When we refer to "we," "us," "our," "the Company," or "Rayonier," we mean Rayonier Inc. and its consolidated subsidiaries. References herein to "Notes to Financial Statements" refer to the Notes to the Condensed Consolidated Financial Statements of Rayonier Inc. included in Item 1 of this Report.
The Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to provide a reader of our financial statements with a narrative from the perspective of management on our financial condition, results of operations, liquidity, and certain other factors which may affect future results. Our MD&A should be read in conjunction with the 2011 Annual Report on Form 10-K.
Forward-Looking Statements
Certain statements in this document regarding anticipated financial outcomes including earnings guidance, if any, business and market conditions, outlook and other similar statements relating to Rayonier's future financial and operational performance, are "forward-looking statements" made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. These forward-looking statements are identified by the use of words such as "may," "will," "should," "expect," "estimate," "believe," "anticipate" and other similar language. Forward-looking statements are not guarantees of future performance and undue reliance should not be placed on these statements. The risk factors contained in Item 1A - Risk Factors in our 2011 Annual Report on Form 10-K, among others, could cause actual results to differ materially from those expressed in forward-looking statements that are made in this document.
Forward-looking statements are only as of the date they are made, and the Company undertakes no duty to update its forward- looking statements except as required by law. You are advised, however, to review any further disclosures we make on related subjects in our subsequent Forms 10-Q, 10-K, 8-K and other reports to the SEC.

Critical Accounting Policies and Use of Estimates The preparation of financial statements requires us to make estimates, assumptions and judgments that affect our assets, liabilities, revenues and expenses, and disclosure of contingent assets and liabilities. We base these estimates and assumptions on historical data and trends, current fact patterns, expectations and other sources of information we believe are reasonable. Actual results may differ from these estimates. For a full description of our critical accounting policies, see Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations in the 2011 Annual Report on Form 10-K.
Segments
We are a leading international forest products company primarily engaged in timberland management, the sale and entitlement of real estate, and the production and sale of high value specialty cellulose fibers and fluff pulp. We operate in four reportable business segments: Forest Resources, Real Estate, Performance Fibers, and Wood Products. Forest Resources sales include all activities which relate to the harvesting of timber. Real Estate sales include all property sales, including those designated for higher and better use ("HBU"). The assets of the Real Estate segment include HBU property held by our real estate subsidiary, TerraPointe LLC. The Performance Fibers segment includes two major product lines, cellulose specialties and absorbent materials. The Wood Products segment is comprised of lumber operations. Our remaining operations include harvesting and selling timber acquired from third parties (log trading). These operations are combined and reported in "Other Operations." Sales between operating segments are made based on estimated fair market value, and intercompany sales, purchases and profits or losses are eliminated in consolidation.
We evaluate financial performance based on the operating income of the segments. Operating income, as presented in the Condensed Consolidated Statements of Income and Comprehensive Income, is equal to segment income (loss). Certain income (loss) items in the Condensed Consolidated Statements of Income and Comprehensive Income are not allocated to segments. These items, which include gains (losses) from certain asset dispositions, interest income (expense), miscellaneous income (expense) and income tax (expense) benefit, are not considered by management to be part of segment operations.

Results of Operations

Operating Income
Forest Resources $ 11 $ 11 $ 27 $ 34 Real Estate 8 28 21 40 Performance Fibers 101 75 266 222 Wood Products 2 (1 ) 7 (1 ) Other Operations - 1 - 1 Corporate and other (9 ) (6 ) (25 ) (21 ) Operating Income 113 108 296 275 Interest Expense, Interest Income and Other (7 ) (12 ) (36 ) (37 ) Income Tax (Expense) Benefit (a) (25 ) 9 (57 ) (18 ) Net Income $ 81 $ 105 $ 203 $ 220

Diluted Earnings Per Share $ 0.62 $ 0.84 $ 1.58 $ 1.75

(a) The three and nine months ended September 30, 2011 include a tax benefit of $16 million from the reversal of a tax reserve related to the taxability of the alternative fuel mixture credit ("AFMC"). See Note 3 - Income Taxes for additional information.

