Forestweb reported today on some new statistics from the UK Statistics Authority/Forestry Commission. The total area of woodland in the UK is 2.85 million hectares.
To put that in perspective, the total woodland area of England, Wales, Scotland and Northern Ireland is roughly the same size as Plum Creek's timberland holdings in the U.S.
Think about that from the perspective of where the wood will come from in the future. --Brian
Showing posts with label forestland. Show all posts
Showing posts with label forestland. Show all posts
Wednesday, June 16, 2010
Friday, June 12, 2009
Baptist, Bootleggers and Biomass
When I moved to North Mississippi to buy land in the late 60’s, I landed in a “dry county” where it was illegal to buy or have alcoholic beverages in your possession. Like most folks, I enjoyed an occasional adult beverage. And coming from an Italian family, this was a pretty foreign concept to me. I asked “Why?” and the answer came back “because of the Baptists and the bootleggers”!
It was a coalition of two diverse groups with very different reasons and objectives. The Baptists supported the “blue laws” for religious, moral and ethical reasons and the bootleggers supported the same laws for reasons of personal financial gain (although it was pretty widely known that some members of the latter group were widely outspoken members of the former group!). The differences in their motives were irrelevant with respect to their ability to create a strong coalition that maintained a common objective.
A similar coalition has evolved to oppose the development and use of renewable energy, specifically biomass. The group is composed of environmentalists, power companies and the pulp and paper industry. Strange bedfellows again.
The news media’s focus on renewable energy is pretty much confined to solar and wind and what might be. Here is a graph of what is - courtesy of The Energy Information Administration.
Renewable energy currently supplies a meager 7% of the nation’s energy consumption. A year ago it was 6% and 90% 0f that was equally split between hydropower and biomass. All of the rest combined represented less than 10% of that meager 6%! The significant growth in renewable energy in 2007 came from biomass, and to a lesser degree, from wind. Now, let’s take a look at the coalition and what is driving it.
Environmentalists: The environmental community has been a strong proponent of renewable energies up until the point of actually supporting their implementation. Following is a look at the rational and frequent hypocrisy of its “support” for renewable energy.
On Hydropower
Hydropower dropped from 45% of renewable energy consumption to 36% of renewable energy consumption in one year. Hydropower production of electricity has come at the expense of free flowing rivers and I know of no environmentalists that support the expansion of hydropower by damming additional rivers. In fact, I know of very few Americans at all that support expansion of hydropower by flooding more rivers. Even if there was support, it would be squashed by the “discovery” of an endangered minnow or mussel. There will be no more hydropower sites added and some likelihood that there will be calls to restore some rivers to a natural state creating a loss of hydropower. There may be some gains in efficiency but, for all practical purposes, what we have today is all we can expect. Increases in renewable energy will have to come from other sources.
On Wind
Wind and solar represented the energy mantra of the environmental community until engineers dramatically improved the efficiency of windmills to the point of making them actually cost-effective in many (windy) situations. The environmental downside of windmills includes damage to certain species of birds (call in the Endangered Species Act again) and aesthetics. The only places that aesthetics are at issue are the mountains, oceans, deserts and the places in between.
This is a link to a Grist article entitled The Wind and the Willful: RFK Jr. and other prominent enviros face off over Cape Cod wind farm, By Amanda Griscom Little. It starts with the following quote.
On Solar
Here are a few extracts from a FOX News article Feinstein: Don't Spoil Our Desert With Solar Panels.
On Biomass
There are others much more in tune than me with the battles that have raged recently over the definition of biomass in this year’s Energy Bill but I have seen enough of the terminology to understand the role of the environmentalists. In an effort to suppress a fear that natural forests would be converted to plantations they were successful in creating a definition that excluded most trees from the definition. In the end, more rational heads prevailed within the environmental community and they worked to provide a reasonable, workable definition. Still, biomass growing on our federal lands has been excluded as a source of renewable energy. And that’s a lot when you consider that about 1/3 of our forests are on federal lands.
On Nuclear Energy
Nuclear power is not technically classified as renewable but it too, is an option that could replace much of the coal and biomass for electrical production. One publication by an environmental organization claims that 30,000 deaths a year are caused by particulates from U. S. coal-fired power plants yet none (that’s zero) have ever been caused by a nuclear power plant. Environmentalists have done a very effective job at scaring the American public to the point where it is questionable whether we can look at nuclear power in a rational manner. IF we are going to do it, some folks in the environmental world will have to play a leadership role. What would the environmentalist’s position be if 30,000 people were killed each year in nuclear accidents? We have options and it is up to all of us to pursue them in rational manners without the scare tactics.
Power Companies:
The power companies have an industry pretty much built on coal. It’s not that they love coal, it’s that coal is the least expensive way to produce electricity and their customers want low cost power. As an industry, biomass as a replacement for coal is an expensive proposition and they want to hold their costs down so there is a good reason for the resistance to the move to biomass.
But not all power companies are in the same boat. A large part of the cost of coal is freight. The largest cost component of biomass is transportation. So look where the resource is and it is pretty easy to see which states have an economic incentive to support or oppose the utilization of biomass. Transporting low sulphur coal from Colorado to Georgia or wood from Georgia to Colorado doesn’t make a lot of sense economically or environmentally. The utilization of energy resources close to the power facility makes a lot of sense and that is what we are seeing evolve from the plans of the power companies. The power companies outside of the nation’s “woodbasket”, sitting on coal reserves, are and will continue to be a part of the coalition. The companies in the Southern woodbasket will remain a part of that coalition UNTIL the 15% renewable energy standard really is a standard, then biomass becomes the least expensive option. In fact, in the South, it is pretty much the only option for both carbon neutral and renewable energy so some of the companies are moving quickly to secure their woodbasket.
Pulp and Paper Industry:
The pulp and paper companies, like the power companies, are looking at both costs and their ability to survive. They are faced with increased global competition, severely declining demand and now a new threat that is competing for both their raw material and one of their primary energy sources. Although they probably use more renewable energy than any other industry, don’t expect them to embrace a national shift to biomass that will make it even more difficult for them to compete or survive. Inflation, followed by a weak dollar, may save the industry but “hope is not a strategy”. The industry must fight for its survival on all fronts and we should expect to see little change on the biomass front.
The question that the industry poses is whether or not the forest can sustain both the pulp and paper industry and a robust biomass industry. Collectively, is it sustainable? One solid argument is that the economic value of the pulp and paper industry (employment, value added, and multipliers) is much greater than can be achieved by the biomass industry. Below is a graph produced by the South Carolina Forestry Commission that illustrates how important pulp and paper is to the forestry sector in that state.
On the value added issue, it is questionable. The resource supply chain for the two industries is identical – stumpage, harvest, transport to mill, and woodyard handling. I’m not sure how many more people a pulp mill employs relative to a pellet mill. If you throw in the paper mill, you have to throw in the power generation plant on the other side of the equation. I’m not sure how much difference there really is AND I’m not convinced that there isn’t room for both. I just don’t accept the argument that it has to be one or the other.
The industry is crying “sustainability”. And they are doing it in an organized and deliberate fashion. As a 40-year veteran of the pulp and paper industry, I am disappointed with the industries position. Twenty years ago the industry would have taken a strong positive approach and embarked upon an effort to substantially increase planting, growth and future availability of wood. Landowner assistance programs would be growing and new ones would be sprouting. Tree improvement programs would be well-funded in an effort to grow more and better trees on each acre. This time the industry has taken a position that is negative to all of the components of their entire wood supply chain. Negative to the growers of the wood, the loggers who harvest it and to those that transport the wood to the mills. People remember such things.
Some Final Thoughts:
If a shift to renewable energy is to be successful, some environmentally responsible environmentalists must step up to the plate and show some leadership. It is doubtful if an effective renewable energy policy can be developed with an environmental community unified behind antagonistic policies for every form of renewable energy but hemp. Additional hydroelectric sites are out of the question. That leaves wind, solar, geothermal and biomass. The environmental community must decide how best to utilize and mix the combination of those four renewable energy options or oil, gas and coal will be the answer. The environmentalists continue to fiddle as Rome burns.
The power companies are looking strictly at cost. Most of them have some level of governmental support, usually in the form of a monopoly supported by government control of prices. If a national goal of energy self-sufficiency, with a strong component of renewable energy and carbon reduction, is the goal, the pricing issue is something the power companies can understand. That problem can go away quickly if Americans want renewable energy and are willing to pay for it. If Americans are not willing to pay for it, then the power companies are right on target with their objections.
The pulp and paper companies have traded a level of self-sufficiency (typically in the neighborhood of 25% - 30%) for the cash received for selling their land. This was a deliberate decision done after weighing the options and now the industry must live with it and it may not be pretty. The market will determine what products the new timberland owners will grow and sell. The pulp and paper industry has long touted its ability to compete in a fair and level playing field. The playing field has changed as the nation seeks energy independence, renewable energy sources and reduced carbon emissions.
If the anti-renewables coalition is not broken, Rome will be in ashes.
****************************************
Visit our web site at Timberland Strategies
****************************************
It was a coalition of two diverse groups with very different reasons and objectives. The Baptists supported the “blue laws” for religious, moral and ethical reasons and the bootleggers supported the same laws for reasons of personal financial gain (although it was pretty widely known that some members of the latter group were widely outspoken members of the former group!). The differences in their motives were irrelevant with respect to their ability to create a strong coalition that maintained a common objective.
A similar coalition has evolved to oppose the development and use of renewable energy, specifically biomass. The group is composed of environmentalists, power companies and the pulp and paper industry. Strange bedfellows again.
The news media’s focus on renewable energy is pretty much confined to solar and wind and what might be. Here is a graph of what is - courtesy of The Energy Information Administration.
Renewable energy currently supplies a meager 7% of the nation’s energy consumption. A year ago it was 6% and 90% 0f that was equally split between hydropower and biomass. All of the rest combined represented less than 10% of that meager 6%! The significant growth in renewable energy in 2007 came from biomass, and to a lesser degree, from wind. Now, let’s take a look at the coalition and what is driving it.
Environmentalists: The environmental community has been a strong proponent of renewable energies up until the point of actually supporting their implementation. Following is a look at the rational and frequent hypocrisy of its “support” for renewable energy.
On Hydropower
Hydropower dropped from 45% of renewable energy consumption to 36% of renewable energy consumption in one year. Hydropower production of electricity has come at the expense of free flowing rivers and I know of no environmentalists that support the expansion of hydropower by damming additional rivers. In fact, I know of very few Americans at all that support expansion of hydropower by flooding more rivers. Even if there was support, it would be squashed by the “discovery” of an endangered minnow or mussel. There will be no more hydropower sites added and some likelihood that there will be calls to restore some rivers to a natural state creating a loss of hydropower. There may be some gains in efficiency but, for all practical purposes, what we have today is all we can expect. Increases in renewable energy will have to come from other sources.
On Wind
Wind and solar represented the energy mantra of the environmental community until engineers dramatically improved the efficiency of windmills to the point of making them actually cost-effective in many (windy) situations. The environmental downside of windmills includes damage to certain species of birds (call in the Endangered Species Act again) and aesthetics. The only places that aesthetics are at issue are the mountains, oceans, deserts and the places in between.
