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MUDDLED INVESTMENT ANALYSIS AND YESTERDAY'S SCIENCE ARE SHOOTING FORESTERS IN THE FOOT

Today's frequent demands that foresters, who are alleged to be skilled only in producing timber products, should surrender the management of forests to persons who are more sensitive to modern needs largely arise from failure to appreciate what tremendous scientific and technical gains foresters have made in the past decade and what economic powerhouses they can create. Unfortunately, many foresters, whose contributions are thereby denigrated, are not helping at all. Their published papers, and the later recommendations of others who cite them, go a long way toward proving that foresters do a poor job of producing income and might as well turn the forests over to others whose primary interest are esthetics, recreation, or wildlife. In other words, by failing in their professional journals to give a true picture of their abilities, foresters are shooting themselves in the foot.

To illustrate our point, we cite an article in the August 1991 issue of Southern Journal of Applied Forestry: "Economic Comparison of Natural and Planted Regeneration of Loblolly Pine" by Drs. Coleman W. Dangerfield, Jr. and M. Boyd Edwards. There have been other articles with similar messages; this one just happened to come in our most recent mail. We don't quarrel with the diligence, knowledge, and integrity of the authors. But an analysis of their conclusions by a practical investor reveals that natural regeneration of loblolly pine, which they spoke kind words about, is a poor investment today and may have been a poor investment back in 1982.

After harvesting most of the timber from the study area in 1982, they began natural regeneration with four treatments: seed tree, seed tree-burn, shelterwood, and shelterwood-burn. They evaluated the trees left standing in 1982 by measuring the volume and then applying the value for Piedmont timber at that time ($81.36 per MBF). In 1987 they measured the living trees and applied the value for Piedmont timber at that time ($108.88 per MBF). Then they calculated the annual, compound, internal rate of return (IRR) for these trees over the five-year period to be the following percentages:

As a result of these calculations they stated, "The seed trees and shelterwood trees are a profitable enterprise and have an attractive IRR." Two points should be made in connection with this statement.

One is that a price increase of 33.8% (from $81.36 to $108.88) makes up about one-third to one-half of total return; therefore, much of the return came from speculation in the timber market and not from forest management or growth. Forest managers deserve no credit for events over which they have no control; such a tract located in central Louisiana instead of the Georgia Piedmont would have shown a large price decrease during these years. The market risk is large, and no investor can dodge it; consequently, forestry investments won't receive wide support until they earn adequate returns without price increases.

Two is that whether an IRR is attractive depends upon what alternative investments were available. The prime interest rate, the shorterm rate charged by banks on loans to their most creditworthy customers, can usually be earned by individual investors, so let's contrast the amounts earned by $100 invested at the prime rate with that of the highest rate above:

As you can see, even with the windfall profit earned in speculation, the landowner would have been better off, right up to the last moment, to sell out and invest in financial instruments. If market prices had fallen, the seed-tree investment would have been decidedly unattractive.

The natural-regeneration option is touted by many commentators as being less capital-intensive, but there is a good chance that it might not be. The smallest total value remaining in seed trees in 1982 was $496.21 per acre (shelterwood trees were worth $1,016.54 per acre), and this amount was tied up for five years. Site preparation and planting were estimated to cost only $160 per acre, so if anything bad (windstorm, insect attack, market drops) happened to the big trees, the capital cost of natural regeneration would have been much higher.

The value of the land on which these trees stood is considered nowhere in the article; since they intended only to compare the two means of regeneration, the authors excluded it. You might, however, ask the question. "If you can't justify keeping the land under them, what difference does it make what the trees produce? "Any private landowner, when faced with such a decision, would ask, "What is the total value of my property now, and what will it be later if I do what you recommend?" In other words, all landowners insist on including land values in such calculations. If the land in this case had any value at all, say $50 to $250 per acre, it would not increase in volume or value over the period, so IRR on the total investment would be even less than the mediocre figures shown above.

The authors also calculated IRRs for one rotation of natural and planted stands to be 10.8% and 10.1%. It would be interesting to know how much these rates would be reduced if land values had been included. All of this is what we mean by muddled investment analysis.

The greatest damage that foresters do to their case, however, is by using yesterday's science. In addition to the predictions described above, Dangerfield and Edwards contrasted the results obtained in the 30-year growth of a stand from natural reproduction with those from a site-prepared, planted stand. They predicted product yields using the microcomputer programs YIELDplus (v1.1c) (Hepp 1988).

We don't quarrel with the accuracy of either of these models and suspect that the one for natural stands is the best obtainable. But every model is the captive of its data base; it can predict for the future only the results achieved in the past by trees in its data base. The model they used for planted stands is based on plantations established 15 or more years ago according to techniques available at the time, in other words, yesterday's science. Subsequent experience has taught us that many of these techniques produced results that were little better than natural stands.

Such plantations received no benefits from the tremendous increases resulting from cultural treatments developed since then, particularly in the last decade. Increase from genetic improvement and herbicidal control of competing vegetation have been widely publicized, but almost as important have been those from wider spacing in plantations and use of large-caliper seedlings grown at wide spacing in the nursery.

The greatest benefit of plantations derives from the manager's ability at all times to control competition between the trees in them; since loblolly pine seedlings are world-class competitors, they will seriously reduce each other's growth if allowed to bump heads from the word go. In spite of the managers' wishes, the natural stands used in the study contained thousands of seedlings per acre because they developed according to Mother Nature's methods, so the authors did what they could to reduce the number to 1,000. On the other hand, they stated, "The surviving planted stand density was set at 918 trees per acre to match stand density of the natural stand. "This means that, in order to duplicate the great disadvantage of natural regeneration, they threw away at the outset the greatest plus of plantation forestry. Would an investor ever do this?

The dollar yields from modern plantations often seem incredibly large to those accustomed to managing natural stands. The net present value of one rotation of these plantations, which is the approximate amount that can be paid for the bare land under them, is usually higher than that under natural stands, not by 10% to 15%, but by 100% to 200% or more. The profits earned by those who convert to planted stands are very large; the process changes bare land value from perhaps $100 to $200 per acre to $400 or $600. Consequently, those who seek to promote natural-stand management because of esthetics or other reasons are not asking landowners for minor concessions; they are recommending a practice that will reduce values by $200 to $400 per acre. Since this is impossible to justify in the real world, these persons must continually emphasize the great value of non-economic goods, apologize for forestry, beg for government subsidies, or watch timberland be converted to more profitable uses.

The modern techniques mentioned above are in no way mysterious. All have been thoroughly tested and widely reported in the literature. The only trouble with them is that usually each has been reported separately, and nowhere that we know of has the impact of all of them working together been written about. This being the case, in 1990 we convened a panel of the following experts, one for each practice: Michael S. Waxler, Southern Tree Improvement Manager, Weyerhaeuser Company, Professors Harold E. Burkhart and Shephard M. Zedaker of Virginia Tech, Professors David B. South and John I. Blake of Auburn University, and Professor Phillip M. Dougherty, then of University of Georgia. After each presented papers on his specialty and was questioned by about 50 timber owners and managers, we cross-examined the panel as a group in order to determine their professional opinions about the impact of each practice working as part of the whole. Discussion was spirited, and opinions were not unanimous. Nevertheless, there had to be a single answer to each question, so we decided which answer was supported by the preponderance of evidence and opinion.

This method led to formation of the Vardaman 1990 Hypothesis as set forth below: