the sale or other disposition of
property described in Section 1221(1) of the Code (including the Company's
share of any such gain realized by the Partnership) will be treated as income
from a "prohibited transaction" and will be subject to a 100% penalty tax.
Property is described in Section 1221(1) of the Code if it is held as
inventory or primarily for sale to customers in the ordinary course of a trade
or business. Such prohibited transaction income may also have an adverse
effect upon the Company's ability to satisfy the income tests for
qualification as a REIT. Under existing law, whether property is held as
inventory or primarily for sale to customers in the ordinary course of a trade
or business is a question of fact that depends on all the facts and
circumstances with respect to the particular transaction.
As discussed above, in "--Income Tests," in the opinion of Pillsbury Madison
& Sutro LLP, counsel to the Company in connection with the Offering, the
Merger and the Company's election to be taxed as a REIT, income realized by
the Partnership from the disposal of timber pursuant to the Timber Purchase
Agreement will not constitute income from the sale or other disposition of
property described in Section 1221(1) of the Code, provided that: (a) the
Company, the Partnership and Potlatch comply with the terms and conditions of
the Timber Purchase Agreement and (b) the Company, the Partnership and
Potlatch operate in accordance with various assumptions and factual
representations made by the Company, the Partnership and Potlatch. It should
be emphasized, however, that such opinion does not relate to any income
received by the Partnership which is not realized from the disposal of timber
pursuant to the Timber Purchase Agreement. In addition, investors should be
aware that there are no controlling Treasury Regulations, published rulings or
judicial decisions involving agreements with terms substantially the same as
the Timber Purchase Agreement that discuss whether income from such an
agreement will be characterized as gain from the sale or other disposition of
property which is not described in Section 1221(1) of the Code. The opinion of
Pillsbury Madison & Sutro LLP discussed above is based on all of the facts and
circumstances and upon legislative history, judicial decisions, rulings,
regulations and other regulatory pronouncements involving analogous
situations. Opinions of counsel are not binding upon the Service or any court,
and there can be no complete assurance that the Service will not successfully
assert a contrary position. If the income realized by the Partnership from the
disposal of timber pursuant to the Timber Purchase Agreement is considered to
be income from the sale or other disposition of property described in Section
1221(1) of the Code, then the Company would be subject to the 100% penalty tax
on such income and, as noted above, in such a situation the Company may not be
able to satisfy the 75% or 95% of income tests necessary for it to qualify as
a REIT.
The Partnership intends to hold the Timberlands and its other properties for
investment with a view to long-term appreciation, to engage in the business of
acquiring, developing, owning and operating the Timberlands and its other
properties and to make such occasional sales of the Timberlands or its other
properties as are consistent with the Partnership's investment objectives.
There can be no assurance, however, that the Service might not contend that
one or more of such sales is a prohibited transaction and subject to the 100%
penalty tax.
ASSET TESTS
The Company, at the close of each quarter of its taxable year, must satisfy
three tests relating to the nature of its assets. First, at least 75% of the
value of the Company's total assets must be represented by real estate assets
including (i) its allocable share of real estate assets held by partnerships
in which the Company owns an interest (including its allocable share of the
assets held directly or indirectly through the Partnership) and (ii) stock or
debt instruments held for not more than one year purchased with the proceeds
of a stock offering or long-term (at least five years) debt offering
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of the Company, cash, cash items and government securities. Second, not more
than 25% of the Company's total assets may be represented by securities other
than those in the 75% asset class. Third, of the investments included in the
25% asset class, the value of any one issuer's securities owned by the Company
may not exceed 5% of the value of the Company's total assets, and the Company
may not own more than 10% of any one issuer's outstanding voting securities.
The Company anticipates that, as of the closing of the Formation
Transactions, substantially more than 75% of the fair market value of the
assets indirectly owned by the Company through the Partnership will consist of
timberlands owned in fee. The Company anticipates that, at all times,
substantially more than 75% of the assets indirectly owned by the Company
through the Partnership will consist of fee ownership of timberland.
Accordingly, the Company believes that it should be able to meet the 75% test
described above at the time of the Offering and on a going forward basis.
The Company anticipates that, upon the closing of the Formation
Transactions, the Partnership will own 100% of the nonvoting stock and none of
the voting stock of two corporations (the "Preferred Stock Subsidiaries"). By
virtue of its ownership of Partnership Units, the Company is considered to own
its pro rata share of stock of such Preferred Stock Subsidiaries. Neither the
Company nor the Partnership owns any outstanding voting securities of the
Preferred Stock Subsidiaries. In addition, the Company and its senior
management do not believe that the Company's pro rata share of the value of
the securities of either of the Preferred Stock Subsidiaries held by the
Partnership exceeds 5% of the total value of the Company's assets. The
Company's belief is based in part upon its analysis of the value of the
securities of the Preferred Stock Subsidiaries owned by the Partnership
relative to the other assets owned by the Partnership. No independent
appraisals have been obtained to support this conclusion, however, and
Pillsbury Madison & Sutro LLP, in rendering its opinion as to the
qualification of the Company as a REIT, is relying on the conclusions of the
Company and its senior management as to the value of the securities of the
Preferred Stock Subsidiaries. There can be no assurance that the Service might
not contend that the value of the securities of either of the Preferred Stock
Subsidiaries held by the Company (through the Partnership) exceeds the 5%
value limitation.
The 5% test described above must generally be met for any quarter in which
the Company acquires securities of the issuer. Thus, this requirement must be
satisfied not only on the date the Company acquires securities of each of the
Preferred Stock Subsidiaries but also each time the Company increases its
ownership of securities of any Preferred Stock Subsidiary (including as a
result of its interest in the Partnership, of the exercise by the partners of
their exchange rights or otherwise). Although the Company plans to take steps
to ensure that it satisfies the 5% value test for any quarter with respect to
which testing will occur, there can be no assurance that such steps will
always be successful or will not require a reduction in the Company's overall
interest in one or more of the Preferred Stock Subsidiaries.
The Company intends to liquidate the Preferred Stock Subsidiaries (whose
assets are expected to consist, subsequent to the Formation Transactions, of
cash, debt and liquid assets) shortly after the consummation of the Offering
and the Merger.
If the Company should fail to satisfy the asset tests at the end of a
calendar quarter, such a failure would not cause it to lose its REIT status if
(i) it satisfied all of the asset tests at the close of the preceding calendar
quarter and (ii) the discrepancy between the value of the Company's assets and
the asset requirements either did not exist immediately after the acquisition
of any particular asset or was not wholly or partly caused by such an
acquisition (i.e., the discrepancy arose from changes in the market values of
its assets). If the condition described in clause (ii) of the preceding
sentence were not satisfied, the Company could still avoid disqualification by
eliminating any discrepancy within 30 days after the close of the quarter in
which it arose.
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ANNUAL DISTRIBUTION REQUIREMENTS
In order to qualify as a REIT, the Company is required to distribute
dividends (other than capital gain dividends) to its stockholders in an amount
at least equal to (i) the sum of (a) 95% of the Company's "REIT taxable
income" (computed without regard to the dividends paid deduction and the
Company's net capital gain) and (b) 95% of the net income (after tax), if any,
from foreclosure property, minus (ii) the sum of certain items of noncash
income. Such distributions must be paid in the taxable year to which they
relate, or in the following taxable year if declared before the Company timely
files its tax return for such year and if paid on or before the first regular
dividend payment date after such declaration. To the extent that the Company
does not distribute (or is not treated as having distributed) all of its net
capital gain or distributes (or is treated as having distributed) at least
95%, but less than 100%, of its "REIT taxable income," as adjusted, it will be
subject to tax thereon at regular ordinary and capital gain corporate tax
rates. If the Company should fail to distribute during each calendar year at
least the sum of (i) 85% of its REIT ordinary income for such year, (ii) 95%
of its REIT capital gain income for such year (other than capital gain income
which the Company elects to retain and pay tax on as provided for below) and
(iii) any undistributed taxable income from prior periods (other than capital
gains from such years which the Company elected to retain and pay tax on), the
Company would be subject to a 4% excise tax on the excess of such required
distribution over the amounts actually distributed. Pursuant to recently
enacted legislation, the Company may elect to retain rather than distribute
its net long-term capital gains. The effect of such an election is that (i)
the Company is required to pay the tax on such gains at regular corporate tax
rates, (ii) its stockholders, while required to include their proportionate
share of the undistributed long-term capital gain in income, will receive a
credit or refund for their share of the tax paid by the Company; and (iii) the
basis of a stockholder's stock would be increased by the amount of the
undistributed long-term capital gains (minus the amount of capital gains tax
paid by the Company) included in income by such stockholder. In addition, if
the Company disposes of any Built-In Gain Asset during the applicable
Recognition Period, the Company will be required, pursuant to guidance issued
by the Service, to distribute at least 95% of the Built-In Gain (after tax),
if any, recognized on the disposition of such asset. The Company intends to
make timely distributions sufficient to satisfy these annual distribution
requirements.
It is possible that the Company, from time to time, may not have sufficient
cash or other liquid assets to meet these distribution requirements due to
timing or other differences between (i) the actual receipt of income and
actual payment of deductible expenses, (ii) the inclusion of such income and
deduction of such expenses in arriving at taxable income of the Company and
(iii) the Company's percentage interest in the Partnership's cash flow and the
Company's share of taxable income arising upon a disposition of property
contributed to the Partnership where the fair market value of such property
exceeds its tax basis. If such differences occur, in order to meet the
distribution requirements, the Company may find it necessary to arrange for
short or possibly long-term borrowings, equity issuances or asset sales to pay
dividends in the form of taxable stock dividends (if it is practicable to do
so), or elect to retain and pay tax on a portion of its net long-term capital
gains in the manner provided for in the preceding paragraph.
Under certain circumstances, the Company may be able to rectify a failure to
meet the distribution requirement for a year by paying "deficiency dividends"
to stockholders in a later year, which may be included in the Company's
deduction for dividends paid for the earlier year. Thus, the Company may be
able to avoid being taxed on amounts distributed as deficiency dividends;
however, the Company will be required to pay interest based upon the amount of
any deduction taken for deficiency dividends.
FAILURE OF THE COMPANY TO QUALIFY AS A REIT
If the Company fails to qualify for taxation as a REIT in any taxable year
and if the relief provisions do not apply, the Company will be subject to tax
(including any applicable alternative minimum tax) on its taxable income at
regular corporate rates. Distributions to stockholders in any year in which
the
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Company fails to qualify as a REIT will not be deductible by the Company nor
will they be required to be made. As a result, the cash available for
distribution by the Company to its stockholders would be significantly
reduced. In addition, if the Company fails to qualify as a REIT, all
distributions to stockholders will be taxable as ordinary income, to the
extent of the Company's current and accumulated earnings and profits, and,
subject to certain limitations of the Code, corporate distributees may be
eligible for the dividends received deduction. Unless entitled to relief under
specific statutory provisions, the Company also will be disqualified from
taxation as a REIT for the four taxable years following the year during which
such qualification was lost. It is not possible to state whether in all
circumstances the Company would be entitled to such statutory relief.
TAXATION OF TAXABLE U.S. STOCKHOLDERS OF THE COMPANY
As used herein, the term "U.S. Stockholder" means a holder of Common Stock
who (for United States federal income tax purposes) is (i) an individual who
is a citizen or resident of the United States; (ii) an entity which is a
corporation or partnership for United States federal income tax purposes and
which is created or organized in the United States or under the laws of the
United States or any political subdivision thereof (although certain
partnerships so created or organized may be treated, under regulations not yet
published, as not a United States person); (iii) any estate whose income is
includible in gross income for United States federal income tax purposes
regardless of its source; or (iv) a "Domestic Trust." A Domestic Trust is any
trust with respect to which a court within the United States is able to
exercise primary supervision over the administration of such trust, and as to
which one or more United States fiduciaries have the authority to control all
substantial decisions of such trust (although certain trusts classified for
United States federal income tax purposes as a United States person prior to
August 20, 1996 may, under regulations not yet published, elect to retain
their classification as a Domestic Trust).
DISTRIBUTIONS BY THE COMPANY
As long as the Company qualifies as a REIT, distributions made by the
Company out of its current or accumulated earnings and profits (and not
designated as capital gain dividends) will constitute dividends taxable to its
taxable U.S. Stockholders as ordinary income. Such distributions will not be
eligible for the dividends received deduction in the case of U.S. Stockholders
that are corporations. Distributions made by the Company that are properly
designated by the Company as capital gain dividends will be taxable to taxable
U.S. Stockholders as long-term capital gains (to the extent that they do not
exceed the Company's actual net capital gain for the taxable year) without
regard to the period for which a U.S. Stockholder has held his Common Stock.
U.S. Stockholders that are corporations may, however, be required to treat up
to 20% of certain capital gain dividends as ordinary income pursuant to
Section 291(d) of the Code. Individuals are generally subject to differing
rates of tax on various transactions giving rise to long-term capital gains or
losses. In general, the long-term capital gains rate is (i) 28% on capital
gain from the sale or exchange of assets held more than one year but not more
than 18 months, (ii) 20% on capital gain from the sale or exchange of assets
held for more than 18 months, and (iii) 25% on capital gain from the sale or
exchange of certain depreciable real estate otherwise eligible for the 20%
rate, up to the amount of depreciation deductions previously taken with
respect to such real estate. Subject to certain limitations concerning the
classification of the Company's long-term capital gains, the Company may
designate a capital gain dividend as a 28% rate distribution, a 25% rate
distribution or a 20% rate distribution. If the Company elects to retain
capital gains rather than distribute them, a U.S. Stockholder will be deemed
to receive a capital gain dividend equal to the amount of such retained
capital gains. Such gains are subject to apportionment among the three rate
groups set forth above. In such a case, a stockholder will receive certain tax
credits and basis adjustments reflecting the deemed distribution and deemed
payment of taxes by the stockholder. To the extent that the Company makes
distributions in excess of its current and accumulated earnings and profits,
such distributions will be treated first as a tax-free return of capital to
each U.S. Stockholder, reducing the adjusted basis which such U.S. Stockholder
has in its Common Stock for
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tax purposes by the amount of such distribution (but not below zero), with
distributions in excess of a U.S. Stockholder's adjusted basis in its Common
Stock taxable as capital gains (provided that the Common Stock has been held
as a capital asset). Dividends declared by the Company in October, November,
or December of any year and payable to a stockholder of record on a specified
date in any such month shall be treated as both paid by the Company and
received by the stockholder on December 31 of such year, provided that the
dividend is actually paid by the Company on or before January 31 of the
following calendar year. Stockholders may not include in their own income tax
returns any net operating losses or capital losses of the Company. The Company
will notify each stockholder after the close of the Company's taxable year as
to the portions of the distributions attributable to that year which
constitute ordinary income, capital gain or a return of capital.
The Company will be treated as having sufficient earnings and profits to
treat as a dividend any distribution by the Company up to the amount required
to be distributed in order to avoid imposition of the 4% excise tax discussed
under "--Taxation of the Company--General" and "--Taxation of the Company--
Annual Distribution Requirements." As a result, stockholders may be required
to treat as taxable dividends certain distributions that would otherwise
result in tax-free returns of capital. Moreover, any "deficiency dividend"
will be treated as a "dividend" (an ordinary dividend or a capital gain
dividend, as the case may be), regardless of the Company's earnings and
profits.
Distributions made by the Company and gain arising from the sale or exchange
by a U.S. Stockholder of Common Stock will not be treated as passive activity
income, and, as a result, U.S. Stockholders generally will not be able to
apply any "passive losses" against such income or gain. Dividends from the
Company (to the extent they do not constitute a capital gain dividend or a
return of capital) will generally be treated as investment income for purposes
of the investment interest limitation. Net capital gain from the sale or other
disposition of shares of Common Stock and capital gain dividends will
generally not be considered investment income for purposes of the investment
interest limitation.
SALE OF COMMON STOCK
Upon any sale or other disposition of Common Stock, a U.S. Stockholder will
recognize gain or loss for federal income tax purposes in an amount equal to
the difference between (i) the amount of cash and the fair market value of any
property received on such sale or other disposition and (ii) the holder's
adjusted basis in such Common Stock for tax purposes. Such gain or loss will
be capital gain or loss if the Common Stock has been held by the U.S.
Stockholder as a capital asset and will be long-term gain or loss if such
Common Stock has been held for more than one year. In general, any loss
recognized by a U.S. Stockholder upon the sale or other disposition of Common
Stock that has been held for six months or less (after applying certain
holding period rules) will be treated as a long-term capital loss to the
extent of distributions received by such U.S. Stockholder from the Company
which were required to be treated as long-term capital gains.
BACKUP WITHHOLDING FOR COMPANY DISTRIBUTIONS
The Company will report to its U.S. Stockholders and the Service the amount
of dividends paid during each calendar year and the amount of tax withheld, if
any. Under the backup withholding rules, a stockholder may be subject to
backup withholding at the rate of 31% with respect to dividends paid unless
such holder (a) is a corporation or comes within certain other exempt
categories and, when required, demonstrates this fact, or (b) provides a
taxpayer identification number, certifies as to no loss of exemption from
backup withholding, and otherwise complies with applicable requirements of the
backup withholding rules. A U.S. Stockholder that does not provide the Company
with his correct taxpayer identification number may also be subject to
penalties imposed by the Service. Any amount paid as backup withholding will
be creditable against the stockholder's federal income tax liability. In
addition, the Company may be required to withhold a portion of capital gain
distributions to any
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stockholders who fail to certify their non-foreign status to the Company. See
"--Taxation of Non-U.S. Stockholders of the Company."
TAXATION OF TAX-EXEMPT STOCKHOLDERS OF THE COMPANY
The Service has ruled that amounts distributed as dividends by a qualified
REIT do not constitute unrelated business taxable income ("UBTI") when
received by a tax-exempt entity so long as the Common Stock is not otherwise
used in an unrelated trade or business. Based on that ruling, provided that a
tax-exempt stockholder (except certain tax-exempt stockholders described
below) has not held its Common Stock as "debt financed property" within the
meaning of the Code and such Common Stock is not otherwise used in an
unrelated trade or business, the dividend income from the Company will not be
UBTI to a tax-exempt stockholder. Similarly, income from the sale of Common
Stock will not constitute UBTI unless such tax-exempt stockholder has held
such Common Stock as "debt financed property" within the meaning of the Code
or has used the Common Stock in an unrelated trade or business.
For tax-exempt stockholders that are social clubs, voluntary employee
benefit associations, supplemental unemployment benefit trusts, and qualified
group legal services plans exempt from federal income taxation under Code
Sections 501(c)(7), (9), (17) and (20), respectively, income from an
investment in the Company will constitute UBTI unless the organization is able
to properly deduct amounts set aside or placed in reserve for certain purposes
so as to offset the income generated by its investment in the Company. Such
prospective stockholders should consult their own tax advisors concerning
these set aside and reserve requirements.
In addition, in certain circumstances a pension trust that owns more than
10% of the Company's stock will be required to treat a percentage of the
dividends received from the Company as UBTI (the "UBTI Percentage"). The UBTI
Percentage is the gross income derived by the Company from an unrelated trade
or business (determined as if the Company were a pension trust) divided by the
gross income of the Company for the year in which the dividends are paid. The
UBTI Percentage rule will apply to a pension trust holding more than 10% of
the Company's stock only if (i) the UBTI Percentage is at least 5%, (ii) the
Company qualifies as a REIT by reason of the modification of the 5/50 Rule
that allows the beneficiaries of the pension trust to be treated as holding
shares of the Company in proportion to their actuarial interests in the
pension trust and (iii) either (A) one pension trust owns more than 25% of the
value of the Company's stock or (B) a group of pension trusts individually
holding more than 10% of the value of the Company's stock collectively owns
more than 50% of the value of the Company's stock. Based on the anticipated
ownership of the shares of Common Stock immediately after the Offering and the
Merger, and as a result of certain limitations on transfer and ownership of
Common Stock contained in the Certificate of Incorporation of the Company, the
Company does not expect the UBTI Percentage rule to apply to any tax-exempt
stockholders of the Company.
TAXATION OF NON-U.S. STOCKHOLDERS OF THE COMPANY
The rules governing United States federal income taxation of the ownership
and disposition of common stock by persons that are, for purposes of such
taxation, nonresident alien individuals, foreign corporations, foreign
partnerships or foreign estates or trusts (collectively, "Non-U.S.
Stockholders") are complex, and no attempt is made herein to provide more than
a brief summary of such rules. Accordingly, the discussion does not address
all aspects of United States federal income tax and does not address state,
local or foreign tax consequences that may be relevant to a Non-U.S.
Stockholder in light of its particular circumstances. IN ADDITION, THIS
DISCUSSION IS BASED ON CURRENT LAW, WHICH IS SUBJECT TO CHANGE, AND ASSUMES
THAT THE COMPANY QUALIFIES FOR TAXATION AS A REIT. PROSPECTIVE NON-U.S.
STOCKHOLDERS SHOULD CONSULT WITH THEIR OWN TAX ADVISORS TO DETERMINE THE
IMPACT OF FEDERAL, STATE, LOCAL AND FOREIGN INCOME TAX LAWS WITH REGARD TO AN
INVESTMENT IN COMMON STOCK, INCLUDING ANY REPORTING REQUIREMENTS.
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DISTRIBUTIONS BY THE COMPANY
Under the Foreign Investment in Real Property Tax Act ("FIRPTA")
distributions to a Non-U.S. Stockholder that are attributable to gain from
sales or exchanges by the Company of United States real property interests
will cause the Non-U.S. Stockholder to be treated as recognizing such gain as
income effectively connected with a United States trade or business. Non-U.S.
Stockholders would thus generally be taxed at the same rates applicable to
domestic stockholders (subject to a special alternative minimum tax in the
case of nonresident alien individuals). Also, such gain may be subject to a
30% branch profits tax in the hands of a Non-U.S. Stockholder that is a
corporation. The Company is generally required to withhold 35% of any such
distribution. That amount is creditable against the Non-U.S. Stockholder's
United States federal income tax liability. It should be noted that the 35%
withholding tax rate on capital gain dividends is higher than the maximum rate
(which may be 20%, 25% or 28% depending upon the facts and circumstances) on
long-term capital gains of individuals. It should also be emphasized that the
Company believes that the income it will receive under the Timber Purchase
Agreement will be characterized for federal income tax purposes as gain from
the sale or other disposition of real property.
Distributions by the Company to a Non-U.S. Stockholder that are neither
attributable to gain from sales or exchanges by the Company of United States
real property interests nor designated by the Company as capital gains
dividends will be treated as dividends of ordinary income to the extent that
they are made out of current or accumulated earnings and profits of the
Company. Such distributions ordinarily will be subject to U.S. withholding tax
on a gross basis (that is, without allowance of deductions) at a 30% rate,
unless the withholding tax rate is reduced under an applicable income tax
treaty between the United States and the country of tax residence of the Non-
U.S. Stockholder.
In general, for purposes of determining whether tax is to be withheld at a
30% rate or at a reduced rate as specified in an applicable tax treaty, the
Company will presume that dividends paid on or before December 31, 1999 to a
holder with an address in a foreign country will be paid to a resident of such
foreign country absent knowledge that such treatment is not warranted.
