Before we look at the money and the environmental elements let me hasten to warn you… I am prejudiced about trees. I love them too much.
Limbs on a Douglas fir (click on photo to enlarge).
Sometimes the oddest things shape us… our lives… the way we feel about certain things. Perhaps it was the experience of low hanging branches and the close limbs in the old stand Douglas fir forest behind my childhood home. Those limbs made for easy climbing and I was always in those trees, climbing… building tree forts, watching the views from 100 feet up. The trees were my friends!
This month’s issue of National Geographic has a must read article about a 3,200 year old Sequoia giant called, The President.
This picture is from that National Geographic article and this tree is just overwhelming to me. That little orange spot at the base is a man. I have linked the article below because the photo is so outstanding that this small reproduction does not do it justice. Be sure to read that article!
We have some huge old stand Hemlocks at our North Carolina farm as well.
I am the green spot at the base and call these hemlocks, the Grandfathers. They are no match in size for the old Douglas firs. They pale in comparison to the Sequoia… but I love them as well. The hemlock has been attacked by the Wooly Adelgid blight on the US eat coast and we have spent thousands of dollars protecting these few old trees.
It’s good to be cautious when you read what I write about investing in trees. I probably let my heart overly influence my pocketbook.
However investing in timber can be highly profitable and since there is a demand for wood… let’s cut stuff we grow specifically for lumber rather than cutting down the grand old stuff or any others! What I like is to plant trees as a crop in areas that are bare and then harvest, sell, and replant.
Steve Rosberg is a good friend. He was my banker in Ecuador for some years… more than a decade ago and then he returned to his homeland of Argentina and started two agricultural businesses… one in timber… one in vineyards. Here are Steve’s insights on investing in timber in Argentina… Uruguay and Ecuador… plus there are valuable tips about investing in timber anywhere.
The Economics of Timberland Investment – Ushay’s Outlook
By Steve Rosberg
“Timberland is an alternative asset class with a proven record of dependable returns. It possesses unique qualities that offer an inflation hedge for portfolios making it especially attractive in today’s volatile economy.
Timber stumpage is a commodity whose price has historically tracked population growth and GDP. Timberland offers owners the ability to hedge down markets by storing inventory on the stump, all while it grows. Purchased conservatively, timberland offers great opportunities to add diversified revenue streams to your portfolio.” The University of Georgia – Center for Forest Business.
The Global Perspective
Forests have been providing essential services to mankind – to all inhabitants of the biosphere – since the beginning of time.
In our age, this ranges from the tangible uses such as firewood, construction material, pulp for industry, chemicals – and so, on and on – and less immediately visible outputs such as soil erosion protection, water and air cycle services, three-dimensional habitat allowing the development of great biodiversity, and a host of others. We want forests, we need forests for our survival.
Nature provided the planet with a great stock of forests, which mankind has been using forever. Total forested surface is decreasing – based on the last FAO statistic that I saw – at about 1% a year.
Use of forest products grows together with population growth and GDP growth.
We see the writing on the wall of rising population and rising GDP.
The responses to these trends follow two lines of action:
− Attempts to protect natural forests from further reductions. This is important, as natural forests are very rich habitats and clearing them destroys their diversity irrevocably. Recreation of natural forests takes incredibly long time, and is always a different outcome than what was there before.
− Substitute timber sources (and other forestry services) with plantation forests as much as possible, thus relieving the natural forests from the pressure.
Plantation forests are still only a small portion of total forested surfaces, but are already taking a lot of the pressure off some of natural forests’ more prized trees and massive industrial uses of their timber. Plantation latifoliate species are replacing the hardwoods with timber of similar characteristics at a fraction of the price. And they are doing so sustainably.
Plantation forests are generally monocultures – one or two species over great tracts of land – and tend to get environmentalists complaining of the loss of diversity. They are not wrong, in the same way that farming wheat, corn, sunflower, soy, or any agricultural venture is a monoculture of similar characteristics. The real discussion is not about “good-bad” but about complex cost-benefit conditions in different situations. Except for the case in which a natural forest is clear-cut to make way for a plantation forest (yes, it happens …) the economic and the environmental balance tips in favor of plantations.
As you can see, when we talk of timberland investment, we need to define our terms. It can refer to buying an asset that will contain natural forest for preservation, for clearing and regrowth, for gradual selective use on a presumably sustainable basis, or to an asset containing a plantation forest. These are all “timberland” – but all essentially different assets, and completely different businesses.
Timber prices vary enormously, as timber tends to have a very low price per volume and transportation costs take on a very high incidence in the price a tree is worth on the stump.
