Forisk Forecast: Expanding the Panama Canal

26 02 2013

This is the third in a series related to Forisk’s 2013 forecast of softwood stumpage prices in the United States.

One of the best books I read in 2012 was David McCullough’s The Path Between the Seas about the building of the Panama Canal.  Early in the book, McCullough summarizes the prognosticating efforts of those studying and considering in the 1800s alternatives for slicing a path through the isthmus of Central America at Nicaragua or Panama to connect the seas.  McCullough notes that:

….all the canal projects proposed, every cost estimated, irrespective of the individual or individuals responsible, were hopelessly unrealistic if not preposterous.  Every supposed canal survey made by mid-century was patently flawed by bad assumptions or absurdly inadequate data.  Assertions that the task would be simple were written by fools or by men who either had no appropriate competence or who, if they did, had never laid eyes on a rain forest.

While McCullough falls (just) short of crucifying the analysts and pitchmen of the day, his language quickened my pulse and reminds us all to confirm assumptions on the ground, check data and respect context.  In the end, we must take a position on what’s “doable.”

In December, I visited the Panama Canal.  The largest ships began outgrowing the Canal in the 1980s. In 2007, Panama officially started an expansion project that will add a third lane to the Canal.  Scheduled for completion in 2015, the Panama Canal expansion will allow significantly larger container ships to short-cut the trip from Asia to the East Coast in the U.S. and elsewhere.  A critical limiting issue remains.  Tom Heagle at ASF Logistics highlights how most East Coast ports currently lack the necessary depth and/or maneuvering space and/or suitable cranes and/or docks to handle the enormous ships.

In studying and tracking log and lumber export markets, we model potential implications from the Panama Canal.  In practical terms, 2013 will not be the year the Canal Expansion influences stumpage (or lumber) prices in the United States.  Neither will 2014.  For U.S. stumpage and log forecasts, keys include competitively priced supplies – influenced through imports and exports that may or may not change due to the Expansion – relative to U.S. demand.  The economics of utilizing an expanded Panama Canal fail to qualify as a “no-brainer”; it simply opens a trade-off between total time and total cost.

To learn more about the 2013 Forisk Forecast and its assessment of the economics of the Panama Canal, contact Brooks Mendell at bmendell@forisk.com, 770.725.8447. 

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Forisk Forecast: US Housing Starts Outlook

20 02 2013

This is the second in a series related to Forisk’s 2013 forecast of softwood stumpage prices in the United States.

Herman Chapman, in his 1935 book Forest Finance, wrote:

Forestry is an empirical art and not a mathematical science.  The two major premises upon which it rests, namely, human needs expressed in consumption of forest products, and the vital forces of tree life in their reaction to the composite factors of site including climate and soil, can be measured and predicted with only approximate accuracy. 

In this quote, I hear lessons echoed by friends and colleagues in the forest and timberland industries who remind us to maintain perspective and prioritize the most important factors.  Timberland investment pioneer Forrest Kellogg teaches, “It’s all about the soil!”  Timber buyer and procurement forester Fred Voyles reminds us, “You’re not doing your job if you stay in the truck!” Even professional gambler Amarillo Slim – neither friend nor colleague – advised, “You can shear a sheep a hundred times, but you can skin it only once.”

While I might not talk to Slim when it comes to future prices – or anything related to money, unless I want to lose some – we acknowledge that timber forecasts depend on appraisals of the future that we develop with “approximate accuracy.”  In this process, we do the best can to account for the strengths and weaknesses of the data available and the objectives across participants in forest industry markets.

From the macroeconomic perspective, housing starts critically affect timber forecasts.   Increased home building leads to periods of strengthening stumpage prices through growing demand for lumber and other building products.  The buying and building of new homes also fuels spending on wood products such as cabinets, furniture and hardwood floors.   Ultimately, however, our primary interest is the movement of stumpage prices in each local market as it plays out its role in satisfying national and export markets for forest products and wood bioenergy.

Every six months, Forisk builds a composite housing starts outlook based on publicly-available, independent forecasts from professionals in the housing industry.  These include Fannie Mae, Freddie Mac, Mesirow Financial and the National Association of Home Builders (NAHB), as well as long-term assumptions from the Energy Information Administration’s (EIA) model of the US economy (Figure 1).

20130220 Forisk Forecast_Housing

Our 2013 Base Case peaks at 1.75 million housing starts in 2018.  For comparison, our Mid-Year 2012 Base Case peaked at 1.78 million housing starts in 2017.  Overall, housing has recovered a bit quicker than forecasted in 2012 with the expectation of a slightly flatter, long-term trend.  In this Composite Outlook, the primary source of sensitivity with respect to lumber demand is the assumed single-to-multi-family housing mix.

To learn more about the 2013 Forisk Forecast or Forisk’s market-specific stumpage forecasts tailored to individual wood-using facilities or timberland ownerships, contact Brooks Mendell at bmendell@forisk.com, 770.725.8447. 





