While many readers of financial sites like Seeking Alpha have never chopped down a tree and bucked it up for firewood, the fact remains that investing in timberland has proven to be a fairly successful strategy over the past several hundred years. Some of the wealthiest European families and well-heeled investors in the States turn to forested land as their investment of choice because land is a good hedge against inflation, population growth, resource constraints, raw materials inflation, etc.
If timber itself is undervalued due to a slow real estate market, firewood remains a potential liquid source of income because of rising gasoline and heating oil prices. Firewood is much more efficient than heating oil, and if timberland is properly managed, a sustainable fuel wood yield can be relied on for income year in and year out. Of course, that means ditching your starched shirt and Brioni suit in exchange for work gloves and a chainsaw, but maybe some exercise and fresh air will have positive side effects.
In all, timber investing works something like this: Land should be purchased at the lowest price possible and should produce a 2% per annum return as simply an inflation hedge (you can't print land). The timber itself should grow at 12% per year. If you cut only 5% of your total stock every year, that income can be used to pay taxes and overhead costs while you collect your 5%-8% per annum yield from your forest growth and the appreciation you gain with inflation. Timber itself is a raw material that rises in price because of inflation, or the creation of more paper money. Stocks are also thought to be a good hedge against inflation. Let's look at some of the biggest public lumber companies and try to get a sense of whether we can buy these stocks for reasonable prices or not. Certainly, we think timberland is a good investment anywhere around the $2,000 per acre or lower price level. Keep in mind, many tracts of land have improvements or potential for other uses (carbon tax credits, conservation easements, tourism, eco-tourism, etc.) that could be much more valuable than simply the cordwood or lumber value of the trees, not to mention the fact that conservationists sleep much better than slash-and-burn clear cutters.
In another sense, forests and their trees have value to all of us as the natural carbon cleansers that keep our atmosphere free of greenhouse gases that are clearly causing widespread global warming throughout the planet. In this sense, buying timberland as an investment but preserving the forest for the betterment of the environment may be one of the best ways to put your savings to work while looking out for Mother Earth. You might end up making more money by sucking carbon out of the air with your timber than you will by chopping it down and sending it to the local pulp mill.
The No. 1 way to invest in timber is to buy private timberland. Here are three other ways to become an owner of timber businesses for those who look at trees and simply see dollar signs:
Potlatch (NASDAQ:PCH): Potlatch's business consists of owning land and engaging in the harvest of timber. Owning land is one of the least volatile business ventures, and PCH seems to be a decent investment when adjusted for business risk because the stock looks quite cheap as an asset play. Timberland should fetch roughly $2,000 per acre in our view, and PCH's 1.43 million acres of timber property in four states -- including Minnesota, Idaho, and Arkansas -- is valued around $1,000 an acre by the stock market. Keep in mind it is the expected future cash flows of the land discounted to a present value that most analysts use to value this company and from a free cash flow perspective the shares seem more reasonably valued with a 3%-5% yearly free cash flow yield. Still, this type of return is reasonable considering the value of the actual land is your margin of safety and considering that treasuries pay next to nothing and aren't secured by physical assets like trees and dirt. In all, you can't live in your Apple investment, but you can always build a cabin on forested lands.
Plum Creek Timber (NYSE:PCL): Plum Creek has a slightly better free cash flow yield of around 4%-6% and the land here is selling at around the same $1,000 per acre price tag. With a $6.5 billion market cap and 6.6 million acres of timberland, the math is pretty easy to figure out -- PCL is also an asset play that pays investors to wait. While PCH is cheap, PCL may be the better run organization -- the company boasts being the "largest and most geographically diverse private landowner in the nation." Plum Creek has done a good job of paying out dividends while working toward maximizing shareholder value. Managing land consistent with environmental best practices seems to be its M.O.; however, many stakeholders are sure to argue otherwise.
Weyerhaeuser (NYSE:WY): This company is another way to play the rebound in wood products, but because the stock has had a monster run of late and is up 100% or so over the past year, we will have to kick the tires a little more than we would like. The blistering pace of share appreciation has left shares more fairly valued than PCL or PCH, but the stock is not expensive by industry multiples. Weyerhaeuser owns around 6.5 million acres of forest land and leases another 14 million acres of forest land from the government. This makes WY a tricky stock to play because as an asset play, the leases have value (say 1,000 an acre) and the owned assets have value. The market is essentially paying fair value ($2,000 an acre) for the company owned land (6.5 million acres) and nothing for the leased land. We think the leases hold a ton of potential value and if these assets are unlocked, the shares of WY have further to run. That being said, this is now a "political risk" issue for the stock and therefore makes the WY investment process more difficult to grasp. WY is trading for just 3 times book value, an EV/EBITDA of only 15 times, and spits out a solid 2.50% dividend yield. For our dollar, yield is yield so we prefer PCL to WY at current prices. Once we learn more about the leased assets, we can try to put a price tag on WY's fair value. For now, the picture is too murky.
Disclosure: I am long timberland. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.