Similarly, the Company will ordinarily presume that dividends paid on or prior
to December 31, 1999 to a holder with an address in the United States are paid
to a holder who is a United States person and will not be subject to 30%
withholding tax, unless the Company has knowledge that the holder is a non-
United States person.
Recently finalized United States Treasury Regulations applicable to
dividends paid after December 31, 1999 (the "Final Regulations") provide for
certain presumptions (which are different than the ones described above) upon
which the Company may generally rely to determine whether, in the absence of
certain documentation, a stockholder should be treated as a Non-U.S.
Stockholder for purposes of the 30% withholding tax described above. The
presumptions would not apply for purposes of granting a reduced rate of
withholding under a treaty to a Non-U.S. Stockholder. Under the Final
Regulations, to obtain a reduced rate of withholding under a treaty, a Non-
U.S. Stockholder will be required to either (i) provide an Internal Revenue
Service Form W-8 certifying such Non-U.S. Stockholder's entitlement to
benefits under a treaty together with, in certain circumstances, additional
information, or (ii) satisfy certain other applicable treaty certification
requirements. The Final Regulations also provide special rules to determine
whether, for purposes of determining the applicability of a tax treaty and for
purposes of the 30% withholding tax described above, dividends paid to a Non-
U.S. Stockholder that is an entity should be treated as paid to the entity or
to those persons or entities holding an interest in such entity.
In addition, under recently enacted legislation, a Non-U.S. Stockholder will
not be entitled to claim the benefit of any reduced rate of withholding tax
under any income tax treaty between the United States and a foreign country on
an item of income derived through an entity which is treated as a partnership
or is otherwise fiscally transparent if: (i) such item is not treated for
purposes of the tax laws of such foreign country as an item of income of such
Non-U.S. Stockholder; (ii) the treaty does
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not contain a provision addressing the applicability of the treaty in the case
of an item of income derived through a partnership, and (iii) the foreign
country does not impose tax on a distribution of such item of income from such
entity to such holder.
The 30% withholding tax will not apply if the dividends are treated as
effectively connected with the conduct by the Non-U.S. Stockholder of a United
States trade or business (or, alternatively, where an income tax treaty
applies, if the dividend is effectively connected with a permanent
establishment maintained within the United States by the Non-U.S.
Stockholder). Such dividends will be subject to tax on a net basis (that is,
after allowance of deductions) at graduated rates, in the same manner as U.S.
Stockholders are taxed with respect to such dividends. Any such Non-U.S.
Stockholder that is a corporation may also be subject to an additional branch
profits tax imposed on its effectively connected earnings and profits within
the meaning of Code Section 884(d) at a 30% rate or at such lower rate as may
be specified by an applicable income tax treaty. In general, a foreign
stockholder will not be considered engaged in a U.S. trade or business solely
as a result of its ownership of Common Stock.
Distributions in excess of current or accumulated earnings and profits of
the Company will not be taxable to a Non-U.S. Stockholder to the extent that
they do not exceed the adjusted basis of the stockholder's Common Stock, but
rather will reduce the adjusted basis of such Common Stock. To the extent that
such distributions exceed the adjusted basis of a Non-U.S. Stockholder's
Common Stock, they will give rise to gain from the sale or exchange of its
Common Stock, the tax treatment of which is described below. As a result of a
legislative change made by the Small Business Job Protection Act of 1996, it
appears that the Company will be required to withhold 10% of any distribution
in excess of the Company's current and accumulated earnings and profits.
Consequently, although the Company intends to withhold at a rate of 30% on the
entire amount of any distribution (or a lower applicable treaty rate), to the
extent that the Company does not do so, any portion of a distribution not
subject to withholding at a rate of 30% (or a lower applicable treaty rate)
will be subject to withholding at a rate of 10%. However, a Non-U.S.
Stockholder may seek a refund of such amounts from the Service if it
subsequently determined that such distribution was, in fact, in excess of
current or accumulated earnings and profits of the Company, and the amount
withheld exceeded the Non-U.S. Stockholder's United States tax liability, if
any, with respect to the distribution.
Distributions to a Non-U.S. Stockholder that are designated by the Company
at the time of distribution as capital gains dividends (other than those
arising from the disposition of a United States real property interest)
generally will not be subject to United States federal income taxation, unless
(i) investment in the Common Stock is effectively connected with the Non-U.S.
Stockholder's United States trade or business (or, where an income tax treaty
applies, if such investment is effectively connected with a permanent
establishment maintained within the United States by the Non-U.S.
Stockholder), in which case the Non-U.S. Stockholder will be subject to the
same treatment as domestic stockholders with respect to such gain (except that
a stockholder that is a foreign corporation may also be subject to the branch
profits tax, as discussed above), or (ii) the Non-U.S. Stockholder is a
nonresident alien individual who is present in the United States for 183 days
or more during the taxable year and has a "tax home" in the United States, in
which case the nonresident alien individual will be subject to a 30% tax on
the individual's capital gains.
SALE OF COMMON STOCK
Gain recognized by a Non-U.S. Stockholder upon the sale or exchange of
Common Stock generally will not be subject to United States taxation unless
such shares constitute a "United States real property interest" within the
meaning of FIRPTA. The Common Stock will not constitute a "United States real
property interest" so long as the Company is a "domestically controlled REIT."
A "domestically controlled REIT" is a REIT in which, at all times during a
specified testing period, less than 50% in value of its stock is held directly
or indirectly by Non-U.S. Stockholders. The Company believes that at the
closing of the Merger and this Offering it will be a "domestically controlled
REIT,"
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and therefore that the sale of Common Stock will not be subject to taxation
under FIRPTA. However, because the Common Stock is expected to become publicly
traded, no assurance can be given that the Company will continue to be a
"domestically controlled REIT." Notwithstanding the foregoing, gain from the
sale or exchange of Common Stock not otherwise subject to FIRPTA will be
taxable to a Non-U.S. Stockholder if the Non-U.S. Stockholder is a nonresident
alien individual who is present in the United States for 183 days or more
during the taxable year and has a "tax home" in the United States. In such
case, the nonresident alien individual will be subject to a 30% United States
withholding tax on the amount of such individual's gain.
If the Company does not qualify as or ceases to be a "domestically-
controlled REIT," whether gain arising from the sale or exchange by a Non-U.S.
Stockholder of Common Stock would be subject to United States taxation under
FIRPTA as a sale of a "United States real property interest" will depend on
whether the Common Stock is "regularly traded" (as defined by applicable
Treasury Regulations) on an established securities market (e.g., the New York
Stock Exchange) and on the size of the selling Non-U.S. Stockholder's interest
in the Company. In general, if (as expected) the Common Stock is "regularly
traded" on an established securities market during the quarter in which the
Common Stock were sold and the selling Non-U.S. Stockholder holds, directly or
indirectly, 5% or less of the Common Stock of the Company during the five-year
period ending on the date of disposition, then such sale will not be subject
to United States taxation under FIRPTA. The applicable Treasury Regulations
may be interpreted to provide that a security is not "regularly traded" for
these purposes if during the applicable calendar quarter 100 or fewer persons
(treating related parties as one person) in the aggregate own 50% or more of
such security or the quarterly trading volume is less than 7.5% of the average
number of the issued and outstanding shares of such security (2.5% if there
are 2,500 or more stockholders of record). If gain on the sale or exchange of
Common Stock were subject to taxation under FIRPTA, the Non-U.S. Stockholder
would be subject to regular United States income tax with respect to such gain
in the same manner as a U.S. Stockholder (subject to any applicable
alternative minimum tax, a special alternative minimum tax in the case of
nonresident alien individuals and the possible application of the 30% branch
profits tax in the case of foreign corporations), and the purchaser of the
Common Stock would be required to withhold and remit to the Service 10% of the
purchase price.
BACKUP WITHHOLDING TAX AND INFORMATION REPORTING
The Company must report annually to the Service and to each Non-U.S.
Stockholder the amount of dividends paid to, and the tax withheld with respect
to, such stockholder, regardless of whether any tax was actually withheld.
That information may also be made available to the tax authorities of the
country in which a Non-U.S. Stockholder resides.
Backup withholding tax (which generally is imposed at the rate of 31% on
certain payments to persons that fail to furnish certain information under the
United States information reporting requirements) will generally not apply:
(1) if distributions are paid on or prior to December 31, 1999 to a Non-U.S.
Stockholders at an address outside the United States (provided that the payor
does not have actual knowledge that the payee is a United States person), (ii)
if such distributions are subject to the 30% (or lower treaty rate)
withholding tax discussed above, (iii) if the distribution is a capital gains
distribution, or (iv) if the distribution is attributable to gain from the
sale or exchange by the Company of United States real property interests. For
distributions paid after December 31, 1999, the Final Regulations provide
certain presumptions and other rules under which non-United States holders may
be subject to backup withholding and related information reporting in the
absence of required certifications. As a general matter, backup withholding
and information reporting will not apply to a payment of the proceeds of a
sale of Common Stock by or through a foreign office of a foreign broker.
However, information reporting (but not backup withholding) will apply to a
payment of the proceeds of a sale of Common Stock by a foreign office of a
broker that (a) is a United States person, (b) derives 50% or more of its
gross income for certain periods from the conduct of a trade or business in
the United States or (c) is a "controlled foreign corporation" (generally, a
foreign corporation controlled by United States stockholders) for United
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States tax purposes, or (d) effective after December 31, 1999, certain brokers
that are foreign partnerships with U.S. partners or that are engaged in a U.S.
trade or business, unless in each such case the broker has documentary
evidence in its records that the holder is a Non-U.S. Stockholder and certain
other conditions are met, or the stockholder otherwise establishes an
exemption. Payment to or through a United States office of a broker of the
proceeds of a sale of Common Stock is subject to both backup withholding and
information reporting unless the stockholder certifies under penalty of
perjury that the stockholder is a Non-U.S. Stockholder, or otherwise
establishes an exemption.
The backup withholding tax is not an additional tax and may be credited
against a Non-U.S. Stockholder's United States federal income tax liability or
refunded to the extent excess amounts are withheld, provided that the required
information is supplied to the Service.
TAX ASPECTS OF THE COMPANY'S OWNERSHIP OF INTERESTS IN THE PARTNERSHIP
GENERAL
Substantially all of the Company's investments will be held indirectly
through the Partnership. In general, partnerships are "pass-through" entities
which are not subject to federal income tax. Rather, partners are allocated
their proportionate shares of the items of income, gain, loss, deduction and
credit of a partnership, and are potentially subject to tax thereon, without
regard to whether the partners receive a distribution from the partnership.
The Company will include in its income its proportionate share of the
foregoing partnership items for purposes of the various REIT income tests and
in the computation of its REIT taxable income. Moreover, for purposes of the
REIT asset tests, the Company will include its proportionate share of assets
held through the Partnership. See "--Taxation of the Company--Ownership of
Partnership Interests by a REIT."
The Company's interest in the Partnership may involve special tax
considerations. Such considerations include (i) the allocation of items of
income and expense, which could affect the computation of taxable income of
the Company, (ii) the status of the Partnership as a partnership (as opposed
to an association taxable as a corporation) for federal income tax purposes,
and (iii) the taking of actions by the Partnership which could adversely
affect the Company's qualification as a REIT.
ENTITY CLASSIFICATION
An organization formed as a partnership will be treated as a partnership,
rather than as a corporation, for federal income tax purposes if (i) it is not
expressly classified as a corporation under Section 301.7701-2(b)(1) through
(8) of the Treasury Regulations; (ii) it does not elect to be classified as an
association taxable as a corporation; and (iii) it is not treated as a
corporation by virtue of being classified as a "publicly traded partnership."
Under Section 7704 of the Code, a partnership is treated as a corporation
for federal income tax purposes if it is a "publicly traded partnership"
(except in situations in which 90% or more of the partnership's gross income
is of a specified type). A partnership is deemed to be publicly traded if its
interests are either (i) traded on an established securities market or (ii)
readily tradable on a secondary market (or the substantial equivalent
thereof). While the Partnership Units will not be traded on an established
securities market, they could be deemed to be traded on a secondary market or
its equivalent due to the limited partners' exchange rights.
The Treasury Department recently issued regulations (the "PTP Regulations")
governing the classification of partnerships under Section 7704. These
regulations provide that the classification of partnerships is generally based
on a facts and circumstances analysis. However, the regulations also provide
limited "safe harbors" which preclude publicly traded partnership status.
Pursuant to one of
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those safe harbors, interests in a partnership will not be treated as readily
tradable on a secondary market or the substantial equivalent thereof if (i)
all interests in the partnership were issued in a transaction (or
transactions) that was not required to be registered under the Securities Act
and (ii) the partnership does not have more than 100 partners at any time
during the partnership's taxable year. In determining the number of partners
in a partnership for this purpose, a person owning an interest in a flow-
through entity (i.e., a partnership, grantor trust, or S corporation) that
owns an interest in the partnership is treated as a partner in such
partnership only if (x) substantially all of the value of the person's
interest in the flow-through entity is attributable to the flow-through
entity's interest (direct or indirect) in the partnership and (y) a principal
purpose of the use of the tiered arrangement is to permit the partnership to
satisfy the 100-partner limitation.
The Partnership is expected to have less than 100 partners (including
persons owning interests through flow-through entities). The Partnership has
not issued any Partnership Units required to be registered under the
Securities Act. Thus, the Partnership presently qualifies for the safe harbors
provided in the PTP Regulations. If the Partnership were to have more than 100
partners (including, in certain circumstances, persons owning interests
through flow-through entities), it nevertheless would be treated as a
partnership for federal income tax purposes (rather than an association
taxable as a corporation) if at least 90% of its gross income in each taxable
year (commencing with the year in which it is treated as a publicly traded
partnership) consists of "qualifying income" with the meaning of Section
7704(c)(2) of the Code (including interest, dividends, certain real property
rents, gains from the disposition of real property, and certain income or
gains from the exploitation of natural resources, including timber (the "90%
Passive-Type Income Exception")).
In the opinion of Pillsbury Madison & Sutro LLP, based upon certain
assumptions and factual representations made by the Company and the
Partnership, the Partnership will be treated as a partnership for federal
income tax purposes and not as an association taxable as a corporation.
If for any reason the Partnership were taxable as a corporation, rather than
as a partnership, for federal income tax purposes, the Company would not be
able to satisfy the income and asset requirements for REIT status. See "--
Taxation of the Company--Income Tests" and "--Taxation of the Company--Asset
Tests." In addition, any change in the Partnership's status for tax purposes
might be treated as a taxable event, in which case the Company might incur a
tax liability without any related cash distribution. See "--Taxation of the
Company--Annual Distribution Requirements." Further, items of income and
deduction of the Partnership would not pass through to its partners, and its
partners would be treated as stockholders for tax purposes. Consequently, the
Partnership would be required to pay income tax at corporate tax rates on its
net income, and distributions to its partners would constitute dividends that
would not be deductible in computing the Partnership's taxable income.
The following discussion assumes that the Partnership will be treated as a
partnership for federal income tax purposes.
PARTNERSHIP ALLOCATIONS
Although a partnership agreement will generally determine the allocation of
income and loss among partners, such allocations will be disregarded for tax
purposes if they do not comply with the provisions of Section 704(b) of the
Code and the Treasury Regulations promulgated thereunder. Generally, Section
704(b) and the Treasury Regulations promulgated thereunder require that
partnership allocations respect the economic arrangement of the partners.
If an allocation is not recognized for federal income tax purposes, the item
subject to the allocation will be reallocated in accordance with the partners'
interests in the partnership, which will be determined by taking into account
all of the facts and circumstances relating to the economic arrangement of the
partners with respect to such item. The Partnership's allocations of taxable
income
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and loss are intended to comply with the requirements of Section 704(b) of the
Code and the Treasury Regulations promulgated thereunder.
TAX ALLOCATIONS WITH RESPECT TO THE PROPERTIES
Pursuant to Section 704(c) of the Code, income, gain, loss and deduction
attributable to appreciated or depreciated property which has been contributed
to a partnership in exchange for an interest in the partnership must be
allocated in a manner such that the contributing partner is charged with, or
benefits from, respectively, the unrealized gain or unrealized loss associated
with the property at the time of the contribution. The amount of such
unrealized gain or unrealized loss is generally equal to the difference
between the fair market value of contributed property at the time of
contribution and the adjusted tax basis of such property at such time (a
"Book-Tax Difference"). Such allocations are solely for federal income tax
purposes and do not affect the book capital accounts or other economic or
legal arrangements among the partners. The Partnership will be formed by way
of contributions of appreciated property by both Potlatch and the Company
(through ATCO). Consequently, the Partnership Agreement requires that such
allocations be made in a manner consistent with Section 704(c) of the Code.
In the event of the disposition of any of the contributed assets which have
a Book-Tax Difference (including as a result of the disposition of Timber
pursuant to the Timber Purchase Agreement), all income attributable to such
Book-Tax Difference generally will be allocated to the partner contributing
such property. These allocations will tend to eliminate the Book-Tax
Difference over the life of the Partnership. However, the special allocation
rules of Section 704(c) do not always entirely eliminate the Book-Tax
Difference on an annual basis or with respect to a specific taxable
transaction such as a sale. Thus, the carryover basis of the contributed
assets in the hands of the Partnership may cause the Company to be allocated
lower depletion and other deductions, or an amount of taxable income in the
event of a sale or other disposition of such contributed assets, in excess of
the economic or book income allocated to it as a result of such sale. Such an
allocation might cause the Company to recognize taxable income in excess of
cash proceeds, which could adversely affect the Company's ability to comply
with the REIT distribution requirements. See "--Taxation of the Company--
Annual Distribution Requirements."
Treasury Regulations under Section 704(c) of the Code provide partnerships
with a choice of several methods of accounting for Book-Tax Differences,
including retention of the "traditional method" or the election of certain
methods, such as the "traditional method with curative allocations" or the
"remedial method," which would permit certain distortions caused by a Book-Tax
Difference to be rectified on an annual basis or with respect to a specific
taxable transaction such as a sale. The Partnership and the Company have
determined to use the "remedial method" for accounting for Book-Tax
Differences with respect to the properties initially contributed to the
Partnership. The Partnership has not determined which of the alternative
methods of accounting for Book-Tax Differences will be elected with respect to
any properties contributed to it in the future.
With respect to any property purchased by the Partnership subsequent to the
Offering, such property will initially have a tax basis equal to its fair
market value, and Section 704(c) of the Code will not apply.
BASIS IN PARTNERSHIP INTEREST
The Company's adjusted tax basis in its interest in the Partnership
generally (i) will be equal to the amount of cash and the basis of any other
property contributed to the Partnership by the Company (including through
ATCO), (ii) will be increased by (a) its allocable share of the Partnership's
income and (b) its allocable share of indebtedness of the Partnership and
(iii) will be reduced, but not below zero, by the Company's allocable share of
(a) losses suffered by the Partnership, (b) the amount of
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cash distributed to the Company and (c) by constructive distributions
resulting from a reduction in the Company's share of indebtedness of the
Partnership.
If the allocation of the Company's distributive share of the Partnership's
loss exceeds the adjusted tax basis of the Company's partnership interest in
the Partnership, the recognition of such excess loss will be deferred until
such time and to the extent that the Company has adjusted tax basis in its
interest in the Partnership. To the extent that the Partnership's
distributions, or any decrease in the Company's share of the indebtedness of
the Partnership (such decreases being considered a cash distribution to the
partners), exceeds the Company's adjusted tax basis, such excess distributions
(including such constructive distributions) constitute taxable income to the
Company. Such taxable income will normally be characterized as capital gain,
and if the Company's interest in the Partnership has been held for longer than
the long-term capital gain holding period (currently one year), the
distributions and constructive distributions will constitute long-term capital
gain.
UNCERTAIN IMPACT OF BUDGET PROPOSAL
The Budget Proposal submitted by the President to Congress on February 2,
1998 contains a number of provisions which could affect REITs in general and
the Company in particular. The proposal requests four changes to the rules
applicable to REITs. The proposal would (i) restrict the ability of any person
(including any corporation) from owning more than 50% of the vote or value of
all classes of equity securities of a REIT, effective for companies electing
REIT status for tax years beginning on or after the date of "first committee
action" on the budget bill; (ii) restrict the ability of a REIT to own more
than 10% of the vote or value of all equity securities of a corporation (in
contrast to current rules, which provide that a REIT may not own more than 10%
of the vote of all equity securities of a corporation), effective for
acquisitions of stock on or after the date of "first committee action" on the
budget bill; (iii) require the immediate taxation of all built-in-gains on the
conversion of a subchapter C corporation into a REIT (excluding conversions
where the corporation at issue had a value of $5 million or less), effective
for conversions after January 1, 1999; and (iv) eliminate certain tax benefits
for the few existing "paired share" REITs. The Company does not believe that
the proposed legislation, in its current form (including the proposed
effective dates), would have a material adverse impact on the Company if it
were passed in substantially the same form as set forth in the Budget
Proposal. The Company cannot presently predict whether one or more of the
provisions of such proposal will pass, what form any final legislative
language will take if so passed, or the effective date of any such
legislation.
OTHER TAXES
The Company, any of its subsidiaries, the Partnership or the Company's
stockholders may be subject to foreign, state and local tax in various
countries, states and localities, including those countries, states and
localities in which it or they transact business, own property, or reside. The
state, local or foreign tax treatment of the Company and the stockholders in
such jurisdictions may differ from the federal income tax treatment described
above. Consequently, prospective stockholders should consult their own tax
advisors regarding the effect of foreign, state and local tax laws upon an
investment in the Common Stock.
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ERISA CONSIDERATIONS
The following is a summary of material considerations arising under the
Employee Retirement Income Security Act of 1974, as amended ("ERISA"), and the
prohibited transaction provisions of section 4975 of the Code that may be
relevant to a prospective purchaser of Common Stock (including, with respect
to the discussion contained in "--Status of the Company and the Partnership
under ERISA," to a prospective purchaser that is not an employee benefit plan,
another tax-qualified retirement plan, or an individual retirement account
("IRA")). The discussion does not purport to deal with all aspects of ERISA or
section 4975 of the Code that may be relevant to particular stockholders
(including plans subject to Title I of ERISA, other retirement plans and IRAs
subject to the prohibited transaction provisions of section 4975 of the Code,
and governmental plans or church plans that are exempt from ERISA and section
4975 of the Code but that may be subject to state law requirements) in light
of their particular circumstances.
The discussion is based on current provisions of ERISA and the Code,
existing and currently proposed regulations under ERISA and the Code, the
legislative history of ERISA and the Code, existing administrative rulings of
the Department of Labor ("DOL") and reported judicial decisions. No assurance
can be given that legislative, judicial, or administrative changes will not
affect the accuracy of any statements herein with respect to transactions
entered into or contemplated prior to the effective date of such changes.
A FIDUCIARY MAKING A DECISION TO INVEST IN THE COMMON STOCK ON BEHALF OF A
PROSPECTIVE PURCHASER THAT IS AN EMPLOYEE BENEFIT PLAN, A TAX-QUALIFIED
RETIREMENT PLAN, OR AN IRA IS ADVISED TO CONSULT ITS OWN LEGAL ADVISOR
REGARDING THE SPECIFIC CONSIDERATIONS ARISING UNDER ERISA, SECTION 4975 OF THE
CODE, AND STATE LAW WITH RESPECT TO THE PURCHASE, OWNERSHIP OR SALE OF THE
COMMON STOCK BY SUCH PLAN OR IRA.
