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1. Introduction to Forestry and Wood-Based Products
Companies with vertically integrated operations starting with forestry and extending further into the value chain up to the production of secondary products and other wood-based products are somewhat special because they are large forest owners, have a direct impact on how forests are managed, and at the same time integrate their forestry operations into a more complex value chain that may include both durable wood products and shorter-lifecycle products such as fiber packaging (see Figure 1 for a highly simplified overview). There are three companies that fall within this category, and they are all European:
- Stora Enso, a Finnish timber company that counts as one of the world’s largest private forest owners, with 2m hectares of forest in Northern Europe, China and Latin America.
- Holmen, a Swedish timber company that owns ca. 1m hectares of forest in Sweden.
- Svenska Cellulosa, a Swedish timber company that counts as the largest private forest owner in Europe with 2.7m hectares of land (2.1m productive forest) predominantly in Sweden.
While for reporting purposes we don’t classify it as an integrated forestry and wood-based products company – the size of its forest assets relative to total assets is below our threshold – the Finnish company UPM-Kymmene deserves to be mentioned and will be included in the analysis: it has significant direct forest holdings in and outside of Europe and is engaged in a variety of sub-sectors through vertical integration.
Figure 1: simplified value chain of integrated forestry and wood-based products companies. Source: Timber Finance.
Across companies, the product segment exposure can vary significantly. As evident in Figure 2, we go from companies such as Svenska Cellulosa that have a balanced mix of pulp, paperboard (more specifically Kraftliner, used as a cover for Containerboard) and durable wood products (sawtimber and other construction applications) to companies such as UPM-Kymmene with a clear focus on pulp and paper and only a minor presence in durable wood products (in particular plywood).
Figure 2: Segment breakdown of external sales. Note that companies report segment revenues according to their own, differing categorisations that were then aggregated. Source: company annual reports.
2. Profitability Profile
These integrated companies sell products in sectors with different cyclicality characteristics: from wood products used in the construction industry to packaging solutions used in the food & beverage sector. Overall, profitability remains cyclical, as evident in Figure 3 from the strongly expanding operating profit margins from the global economic crisis period of 2007-2009 to the more recent expansionary and inflationary 2020-2022 period. Interestingly, at first sight, return on capital has been rather stable – as earnings grew over the cycle, so did the value of the companies’ forest assets, not only driven by an increase in the market price of the forests, but also by valuation and accounting methods. Because these companies have a large fixed-asset base – which includes their valuable forests – their return on capital is moderate, but as we discuss below, there is a strategic angle to consider as well.
Figure 3: Operating Margin and Return on Capital Employed in different economic phases. Sources: Bloomberg, companies’ reports, Timber Finance calculations.
In order to grow, with respect to the degree of vertical integration, forestry and wood-based products companies must either:
- Acquire additional productive and well-located forest assets, which is highly capital intensive and subject to significant availability constraints (“backwards integration”).
- Source their raw materials (logs, timber and fibre) externally, which reduces vertical integration.
- Sell higher value-added products and service that can demand higher prices and/or higher margins (“forward integration”).
Because of the vertical integration and the variety of different business areas, summarising profitability into an aggregate number (be it margin or return on capital) hides the very different characteristics of each business area – an analysis with segment-level granularity is provided below.
3. Business Models and the Value of the Forests
Integrated forestry and wood-based products companies can stabilise their margins at group level thanks to their vertical integration. Volatility in the price of timber required for the production of secondary products is absorbed, at least in part, by the forestry operations: when a company can source a large share of its timber supply from its own forests, the impact from higher log and timber prices gets netted at group level. When log and timber prices fall, forestry operations are less profitable, but wood products operations obtain raw materials at a lower cost. Figure 4 displays the evolution of Swedish roundwood and pulpwood prices. While they are less volatile than exchange-traded lumber prices, they still exhibit significant volatility.
Figure 4: Swedish average roundwood and pulpwood prices. Source: Skogsstyrelsen.
