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Are forestry stocks out of the woods?

The US housing slowdown may be a blow to lumber companies, but this advisory sees some promising timber in Canada and Australia.

Forestry stocks have been the poor relations of the great commodities boom of the past few years. Between Canada’s struggles in the softwood lumber dispute and the fall-off in U.S. housing activity, there’s been a lot to keep investors away from companies that make their living from wood.

One U.S. advisory has a different point of view. Writing in Personal Finance, Mr. Neil George begins his argument with a golf analogy and concludes by recommending a couple of Canadian trusts (and one Aussie firm). We’ll get to those picks in a moment. First, let’s check the clubs in the author’s golf bag.

He points out that the woods in the bag are not wood — “not a branch was harmed to forge my driver or fairway woods. The materials in my clubs would better serve me for a hip replacement than for kindling or toothpicks.”

Of course, the club manufacturers’ switch to metals didn’t exactly bring the forestry industry to its knees (any more than the switch to graphite hockey sticks did). But the analogy holds. Wall Street’s warning, says Mr. George, is: “Stay away from wood, and go with something more high-tech.”

Wood’s not just a U.S. thing

Wood, adds Mr. George, has gotten a bad name over the past several months (and for quite a big longer than that in Canada). “Investors are in a near panic over the slowdown in U.S. homebuilding activity and the decreased appetite for wood.”

But the analyst isn’t convinced. It’s not just about American needs, he says. “Lumber isn’t just a U.S. thing, nor are housing, paper production, fencing materials or even shipping pallets.” The rest of the world’s demands are considerable, and growing.

“In fact, timber firms in Europe or Asia will take every tree-turned-two-by-four that they can get their hands on and turn it into a pile of shiny euros or renminbis.” Demand is up, supply is confined to certain regions and prices are going up.

“So forget the guys in Chicago,” says Mr. George, “and look to the guys in Sydney, Shanghai and Toronto.”

Cashing in on global warming

In those markets, prices have soared by over 40 per cent since last year. While U.S. lumber futures are falling (as an accompanying chart demonstrates), “the world is buying as much wood as it can from those willing and able to ship where demand is growing.”

Then there’s global warming. Can’t avoid it these days, it seems. But the way Mr. George frames his argument, global warming works in favour of the forest industry.

“Trees are viewed as another means of cashing in on the whole carbon credit, cap-and-trade scheme.” Trees, of course, take in carbon dioxide and release oxygen. “If you produce carbon, you can buy or plant trees to get the offset — or, more accurately, a tidy profit.”

Trees can also work against global warming if they’re planted in the wrong areas, and especially when they’re cut down (releasing tons of carbon dioxide).

“But these bits are irrelevant to the big business of being pro-warming,” claims Mr. George. “So grow a tree, get cash now, and get even more as that tree is turned into two-by-fours.”

Somehow, we feel that Greenpeace won’t be entirely happy with that sentiment, but that’s another debate for another day.

Timber and the trust tax

“A collection of interesting companies drawn from around the world is emerging ... to cash in on both the lumber as well as the warming cash bonanza,” says Mr. George.
We’ll start at home, where Canada “has vast commercial forestry operations and is well set to cash in on both Asian wood demand and burgeoning carbon credit cash.” But he does not turn to any of the historic names in Canadian forestry. His two picks are trusts.

TimberWest Forest Corp. (TSX-TWF.UN; OTC-TWTUF) actually trades as an Income Deposit Security-style share that is part stock and part bond. That means it “isn’t threatened by the minority Conservative government’s income trust tax proposal, and it pays a fat, 6 per cent distribution.” The trust also trades on the Over the Counter Board in New York; he recommends it under 18. At the close of the week’s trading it stood at $15.47 in New York, $16.20 in Toronto.

Acadian Timber Income Fund (TSX-ADN.UN) is another lumber company “with a plan to get out from under the trust tax fiasco.” It intends to transform itself into two companies. The first is a partnership based around Acadian’s U.S.-based assets. “A good chunk of its revenues would be out of Ottawa’s reach.” The second part of this ingenious plan would create a real estate investment trust (REIT), which would be exempt from the trust tax rules as long as it met the Canadian property revenue rules. Mr. George likes this trust under 14. In ended the week trading at $11.02 on the TSX.

Far away and down under, he also likes Great Southern Plantations (OTC-GSPLF) of Australia. This company doesn’t actually buy and operate lands; it packages land into projects that are sold to investors.

Shares are sold to larger investors through a network of financial advisors. Originally founded to invest in timber-producing lands, it now holds many agricultural properties, including farmland, vineyards and livestock plantations. Its dividend yield is healthy at over 5 per cent. He likes the shares up to 2.50. At week’s end, they were $2.20 on the Over the Counter board.

Mr. George makes an intriguing case for the timber industry. Perhaps Asian demand and carbon credits will allow it to once again stand tall alongside all those other commodities that have been riding a boom.

We do diverge with him on one point however. We have seen people try to turn a 3-wood into kindling ... it’s not a pretty sight.