EMPLOYEE BENEFIT PLANS, TAX-QUALIFIED RETIREMENT PLANS AND IRAS
Each fiduciary of a pension, profit-sharing, or other employee benefit plan
(an "ERISA Plan") subject to Title I of ERISA should consider carefully
whether an investment in the Common Stock is consistent with his fiduciary
responsibilities under ERISA. In particular, the fiduciary requirements of
Part 4 of Title I of ERISA require a ERISA Plan's investments to be (i)
prudent and in the best interests of the ERISA Plan, its participants, and its
beneficiaries, (ii) diversified in order to minimize the risk of large losses,
unless it is clearly prudent not to do so, and (iii) authorized under the
terms of the ERISA Plan's governing documents (provided the documents are
consistent with ERISA). In determining whether an investment in the Common
Stock is prudent for purposes of ERISA, the appropriate fiduciary of a ERISA
Plan should consider all of the facts and circumstances, including whether the
investment is reasonably designed, as a part of the ERISA Plan's portfolio for
which the fiduciary has investment responsibility, to meet the objectives of
the ERISA Plan, taking into consideration the risk of loss and opportunity for
gain (or other return) from the investment, the diversification, cash flow,
and funding requirements of the ERISA Plan's portfolio. A fiduciary also
should take into account the nature of the Company's business, the management
of the Company, the length of the Company's operating history, the fact that
certain investment properties may not have been identified yet, and the
possibility of the recognition of UBTI.
The fiduciary of an IRA or of a qualified retirement plan not subject to
Title I of ERISA because it is a governmental or church plan or because it
does not cover common law employees (a "Non-ERISA Plan") should consider that
such an IRA or Non-ERISA Plan may only make investments that are authorized by
the appropriate governing documents and under applicable state law.
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Fiduciaries of ERISA Plans and persons making the investment decision for an
IRA or other Non-ERISA Plan should consider the application of the prohibited
transaction provisions of ERISA and the Code in making their investment
decision. A "party in interest" or "disqualified person" with respect to an
ERISA Plan or with respect to a Non-ERISA Plan or IRA subject to Code section
4975 is subject to (i) an initial 15% excise tax on the amount involved in any
prohibited transaction involving the assets of the plan or IRA and (ii) an
excise tax equal to 100% of the amount involved if any prohibited transaction
is not corrected. If the disqualified person who engages in the transaction is
the individual on behalf of whom an IRA is maintained (or his beneficiary),
the IRA will lose its tax-exempt status and its assets will be deemed to have
been distributed to such individual in a taxable distribution (and no excise
tax will be imposed) on account of the prohibited transaction. In addition, a
fiduciary who permits an ERISA Plan to engage in a transaction that the
fiduciary knows or should know is a prohibited transaction may be liable to
the ERISA Plan for any loss the ERISA Plan incurs as a result of the
transaction or for any profits earned by the fiduciary in the transaction.
STATUS OF THE COMPANY AND THE PARTNERSHIP UNDER ERISA
The following section discusses certain principles that apply in determining
whether the fiduciary requirements of ERISA and the prohibited transaction
provisions of ERISA and the Code apply to an entity because one or more
investors in the equity interests in the entity is an ERISA Plan or is a Non-
ERISA Plan or IRA subject to section 4975 of the Code. An ERISA Plan fiduciary
also should consider the relevance of those principles to ERISA's prohibition
on improper delegation of control over or responsibility for "plan assets" and
ERISA's imposition of co-fiduciary liability on a fiduciary who participates
in, permits (by action or inaction) the occurrence of, or fails to remedy a
known breach by another fiduciary.
If the assets of the Company are deemed to be "plan assets" under ERISA, (i)
the prudence standards and other provisions of Part 4 of Title I of ERISA
would be applicable to any transactions involving the Company's assets, (ii)
persons who exercise any authority over the Company's assets, or who provide
investment advice to the Company, would (for purposes of the fiduciary
responsibility provisions of ERISA) be fiduciaries of each ERISA Plan that
acquires Common Stock, and transactions involving the Company's assets
undertaken at their direction or pursuant to their advice might violate their
fiduciary responsibilities under ERISA, especially with regard to conflicts of
interest, (iii) a fiduciary exercising his investment discretion over the
assets of an ERISA Plan to cause it to acquire or hold the Common Stock could
be liable under Part 4 of Title I of ERISA for transactions entered into by
the Company that do not conform to ERISA standards of prudence and fiduciary
responsibility, and (iv) certain transactions that the Company might enter
into in the ordinary course of its business and operations might constitute
"prohibited transactions" under ERISA and the Code.
Regulations of the DOL defining "plan assets" (the "Plan Asset Regulations")
generally provide that when an ERISA Plan or Non-ERISA Plan or IRA acquires a
security that is an equity interest in an entity and the security is neither a
"publicly-offered security" nor a security issued by an investment company
registered under the Investment Company Act of 1940, the ERISA or Non-ERISA
Plan's or IRA's assets include both the equity interest and an undivided
interest in each of the underlying assets of the issuer of such equity
interest, unless one or more exceptions specified in the Plan Asset
Regulations are satisfied.
The Plan Asset Regulations define a publicly-offered security as a security
that is "widely-held," "freely transferable," and either part of a class of
securities registered under the Exchange Act, or sold pursuant to an effective
registration statement under the Securities Act (provided the securities are
registered under the Exchange Act within 120 days after the end of the fiscal
year of the issuer during which the offering occurred). The shares of Common
Stock offered hereby are being sold in an offering registered under the
Securities Act and will be registered under the Exchange Act. The Plan Asset
Regulations provide that a security is "widely held" only if it is part of a
class of securities that is owned
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by 100 or more investors independent of the issuer and of one another. A
security will not fail to be widely held because the number of independent
investors falls below 100 subsequent to the initial public offering as a
result of events beyond the issuer's control. The Company anticipates that
upon completion of the Offering, the Common Stock will be "widely held."
The Plan Asset Regulations provide that whether a security is "freely
transferable" is a factual question to be determined on the basis of all
relevant facts and circumstances. The Plan Asset Regulations further provide
that where a security is part of an offering in which the minimum investment
is $10,000 or less (as is the case with this Offering), certain restrictions
ordinarily will not, alone or in combination, affect a finding that such
securities are freely transferable. The restrictions on transfer enumerated in
the Plan Asset Regulations as not affecting that finding include: (i) any
restriction on or prohibition against any transfer or assignment that would
result in the termination or reclassification of an entity for federal or
state tax purposes, or that otherwise would violate any federal or state law
or court order, (ii) any requirement that advance notice of a transfer or
assignment be given to the issuer, (iii) any administrative procedure that
establishes an effective date, or an event (such as completion of an
offering), prior to which a transfer or assignment will not be effective, and
(iv) any limitation or restriction on transfer or assignment that is not
imposed by the issuer or a person acting on behalf of the issuer. The Company
believes that the restrictions imposed under the Charter on the transfer of
the Company's shares of Common Stock will not result in the failure of the
Common Stock to be "freely transferable." The Company also is not aware of any
other facts or circumstances limiting the transferability of the Common Stock
that are not enumerated in the Plan Asset Regulations as those not affecting
free transferability, and the Company does not intend to impose in the future
(or to permit any person to impose on its behalf) any limitations or
restrictions on transfer that would not be among the enumerated permissible
limitations or restrictions. The Plan Asset Regulations only establish a
presumption in favor of a finding of free transferability, and no assurance
can be given that the DOL or the Treasury Department will not reach a contrary
conclusion.
Assuming that the Common Stock will be "widely held" and that no other facts
and circumstances other than those referred to in the preceding paragraph
exist that restrict transferability of the Common Stock, the Common Stock
should be publicly offered securities and the assets of the Company should not
be deemed to be "plan assets" of any ERISA Plan, IRA, or Non-ERISA Plan that
invests in the Common Stock.
The Plan Asset Regulations also will apply in determining whether the assets
of the Partnership will be deemed to be "plan assets." The partnership
interests in the Partnership will not be publicly-offered securities.
Nevertheless, if the shares of Common Stock constitute publicly-offered
securities, the indirect investment in the Partnership by ERISA Plans, IRAs,
or Non-ERISA Plans subject to section 4975 of the Code through their ownership
of Common Stock will not cause the assets of the Partnership to be treated as
"plan assets" of such stockholders.
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PRINCIPAL STOCKHOLDERS OF THE COMPANY AND
PARTNERS OF THE PARTNERSHIP
The following table sets forth certain information regarding beneficial
ownership of the Company's Common Stock and Special Voting Stock as of March
31, 1998, and as adjusted to reflect the sale by the Company of the shares
offered hereby (assuming no exercise of the Underwriters' over-allotment
option), by: (i) each person who is known by the Company to own beneficially
more than 5% of the Company's Common Stock or Special Voting Stock, and each
person who is expected to own more than 5% of the Partnership Units (other
than the Company), (ii) each of the Company's directors and prospective
directors, (iii) each of the Company's officers named under "Management--
Summary Compensation Table," and (iv) all directors, prospective directors and
executive officers of the Company as a group. After the Offering, Potlatch
will beneficially own 20,000,000 Partnership Units, initially representing a
57.1% interest in the Partnership (53.7%, if the Underwriters' over-allotment
option is exercised), in each case assuming an initial public offering price
of $20.00 per share.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY OWNED SHARES BENEFICIALLY OWNED
PRIOR TO OFFERING(2) AFTER OFFERING(2)(4)
-------------------------------- ------------------------------
NUMBER OF NUMBER OF
NUMBER OF SHARES OF NUMBER OF SHARES OF PERCENT OF
SHARES OF SPECIAL PERCENT OF SHARES OF SPECIAL TOTAL
COMMON VOTING TOTAL VOTING COMMON VOTING VOTING
NAME AND ADDRESS(1) STOCK STOCK POWER(3) STOCK STOCK POWER (3)
------------------- --------- --------- ------------ --------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Potlatch Corporation.... 100 0 100% 0 1 57.1%
Scott R. Jones.......... 0 0 0 0 0 0
Allan F. Trinkwald...... 0 0 0 0 0 0
Courtland L. Washburn... 0 0 0 0 0 0
Mason Browne............ 0 0 0 0 0 0
Robert M. Jolley, Jr.... 0 0 0 0 0 0
John M. Richards........ 0 0 0 0 0 0
Christine Garvey........ 0 0 0 0 0 0
Parnell S. Lewis, Jr.... 0 0 0 0 0 0
James F. Rippey......... 0 0 0 0 0 0
Will M. Storey.......... 0 0 0 0 0 0
Frederick T.
Weyerhaeuser........... 0 0 0 0 0 0
All directors and
executive officers as a
group (nine persons)... 0 0 0 0 0 0
</TABLE>
- --------
*Less than 1%.
(1) The address for Potlatch is 601 West Riverside Avenue, Suite 1100,
Spokane, WA 99201 and for each other listed person is c/o Timberland
Growth Corporation, 1242 North Second Street, Memphis, TN 38101. To the
Company's knowledge, the persons named in the table have sole voting and
investment power with respect to all shares of Common Stock shown as
beneficially owned by them, subject to community property laws where
applicable and the information contained in the footnotes to this table.
(2) The percentage of beneficial ownership is calculated assuming 100 shares
of Common Stock outstanding on March 31, 1998 and 15,000,000 shares
outstanding immediately following the completion of the Offering (assuming
no exercise of the Underwriters' over-allotment option). Beneficial
ownership is determined in accordance with the rules of the Securities and
Exchange Commission and generally includes voting or investment power with
respect to securities. Shares subject to stock options presently
exercisable or exercisable within 60 days of March 31, 1998 are deemed to
be beneficially owned by the holder but are not treated as outstanding for
the purpose of computing the beneficial ownership of any other person.
This table assumes that all outstanding Partnership Units held by
Potlatch, as the initial limited partner of the Partnership, have been
exchanged for shares of Common Stock. The Partnership Units held by the
limited partners
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(initially Potlatch) are exchangeable for cash or, at the Company's
discretion, shares of Common Stock, commencing two years after the
consummation of the Offering, or earlier under certain circumstances
involving the repudiation of the Timber Purchase Agreement, a third-party
tender or exchange offer for the Company's stock and certain extraordinary
dividends, mergers and other fundamental transactions involving the Company.
See "The Partnership Agreement."
(3) In calculating the percentage of total voting power, the voting power of
shares of Common Stock (one vote per share) and Special Voting Stock (one
vote for each share of Common Stock for which the Partnership Units held
by the holder of Special Voting Stock could be exchanged) has been
aggregated.
(4) If the Underwriters exercise their overallotment option in full, the
persons named above will beneficially own the following percentages of the
Common Stock and total voting power after the Offering: Potlatch, 53.7%
and 53.7%, respectively, and all directors and executive officers as a
group, less than 1%.
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DESCRIPTION OF CAPITAL STOCK
The following summary description of the capital stock of the Company is
qualified in its entirety by reference to the form of Amended and Restated
Certificate of Incorporation (the "Charter") and Bylaws of the Company, a copy
of each of which is filed as an exhibit to the Registration Statement of which
this Prospectus forms a part.
GENERAL
The authorized capital stock of the Company consists of 250,000,000 shares
of Common Stock, par value $.01 per share("Common Stock"), one share of
Special Voting Common Stock, par value $.01 per share ("Special Voting
Stock"), 250,000,000 shares of Excess Stock, par value $.01 per share ("Excess
Stock"), and 50,000,000 shares of Preferred Stock, par value $.01 per share
("Preferred Stock"). Upon the consummation of the Offering, 15,000,000 shares
of Common Stock will be issued and outstanding (17,250,000 shares if the
Underwriters' over-allotment option is exercised in full), one share of
Special Voting Stock will be issued and outstanding and held by Potlatch and
no shares of Preferred Stock will be issued and outstanding.
COMMON STOCK AND SPECIAL VOTING STOCK
VOTING RIGHTS. The holders of Common Stock and Special Voting Stock
generally have identical rights except that holders of Common Stock are
entitled to one vote per share while the holder of the Special Voting Stock is
entitled to, at any time, a number of votes equal to the number of shares of
Common Stock that such holder would hold if, as of such time, all of the
Partnership Units then held by such holder were exchanged for shares of Common
Stock in accordance with the Partnership Agreement. The holders of Common
Stock are not entitled to cumulative voting rights. Generally, all matters to
be voted on by stockholders must be approved by a majority (or, in the case of
election of directors, by a plurality) of the votes entitled to be cast by all
shares of Common Stock and Special Voting Stock present in person or
represented by proxy, voting together as a single class, subject to any voting
rights granted to holders of any Preferred Stock.
Following the consummation of the Offering, Potlatch, as the holder of the
sole share of Special Voting Stock and of Partnership Units exchangeable under
certain circumstances for 20,000,000 shares of Common Stock, will control
approximately 57.1% of the total voting power of all classes of Common Stock.
Potlatch's voting control as the holder of the Special Voting Stock will limit
significantly the ability of holders of Common Stock to effect a change in
management or other significant corporate transaction. Such voting control may
prevent a proposed acquisition or defer the making of a proposal for an
acquisition, which acquisition might result in stockholders receiving
consideration in excess of the then current market price of their shares.
DIVIDENDS. If any dividend or other distribution in cash or other property
is paid with respect to Common Stock or Special Voting Stock, a like dividend
or other distribution in cash or other property will also be paid with respect
to shares of the other class in an amount equal per share; provided, however,
that no distribution will be made with respect to the Special Voting Stock in
the event of a split of the Common Stock. The Special Voting Stock may not be
reclassified, subdivided or combined.
CONVERSION. The share of Special Voting Stock shall automatically convert
into one share of Common Stock if (i) the holder of the Special Voting Stock,
solely by virtue of holding such stock, possesses less than 1% of the total
voting power of the shares of outstanding Common Stock or (ii) by virtue of a
transfer of the Special Voting Stock or other event, such stock is not
beneficially owned by Potlatch or any of its subsidiaries. The share of
Special Voting Stock is convertible at the holder's option into one share of
Common Stock.
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BUSINESS COMBINATION TRANSACTIONS. In the event that any shares of Common
Stock are converted into or exchanged for cash, securities or other property
in connection with any merger or consolidation of the Company with another
person, each holder of a share of Common Stock shall receive the same
consideration as a holder of a share of Special Voting Stock and vice-versa;
provided, however, that the foregoing shall not apply if, following such
merger or consolidation and resulting solely from the ownership of securities
issued in connection therewith, a majority of the total voting power of the
surviving entity is held by persons who were stockholders of the Company
immediately prior to such merger or consolidation.
OTHER RIGHTS. In the event of a voluntary or involuntary liquidation,
dissolution or winding up of the Company, the holders of shares of Common
Stock and Special Voting Stock would be entitled to share ratably in all
assets remaining after payment of liabilities, subject to prior distribution
rights and payment of any distributions owing to holders of shares of
Preferred Stock then outstanding, if any. Holders of the shares of Common
Stock or Special Voting Stock have no preemptive rights. Shares of Common
Stock or Special Voting Stock are not subject to further calls or assessment
by the Company, and there are no redemption or sinking fund provisions
applicable to the shares of Common Stock or Special Voting Stock. Upon
consummation of the Offering, all of the outstanding shares of Common Stock
and Special Voting Stock will be legally issued, fully paid and non-
assessable.
PREFERRED STOCK
The Board of Directors has the authority, without further action by the
stockholders, to issue Preferred Stock in one or more series and to fix the
rights, designation, preferences, privileges, limitations and restrictions
thereof, including dividend rights, conversion rights, terms and rights of
redemption, liquidation preferences and sinking fund terms (any or all of
which may be greater than the rights of the Common Stock or the Special Voting
Stock). The Board of Directors, without stockholder approval, can issue shares
of Preferred Stock with conversion, voting and other rights which could
adversely affect the rights of the holders of shares of Common Stock. Under
the Partnership Agreement, the issuance of Preferred Stock requires the
approval of the holders of a majority of the limited partnership interests if
the Partnership Units held by limited partners are exchangeable for at least
20% of the Company's then outstanding Common Stock (assuming that all limited
partners' Partnership Units are exchanged for Common Stock).
RESTRICTIONS ON SIZE OF HOLDINGS OF SHARES
The Charter contains certain restrictions on the number of shares of capital
stock that individual stockholders may own. In order for the Company to
qualify as a REIT under the Code, among other things, not more than 50% in
value of its outstanding capital stock may be owned, directly or indirectly,
by five or fewer individuals (defined in the Code to include certain entities)
during the last half of a taxable year (other than the first year) (the "Five
or Fewer Requirement"), and such shares of capital stock must be beneficially
owned by 100 or more persons during at least 335 days of a taxable year of 12
months (other than the first year) or during a proportionate part of a shorter
taxable year. See "Federal Income Tax Consequences."
In order to protect the Company against the risk of losing its status as a
REIT and to otherwise protect the Company from the consequences of a
concentration of ownership among its stockholders, the Charter, subject to
certain exceptions, provides that no single person (which includes any "group"
of persons) may "beneficially own" more than 9.8% (the "Ownership Limit") of
the aggregate number of outstanding shares of Common Stock or any series of
Preferred Stock (collectively, "Equity Stock"). Under the Charter, a person
generally "beneficially owns" shares for such purpose if such person would be
treated as an owner of Equity Stock either directly or indirectly under
Section 542(a)(2) of the Code, taking into account, for this purpose,
constructive ownership under Section 544 of the Code, as modified by Section
856(h)(1)(B) of the Code. The Charter excludes Potlatch and its successors
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from the Ownership Limit. In addition, the Board of Directors, upon receipt of
a ruling from the Internal Revenue Service or an opinion of counsel or other
evidence acceptable to the Board and upon such other conditions as may be
imposed by the Board, may also waive the Ownership Limit as to any person.
Any transfer of shares of Equity Stock that would (i) cause any person to
beneficially own shares of Equity Stock in excess of the Ownership Limit not
otherwise permitted as provided above, (ii) result in the shares of Equity
Stock being owned by fewer than 100 persons, within the meaning of Section
856(a)(5) of the Code, (iii) result in the Company being "closely held" within
the meaning of Section 856(h) of the Code, (iv) result in the Company
constructively owning 10% or more of the ownership interests in a tenant of
the real property of the Company or any of its direct or indirect subsidiaries
within the meaning of Section 856(d)(2)(B) of the Code, (v) result in the
Company failing to qualify as a "domestically controlled REIT" within the
meaning of Section 897(h)(4)(B) of the Code, or (vi) otherwise cause the
Company to fail to qualify as a REIT, shall be null and void, and the intended
transferee will acquire no rights to the shares of Equity Stock. The foregoing
restrictions on transferability and ownership will not apply if the Board of
Directors adopts a resolution recommending that the Company terminate its
status as a REIT, and such resolution is approved by at least two-thirds of
the total voting power.
If any purported transfer of Equity Stock or other event resulting in an
increase in any holder's percentage interest in Equity Stock would cause a
purported transferee or holder to be in violation of the Ownership Limit or
would cause the Company to be disqualified as a REIT, then the purported
transferee or holder (the "Prohibited Owner") shall not acquire or shall cease
to own, as the case may be, such number of shares in excess of the Ownership
Limit or in excess of the highest number of shares which would allow the
Company to remain qualified as a REIT. Any such excess shares described above
will be converted automatically into an equal number of shares of Excess Stock
(the "Excess Shares") and transferred automatically, by operation of law, to a
trust, the beneficiary of which will be a qualified charitable organization
selected by the Company (the "Beneficiary"). Such automatic transfer shall be
deemed to be effective as of the close of business on the Trading Day (as
defined in the Charter) prior to the date of such violative transfer or event.
As soon as practical after the transfer of shares to the trust, the trustee
of the trust (who shall be designated by the Company and be unaffiliated with
the Company and any Prohibited Owner) will be required to sell such Excess
Shares to a person or entity who could own such shares without violating the
Ownership Limit or causing the Company to be disqualified as a REIT, and in
the case of Excess Shares resulting from a transfer for value, distribute to
the Prohibited Owner an amount equal to the lesser of the price paid by the
Prohibited Owner for such Excess Shares or the sales proceeds received by the
trust for such Excess Shares. In the case of any Excess Shares resulting from
any event other than a transfer for value, the trustee will be required to
sell such Excess Shares to a qualified person and distribute to the Prohibited
Owner an amount equal to the lesser of the Market Price (as defined in the
Charter) of such Excess Shares as of the date of such event or the sales
proceeds received by the trust for such Excess Shares. In either case, any
proceeds in excess of the amount distributable to the Prohibited Owner will be
distributed to the Beneficiary. Prior to a sale of any such Excess Shares by
the trust, the trustee will be entitled to receive, in trust for the
Beneficiary, the same per share dividends and other distributions paid by the
Company with respect to the Equity Stock which was converted into Excess
Shares. A holder of Excess Shares shall not be entitled to any voting rights
other than those required by Delaware law.
In addition, Excess Shares held in the trust shall be deemed to have been
offered for sale to the Company, or its designee, at a price per share equal
to the lesser of (i) in the case of Excess Shares resulting from a transfer
for value, the price per share in the transaction that resulted in such
transfer to the trust or, in the case of Excess Shares resulting from any
event other than a transfer for value, the Market Price on the date of such
event and (ii) the Market Price on the date the Company, or its designee,
accepts such offer. The Company shall have the right to accept such offer for
a period of 90 days.