In a world characterised by supply chain issues, geopolitical tensions and sanctions, having control on raw material supplies can be valuable. The value of this control has to be offset against the large amounts of capital locked up in fixed assets that deliver low returns on capital. But unless one can sell the forest and guarantee supply through long-term harvesting contracts, it still makes strategic sense to keep a relatively low-return asset on the balance sheet. Also, compared to other industrial assets, forests grow and keep providing new raw materials; instead of rapidly depreciating, their value tends to be preserved or even grow over very long periods of time. Based on data published by Swedish Consultancy LRF Konsult and from company reports, Swedish forest prices went from around SEK 250/m3 in the early 2000s to around SEK 500/m3 in 2022, hence providing a low-single-digit annual return (ca. 3% p.a. in local currency). On top of this return, the forest biomass kept growing, was harvested, and delivered the essential raw material for industrial operations, generating cash flows. Over the period 2004-2022, Swedish forests delivered a compounded total return (appreciation, growth and harvesting cash flows) of ca. 8% p.a.
The forest assets held by the four companies analysed in this report are not homogeneous, as can be seen in Figure 5: while Holmen and Svenska Cellulosa’s forests are in Sweden, Stora Enso’s are located in Sweden, Finland (through its participation in Tornator), Latin America and China; UPM Kymmene’s forests are located predominantly in Finland and Uruguay.
Figure 5: Geographic breakdown of forest assets, growth and harvesting rates. Sources: company reports. Holmen forest growth rate, not reported, assumed to be comparable to Svenska Cellulosa’s.
The differences in the growth rates are connected with the geographic distribution of the forest assets. Different tree species and climate in Latin America, for example, boost the average annual growth rates of the forest portfolios with exposure to that region. Based on the numbers reported by the companies, we see that approximately two thirds of the growth is harvested, providing a buffer for the forests to regenerate.
Additionally, forest assets provide biomass that can also be used for energy purposes, providing strategic value with respect to energy security and energy price volatility. The environmental and sustainability aspects connected with this type of energy are discussed in chapter 5.
4. Business Models and Profitability
Given that integrated forestry companies comprise diverse businesses, investors should develop an understanding of each individual business and its specific profitability characteristics.
- Forestry is a highly capital-intensive, low-return business, due to the large asset base, the low harvesting yields and the limited value added. Hence, it provides low returns on capital employed and requires a very long-term orientation. For these reasons, forestry investments are similar to holding real estate in the long term.
- Paper & Pulp production are often grouped as a sector, but need to be differentiated: let us look at the differences when comparing Holmen to Svenska Cellulosa: Svenska Cellulosa has (now, after having discontinued its publication paper operations in 2021) a focus on pulp production, while Holmen is focused on paper (instead of pulp) production.
- Holmen produced 1 Mt of paper, and this required 1.9 SEKbn of capital employed for 8.4 SEKbn in sales.
- Svenska Cellulosa produced 0.9 Mt of pulp, requiring 9.1 SEKbn of capital employed for 7.2bn of sales.
The companies do not publish a breakdown of capital employed within each division (although it is great that they provide an overall capital employed number for each division), but the difference between the two, for comparable levels of revenue and production volumes, shows that paper & pulp are not the same business, even if they are often treated as one sub-sector.
- Wood products, thanks to the high demand and extraordinary market conditions in 2021-2022, tended to deliver strong margins and returns on capital (not only for integrated forestry companies). All four companies delivered mid-double-digit returns on capital in 2022, on average close to 50%, suggesting that cyclical strength was the key driver. As a comparison, in 2019 returns on capital were low-double-digit, around 13% on average.
- Paperboard & Packaging delivered on average in 2022 a ca. 20% return on capital employed across companies, with moderate cross-sectional variability, suggesting comparable competitive positions. The packaging business is less cyclical than the wood products business – Figure 6 shows the historical evolution over the last over 20 years of the production of packaging materials, pulp and certain wood products. The strong cyclicality of OSB, especially compared to pulp and packaging materials, is evident. As a comparison, average return on capital employed in 2019 was marginally lower than in 2022, at 17%.
