Basic Materials
Forestry & Wood Products
(POPEZ - NASD)

Pope Resources L.P.

19245 10^th Avenue NE
Poulsbo, WA 98370
Phone: 360-697-6626



David L. Nunes
President and
Chief Executive Officer

Interview conducted by:
Lynn Fosse
Senior Editor

CEOCFOinterviews.com
June 2003

BIO:

            David L. Nunes: President and CEO, Pope Resources.  Mr. Nunes has been with Pope Resources for six years, serving in a number of leadership capacities including timberland acquisitions and third-party portfolio management.  His prior experience includes nine years with the Weyerhaeuser Company, where he was involved with finance and planning, export log sales and marketing, timberland acquisitions, strategic planning, mergers and acquisitions, and capital planning.  Most recently he served as Strategic Planning Director Wood Products and Timberlands.  Mr. Nunes also has three years of experience in sawmill operations with the Seattle-Snohomish Mill Company.  He has a B.A. in Economics and Mathematics from Pomona College and a M.S. in Industrial Administration (MBA) from Carnegie Mellon University.

Company Profile:

Pope Resources (NSDQ: POPEZ), owns or manage nearly 235,000 acres of timberland and development property in Washington, Oregon, and California. Pope Resources is a publicly traded limited partnership with two subsidiaries: Olympic Resource Management (ORM) and Olympic Property Group. In addition, they provide timberland management and forestry consulting services to third-party owners and managers of timberland.  The company and its predecessor companies have owned and managed timberlands and development properties for more than 150 years. Today, Pope Resources owns 112,000 acres of timberland and 2,500 acres of development property in Washington, while ORM manages more than 600,000 acres in Washington, Oregon, California and British Columbia.

Pope Resources and Olympic Resource Management have three primary business segments: Fee Timber, Timberland Management and Consulting, and Real Estate Development. The Fee Timber segment centers around the growing and harvesting of timber from Pope Resources' 112,000-acre ownership.

Olympic Resource Management offers a variety of timberland management services. Their professional staff provides services to a diverse group of clients, which include both small private landowners and large timberland companies. The company’s wide range of experience and expertise allows them to provide quality service in an extensive geographical area. Services provided include: Forest planning, Operational planning, Operational management, Harvest operations, Silvicultural operations, Timberland Engineering, Oversight and Administration and Accounting and Financial services.

Olympic Property Group (OPG) manages the land development and operations of Pope Resources’ residential and commercial properties. They manage over 2,000 acres of residential and commercial development lands all within 50 miles of the Seattle-Tacoma metropolitan area. The group currently has numerous projects in process ranging from a 320-acre mixed-use development in Gig Harbor, Washington to the 150-year-old Port Gamble town site, a registered national historic district. Services performed by OPG include: Overall Development Services Project Feasibility Studies Permitting and Entitlements Infrastructure and Utility Construction.

CEOCFOinterviews: Mr. Nunes, please tell us about Pope Resources and what changes you have experienced over the past few years?

Mr. Nunes: “Our company has gone through a significant change to its business model over the last two years. We exited the downstream resort management business that we had in Port Ludlow, Washington, which was a very large portion of both our revenue and employment base. Unfortunately, it was not a very big profit contributor, so we made the decision to sell this business in 2001. We also increased our fee ownership, which is the timberland that we own for our own account. We acquired 44,000 acres of timberland from Plum Creek Timber Company, Inc. (NYSE: PCL) that grew our own timberland base by about 60%. These two moves amounted to a major repositioning within these two segments. We also have had a fairly large change within our third party services segment. This is where we provide third party timberland management and forestry consulting services to other timberland owners. For the last five years we were the western region manager for the Hancock Timber Resource Group, where we managed all their lands from California up to British Columbia. That contract expired by the end of this last year. We also sold and shut down offices of a Canadian consulting firm that we maintained in Canada for the last four years. Furthermore, we added a new element to our third party services business, a timber fund. This is designed for investors interested in direct ownership of timberland. We are launching a $50 million dollar timber fund of which we will contribute 10% of our own money and provide management services. We feel this is a good time to be investing in timber and this helps us to leverage our limited growth capital as well as to provide superior alignment of interest for investors interested in the timberland asset class. We have undergone significant change for a company our size and we have emerged as a much more focused company in terms of our emphasis on timberland ownership and management.”