Generally speaking, prices for timber on the stump will be those that the mills (sawmills, pulp or chipboard) are willing to pay, minus freight, handling, and cutting costs. Of these, other than the actual mill price, freight is the largest factor.
A corollary of this is that timber too far from industry may not be economically viable to harvest, so merely having thousands of acres of timberland is not an adequate measure of economic value.
Aside from stumpage price, the factors determining the profitability of a plantation are related to production cost, the dominant factors being land price and tree-growth speed.
Forestry is conceptually very much like a zero-coupon bond: you buy it today, and hold it to maturity, with no cash flow in between.
What you pay in up-front is the land value (there are other alternatives, but this works to get our ideas on the same page), planting costs, care and management until harvest. You may have some income along the way from thinning and revenue from cattle grazing.
Comercially viable trees grow at different speeds in different places. For pines, in Canada and northern Europe it will take around 60 to 65 years. In southern US, where they get more light, it’s faster, around 30 years. In Corrientes, Argentina, around 15 years.
Obviously, for similarly priced land, and similarly priced trees, the fastest growing is the more profitable.
Whatever the particular equation, I think the following graph – drawn up by the University of Georgia – highlights forestry’s central attraction: most of its growth in value comes from biology.
Clearly, this graph will be different for each region of the planet, but I think the central driver will be equally predominant.
In short, from a global perspective, we have diminishing forest stocks, growing numbers of people demanding forest products, growing uses for forest products (with no substitute product on the horizon) and the ability to gradually balance the trends with plantation forests. The renewed use of forest-sourced biomass for energy will promote the growth of plantation forests and make them significantly more profitable, as will be discussed below.
What Type Timber Investment Vehicles?
From now on, all we will consider are plantation forests of a commercial nature (i.e. planted with profit in mind). For readers with acute environmental sensitivity, we stand by our statement that this is generally an environmentally positive investment from a preservation of natural forests perspective, and also an extremely efficient means of carbon sequestration.
All other forest-type investments fall into categories that are not profit-driven, so making comparisons becomes subjective .
There are also a number of different ways to hold timberland investments:
– You own the land, and the forest.
This is the cleanest situation, which forces you to appraise the property’s characteristics, determine its potential, budget and forecast, plant, care and harvest. There are TIMOs – timber investment management organizations – who will help you run this investment. Some will do pooled investment projects, so that you don’t need to be a zillionaire to have an economically viable plantation.
This type of investment is generally illiquid – you don’t go and sell a plot of land, or a participation in one – in the blink of an eye, it takes about as long as any other real-estate transaction. But, if you have the carrying capacity and foresight to separate your long term investments from your liquidity requirements, you benefit from:
– the intimate knowledge of the property (maximizes potential) and funding structure (minimizes surprises)
– buying the land at face value
– planting and caring for the trees at cost
– paying for the management at cost.
By now, you have probably realized that if you could hold a number of these investments, with tree-harvests scaled every year, or two years, in the same way that you can step your time-deposit maturities, you could be getting annuities with timber’s high returns, putting a little aside for replanting, and going on for another cycle, and so on indefinitely.
– You can also buy a REIT, or a listed company owning timberland
This form of investment has the great advantage over direct ownership that the asset is listed, and you have instant liquidity.
Now, to the flip side of the coin:
– They tend to have other assets bunched in there, like industry, for example. Which is fine if you want that, but it distorts the nature of “timberland” as an asset class.
– More importantly, in my opinion, is the fact that they tend to have hefty liabilities. To take an example, Plum Creek’s year-end debt was 47% of its assets in 2011. Now, aside from your timberland asset, you have interest rate management exposure, and credit renewal risk thrown in there. This is leverage, it can be wonderful. Or not. It is leverage, not timberland.
– The market prices for these assets is based on their cash flow expectation, which means, by discounting expected future revenues. The interest rate becomes your determining factor for pricing these assets. If it is low, you will buy timberland with low yields as the price will be high. Of course, you could argue that this will allow you to buy cheap timberland in high interest times, and have capital gains when the rates fall, and it’s true. But why not then trade interest rate options?
– Sometimes, the companies’ revenues are derived from purchases and sales of land. Which is also fine, but not “timberland investment”, which was the asset class we were looking at.
In short, REITs and timber companies may be wonderful investments, or not, but do not necessarily represent the asset class you are considering, and – most probably – the market will have taken a lot of the upside out of the underlying asset by the time you get to it.