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All certificates representing shares of Common Stock will bear a legend
referring to the restrictions described above.
Any person who beneficially owns more than 5% of the outstanding shares of
any class or series of Equity Stock (or such lower percentages as are then
required pursuant to the regulations under the Code) is required to provide a
written statement containing certain information to the Company by January 31
of each year. In addition, each record and beneficial owner of Equity Stock
shall upon demand be required to disclose to the Company in writing such
information as the Company may request in order to determine the Company's
status as a REIT and to ensure compliance with the Ownership Limit.
The ownership limitations described above could have the effect of delaying,
deferring or preventing a change of control of the Company in which holders of
Common Stock might receive a premium for their shares over the then prevailing
market price.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the Common Stock is Harris Trust and
Savings Bank.
NEW YORK STOCK EXCHANGE LISTING
Prior to the date of this Prospectus, there has been no public trading
market for the Common Stock. Application has been made to list the Common
Stock on the New York Stock Exchange under the symbol "TGC."
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CERTAIN PROVISIONS OF DELAWARE LAW AND
THE COMPANY'S CHARTER AND BYLAWS
The following summary of certain provisions of Delaware law and the
Company's Charter and Bylaws does not purport to be complete and is subject to
and qualified in its entirety by reference to Delaware law and to the
Company's Charter and Bylaws, copies of which have been filed as exhibits to
the Registration Statement of which this Prospectus forms a part.
CLASSIFICATION OF THE BOARD AND REMOVAL OF DIRECTORS
Pursuant to the Company's Charter, the directors are divided into three
classes. One class will hold office initially for a term expiring at the first
annual meeting of stockholders to be held in 1999, another class will hold
office initially for a term expiring at the second annual meeting of
stockholders to be held in 2000 and another class will hold office initially
for a term expiring at the third annual meeting of stockholders to be held in
2001. As the term of each class expires, directors in that class will be
elected to serve for a term expiring at the annual meeting of stockholders
held in the third year following the year of their election and until their
successors are duly elected and qualify. The Company believes that
classification of the Board will help to assure the continuity and stability
of the Company's business strategies and policies as determined by the Board.
Holders of Common Stock will have no right to cumulative voting in the
election of directors. Consequently, at each annual meeting of stockholders,
subject to the rights of holders of any series of Preferred Stock, the holders
of a majority of the voting power of the Common Stock and Special Voting
Stock, voting together as a single class, will be able to elect all of the
successors of the class of directors whose terms expire at that meeting.
The classified director provision could have the effect of making the
removal of incumbent directors more time-consuming and difficult, which could
discourage a third party from making a tender offer or otherwise attempting to
obtain control of the Company, even though such an attempt might be beneficial
to the Company and its stockholders. At least two annual meetings of
stockholders, instead of one, will generally be required to effect a change in
a majority of the Board. Thus, the classified board provision could increase
the likelihood that incumbent directors will retain their positions.
The Charter provides that a director may be removed only for cause (as
defined in the Charter) and only by the affirmative vote of the holders of at
least 66 2/3% of the total voting power of the Common Stock entitled to vote
at a meeting of stockholders called for that purpose. The Charter further
provides that all vacancies on the Board of Directors, however occurring,
including, without limitation, by reason of the removal of a director or an
increase in the size of the Board, shall be filled by a majority of the
remaining directors. These provisions, taken together, preclude stockholders
from removing incumbent directors and filling the vacancies created by such
removal with their own nominees except upon the existence of cause for removal
and a substantial affirmative vote.
BUSINESS COMBINATIONS
The Company is subject to the provisions of Section 203 of the Delaware
General Corporation Law (the "Delaware Law"), an anti-takeover law. In
general, the statute prohibits a publicly held Delaware corporation from
engaging in a business combination with an "interested stockholder" for a
period of three years after the date of the transaction in which the person
became an interested stockholder, unless the business combination is approved
by the Board of Directors and the holders of at least 66 2/3% of the
outstanding voting stock of the corporation (excluding shares held by the
interested stockholder). A "business combination" includes a merger, asset
sale or other transaction resulting in financial benefit to the stockholder.
An "interested stockholder" is a person who, together with affiliates and
associates, owns (or within the three prior years, did own) 15% or more of the
corporation's voting stock. This statutory prohibition does not apply if, upon
consummation of the transaction in which any person becomes an interested
stockholder, the interested stockholder owns at least 85% of the outstanding
voting stock of the corporation (excluding shares held by persons who are both
directors and officers or by certain stock option plans).
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MEETINGS OF STOCKHOLDERS
The Bylaws of the Company provide for annual meetings of stockholders to
elect directors and transact such other business as may properly be brought
before the meeting. The Charter provides that special meetings of stockholders
may be held at any time upon the call of the Chairman of the Board of
Directors, any Vice Chairman of the Board, the President or, at the request in
writing of a majority of the Board of Directors, any officer. Stockholders of
the Company will not have the right to call a special meeting of stockholders.
The Charter provides that during the period in which Potlatch and its
subsidiaries continue to beneficially own 50% or more of the total voting
power of the shares of Common Stock outstanding, any corporate action which
may be taken at an annual or special meeting of stockholders may be taken
without a meeting, without prior notice and without a vote, upon delivery to
the Company of written consents signed by the holders of capital stock having
not less than the minimum number of votes that would be necessary to authorize
such corporate action at a meeting of stockholders. After such period, any
corporate action which may be taken at an annual or special meeting of
stockholders may be taken only at a duly called annual or special meeting of
stockholders and not by written consent of stockholders.
LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS
The Company has adopted provisions in its Charter that limit the liability
of its directors for monetary damages for breach of their fiduciary duty as
directors, except for liability that cannot be eliminated under the Delaware
Law. The Delaware Law provides that directors of the Company will not be
personally liable for monetary damages for breach of their fiduciary duty as
directors, except for liability resulting from (1) any breach of their duty of
loyalty to the Company or its stockholders, (2) acts or omissions not in good
faith or which involve intentional misconduct or a knowing violation of law,
(3) unlawful payment of dividend or unlawful stock repurchase or redemption,
as provided in Section 174 of the Delaware Law or (4) any transaction from
which the director derived an improper personal benefit.
The Company's Bylaws also provide that the Company shall indemnify its
directors and officers to the fullest extent permitted by the Delaware Law.
The Company intends to enter into separate indemnification agreements with its
directors and certain of its officers that could require the Company, among
other things, to indemnify them against certain liabilities that may arise by
reason of their status or service as directors and officers and to advance
their expenses incurred as a result of any proceeding against them as to which
they could be indemnified. The Company believes that the limitation of
liability provision in its Charter and these indemnification agreements will
facilitate the Company's ability to continue to attract and retain qualified
individuals to serve as directors and officers of the Company.
ADVANCE NOTICE OF DIRECTOR NOMINATIONS AND NEW BUSINESS
The Company's Bylaws contain provisions requiring advance notice to the
Company of (i) nominations of candidates for election to the Board of
Directors who are not nominated by the Board of Directors and (ii) business to
be conducted at the Company's annual meeting of stockholders (other than such
business as may be brought by or at the direction of the Board of Directors).
Without compliance with these provisions, any such nominations or business may
not be considered by the stockholders.
AMENDMENT OF THE CHARTER AND BYLAWS
The Company's Charter may not be amended without the affirmative vote of at
least 66 2/3% of the total voting power of the outstanding capital stock of
the Company. The Company's Bylaws may not be amended without the affirmative
vote of at least 66 2/3% of the directors of the Company then in office or at
least 66 2/3% of the total voting power of the outstanding capital stock of
the Company.
132
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Prior to the Offering, there has been no public market for the Common Stock
of the Company, and no predictions can be made regarding the effect, if any,
that market sales of shares or the availability of shares for sale will have
on the market price prevailing from time to time. As described below, only a
limited number of shares will be available for sale shortly after the Offering
due to certain contractual and legal restrictions on resale. Nevertheless,
sales of substantial amounts of Common Stock of the Company in the public
market after the restrictions lapse could adversely affect the prevailing
market price. Potlatch and any other limited partners of the Partnership may
be entitled under certain circumstances to exchange Partnership Units for
substantial numbers of shares of Common Stock and to cause the Company to
register such shares for resale in the public market. See "The Partnership
Agreement--Exchange of Partnership Units."
Upon completion of the Offering, the Company will have outstanding
15,000,000 shares of Common Stock. The 15,000,000 shares of Common Stock being
sold hereby will be freely tradable (other than by an "affiliate" of the
Company as such term is defined in the Securities Act) without restriction or
registration under the Securities Act. All remaining shares were issued and
sold by the Company in private transactions ("Restricted Shares") and are
eligible for public sale if registered under the Securities Act or sold in
accordance with Rule 144 thereunder (as described below).
The Company has agreed that, during the period beginning from the date of
this Prospectus and continuing to and including the first anniversary of the
date of this Prospectus (the "Lockup Period"), it will not offer, sell,
contract to sell or otherwise dispose of any securities of the Company (other
than pursuant to employee stock option plans existing, or on the conversion or
exchange of convertible or exchangeable securities outstanding, on the date of
this Prospectus) which are substantially similar to the shares of Common Stock
or which are convertible into or exchangeable for securities which are
substantially similar to the shares of Common Stock without the prior written
consent of Goldman, Sachs & Co., except for the shares of Common Stock offered
in connection with the Offering.
On and after the second anniversary of the completion of the Offering, the
Partnership will be obligated to exchange each Partnership Unit at the request
of the holder thereof for cash equal to the fair market value of one share of
Common Stock at the time of such exchange (as determined in accordance with
the provisions of the Partnership Agreement), provided that the Company may
elect to acquire any such Partnership Unit presented for exchange for one
share of Common Stock (subject to antidilution adjustments) or an amount of
cash of the same value. The exchange right will also become immediately
exercisable if a third party makes a tender or exchange offer for more than
10% of the outstanding shares of Common Stock and in the event of a sale of
all or substantially all of the Company's assets, certain extraordinary
dividends and certain mergers and other business combinations involving the
Company. Potlatch, which upon consummation of the Offering will own
Partnership Units exchangeable under the foregoing circumstances for
20,000,000 shares of Common Stock, has agreed not to sell any Common Stock
owned by it without the prior written consent of Goldman, Sachs & Co. during
the Lockup Period. Following the expiration of the Lockup Period, all such
shares will be available for resale, subject to compliance with Rule 144. In
addition, the Company's directors and executive officers, who will initially
hold stock options to purchase approximately 290,000 shares of Common Stock,
have agreed that, should they exercise such options, they will not sell any
Common Stock owned by them during the Lockup Period without the prior written
consent of Goldman, Sachs & Co. Following the expiration of such one-year
period, such shares of Common Stock issuable upon the exercise of options will
be available for sale in the public market subject to compliance with Rule
144. See "Underwriting."
In general, under Rule 144 as currently in effect, beginning 90 days after
the date of this Prospectus, an affiliate of the Company, or a holder of
Restricted Shares who owns beneficially shares that were not acquired from the
Company or an affiliate of the Company within the previous one year,
133
<PAGE>
would be entitled to sell within any three-month period a number of shares
that does not exceed the greater of 1% of the then outstanding shares of
Common Stock (approximately 150,000 shares immediately after the Offering,
assuming no exercise of the Underwriters' over-allotment option) or the
average weekly trading volume of the Common Stock during the four calendar
weeks preceding the date on which notice of the sale is filed with the
Securities and Exchange Commission (the "Commission"). Sales under Rule 144
are subject to certain requirements relating to manner of sale, notice and
availability of current public information about the Company. However, a
person (or persons whose shares are aggregated) who is not deemed to have been
an affiliate of the Company at any time during the 90 days immediately
preceding the sale and who owns beneficially Restricted Shares is entitled to
sell such shares under Rule 144(k) without regard to the limitations described
above, so long as at least two years have elapsed since the later of the date
the shares were acquired from the Company or from an affiliate of the Company.
The foregoing is a summary of Rule 144 and is not intended to be a complete
description of it.
The Company intends to file one or more registration statements under the
Securities Act to register up to 3,000,000 shares of Common Stock reserved for
issuance pursuant to the Stock Incentive Plan. Each such registration
statement will become effective immediately upon filing. Commencing two years
after the Offering, the Company will also be obligated to file one or more
registration statements under the Securities Act to register the shares of
Common Stock issuable upon exchange of Partnership Units for shares of Common
Stock. See "Certain Relationships and Related Transactions" and "The
Partnership Agreement--Exchange of Partnership Units." The resale in the
public market of such registered shares by non-affiliates will be permitted
without restriction under the Securities Act, unless such shares are subject
to vesting restrictions imposed by the Company or the contractual restrictions
described above.
134
<PAGE>
UNDERWRITING
Subject to the terms and conditions of the Underwriting Agreement, the
Company has agreed to sell to each of the Underwriters named below, and each
of such Underwriters, for whom Goldman, Sachs & Co., A.G. Edwards & Sons,
Inc., Legg Mason Wood Walker, Incorporated, Prudential Securities Incorporated
and BancAmerica Robertson Stephens are acting as representatives, has
severally agreed to purchase from the Company, the respective number of shares
of Common Stock set forth opposite its name below:
<TABLE>
<CAPTION>
NUMBER
OF SHARES OF
UNDERWRITER COMMON STOCK
----------- ------------
<S> <C>
Goldman, Sachs & Co. ...........................................
A.G. Edwards & Sons, Inc. ......................................
Legg Mason Wood Walker, Incorporated............................
Prudential Securities Incorporated..............................
BancAmerica Robertson Stephens..................................
----------
Total......................................................... 15,000,000
==========
</TABLE>
Under the terms and conditions of the Underwriting Agreement, the
Underwriters are committed to take and pay for all of the shares offered
hereby, if any are taken.
The Underwriters propose to offer the shares of Common Stock in part
directly to the public at the initial public offering price set forth on the
cover page of this Prospectus, and in part to certain securities dealers at
such price less a concession of $ per share. The Underwriters may allow,
and such dealers may reallow, a concession not in excess of $ per share to
certain other brokers and dealers. After the shares of Common Stock are
released for sale to the public, the offering price and other selling terms
may from time to time be raised by the representatives.
The Company has granted the several Underwriters an option exercisable for
30 days after the date of this Prospectus to purchase up to an aggregate of
2,250,000 additional shares of Common Stock to cover over-allotments, if any.
The Underwriters may exercise such option only to cover over-allotments in
connection with the sale of the 15,000,000 shares of Common Stock. If the
Underwriters exercise their over-allotment option, the Underwriters have
severally agreed, subject to certain conditions, to purchase approximately the
same percentage thereof that the number of shares to be purchased by each of
them, as shown in the foregoing table, bears to the 15,000,000 shares of
Common Stock offered.
At the request of the Company, the Underwriters have reserved up to
1,500,000 shares of Common Stock for sale at the initial public offering price
to certain directors and employees of Potlatch and the Company and
stockholders of ATCO who have expressed an interest in purchasing shares. The
number of shares available to the general public will be reduced to the extent
these persons purchase the reserved shares. Any reserved shares that are not
so purchased in the Offering will be offered by the Underwriters to the
general public on the same terms as the other shares offered hereby.
The Company, its directors and executive officers, and the Partnership have
agreed, subject to certain exceptions, during the period beginning from the
date of this Prospectus and continuing to and including the first anniversary
of the date of this Prospectus, not to offer, sell, contract to sell or
otherwise dispose of any securities of the Company which are substantially
similar to the shares of Common Stock or any Partnership Units or any
securities which are convertible into or exchangeable for securities which are
substantially similar to the shares of Common Stock or Partnership Units
without the prior written consent of Goldman, Sachs & Co.. Potlatch, which
upon consummation of the
135
<PAGE>
Offering will own Partnership Units exchangeable under certain circumstances
for 20,000,000 shares of Common Stock, has agreed, subject to certain
exceptions, not to offer, sell, contract to sell or otherwise dispose of any
securities of the Company which are substantially similar to the shares of
Common Stock or Partnership Units or any securities which are convertible into
or exchangeable for Common Stock or Partnership Units or securities which are
substantially similar to the shares of Common Stock or Partnership Units
without the prior written consent of Goldman, Sachs & Co. during the foregoing
one-year period.
The representatives have informed the Company that they do not expect sales
to accounts over which the Underwriters exercise discretionary authority to
exceed five percent of the total number of shares of Common Stock offered by
them.
Prior to the Offering, there has been no public market for the shares of
Common Stock. The initial public offering price will be negotiated among the
Company and the representatives. Among the factors to be considered in
determining the initial public offering price of the Common Stock, in addition
to prevailing market conditions, will be the Company's historical performance,
estimates of the business potential and cash flow prospects of the Company, an
assessment of the Company's management and the consideration of the above
factors in relation to market valuation of companies in related businesses.
The Underwriters may purchase and sell the Common Stock in the open market.
These transactions may include over-allotment and stabilizing transactions and
purchases to cover syndicate short positions created in connection with the
Offering. Stabilizing transactions consist of certain bids or purchases for
the purpose of preventing or retarding a decline in the market price of the
Common Stock, and syndicate short positions involve the sale by the
Underwriters of a greater number of shares than they are required to purchase
from the Company in the Offering. The Underwriters also may impose a penalty
bid, whereby selling concessions allowed to syndicate members or other broker-
dealers in respect of the securities sold in the offering for their account
may be reclaimed by the syndicate if such shares are repurchased by the
syndicate in stabilizing or covering transactions. These activities may
stabilize, maintain or otherwise affect the market price of the Common Stock,
which may be higher than the price that might otherwise prevail in the open
market. These activities, if commenced, may be discontinued at any time. These
transactions may be affected on the New York Stock Exchange, in the over-the-
counter market or otherwise.
The Common Stock will be listed on the NYSE under the symbol "TGC." In order
to meet one of the requirements for listing the Common Stock on the NYSE, the
Underwriters have undertaken to sell lots of 100 or more shares to a minimum
of 2,000 beneficial holders.
The Company will pay an advisory fee equal to 0.5% of the gross proceeds of
the Offering (including any exercise of the Underwriters' over-allotment
option) to Goldman, Sachs & Co. for advisory services in connection with the
evaluation, analysis and structuring of the Company's formation and the
Offering. The Underwriters have agreed to reimburse the Company for certain
expenses incurred by it in connection with the Offering.
Goldman, Sachs & Co. has served as the financial adviser to ATCO in
connection with the Merger and Potlatch's purchase of certain converting
assets from certain entities related to ATCO and as customary compensation for
a transaction of this type received a fee of $3.5 million.
The Company, the Partnership and Potlatch have agreed to indemnify the
several Underwriters against certain liabilities, including liabilities under
the Securities Act.
136
<PAGE>
LEGAL MATTERS
Certain legal matters with respect to the validity of the Common Stock
offered hereby will be passed upon for the Company by Pillsbury Madison &
Sutro LLP, San Francisco, California, and for the Underwriters by Andrews &
Kurth L.L.P., Houston, Texas. The description of certain federal income tax
matters set forth herein under the caption "Federal Income Tax Consequences"
is based upon the opinion of Pillsbury Madison & Sutro LLP. Such opinion will
rely, as to the qualification of ATCO as a REIT, upon the opinion of Skadden,
Arps, Slate, Meagher & Flom LLP, New York, New York. In addition to providing
services to the Company, Pillsbury Madison & Sutro LLP has also provided legal
services to Potlatch Corporation, including, without limitation, in connection
with certain of the Formation Transactions. Andrews & Kurth L.L.P. has acted
as counsel to the Company in connection with the negotiation of the Credit
Facility.
EXPERTS
The financial statements of the Potlatch Southern Timberlands as of December
31, 1997 and 1996, and for each of the years in the three-year period ended
December 31, 1997, and the consolidated balance sheet of the Company as of
February 27, 1998, have been included herein in reliance upon the reports of
KPMG Peat Marwick LLP, independent certified public accountants, appearing
elsewhere herein, and upon the authority of said firm as experts in accounting
and auditing.
The consolidated financial statements of ATCO as of July 31, 1996 and 1997
and December 31, 1997 and for each of the three years in the period ended July
31, 1997 and for the five-month period ended December 31, 1997 included in
this Prospectus have been audited by Deloitte & Touche LLP, independent
auditors, as stated in their report appearing herein, and have been so
included in reliance upon the report of such firm given upon their authority
as experts in accounting and auditing.
ADDITIONAL INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission") a Registration Statement under the Securities Act with respect
to the Common Stock offered hereby. This Prospectus does not contain all of
the information set forth in the Registration Statement and the exhibits and
schedules thereto. For further information with respect to the Company and the
Common Stock offered hereby, reference is hereby made to such Registration
Statement, exhibits and schedules. Statements contained in this Prospectus
regarding the contents of any contract or other document are not necessarily
complete; with respect to each such contract or document filed as an exhibit
to the Registration Statement, reference is made to the exhibit for a more
complete description of the matter involved, and each such statement shall be
deemed qualified in its entirety by such reference. A copy of the Registration
Statement, including the exhibits and schedules thereto, may be inspected
without charge at the principal office of the Commission, 450 Fifth Street,
N.W., Washington, D.C. 20549, and copies of such material may be obtained from
such office upon payment of the fees prescribed by the Commission. Such
documents may also be accessed electronically at the Commission's home page on
the Internet at http://www.sec.gov.
The Company intends to furnish its stockholders with annual reports
containing financial statements audited by independent certified public
accountants and quarterly reports containing unaudited financial information
for the first three quarters of each fiscal year.
137
<PAGE>
GLOSSARY
BOARD FOOT (BF): A standard unit of measure for logs and lumber that is 12
inches square and one inch thick.
BOTTOMLANDS: The flood plains of streams, creeks and rivers that generally
support quality hardwood stands.
CLEAR-CUT: Harvesting all merchantable trees in a stand of timber at the
same time. In practice, some unsalable material may be left standing.
CONTROLLED BURNING: Setting fire to the forest floor to reduce the
accumulation of logging debris, dead and fallen timber, weeds and underbrush
that pose a wildfire hazard or compete with the trees for water and nutrients.
CONVERSION: The process of sawing or otherwise changing the shape of timber,
or transforming timber into any other type of wood product.
CONVERTING FACILITY: A sawmill, pulp mill or other facility at which timber
conversion occurs.
CORD: A unit of measure equal to a stack of wood 4X4X8 feet, or 128 cubic
feet of wood, bark and air.
CRUISE: Field sampling procedures used to provide quantitative and
qualitative information for estimating the volume and quality of standing
timber on a tract.
CUTTING CONTRACT: A contractual right to cut certain described timber over a
specified period of time on a specified tract of property.
DBH: The abbreviation means "diameter at breast height," a term frequently
used to describe a tree measurement taken 4 1/2 feet above the average ground
level.
DOYLE SCALE: A mathematical scale for converting log dimensions into
estimated board feet of dry lumber volumes, commonly used in the southern and
eastern United States.
EVEN-AGED FOREST: A forested area containing trees of a single age class.
FEE TIMBER: Timber located on property owned in fee, as opposed to timber
located on property owned by others and acquired under cutting contracts.
GREEN TONS: Tons of wood product including natural moisture.
HARDWOODS: Trees that usually have broad leaves and are deciduous (losing
leaves every year).