This is a link to a Grist article entitled The Wind and the Willful: RFK Jr. and other prominent enviros face off over Cape Cod wind farm, By Amanda Griscom Little. It starts with the following quote.
A long-simmering disagreement within the environmental community over a plan to build a massive wind farm off the coast of Cape Cod, Mass., is now boiling over into a highly public quarrel.It is a good article illustrating the conflict in the environmental community. When the NIMBY attitude combined with the political clout of the Kennedy clan, the entire world watched as the environmental hypocrisy and political power of the Kennedy family emerged to create the reality of what it will take to actually implement renewable energy projects.
On Solar
Here are a few extracts from a FOX News article Feinstein: Don't Spoil Our Desert With Solar Panels.
“Sen. Dianne Feinstein said development of solar and wind facilities in California's Mojave Desert would violate the spirit of what conservationists had intended when they donated much of the land to the public.”Need I say more?
“"It would destroy the entire Mojave Desert ecosystem," said David Myers, executive director of The Wildlands Conservancy.”
"This is unacceptable," Feinstein said in a letter to Interior Secretary Ken Salazar. "I urge you to direct the BLM to suspend any further consideration of leases to develop former railroad lands for renewable energy or for any other purpose."
On Biomass
There are others much more in tune than me with the battles that have raged recently over the definition of biomass in this year’s Energy Bill but I have seen enough of the terminology to understand the role of the environmentalists. In an effort to suppress a fear that natural forests would be converted to plantations they were successful in creating a definition that excluded most trees from the definition. In the end, more rational heads prevailed within the environmental community and they worked to provide a reasonable, workable definition. Still, biomass growing on our federal lands has been excluded as a source of renewable energy. And that’s a lot when you consider that about 1/3 of our forests are on federal lands.
On Nuclear Energy
Nuclear power is not technically classified as renewable but it too, is an option that could replace much of the coal and biomass for electrical production. One publication by an environmental organization claims that 30,000 deaths a year are caused by particulates from U. S. coal-fired power plants yet none (that’s zero) have ever been caused by a nuclear power plant. Environmentalists have done a very effective job at scaring the American public to the point where it is questionable whether we can look at nuclear power in a rational manner. IF we are going to do it, some folks in the environmental world will have to play a leadership role. What would the environmentalist’s position be if 30,000 people were killed each year in nuclear accidents? We have options and it is up to all of us to pursue them in rational manners without the scare tactics.
Power Companies:
The power companies have an industry pretty much built on coal. It’s not that they love coal, it’s that coal is the least expensive way to produce electricity and their customers want low cost power. As an industry, biomass as a replacement for coal is an expensive proposition and they want to hold their costs down so there is a good reason for the resistance to the move to biomass.
But not all power companies are in the same boat. A large part of the cost of coal is freight. The largest cost component of biomass is transportation. So look where the resource is and it is pretty easy to see which states have an economic incentive to support or oppose the utilization of biomass. Transporting low sulphur coal from Colorado to Georgia or wood from Georgia to Colorado doesn’t make a lot of sense economically or environmentally. The utilization of energy resources close to the power facility makes a lot of sense and that is what we are seeing evolve from the plans of the power companies. The power companies outside of the nation’s “woodbasket”, sitting on coal reserves, are and will continue to be a part of the coalition. The companies in the Southern woodbasket will remain a part of that coalition UNTIL the 15% renewable energy standard really is a standard, then biomass becomes the least expensive option. In fact, in the South, it is pretty much the only option for both carbon neutral and renewable energy so some of the companies are moving quickly to secure their woodbasket.
Pulp and Paper Industry:
The pulp and paper companies, like the power companies, are looking at both costs and their ability to survive. They are faced with increased global competition, severely declining demand and now a new threat that is competing for both their raw material and one of their primary energy sources. Although they probably use more renewable energy than any other industry, don’t expect them to embrace a national shift to biomass that will make it even more difficult for them to compete or survive. Inflation, followed by a weak dollar, may save the industry but “hope is not a strategy”. The industry must fight for its survival on all fronts and we should expect to see little change on the biomass front.
The question that the industry poses is whether or not the forest can sustain both the pulp and paper industry and a robust biomass industry. Collectively, is it sustainable? One solid argument is that the economic value of the pulp and paper industry (employment, value added, and multipliers) is much greater than can be achieved by the biomass industry. Below is a graph produced by the South Carolina Forestry Commission that illustrates how important pulp and paper is to the forestry sector in that state.
On the value added issue, it is questionable. The resource supply chain for the two industries is identical – stumpage, harvest, transport to mill, and woodyard handling. I’m not sure how many more people a pulp mill employs relative to a pellet mill. If you throw in the paper mill, you have to throw in the power generation plant on the other side of the equation. I’m not sure how much difference there really is AND I’m not convinced that there isn’t room for both. I just don’t accept the argument that it has to be one or the other.
The industry is crying “sustainability”. And they are doing it in an organized and deliberate fashion. As a 40-year veteran of the pulp and paper industry, I am disappointed with the industries position. Twenty years ago the industry would have taken a strong positive approach and embarked upon an effort to substantially increase planting, growth and future availability of wood. Landowner assistance programs would be growing and new ones would be sprouting. Tree improvement programs would be well-funded in an effort to grow more and better trees on each acre. This time the industry has taken a position that is negative to all of the components of their entire wood supply chain. Negative to the growers of the wood, the loggers who harvest it and to those that transport the wood to the mills. People remember such things.
Some Final Thoughts:
If a shift to renewable energy is to be successful, some environmentally responsible environmentalists must step up to the plate and show some leadership. It is doubtful if an effective renewable energy policy can be developed with an environmental community unified behind antagonistic policies for every form of renewable energy but hemp. Additional hydroelectric sites are out of the question. That leaves wind, solar, geothermal and biomass. The environmental community must decide how best to utilize and mix the combination of those four renewable energy options or oil, gas and coal will be the answer. The environmentalists continue to fiddle as Rome burns.
The power companies are looking strictly at cost. Most of them have some level of governmental support, usually in the form of a monopoly supported by government control of prices. If a national goal of energy self-sufficiency, with a strong component of renewable energy and carbon reduction, is the goal, the pricing issue is something the power companies can understand. That problem can go away quickly if Americans want renewable energy and are willing to pay for it. If Americans are not willing to pay for it, then the power companies are right on target with their objections.
The pulp and paper companies have traded a level of self-sufficiency (typically in the neighborhood of 25% - 30%) for the cash received for selling their land. This was a deliberate decision done after weighing the options and now the industry must live with it and it may not be pretty. The market will determine what products the new timberland owners will grow and sell. The pulp and paper industry has long touted its ability to compete in a fair and level playing field. The playing field has changed as the nation seeks energy independence, renewable energy sources and reduced carbon emissions.
If the anti-renewables coalition is not broken, Rome will be in ashes.
****************************************
Visit our web site at Timberland Strategies
****************************************
Tuesday, January 20, 2009
Valuing Timberland III
This is the third post of a series on timberland valuation. If you missed the first post, which included an Overview plus a discussion on Disaggregation, you can read “Valuing Timberland I” here. The second post focused primarily on productivity and how that fits into today’s appraisal systems which use discounted cash flow techniques to determine the value of timberland. You can read “Valuing Timberland II” here. Today’s post will focus on estimates of timber volumes and values, how we get them, and how we forecast them for future year’s cash flows. We will also take a quick look at the confidence you should place in them.
First, let’s look at timber volumes. What does the cruise say? What does the inventory say? What is the difference? How was the acreage calculated? Are volume estimates tied to a GIS? What are the sources of errors? Can volumes be reasonably audited? If the volume estimate isn’t “right”, the value certainly won’t be!
What is a “cruise”? A survey of forestland to locate timber and estimate its quantity by species, products, size, quality, or other characteristics; the estimate in such a survey. Several different sampling techniques can be used in a cruise. (source: Forestry Terms for Mississippi Landowners, Mississippi State University Extension).
What is an “inventory”? See Cruise (same source). H’mmm. I don’t want to aggravate my Mississippi State colleagues or to argue semantics but there is a huge difference between a cruise and an inventory or, more appropriately, a timber cruise and a forest inventory. To keep it simple, the cruise (as correctly defined above) collects data to estimate the timber volume, quantity, etc. that is there right now. The forest inventory collects much more information which can be used to project volumes and harvests (and other stuff too) into the future. A cruise, as defined above, wouldn’t collect any information on an eight year old loblolly pine plantation. There is little or no volume (perhaps a few trees that meet the limits of merchantability) but there certainly is value. A forest inventory would want to know the species, age, trees/acre, site index and acreage at a minimum. That is the information that is necessary to drive the growth and yield models necessary to estimate future wood flows from the tract. The wood flows become the basis for the cash flows in the appraisal. Perhaps this is just semantics but it is very important to understand the difference and to know what you are looking at.
So the “acquisition cruise” necessary to purchase land is more appropriately referred to as a forest inventory than a cruise. A “timber cruise” is more likely used to determine the immediate value of the timber for a timber sale. Data to drive growth models or cash flow models is not necessary. This distinction is more than academic. The inventory data can be “grown” to provide volume information for appraisals, stand level info for thinning or harvest, projected harvest and regeneration sites for planning site preparation and planting, all at multiple forward points in time. A typical cruise is not designed to do this. Merchantability specs are frequently different between cruises and inventories resulting in differences in volumes reported. Merchantability specs for inventories must be consistent from tract to tract, year to year, cruiser to cruiser and they must be consistent with what the growth models require. Merchantability specs for a timber sale cruise will normally be modified to conform to current demand, market pricing and perhaps even the logger that will be doing the harvesting.
The lesson here is that the user of cruise or inventory information had better understand what he or she is looking at. The cruise/inventory designer needs a clear understanding of the objective of the cruise. Otherwise, expect disappointment.
The sampling intensity of most inventories will not provide adequate data for timber sales. Inventories must collect some information on every stand or stratum (a collection of stands with similar characteristics). The objective of an inventory or cruise is to gather the information that is necessary at an acceptable level of accuracy at the least possible cost. Contrasting the two extremes, consider the case of a 100,000 acre land acquisition compared to a 50 acre mature hardwood timber sale. The objective of the land acquisition inventory is to be accurate enough to generate a reasonably accurate cash flow analysis for the perceived life of the investment (and hence, its present value). Another objective may be to assist in management if the tract is purchased. The resulting inventory would be one with a low sampling intensity but one collecting much information at each sample plot. The inventory is “not accurate” at the stand level. Cost is a serious consideration. If the tract is not purchased, the entire cost of the inventory is wasted. The 50 acre timber sale, on the other hand, has a much higher sampling intensity (perhaps a 100% tally), does not require collecting growth modeling information and requires careful inspection of the quality of each tree relative to current market conditions. The cruise cost/acre is much higher but the payback is immediate and ensured.