The Need for a More Local Focus
The tremendous dispersion in timber growth speeds, and end-market conditions for timber, requires that in evaluating a timberland investment we take a more local focus. We need to scratch the surface and understand the rationale for holding any single property, or sets of properties. We are dealing with communities of living beings, that grow, mature and die, and if we are to make the most of such an investment, need to take this into account during their life-span.
As you saw above, the dispersion in timber growth rates is enormous, as is also the distance to industry in each case, both factors affecting profitability.
A key consideration is how will the investment be funded due to the very long growth cycles, with no significant cash flow. We mentioned earlier that if timberland will be funded with credit, unless the tenor of the credit matches the tree-growth period, there is a serious roll-over risk. Or should we say “inability to roll over” risk. Actually, it is two risks: the risk that there is nobody willing to roll over at maturity time – something which was inconceivable in first world economies until 2008, but which has been common in developing world. And the risk that the interest rate prevailing at renewal time is very high. In fact, it could be higher than the biological growth rate of the trees.
How Ushay has Structured its Business
We develop timberland investment projects in Corrientes Province, in Northeastern Argentina. We do so in such a way that each property is held in an individual trust, and investors buy participations in the trusts. This gives them collectively title to the land, the trees, and every business that is done on the property.
Each property is analyzed in depth to determine it’s best potential, and the investment project is designed around that.
Investors fund the project, and there is no financial debt associated with it, thus eliminating the risk of an asset being erased from the face of the earth due to leverage, which we have all become too familiar with in recent times.
Minumum investment size is USD 50,000 (earlier projects had a USD 100,000 minimum). This allows investors to gradually build a portfolio of properties maturing over the years, as we expand into new projects.
Growth rates for pine and eucalyptus in Corrientes is as high as it gets – anywhere in the world – as is shown in Jaako Poyri’s graph below:
All of our properties are in a radius of 6 miles, allowing for cost-efficient operation. All are on paved roads. All are within 25 miles of the nearest city. Our projected acquisitions for the coming years all fit these categories, although land prices will not wait for us.
Industrial investment – third parties’ and arranged by us – is coming in the area, driven in part by Brazil, only 60 miles away, with a very avid demand for timber products. The new industry will eventually allow us to at least double our projected stumpage prices, which means that all our projects’ projected yields will be much higher than the initial estimates.
Another plus is the fiscal treatment of timberland in Argentina, as it is virtually income-tax free (the growth of the timber as appraised year by year is exempt) and there are land tax and asset tax exemptions. In this, it is unique, and for investors not taxed on global revenue, this is an exceptional plus.
Pricing and Comparisons
The chart below shows US timberland prices in USD per acre as reported by Brookfield Asset Management.
Our El Carrizal Forestry Trust is currently selling for USD 1,500 per acre. Unlike the graph at right, the Carrizal price has projected management and upkeep for the duration of the forest included in the initial investment.
The investor in an Ushay timberland project should expect to take away between 5 and 6 times his initial investment in a 15 year period adjusted for inflation, and still be left with the initial investment ready for another cycle.
New industry in the area will improve this equation even more.
Low entry levels per project allow the investor to “ladder” investments over time so as to create a portfolio of timberland properties with harvests in successive years. As the land goes right back into production for another cycle, this can be structured to be a perpetual source of family wealth.
And, if an investor owns a SUV, he can tell his conscience and neighbors to forget about his carbon footprint.
Timber investments can be profitable and more. They are to me… the ultimate dimensional investment.
Here is our North Carolina summer home (upper right).
We have a wonderful cool place to live and for me to play surrounded by a green inventory that grows in value. Plus it serves as a great seminar center allowing delegates to enjoy the forests. With our sustainable forestry, we can continually improve the forest and if due to low prices or because we love the trees too much, and we do not harvest then the value just keeps rising.
The first property we ever purchased in Ecuador (and one we do not plan to sell) is our hacienda Rosaspamba… almost 1,000 acres of forest… a lot of it virgin timber. We let locals farm it on a growing reserve of potential, rich farmland, timber… and fresh air and a bold trout river. The place where we can really get away in the Land of the Sun.
These are what Merri and I consider great multi dimensional values. We invite you to learn more about farming and timber in South America and the USA.
Learn Spanish as you learn about South American farming and timber. Meet Steve Rosberg in Argentina or Uruguay. Steve will provide a presentation about timber and agricultural investments during the Super Thinking + Spanish courses in Montevideo this February. Join Our Super Spanish teacher, Spiro Michas, and Steve Rosberg as you learn to speak Spanish in three days and find out more about timber and agricultural investments in Argentina and Uruguay.