INITIAL TIMBERLANDS: The timberlands acquired by the Company in the
Formation Transactions, consisting of approximately 824,000 fee acres and
approximately 14,000 leased acres, which include approximately 44,200 acres of
roads, levees and other non-productive areas.
MBF: One thousand board feet. A common unit of measure for pricing standing
timber as well as lumber.
MERCHANTABLE TIMBER: Minimum size timber for which there might be a
commercial market. It should be recognized that timber of minimum merchantable
size has not yet reached its optimal economic value.
138
<PAGE>
MMBF: One million board feet.
NATURAL REGENERATION: The process of a forest regenerating itself with seeds
from mature trees or sprouts from stumps as roots. Natural regeneration
results in new tree growth without regard to the genetic quality of the trees.
NATURAL STAND: A forest stand resulting from natural regeneration.
NON-FOREST LANDS: Lands consisting of or containing roads, water or
easements, such as gas and electric transmission lines, timbered buffers not
harvested due to environmental concerns, currently non-commercially viable
acreage and certain wastelands.
PLANTATION: A timber stand established by planting seedlings after the land
has been prepared. Trees in a plantation are of the same age and size, which
tends to simplify harvesting.
POLES: Straight, tall trees suitable for manufacturing telephone poles,
wharf pilings or the like. Trees suitable for use as poles generally command a
superior price.
PULPWOOD: Wood used to produce pulp in the manufacture of paper and other
cellulose products.
SALVAGE: Logging or removing dead or high-risk trees.
SAWTIMBER: Trees containing logs of sufficient size and quality to be
suitable for conversion into lumber or plywood.
SEEDLINGS: Live trees less than one inch in diameter at ground level.
SILVICULTURE: The practice of cultivating forest crops based on the
knowledge of forestry; more particularly, controlling the establishment,
composition and growth of forests.
SLASH: Debris left after logging, thinning or brush cutting, or debris
caused by wind or fire.
SOFTWOODS: Conifers such as Douglas fir, spruce, loblolly pine and shortleaf
pine.
STAND: An area of trees possessing sufficient uniformity of age, size and
composition to be distinguishable from adjacent areas so as to form a
management unit.
STOCKING: An indication of the number of trees in a stand as compared to the
desirable number for best growth and management, such as well-stocked, over-
stocked or partially stocked.
STUMPAGE PRICE: The price paid for standing timber (timber as it stands
uncut in the woods).
SUSTAINABLE YIELD: A method of forest management that implies a balance over
time between timber growth and harvest.
THINNING: Removal of selected trees, usually to eliminate overcrowding, to
remove dying or diseased trees and to promote more rapid growth of desired
trees. "Pre-commercial thinning" refers to thinning that does not produce
merchantable timber.
TIMBERLANDS: As used in this Prospectus, references to "the Timberlands" are
to the Initial Timberlands (as defined herein) and any other timberlands that
the Company may acquire in the future. Other references to "timberlands" are
to commercial forest land generally capable of producing more than 20 cubic
feet of wood per acre per year. The Company's aggregate timberland acreage
includes roads and other non-productive acreage. See the definition of
"Initial Timberlands" above.
139
<PAGE>
TONS: All references to tons of timber are to green tons.
UNEVEN-AGED FOREST: A forested area containing trees of all age classes.
USFS: United States Forest Service.
USFS #1 GRADE: USFS grades represent measures of log quality, in terms of
size and number of defects, promulgated by the USFS. USFS #1 grade is the
highest such grade.
VENEER: Wood peeled, sawn or sliced into thin sheets of a given thickness.
WOOD FIBER: Generally refers to pulpwood or chips used in the manufacture of
pulp and paper.
140
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
THE COMPANY
Independent Auditor's Report............................................ F-2
Consolidated Balance Sheet as of February 27, 1998...................... F-3
Notes to Consolidated Balance Sheet..................................... F-4
THE POTLATCH SOUTHERN TIMBERLANDS
Independent Auditors' Report............................................ F-6
Statements of Earnings for the three months ended March 31, 1998 and
1997 and for the years ended December 31, 1997, 1996 and 1995.......... F-7
Balance Sheets as of March 31, 1998 and December 31, 1997 and 1996...... F-8
Statements of Cash Flows for the three months ended March 31, 1998 and
1997 and for the years ended December 31, 1997, 1996 and 1995.......... F-9
Notes to Financial Statements........................................... F-10
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
Report of Independent Certified Public Accountants...................... F-12
Consolidated Balance Sheets as of December 31, 1997 and July 31, 1997
and 1996............................................................... F-13
Consolidated Statements of Operations for the five months ended December
31, 1997 and years ended July 31, 1997, 1996 and 1995.................. F-14
Consolidated Statements of Stockholders' Equity (Deficit) for the five
months ended December 31, 1997 and years ended July 31, 1997, 1996 and
1995................................................................... F-15
Consolidated Statements of Cash Flows for the five months ended December
31, 1997 and years ended July 31, 1997, 1996 and 1995.................. F-16
Notes to Consolidated Financial Statements.............................. F-17
Consolidated Balance Sheets as of March 31, 1998 (unaudited) and
December 31, 1997...................................................... F-30
Consolidated Statements of Operations for the three months ended March
31, 1998 and 1997 (unaudited).......................................... F-31
Consolidated Statements of Stockholders' Equity (Deficit) for the three
months ended March 31, 1998 and 1997 (unaudited)....................... F-32
Consolidated Statements of Cash Flows for the three months ended March
31, 1998 and 1997 (unaudited).......................................... F-33
Notes to Consolidated Financial Statements (unaudited).................. F-34
</TABLE>
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Timberland Growth Corporation:
We have audited the accompanying consolidated balance sheet of Timberland
Growth Corporation as of February 27, 1998. This financial statement is the
responsibility of the Company's management. Our responsibility is to express
an opinion on this financial statement based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the balance sheet is free of
material misstatement. An audit of a balance sheet includes examining, on a
test basis, evidence supporting the amounts and disclosures in that balance
sheet. An audit of a balance sheet also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall balance sheet presentation. We believe that our audit
of the balance sheet provides a reasonable basis for our opinion.
In our opinion, the consolidated balance sheet referred to above presents
fairly, in all material respects, the financial position of Timberland Growth
Corporation as of February 27, 1998 in conformity with generally accepted
accounting principles.
KPMG Peat Marwick LLP
Portland, Oregon
March 10, 1998
F-2
<PAGE>
TIMBERLAND GROWTH CORPORATION
CONSOLIDATED BALANCE SHEET
FEBRUARY 27, 1998
<TABLE>
<S> <C>
ASSETS
------
Cash.............................................................. $1,500
======
STOCKHOLDERS' EQUITY
--------------------
Stockholders' Equity:
Common shares, $.01 par value, 100 shares authorized, 100 shares
issued and outstanding......................................... $ 1
Additional paid-in capital...................................... 1,499
------
$1,500
======
</TABLE>
The accompanying notes are an integral part of this financial statement.
F-3
<PAGE>
TIMBERLAND GROWTH CORPORATION
NOTES TO CONSOLIDATED BALANCE SHEET
ORGANIZATION
Timberland Growth Corporation (the "Company") was organized in the State of
Delaware on February 4, 1998. The Company intends to qualify as a real estate
investment trust ("REIT") under the Internal Revenue Code commencing with its
taxable year ending December 31, 1998. As a REIT, the Company generally will
not be subject to federal income taxes on net income that it distributes to
its stockholders.
The Company was formed to acquire approximately 324,000 fee acres of
timberlands and real estate assets from the Anderson-Tully Company ("ATCO") in
a cash merger. The ATCO timberlands and real estate assets will be contributed
to Timber Holdings L.P. (the "Partnership") in exchange for the sole general
partner interest of the Partnership. Potlatch Corporation ("Potlatch"), the
initial owner of the Company's issued and outstanding Common Stock, will
contribute approximately 513,000 acres of fee and leased timberlands to the
Partnership and will initially own the sole limited partner interest in the
Partnership. In addition, Potlatch will own the Company's sole share of
Special Voting Stock that will give Potlatch voting power of the Company equal
to the number of votes to which Potlatch would be entitled if all of its
interests in the Partnership were exchanged for Common Stock. Initially,
Potlatch's voting power will equal its percentage interest in the Partnership.
The Company's operations, which will consist of managing and acquiring
timberlands, will be conducted through the Partnership. The Company has had no
operations to date.
The consolidated balance sheet includes the accounts of Beaver Acquisition
Corporation, a wholly-owned subsidiary of the Company. All intercompany
transactions were eliminated upon consolidation.
PUBLIC OFFERING
The Company intends to file a registration statement on Form S-11 with the
Securities and Exchange Commission for a public offering (the "Offering") of
Common Stock. The number of shares to be offered and the initial offering
price will be determined at a future date. The Company intends to use all of
the net proceeds of the Offering to fund a majority of the purchase price for
its acquisition of timberlands and real estate assets of ATCO.
LINE OF CREDIT
The Company has a commitment to obtain a $200 million unsecured revolving
line of credit (the "Credit Facility") from a commercial bank prior to the
closing of the Offering. Under the loan commitment, the Credit Facility will
have a term of five years and may be used for acquisitions, working capital
and general corporate purposes. The loan commitment provides that borrowings
under the Credit Facility will bear interest at a variable interest rate equal
to a LIBOR rate for the LIBOR period selected by the Company, plus a margin of
between 40 and 60 basis points, depending upon the Company's interest coverage
ratio, or, at the Company's election, at the prime rate of the agent bank in
effect from time to time. Upon closing of the Offering, the Company intends to
borrow under the Credit Facility in order to (i) repay $21.4 million of a loan
from Potlatch to ATCO, which the Company will assume in the acquisition, and
(ii) fund the cash portion of the ATCO acquisition not funded from the
proceeds of the Offering. The Partnership will assume the Company's
obligations under the Credit Facility.
F-4
<PAGE>
TIMBERLAND GROWTH CORPORATION
NOTES TO CONSOLIDATED BALANCE SHEET--(CONTINUED)
INCENTIVE AND BENEFIT PLANS
Stock Incentive Plan
The Company intends to adopt the 1998 Stock Incentive Plan (the "Stock
Incentive Plan") prior to the consummation of the Offering. A total of
3,000,000 shares of Common Stock will be available for issuance under the
Stock Incentive Plan. An award under this plan may be in the form of stock
options, limited stock appreciation rights, restricted stock or other share-
based awards.
Participants in the Stock Incentive Plan will be employees of the Company,
the Partnership or its subsidiaries who are selected by the Board of
Directors. Directors not employed by Potlatch, the Company or their
subsidiaries (the "Outside Directors") are eligible to receive only
nondiscretionary awards of nonqualified stock options under the plan. These
awards will consist of an option grant of 5,000 shares upon a director's
initial election to the Board, and thereafter an annual option grant of 1,500
shares. The maximum number of stock options, restricted stock or other share-
based awards that may be granted to an employee under the Stock Incentive Plan
in any calendar year is 250,000 shares.
Stock options granted to employees and Outside Directors will be subject to
terms and conditions specified in the Stock Incentive Plan and stock option
agreements. The exercise price of a stock option will be the fair market value
of a share on the date of grant. Each stock option granted to an employee will
become exerciseable at the time or times specified in the applicable stock
option agreement. Each stock option granted to an Outside Director will become
exerciseable in 50% increments on the first and second anniversaries of the
date of grant, provided that he or she has continuously been an Outside
Director from the date of grant until such time. In addition, each plan
participant will have the right to accelerated vesting upon the occurrence of
certain events.
INCENTIVE BONUS PROGRAM
The Company intends to establish an incentive compensation plan (the
"Incentive Bonus Plan") for key employees. The Incentive Bonus Plan will
provide for payment of annual cash incentive awards to participating employees
based on the Company's attainment of key annual financial objectives and an
evaluation of the employee's personal performance during the year. The
Company's Board will determine the awards. Awards will only be paid with
respect to years in which minimum financial objectives, as established
annually by the Board, are met. The maximum award earned in any year will be
100% of the employee's base salary in effect for that year.
PENSION PLANS
Employees of the Company will be eligible to participate in a tax-qualified
defined benefit pension plan (the "Retirement Plan") and a Supplemental
Benefit Plan which will replace benefits lost because of any limitation placed
on the Company's tax-qualified defined benefit plan or the Company's 401(k)
savings plan that the Company also intends to establish. In calculating years
of credited service, the period of time recognized under Potlatch's Salaried
Employees' Retirement Plan will be taken into account.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements. Actual results could differ from those
estimates and assumptions.
F-5
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Potlatch Corporation:
We have audited the accompanying balance sheets of the Potlatch Southern
Timberlands (A Business Unit of Potlatch Corporation) as of December 31, 1997
and 1996, and the related statements of earnings and cash flows for each of
the years in the three-year period ended December 31, 1997. These financial
statements are the responsibility of the management of Potlatch Corporation.
Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above presently fairly,
in all material respects, the financial position of the Potlatch Southern
Timberlands (A Business Unit of Potlatch Corporation) as of December 31, 1997
and 1996, and the results of their operations and their cash flows for each of
the years in the three-year period ended December 31, 1997, in conformity with
generally accepted accounting principles.
KPMG Peat Marwick LLP
Portland, Oregon
May 22, 1998
F-6
<PAGE>
POTLATCH SOUTHERN TIMBERLANDS
(A BUSINESS UNIT OF POTLATCH CORPORATION)
STATEMENTS OF EARNINGS
(IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH
YEAR ENDED DECEMBER 31, 31,
------------------------- --------------
1995 1996 1997 1997 1998
------- ------- ------- ------ ------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Timber sales.................... $29,715 $28,318 $40,449 $6,004 $8,160
------- ------- ------- ------ ------
Costs and expenses:
Depletion, depreciation and
amortization................. 1,398 3,466 1,683 322 344
Operating expenses............ 4,232 4,523 4,788 1,141 1,112
Allocated Potlatch Corporation
administration expenses...... 1,053 1,016 1,192 261 273
------- ------- ------- ------ ------
Total costs and expenses.... 6,683 9,005 7,663 1,724 1,729
------- ------- ------- ------ ------
Earnings from operations........ 23,032 19,313 32,786 4,280 6,431
Other income (expense), net..... (393) (363) (488) (447) (436)
------- ------- ------- ------ ------
Earnings before income taxes.... 22,639 18,950 32,298 3,833 5,995
Income tax expense.............. 8,782 7,523 12,769 1,503 2,350
------- ------- ------- ------ ------
Net earnings.................... $13,857 $11,427 $19,529 $2,330 $3,645
======= ======= ======= ====== ======
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-7
<PAGE>
POTLATCH SOUTHERN TIMBERLANDS
(A BUSINESS UNIT OF POTLATCH CORPORATION)
BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
---------------
MARCH 31,
1996 1997 1998
------- ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
------
Equipment, net of accumulated depreciation.......... $ 466 $ 479 $ 451
Logging roads....................................... 2,963 3,103 3,062
Timber and timberlands.............................. 47,935 49,225 49,354
------- ------- -------
$51,364 $52,807 $52,867
======= ======= =======
LIABILITIES AND POTLATCH CORPORATION EQUITY
-------------------------------------------
Accounts payable and accrued liabilities............ $ 1,302 $ 1,316 $ 415
Deferred tax liability.............................. 898 595 595
Potlatch Corporation equity......................... 49,164 50,896 51,857
------- ------- -------
$51,364 $52,807 $52,867
======= ======= =======
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-8
<PAGE>
POTLATCH SOUTHERN TIMBERLANDS
(A BUSINESS UNIT OF POTLATCH CORPORATION)
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED DECEMBER 31, ENDED MARCH 31,
---------------------------- ----------------
1995 1996 1997 1997 1998
-------- -------- -------- ------- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATIONS
Net earnings................. $ 13,857 $ 11,427 $ 19,529 $ 2,330 $ 3,645
Adjustments to reconcile net
earnings to cash flows from
operations:
Depletion, depreciation
and amortization......... 1,398 3,466 1,683 322 344
Change in deferred tax
liability................ (120) 189 (303) -- --
Changes in working
capital.................. (152) 416 14 (725) (901)
-------- -------- -------- ------- -------
Cash flows from operations... 14,983 15,498 20,923 1,927 3,088
-------- -------- -------- ------- -------
CASH FLOWS FROM INVESTING
Additions to timber,
timberlands and related
logging facilities.......... (3,168) (2,318) (2,699) (252) (415)
Other, net................... (209) (33) (427) (31) 11
-------- -------- -------- ------- -------
Cash flows from investing.... (3,377) (2,351) (3,126) (283) (404)
-------- -------- -------- ------- -------
CASH FLOWS FROM FINANCING
Net payments to Potlatch
Corporation................. (11,606) (13,147) (17,797) (1,644) (2,684)
-------- -------- -------- ------- -------
Change in cash............... -- -- -- -- --
Balance at beginning of
period...................... -- -- -- -- --
-------- -------- -------- ------- -------
Balance at end of period..... $ -- $ -- $ -- $ -- $ --
======== ======== ======== ======= =======
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-9
<PAGE>
POTLATCH SOUTHERN TIMBERLANDS
(A BUSINESS UNIT OF POTLATCH CORPORATION)
NOTES TO FINANCIAL STATEMENTS
ORGANIZATION AND NATURE OF OPERATIONS
The Potlatch Southern Timberlands ("Timberlands") is responsible for the
management of fee and leased timberlands in Arkansas owned and leased by
Potlatch Corporation ("Potlatch"). Timberlands manages a total of
approximately 513,000 acres of timberlands. The financial statements of
Timberlands are derived from the historical books and records of Potlatch.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates and assumptions.
EQUIPMENT
Equipment is valued at cost less accumulated depreciation. Depreciation is
determined by using the straight-line method on estimated useful lives.
Estimated useful lives range from three to 40 years.
<TABLE>
<CAPTION>
DECEMBER 31,
----------------
1996 1997
------- -------
<S> <C> <C>
Equipment.............................................. $ 1,748 $ 1,871
Less accumulated depreciation.......................... (1,282) (1,392)
------- -------
$ 466 $ 479
======= =======
</TABLE>
LOGGING ROADS
Main logging roads, including bridges, culverts and improvements, are stated
at cost, less accumulated amortization. The amortizable (non-roadbed) portion
of logging road costs is amortized on a straight-line basis, with useful lives
ranging from 10 to 20 years.
TIMBER AND TIMBERLANDS
Timber and timberlands are stated at cost less depletion. The portion of the
cost of timberlands attributed to standing merchantable timber is charged
against income as timber is cut, at rates determined annually, based on the
relationship of unamortized timber costs to the estimated volume of
recoverable timber. Timberlands maintains eight depletion pools, segregated by
timber species and by management area. Timberlands capitalizes silvicultural
costs associated with establishing timber stands, such as site preparation,
reforestation, and herbaceous control.
POTLATCH CORPORATION EQUITY
Changes in Potlatch Corporation equity for the years ended December 31,
1995, 1996 and 1997 and the three months ended March 31, 1997 and 1998 are as
follows:
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED DECEMBER 31, ENDED MARCH 31,
---------------------------- ----------------
1995 1996 1997 1997 1998
-------- -------- -------- ------- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Beginning balance........... $ 48,633 $ 50,884 $ 49,164 $49,164 $50,896
Net earnings................ 13,857 11,427 19,529 2,330 3,645
Net payments to Potlatch
Corporation................ (11,606) (13,147) (17,797) (1,644) (2,684)
-------- -------- -------- ------- -------
Ending balance.............. $ 50,884 $ 49,164 $ 50,896 $49,850 $51,857
======== ======== ======== ======= =======
</TABLE>
F-10
<PAGE>
POTLATCH SOUTHERN TIMBERLANDS
(A BUSINESS UNIT OF POTLATCH CORPORATION)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
REVENUE RECOGNITION
Timber sales are recognized when legal ownership and the risk of loss pass
to the purchaser and the quantity sold is determinable. This generally occurs
when the purchaser severs and measures the timber.
Revenues are based on actual harvest volumes multiplied by internal transfer
prices. The transfer prices were based upon the price paid by Potlatch's mills
in arms'-length transactions, less Potlatch's costs of logging and
transporting the timber to its mills.
ALLOCATED POTLATCH CORPORATION ADMINISTRATION EXPENSES
Common expenses of Potlatch and the Wood Products Segment of Potlatch,
including general administration and interest expense, were allocated to
Timberlands using a three-part apportionment factor that included revenues,
salaries and assets. Management of Potlatch believes that the method used to
allocate such expenses is reasonable. Management of Potlatch estimates that
the total costs and expenses of Timberlands would have been approximately $2.0
million higher per year, had Timberlands been operated as a separate entity.
OTHER INCOME (EXPENSE)
Other income (expense) consists of:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1995 1996 1997
------- ------- -------
<S> <C> <C> <C>
Allocated Potlatch Corporation interest
expense...................................... $(1,930) $(1,615) $(1,850)
Hunting lease revenue......................... 1,122 1,146 1,164
Income from timberlands sales, net............ 390 64 158
Other, net.................................... 25 42 40
------- ------- -------
$ (393) $ (363) $ (488)
======= ======= =======
</TABLE>
INCOME TAXES
The provision for income taxes of Potlatch was allocated to Timberlands
using the separate return basis.
RELATED PARTY TRANSACTIONS
Timberlands supplies timber to Potlatch for use in Potlatch's converting
facilities in Arkansas and for log trading activities. All of Timberlands'
timber sales represent fee timber sales to Potlatch.
Timberlands engages in various transactions with Potlatch that are
characteristic of a consolidated group under common control. The receipts,
disbursements and net cash position of Timberlands are currently managed by
Potlatch through a centralized treasury system. Accordingly, both cash
generated by and cash requirements of Timberlands flow through Potlatch
Corporation equity on the accompanying financial statements of Timberlands.
SUBSEQUENT EVENT
In February 1998, Potlatch's Board of Directors approved the contribution of
the net assets of Timberlands to Timber Holdings L.P., a Delaware limited
partnership. Initially, Potlatch and Timberland Growth Corporation will own
all of the partnership interests in the limited partnership. Potlatch will
also enter into a long-term timber purchase agreement with the partnership to
purchase and harvest all of the timber contributed by Timberlands at fair
market value.