Statistics 101: Reiterating an earlier point when addressing timber volume reports; you had better understand what you are looking at. Most well done cruise reports will provide some detail with respect to the statistical accuracy provided by the data. You will see something like “2,216 MBF ± 10% of hardwood sawtimber”. This means, that from a statistical standpoint, the actual volume will be within 10% of the volume estimate 95% of the time, or maybe 90% of the time, or maybe 66% of the time. Maybe you better ask which probability level applies! You will probably also see a volume by species report and perhaps that will also provide statistical error reporting too. If it doesn’t, you should understand that because the sampling intensity for any given species is well below that of all of the species combined, the accuracy of the estimate drops pretty dramatically in a mixed species stand or forest. Now, digging into the cruise report a little deeper you will see that volumes may be reported by species and diameter class. How accurate do you think that will be? If the statistics are reported, that is great. If not, beware the value that you place in the numbers. This information can be useful but you have to assign it the appropriate credibility.
You should also understand that there are other sources of error in a cruise in addition to the statistical sampling error. Examples are the use of incorrect volume tables, measurement errors, poor sample design, calculation errors and, yes, a poor cruiser.
The statistical accuracy of large inventories that have been conducted over several different years and have been brought current using growth models is a different story. I’m not going to get into how to do this because I have no earthly idea how to do it! It can be done by a fairly limited group of forest statisticians, mensurationists and biometricians but it is clearly a difficult task. As a rule of thumb, it is safe to say that the accuracy is somewhat less than what would be calculated using the “ungrown” plots and declines as the number of “grown” years increases.
That’s enough said about cruise reports, inventories and the timber volumes that they report. Now let’s talk about volumes that what will be there tomorrow and the fundamentals of creating a future wood flow.
Future harvest volumes and timing must be done on a stand by stand basis utilizing stand volumes that have been “grown” using yield tables and growth and yield models. The starting base is the stand or strata level inventory and each stand or stratum is grown into the future. Some rule or methodology is then used to select the harvest date to determine the harvest volume for each future year. The result is a wood flow model that, when combined with values, becomes a key component of the cash flow model. More detail about this will be provided in the next post.
This is probably the appropriate place to discuss the integration of a GIS (Geographic Information System) with the timber inventory system when creating the information system used for timberland management. GIS based inventory systems are very common among managers of large tracts of timberland today and sellers normally provide output from these systems to potential buyers. Inventory or cruise volumes may say what is out there but the GIS says exactly WHERE it is on the surface of the earth. A quick check of the validity of the data provided by the seller can be made by auditing selected stands to compare inventory acreage, stocking, volumes, forest types, SI, etc. to the audited values. It doesn’t take much of this type of checking to determine how serious the forest managers have been about the quality and timeliness of their inventory efforts and hence the credence that can be placed in the data provided. The GIS data can be “read” into the GIS based harvest scheduling/ cash flow models and will eventually provide the basis for future management (activity schedules, maps and annual cash flow projections). These are the tools that become the foundation for communications and expectations between the new landowner and the timberland managers. The schedules tell the owner what to expect financially and form the basis of the management plan for the manager. A final point about the GIS based inventory system is that it provides the basis for a field audit in conjunction with the traditional financial audit. In the timberland sector, a financial audit without a corresponding field audit is a serious mistake; in fact, it's not really an audit.
Now let’s discuss timber values. They are down! A lot! If you are selling timber today, that is very important but how important is it with respect to timberland valuation? Should current market conditions be used for valuation?
The comments below are by Rick Holley (from Plum Creek 2008 Q3 Earnings Conference call) answering an analyst’s question about why he thinks timberland values are holding up while other asset classes are declining in value. The quote is a little messed up but his point is clear.
“I think largely because the investor in timberlands, and there’s still a fair amount of capital on the sidelines trying to invest in timberlands, is longer term. They’re looking through this cycle. If anything they’re starting to look at this cycle and lower prices as being more upside when you look out a year or two years or whatever these markets improve. I know there was a recent [Reese] article talking about some transactions that may or may not get done. We’re in the marketplace and we talk to a lot of buyers. We know who the sellers are, and we think all those transactions will in fact get done at very, very good prices, so I think the market is holding up and there’s still a lot of capital chasing very little opportunity…”
The key words above are “looking through…” with respect to timberland prices. To me, that implies that they are also “looking through” with respect to the timber values used in the timberland valuation. I think that if stumpage prices were at all-time highs, buyers would “look through” and see lower prices in the future as well. As Andy Malmquist, my good friend, former employee, and current TIMO guy, used to remind me about so many things… “It’s regressing toward the mean”! Andy actually talks like that.
There are at least three factors to consider for determining future timber values to apply to future volumes – current values, real price increases and inflation. We will discuss how to address inflation in the next post so for now, we will confine the discussion to the first two items.
I am defining “current price” as a “look through” price that is on the trend line for the species,local area and region (huge differences between NE and NW, cherry and red maple). In other words, I am looking for the price that has “regressed to the mean”. This data can be obtained from several different pricing services such as Forest2Market, RISI and Timber-Mart South. In addition, most state forestry commissions (South Carolina Forestry Commission pricing report) or forestry university extension services also provide some level of pricing reports. Local consulting foresters usually know what is available and can also provide first hand local knowledge. Pricing from these sources will provide the baseline for projecting the value of future harvests in the cash flow model.
A real increase in future stumpage prices can and should be incorporated into the model if you think it is justified. U. S. Forest Service reports suggest that sawtimber stumpage prices have increased at a real rate of 2% a year over a very long period of time. An analysis of southern pine stumpage prices by forest economist Jack Lutz reached the following conclusion:
“Our analysis indicates that southern pine sawtimber stumpage prices are mean-reverting, with a 50-year mean of $38.29/ton (based on LDAF data). Those prices have held to that mean through 50 years of timber supply and demand shocks and significant changes in timber harvesting and processing technology. That means we should not expect a significant increase in sawtimber stumpage prices in the near future. This supports the current practice of many timberland investors who are using 0% real appreciation rates in their timberland investment models.”
The future is anybodies guess but the real value increase used should be based upon your view of the future. That’s why there is always a high bidder and a low bidder!
This concludes the discussion on timber volumes and values. The next post in the series will attempt to tie it all together by addressing the methodologies associated with the discounted cash flow models. Comments are welcomed. --Brian
First, let’s look at timber volumes. What does the cruise say? What does the inventory say? What is the difference? How was the acreage calculated? Are volume estimates tied to a GIS? What are the sources of errors? Can volumes be reasonably audited? If the volume estimate isn’t “right”, the value certainly won’t be!
What is a “cruise”? A survey of forestland to locate timber and estimate its quantity by species, products, size, quality, or other characteristics; the estimate in such a survey. Several different sampling techniques can be used in a cruise. (source: Forestry Terms for Mississippi Landowners, Mississippi State University Extension).
What is an “inventory”? See Cruise (same source). H’mmm. I don’t want to aggravate my Mississippi State colleagues or to argue semantics but there is a huge difference between a cruise and an inventory or, more appropriately, a timber cruise and a forest inventory. To keep it simple, the cruise (as correctly defined above) collects data to estimate the timber volume, quantity, etc. that is there right now. The forest inventory collects much more information which can be used to project volumes and harvests (and other stuff too) into the future. A cruise, as defined above, wouldn’t collect any information on an eight year old loblolly pine plantation. There is little or no volume (perhaps a few trees that meet the limits of merchantability) but there certainly is value. A forest inventory would want to know the species, age, trees/acre, site index and acreage at a minimum. That is the information that is necessary to drive the growth and yield models necessary to estimate future wood flows from the tract. The wood flows become the basis for the cash flows in the appraisal. Perhaps this is just semantics but it is very important to understand the difference and to know what you are looking at.
So the “acquisition cruise” necessary to purchase land is more appropriately referred to as a forest inventory than a cruise. A “timber cruise” is more likely used to determine the immediate value of the timber for a timber sale. Data to drive growth models or cash flow models is not necessary. This distinction is more than academic. The inventory data can be “grown” to provide volume information for appraisals, stand level info for thinning or harvest, projected harvest and regeneration sites for planning site preparation and planting, all at multiple forward points in time. A typical cruise is not designed to do this. Merchantability specs are frequently different between cruises and inventories resulting in differences in volumes reported. Merchantability specs for inventories must be consistent from tract to tract, year to year, cruiser to cruiser and they must be consistent with what the growth models require. Merchantability specs for a timber sale cruise will normally be modified to conform to current demand, market pricing and perhaps even the logger that will be doing the harvesting.
The lesson here is that the user of cruise or inventory information had better understand what he or she is looking at. The cruise/inventory designer needs a clear understanding of the objective of the cruise. Otherwise, expect disappointment.
The sampling intensity of most inventories will not provide adequate data for timber sales. Inventories must collect some information on every stand or stratum (a collection of stands with similar characteristics). The objective of an inventory or cruise is to gather the information that is necessary at an acceptable level of accuracy at the least possible cost. Contrasting the two extremes, consider the case of a 100,000 acre land acquisition compared to a 50 acre mature hardwood timber sale. The objective of the land acquisition inventory is to be accurate enough to generate a reasonably accurate cash flow analysis for the perceived life of the investment (and hence, its present value). Another objective may be to assist in management if the tract is purchased. The resulting inventory would be one with a low sampling intensity but one collecting much information at each sample plot. The inventory is “not accurate” at the stand level. Cost is a serious consideration. If the tract is not purchased, the entire cost of the inventory is wasted. The 50 acre timber sale, on the other hand, has a much higher sampling intensity (perhaps a 100% tally), does not require collecting growth modeling information and requires careful inspection of the quality of each tree relative to current market conditions. The cruise cost/acre is much higher but the payback is immediate and ensured.
Statistics 101: Reiterating an earlier point when addressing timber volume reports; you had better understand what you are looking at. Most well done cruise reports will provide some detail with respect to the statistical accuracy provided by the data. You will see something like “2,216 MBF ± 10% of hardwood sawtimber”. This means, that from a statistical standpoint, the actual volume will be within 10% of the volume estimate 95% of the time, or maybe 90% of the time, or maybe 66% of the time. Maybe you better ask which probability level applies! You will probably also see a volume by species report and perhaps that will also provide statistical error reporting too. If it doesn’t, you should understand that because the sampling intensity for any given species is well below that of all of the species combined, the accuracy of the estimate drops pretty dramatically in a mixed species stand or forest. Now, digging into the cruise report a little deeper you will see that volumes may be reported by species and diameter class. How accurate do you think that will be? If the statistics are reported, that is great. If not, beware the value that you place in the numbers. This information can be useful but you have to assign it the appropriate credibility.
You should also understand that there are other sources of error in a cruise in addition to the statistical sampling error. Examples are the use of incorrect volume tables, measurement errors, poor sample design, calculation errors and, yes, a poor cruiser.
The statistical accuracy of large inventories that have been conducted over several different years and have been brought current using growth models is a different story. I’m not going to get into how to do this because I have no earthly idea how to do it! It can be done by a fairly limited group of forest statisticians, mensurationists and biometricians but it is clearly a difficult task. As a rule of thumb, it is safe to say that the accuracy is somewhat less than what would be calculated using the “ungrown” plots and declines as the number of “grown” years increases.
