Timberland – Keep it or sell it?

I like to look forward and speculate about what is going to happen. Sometimes with a good analysis, sometimes with just a good guess. Either way, nobody can say that you’re right or wrong. Only time can do that. And it does.

But once in awhile it is good to look back. Maybe to say “I told you so” or perhaps to see just how foolish I have been with some of my prognostications. Either way, the value is in the looking.

About ten years or so ago the TIMO sector was starting to grow in earnest. It was clear (to some at least) that C Corp ownership of timberland was probably not the best ownership structure. The large timberland owners were all Integrated Forest Products Companies (IFPCs) and some had already been experimenting with different corporate structures such as LPs and REITs. Most were maintaining the status quo and capitalizing on TIMO investor driven demand by selling off their “non-strategic” holdings to generate cash or reportable earnings.

By 2000, the pulp and paper industry was about five years into some very bad times from a profitability standpoint. The investment community (and I know many of my readers are market analysts - so pay attention to this little trip back in time), had one mantra. “Sell your timberland and pay down debt”. The decade before that it was all about percent self-sufficiency. The higher the level of self-sufficiency (the more land owned), the more favorable the analysts view of the company. Mantras change abruptly.

Interesting discussions occurred in many offices during the two or three years before and after 2000. (“Let’s keep the land and sell the mills!” – Heresy!). Reactions to the analysts’ demands (or maybe to the poor profits) were varied. In some cases, corporate management bought into the analysts view, other managers explored and ultimately implemented the evolving REIT structure and one major company maintained the status quo. So who was right? Perhaps this chart will shed a little light on the issue.

Picking Weyerhaeuser as the major representative (about the only one actually) of the “status quo” decision makers, I’ve compared their stock prices to the REIT crowd (PCH, PCL and RYN) and the timberland divestures crowd (represented by IP, MWV and LPX) over the past five years. What does this tell us?

The status quo decision was right in the middle with respect to stock price performance.

An examination of the three timberland sellers (those that restructured based on the advice and pressure of the analysts) were all losers – some big time losers. Analysts pay attention. Your advice and pressure destroyed a great deal of shareholder value. But then again, it wasn’t your fault. The fault lies squarely with the senior management that took those companies down that course. The final chapter has yet to be written for these firms but it sure doesn’t look like the right decision at this point.

The shareholders of the three companies that saw the REIT opportunity and charted their own course through a complex and somewhat risky maze were very well rewarded relative to the others. All three of these companies actually acquired land over the five year period. What a difference is made by good strategic decisions on the part of senior management. History pins the Gold Medal on Rayonier’s senior management team. –Brian

Strategic Factors Driving Timberland Ownership Changes

This post references another paper examining the changes resulting from the shift in timberland ownership from vertically integrated industrial companies to TIMOs and TREITs. The paper was written by Mike Clutter (University of Georgia) and Brooks Mendell, David Newman, David Wear and John Greits (all with the USFS). The study was funded by the Forest Service. Following are a few extracts, kind of at random, that I found important or just interesting:

• "more efficient tax structures for owning timberland have evolved - such as single-taxed real estate investment trusts (REITs) and S-corporations - replacing the traditional double-taxed C-corporations..."
• "Client preferences and investment horizons impact the choice of silviculture treatments, leading TIMOs to tend to invest in silviculture early in the life of the investment funds, but not later."
• On TIMOs: "We make money on growth."
• On TIMOs: "Appraisals drive our business." Note that this comment and the one before it both get to the difference in accounting (GAPP) that allows such things as timber growth and appreciation in land prices to be treated as an annual return for the TIMOs but not for the C-corporations. Note too, that if a silvicultural activity, like mid-rotation release, doesn't increase the appraisal at least as much as it cost, it won't be done. Question - how good are the appraisers? Do appraisals reflect what is not seen?
• "TIMOs, without exception, focused on the financial metrics of concern to their clients. ...this measure was some variation of cash return plus asset appreciation, as established through appraisals."
• "These metrics reflected a general attitude toward silviculture treatments. ..., it’s ‘what will the market pay for this treatment if applied?’"
• "TIMOs view silviculture information as a "commodity" and, in general, appear reluctant to invest in long-term research or forestry coops. ..." In other words, if the impact does not show up in the growth and yield models or appraisals, it does not pay to make the investment."
• On community presence or public affairs: "TIMOs ... relied on their forestry contractors to establish and maintain sufficient working relationships within the communities." Some exceptions to this.
• "...fragmentation was not viewed as a major concern or priority by any interviewee."
• On fire control: "TIMOs and forestry consultants rely almost entirely on state resources. ...To assess the southern States fire suppression assets available for use we talked with all of the Fire Fighting Coordinators for each state... As expected, ... Most southern states have experienced significant reductions in private fire suppression capability during the past 15 years, the time frame during which industry ownership has been declining.
• "The thirteen responding states report reductions in the availability of 700 private cooperator-owned and available tractor/plow units. Of the thirteen states, only Kentucky has not reported a reduction; others ranged from 12 to 142 (Georgia). Notably, Kentucky has the smallest share of forest industry ownership in the South. Limited reductions in air tanker availability (4), 20 person hand crews (1), and helicopters (1) were also reported."
• "shareholders, analysts, and executives of the traditional vertically integrated forest products firms believe that returns on industry-owned timberlands lagged alternative investments, a fact complicated by the lack of recognition of asset appreciation and growth on forest products firms’ income statement."
• "In the preponderance of transactions ownership changes did not lead to substantial land use changes."
• "we expect these timberland ownership trends to continue. Within the next three years we expect that there will exist only one traditional forest products company that owns more than a million acres in the southern United States."
• "The other trend that will continue to impact timberland ownership is the continued growth of rural real estate markets at the urban / rural fringe. Continued emphasis will be placed on identifying those acres and monetizing the assets as they become more valuable for other uses."

Read the entire report: Strategic Factors Driving Timberland Ownership Changes in the U.S. South. See the quick version in The PowerPoint Presentation

There are no surprises in this research but it has helped to document those things that we have seen. --Brian

Glatfelter's Timberland Monetization Update

Glatfelter owns 86,000 acres in Pennsylvania, Virginia and Delaware.

The following is from their Q1 Earnings Report:

"The Company continues to move forward with its timberland monetization program. During the first quarter, approximately 1,520 acres were sold for $3.8 million in cash. The Company has contracts or agreements in principle for the sale of an additional $25 million of timberlands that are expected to close in 2007. "

"The Company’s Timberland Strategy, which was initiated at the beginning of 2006, is expected to generate proceeds in excess of $150 million over the next two- to four-years assuming, among other factors, acceptable market conditions and a carefully executed plan of disposition in order to maximize the value realized. To date, the Company has realized $20.9 million of these proceeds and continues to target $50 million of timberland sales proceeds for the full year 2007. "