F-11
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors,
Anderson-Tully Company
We have audited the accompanying consolidated balance sheets of Anderson-
Tully Company (the "Company") and its subsidiaries as of July 31, 1996 and
1997 and December 31, 1997 and the related consolidated statements of
operations, stockholders' equity (deficit), and cash flows for each of the
three years in the period ended July 31, 1997 and the five-month period ended
December 31, 1997. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Anderson-Tully Company and
its subsidiaries at July 31, 1996 and 1997 and December 31, 1997 and the
results of their operations and their cash flows for each of the three years
in the period ended July 31, 1997 and the five-month period ended December 31,
1997, in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Memphis, Tennessee
February 10, 1998
F-12
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
JULY 31,
------------------ DECEMBER 31,
1996 1997 1997
-------- -------- ------------
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................... $ 188 $ 1,749 $ 1,711
Certificates of deposit..................... 100 100 117
Accounts receivable......................... 6,783 9,684 11,049
Notes receivable............................ 4,899
Inventories................................. 6,341 4,783 5,408
Deferred income taxes....................... 1,229 1,076 1,258
Prepaid expenses............................ 885 1,339 1,190
Refundable income taxes..................... 685
-------- -------- --------
Total current assets...................... 16,211 18,731 25,632
TIMBERLAND AND TIMBER--At cost................ 29,942 28,183 27,858
Less accumulated depletion.................. (18,599) (18,215) (18,577)
-------- -------- --------
Timberland and timber--net................ 11,343 9,968 9,281
PLANT PROPERTY--NET........................... 68,693 75,474 64,300
COMMERCIAL REAL ESTATE........................ 22,385 30,007 29,801
OTHER ASSETS.................................. 2,552 2,306 3,085
-------- -------- --------
TOTAL......................................... $121,184 $136,486 $132,099
======== ======== ========
LIABILITIES AND STOCKHOLDERS'
EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable............................ $ 4,346 $ 5,532 $ 7,326
Current portion of long-term debt........... 1,805 4,826 7,356
Accrued expenses:
Wages, insurance, and other................. 3,074 3,105 3,474
Dividends payable........................... 695 723
Taxes other than income..................... 905 1,053 1,585
Income and franchise taxes.................. 239 1,826 2,191
-------- -------- --------
Total accrued expenses.................... 4,913 6,707 7,250
Deferred revenues............................. 917
-------- -------- --------
Total current liabilities................. 11,064 17,065 22,849
DEFERRED INCOME TAXES......................... 13,519 15,955 13,971
LONG-TERM LIABILITIES......................... 1,177 1,171 1,507
LONG-TERM DEBT, Less current portion.......... 42,804 46,344 96,787
MINORITY INTEREST IN EQUITY OF CONSOLIDATED
LIMITED PARTNERSHIP.......................... 275 1,578 2,862
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY (DEFICIT):
Capital stock--$2,000 par value; 1,200
shares authorized; 579.54 shares
outstanding................................ 1,159 1,159 1,159
Retained earnings (deficit)................. 51,186 53,214 (7,036)
-------- -------- --------
Total stockholders' equity (deficit)...... 52,345 54,373 (5,877)
-------- -------- --------
TOTAL......................................... $121,184 $136,486 $132,099
======== ======== ========
</TABLE>
See notes to consolidated financial statements.
F-13
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
FIVE MONTH
YEARS ENDED JULY 31, PERIOD ENDED
------------------------- DECEMBER 31,
1995 1996 1997 1997
------- ------- ------- ------------
<S> <C> <C> <C> <C>
NET REVENUES:
Timber and wood products............. $63,148 $59,137 $74,262 $37,710
River construction................... 22,797 23,108 16,688 11,691
Commercial real estate............... 2,276 1,959 1,803 905
Equity in earnings of commercial real
estate investments.................. 604 663 704 224
Other................................ 2,421 2,878 3,031 1,692
------- ------- ------- --------
Total.............................. 91,246 87,745 96,488 52,222
COSTS AND EXPENSES:
Timber and wood products............. 51,976 49,724 60,825 29,341
River construction................... 18,102 19,221 15,097 11,003
Commercial real estate............... 1,327 1,373 1,181 404
Selling, administrative, and general. 5,575 5,526 6,026 3,059
Other................................ 737 776 1,506 1,425
------- ------- ------- --------
Total.............................. 77,717 76,620 84,635 45,232
INCOME FROM OPERATIONS................. 13,529 11,125 11,853 6,990
OTHER INCOME (EXPENSE):
Interest income...................... 110 266 469 35
Interest expense..................... (1,601) (2,634) (3,380) (2,374)
Gain (loss) on sales of assets....... (335) 353 2,419 (5,216)
------- ------- ------- --------
Total other expense--net........... (1,826) (2,015) (492) (7,555)
------- ------- ------- --------
INCOME (LOSS) BEFORE INCOME TAX
(EXPENSE) BENEFIT AND MINORITY
INTEREST.............................. 11,703 9,110 11,361 (565)
INCOME TAX (EXPENSE) BENEFIT........... (4,042) (3,023) (3,891) 629
------- ------- ------- --------
INCOME BEFORE MINORITY INTEREST........ 7,661 6,087 7,470 64
MINORITY INTEREST IN INCOME OF
CONSOLIDATED LIMITED PARTNERSHIP...... (1,820) (1,380)
------- ------- ------- --------
NET INCOME (LOSS)...................... $ 7,661 $ 6,087 $ 5,650 $ (1,316)
======= ======= ======= ========
BASIC EARNINGS PER SHARE............... $13,174 $10,479 $ 9,749 $ (2,271)
======= ======= ======= ========
WEIGHTED AVERAGE NUMBER OF SHARES
OUTSTANDING........................... 581.54 580.88 579.54 579.54
======= ======= ======= ========
</TABLE>
See notes to consolidated financial statements.
F-14
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
COMMON STOCK
---------------- RETAINED
NUMBER EARNINGS
OF SHARES AMOUNT (DEFICIT) TOTAL
--------- ------ --------- --------
<S> <C> <C> <C> <C>
BALANCES AT JULY 31, 1994................ 581.54 $1,163 $ 44,484 $ 45,647
Cash dividends declared ($5,250 per
share)................................ (3,053) (3,053)
Dividend of shares of Anderson-Tully
Veneers, L.P.......................... (229) (229)
Net income............................. 7,661 7,661
------ ------ -------- --------
BALANCES AT JULY 31, 1995................ 581.54 1,163 48,863 50,026
Cash dividends declared ($6,230 per
share)................................ (3,618) (3,618)
Repurchase and retirement of common
stock................................. (2.00) (4) (146) (150)
Net income............................. 6,087 6,087
------ ------ -------- --------
BALANCES AT JULY 31, 1996................ 579.54 1,159 51,186 52,345
Cash dividends declared ($6,250 per
share)................................ (3,622) (3,622)
Net income............................. 5,650 5,650
------ ------ -------- --------
BALANCES AT JULY 31, 1997................ 579.54 1,159 53,214 54,373
Cash dividends declared ($101,190 per
share)................................ (58,645) (58,645)
Dividend of assets to Anderson-Tully
Veneers, L,P.......................... (289) (289)
Net loss............................... (1,316) (1,316)
------ ------ -------- --------
BALANCES AT DECEMBER 31, 1997............ 579.54 $1,159 $ (7,036) $ (5,877)
====== ====== ======== ========
</TABLE>
See notes to consolidated financial statements.
F-15
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
FIVE MONTH
YEARS ENDED JULY 31, PERIOD ENDED
---------------------------- DECEMBER 31,
1995 1996 1997 1997
-------- -------- -------- ------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES:
Net income (loss).................. $ 7,661 $ 6,087 $ 5,650 $ (1,316)
Adjustments to reconcile net income
(loss) to net cash provided by
operating activities:
Depreciation and amortization...... 4,026 5,107 7,401 3,425
Depletion.......................... 1,200 1,915 1,359 1,054
Deferred income taxes.............. 72 2,275 2,589 (2,166)
Minority interest in earnings of
consolidated limited partnership.. 1,820 1,380
(Gain) loss on sale of assets...... 335 (353) (2,419) 5,216
Changes in assets and liabilities:
Accounts receivable................ (747) 1,980 (2,900) (1,365)
Inventories........................ (2,639) 669 1,559 (624)
Other assets....................... (561) (926) (284) (680)
Accounts payable and accrued
expenses.......................... 991 (211) 1,365 2,693
Accrued and refundable income
taxes............................. 1,119 (1,427) 2,272 366
Deferred revenues.................. (998) (792) 917
Long-term liabilities.............. (697) (149) (6) 336
-------- -------- -------- --------
Net cash provided by operating
activities...................... 9,762 14,175 18,406 9,236
CASH FLOWS FROM INVESTING
ACTIVITIES:
Proceeds from sales of plant
property.......................... 2,256 1,086 1,130 250
Purchases of plant property........ (17,538) (28,339) (14,148) (2,366)
Proceeds from sales of timber and
timberland........................ 1,077
Purchases of timber and timberland. (2,239) (1,307) (10) (368)
Proceeds from sales of commercial
real estate....................... 9,604
Purchases of commercial real
estate............................ (28) (197) (16,940)
Collections of notes receivable.... 1,750
Proceeds from maturities of short-
term investments.................. 200 200 200 100
Purchases of short-term
investments....................... (200) (200) (200) (117)
-------- -------- -------- --------
Net cash used in investing
activities...................... (17,549) (27,007) (19,287) (2,501)
CASH FLOWS FROM FINANCING
ACTIVITIES:
Dividends paid..................... (3,282) (3,504) (3,594) (59,368)
Distributions to limited partners.. (524) (379)
Purchases of treasury stock........ (150)
Net proceeds from (principal
payments on) lines of credit...... 2,629 2,996 (3,750) 4,222
Proceeds from issuance of long-term
debt.............................. 9,820 14,467 13,636 96,500
Principal payments of long-term
debt.............................. (2,169) (1,154) (3,326) (47,748)
-------- -------- -------- --------
Net cash provided by (used in)
financing activities............ 6,998 12,655 2,442 (6,773)
-------- -------- -------- --------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS................... (789) (177) 1,561 (38)
CASH AND CASH EQUIVALENTS, BEGINNING
OF PERIOD.......................... 1,154 365 188 1,749
-------- -------- -------- --------
CASH AND CASH EQUIVALENTS, END OF
PERIOD............................. $ 365 $ 188 $ 1,749 $ 1,711
======== ======== ======== ========
SUPPLEMENTAL INFORMATION:
Income taxes paid during the
period............................ $ 2,734 $ 2,173 $ 108 $ 1,174
Interest paid during the period.... 1,379 2,978 3,517 1,713
</TABLE>
NON-CASH INVESTING AND FINANCING ACTIVITIES:
The Company acquired plant property with a total cost of $3,271 in 1995 and
$444 in 1996 by incurring capitalized lease obligations of $1,320 and $444,
respectively, and a note payable of $1,951 in 1995.
During the five-month period ended December 31, 1997, the Company allowed the
payor on its note receivable with a principal balance totalling $7,218 plus
interest to satisfy its obligation by rolling the balance over to a new note
with a principal balance of $7,225.
As of December 31, 1997, the Company sold its inventories and plant property
associated with its Memphis, Tennessee laminated flooring plant for
consideration consisting of $100 cash and notes receivable totalling $4,900.
See notes to consolidated financial statements.
F-16
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JULY 31, 1995, 1996, AND 1997
AND FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
1. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation--The consolidated financial statements include the
accounts of Anderson-Tully Company (the "Company"), its wholly-owned
subsidiaries, Patton-Tully Transportation Company, Tenarc Construction Company
("Tenarc"), Biomass Management Corporation ("Biomass"), and Brickeys Stone
Company, and a limited partnership, Anderson-Tully Veneers, L.P. ("AT Veneers"
or the "Partnership") (collectively, the "Companies"). All material
intercompany transactions have been eliminated. (Also see Note 12.)
The Company serves as managing general partner of the Partnership, holding
an approximate one percent interest in such. Remaining partnership capital is
held in the form of limited partnership interests. The Company, as managing
general partner, controls the operations of the Partnership and guarantees the
Partnership's debt; accordingly, the financial statements of the Partnership
are included in the Company's accompanying consolidated financial statements.
Minority interest is recognized for the limited partners' interest in the
financial position and operations of the Partnership.
Cash and Cash Equivalents--Highly liquid debt instruments purchased with
original maturities of three months or less from the date of purchase are
considered to be cash equivalents.
Inventories--Wood products and supplies inventories are stated primarily at
cost (first-in, first-out method). Costs applicable to growing crops are
capitalized. Lumber and log inventories are stated at cost (last-in, first-out
cost method).
Timber and Timberland--Timber and timberland are recorded at cost. The
Company does not capitalize timber carrying costs. Depletion of timber costs
is provided on footages cut at rates based on estimated recoverable timber in
each tract (cost depletion).
Plant Property--Plant property is stated at cost. Depreciation is provided
over estimated useful lives using the straight-line method.
Commercial Real Estate--The Company accounts for its 20% to 50% undivided
interests in commercial real estate using the equity method. Depreciation of
buildings is provided over their estimated useful lives, generally forty
years. The partnership interest is carried on the equity method.
Income Taxes--Current income taxes reflect taxes provided for and payable on
the earnings of the Company and its subsidiaries. Deferred income taxes
reflect the net tax effects of temporary differences between the carrying
amounts of assets and liabilities for financial reporting purposes and the
amounts used for income tax purposes of the Company and its subsidiaries.
Federal income taxes are not payable by, or provided for, the Partnership;
partners are taxed individually on their share of partnership earnings.
Earnings Per Share--Basic earnings per share have been computed by dividing
net income applicable to common shareholders by the weighted average number of
common shares outstanding. The Company has a simple capital structure;
accordingly, the adoption of Statement of Financial Accounting Standards No.
128, Earnings Per Share, had no effect on the amounts presented.
Change of Year-End--In 1997 the Board of Directors approved a change in the
Company's fiscal year-end from July 31 to December 31. Fiscal years presented
and referred to in these financial statements are on a July 31 fiscal year
basis unless otherwise indicated.
F-17
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenue Recognition--Revenues from product sales (timber and wood products
operations) are recognized upon shipment of product; provision for estimated
sales returns is not deemed necessary based on historical returns rates and
current business conditions.
Revenues from river construction contracts are recognized using the
percentage-of-completion method measured by the percentage of costs incurred
to date to total estimated costs for each contract. Contract costs include all
direct material and labor costs and those indirect costs related to contract
performance. Provisions for estimated losses on uncompleted contracts are made
in the period in which such losses are determined.
Regarding commercial real estate, shopping center space is generally leased
to retail tenants under short- and intermediate-term leases which are
accounted for as operating leases. The warehouse leases are similar in nature,
except that the tenants are generally manufacturers and/or distributors of
products. Minimum rents are recognized on an accrual basis as earned, the
result of which do not differ materially from the straight-line method.
Percentage rents, common area maintenance ("CAM"), and other recoveries are
recognized on an accrual basis as earned.
Use of Estimates--The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Fair Value of Financial Instruments--In accordance with the requirements of
FASB No. 107, "Disclosures About Fair Value of Financial Instruments," the
estimated fair value of the Companies' financial instruments has been
determined by the Company using available market information. However,
considerable judgment is necessarily required in interpreting market data to
develop the estimates of fair value. Accordingly, the fair values are not
necessarily indicative of the amounts that the Company could realize in a
current market exchange. The use of different market assumptions may have a
material effect on the estimated fair value amounts. The carrying amounts of
cash, certificates of deposit, accounts receivable, accounts payable, and
long-term debt are considered to be a reasonable estimate of their fair value.
Concentration of Credit Risk--Financial instruments which potentially
subject the Companies to a concentration of credit risk principally consist of
cash, certificates of deposit, trade accounts receivable, and notes
receivable. The Companies maintain their cash balances and certificates of
deposit with large regional or national financial institutions and have not
experienced losses related to these items. The Companies' sales are
principally to U.S. governmental entities (as to river construction) and to
customers in the furniture manufacturing, distribution, and residential
flooring industries in the United States and overseas. No additional credit
risk beyond amounts provided for collection losses is believed inherent in the
Companies' trade accounts receivable balances.
Effect of Recently Issued Accounting Standards--In June 1997, the Financial
Accounting Standards Board issued Statement No. 131, "Disclosures about
Segments of an Enterprise and Related Information," which is required to be
adopted during the Company's first fiscal year beginning after December 15,
1997. At that time, the Company will be required to conform its method of
reporting
F-18
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
industry segment data to new standards and, if necessary, to restate all prior
periods. Under the new requirements, industry segment data will be reported
according to internal reporting segments utilized by management in running the
Company's operations. Statement No. 131 is expected to result in the reporting
of additional segregation of data for the Company's timber and wood products
operations than are currently presented in Note 10.
2. INVENTORIES
Inventories consist of the following at July 31, 1996 and 1997 and December
31, 1997:
<TABLE>
<CAPTION>
JULY 31,
------------- DECEMBER 31,
1996 1997 1997
------ ------ ------------
<S> <C> <C> <C>
Lumber............................................ $3,869 $2,040 $1,663
Wood products..................................... 209 947 774
Logs.............................................. 1,099 606 1,883
Supplies.......................................... 930 857 778
Growing crops..................................... 234 333 310
------ ------ ------
Total........................................... $6,341 $4,783 $5,408
====== ====== ======
</TABLE>
The LIFO reserve related to the lumber and log inventories totalled $5,159,
$4,692, and $3,825 at July 31, 1996 and 1997 and December 31, 1997,
respectively. In the five months ended December 31, 1997, the liquidation of
LIFO inventories decreased cost of sales and, therefore, increased income
before taxes by $377.
3. PLANT PROPERTY
Plant property consists of the following at July 31, 1996 and 1997 and
December 31, 1997:
<TABLE>
<CAPTION>
JULY 31,
---------------- DECEMBER 31,
1996 1997 1997
------- ------- ------------
<S> <C> <C> <C>
Land.......................................... $ 1,203 $ 1,439 $ 1,155
Buildings..................................... 10,441 11,854 10,495
Machinery and equipment....................... 84,766 105,207 85,495
Computer equipment under capital leases....... 1,764 1,764 1,764
Construction in progress...................... 10,395 885 1,784
------- ------- -------
Total....................................... 108,569 121,149 100,693
Less accumulated depreciation................. (39,876) (45,675) (36,393)
------- ------- -------
Plant property--net........................... $68,693 $75,474 $64,300
======= ======= =======
</TABLE>
On December 31, 1997 the Company sold the assets related to its laminated
truck flooring plant for cash of $100 and notes receivable of $4,900. The
notes receivable bear interest at the prime rate and mature June 30, 1998. The
sale resulted in a loss of approximately $5,100.
F-19
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
4.EMPLOYEE BENEFIT PLANS
The Companies have two defined benefit pension plans covering substantially
all hourly and salaried employees. The benefits under the hourly plan are
based on fixed benefit rates and years of service. The benefits under the
salary plan are based on years of service and the employee's highest average
compensation for any five years of service. The Company's funding policy for
each plan is to make at least the minimum contribution required by the
Employee Retirement Income and Security Act of 1974. Contributions provide for
current benefits as well as expected future benefits. The investments of the
plans consist principally of general investment accumulated funds administered
by the trustees.
Net expense for the years ended July 31, 1995, 1996, and 1997 and the five-
month period ended December 31, 1997 included the following:
<TABLE>
<CAPTION>
JULY 31,
------------------ DECEMBER 31,
1995 1996 1997 1997
---- ------ ---- ------------
<S> <C> <C> <C> <C>
Service cost................................ $318 $ 330 $336 $139
Interest cost............................... 814 786 796 330
Actual return on plan assets................ (279) (1,637) (900) (125)
Net amortization and deferral............... (322) 1,061 204 63
---- ------ ---- ----
Net periodic pension cost................. $531 $ 540 $436 $407
==== ====== ==== ====
</TABLE>
Assumptions used in the computations are as follows:
<TABLE>
<CAPTION>
JANUARY 1,
---------------------
1995 1996 1997
---- ---- ---------
<S> <C> <C> <C>
Assumed discount rate.................................... 7.0% 6.5% 6.5%-7.5%
Rates of increase in compensation levels for salaried
employees............................................... 5.0% 5.0% 5.0%
Expected long-term rate of return on assets.............. 7.0% 6.5% 6.5%
</TABLE>
The following table sets forth the plans' funded status and amounts
recognized in the Company's balance sheets as of July 31, 1996 and 1997. A
separate actuarial valuation was not prepared for the December 31, 1997
transition period; however, amounts are not expected to differ significantly
from those shown below.
<TABLE>
<CAPTION>
1996 1997
------- -------
<S> <C> <C>
Actuarial present value of accumulated plan benefits:
Vested benefits......................................... $10,100 $10,354
Nonvested benefits...................................... 129 114
------- -------
Accumulated benefit obligation........................ $10,229 $10,468
======= =======
Projected benefit obligation.............................. $11,357 $11,755
Plan assets at fair value................................. 10,896 11,214
------- -------
Excess of projected benefit obligation over fair value
of plan assets....................................... (461) (541)
Unrecognized net gain..................................... (579) (365)
Unrecognized prior service cost........................... 59 55
------- -------
Accrued pension cost.................................. $ (981) $ (851)
======= =======
</TABLE>
F-20
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
5. COMMERCIAL REAL ESTATE
Commercial real estate consists of the following at July 31, 1996 and 1997
and December 31, 1997:
<TABLE>
<CAPTION>
JULY 31,
--------------- DECEMBER 31,
1996 1997 1997
------- ------- ------------
<S> <C> <C> <C>
Undeveloped commercial land.................... $ 536
Partnership interest of 24% in a shopping cen-
ter
complex....................................... 1,837 $ 1,786 $ 1,773
Undivided interests of 25% in two shopping cen-
ters.......................................... 4,986 4,883 4,839
Undivided interests of 100% in shopping cen-
ters.......................................... 13,940 5,484 5,433
Undivided interest of 50% in one warehouse..... 1,086 1,055 1,042
Undivided interest of 100% in one warehouse.... 9,581 9,489
Note receivable, secured by a deed of trust on
a warehouse, interest at prime, maturing
December 31, 1998............................. 7,218 7,225
------- ------- -------
Commercial real estate....................... $22,385 $30,007 $29,801
======= ======= =======
</TABLE>
Minimum future rentals to be received on non-cancelable leases for the
wholly-owned shopping centers and warehouse in each of the years ended
December 31 are as follows:
<TABLE>
<S> <C>
1998.............................................................. $ 1,529
1999.............................................................. 1,495
2000.............................................................. 1,447
2001.............................................................. 1,425
2002.............................................................. 844
Thereafter........................................................ 6,052
-------
Total........................................................... $12,792
=======
</TABLE>
6. LINE OF CREDIT ARRANGEMENTS
At December 31, 1997, the Companies had two unsecured lines of credit
totalling $16,500 under which borrowings of $9,119 were outstanding, leaving
$7,381 available for unrestricted usage. Each of the lines is a direct
obligation of or unconditionally guaranteed by the Company. Borrowings are at
floating rates of 30- to 90-day LIBOR plus 1.2%--1.5%, totalling 7.17%--7.48%
at December 31, 1997. One of the lines of credit, totalling $7,500, expires
November 30, 1998; the other, totalling $9,000, expires January 1, 1999.
F-21
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
7. LONG-TERM DEBT AND CAPITALIZED LEASES
Long-term debt, all of which is a direct obligation of or unconditionally
guaranteed by the Company, consists of the following at July 31, 1996 and 1997
and December 31, 1997:
<TABLE>
<CAPTION>
JULY 31,
---------------- DECEMBER 31,
1996 1997 1997
------- ------- ------------
<S> <C> <C> <C>
Note payable to corporation, 6%, due on demand
beginning June 1, 1999 or, if not demanded
previously, due October 1, 2002, unsecured.... $ -- $ -- $50,000
Notes payable bank line of credit, due November
30, 1998, with variable interest rates (7.48%
at December 31, 1997). The notes are
unsecured..................................... 1,000 4,000 2,000
Notes payable bank line of credit, due January
1, 1999, with variable interest rates (7.17%
at December 31, 1997). The notes are
unsecured..................................... 7,646 897 7,119
Notes payable finance institutions, due in va-
rying amounts to September 2009, with interest
ranging from 7.56% to 9.875%. The notes are
collateralized by a 25% interest in two shop-
ping centers and a 100% interest in one shop-
ping center................................... 8,713 8,465 8,378
Notes payable bank, due in monthly installments
of $86 through June 2002, with the remaining
balance due July 2002, at floating rates
(6.92% at December 31, 1997). The note is col-
lateralized by a 100% interest in an indus-
trial warehouse............................... 9,514 9,387
Note payable finance institution, due in
monthly installments of $22 through September
2000, and the remaining unpaid balance due Oc-
tober 2000, with an interest rate of 10%. The
note is collateralized by a 50% interest in an
industrial warehouse.......................... 1,198 1,185 1,180
Note payable finance institution, due in
monthly installments of $5 through February
2000, with an interest rate of 7.50%. The note
is collateralized by machinery................ 140 119
Notes payable individuals, due in annual in-
stallments of $316 principal and interest
through September 2004, with an interest rate
of 7.25%...................................... 2,126 1,941 1,745
Notes payable finance institution, due in vary-
ing monthly installments through March 2005 at
floating rates (7.17% at December 31, 1997).