That’s enough said about cruise reports, inventories and the timber volumes that they report. Now let’s talk about volumes that what will be there tomorrow and the fundamentals of creating a future wood flow.
Future harvest volumes and timing must be done on a stand by stand basis utilizing stand volumes that have been “grown” using yield tables and growth and yield models. The starting base is the stand or strata level inventory and each stand or stratum is grown into the future. Some rule or methodology is then used to select the harvest date to determine the harvest volume for each future year. The result is a wood flow model that, when combined with values, becomes a key component of the cash flow model. More detail about this will be provided in the next post.
This is probably the appropriate place to discuss the integration of a GIS (Geographic Information System) with the timber inventory system when creating the information system used for timberland management. GIS based inventory systems are very common among managers of large tracts of timberland today and sellers normally provide output from these systems to potential buyers. Inventory or cruise volumes may say what is out there but the GIS says exactly WHERE it is on the surface of the earth. A quick check of the validity of the data provided by the seller can be made by auditing selected stands to compare inventory acreage, stocking, volumes, forest types, SI, etc. to the audited values. It doesn’t take much of this type of checking to determine how serious the forest managers have been about the quality and timeliness of their inventory efforts and hence the credence that can be placed in the data provided. The GIS data can be “read” into the GIS based harvest scheduling/ cash flow models and will eventually provide the basis for future management (activity schedules, maps and annual cash flow projections). These are the tools that become the foundation for communications and expectations between the new landowner and the timberland managers. The schedules tell the owner what to expect financially and form the basis of the management plan for the manager. A final point about the GIS based inventory system is that it provides the basis for a field audit in conjunction with the traditional financial audit. In the timberland sector, a financial audit without a corresponding field audit is a serious mistake; in fact, it's not really an audit.
Now let’s discuss timber values. They are down! A lot! If you are selling timber today, that is very important but how important is it with respect to timberland valuation? Should current market conditions be used for valuation?
The comments below are by Rick Holley (from Plum Creek 2008 Q3 Earnings Conference call) answering an analyst’s question about why he thinks timberland values are holding up while other asset classes are declining in value. The quote is a little messed up but his point is clear.
“I think largely because the investor in timberlands, and there’s still a fair amount of capital on the sidelines trying to invest in timberlands, is longer term. They’re looking through this cycle. If anything they’re starting to look at this cycle and lower prices as being more upside when you look out a year or two years or whatever these markets improve. I know there was a recent [Reese] article talking about some transactions that may or may not get done. We’re in the marketplace and we talk to a lot of buyers. We know who the sellers are, and we think all those transactions will in fact get done at very, very good prices, so I think the market is holding up and there’s still a lot of capital chasing very little opportunity…”
The key words above are “looking through…” with respect to timberland prices. To me, that implies that they are also “looking through” with respect to the timber values used in the timberland valuation. I think that if stumpage prices were at all-time highs, buyers would “look through” and see lower prices in the future as well. As Andy Malmquist, my good friend, former employee, and current TIMO guy, used to remind me about so many things… “It’s regressing toward the mean”! Andy actually talks like that.
There are at least three factors to consider for determining future timber values to apply to future volumes – current values, real price increases and inflation. We will discuss how to address inflation in the next post so for now, we will confine the discussion to the first two items.
I am defining “current price” as a “look through” price that is on the trend line for the species,local area and region (huge differences between NE and NW, cherry and red maple). In other words, I am looking for the price that has “regressed to the mean”. This data can be obtained from several different pricing services such as Forest2Market, RISI and Timber-Mart South. In addition, most state forestry commissions (South Carolina Forestry Commission pricing report) or forestry university extension services also provide some level of pricing reports. Local consulting foresters usually know what is available and can also provide first hand local knowledge. Pricing from these sources will provide the baseline for projecting the value of future harvests in the cash flow model.
A real increase in future stumpage prices can and should be incorporated into the model if you think it is justified. U. S. Forest Service reports suggest that sawtimber stumpage prices have increased at a real rate of 2% a year over a very long period of time. An analysis of southern pine stumpage prices by forest economist Jack Lutz reached the following conclusion:
“Our analysis indicates that southern pine sawtimber stumpage prices are mean-reverting, with a 50-year mean of $38.29/ton (based on LDAF data). Those prices have held to that mean through 50 years of timber supply and demand shocks and significant changes in timber harvesting and processing technology. That means we should not expect a significant increase in sawtimber stumpage prices in the near future. This supports the current practice of many timberland investors who are using 0% real appreciation rates in their timberland investment models.”
The future is anybodies guess but the real value increase used should be based upon your view of the future. That’s why there is always a high bidder and a low bidder!
This concludes the discussion on timber volumes and values. The next post in the series will attempt to tie it all together by addressing the methodologies associated with the discounted cash flow models. Comments are welcomed. --Brian
Saturday, October 18, 2008
Valuing Timberland I
How much is that tract of timberland worth? Is it worth the asking price? Is fair market value for the tract a good investment? People have gotten rich buying timberland but rest assured that every purchase has not been a good investment! How the land is managed during ownership is important but it pales in comparison to smart purchasing and smart selling. This is the first in a series of posts that looks at how timberland is valued.
Here is a list of the key elements that should be considered when valuing timberland.
Disaggregation: The old expression “The whole is worth more than the sum of the parts” does not appear to be true. Valuing timberland typically begins by identifying the non-timberland values.
Inherent productivity of the land: foresters normally measure this by a quantitative metric referred to as site index.
Forest types and tree species: These are commonly confused but they are not the same thing.
Silviculture and productivity: Planted vs. natural. Fertilization, genetics, etc. What is impact on future yield (value)? Are records of past silvicultural practices available? Are they tied to a GIS?
Timber volumes: What does the cruise say? What does the inventory say? What is the difference? Are they tied to a GIS?
Timber values: What are the drivers? What are the sources of information? Should current market conditions be used for valuation? Or historical, or future estimates? What roles do harvesting costs and trucking costs play in timber value?
Reproduction values: On well managed land, reproduction values may exceed timber values. How do you estimate these values?
Cash flows: Revenue from timber sales, leases; silvicultural expenses, taxes, management fees.
Location: Important? Can it be quantified?
Final sale price: When you sell the land, how much will you get?
Discount rate: or how much of a return do I need to be competitive with investments with a similar risk?
Disaggregation: This first valuation post will address the issue of disaggregation or breaking the total value of the tract down into several components. Add up the value of the components and that’s the value – more or less. Early in my career (mid 1960’s) I was appraising and buying timberland in the Ohio Valley of West Virginia and Ohio. At that time, we cruised the timber and calculated the timber value, used a “table value” to estimate reproduction value (usually minimal or “0”), and assigned a modest “fixed” dollar/acre value for OGM (oil, gas and minerals) if they had not been previously conveyed. We then subtracted those values from the purchase price to determine the residual “bare land value” per acre. The bare land value was compared to past purchases and other available tracts to determine which purchases to make. So… we disaggregated into four pieces at most – timber value, reproduction value, OGM and bare land value. With the exception of the precalculated “reproduction table values”, the time value of money was not considered. Pretty simple. The objective was to manage the entire tract as timberland “forever”, not to sell off the various components. That methodology was pretty typical of the forest industry.
During the same time period (and earlier), land speculators frequently made money by the simplest form of disaggregation with only two buckets. They would buy a tract of timberland, sell the timber and then sell the bare land separately. Many speculators made a living doing this and some got very wealthy. The sum of the parts was worth more than the whole!
The REITs, TIMOs and their institutional investors have taken disaggregation to a whole new level. The objective is to lower the investment of the timberland purchase by quickly spinning off significant assets or components of the initial purchase. In addition to the components discussed above, the investment crowd values and disaggregates Higher and Better Use (HBU) lands, Recreation lands and Conservation Easements. In addition, future HBU lands are factored into the discounted cash flow analysis. The time value of money becomes an important part of the valuation relative to the early speculators that just bought, liquidated the timber and sold the land.
The impact of the disaggregation also has an impact of the final sale price of the investment. Conservation easements can significantly lower the final sale price. Conservation easements that prohibit development are, in a sense, the early sale of HBU land that just hasn’t got there yet. Conservation easements which dictate how the forest is to be managed in the future are much more problematic and should be expected to have a more significant negative impact on the valuation of the timberland when it is sold.
The next post will focus primarily on productivity and how that fits into today’s appraisal systems which use discounted cash flow techniques to determine the value of timberland. --Brian
Wednesday, April 23, 2008
The Vertically Integrated TIMO?
One of my readers pointed out an interesting development to me recently. As has become so obvious, the vertically integrated forest product companies (VIFPC) are almost a thing of the past due to the elimination of favorable capital gains tax rates and the high tax rates on C corporations. The pass-through tax structure for TIMOs (pension funds) and REITs has pretty well destroyed the VIFPC as a viable tax structure. So the new landowners and managers become true timberland companies unburdened by the tax structure brought by those pesky mills.
The interesting observation is that The Forestland Group has recently completed the first part of the purchase of Roy O Martin's LeMoyen, Louisiana, hardwood sawmill, 10,000 acres of hardwood timberland, and 20-year harvesting rights on an additional 138,000 acres of hardwood timberland in south Louisiana. Read more.
Now back up about two years to when Anderson-Tully "merged" with one of The Forestland Group's funds. ATCO had a huge hardwood sawmill in Vicksburg billed as the largest hardwood sawmill in North America. You can read about that transaction here.
So now we have a new acronym (we need a new acronym), the VITIMO! It will be interesting to watch this trend develop, if it is a trend. When The Forestland Group buys its first pulp mill, I'll know its for real! --Brian
The interesting observation is that The Forestland Group has recently completed the first part of the purchase of Roy O Martin's LeMoyen, Louisiana, hardwood sawmill, 10,000 acres of hardwood timberland, and 20-year harvesting rights on an additional 138,000 acres of hardwood timberland in south Louisiana. Read more.
Now back up about two years to when Anderson-Tully "merged" with one of The Forestland Group's funds. ATCO had a huge hardwood sawmill in Vicksburg billed as the largest hardwood sawmill in North America. You can read about that transaction here.
So now we have a new acronym (we need a new acronym), the VITIMO! It will be interesting to watch this trend develop, if it is a trend. When The Forestland Group buys its first pulp mill, I'll know its for real! --Brian
Thursday, March 13, 2008
Funding Fire Control
I live in a 20 year loblolly pine plantation in the Lowcountry of South Carolina. Fire has long been a part of life here. From the fire ecosystem implemented by Indians centuries ago to the cooperative (S.C. Forestry Commission, U.S. Forest Service, International Paper and Westvaco Corp.) fire control efforts of a decade ago, fire has been an important part of life and forest management here. As industry disposed of it's timberland, the burden shifted to the Forestry Commission and, to a lesser degree, the U. S. Forest Service (Francis Marion National Forest). As smoke related lawsuits from prescribed burning increased, prescribed burning declined and fuel loads have increased. This all has happened in the face of declining budgets for both fire control organizations. What has happened in the Lowcountry is a microcosim of the situation in the entire South and, to a lesser degree, the entire nation.
