Wood Bioenergy Update: How Many Gallons of Ethanol per Ton of Wood?

26 05 2010

In the May issue of Wood Bioenergy South, we updated our conversion of gallons of cellulosic ethanol to 40 gallons per green ton of wood.  This change was made based on research from the Department of Energy, which published an ethanol “yield calculator” for multiple feedstock types.  Our thanks to Mike Cooley of Catchlight Energy for pointing us to this reference.

Nationwide, the Forisk Wood Bioenergy database includes over 300 wood-using projects.  Specific to the US South, as of May 25, 2010, our analysis of bioenergy markets indicates:

  • 135 wood-using bioenergy projects have been announced in the US South.
  • In total, these projects represent potential, incremental wood use of 55.9 million tons/year by 2020.
  • Based on Forisk analysis, projects representing 20.3 million tons/year pass basic viability screening.

Click on the figure for the detailed downloadable summary.

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Do Timberlands Hedge Inflation? When You Least Expect It*

20 05 2010

“Inflation at 44-Year Low” trumpeted today’s headline from the Wall Street Journal.  The news was pause-worthy at our shop because one of the most common arguments for investing in timberland is its purported potential to hedge inflation.  Well, does it?  And if inflation is so low, does that reduce the potential attractiveness of timberland investments?

Previous research indicates that timberland investments may hedge against unexpected inflation.  The seminal academic paper in this area, “Do Forest Assets Hedge Inflation?” by Court Washburn and Clark Binkley (Forest Science, August 1993), asserted that timberland assets, especially those in the Pacific Northwest and South, hedge “higher-than-anticipated inflation.”  In 2007, forest economist Jack Lutz affirmed a positive correlation between timberland returns and inflation, concluding that timberlands will “preserve capital in the face of rising consumer prices” (Forest Research Notes, 3rd Quarter 2007). Forisk revisited this issue last year with similar results for direct timberlands (first figure “NCREIF Timberlands and Inflation”), but different results for an alternative timberland investment vehicle: publicly-traded timberland-owning REITs (second figure “FTR Index and Inflation”).

Returns from direct timberland investments, as measured by the NCREIF Timberland Index, correlate positively on an annual basis with inflation; public timber REITs, as measured by the FTR (“footer”) Index, lack a similar relationship over the past ten years.  Key factors: the differences in owning hard land assets versus super-liquid public equities.

What about current rates of inflation?  The fact that inflation is low today has no relevance to timberland’s potential for mitigating exposure to inflation in the future.  The play is against “unexpected” inflation, not consensus expectations.

*This theme will be addressed further during the “Applied Forest Finance” and “Valuing Timber REITs” courses on August 4, 2010 in Atlanta, Georgia.





Timberland Investments: Free Lunch? No. Attractive? Yes.

17 05 2010

The New Yorker magazine published a cartoon in its May 17, 2010 issue of two trees talking in the woods.  One says to the other, “Can you believe that people inhale the gases we expel – sick, right?”  The cartoon was timely for me because it echoed a conversation I had last week with an investment banker who dismissed common arguments associated with investing in timberlands.  He said, “Timberland investment managers are selling a free lunch.  ‘Don’t like today’s timber prices?  Then don’t harvest.  And while you wait your investment grows as trees grow in size in value!  Don’t like inflation?  Timberlands will protect you; they hedge inflation!’  It’s as if timber investments are sitting around, waiting to do us a favor.  C’mon, that’s sick.”

Are timberlands perfect investments?  No.  (A perfect investment would generate triple-digit returns, eliminate your tax bill and come with annual 50-yard line seats to the Super Bowl where you’d enjoy a bottomless goblet of Glenmorangie.)  Are timberlands an attractive addition to a diversified investment portfolio?  Yes. The Canadian Investment Review features an article summarizing a presentation by Tim Cayen, director of business development at timberland investment manager (TIMO) Hancock Timber Resource Group (“Institutions turning to timberlands,” May 10, 2010).  Cayen’s presentation provides an updated flavor on the benefits of timberland investments:  they provide attractive long-term returns; they appear to hedge against unexpected inflation.

I often hear a key sentiment shared by the banker.  “Well, if everyone waits to harvest, won’t we have too much forest supply in the future, thereby suppressing stumpage prices and decreasing returns?”   In reality, anything resembling a herd mentality creates potential investment strategies and opportunities.  For example, our forest economist, Tim Sydor, applied game theory to part of his dissertation research on the economics of forest investments.  His results indicate that benefits can accrue to investors who integrate their understanding of changing expectations and behaviors in timber markets into their decision-making.  In sum, timberland investors can learn and make more efficient investment decisions.