FOREST RESOURCES
Sales (in millions)                          Changes Attributable to:
                                                               Volume/
Three Months Ended September 30,  2011        Price           Mix/Other      2012
Atlantic                         $  20    $        2         $       (6 )   $  16
Gulf States                          7             -                  4        11
Northern                            27            (6 )                9        30
New Zealand                          3             -                  -         3
Total Sales                      $  57    $       (4 )       $        7     $  60


Sales (in millions)                         Changes Attributable to:
                                                              Volume/
Nine Months Ended September 30,  2011        Price           Mix/Other      2012
Atlantic                        $  50    $        3         $       (7 )   $  46
Gulf States                        23            (1 )                9        31
Northern                           81            (9 )                8        80
New Zealand                         8             -                  -         8
Total Sales                     $ 162    $       (7 )       $       10     $ 165




Operating Income (in millions)                    Changes Attributable to:
                                                         Volume/
Three Months Ended September 30,  2011      Price          Mix         Cost/Other      2012
Atlantic                         $   2    $     2       $    (1 )     $       -       $   3
Gulf States                          -          -             1               -           1
Northern                             8         (6 )           4               1           7
New Zealand/Other                    1          -             -              (1 )         -
Total Operating Income           $  11    $    (4 )     $     4       $       -       $  11



Operating Income (in millions)                   Changes Attributable to:
                                                        Volume/
Nine Months Ended September 30,  2011      Price          Mix         Cost/Other      2012
Atlantic                        $   4    $     3       $    (1 )     $       2       $   8
Gulf States                         -         (1 )           2               2           3
Northern                           26         (9 )           1              (3 )        15
New Zealand/Other                   4          -             -              (3 )         1
Total Operating Income          $  34    $    (7 )     $     2       $      (2 )     $  27

In the Atlantic region, sales for the 2012 periods were below 2011, primarily due to lower volumes, as 2011 included fire salvage timber. The 2012 quarter and year-to-date volumes returned to normalized levels declining 20 percent and six percent from the 2011 periods. Pine stumpage prices for the three and nine months ended September 2012 rose 19 percent and 14 percent over the prior year periods, respectively, as 2011 prices were also impacted by the fire salvage timber.
The Atlantic region's operating results improved as the higher sales prices more than offset the decline in volumes. The 2011 year-to-date results also reflected approximately $2 million of forest fire losses.
In the Gulf States region, sales increased for the three and nine months ended September 30, 2012 compared to the prior year periods as volumes rose 69 percent and 43 percent, respectively, mainly due to the integration of 2011 timberland acquisitions. The year-to-date increase was partially offset by a five percent decline in average prices due to a geographic mix shift. Operating income improved in 2012 primarily due to higher volumes. The 2012 year-to-date results also benefited from higher non-timber income.
In the Northern region, sales increased in third quarter 2012 over the prior year period reflecting a 29 percent increase in volumes due to timing as 2011 harvests were weighted towards the first half of the year. Third quarter and year-to-date sales and operating income were negatively impacted by weaker Asian demand as prices declined 16 percent and seven percent, respectively, compared to the prior year periods. Year-to-date 2012 results also reflect higher logging and transportation costs.

The New Zealand sales represent timberland management fees for services provided to our New Zealand joint venture ("JV") in which we own a 26 percent interest. The operating income primarily represents equity earnings related to the JV's timber activities, which declined in 2012 primarily due to lower carbon credit sales.

REAL ESTATE
Our real estate holdings are primarily in the southeastern U.S. We segregate
these real estate holdings into three groups: development HBU, rural HBU and
non-strategic timberlands. Our strategy is to extract maximum value from our HBU
properties. We pursue entitlement activity on development property while
maintaining a rural HBU program of sales for conservation, recreation and
industrial uses.
Sales (in millions)                            Changes Attributable to:
Three Months Ended September 30,  2011         Price           Volume/Mix     2012
Development                      $   -    $         -         $        -     $   -
Rural                                6              1                  -         7
Non-Strategic Timberlands           26            (16 )               (4 )       6
Total Sales                      $  32    $       (15 )       $       (4 )   $  13



Sales (in millions)                           Changes Attributable to:
Nine Months Ended September 30,  2011         Price           Volume/Mix     2012
Development                     $   1    $         -         $       (1 )   $   -
Rural                              28              2                  -        30
Non-Strategic Timberlands          29            (17 )               (5 )       7
Total Sales                     $  58    $       (15 )       $       (6 )   $  37

Operating Income (in millions) Changes Attributable to:
Three Months Ended September 30, 2011 Price Cost/Volume/Mix/Other 2012 Total Operating Income $ 28 $ (15 ) $ (5 ) $ 8

Operating Income (in millions) Changes Attributable to:
Nine Months Ended September 30, 2011 Price Cost/Volume/Mix/Other 2012 Total Operating Income $ 40 $ (15 ) $ (4 ) $ 21

As expected, 2012 operating results declined primarily due to a third quarter 2011 non-strategic sale of 6,300 acres at $3,995 per acre. This decline was slightly offset by an increase in rural prices due to geographic sales mix. Third quarter and year-to-date 2011 results also benefited from a $6 million property tax settlement covering 2005 through 2010.

