VARDAMAN VIRTUAL FORESTRY COMPANY

THE IRR FROM YOUR TIMBER TRACT AND THOSE FROM OTHER INVESTMENTS

In today’s world the owner of every economic asset must use it to produce enough income to pay for the benefits he receives from society.  In the case of timberland in SE U.S., he generally must pay his share of the cost of county roads and the education of its young children.  If he decides to mow his tract so that it provides nothing but superb observation of the yearly activities of meadowlarks and other grassland birds, he must pay his road and education bills from other income, or the county will take title to his land.

Last week in the last issue of its 157^th year, The Economist (our favorite magazine) reported these real average annual returns from U.S. investments for the last two decades:

	Equities	Bonds	Cash
1981-1990	7.9	8.8	3.9
1991-2000	14.1	7.1	1.9

The article goes on to give “the classic formula that explains the underlying value of a share…It is known as

the dividend-discount model…A share is worth the sum of all its prospective dividend payments, discounted back to their net present value.”  We used this method in calculating the IRR of an investment in the “13.5% Beauty” offered two weeks ago.  We listed all prospective plus or minus cash flows and then calculated the return instead of the net present value under a selected discount rate.  One calculation sufficed for Beauty because the trees utilize every acre (even the access roads cross another owner), and there is no original land purchase (it’s much cheaper to lease than to buy).

What is the IRR of Your Tract?

Beauty is 100% timber, and thus evaluation requires a single calculation.  If your tract is like almost all others, however, the job will require evaluation of several components.  How to appraise loblolly pine plantations is explained in http://www.vardaman.com/greensheets/ftif.htm  Natural stands of all ages will require an inventory and growth study, as explained in Chapter 7 of JMV’s book.  Bare land can probably be evaluated from sale results posted on www.se-timbersales.com.  The land value of idle acres in roads, ROW’s, house sites, ponds, stream buffers, food patches, etc., must be include in invested capital, for we are searching for IRR on the total investment.

When this process is complete, you may be disappointed in the IRR; many owners get a shock when first exposed to the power of compound interest.  (Results of a similar analysis have recently caused several big timber companies to sell their lands to investors with lower expectations.)  For owners of less than 500 acres, the escape route from a low IRR is sale to affluent weekenders from nearby towns.  If SI-25 is high enough, switching from natural stands to plantations is usually a winner.  Fertilization may help.  We will be happy to help you explore these opportunities without charge.

Opportunities to switch from low-yielding tracts of mixed uses into high-yielding tracts like Beauty are abundant in all states.  Many acres now in pastures or row crops have SI-25 of 80, adjoin public roads, and can be precisely located by GPS survey.  Investors in modern pine plantations can pay the owner much more in annual rentals than he can earn in regular agriculture.  The after-tax yield from them is even higher because some of the annual costs are deductible and all of the profits are taxed as long-term gains.  Some of these are posted on www.se-timbersales.com; we’ll be happy to show others to you.