In recommendations to the Subcommittee on Interior, Environment, and Related Agencies regarding the FY2009 Budget for the U.S. Forest Service, George M. Leonard - Chairman, Board of Directors, National Association of Forest Service Retirees had this to say:
"The most critical issue that needs to be addressed in the Forest Service budget is the funding of fire suppression. The current procedure of including the ten-year average cost of fire suppression within the agency’s discretionary budget is destroying the capability of the Forest Service to carryout the remainder of its statutory missions. From 25 percent in FY2000, fire funding is now approaching 50 percent of the budget. The suppression cost trend means the ten-year average is going to continue to grow, further cannibalizing funding for other programs. While the overall Forest Service budget has increased nine percent over the last six years, the diversion of funds to fire suppression has had a major impact on the workforce available to carry out the multiple-use mission of the agency. The number of foresters, biologists, and other resource specialists, along with supporting technicians, is a good measure of the capability of a resource management agency to carry out its mission. As illustrated in the following table, the capability of the Forest Service has been seriously compromised."
You get the point, but if you want to read more, go here.
The SC Forestry Commission's situation is equally as bad, perhaps worse. Here are a few facts.
When adjusted for inflation, the current budget is 30% less than it was in 2001.
• Aging firefighting equipment is not being replaced on a timely schedule.
• Fuel costs are soaring.
• Hiring and retaining qualified firefighters is difficult due to a more urban economy and changing demographics.
• Forest industry changes have led to a loss of cooperator capacity, both personnel and equipment.
• Recent housing development has expanded into wooded areas, creating communities with very high fire risk.
• Forestry has a tremendous impact on SC’s economy: #1 employer, #2 payroll, #1 harvested crop, $1 billion in exports, $17 billion total economic impact.
• The Commission’s $18 million baseline budget investment is supporting a $17 billion industry economic impact, a multiplier of almost 1000.
If you have a home in SC, or own/manage timberland here, now would be a good time to contact your Senators in support of this years budget request, in particular, the members of the Senate Finance sub-committee responsible for reviewing the request. Those are Senators Yancy McGill from Williamsburg county, Larry Grooms from Berkeley county, Phil Leventis from Sumter county, and John Drummond from Greenwood county. By the way, these senators have been very supportive of forestry and fire control. Something to keep in mind the next time you go to the polls!
This post may appear to be somewhat local in nature but be assured that the words that you have read apply right outside your door, to your timberland and to your National Forest as well. What are you going to do about it? --Brian
In recommendations to the Subcommittee on Interior, Environment, and Related Agencies regarding the FY2009 Budget for the U.S. Forest Service, George M. Leonard - Chairman, Board of Directors, National Association of Forest Service Retirees had this to say:
"The most critical issue that needs to be addressed in the Forest Service budget is the funding of fire suppression. The current procedure of including the ten-year average cost of fire suppression within the agency’s discretionary budget is destroying the capability of the Forest Service to carryout the remainder of its statutory missions. From 25 percent in FY2000, fire funding is now approaching 50 percent of the budget. The suppression cost trend means the ten-year average is going to continue to grow, further cannibalizing funding for other programs. While the overall Forest Service budget has increased nine percent over the last six years, the diversion of funds to fire suppression has had a major impact on the workforce available to carry out the multiple-use mission of the agency. The number of foresters, biologists, and other resource specialists, along with supporting technicians, is a good measure of the capability of a resource management agency to carry out its mission. As illustrated in the following table, the capability of the Forest Service has been seriously compromised."
You get the point, but if you want to read more, go here.
The SC Forestry Commission's situation is equally as bad, perhaps worse. Here are a few facts.
When adjusted for inflation, the current budget is 30% less than it was in 2001.
• Aging firefighting equipment is not being replaced on a timely schedule.
• Fuel costs are soaring.
• Hiring and retaining qualified firefighters is difficult due to a more urban economy and changing demographics.
• Forest industry changes have led to a loss of cooperator capacity, both personnel and equipment.
• Recent housing development has expanded into wooded areas, creating communities with very high fire risk.
• Forestry has a tremendous impact on SC’s economy: #1 employer, #2 payroll, #1 harvested crop, $1 billion in exports, $17 billion total economic impact.
• The Commission’s $18 million baseline budget investment is supporting a $17 billion industry economic impact, a multiplier of almost 1000.
If you have a home in SC, or own/manage timberland here, now would be a good time to contact your Senators in support of this years budget request, in particular, the members of the Senate Finance sub-committee responsible for reviewing the request. Those are Senators Yancy McGill from Williamsburg county, Larry Grooms from Berkeley county, Phil Leventis from Sumter county, and John Drummond from Greenwood county. By the way, these senators have been very supportive of forestry and fire control. Something to keep in mind the next time you go to the polls!
This post may appear to be somewhat local in nature but be assured that the words that you have read apply right outside your door, to your timberland and to your National Forest as well. What are you going to do about it? --Brian
Friday, February 29, 2008
On the Marginal Return from Timberland Investments
I own stock, I own timberland. Each provides an economic return that is somewhat comparable to the other. Sophisticated analysts compare the two asset classes to determine which is actually best. In the end, I think timberland usually wins the contest by a small amount.
When I get up in the morning, I have my coffee and then head out the door with Sophie. About four steps from the door I am walking in the woods and enjoying the marginal return that comes from a direct investment in timberland. Sophie has me by the cuff dragging me down the slope to see if we will see ducks, geese, a Great Blue Heron or maybe even an otter if we're lucky.
She runs as fast as she can go, stops abruptly, and then freezes into that handsome pose of a pointer.
The individual investor is sometimes at a disadvantage to the institutional investor when it comes to buying and owning timberland. Economies of scale make it more economical to both purchase and manage large tracts. Yet when the pension fund manager is working diligently balancing the portfolio for the funds clients, the owners of the Family Forest can be balancing on a log crossing the creek.
Sophie breaks her point, flushes three wild turkeys, my heart races and the marginal return jumps a point! It all evens out. --Brian
When I get up in the morning, I have my coffee and then head out the door with Sophie. About four steps from the door I am walking in the woods and enjoying the marginal return that comes from a direct investment in timberland. Sophie has me by the cuff dragging me down the slope to see if we will see ducks, geese, a Great Blue Heron or maybe even an otter if we're lucky.
She runs as fast as she can go, stops abruptly, and then freezes into that handsome pose of a pointer.
The individual investor is sometimes at a disadvantage to the institutional investor when it comes to buying and owning timberland. Economies of scale make it more economical to both purchase and manage large tracts. Yet when the pension fund manager is working diligently balancing the portfolio for the funds clients, the owners of the Family Forest can be balancing on a log crossing the creek.
Sophie breaks her point, flushes three wild turkeys, my heart races and the marginal return jumps a point! It all evens out. --Brian
Tuesday, May 8, 2007
TIMOs and REITs
Normally I don't copy an entire publication but I am making an exception in this case. The following paper was prepared by Cliff Hickman with the U.S. Forest Service. It is an excellent work which spells out very clearly how the tax laws and GAAP (Generally Accepted Accounting Principles) have destroyed the vertically integrated forest products companies and created the shift in timberland ownership to REITs and institutional ownership. I highly recommend reading it in its entirety.
You will also see why it is so difficult for a company to convert to a REIT. Essentially, the company must first be destroyed. Temple-Inland is in this process now and this is what Weyerhaeuser is currently struggling with.
Hickman has also clearly outlined the scope of the ownership changes and made a good effort to determine what those changes might mean to forestry.
I was unable to maintain the exact format (it was in Word) in this web version but the content is unchanged. Thanks to Cliff Hickman for a task well researched. --Brian
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March 19, 2007
TIMOs and REITs1
Situation in Brief:
Since the mid 1980’s, many vertically integrated forest products companies (VIFPCs) in the US, for reasons discussed below, chose to either: 1) sell-off all, or a large part, of their forestland holdings, or 2) restructure themselves so as to legally separate ownership and control of their forestland and timber from ownership and control of their manufacturing facilities. Where sales occurred, much of the land is now held by “Timber Investment Management Organizations” (TIMOs).2 TIMOs buy, manage, and sell forestland and timber on behalf of various institutional investors – e.g., insurance companies, pension funds, endowments, and foundations. (01) Where restructuring occurred, the land and timber is now held by “Real Estate Investment Trusts” (REITs). REITs are entities that buy, manage, and sell real estate or real estate related assets – e.g., mortgages – on behalf of various private investors.3 (18) The magnitude of the ownership shift has been substantial. As shown in figure (1), as recently as 1985 the total investment in forestland and timber by TIMOs and REITs was less than $1 billion, but by 2005 it had grown to exceed $25 billion – with approximately $15.0 billion having been invested by TIMOs, and $10.2 billion by publicly traded REITs. (03, 10) As shown in figure (2), in acreage terms, while the VIFPCs held 58 million acres of forestland in the US in 1980, by 2005 their holdings had dropped to 21 million acres – a roughly 60% reduction.4 (03) In contrast, over this same period of time the holdings of the TIMOs and REITs grew from nothing to over 25 million acres – with the proportion of land being held by each being roughly equivalent to their relative investment levels.5 (03, 10) The holdings of the TIMOs and REITs are spread across all commercial forest regions of the US, but the biggest concentrations occur as pine plantations in the Southeast, conifer plantations in the Pacific Northwest (west of the Cascades), and mixed softwood and hardwood stands in the Northeast. (01)
Figure (1):
Figure (2):
Objectives of Paper:
The objectives of this paper are to look briefly at: 1) the primary reasons for the shift in forestland ownership patterns – including the impact of tax and other public policies; 2) how the management objectives, practices, and behaviors of the new owners compare to those of the prior owners; 3) the outlook for further ownership changes; and 4) the actions the Forest Service should take in response to this situation.
Reasons for Changing Ownership Pattern:
The reasons for the changes in private forestland ownership that have occurred in the US may be viewed from at least three different perspectives: 1) that of the former VIFPCs that elected to sell-off all or part of their forestland holdings,6 2) that of the TIMOs and the institutional investors they represent, and 3) that of the former VIFPCs that elected to restructure and create timber REITs.
You will also see why it is so difficult for a company to convert to a REIT. Essentially, the company must first be destroyed. Temple-Inland is in this process now and this is what Weyerhaeuser is currently struggling with.
Hickman has also clearly outlined the scope of the ownership changes and made a good effort to determine what those changes might mean to forestry.