Figure 6: Production in Europe and North America of selected wood-based products. Source: FAO.
In Figure 7 we can see how each company’s management allocated capital to the various business segments, with the Swedish companies having the majority of their capital locked in the forest and the Finnish ones having a much larger allocation to the industrial businesses.
Figure 7: Capital employed by segment. Sources: company reports.
Investors who look for a dominant exposure to forest assets in Europe via liquid, exchange-listed Instruments, should consider companies like Holmen and Svenska Cellulosa.
5. Sustainability and Environmental Impact
These integrated companies are particularly interesting from an impact measurement point of view, because they are well positioned to measure the total carbon flows from the beginning (carbon sequestration by the forest) until the end (carbon stored in products after emissions linked to the production and transportation of the end-products) of the value chain. They can give us an indication of how much carbon is sequestrated by trees compared to how much carbon is emitted at the operating level and ultimately stored in a diversified basket of wood-based products, from engineered wood products (EWPs) to paper and packaging.
5.1 Emission Intensity
The emissions profile of these integrated forestry companies is generally tilted towards biogenic emissions, in the sense that these companies cover a very large share of their energy consumption with biomass, also generated from logging residues and by-products from the manufacturing process. Biogenic energy in this context is widely deemed carbon neutral since the CO2 it emits was previously sequestrated and will be again through replanting and sustainable forestry. But it is also important to stress that burning biomass for which there would have been better, more durable uses, would be a waste, since CO2 is released back into the air immediately and regrowth takes decades – biogenic emissions are very real emissions in the present, even if they will be re-absorbed in the future. In an extreme case, it would be clearly unsustainable if just 1% of a harvested tree was transformed into a durable wood product, whereas 99% of it were to be burned.
Figure 8: Emissions profile and carbon intensity of revenues. Carbon intensity includes Scope 1, 2 and biogenic emissions (reported resp. estimated). Sources: companies’ reports, Timber Finance.
We see in Figure 8 how dominant biomass is, when considering the overall energy and emissions mix. The emission intensity of the four integrated companies varies significantly, from the lowest intensity of Holmen to UPM Kymmene’s carbon intensity which is one order of magnitude larger. Holmen’s relatively low emission intensity compared to its peers is driven by significantly lower Scope 1 emissions, despite an overall energy consumption in line with peer Svenska Cellulosa, which however has a large pulp business. Scope 3 emissions for Holmen are instead higher than for SCA, although this is not driven by purchased goods and services, rather by other Scope 3 components such as downstream transportation.
5.2 Carbon Balance
Integrated forestry companies provide one of the best real-life case-studies to analyse the carbon balance of an entire value chain, since they cover the whole carbon cycle, from the sequestration of CO2 in their forests, to the manufacturing process and its emissions, until final production when CO2 is stored in durable wood and other wood-based products.
Figure 9: Schematic representation of an integrated company’s carbon balance components.
In principle, the following components of the carbon balance can be identified – representing positive and negative effects on the balance from a system perspective, as well as transfers (see arrows) from one carbon pool to another:
Note that this view of the carbon balance does not yet include any substitution effects and should be not interpreted as an estimate of a company’s climate impact. Also, there is no single way of estimating such a balance based on available reported (and modelled) metrics. One approach (“Model #1” proposed here) could be to start from the sequestration and simply subtract emissions (including biogenic emissions from timber residues burnt), assuming that what is not burnt remains stored. This approach, however, would overestimate the storage capability of short-lifecycle products and would neglect losses in the manufacturing process other than reported bioenergy generation (e.g., landfilled residues. A simple fix to this issue (“Model #2”), would be to subtract harvests from sequestration, and add back storage in products (durable wood products and short-lifecycle products), and ignore biogenic emissions. If we subtract harvested volumes from sequestration and at the same time can ensure that we are accounting for any externally purchased biomass used for (internal) bioenergy generation (or externally purchased bioenergy), then we can leave biogenic emissions out of the equation. The other complexity is linked to the different storage quality between standing timber, durable wood products, and short-lifecycle products such as containerboard and paper and other packaging materials. Cutting down 60- to 100-year-old trees to store carbon in paper products with a lifecycle of, at best, a few months from production to disposal (think of food packaging) is sub-optimal from an environmental standpoint. While it may be argued that these products still provide some environmental value as they substitute plastics (fossil-based) and can be burnt for bioenergy, the best long-term carbon storage is provided by durable wood products with useful lives of several decades.