CEOCFOinterviews: What is involved in managing timber and what is involved with the timber that you own?

Mr. Nunes: “Managing timberland today requires navigating through a complex set of regulatory requirements in terms of monitoring for threatened wildlife and providing buffers around other sensitive areas. There are many regulatory management issues that are involved. There is an increasingly high amount of sophisticated planning that is required to effectively manage timberland today. We utilize sophisticated geographic information systems to measure the timber inventory that we have and are continually updating this timber inventory over time, in terms of being able to maximize the investment returns associated with those properties. We also do a fair amount of portfolio analysis and management. You always want to treat this portfolio as you would any other stock portfolio. Everyday that you continue to hold that portfolio, you are making a conscious decision to buy it back from yourself that day. That requires some analytical horsepower that we have amassed in our organization and we apply all those modern portfolio management techniques to the timberland asset class.”

CEOCFOinterviews: What is the state of the industry in general?

Mr. Nunes: “One of the items that has received a lot of press coverage of late has been the protracted softwood lumber trade dispute between the U.S. and Canada. This has had the affect of flooding the market with very low cost Canadian lumber. As timber owners, this has rippled back to where it has dampened log prices in the U.S. Generally speaking, we have enjoyed strong housing markets and the low interest rate environment has certainly contributed to this. Having said that, we are in an environment the market is over supplied and prices are at a low level in a historic sense. This is an asset class that you have to train yourself to think long-term. These are the times where some people may look at falling log and stock prices as a time to get out of the market. Many others, such as ourselves, are viewing this low price environment as an excellent time to not only stay in the market but to grow. Sometimes it helps to have a contrarian point of view when thinking about this long-term asset class.”

CEOCFOinterviews: How do you sell timber and how do you decide when to sell and when to hold?

Mr. Nunes: “The downstream finished lumber product has become increasingly more of a commodity. If you back up the value chain to the timber owner, we are viewing ourselves more of a farmer. As any farmer will tell you, it is about getting the most productivity out of every acre of soil that you manage. We do many things to improve the productivity of the lands that we manage to try to extract that extra increment of productivity from the ground. In terms of selling to our customers, we are a timber owner and we do not have any of our own sawmills. Companies that are vertically integrated oftentimes are harvesting timber to meet the manufacturing schedules of the mills that they have. This forces them to harvest a regular amount of timber in good markets and bad markets. As a pure play timber owner, we are able to take advantage of spot markets and harvest more during those times. Conversely, when markets are soft, we back down on our harvest. This year is a good example of that, where we saw some stronger markets in the first quarter and we consciously increased the proportion of our planned harvest for the year into the first quarter. We ended up harvesting about 30% of our annual harvest amount in the first quarter to take advantage of those spot markets. That is something that a pure play timber company is able to do.”

CEOCFOinterviews: How do you decide when to buy more acreage?

Mr. Nunes: “One of the things that is important and falls into the category of portfolio management is that every portfolio of timber is going to have a unique mixture of age-class structures. If you had a timber property that was somewhat imbalanced in its age-class structure, you would be looking for properties that could be the mirror opposite of that. A good example for our company was a purchase that we made two years ago from Plum Creek. We had a timber inventory that had a bi-model distribution of its age-classes. We had a heavy mix of timber in mature acres and a heavy mix of timber in young acres, but we had a gap in the middle. There were fewer acres in the 25-40 year age category. We found a property which had the heaviest mix of its acres in that same 25-40 year age category. By acquiring it, we were able to even out the distribution of our age-classes and improve the predictability and the level of our future cash flows. That is one consideration and pricing is another consideration. If you can buy properties when spot prices are below long-term trend lines, you then have a better chance to acquire properties at the right price. Timber investing requires applying a disciplined acquisition process.”

CEOCFOinterviews: You are selling at book value now. Why is it a good time for investors to be interested?