I was unable to maintain the exact format (it was in Word) in this web version but the content is unchanged. Thanks to Cliff Hickman for a task well researched. --Brian
************************************************************
March 19, 2007
TIMOs and REITs1
Situation in Brief:
Since the mid 1980’s, many vertically integrated forest products companies (VIFPCs) in the US, for reasons discussed below, chose to either: 1) sell-off all, or a large part, of their forestland holdings, or 2) restructure themselves so as to legally separate ownership and control of their forestland and timber from ownership and control of their manufacturing facilities. Where sales occurred, much of the land is now held by “Timber Investment Management Organizations” (TIMOs).2 TIMOs buy, manage, and sell forestland and timber on behalf of various institutional investors – e.g., insurance companies, pension funds, endowments, and foundations. (01) Where restructuring occurred, the land and timber is now held by “Real Estate Investment Trusts” (REITs). REITs are entities that buy, manage, and sell real estate or real estate related assets – e.g., mortgages – on behalf of various private investors.3 (18) The magnitude of the ownership shift has been substantial. As shown in figure (1), as recently as 1985 the total investment in forestland and timber by TIMOs and REITs was less than $1 billion, but by 2005 it had grown to exceed $25 billion – with approximately $15.0 billion having been invested by TIMOs, and $10.2 billion by publicly traded REITs. (03, 10) As shown in figure (2), in acreage terms, while the VIFPCs held 58 million acres of forestland in the US in 1980, by 2005 their holdings had dropped to 21 million acres – a roughly 60% reduction.4 (03) In contrast, over this same period of time the holdings of the TIMOs and REITs grew from nothing to over 25 million acres – with the proportion of land being held by each being roughly equivalent to their relative investment levels.5 (03, 10) The holdings of the TIMOs and REITs are spread across all commercial forest regions of the US, but the biggest concentrations occur as pine plantations in the Southeast, conifer plantations in the Pacific Northwest (west of the Cascades), and mixed softwood and hardwood stands in the Northeast. (01)
Figure (1):
Figure (2):
- For various reasons these ownership shifts have been of concern to many within the forestry, conservation, and environmental communities. Questions being asked include the following: (04, 14).
- How will the new owners manage their forestlands, and what will be the implications for the flow of goods and services that can be expected in the future?
Will the new owners hold forestland and timber for a long time, or will they contribute to increased fragmentation and development across forested landscapes?
What roles will the new owners play in the broad community of interests concerned with forestry issues – e.g., will they actively support forestry research and public policies conducive to the forestry sector?
Objectives of Paper:
The objectives of this paper are to look briefly at: 1) the primary reasons for the shift in forestland ownership patterns – including the impact of tax and other public policies; 2) how the management objectives, practices, and behaviors of the new owners compare to those of the prior owners; 3) the outlook for further ownership changes; and 4) the actions the Forest Service should take in response to this situation.
Reasons for Changing Ownership Pattern:
The reasons for the changes in private forestland ownership that have occurred in the US may be viewed from at least three different perspectives: 1) that of the former VIFPCs that elected to sell-off all or part of their forestland holdings,6 2) that of the TIMOs and the institutional investors they represent, and 3) that of the former VIFPCs that elected to restructure and create timber REITs.
Key motives and factors influencing the VIFPCs that elected to sell-off some or all of their forestlands included the following:7
Relatively weak financial performance and the need to improve returns to stockholders. – Stockholder returns over the 10-year period 1995 to 2005 averaged +6.2% for the “Forestry and Paper Group” as compared to +12.1% for the S&P 500, and +13.1% for the Dow Jones Industrial. (04) To ensure continued flow of investment capital into the industry, it was essential that stockholder returns be increased – and the sale of timber holdings was seen as a way to achieve this end.
Generally Accepted Accounting Principles (GAAP): – Related to the preceding factor, GAAP for “Sub-Chapter C Corporations” precludes such entities, when it comes to computing their return on investment, from recognizing any appreciation in the value of the timberland assets they hold – only profit realized from the harvesting and processing of trees may be considered. This treatment contrasts with the conventions that apply to “Sub-Chapter S” and “Limited Liability” corporations, to TIMOs, and to REITs. (01, 12)
Rising Forestland Values: - Related to both of the preceding factors, throughout much of the US forestland values have been rising in response to what has been characterized as “the grand tidal wave of sprawl now sweeping over the nation.” (09) As forestland values rose, so did the value of what was arguably the primary asset held by the VIFPCs. Although GAAP prevented these companies from recognizing this appreciation in value in their formal accounting, it didn’t stop them from “cashing in” through the sale of some of their lands – especially tracts with good access, proximity to urban areas, water frontage, scenic value, or outdoor recreation potential.- Consolidations made to enhance international competitiveness also increased debt burdens. – Over the last 10 to 15 years, the VIFPCs in the US have faced increasing competitive pressure from low cost timber suppliers and forest products manufacturers in other parts of the world. In response, the domestic industry went through a period of substantial consolidation. Oftentimes significant debt was incurred to finance these consolidations. The sale of timber holdings was seen as a way to get this debt off corporate balance sheets. (01)
Rethinking of the long held belief that ownership of timberlands was essential to ensure future availability of an essential raw material at reasonable cost. – Historically, as previously noted, a major rationale for the acquisition of timberlands by the VIFPCs was to gain some degree of control over the conditions of availability of an essential raw material. During the last 10 to 15 years, however, many firms came to believe they could confidently rely on open market sources of timber – both domestic and international.8 (01, 04)
Federal income tax policies. – While no doubt unintentional, federal income tax policies also appear to have encouraged many US forest products companies to divest themselves of their timber holdings. Of greatest importance is the fact that the traditional VIFPCs are classified as “Sub-Chapter C Corporations” for income tax purposes. For this type of entity, any profits obtained from the sale of timber are taxed twice – once at the corporate level (35%), and once at the stockholder level when dividends are disbursed (15%). The practical effect of this tax policy is that investors who own both manufacturing plants and forestland often recoup as little as 50 cents out of every dollar of profit made from cutting trees whereas investors who own just forestland can normally pocket at least 85 cents out of every dollar.9 (01, 04, 07, 14)
Key motives and factors influencing the TIMOs and their institutional supporters to increase their forestland investments included the following:10
Passage of the Employee Retirement Income Security Act (ERISA) of 1974. – This federal law, and similar pieces of state legislation, encouraged institutional investors – e.g., pension fund managers – to seek increased returns by diversifying their investment portfolios to include more than just fixed-income securities like government and corporate bonds. Collectively these statutes opened-the-door for institutional investment in timberlands. (01)
Increased recognition within the financial community of the advantages of timberland investments. – Experience suggests that investments in timberland offer the following advantages for the patient investor – i.e., for the investor not interested in quick returns:
Favorable returns – Overtime, investments in timberland – considering both income generated and appreciation in value – have compared favorably to other investment options. To illustrate, over the period 1987 to 1999 when much of the shift in timberland ownership was occurring, total returns to timberland investments averaged +20.1% per year - +7.8% of this total was due to income generated, and +12.3% was due to appreciation in value. (01, 12)
Lower risks – While foresters tend to think of timberland investments as being fairly risky because of hazards like wildfire, insects, and disease – to financial managers, who view them as one part of a diversified investment portfolio, they are generally seen as a way to reduce risk because experience suggests that returns to timberland investments tend to run counter to the returns provided by many other types of investments. (01, 12)
Inflation protection – Experience indicates that timberland investment returns are highly correlated with the rate of inflation, which makes such investments a good hedge against inflation. (12)
Key motives and factors influencing those forest products firms that restructured to form timber REITs included the following:
Passage of the Real Estate Investment Trust Simplification Act (REITSA) of 1997: - This legislation removed a provision of prior law known as the “Thirty Percent Gross Income Test” that had effectively precluded the VIFPCs from forming timber REITs. Basically this test would have required the VIFPCs that desired to be recognized as a REIT to forgo any timber harvesting for 4 years. Another favorable provision in the REITSA was that it allowed large institutional investors such as pension funds to hold shares in a REIT. This statutory change had the effect of increasing the liquidity of timberland investments for those REITs that are open to public trading.11 (11)
More favorable tax treatment and enhanced after-tax investment returns. – This factor was discussed above when looking at the reasons why many VIFPCs have chosen to restructure themselves to separate ownership and control of their timber holdings from ownership and control of their mills. REITs are single tax entities – i.e., the REITs themselves pay no income tax, only the shareholders – and this tax is normally computed at a rate of not more than 15% as compared to the 35% rate applicable to any income realized by Sub-Chapter C Corporations.12 (13, 20, 21)
Desire to ensure timberlands were fairly valued in financial markets – i.e., to “monetize” timberlands. – When a VIFPC restructures to form a timber REIT, two changes occur that help to ensure its timberlands will henceforth be fairly valued in financial markets. First, GAAP no longer precludes recognizing appreciation in value as part of return on investment. Secondly, as noted above, if public trading is allowed liquidity is enhanced because a wide array of investors can now participate directly in “pure” timberland investments. (11, 12)
Management Objectives of Different Ownership Groups:
While the specific organizational entities that make up the three ownership groups of interest in this paper – i.e., VIFPCs, TIMOs, and timber REITs – are all different and have somewhat unique management objectives and reasons for holding forestland and timber – different authorities have nonetheless offered some generalizations that seem relevant to this discussion. These include the following:
VIFPCs own both forestland and related manufacturing facilities, and as a result have certain strategic supply objectives that influence their decisions about when to cut timber and how long to hold on to forestland. TIMOs, and to a lesser degree timber REITs, have no such strategic objectives – when market conditions are favorable timber is generally cut and sold to the highest bidder in open-market auctions. When market conditions are unfavorable, timber need not be harvested but can be left to appreciate in value.13 (01)
TIMOs and timber REITs apply modern portfolio theory to their decisions about when and where to buy, hold, and sell forestland. They are interested in diversifying their holdings among regions, timber types, and age classes. In contrast, the VIFPCs frequently make such decisions based on the locations of their existing manufacturing facilities and forestland holdings. (01)
Capital availability oftentimes constrains the management options open to the VIFPCs but is typically not a limiting factor for the TIMOs because the funding sources that they can potentially tap into are extremely large. 14 Capital availability can be more of a problem for the timber REITs, especially if they are not publicly traded.
TIMOs invest funds on behalf of their clients (e.g., pension funds, endowments, and foundations) for a specified period of time – quite commonly 10 to 15 years. Unless the specific investment vehicle provides an option to extend, the assets will be sold at the end of this time period. Additionally TIMOs, especially when they are engaged in investing pension funds, have an implicit fiduciary responsibility to manage the investment so as to yield the best possible return – i.e., to maximize profits. (01)
Taxes are a major decision-making factor for the VIFPCs. TIMOs and timber REITs are less concerned about taxes because they are only taxed once, they are taxed at a lower rate, or they are tax exempt. (01)
Management Practices and Behaviors of Different Ownership Groups:
As noted earlier, as TIMOs and REITs have gained control over more forestland in the US – many within the forestry, conservation, and environmental communities have grown concerned about the implications of the ownership shifts. These groups wonder what the changes will mean in terms of such things as: how forestlands will be managed, the flow of goods and services that forestlands will provide, the pace of forestland fragmentation and development, and levels of support for forestry research as well as other important forestry-related activities. After years of working with the VIFPCs these groups had learned what to expect from this class of forest owners – but the shift in historic ownership patterns has created much less predictability as concerns the future of US forests.
