Investment: Forestry

Money really can grow on trees

Merryn Somerset Webb

24 February 2007

Until a few years ago, British forestry was usually seen as just another way for the market to separate fools from their money: timber prices had been in freefall for years thanks to cheap imports from Scandinavia and Eastern Europe and a fall in domestic processing capacity. They have been recovering slowly (up 13 per cent in the last three years according to the FIM Timber Index) but even now are still only half of their 1996 prices. But that shouldn’t last long, because the timber story is no different in essence to every other commodity story you’ve heard over the last five years: limited supply meets rapacious demand. As China and India continue to grow, they’re going to need a lot of timber — for houses, for furniture, for newspapers, for books, for restaurant menus. Anything that we use wood for, they’re going to want it for too — and Asian demand will drive global prices.

Elsewhere, trees are also coming into their own as a renewable biofuel — a fact that plays strongly to Britain’s new obsession with green energy. Plans are afoot for a large number of biomass projects that would create domestic demand for huge quantities of low-quality timber converted into pellets to burn. Three are already under construction.

So the timber price is rising globally. That’s good for investors. But there’s more to forestry investment than just that. The value of forestry land itself is also rising. Just as the price of agricultural land no longer relates to the yield you might get from planting cabbages on it, the price of an acre of woodland is slowly divorcing from the yield you get from selling the spruce you grow on it. People buy in the expectation of making capital gains from the land, just for the pleasure of owning it or — and in modern Britain this is the most compelling of reasons — for the tax breaks. The fact is that buying forestry is one of the few legal tax dodges we have left. Commercially managed woodland can be handed on free of inheritance tax after being owned for only two years; it attracts no capital gains tax; and there is no income or corporation tax payable on any income you derive from it. So a return of 5 per cent on the investment is the equivalent of 8.33 per cent to a higher-rate taxpayer; a 6 per cent return would be worth 10 per cent. At current prices, forestry management group Fountains anticipates that new timber investors should see returns of 5 per cent before tax perks. But if both timber and land prices rise further (which it seems reasonable to suppose, given strong demand and the easy tax regime) the returns will clearly be higher. One way or another, timber seems to have it all — rising prices, tax breaks, a connection to China and commodities, even a touch of the romance of nature. You don’t get all that with private equity.