Risk and Returns of Timberland and Forestry Investments: Managing the “Circular Flow of Funds”*

12 05 2010

Managing the risk of forestry and timberland investments fits with the “circular flow of funds” approach to financial management, which focuses on two fiduciary objectives.  One, raising and supplying the funds required for timber-related investments on favorable terms.  Two, using these funds effectively and efficiently to maximize returns to the investors.  In short, raise money at low rates and invest it in trees at higher rates.  Simple, right?

In practice, successfully achieving these objectives depends on a smooth flow of funds – from cash to non-cash assets (forests) back to cash – within the investment.  This can be dreamily viewed as a circular flow of funds (see figure), unending from fund inception.  The cycle continues, assuming no disruptions, which may include, for example, a shortage of funds, difficulties in finding suitable timberland properties, forest operations challenges (weather, mechanical), and timber market issues (prices, wood demand, mill curtailments).

How do we measure timber investment success from this perspective?

  • Cash flow circulates uninterrupted.
  • Circle of cash grows in size.
  • Speed of cash flow accelerates.
  • Circle continually spins off cash for other investments.
  • Performance of the timberland investment meets broader portfolio objectives, such as diversification or preservation of capital.

Thus, a critical benefit of the “circular flow of funds” approach is that it permits and facilitates – in fact, it requires – quantitative measurement of investment performance against specific, prioritized timberland investment objectives.  In sum, it provides an effective way to keep score.

*This topic will be addressed in further detail during the “Applied Forest Finance” short course on August 4, 2010 in Atlanta, Georgia.  For more information, click here.





Wood Supply Agreements Remain Elusive for Bioenergy Projects

10 05 2010

Securing sustainable and reliable sources of raw material is a critical component to mitigating operational risk and obtaining financing for wood-consuming bioenergy projects. Yet, this remains one of the most elusive and challenging elements for bioenergy project managers and investors.  As of April 14, 2010, only 4 projects of the 130 projects captured in the March/April edition of Wood Bioenergy South had publicly-verifiable wood supply agreements in place.  Another 3 projects had signed MOUs or letters of intent with wood suppliers.  A handful of others maintained potential agreements in confidence.  In sum, 5.4% of publicly-announced wood-using bioenergy projects had verifiable multi-year agreements or MOUs in place.

Traditional forest industry participants do not have a built-in bias against wood supply agreements.  For all of the challenges they can present – establishing viable volumes against verifiable specifications, implementing and maintaining pricing mechanisms – they provide a useful risk management and negotiating tool.  Forest industry sellers of timberlands often include wood supply agreements of 10 years or more in transactions with institutional buyers, as reflected in key deals summarized in the table below.

Bioenergy developers crave such agreements, yet timberland owners have approached biomass wood supply agreements with caution.  In practice, traditional wood supply agreements have cemented existing forest-to-mill relationships, where buyers and sellers have long known each other.  For bioenergy markets, participants continue their courtship.  Sellers of wood want a better understanding of the value they are providing – what is wood actually worth to a bioenergy producer? – while buyers of wood want long-term agreements with, if possible, fixed pricing.

Recent examples of bioenergy projects from within the forest products industry highlight the benefit of having ready access to raw materials and experience with wood procurement.  In April, Graphic Packaging announced the expansion of its bioenergy production and usage at its Macon, Georgia facility (press release).  In May,  The Westervelt Company announced a bioenergy agreement with Alabama Power which leverages Westervelt’s Moundville, Alabama lumber facility to produce electricity (press release).





Timberland vs Timber REITs: Observations on Performance and Liquidity

3 05 2010

Institutional and individual investors often ask, “what is the difference between investing in timberlands directly and buying stock in publicly-traded timberland-owning real estate investment trusts (timber REITs)?”  In brief, one is direct ownership of a hard asset while the other is a claim on the earnings of a timber-growing and selling business.  In practice, these investments perform differently – over shorter time periods – and their accessibility varies for different types of investors.  (Jeff Opdyke of the Wall Street Journal addressed some of these issues in “Wealthy investors discover timberland,” May 1-2, 2010).

During the first quarter of 2010, publicly-traded timberland and real estate investments outperformed private timberlands, as measured by the NCREIF Timberlands Index (Figure 1).  However, short-term analysis of these indices can provide misleading signals as the NAREIT and FTR Indices track the daily performance of public equities, while NCREIF reports quarterly on appraised, realized and cash returns from a sample of the private US timberland investment market.  This fact highlights the liquidity gap, which manifests itself as a short-term constraint on transacting assets, between the public and private timberland markets.

Figure 2 summarizes indexed annual returns since 1999.  Even at the annualized level, returns demonstrate the extreme difference in volatility across asset classes as public REITs (NAREIT) climbed through 2006, crashed through 2008, and continue to recover in 2010 (Figure 1).  Interestingly for timberland investors, private and public timber-related assets have converged over this particular 11-year time frame.

In addition, the FTR Total Returns Index, which includes dividends, returned 13.9% annually since 1999.