Because the changes in forestland ownership are for the most part relatively recent, very little empirical evidence exists that can be used to answer the questions being posed by the forestry community. Even in the few cases where relevant studies have been conducted, the results must be interpreted with caution. Some studies have elicited information on planned management activities, but plans aren’t always carried-out. Other studies have looked at the management practices actually being applied, but either the interval of years represented has been very narrow or the geographic coverage has been spotty. For the most part analysts have been forced to draw inferences based on the presumed management objectives of the various ownership classes. Recognizing these realities, the following impressions are offered:
Type of forest management practiced. – At present there is little evidence to suggest that the management practices employed by a TIMO or REIT on a given piece of land should be expected to differ markedly from those that would have been applied by a VIFPC. The new owners, like the old, generally have an incentive to leave their land in as good or better shape than it was when they acquired it – and as noted earlier, they typically don’t suffer from the same limitations on capital availability as often plagued the VIFPCs. There is some evidence to indicate that TIMOs show a preference for silvicultural treatments that will produce a benefit in 10 to 15 years, and that they tend to concentrate their investments early in a given investment period; but when longer-term investments are needed to maintain or enhance property values – e.g., investments in site preparation and planting – it appears these investments will be made as long as they can be economically justified. As previously noted, some authorities have argued that because they don’t have mills to support, TIMOs and REITs are under less pressure to cut – especially when markets are weak; however, as has been pointed out elsewhere, the validity of this argument is questionable – especially as it applies to the timber REITs. In a somewhat different vein, it should be noted that the TIMOs and REITs are subject to the same forest practice regulations and mandatory environmental restrictions as apply to other forest owners. Whether or not the new owners will be as willing to comply with voluntary BMPs as were the VIFPCs is unclear, however, especially when the BMPs will result in cost increases that are not inconsequential. The VIFPCs were often willing to accept such cost increases in order to enhance their corporate image and maintain their “social license” to practice forestry. Finally, yet another point worth noting is that some TIMOs and REITs have elected to participate in independent programs designed to “certify” the sustainability of their forestry practices. 15 On this score, however, it should be pointed out that in most of these cases the lands were previously enrolled in a certification program and thus the decision was to continue, not initiate, certification. (01, 02, 04, 13)
Type of goods and services (including environmental amenities) produced. – It seems clear that at present the forest product of greatest interest to TIMOs and REITs, as it was for the VIFPCs, is timber – and that other non-market goods and services that can be provided without significantly compromising the flow of timber products will continue to be “jointly produced” in the future as they were in the past – e.g., wildlife habitat and watershed protection. Where the different types of owners may take different stances is when it comes to producing those forest-related goods and services that potentially have a market value – e.g., different types of recreational pursuits such as hunting. While the VIFPCs sometimes sold hunting leases when this was an accepted practice in a given area, oftentimes they provided free public access to their lands for this pursuit as well as others – but it is presently unclear whether TIMOs and REITs will continue to honor this tradition.16 Additionally, it’s interesting to speculate about what would happen if a national cap were to be imposed on carbon emissions and an active market for carbon sequestration credits were to emerge. Given less of an obligation to supply dependent mills, TIMOs and REITs would be comparatively free to adjust their management strategies to take full advantage of the relative values of timber versus a unit of carbon sequestered. (01, 07, 12)
Ownership tenure and fragmentation: – This has been raised as an issue mainly as concerns ownership by TIMOs, which as previously noted – typically operate within a 10 to 15 year timeframe. This situation contrasts sharply with the VIFPCs, many of whom – at least until recently – held forestland for periods of 50 years or more. The main concern is that more frequent ownership turnovers will lead to increased fragmentation. The limited evidence that is available to date suggests these fears may have merit. In instances where TIMOs have sold timberlands, it appears they have frequently disposed of their holdings in smaller sizes than when they were acquired – and some observers suggest this is being deliberately done in order to capture the higher prices obtainable in the “retail” as opposed to “wholesale” land markets. While TIMOs occasionally sell to other TIMOs, sometimes sales are made to smaller regional buyers such as sawmills. This has led to a secondary concern that many of these purchases are being financed with borrowed capital – and that the purchasers may subsequently be required to cut their lands heavily to payoff the debt they’ve incurred. Overall it appears that although TIMOs may be long-term holders of forestland in the aggregate, they can be expected to periodically turnover specific areas – and this will likely contribute to increased fragmentation. (12, 18)
Willingness to convert forestland to other uses. – There is some evidence to suggest that TIMOs and REITs, because they don’t have the same level of responsibility to supply dependent mills as did the VIFPCs, are more willing to convert forestlands to other uses. Indeed, it’s not uncommon for TIMOs and REITs to have a staff, or subsidiary, that is specifically tasked with handling the sale of lands that have been determined to have some “higher and better use” than continued timber production. That said, there is also some evidence which suggests that TIMOs and REITs, in selecting what forestlands to invest in, make a conscious effort to avoid lands that have development potential or are environmentally sensitive because purchasing such lands is inconsistent with their basic goal of realizing the returns obtainable from timberland investments.17 Additionally, some observers have noted that TIMOs, and to some degree REITs, seem relatively willing to enter into conservation easements with environmental organizations, land trusts, and/or governmental agencies. 18 The easements that have been negotiated typically ensure that sensitive forestlands will be remain in their current use but also permit continued timber harvesting under stipulated conditions. (06, 07, 09, 18) For the TIMOs and REITs, the rationale for entering into such easements is multifaceted; they can be a way to: 1) reduce up-front land acquisition costs and maximize overall investment returns, 19 and 2) side-step the potential controversy associated with trying to practice forestry on lands deemed “sensitive.” 20 While the acreage of land protected by conservation easements has been increasing over time, a persistent problem for the conservation and environmental communities has been finding adequate funding to consummate desired easements.21
Support for forestry research. – There is some evidence to suggest that TIMOs and REITs are less supportive of forestry research than were the VIFPCs – many of which had their own forestry research organizations. One indicator is that as timberland ownership by the VIFPCs has declined, so has participation in various university-affiliated forestry research cooperatives. In the case of the TIMOs, this phenomenon has been attributed to the fact that they operate under relatively short investment horizons (10 to 15 years) whereas the payoffs from most forestry research activities are realized over long periods of time; however, this logic only holds-up if you assume the TIMOs don’t expect to be in existence beyond the duration of their initial investment offerings – and this doesn’t seem rational. In the case of the REITs, the phenomenon has been attributed to the fact that they are required to annually distribute 90% of their income to their shareholders – and that consequently their capacity to support forestry research is diminished. Some observers have suggested that the problem may not be that TIMOs and REITs are unwilling to support forestry research, but that they simply haven’t been in existence long enough to find a suitable mechanism for allocating these costs to their investors. (01, 04)
Support for forestry in general. – There is some evidence to suggest that TIMOs and REITs will be somewhat less active within the broad forestry community than were the VIFPCs – i.e., that they will not participate as extensively in different forestry organizations at the national and state levels, and not be as aggressive in supporting federal and state legislative initiatives of concern to the forestry sector. Indicative is the fact that membership in the American Forest & Paper Association (AF&PA) as well as many state forestry associations has been declining. In a somewhat different vein, in the South there is some evidence to suggest that the TIMOs are not as supportive of cooperative fire fighting efforts as were the VIFPCs. During the last 15 years private fire fighting capability in the South has been declining, at least in part because the TIMOs seem more willing to defer the responsibility for providing fire protection to the states. Again, it may be somewhat premature to form any final conclusions – perhaps the new owners simply need more time to assess the benefits of participating in such cooperative ventures. (01, 04)
Conclusions and Possible Responses:
Only one conclusion will be offered based on the results of this analysis, and this is that the movement of forestland ownership within the US from the VIFPCs to TIMOs and REITs is likely to continue in the future – although the pace of change may very well slow.22 The main reason why this shift in ownership classes is likely to continue is that the pressure to move ownership of forestlands to a more tax-efficient structure is very strong – i.e., those VIFPCs that do not embrace more tax efficient structures will find themselves in a constant struggle to remain competitive.23 Reasons why the trend may slow include the following: a lot of industry land has already moved into other ownership classes, suitable timberland investment opportunities are becoming more difficult to find, and rates of return on US timberland investments have moderated somewhat – perhaps due to increased international competition and the fact that domestic markets have now adjusted to the decline in national forest timber sales in the Pacific Northwest.24
The lack of hard data showing, beyond a reasonable doubt, that serious economic, environmental, or social problems are occurring as a result of the shift of substantial acreages of forestland from ownership by the VIFPCs to ownership by TIMOs and REITs suggests that the Forest Service should be cautious and prudent as regards the actions it takes, or advocates that others take, in response to this matter. At the same time, the evidence now at hand very definitely suggests that a number of potentially undesirable trends may be emerging – and that existing federal tax policy may well have contributed to the situation. Under these circumstances the Agency would be remiss to do nothing, and so the following possible responses are suggested:
That the Agency commit to monitoring and periodically making available, perhaps through the FIA program, data on: 1) changes in forestland ownership, including ownership by TIMOs and REITs; 2) shifts in land use by ownership class; 3) the types of management practices being applied by different types of forest owners; and 4) changing resource conditions on the forestlands held by different types of forest owners.
That the Agency, to the extent allowed by other priorities, commit to conducting or supporting additional research that will provide better information about the true economic, environmental, and social consequences of the shifts in forestland ownership that have occurred in the US.
That the Agency, consistent with the spirit of its “Cooperating Across Boundaries” initiative, expand its outreach efforts to the TIMOs, REITs, land-trusts, and other key partners in order to find collaborative solutions that will help keep America’s forests and grasslands “healthy across the landscape” – perhaps through the more effective use of working forest conservation easements. (08)
That Agency leaders, on appropriate occasions, use their “bully pulpit” to describe how federal income tax policy appears to have influenced the ownership of private forestlands in the US – and to discuss the apparent conservation implications of these changes. 25
Literature Cited
Publications:
01) Block, Nadine E. and Sample, V. Alaric. 2001. Industrial Timberland Divestitures and Investments: Opportunities and Challenges in Forestland Conservation. Pinchot Institute for Conservation. Washington, DC. 50p.
02) Binkley, Clark S.; Raper, Charles F.; and Washburn, Cortland L. 1996. “Institutional Ownership of US Timberland.” Journal of Forestry. 94(9). pp. 21-28.
03) Boyd, Gary P. 2006. “Corporate Forest land Divestiture: Issues & Opportunities for Companies and Communities.” Powerpoint presentation developed on behalf of International Paper. Contact: gary.boyd@ipaper.com .
04) Clutter, Mike; Mendell, Brooks; Newman, David; Wear, David, and Greis, John. Strategic Factors Driving Timberland Ownership Changes in the US South.
05) Ellefson, Paul V. 1992. Forest Resources Policy: Process, Participants, and Programs. McGraw-Hill, Inc.; New York, NY; 504p.
06) Fernholz, Kathryn; Howe, Jeff; and Bowyer, Jim L. 2006. “Conservation Easements to Protect Working Forests.” Dovetail Partners, Inc. 11p.
07) Hagan, John M.; Irland, Lloyd C.; and Whitman, Andrew A. 2005. Changing Timberland Ownership in the Northern Forest and Implications for Biodiversity. Forest Conservation Program, Manomet Center for Conservation Studies. Report No. MCCS-FCP-2005-1. Brunswick, ME. 25p.