PERFORMANCE FIBERS
Sales (in millions)                          Changes Attributable to:
                                                               Volume/
Three Months Ended September 30,  2011        Price              Mix        2012
Cellulose specialties            $ 207    $       33         $     7       $ 247
Absorbent materials                 48            (6 )            (1 )        41
Total Sales                      $ 255    $       27         $     6       $ 288

Sales (in millions)                         Changes Attributable to:
                                                              Volume/
Nine Months Ended September 30,  2011        Price              Mix         2012
Cellulose specialties           $ 594    $       83         $        3     $ 680
Absorbent materials               145           (21 )              (10 )     114
Total Sales                     $ 739    $       62         $       (7 )   $ 794

Cellulose specialties sales improved in 2012 versus the prior year periods as prices increased 15 percent and 14 percent for the quarter and year-to-date, respectively, reflecting strong demand. Cellulose specialties volumes increased by three percent and one percent compared to the respective 2011 periods mainly due to the timing of customer orders and a shift in production from absorbent materials.
Absorbent materials sales decreased from the prior year periods as prices declined 14 percent and 16 percent for third quarter and year-to-date 2012, respectively, due to weaker markets. Volumes declined seven percent for the nine months ended 2012 due to a production shift to cellulose specialties and minor production issues.

Operating Income (in millions)                              Changes Attributable to:
                                                                   Volume/
Three Months Ended September 30,     2011           Price            Mix           Cost/Other         2012
Total Operating Income           $       75     $        27     $          2     $        (3 )     $     101

Operating Income (in millions) Changes Attributable to:

Operating income improved for the three and nine months ended September 30, 2012 over the prior year periods as higher cellulose specialties prices more than offset weaker absorbent materials prices and increases in production costs, primarily wood and benefit costs.
As previously announced, we have commenced a cellulose specialties expansion ("CSE") project to convert a fiber line at our Jesup, Georgia mill from absorbent materials to cellulose specialties. The CSE is expected to be completed by mid-2013. Upon completion of the CSE and customer product qualifications, we will be exiting the more commodity-like absorbent materials business and transitioning to producing only cellulose specialties. Over the next twelve months, we do not expect the CSE to have a material impact on our revenues or expenses, as the project will be transitioning from the construction phase to the initial start-up and customer qualification phases. Upon completion of the CSE, we will undergo a phase-in period to complete customer qualifications. After the phase-in period, we anticipate total sales and operating income to increase as we expect higher prices received for our cellulose specialties to more than offset expected cost increases of 11 percent to 13 percent and the net 70,000 metric ton reduction in our Performance Fibers production capacity. For the quarter ended September 30, 2012, our cellulose specialties average sales price of $1,885 per metric ton was $1,161 above our absorbent materials average sales price per metric ton. We expect our costs to increase after the CSE phase-in due to higher conversion costs and depreciation.
WOOD PRODUCTS
Sales (in millions) Changes Attributable to:
Three Months Ended September 30, 2011 Price Volume 2012 Total Sales $ 16 $ 4 $ 3 $ 23

Sales (in millions) Changes Attributable to:
Nine Months Ended September 30, 2011 Price Volume 2012 Total Sales $ 50 $ 8 $ 8 $ 66

Operating (Loss) Income (in millions)                              Changes Attributable to:
Three Months Ended September 30,            2011                   Price                  Volume/Costs         2012
Total Operating (Loss) Income            $      (1 )   $          4                     $         (1 )     $        2



Operating (Loss) Income (in millions)                                Changes Attributable to:
Nine Months Ended September 30,             2011                     Price                   Volume/Costs          2012
Total Operating (Loss) Income            $      (1 )   $           8                       $             -     $        7