Thoughts on Forecasting Timber Prices

17 02 2013

Forecasting timber (stumpage) prices and wood demand relies primarily on the manipulation of historical data and relationships to assess future scenarios and prices.  While the statistical techniques are somewhat agnostic, the development and application of relevant forecasts requires judgment.  How? Context and experience help determine which data may or may not be relevant, what scenarios may or may not reflect reality on the ground, and on what critical assumptions we depend to realize or negate our view of the future.  In sum, stumpage forecasts combine statistics with the smell of sawdust.

Generally, a purely data-driven, “built-in-a-vacuum” forecast that relies solely on historical information assumes a future that reflects the past and differs only by the specific variables of interest.  It sets aside data inconsistencies, technology shifts, demographic preferences and emerging markets.  However, the world of timber prices evolves, adapts and swerves.

For example, in our forecast of pine pulpwood stumpage prices in the U.S. South, we rely heavily on historic macro and micro factors to establish the baselines by state and region.  However, wood bioenergy markets lack the history to influence the price forecast in this way.  So we develop a separate view, based on how we understand demand to affect prices locally, and layer this into the forecast using a combination of quantitative analysis and experiential judgment.  We supplement the effort with multiple tests and scenarios.  Every six months, we rebuild our forecast models and review, test and reconsider scenarios and assumptions.  (After which we toast the gods and have a drink.  Wouldn’t you?) Generally, the amount of testing and supplemental judgment is inversely proportional to the amount and depth of historic data available.

In our business, we analyze markets and advise management on capital allocation for timber-related and wood-using assets. Our views on timber markets and modeling prices must be transparent, coherent and integrated. Models need flexibility and transparency to deal with questions, potential errors and new information. To quote Mellody Hobson, the president of Ariel Investments in Chicago, “If you have a problem, the only way to fix it is if you have a process you can dissect, so that when something is missed you can go back to your source document.”





How Financing Signals Viability and Risk for Wood Bioenergy Projects

6 02 2013

This post summarizes research from the January 2013 edition of Wood Bioenergy US (WBUS).

Viable wood bioenergy projects can secure competitive financing.  In U.S. capital markets, primary sources of financing for these projects include private equity, project finance, grants, loans and bond issuances.  Decreased availability of financing represents one of the top three responses – along with legislative uncertainty and low natural gas prices – from managers of idled or failed wood bioenergy projects tracked by Forisk from 2009 through 2012.  Bioenergy plants must compete with other bioenergy projects for financing, as well as with projects of all types in different industries. Of the 164 projects that fail Forisk’s viability screening, at least 41% explicitly lack sufficient access to capital to advance towards construction.

Figure:
Reasons Announced Wood Bioenergy Projects Fail Viability Screening

20130206 wood bioenergy

Recent announcements regarding financing for projects indicate how investors view different bioenergy technologies and markets.  Financing cannot be ordered at the drive-thru window. The ability to secure financing from a lender indicates some level of confidence and manageable risk in the eyes of investors.  It requires project developers to demonstrate a robust business model or ongoing concern with a proven track record.  For wood bioenergy projects with unproven technologies, developers must turn to government funding sources or to private equity investors with appetites for higher risk.  The wood pellet industry, while facing uncertain growth, has established its viability; a track record of operational success is the best proof of creditworthiness, affirmed by the sector’s access to cheaper, traditional debt financing. Cellulosic ethanol and other biofuel projects remain high risk with a challenging road to commercialization.  These projects rely on government funding, such as programs through the Department of Defense, and costly private equity.

WBUS Market Update:  As of January 2013, WBUS counts 461 announced and operating wood bioenergy projects in the U.S. with total, potential wood use of 132.9 million tons per year by 2023.  Based on Forisk analysis, 296 projects representing potential wood use of 76.2 million tons per year pass basic viability screening.  To download the free WBUS summary, click here.





Forest Finance: “Drive-By” Timberland Valuations

3 02 2013

Want a simple method for valuing stocks and income earning real estate or timberland?  Consider the Dividend Discount Model by dividing next year’s income, assuming it will be earned annually in perpetuity, by a constant discount rate or cost of equity.

20130203 Forest Finance figure 1

For example, assume that Forisk stock pays $1.00 per share annually in perpetuity.  How much would you be willing to pay per share if you required a 10% rate of return?  According to the Dividend Discount Model, you would pay $10 per share.

20130203 Forest Finance figure 2

If we think about this model with forestry investments in mind, assume a timberland ownership generates $100 of net income per acre per year.  Applying a 6% discount rate in the Dividend Discount Model ($100/6%) gives a valuation of $1,667 per acre.  For those of us in timber, we can see that this approach gets us “in the ballpark” and provides a simple approach for “drive-by” valuations…..

Click here to register for “Applied Forest Finance” on February 7th in Atlanta, Georgia.  The course details necessary skills and common errors associated with the financial and risk analysis of forestry-related investments. Registration includes copies of our “Forest Finance Simplified” handbook.