Mr. Nunes: “Most timber that has been on the books for a long time, its book value is low relative to the underlying market value. That is certainly the case with our company. If you were to look at comparable sales values of recent transactions on a per acre basis vs. the implied per acre value of our timber as it is currently traded, there is a severe mismatch. A number of portfolio managers have been discovering this as of late. As it relates to our own equity, that is an important point to keep in mind. In a broader sense, if you were really starting with no timber and you wanted to own timber directly, I think buying it when prices are below long-term trend prices is generally a better time to be buying.”

CEOCFOinterviews: Will you tell us what the advantages are with the limited partnership structure?

Mr. Nunes: “I think the strongest advantage for our investors is the tremendous tax efficiency that you receive owning timber through a master limited partnership (MLP) structure. We are a flow-through entity, meaning that we do not pay corporate income tax on the timber income that we generate. Each partner gets their pro-rata portion of that profit and they pay taxes on that accordingly. Furthermore, there is a more fundamental difference in that an MLP receives capital gains treatment on its timber income. For timber that is held in vertically integrated forest products companies that are regular C-Corps, that same timber income is treated as ordinary corporate income and is taxed at a substantially higher corporate tax rate. We not only get the preferential capital gains treatment, but we get it in a flow-through sense. There is a third benefit, which is a little bit more difficult to explain. The timber harvest income flows through and is taxed at a capital gains rate, while all the costs of managing our timber, such as overhead and the cost of our foresters, flows through as ordinary income. With no revenue to go against this cost, this translates into an ordinary income loss that is taxed at higher marginal tax rates. This ordinary income tax credit typically exceeds the capital gains tax, thus generating a net tax yield of between one and two percent for most of our investors. When you add on top of that our two percent distribution, which is a tax-free distribution of capital, you end up generating a very respectable three to four percent yield on an after-tax basis.”

CEOCFOinterviews: What are the challenges involved in getting the timber fund off the ground?

Mr. Nunes: “I think at this stage the first challenge is finding the right set of investors who is interested in investing in the timber fund. We feel that the strongest differentiation that we bring in our timber fund is our co-investment. There are many organizations out there today that are raising money to invest in timber. But very few of them invest their own capital side-by-side. I think that in some cases we have seen the misalignment of motives as the investment manager has had some incentive to create fee income. We feel strongly that the alignment of interest that our ten percent co-investment will bring is very much in our investors’ best interest. That is where I see some of the marketing issues. The second set of issues has to be what you buy and where you buy it and being a very patient and disciplined acquirer of timber. We have seen many companies out there that have not been patient and have paid too much for those lands. You can be the best timberland manager in the world, but if you have paid too much for the property, your investment is going to suffer. We have a seasoned management team and have developed a disciplined acquisition approach, both of which will be critical for our new $50 million timber fund. The fact that we have 112,000 acres of our own timberland makes us far less dependent on the fee income associated with this timber fund than a company that is purely based in this business. If they do not consummate transactions, they do not get fees and they cannot pay themselves. We feel we have something unique to offer by combining our extensive timberland management experience with third party investors looking to participate in this asset class.  It is just going to be a function of finding investors out there that match up with our investment philosophy.”

CEOCFOinterviews: How are you going to do that?

Mr. Nunes: “We are talking with wealth managers who advise high net-worth individuals, for whom we think timber is an ideal asset class. There are also pension funds out there with a longer-term perspective in their investment horizon, which would be ideal. We are looking for people that are very comfortable in a ten-year or longer investment horizon. That is what we feel is ideal for this asset class.”

CEOCFOinterviews: Any final thoughts on Pope?

Mr. Nunes: “I think that there is another area that we have not touched on yet. It is an area that is not contributing significantly at the current time from a revenue standpoint, but it is an area that we are very excited about. That is the remaining portion of our real estate portfolio. Owning timber near an urban center like Seattle, you invariably have a portion of your timber that is in what we call higher and better use categories. This is where it is worth more as land for people to build homes on than it is as a long-term timber asset. We have approximately 2,500 acres in our real estate portfolio that is all in the early stages of obtaining and securing entitlements for zoning in real estate. We feel a number of these properties are going to add significantly to the bottom line in the next three to five years. We are very excited about these emerging properties, which are all in the west Puget Sound area.”

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