Wood Products results improved during the third quarter and nine months ended September 30, 2012 due to increased demand which caused prices to increase 21 percent and 14 percent and volumes to increase 14 percent and 15 percent from the respective prior year periods. The 2012 results also include a $1 million loss related to a fire at the Swainsboro mill.
OTHER OPERATIONS
Sales declined for the nine months ended September 30, 2012 from the prior year period due to lower export demand from our New Zealand log trading business. Third quarter and year-to-date operating results in 2012 and 2011 were close to break-even, with changes in operating income primarily due to foreign exchange gains and losses.
Corporate and Other Expense/Eliminations Corporate and other expenses for third quarter 2012 increased $3 million from the prior year period primarily due to a $2 million favorable insurance settlement received in 2011. Year-to-date corporate and other expenses were $4 million above the prior year period due to higher stock-based compensation and pension costs.
Interest Expense, Interest Income and Other Interest and other expenses for the third quarter were $5 million lower than the prior year period mainly due to the reversal of a tax related interest accrual. Year-to-date interest and other expenses were $1 million below 2011 as lower costs of borrowing more than offset higher average debt balances. Income Tax Expense
The effective tax rates for the quarter and year-to-date were 23.4 percent and 21.9 percent compared to a 9.0 percent benefit and a 7.5 percent expense in 2011, respectively. The change in rates was primarily due to tax benefits received in 2011, including the reversal of the reserve related to the taxability of the AFMC and a $9.3 million benefit associated with the structuring of a transfer of higher and better use properties to a taxable REIT subsidiary from the REIT. Also, proportionately higher expected earnings from our taxable REIT subsidiaries increased the 2012 effective rates. See Note 3 - Income Taxes for additional information. Outlook
In Forest Resources, we will continue to capitalize on local market opportunities in the Southeast. In Performance Fibers, we anticipate another record year driven by strong cellulose specialties markets and we remain on track to complete our CSE project by mid-2013. Overall, we expect operating income to increase 10 percent to 12 percent over 2011. However, due to non-routine tax benefits received in 2011, we still expect full year earnings to be comparable to 2011, excluding special items. We anticipate full year CAD to range from $295 million to $310 million.
Our full year 2012 financial guidance is subject to a number of variables and uncertainties, including those discussed under Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations, Forward-Looking Statements of this Form 10-Q and Item 1A - Risk Factors in our 2011 Annual Report on Form 10-K.
Employee Relations
On June 30, 2012, collective bargaining agreements covering approximately 700 hourly employees at our Jesup mill expired. On October 12, 2012, an initial vote on the proposed contract was taken and the proposal was rejected by the unions. All parties have agreed to extend the contracts while negotiations continue. While there can be no assurance, we expect to reach mutually satisfactory agreements with our unions; however, a work stoppage could have a material adverse effect on our business, results of operations and financial condition. See also Item 1 - Business in our 2011 Annual Report on Form 10-K.

Liquidity and Capital Resources
Our operations have generally produced consistent cash flows and required
limited capital resources. Short-term borrowings have helped fund cyclicality in
working capital needs and long-term debt has been used to fund major
acquisitions and strategic projects.
Summary of Liquidity and Financing Commitments (in millions of dollars)
                                               September 30,      December 31,
                                                    2012              2011
Cash and cash equivalents (a)                 $        215       $       79
Total debt                                           1,009              847
Shareholders' equity                                 1,418            1,323
Total capitalization (total debt plus equity)        2,427            2,170
Debt to capital ratio                                   42 %             39 %

(a) Cash and cash equivalents consisted primarily of time deposits with original maturities of 90 days or less. Cash Flows (in millions of dollars)
The following table summarizes our cash flows from operating, investing and financing activities for the nine months ended September 30:

Operating activities         $ 354     $ 326
Investing activities          (237 )    (181 )
Financing activities            20      (133 )

Cash Provided by Operating Activities
Cash provided by operating activities increased primarily due to higher operating results in 2012 and lower working capital requirements. Partially offsetting this increase were higher cash tax payments due to higher expected income from our taxable REIT subsidiaries. Cash Used for Investing Activities
Cash used for investing activities rose mainly due to strategic investments in the CSE and higher capital expenditures. The change in restricted cash from the timing of like-kind exchange transactions also contributed to the increase. Cash Provided by (Used for) Financing Activities Cash provided by financing activities increased mainly due to net borrowings of $156 million in 2012 as well as higher proceeds from option exercises. This was partially offset by higher dividend payments due to higher dividend rates in 2012.
Expected 2012 Expenditures
Capital expenditures in 2012 are forecasted to be between $150 million and $160 million, excluding strategic acquisitions and the CSE. We expect CSE expenditures in 2012 to approximate $200 million. Our 2012 dividend payments are expected to increase to $207 million from $185 million assuming no change in the quarterly dividend rate of $0.44 per share. In October 2012, we repaid $300 million in Senior Exchangeable Notes, financed through borrowing on our revolving credit facility. We expect to refinance this $300 million borrowing on a long-term basis in fourth quarter 2012.
We have no mandatory pension contributions in 2012 and do not expect to make any discretionary contributions. Cash payments for income taxes in 2012 are anticipated to be between $70 million and $80 million. Expenditures related to dispositions and discontinued operations are forecasted to be approximately $9 million. See Note 10 - Liabilities for Dispositions and Discontinued Operations for further information.