The notes are collateralized by machinery and
equipment..................................... 11,000 10,953 10,934
Notes payable finance institution, due in
monthly installments of $29 through September
2002, with an interest rate of 7.3%. The note
is collataralized by a motor vessel........... 1,706 1,423 1,362
Notes payable finance institution, due in total
on September 22, 1997, prime rate, collateral-
ized by a shopping center..................... 1,000
Loan payable, city, due in annual installments
of $100 principal plus interest through Decem-
ber 2010, with interest at 2.00%. The loan is
secured by an irrevocable standby letter of
credit issued by a bank (see Note 11)......... 1,500 1,400 1,300
Loan payable, state agency, due in
monthlyinstallments of principal and interest
approximating $153 through June 2006, with
variable interest rates (7.17% at December 31,
1997). The loan is unsecured.................. 7,359 10,256 9,744
Capitalized lease obligations due in varying
monthly installments through February 2000,
with interest rates of 7.78% to 9.47%......... 1,361 996 875
------- ------- -------
Total.......................................... 44,609 51,170 104,143
Less current portion........................... (1,805) (4,826) (7,356)
------- ------- -------
Long-term debt................................. $42,804 $46,344 $96,787
======= ======= =======
</TABLE>
F-22
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
Principal payments due in each of the next five years ended December 31 and
thereafter are as follows:
<TABLE>
<CAPTION>
CAPITALIZED NOTES AND TOTAL
LEASE OBLIGATIONS LOANS PAYABLE LONG-TERM DEBT
----------------- ------------- --------------
<S> <C> <C> <C>
1998.......................... $387 $ 6,969 $ 7,356
1999.......................... 417 62,092 62,509
2000.......................... 71 5,149 5,220
2001.......................... 5,816 5,816
2002.......................... 11,639 11,639
Thereafter.................... 11,603 11,603
---- -------- --------
Total....................... $875 $103,268 $104,143
==== ======== ========
</TABLE>
For certain of its debt obligations, the Company is subject to covenants
obligating it to maintain specified ratios of cash flows to interest expense
and of total liabilities to adjusted timber value, all terms as defined in the
relevant agreements. The Company was in compliance with these ratios at
December 31, 1997. In addition, during 1998 the Company will become subject to
a fixed charge coverage ratio covenant for its operations from January 1, 1998
forward.
Interest expense related to the notes collateralized by real estate totalled
$854, $873, $970, and $682 for the years ended July 31, 1995, 1996, and 1997
and the five-month period ended December 31, 1997, respectively. Interest
costs totalling $301 and $211 for the years ended July 31, 1996 and 1997,
respectively, were incurred in conjunction with the Partnership's construction
of its plant property and have been capitalized as a part of its cost.
The Company is lessee of certain computer equipment under capital leases
expiring February 20, 2000. The assets and liabilities under capital leases
are recorded at the present value of the minimum lease payments, which
approximates fair value of the assets. The assets are amortized over the lower
of their related lease terms or their estimated productive lives. Amortization
of assets under capital leases is included in depreciation expense in the
accompanying financial statements.
8. INCOME TAXES
The components of income tax expense (benefit), attributable to the Company
and its wholly-owned subsidiaries, consisted of the following for the years
ended July 31, 1995, 1996, and 1997 and the five-month period ended December
31, 1997:
<TABLE>
<CAPTION>
JULY 31,
-------------------- DECEMBER 31,
1995 1996 1997 1997
------ ------ ------ ------------
<S> <C> <C> <C> <C>
Current.................................... $3,970 $ 748 $1,302 $1,537
Deferred................................... 72 2,275 2,589 (2,166)
------ ------ ------ ------
Total income tax expense (benefit)....... $4,042 $3,023 $3,891 $ (629)
====== ====== ====== ======
</TABLE>
F-23
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
A reconciliation of the Company's actual income taxes for the years ended
July 31, 1995, 1996, and 1997 and the five-month period ended December 31,
1997 to that obtained by applying the U.S. federal statutory income tax rate
against income before income taxes and minority interest is as follows:
<TABLE>
<CAPTION>
JULY 31,
---------------------- DECEMBER 31,
1995 1996 1997 1997
------ ------ ------ ------------
<S> <C> <C> <C> <C>
Federal income tax expense (benefit),
at U.S. federal statutory rate........ $4,096 $3,189 $3,976 $(198)
Effect of state income taxes, net of
federal benefit....................... 361 213 372 (76)
Effect of usage of alternative energy
source credits........................ (384) (450)
Effect of consolidated minority inter-
est not subject to federal income tax
(related to the Partnership's income). (627) (485)
Other differences...................... (31) 71 170 130
------ ------ ------ -----
Income tax expense (benefit)......... $4,042 $3,023 $3,891 $(629)
====== ====== ====== =====
</TABLE>
Deferred income taxes result from temporary differences between the carrying
amounts of assets and liabilities for income tax and financial reporting
purposes for the Company and its wholly-owned subsidiaries. The tax effects of
significant items comprising the Company's deferred taxes as of July 31, 1996
and 1997 and December 31, 1997 are as follows:
<TABLE>
<CAPTION>
JULY 31,
------------------ DECEMBER 31,
1996 1997 1997
-------- -------- ------------
<S> <C> <C> <C>
Deferred tax assets:
Uniform capitalization of inventory...... $ 424 $ 331 $ 291
Pension plans and deferred compensation.. 685 569 341
Vacation pay............................. 119 128 17
Workers' compensation and hospitalization
insurance reserves...................... 479 524 731
Alternative minimum tax credit and other
carryforwards........................... 343 469
All other................................ 292 138 73
-------- -------- --------
Total deferred tax assets.............. 1,999 2,033 1,922
Deferred tax liabilities--differences be-
tween
financial reporting and income tax bases
of:
Plant property........................... (6,851) (8,982) (6,773)
Commercial real estate................... (7,438) (7,930) (7,862)
-------- -------- --------
Total deferred tax liabilities......... (14,289) (16,912) (14,635)
-------- -------- --------
Net deferred tax liability............. $(12,290) $(14,879) $(12,713)
======== ======== ========
</TABLE>
Federal income taxes are not payable by, or provided for, the Partnership.
F-24
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
9. CONTRACTS IN PROGRESS
Amounts with respect to river construction contracts in progress as of July
31, 1996 and 1997 and December 31, 1997, which are included in accounts
receivable in the accompanying financial statements, are as follows:
<TABLE>
<CAPTION>
JULY 31,
------------- DECEMBER 31,
1996 1997 1997
------ ------ ------------
<S> <C> <C> <C>
Costs incurred on contracts in progress and es-
timated earnings on contracts in progress..... $5,919 $4,816 $6,954
Less billings to date on contracts in progress. 5,903 4,905 6,766
------ ------ ------
Net.......................................... $ 16 $ (89) $ 188
====== ====== ======
Costs and estimated earnings in excess of bill-
ings on uncompleted contracts................. $ 35 $ 90 $ 188
Billings in excess of costs and estimated earn-
ings on uncompleted contracts................. 19 179
------ ------ ------
Net.......................................... $ 16 $ (89) $ 188
====== ====== ======
</TABLE>
As of December 31, 1997, the Company had a contractual obligations backlog,
consisting of revenues to be recognized on signed contracts, of approximately
$2,090.
10. INDUSTRY SEGMENT DATA AND MAJOR CUSTOMERS
The Company principally operates in three industries: timber and wood
products operations, river construction contract operations, and commercial
real estate operations. Timber and wood product operations consist of the
management of the Company's forested lands and acquisition of logging rights
to other lands, contracting for the logging thereon, and the sale and/or
processing of the logs into lumber and wood products. River construction
contracts are performed principally for U.S. governmental entities, with
revenues from these entities totalling $16,269, $15,723, $8,017, and $8,954
for the years ended July 31, 1995, 1996, and 1997, and for the five-month
period ended December 31, 1997, respectively. Commercial real estate
operations consist principally of the Company's ownership of varying
percentages of undivided interests in shopping centers or warehouses, or of
partnerships owning these, with revenues being received from occupying
tenants.
F-25
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
Financial information, summarized by industry segment, is as follows:
<TABLE>
<CAPTION>
COMMERCIAL
YEAR ENDED TIMBER AND RIVER REAL
JULY 31, 1995 WOOD PRODUCTS CONSTRUCTION ESTATE OTHER ELIMINATIONS CONSOLIDATED
------------- ------------- ------------ ---------- ------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Total revenues:
Unaffiliated customers:
Domestic............... $50,884 $22,797 $ 2,880 $2,421 $ 78,982
Export................. 12,264 12,264
Intersegment sales..... 1,179 $(1,179)
------- ------- ------- ------ ------- --------
Total................. $63,148 $23,976 $ 2,880 $2,421 $(1,179) $ 91,246
======= ======= ======= ====== ======= ========
Income from operations.. $ 7,184 $ 3,254 $ 1,345 $1,746 $ 13,529
------- ------- ------- ------ --------
Identifiable assets..... $57,566 $13,145 $22,941 $ 820 $ 94,472
------- ------- ------- ------
Corporate assets........ 7,168
--------
Total assets.......... $101,640
========
Depreciation and
amortization expense... $ 2,707 $ 852 $ 394 $ 73 $ 4,026
------- ------- ------- ------ --------
Capital expenditures.... $18,030 $ 1,590 $ 40 $ 145 $ 19,805
------- ------- ------- ------ --------
<CAPTION>
COMMERCIAL
YEAR ENDED TIMBER AND RIVER REAL
JULY 31, 1996 WOOD PRODUCTS CONSTRUCTION ESTATE OTHER ELIMINATIONS CONSOLIDATED
------------- ------------- ------------ ---------- ------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Total revenues:
Unaffiliated customers:
Domestic............... $48,914 $23,108 $ 2,622 $2,878 $ 77,522
Export................. 10,223 10,223
Intersegment sales..... 1,003 $(1,003)
------- ------- ------- ------ ------- --------
Total................. $59,137 $24,111 $ 2,622 $2,878 $(1,003) $ 87,745
======= ======= ======= ====== ======= ========
Income from operations.. $ 5,602 $ 2,399 $ 1,056 $2,068 $ 11,125
------- ------- ------- ------ --------
Identifiable assets..... $73,765 $13,865 $22,636 $1,433 $111,699
------- ------- ------- ------
Corporate assets........ 9,485
--------
Total assets.......... $121,184
========
Depreciation and
amortization expense... $ 3,646 $ 973 $ 402 $ 86 $ 5,107
------- ------- ------- ------ --------
Capital expenditures.... $25,143 $ 3,809 $ 298 $ 593 $ 29,843
------- ------- ------- ------ --------
<CAPTION>
COMMERCIAL
YEAR ENDED TIMBER AND RIVER REAL
JULY 31, 1997 WOOD PRODUCTS CONSTRUCTION ESTATE OTHER ELIMINATIONS CONSOLIDATED
------------- ------------- ------------ ---------- ------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Total revenues:
Unaffiliated customers:
Domestic............... $66,691 $16,688 $ 2,507 $3,031 $ 88,917
Export................. 7,571 7,571
Intersegment sales..... 1,028 $(1,028)
------- ------- ------- ------ ------- --------
Total................. $74,262 $17,716 $ 2,507 $3,031 $(1,028) $ 96,488
======= ======= ======= ====== ======= ========
Income from operations.. $ 8,250 $ 426 $ 1,123 $2,054 $ 11,853
------- ------- ------- ------ ========
Identifiable assets..... $79,006 $15,636 $30,167 $1,769 $126,578
------- ------- ------- ------
Corporate assets........ 9,908
--------
Total assets.......... $136,486
========
Depreciation and
amortization expense... $ 5,757 $ 1,111 $ 432 $ 101 $ 7,401
------- ------- ------- ------ --------
Capital expenditures.... $11,637 $ 2,168 $16,987 $ 306 $ 31,098
------- ------- ------- ------ --------
</TABLE>
F-26
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
FIVE MONTH
PERIOD ENDED COMMERCIAL
DECEMBER 31, TIMBER AND RIVER REAL
1997 WOOD PRODUCTS CONSTRUCTION ESTATE OTHER ELIMINATIONS CONSOLIDATED
------------ ------------- ------------ ---------- ------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Total revenues:
Unaffiliated customers:
Domestic............... $33,083 $11,691 $ 1,129 $1,692 $ 47,595
Export................. 4,627 4,627
Intersegment sales..... 553 $(553)
------- ------- ------- ------ ----- --------
Total................. $37,710 $12,244 $ 1,129 $1,692 $(553) $ 52,222
======= ======= ======= ====== ===== ========
Income from operations.. $ 6,195 $ (19) $ 645 $ 169 $ 6,990
======= ======= ======= ====== ========
Identifiable assets..... $76,502 $16,950 $29,801 $1,667 $124,920
======= ======= ======= ======
Corporate assets........ 7,179
--------
Total assets.......... $132,099
========
Depreciation and
amortization expense... $ 2,668 $ 532 $ 200 $ 25 $ 3,425
======= ======= ======= ====== ========
Capital expenditures.... $ 2,285 $ 431 $ --- $ 18 $ 2,734
======= ======= ======= ====== ========
</TABLE>
11. COMMITMENTS AND CONTINGENCIES
Operating Leases--The Company leases certain equipment used in its
operations under operating leases. Payments made under these operating leases
totalled $37, $382, $630, and $225 for the years ended July 31, 1995, 1996,
and 1997 and for the five-month period ended December 31, 1997, respectively.
Operating lease payments due in each of the years ended December 31 are as
follows:
<TABLE>
<S> <C>
1998.................................................................. $ 796
1999.................................................................. 608
2000.................................................................. 368
2001.................................................................. 123
------
Total............................................................... $1,895
======
</TABLE>
Guarantee--The Company owns a 24% undivided interest in a partnership which
owns a shopping center complex. The partners guaranteed the construction and
permanent financing of the project. The Company's contingent liability
currently approximates $2,425 and will be reduced to $480 when the operating
property becomes profitable.
Litigation, Claims, and Assessments--The Companies are subject to certain
claims and litigation, including unasserted claims, in the normal course of
business. While it is not possible to predict with certainty the outcome of
these matters, it is management's opinion that the ultimate outcome will not
have a material adverse effect on the financial statements of the Companies.
Irrevocable Standby Letters of Credit--As of December 31, 1997, the
Companies have outstanding irrevocable standby letters of credit issued
related to their loan payable, city (see Note 7), and for insurance purposes,
totalling $1,894.
F-27
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
12. CHANGE IN CORPORATE STRUCTURE
As of the close of business on December 31, 1997, in order for the Company
to have a corporate structure of an allowable nature to qualify as a real
estate investment trust (a "REIT"), significant liquidations, transfers, and
exchanges were effected. The result is that the Company retains ownership of
the timberland and timber, the commercial real estate, and the farmland that
it previously owned. The logging and timber conversion related assets,
previously owned by the Company, are now owned by new companies, of which the
Company owns 100% of their preferred stock, representing 95% of their economic
value, and of which AT Veneers owns 100% of their common stock. The river
construction and management services related assets, previously owned by the
Company or its wholly-owned subsidiaries, are now owned by new companies which
are wholly-owned by AT Veneers. The approximate 1% ownership interest in AT
Veneers, previously owned by the Company, now rests with a new company which
is a wholly-owned subsidiary of the Company. The accompanying December 31,
1997 balance sheet gives effect to these transactions which have occurred
within the Company's consolidated group.
The consolidated group at December 31, 1997 consists of the Company, its
wholly-owned subsidiaries, Tenarc and Anderson-Tully GP Company ("AT GP") and
its 100% preferred stock ownership of Anderson-Tully Timber Company ("AT
Timber") and Anderson-Tully Lumber Company ("AT Lumber"). AT GP owns an
approximate 1% ownership interest in AT Veneers, which in turn directly or
indirectly owns 100% of the common stock of Anderson-Tully Management Services
LLC, AT Timber, AT Lumber, Patton-Tully Transportation LLC, and Brickeys Stone
LLC.
13. SUBSEQUENT EVENTS
On February 9, 1998, the Board of Directors of Anderson-Tully Company voted
to submit to the shareholders for their approval and adoption of a merger
agreement whereby Timberland Growth Corporation would acquire all of the
outstanding common stock of Anderson-Tully Company. Also on that date, the
Board of Directors of AT GP Company voted to submit to the limited partners of
AT Veneers for their approval and adoption of an agreement to sell to Potlatch
Corporation assets relating to the veneer operations, and the Board of
Managers of Anderson-Tully Management Services LLC approved an agreement to
sell to Potlatch Corporation all of its assets including the common stock of
AT Timber and AT Lumber. Patton-Tully Transportation LLC and Brickeys Stone
LLC and certain other assets will be retained by AT Veneers. Under the terms
of these agreements the shareholders and AT Veneers will receive, in the
aggregate, approximately $470 million, subject to certain working capital
adjustments, less outstanding debt at closing and transaction costs.
Shareholder and limited partner approval is required to consummate these
transactions; in addition, certain events must also occur, some of which are
beyond the control of the Company, to effect these transactions. In
anticipation of these transactions legal, accounting, and investment banking
fees totalling $935 as of December 31, 1997 have been deferred and recorded as
other assets in the accompanying financial statements.
The Board voted to empower the officers of the Company to take the actions
necessary to register its stock under Section 12(g) of the Securities Exchange
Act of 1934.
F-28
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
YEARS ENDED JULY 31, 1995, 1996, AND 1997 AND
FIVE-MONTH PERIOD ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
14. COMPARATIVE RESULTS OF OPERATIONS FOR THE FIVE MONTHS ENDED DECEMBER 31,
1996 (UNAUDITED)
The following unaudited results of operations for the five months ended
December 31, 1996 are presented for comparative purposes. It is management's
opinion that this information includes all adjustments, consisting only of
normal recurring adjustments, necessary to present fairly the results of
operations for the five months ended December 31, 1996.
<TABLE>
<S> <C>
Net revenues........................................................ $35,612
Costs and expenses.................................................. 32,881
-------
Income from operations.............................................. 2,731
Other expense, net.................................................. (673)
-------
Income before income tax expense and minority interest.............. 2,058
Income tax expense.................................................. (606)
-------
Income before minority interest..................................... 1,452
Minority interest in income of consolidated limited partnership..... (490)
-------
Net income........................................................ $ 962
=======
Basic earnings per share............................................ $ 1,660
=======
</TABLE>
F-29
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
--------- ------------
1998 1997
--------- ------------
<S> <C> <C>
ASSETS
------
CURRENT ASSETS:
Cash and cash equivalents ............................ $ 2,743 $ 1,711
Certificates of deposit .............................. 117 117
Accounts receivable .................................. 11,202 11,049
Notes receivable ..................................... 4,059 4,899
Inventories .......................................... 4,549 5,408
Deferred income taxes ................................ 1,258 1,258
Prepaid expenses ..................................... 1,026 1,190
-------- --------
Total current assets ............................... 24,954 25,632
TIMBERLAND AND TIMBER--At cost ......................... 27,924 27,858
Less accumulated depletion ........................... (18,700) (18,577)
-------- --------
Timberland and timber--net ......................... 9,224 9,281
PLANT PROPERTY--NET .................................... 64,154 64,300
COMMERCIAL REAL ESTATE ................................. 29,628 29,801
OTHER ASSETS ........................................... 3,826 3,085
-------- --------
TOTAL ASSETS ........................................... $131,786 $132,099
======== ========
LIABILITIES AND STOCKHOLDERS' DEFICIT
------------------------------------
CURRENT LIABILITIES:
Accounts payable ..................................... $ 6,063 $ 7,326
Current portion of long-term debt .................... 13,629 7,356
Accrued expenses:
Wages, insurance, and other ......................... 4,088 3,474
Taxes other than income ............................. 812 1,585
Income and franchise taxes .......................... 2,160 2,191
Deferred revenues .................................... 576 917
-------- --------
Total current liabilities .......................... 27,328 22,849
DEFERRED INCOME TAXES .................................. 13,971 13,971
LONG-TERM LIABILITIES .................................. 880 1,507
LONG-TERM DEBT, Less current portion ................... 88,872 96,787
MINORITY INTEREST IN EQUITY OF CONSOLIDATED LIMITED
PARTNERSHIP ........................................... 2,927 2,862
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' DEFICIT:
Capital stock--$2,000 par value; 1,200 shares
authorized; 579.54 shares outstanding................ 1,159 1,159
Retained deficit ..................................... (3,351) (7,036)
-------- --------
Total stockholders' deficit ........................ (2,192) (5,877)
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT ............ $131,786 $132,099
======== ========
</TABLE>
See notes to consolidated financial statements.
F-30
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
NET REVENUES:
Timber and wood products .................................. $20,541 $18,537
River construction ........................................ 3,672 3,794
Commercial real estate .................................... 579 498
Equity in earnings of commercial real estate investments .. 177 153
Other ..................................................... 408 379
------- -------
Total ................................................... 25,377 23,361
COSTS AND EXPENSES:
Timber and wood products .................................. 14,158 14,712
River construction ........................................ 3,358 3,478
Commercial real estate .................................... 267 395
Selling, administrative, and general ...................... 1,351 1,699
Other ..................................................... 171 311
------- -------
Total ................................................... 19,305 20,595
INCOME FROM OPERATIONS ...................................... 6,072 2,766
OTHER INCOME (EXPENSE):
Interest income ........................................... 35 42
Interest expense .......................................... (1,599) (897)
Gain on sales of assets ................................... 1,327
------- -------
Total other income (expense)--net ....................... (1,564) 472
------- -------
INCOME BEFORE INCOME TAX EXPENSE AND MINORITY INTEREST ...... 4,508 3,238
INCOME TAX EXPENSE .......................................... (1,029)
------- -------
INCOME BEFORE MINORITY INTEREST ............................. 4,508 2,209
MINORITY INTEREST IN INCOME OF CONSOLIDATED LIMITED
PARTNERSHIP................................................. (65) (452)
------- -------
NET INCOME .................................................. $ 4,443 $ 1,757
======= =======
BASIC EARNINGS PER SHARE .................................... $ 7,666 $ 3,032
======= =======
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING ............... 579.54 579.54
======= =======
</TABLE>
See notes to consolidated financial statements.