08) Harper, Clair and Crow, Tom. 2006. Cooperating Across Boundaries: Partnerships to Conserve Open Space in Rural America. USDA Forest Service. Publ. No. FS-861. 49p.
09) Irland, Lloyd C. 2005. “US Forest Ownership: Historic and Global Perspective.” Maine Policy Review. Winter Issue. pp. 16-22.
10) Mendell, Brooks. 2006. “US Timberland Investment Markets.” Powerpoint presentation made at the 2006 SAF National Convention. Contact: bmendell@forisk.com .
11) Mooney, Scott. 1998. “Understanding Timber MLPs and REITs.” Timber Mart South Newsletter, 2nd Quarter. 2p.
12) Ravenel, Ramsey; Tyrrell, Mary; and Mendelsohn, Robert (eds.). 2002. Institutional Timberland Investment. A Yale Forest Forum Publication. Vol. 5. No. 3. New Haven, CT. 52p.
13) Rogers, W. Rhett and Munn, Ian A. “Annual Management Activities of TIMOs and Industrial Landowners in Mississippi During 1998-1999.” Forest and Wildlife Research Center, Mississippi State University. Publ. No. FO176. pp. 140-145.
14) Siegel, William C. 2004. “Tax Considerations Associated With Different Types of Forest Ownership.” National Woodlands. April Issue. pp. 22-24.
15) Smith, W.B.; Miles, P.D.; Vissage, J.S.; Pugh, S.A. 2004. Forest Resources of the US, 2002. USDA Forest Service, GTR NC-241. 137p.
16) Wallinger, R. Scott. 2006. “Timberland Investing and the Public Good: Issues that Matter to Investors.” Proceedings of the World Forestry Center’s 3rd Symposium on Who Will Own the Forest. Portland, OR. pp. 118-126.
17) Stern, J. David. 2004. “Investing in Timber,” Fund Evaluation Group, LLC. Cincinnati, OH. 13p.
18) Zinkhan, F. Christian. 1993. “Timber Investment Management Organizations and Other Participants in Forest Asset Markets: A Survey.” Southern Journal of Applied Forestry. 17(1): 32-38.
Websites:
19) http://www.sec.gov/answers/reits.htm
20) http://en.wikipedia.org/wiki/real_estate_investment_trusts
21) http://www.endgame.org/timo.html
22) http://www.forestinvest.com/
23) http://forestsystems.com/
1 Paper prepared by Cliff Hickman, Forester, R&D, Policy Analysis Staff.
2 Other buyers have included government agencies, privately held (i.e., family owned) forest products companies, and various conservation organizations like the Nature Conservancy and the Conservation Fund. Of the roughly 27 million acres of forestland that was sold-off in the US by the VIFPCs; an estimated 15 million acres was acquired by TIMOs, 2 million acres by privately held forest products companies, and the remaining 10 million acres by different conservation groups, other private owners, and government agencies. (03)
3 Various distinctions between TIMOs and REITs will be brought to light during the course of this paper, but one difference worth noting at the outset is that TIMOs don’t actually own forestland whereas REITs do. In the case of TIMOs, the forestland is actually owned by the individual investors the TIMOs represent.
4 It is perhaps worth noting that despite the recent shifts in forestland ownership that have occurred within the US, in the overall scheme of things the TIMOs and REITs are still not all that significant. The most recent national statistics published by the Forest Service’s FIA program show that in 2002 the US had 504 million acres of “timberland” – i.e., land capable of growing over 20 ft.3/acre/year and not legally withdrawn from timber harvesting. (15) Figures compiled from different sources used to prepare this report suggest that in 2006 the TIMOs and REITs jointly held about 27.3 million acres of timberland, which would represent about 5% of the total. This figure generally agrees with similar figures reported within the financial community that show timberland ownership in value as opposed to acreage terms. To illustrate, one website set the value of all timberland in the US at $450 billion, and indicated that “institutional investors” held 4%. (22) Another website put the value of privately held timberlands in the US at $230 billion, and indicated that “institutional investors” owned 5%. The main point is that at present TIMOs and REITs hold only a fairly small fraction of all the timberland in the US. (23)
5 In 2006 both Potlatch and Longview Fibre, with combined forestland holdings of just over 2.0 million acres, converted to the REIT structure.
6 Before looking at the reasons why some VIFPCs elected to sell forestland, it may be worthwhile to briefly reflect on why they originally acquired such land. Unquestionably the key rationale was their desire to gain control over the conditions of availability – e.g., timing, delivered cost, species, volumes, and log sizes – of an input required by their manufacturing facilities. Other rationales included: 1) the investment returns realizable through timber management and appreciation in land values, and 2) the ability to enhance their corporate images by demonstrating that they were responsible land stewards. (05)
7 While the factors listed here are felt to have been the most important, other factors no doubt also played a role. One additional factor was the increased availability of relatively attractive forestland investment opportunities overseas where biological productivity rates were often higher and environmental restrictions less stringent. (01) Another factor was the apparent decline in the domestic demand for stumpage needed to produce some forest products such as paper and paperboard, where the use of recycled fiber has grown over time and is expected to exceed 40% in a few years. (01) Finally, yet another factor was the emergence of tax strategies – e.g., installment sales – that made it possible to better manage the capital gains tax implications of making timberland divestitures.
8 It is perhaps worth noting that where forestlands that were previously owned by a VIFPC are now under the control of a TIMO, it’s not uncommon for the TIMO to be operating under a “supply agreement” that obligates it to provide a certain amount of timber to the company that previously owned the land. Similarly, where a VIFPC has restructured to form a timber REIT – typically some of the firm’s manufacturing facilities have been retained and placed into a fully taxable REIT subsidiary that the timber REIT is obligated to supply.
9 Prior to the Tax Reform Act of 1986 the effect of the double tax on Sub-Chapter C Corporations was greatly moderated by the fact that such entities paid a significantly lower tax rate on “capital gains” income – which ordinarily included any income received from the harvesting of timber. The elimination of this rate differential in combination with the double tax applicable to their income has created a heavy burden for the Sub-Chapter C Corporations to bear. To date, efforts to get a rate differential for capital gains income restored have proven unsuccessful.
10 Ownership of timberland by institutional investors can take many forms. It is usually not direct fee simple ownership, but rather an interest or share in a fund, limited liability partnership, master limited partnership, limited liability corporation, or insurance company group annuity contract.
11 There are presently four publicly traded timber REITS: Plum Creek Timber Company, Inc.; Rayonier Inc.; Longview Fibre Company; and Potlatch Corporation.
12 REITs didn’t always enjoy single tax status; this benefit was authorized with passage of the Real Estate Investment Trust Act of 1960. The goal was to encourage creation of special purpose companies that would make it possible for average Americans to invest in real estate, an option that had previously only been open to wealthy individuals and corporations. To qualify as a “pass-through” tax entity, REITs must satisfy a number of requirements. Some of the more important of these are:
They must be jointly owned by 100 or more persons/entities for at least 335 days each year.
They must derive at least 75% of their gross income from real property sources – e.g., rents, mortgage interest, and proceeds from the sale of real property including timber.
They must pay annual dividends of at least 90% of their income.
They must have no more than 50% of their shares held by 5 or fewer people during the last half of each taxable year.
They must have no more than 20% of their assets consist of stocks in taxable REIT subsidiaries. (20)
13 The reality is almost certainly more complex than this observation suggests. It’s not uncommon for TIMOs to have “supply agreements” with manufacturing facilities located in the vicinity of their timberland holdings, and these agreements can limit their flexibility to postpone harvest. Similarly, where VIFPCs have restructured to form timber REITs, in most cases at least some of the parent company’s manufacturing facilities were retained and placed in a “taxable” REIT subsidiary – and the need to keep these subsidiaries supplied can constrain their flexibility to delay harvest. Additionally, timber REITs are obligated to annually pay an agreed upon distribution per share which may be either a dollar amount or a percentage – and this requirement may also create pressure to harvest annually. (01)
14 To illustrate, even as long ago as March of 2000 – US pension fund assets were estimated to be on the order of $10 trillion. (01)
15 An example would be the Anderson-Tully Company, a timber REIT whose hardwood management activities are certified by the Forest Stewardship Council (FSC).
16 Illustrative is the fact that on February 23, 2007 Potlatch Corporation – a publicly traded timber REIT – announced that starting April 1, 2007 it would be requiring users to purchase a permit to recreate on its forestlands in Idaho. Additional information can be obtained by going to http://www.potlatchcorp.com/ .
17 Lands with recognizable development potential would be more expensive to acquire, and sensitive lands would be more costly to manage; in either case the returns realizable from practicing forestry would be compromised.
18 Conservation easements may be donated or sold, but when a TIMO or REIT is involved typically an easement will be sold. This situation is consistent with their emphasis on maximizing investment returns and the fact that taxes are generally less important to these owners.
19 A case can be made that the existence of an easement will influence a property’s eventual resale value. For some landowners this possibility may not be important, but for a TIMO or REIT it likely will be – and thus it seems reasonable to assume this possibility will be taken into account when negotiating a sales price.
20 There can also be important income, estate, and property tax benefits associated with entering into conservation easements – but typically these advantages are not as important to TIMOs and REITs as they are to other types of private landowners.
21 Within the US, the area of land protected by conservation easements grew from 1.4 to over 5.0 million acres between 1998 and 2003. (06) This figure includes all types of undeveloped rural land, not just forestland.
22 A case can be made that to the extent there is further growth in the amount of US timberland held by TIMOs and REITs, this growth will occur mainly within the REIT sector. There are still a few VIFPCs that hold significant amounts of timberland – e.g., Weyerhaeuser, Mead-Westvaco, and Temple-Inland. For these firms restructuring as a timber REIT would produce significant tax benefits while not requiring a complete severing of any connection to their manufacturing facilities since the latter could, within limits, be placed in a taxable REIT subsidiary. It may also be worth noting that timber REITs enjoy certain advantages over many other types of REITs, a key one being that most of their income will qualify to be recognized as a capital gain. Once timber REITs are better known within the financial community, these advantages could lead to an increase in the amount of investment capital available to such entities.
23 Relevant to this point, at the time this paper was being written, the press and various industry newsletters were reporting that: 1) Weyerhaeuser had recently appointed a REIT expert to its corporate board, and 2) Temple-Inland had announced plans to sell-off its forestland holdings. If these companies divest themselves of their timberland holdings, while there will still be some family-owned forest products corporations that own significant acreages of forestland – Mead-Westvaco would become the last VIFPC to still own forestland.
24 It is perhaps worth noting that two institutional investors – i.e., the California Public Employees Retirement System (CalPers) and Harvard University – have recently terminated their North American timberland investments, purportedly because of declining returns.
25 Considerable care should be exercised in acting on this suggestion. The Agency must avoid putting itself in the position where it could be perceived as advocating a “tax break” for wealthy corporations – especially given current levels of public concern over the national debt and growing annual budget deficits. Agency leaders should strive to be factual and stress that their dominant concern is to encourage adoption of tax policies that are conducive to responsible forest management and conservation.
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