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Monday, August 12, 2013 Beverly Chandler, Opalesque London: Interviewed for Opalesque Radio by Sona Blessing, Mark Wills, Managing Director, Sustainable Asset Management told of his two decades of experience in the world of banking and financial services. Amongst other companies, he has worked at Royal Bank of Scotland’s private banking division, specialising in tax planning and portfolio management for high net worth investors and he was also responsible for co-establishing International Financial Services in Singapore. In this podcast entitled From Soil to Oil, Wills elaborates on how and why he thinks investors with a shorter timeframe can still invest in timber, as an asset class, that generates a conservative annualised ROI of 14%. Asked to explain the difference between investing in timber, as opposed to timberland, Wills said: “Timber as an asset class is growing in popularity amongst informed investors. This interest has certainly been more pronounced and can be partially traced back to the negative experiences made during the global financial crisis. Since, investors have and are increasingly looking to diversify into real-tangible assets such as Timberland. Forestry per say, as an investment class, offers limited correlation to market led investments; diversification, as a defensive component of an investment portfolio; a hedge against inflation and it is less susceptible to the effect of shifts in interest rates and political change and the do good and feel good factor – i.e. it is socially responsible and a renewable resource.” Wills explained that some investors perceive the timeline for forestry investments as being long and, he commented, it’s true, it can be as long as 10-20 years, depending on the species being cultivated. “However the timeline can be dramatically shortened if the species of tree invested in – is specifically designed and subject to a process that optimises its inherent value. The tree and therefore the investment is not just dependent on its organic growth. One such species is the Aquilaria tree, a critically endangered tropical soft wood indigenous to South East Asia.” This particular tree is regarded, by some, as the most valuable wood in the world due to its ability to produce a highly sought after commodity known as Agarwood. “The process the tree goes through for it to be able to produce Agarwood means that the tree is not reliant on just organic growth to provide returns. The timeline for investment in both the growth of tree and the process is shortened to seven years. Relatively short in the context of forestry standards” Wills explained. In order to make plantations of Aquilaria financially viable, the plantation owner provides a complete care package for the investor incorporating the entire soil to oil process. “The investor participates by buying sapling Aquilaria trees that are initially cultivated in the plantation nursery and then replanted on the plantation. The plantation allocates one out of every three trees it plants/owns for investors, which means that the same process of cultivation; husbandry, security and maintenance is afforded to all trees grown on the plantation whether owned by the investor or by the plantation owner themselves.” Once the tree reaches a certain age, usually five years, the tree is ready for innoculation whereby an organic compound is administered into the tree at multiple points to induce a natural biological defensive reaction. This natural reaction causes the normally white wood of the tree to become discoloured, resinous and fragrant and this is called Agarwood. “This natural biological reaction; which in the wild could take from between 10-20 years, on plantations takes between 12-18 months to create sufficient commercially viable quantities of Agarwood. The trees are then harvested and processed at a production plant, where by the infected Agarwood is separated from the uninfected white wood. Oil is distilled from the infected wood and sold on the open market thus generating returns for the investor based on the price the oil is sold for.” Terms for investing in Agarwood include that the investor agrees to purchase the saplings at a fixed price and the plantation owner agrees to manage the entire growth and management process from soil to oil. “Investors are invited to the plantations to see their trees any time they wish. The investor also has the market price of the oil underpinned by a minimum buy back, specified in the SPA. The oil will be sold at market price and the investor will receive market price or the minimum buy back price whichever is higher.” The returns investors can expect range from 14% upwards and currently range around 17-19%. Although the harvest cycle is short, the growth of the tree takes place over a five year period prior to that. The trees are intercropped with complimentary species, that add nutrients to the soil and additionally organic fertilisers are used to aid the growth of the tree. Once the plantation is harvested, the plantation will be agronomically assessed for suitability of replanting. Wills explained how this process compares with investing in hardwood. “Teak is a tropical hardwood as opposed to a softwood like Aquilaria. Teak’s appeal is for its durability and high quality finish. Whilst its uses are varied, from furniture to boat building, its uses are all very similar. Aquilaria because of the process it has to go through to attain its value, has a more diverse range of commercial applications and therefore a wider range of end market opportunities. A crucial differentiator is the longer investment time horizon of 20-25 years that investing in Teak entails. In contrast, because of the process the Aquilaria tree goes through in its natural state, as an investment – its cash-flow/revenue generating ability is considerably shortened.” Wills’ firm, Sustainable Asset Management, currently has 5,000 acres of plantation in Sri Lanka and approximately 1,000 acres in Thailand plus a large land bank in hand for continued planting. “The new plantation focus is on Thailand as we believe, it offers a conducive biological environment. The plantations are located all over Thailand to manage the risk of natural disaster. Whilst fires are unlikely in tropical conditions unless deliberately started; ensuring the plantation assets are located all over Thailand helps us better manage such risk. Further, extensive due diligence is undertaken on each plantation location to ensure that the land does not fall within in the range of a flood plain. In the floods experienced by Thailand in of 2011 – none of the Aquilaria plantations were affected.” Because Agarwood has many applications, the end product determines what price it can be sold for. “For example: Agarwood oil/Oudh prices range from $15,000 – 80,000 per litre. Agarwood chips, average quality $1,000 per KG and Agarwood sculptures – rare pieces of wood infused with the mould tend to fetch $1.5 – 2m per KG and earlier this year a rare piece of 600 year old Agarwood sold for $20m.” The potential risk to the investor of investing in plantations is managed two ways in the plantation business. First risk is loss of stock, which is protected by extensive buffer stock (roughly three times the size of existing investor stock). The trees are replaced for investors if affected by theft, natural disasters and disease, for example, Wills explained. “Downside market price risk is protected by offering the investor an underpin on oil prices It is however an investment in ‘nature’ and as such there will be some degree of unpredictability. However as a plantation business, it is our role to ensure that we manage the risk of that unpredictability and we are able to do this because of our scale.” Wills explained that while there are other participants in the market, their involvement tends to be at different points in the value chain. He said: “Few participants have a complete end to end market value proposition. By this I mean there are other Aquilaria plantation owners, but few have the capacity and know how to be able inoculate and process the trees into Agarwood. Those that do are considerably smaller in size. As far as land rights are concerned, we wholly own the land on which we plant. The forestry industry in Thailand receives Royal patronage and we have developed a close relationship with the local authorities as well as the Royal household through investment initiatives into the local community with socially responsible activities such as investing in schools, sponsoring villages as well as a range of other activities designed to help develop rural areas in Thailand”. You can listen to Sona Blessing’s Opalesque Radio podcast entitled From Soil to Oil here. Continue reading →