"Given the dreadful macro-operating environment, our financial result in the period was solid, and one which certainly stands up well to scrutiny against our peers," directors say in a report to shareholders.

The company grew sales slightly to $US162 million, despite a shrinking US retail market for millwork (mouldings) and a decline in housing starts. This, says Tenon, reflects a combination of market share acquisition and effective management of pricing.

Earnings were bolstered by a hedging strategy under which foreign exchange requirements were locked in at well below the average spot exchange rate. This generated more than $US600,000 in the six-month period under review.

In its 2010 Annual Report to shareholders Tenon described the outlook for the coming six-month period (i.e. the period now under review in this Interim Report), as follows:

“In the very immediate term it is likely that we will continue to face challenging macro-economic headwinds – particularly from high US unemployment, the effect of the removal of the US Federal Government’s homebuyer tax credit scheme, and the “shadow” housing inventory that exists from the potential for further bank-enforced home mortgage foreclosures.

"However, it is positive that even in this environment the large US home centre retailers – Lowe’s and The Home Depot – are predicting comparable store sales to improve by approximately 2% year-over-year for the current year (after three years of negative store performance), and most forecasters concur with an estimated range of 2%-3% in projected store sales improvement. Much of the improved purchasing activity is likely to be associated with home maintenance and repair expenditure, rather than with expenditure in Tenon’s “sweet spot” - i.e. the larger discretionary remodeling activity – which is likely to lag overall total store performance in the short term. So, in summary, the immediate period (i.e. the next six months) is likely to show on-going market volatility and a continuation of the current difficult operating conditions, with industry earnings performance continuing to be dictated by the macro-economic fundamentals in the US.”

Unfortunately, says Tenon, this outlook has proved to be a fair summary of what actually occurred. Indeed, the conditions were in fact tougher than forecast, in that the NZ:US exchange rate strengthened considerably across the period - from just over 69 cents at 30 June 2010, to almost 77.5 cents by its 31 December 2010 balance date.

In addition domestic log prices – an important feedstock into the company's Taupo sawmill and remanufacturing plant – continued to rise as a result of very strong China demand for NZ pruned logs. These factors combined with a reduction in inventories throughout the supply chain to cause a significant downturn in the profitability of Tenon's NZ-based operations.

"In short, this means we have still been facing a declining market, period-on-period, and we have had to work extremely hard in order to sustain our financial performance through this point of the cycle," says the report.

"Pleasingly, improved efficiencies, aggressive cost-out initiatives, the introduction of new products, and the acquisition of new customer locations, have seen us lift the financial performance of our North American activities in a down-market. [But] the profitability of our Taupo operations more than offset the positive gains made in our US businesses.

"Had it not been for the worsening macro-environment for our Taupo-exported product, Tenon's overall results would have been up on the two immediately preceding six months periods – a reflection of the positive progress we have made in our North American distribution activities despite the extremely tough operating conditions."

Tenon says the summary financial results do not show the long list of incremental improvement projects designed to ensure the company's performance improves in a down-market environment.

"Over the past 12 months we have also been putting considerable effort into leveraging the best practices of each of our business activity groups across the whole of Tenon. In doing so, we have been able to elevate group-wide competencies, increase market penetration and product adoption, improve our customers' retail performance, and capture the full potential of our end-to-end value chain."

Outlook

Directors say it is likely that Tenon will continue in the next six months to be buffeted by short-term macro-operating conditions over which we have limited control (e.g. the NZ:US exchange rate and recent severe winter storms in the US). However, the longer-term macro-outlook for Tenon remains very positive.

The longer-term prospects for the US housing sector are underpinned by some key positive fundamentals, including:

• US housing affordability at 40-year highs;
• US new home inventories at 40-year lows;US mortgage rates at near 40-year lows;
• Robust population growth in line with long-term trends;
• Housing starts per head of population at 60-year lows;
• An aging US housing stock, with two-thirds of the total being at least 25 years old; and
• US housing activity at well below underlying long-term demand.

The National Association of Home Builders, Freddie Mac and Fannie Mae (the two largest mortgage buyers in the US) are now projecting new housing starts to increase more than 30% from the December 2010 level, to (on average) around 700,000 starts in 2011, led by a gain in the construction of single-family houses. These projections are supported by the 596,000 housing starts recorded in January 2011, which is up 15% on the 520,000 figure reported in the previous month.

Source: Tenon Media Release