F-31
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY (DEFICIT)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
COMMON STOCK
---------------- RETAINED
NUMBER EARNINGS
OF SHARES AMOUNT (DEFICIT) TOTAL
--------- ------ --------- --------
<S> <C> <C> <C> <C>
1997
BALANCES AT DECEMBER 31, 1996 ............ 579.54 $1,159 $ 48,526 $ 49,685
Net income .............................. 1,757 1,757
------ ------ -------- --------
BALANCES AT MARCH 31, 1997 ............... 579.54 $1,159 $ 50,283 $ 51,442
====== ====== ======== ========
1998
BALANCES AT DECEMBER 31, 1997 ............ 579.54 $1,159 $ (7,036) $ (5,877)
Cash dividends declared ($1,308 per
share).................................. (758) (758)
Net income .............................. 4,443 4,443
------ ------ -------- --------
BALANCES AT MARCH 31, 1998 ............... 579.54 $1,159 $ (3,351) $ (2,192)
====== ====== ======== ========
</TABLE>
See notes to consolidated financial statements.
F-32
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ................................................. $ 4,443 $ 1,757
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization ............................. 1,753 2,358
Depletion ................................................. 123 105
Deferred income taxes ..................................... 646
Minority interest in earnings of consolidated limited part-
nership .................................................. 65 452
(Gain) loss on sale of assets ............................. (1,327)
Changes in assets and liabilities:
Accounts receivable ...................................... (153) (2,291)
Inventories .............................................. 859 1,073
Other assets ............................................. (432) 276
Accounts payable and accrued expenses .................... (1,422) (2,883)
Accrued and refundable income taxes ...................... (31) 570
Deferred revenues ........................................ (341) (368)
Long-term liabilities .................................... (627) (3)
------- -------
Net cash provided by operating activities ............... 4,237 365
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales of plant property ..................... 320
Purchases of plant property ............................... (1,579) (3,639)
Proceeds from sales of timber and timberland .............. 1,023
Purchases of timber and timberland ........................ (66)
Purchases of commercial real estate ....................... (1,032)
Collections of notes receivable ........................... 840
Proceeds from maturities of short-term investments ........ 100 100
Purchases of short-term investments ....................... (100) (100)
------- -------
Net cash used in investing activities ................... (805) (3,328)
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends paid ............................................ (758) (806)
Net proceeds from (principal payments on) lines of credit . (846) 2,392
Proceeds from issuance of long-term debt .................. 2,268
Principal payments of long-term debt ...................... (796) (871)
------- -------
Net cash provided by (used in) financing activities ..... (2,400) 2,983
------- -------
NET INCREASE IN CASH AND CASH EQUIVALENTS ................... 1,032 20
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD .............. 1,711 92
------- -------
CASH AND CASH EQUIVALENTS, END OF PERIOD .................... $ 2,743 $ 112
======= =======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Income taxes paid during the period ....................... $ 0 $ 49
Interest paid during the period ........................... 849 666
</TABLE>
See notes to consolidated financial statements.
F-33
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997
(UNAUDITED) (IN THOUSANDS)
1. FINANCIAL STATEMENT PRESENTATION
The consolidated balance sheet as of March 31, 1998 and the consolidated
statements of operations, stockholders' equity (deficit), and cash flows for
the three months ended March 31, 1998 and 1997 have been prepared by the
Company, without audit. It is management's opinion that these statements
include all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the financial position, results of operations, and
cash flows as of March 31, 1998 and for all periods presented. The results for
the periods presented are not necessarily indicative of the results that may
be expected for the full year.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted. It is suggested that these
consolidated financial statements be read in conjunction with the audited
consolidated financial statements and notes thereto of the Company included
elsewhere in this Prospectus.
2. EARNINGS PER SHARE
Basic earnings per share have been computed by dividing net income
applicable to common shareholders by the weighted average number of common
shares outstanding.
3. INVENTORIES
Inventories consisted of the following:
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
--------- ------------
1998 1997
--------- ------------
<S> <C> <C>
Lumber ............................................... $1,496 $1,663
Wood products ........................................ 900 774
Logs ................................................. 1,046 1,883
Supplies ............................................. 785 778
Growing crops ........................................ 322 310
------ ------
Inventories, net.................................... $4,549 $5,408
====== ======
</TABLE>
The LIFO reserve related to the lumber and log inventories totaled $3,409
and $3,825 at March 31, 1998 and December 31, 1997, respectively.
4. INCOME TAXES
In conjunction with the Company's anticipated election to be treated as a
real estate investment trust (a "REIT") as of January 1, 1998, federal income
taxes are no longer payable by, nor provided for, the Company on its income
from continuing operations from this date. Also, federal income taxes are not
payable by, nor provided for, the Partnership or the limited liability
companies (the "LLC's"); the partners and owners are taxed on their share of
the earnings of these entities. Income taxes will be provided on earnings of
the Company's "C corporation" subsidiaries, as their future income will be
taxable. As these subsidiaries did not have earnings during the quarter ended
March 31, 1998, no
F-34
<PAGE>
ANDERSON-TULLY COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997
(UNAUDITED) (IN THOUSANDS)
income taxes were provided during this period. Previously recorded deferred
taxes related to assets and liabilities which remain within the Company net to
a liability of approximately $5,750 and will be eliminated when the Company
elects to be taxed as a REIT upon the filing of its 1998 federal income tax
return.
5.SIGNIFICANT OCCURRENCES AND SUBSEQUENT EVENTS
On March 31, 1998, the shareholders approved and adopted the "Agreement and
Plan of Merger" dated as of February 9, 1998 for the merger of the Company
into Beaver Acquisition Corporation, a wholly owned subsidiary of Timberland
Growth Corporation. The consummation of the merger is subject to certain
conditions including the successful completion of the initial public offering
by Timberland Growth Corporation. In anticipation of the transactions
described above, legal and accounting fees totaling $1,693 as of March 31,
1998 have been deferred and are recorded as other assets in the accompanying
financial statements.
F-35
<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRE-
SENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR
MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING
BEEN AUTHORIZED. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY ANY SECURITIES OTHER THAN THE SECURITIES TO
WHICH IT RELATES OR AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY
SUCH SECURITIES IN ANY CIRCUMSTANCES IN WHICH SUCH OFFER OR SOLICITATION WOULD
BE UNLAWFUL. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUN-
DER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN
NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THAT THE IN-
FORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO ITS DATE.
-----------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary........................................................ 1
Risk Factors.............................................................. 13
Use of Proceeds........................................................... 25
Distribution Policy....................................................... 26
Dilution.................................................................. 30
Capitalization............................................................ 31
Selected Financial and Operating Information of the Potlatch Southern
Timberlands.............................................................. 32
Selected Consolidated Financial Information of ATCO....................... 33
Pro Forma Condensed Consolidated Financial Information.................... 34
Management's Discussion and Analysis of Financial Condition and Results of
Operations of the Company................................................ 45
Management's Discussion and Analysis of Financial Condition and Results of
Operations of ATCO....................................................... 58
Business.................................................................. 64
Management................................................................ 84
Certain Policies and Objectives........................................... 92
Information Regarding Potlatch............................................ 95
The Formation Transactions................................................ 95
Certain Relationships and Related Transactions............................ 98
The Partnership Agreement................................................. 99
Federal Income Tax Consequences........................................... 103
ERISA Considerations...................................................... 122
Principal Stockholders of the Company and Partners of the Partnership..... 125
Description of Capital Stock.............................................. 127
Certain Provisions of Delaware Law and the Company's Charter and Bylaws... 131
Shares Eligible for Future Sale........................................... 133
Underwriting.............................................................. 135
Legal Matters............................................................. 137
Experts................................................................... 137
Additional Information.................................................... 137
Glossary.................................................................. 138
Index to Financial Statements............................................. F-1
</TABLE>
THROUGH AND INCLUDING , 1998 (THE 25TH DAY AFTER THE DATE OF THIS PRO-
SPECTUS), ALL DEALERS EFFECTING TRANSACTIONS IN THE COMMON STOCK, WHETHER OR
NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPEC-
TUS. THIS IS IN ADDITION TO THE OBLIGATIONS OF DEALERS TO DELIVER A PROSPECTUS
WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR
SUBSCRIPTIONS.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
15,000,000 SHARES
TIMBERLAND GROWTH CORPORATION
COMMON STOCK
(PAR VALUE $.01 PER SHARE)
-----------
PROSPECTUS
-----------
GOLDMAN, SACHS & CO.
A.G. EDWARDS & SONS, INC.
LEGG MASON WOOD WALKER
INCORPORATED
PRUDENTIAL SECURITIES INCORPORATED
BANCAMERICA ROBERTSON STEPHENS
REPRESENTATIVES OF THE UNDERWRITERS
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 31. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the various expenses expected to be incurred
by the Registrant in connection with the sale and distribution of the
securities being registered hereby, other than underwriting discounts and
commissions. All amounts are estimated except the Securities and Exchange
Commission registration fee and the National Association of Securities
Dealers, Inc. filing fee.
<TABLE>
<CAPTION>
PAYABLE BY
REGISTRANT
----------
<S> <C>
SEC registration fee............................................. $ 101,775
National Association of Securities Dealers, Inc. filing fee...... 30,500
New York Stock Exchange listing fee.............................. 147,600
Blue Sky fees and expenses....................................... 2,000
Accounting fees and expenses..................................... 500,000
Legal fees and expenses.......................................... 1,300,000
Printing and engraving expenses.................................. 250,000
Registrar and Transfer Agent's fees.............................. 15,000
Miscellaneous fees and expenses.................................. 653,125
----------
Total.......................................................... $3,000,000
==========
</TABLE>
ITEM 32. SALES TO SPECIAL PARTIES
In connection with the formation of the Registrant, in February 1998, the
Registrant issued 100 shares of Common Stock to Potlatch in return for $1,500
in cash.
In connection with the Formation Transactions (as defined in the Prospectus
contained herein), the Registrant issued one share of Special Voting Stock to
Potlatch in exchange for the shares of Common Stock previously issued to
Potlatch as described above.
ITEM 33. RECENT SALES OF UNREGISTERED SECURITIES
With respect to the issuances of Common Stock and Special Voting Stock
described in Item 32 above, the Registrant relied upon the exemption provided
by Section 4(2) of the Securities Act of 1933, as amended.
The recipient of the above-described securities represented its intention to
acquire the securities for investment only and not with a view to distribution
thereof. Appropriate legends were affixed to the stock certificates issued in
such transactions. The recipient had adequate access to information about the
Registrant.
ITEM 34. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145 of the Delaware General Corporation Law provides for the
indemnification of officers, directors, and other corporate agents in terms
sufficiently broad to indemnify such persons under certain circumstances for
liabilities (including reimbursement for expenses incurred) arising under the
Securities Act of 1933, as amended (the "Act"). Article VIII of the
Registrant's Restated Certificate of Incorporation (Exhibit 3.2 hereto) and
Article VIII of the Registrant's Bylaws (Exhibit 3.3 hereto) provide for
indemnification of the Registrant's directors, officers, employees and other
agents to the extent and under the circumstances permitted by the Delaware
General Corporation Law. The Registrant will also
II-1
<PAGE>
enter into agreements with its directors and certain of its officers that will
require the Registrant, among other things, to indemnify them against certain
liabilities that may arise by reason of their status or service as directors
or officers to the fullest extent not prohibited by law.
The Underwriting Agreement (Exhibit 1.1) provides for indemnification by the
Underwriters of the Registrant, its directors and its officers, and by the
Registrant of the Underwriters, for certain liabilities, including liabilities
arising under the Act, and affords certain rights of contribution with respect
thereto.
ITEM 35. TREATMENT OF PROCEEDS FROM STOCK BEING REGISTERED
Not applicable.
ITEM 36. FINANCIAL STATEMENTS AND EXHIBITS
(a) Financial Statements
See Index to Financial Statements.
(b) Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
------- -----------------------
<C> <S>
1.1* Form of Underwriting Agreement.
2.1+ Agreement and Plan of Merger dated as of February 9, 1998 among the
Registrant, Potlatch Corporation, Anderson-Tully Company and Beaver
Acquisition Corporation. Pursuant to Item 601(b)(2) of Regulation S-K,
certain schedules have been omitted but will be furnished
supplementally to the Commission on request.
2.2* Contribution Agreement between Potlatch Corporation and Timber
Holdings L.P. Pursuant to Item 601(b)(2) of Regulation S-K, certain
schedules have been omitted but will be furnished supplementally to
the Commission on request.
3.1+ Certificate of Incorporation of the Registrant.
3.2+ Form of Restated Certificate of Incorporation of the Registrant to be
effective on or prior to the Consummation of the offering made hereby.
3.3+ Bylaws of the Registrant.
4.1+ Form of Common Stock Certificate.
4.2+ Form of Special Voting Stock Certificate.
4.3+ Form of Registration Rights Agreement between the Registrant and
Potlatch Corporation to be executed prior to the effective date of
this Registration Statement.
4.4* Form of Revolving Credit Agreement between the Registrant and
NationsBank, N.A., as agent.
5.1* Opinion of Pillsbury Madison & Sutro LLP as to certain matters
regarding of the shares of Common Stock offered hereby.
8.1 Opinion of Pillsbury Madison & Sutro LLP as to tax matters.
10.1+ Amended and Restated Agreement of Limited Partnership of Timber
Holdings L.P.
10.2+ Timberland Management and Timber Purchase Agreement dated as of
, 1998 between Potlatch Corporation and Timber Holdings L.P.
10.3* Administrative Services Agreement dated as of , 1998 between
Potlatch Corporation and the Registrant.
10.4+ Opportunities Agreement dated as of , 1998 among Potlatch
Corporation, the Registrant and Timber Holdings L.P.
</TABLE>
II-2
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
------- -----------------------
<C> <S>
10.5* Form of 1998 Stock Incentive Plan of the Registrant.
10.6* Form of Stock Option Agreement.
10.7* Form of Stock Option Agreement for Outside Directors.
10.8* Form of Deferred Compensation Plan for Directors.
10.9* Form of indemnification agreement to be executed between Registrant
and certain of its officers and directors.
10.10* Employment agreement between the Registrant and Scott R. Jones.
10.11* Employment agreement between the Registrant and Allan F. Trinkwald.
10.12* Form of Timberland Growth Corporation Severance Plan for Executive
Employees.
21.1 Subsidiaries of the Registrant.
23.1 Consent of KPMG Peat Marwick LLP.
23.2 Consent of Deloitte & Touche LLP.
23.3 Consent of Skadden, Arps, Slate, Meagher & Flom LLP.
23.4 Consent of Pillsbury Madison & Sutro LLP (included in Exhibits 5.1 and
8.1)
24.1+ Power of Attorney (see Page II-4).
27.1+ Financial Data Schedule.
99.1+ Consent of prospective director Christine Garvey.
99.2+ Consent of prospective director Parnell S. Lewis, Jr.
99.3+ Consent of prospective director James F. Rippey.
99.4+ Consent of prospective director Will M. Storey.
99.5+ Consent of prospective director Frederick T. Weyerhaeuser.
99.6+ Consent of prospective director and officer Scott R. Jones.
99.7 Power of Attorney of Scott R. Jones.
99.8 Power of Attorney of Allan F. Trinkwald.
</TABLE>
- --------
* To be filed by amendment.
+ Previously filed.
ITEM 37. UNDERTAKINGS
Insofar as indemnification for liabilities arising under the Securities Act
of 1933, as amended (the "Act"), may be permitted to directors, officers and
controlling persons of the Registrant pursuant to the foregoing provisions, or
otherwise, the Registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public
policy as expressed in the Act and is, therefore, unenforceable. In the event
that a claim for indemnification against such liabilities (other than the
payment by the Registrant of expenses incurred or paid by a director, officer
or controlling person of the Registrant in the successful defense of any
action, suit or proceeding) is asserted by such director, officer or
controlling person in connection with the securities being registered, the
Registrant will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication
of such issue.
The undersigned Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Act, the
information omitted from the form of prospectus filed as part of this
registration statement in reliance upon Rule 430A and contained in a form
of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or
497(h) under the Act shall be deemed to be part of this registration
statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Act, each
post-effective amendment that contains a form of prospectus shall be deemed
to be a new registration statement relating to
II-3
<PAGE>
the securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.
(3) It will provide to the underwriters at the closing(s) specified in
the underwriting agreement certificates in such denominations and
registered in such names as required by the underwriters to permit prompt
delivery to each purchaser.
II-4
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT
CERTIFIES THAT IT HAS REASONABLE GROUNDS TO BELIEVE THAT IT MEETS ALL OF THE
REQUIREMENTS FOR FILING ON FORM S-11 AND HAS DULY CAUSED THIS AMENDMENT TO
REGISTRATION STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED,
THEREUNTO DULY AUTHORIZED, IN THE CITY OF SPOKANE, STATE OF WASHINGTON, ON THE
29TH DAY OF MAY, 1998.
Timberland Growth Corporation
/s/ Scott R. Jones
By: _________________________________
SCOTT R. JONES CHIEF EXECUTIVE
OFFICER AND PRESIDENT
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS AMENDMENT
TO REGISTRATION STATEMENT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS IN
THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE
/s/ Scott R. Jones Chief Executive May 28, 1998
- ------------------------------------- Officer and President
SCOTT R. JONES (Principal
Executive Officer)
/s/ Allan F. Trinkwald Vice President, May 28, 1998
- ------------------------------------- Chief Financial
ALLAN F. TRINKWALD Officer and
Treasurer
(Principal
Financial and
Accounting Officer)
/s/ John M. Richards
- ------------------------------------- Director May 28, 1998
JOHN M. RICHARDS
II-5
<PAGE>
[LETTERHEAD OF PILLSBURY MADISON & SUTRO LLP]
EXHIBIT 8.1
May 28, 1998
Timberland Growth Corporation
1242 N. Second Street
Memphis, TN 38101
Ladies and Gentlemen:
With reference to the Registration Statement on Form S-11 (File No.
333-48041) filed by Timberland Growth Corporation, a Delaware corporation, with
the Securities and Exchange Commission in connection with the registration under
the Securities Act of 1933, as amended, of shares of its common stock, par value
$0.01 per share (including any related registration statement filed pursuant to
Rule 462(b) under the Securities Act of 1933, as amended) (collectively, the
"Registration Statement") we hereby confirm our opinions set forth under the
caption "Federal Income Tax Consequences" in the Registration Statement.
We hereby consent to the filing of this opinion as Exhibit 8.1 to the
Registration Statement and to the use of our name in the Registration Statement
and in the Prospectus included therein.
Very truly yours,
/s/ Pillsbury Madison & Sutro LLP
<PAGE>
EXHIBIT 21.1
SUBSIDIARIES OF THE REGISTRANT
Jurisdiction of
Name Incorporation or Organization
------------------------- -----------------------------
Timber Holdings L.P. Delaware
<PAGE>
EXHIBIT 23.1
The Board of Directors
Timberland Growth Corporation
We consent to the use of our report dated March 10, 1998 regarding the
consolidated balance sheet of Timberland Growth Corporation as of February 27,
1998, and of our report dated May 22, 1998 regarding the balance sheets of the
Potlatch Southern Timberlands (A Business Unit of Potlatch Corporation) as of
December 31, 1997 and 1996 and the related statements of earnings and cash
flows for each of the years in the three-year period ended December 31, 1997,
both of which are included in the Registration Statement on Form S-11 filed by
Timberland Growth Corporation, and to the reference to our firm under the
heading "Experts" and "Selected Financial and Operating Information of the
Potlatch Southern Timberlands" in the related prospectus.
/s/ KPMG Peat Marwick LLP
- ---------------------------
KPMG Peat Marwick LLP
May 28, 1998
<PAGE>
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
The Board of Directors
Timberland Growth Corporation
We consent to the use in this Amendment 2 to the Registration Statement of
Timberland Growth Corporation on Form S-11 of our report on the consolidated
financial statements of Anderson-Tully Company dated February 10, 1998,
appearing in the Prospectus, which is part of this Registration Statement.
We also consent to the reference to us under the headings "Selected
Consolidated Financial Information of ATCO" and "Experts" in such prospectus.
/s/ Deloitte & Touche LLP
- ---------------------------
Deloitte & Touche LLP
Memphis, Tennessee
May 28, 1998
<PAGE>
EXHIBIT 23.3
To the Board of Directors of
Timberland Growth Corporation:
With respect to the Registration Statement on Form S-11 (No. 333-48041)
filed by Timberland Growth Corporation, we hereby consent to the reference to
our firm under the headings "Prospectus Summary--Tax Status," "Federal Income
Tax Consequences" and "Legal Matters" in such registration statement
(including any related registration statement filed pursuant to Rule 462(b)
under the Securities Act of 1933, as amended (the "Securities Act"))
(collectively, the "Registration Statement") and the related prospectus
included therein, and to the filing of this consent as an exhibit to the
Registration Statement. In giving this consent, we do not thereby admit that
we are included in the category of persons whose consent is required under
Section 7 of the Securities Act or the rules and regulations of the Securities
and Exchange Commission thereunder.
/s/ Skadden, Arps, Slate, Meagher &
Flom LLP
Los Angeles, California
May 27, 1998
<PAGE>
Exhibit 99.7
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints John M. Richards, Ralph M. Davisson and Betty R.
Fleshman, and each of them, his true and lawful attorneys-in-fact and agents,
each with full power of substitution and resubstitution, for him and in his
name, place and stead, in any and all capacities, to sign any and all
amendments, including post-effective amendments, to the Registration Statement,
filed on Form S-11 for Timberland Growth Corporation (File No. 333-48041)
("Registration Statement"), and any registration statement relating to the
offering covered by the Registration Statement and filed pursuant to Rule 462(b)
under the Securities Act of 1933, and to file the same, with exhibits thereto
and other documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorneys-in-fact and agents, and each of them,
full power and authority to do and perform each and every act and thing
requisite and necessary to be done, as fully to all intents and purposes as he
might or could do in person, hereby ratifying and confirming all that each of
said attorneys-in-fact and agents or their substitute or substitutes may
lawfully do or cause to be done by virtue hereof.
Name Title Date
---- ----- ----
/s/ Scott R. Jones Chief Executive Officer and May 29, 1998
- -------------------- President
Scott R. Jones (Principal Executive
Officer)
<PAGE>
Exhibit 99.8
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints John M. Richards, Ralph M. Davisson and Betty R.
Fleshman, and each of them, his true and lawful attorneys-in-fact and agents,
each with full power of substitution and resubstitution, for him and in his
name, place and stead, in any and all capacities, to sign any and all
amendments, including post-effective amendments, to the Registration Statement,
filed on Form S-11 for Timberland Growth Corporation (File No. 333-48041)
("Registration Statement"), and any registration statement relating to the
offering covered by the Registration Statement and filed pursuant to Rule 462(b)
under the Securities Act of 1933, and to file the same, with exhibits thereto
and other documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorneys-in-fact and agents, and each of them,
full power and authority to do and perform each and every act and thing
requisite and necessary to be done, as fully to all intents and purposes as he
might or could do in person, hereby ratifying and confirming all that each of
said attorneys-in-fact and agents or their substitute or substitutes may
lawfully do or cause to be done by virtue hereof.
Name Title Date
---- ----- ----
/s/ Allan F. Trinkwald Vice President, May 29, 1998
- ------------------------ Chief Financial Officer and
Allan F. Trinkwald Treasurer
(Principal Financial and
Accounting Officer)