 With the added uncertainty about what happens with timber harvested but not used directly and rather sold, unprocessed, to other companies.
5.2.1 Carbon Balance Case Study
The carbon balance of Svenska Cellulosa (SCA) is provided in Figures 10a and 10b. SCA published in 2019, using 2017 numbers, a detailed methodology (less sophisticated than the one used by Stora Enso, based on 100-year simulations) with sufficient granularity to identify the various components of inputs and process outputs applied to two different models proposed here.
- Adds SCA’s sequestration numbers, applying a CO2 content of ca. 1.3 t CO2 for each m3 of standing timber growth;
- Subtracts SCA’s reported losses, with the same carbon density for consistency reasons;
- Adds procured timber, transforming the reported volumes into standing timber equivalent;
- Subtracts estimated losses from procured timber, using the same ratio of loss-to-harvest as for SCA’s own harvesting;
- Subtracts reported Scope 1, 2 and 3 emissions;
- Subtracts estimated direct biogenic emissions (the estimated numbers are consistent with the numbers reported in more recent reports);
- Subtracts estimated indirect biogenic emissions from the external sale of pellets and other biofuels;
- Ignores all other losses;
- Ignores substitution effects.
This leads to a total balance of 11.8 MMt of CO2-equivalent.
Figure 10a: CO2 balance of SCA including only sequestration and emissions and excluding harvesting (*Model #1”). Sources: SCA reports based on 2017 numbers, as per SCA methodology paper. Calculations by Timber Finance.
- Uses the same sequestration and loss numbers as Model #1;
- Subtracts harvested volumes (timber harvested by SCA, as reported, and estimated standing timber equivalent, based on reported procured volumes);
- Subtracts Scope 1, 2 and 3 emissions;
- Adds back CO2 stored in durable products, as reported by SCA;
- Adds back CO2 stored in short-lived products (pulp, paper, biofuels), as reported by SCA, without assigning any discount vs. durable wood products;
- Ignores substitution effects;
This leads to a total balance of 8.3 MMt of CO2-equivalent.
Figure 10b: CO2 balance of SCA including harvesting and adding back delivered products (“Model #2”). Sources: SCA reports based on 2017 numbers, as per SCA methodology paper. Calculations by Timber Finance.
Based on the SCA numbers used in this analysis and this specific case, we can estimate that ca. 1.9 MMt / (6.8 MMt + 5.9 MMt) = 15% of a tree becomes a durable wood product. Similar results are obtained across companies with more recent numbers, see Figure 11. If we include short-lived products, the ratio is 44%.
Figure 11: Wood sourced, wood products delivered and bioenergy produced, percentage of sourced timber transformed into durable wood products. For bioenergy, 1 m3 of wood was estimated for 1 Mt of biogenic CO2 emissions. Sources: company reports. Calculations by Timber Finance.
5.3 Substitution Effects (Scope 4)
As previously mentioned, a carbon balance is not sufficient to estimate a company’s climate benefit. Companies such as SCA and Stora Enso, in collaboration with academia, have developed models to estimate their climate impact and benefits. The core focus of these models is on the substitution effects provided by timber products when used instead of other materials and products (such as cement, steel, fossil fuels). Substitution effects – linked to the concept of Scope 4 emissions, i.e., avoided emissions –deserve their own modelling and analysis due to the added complexity. In order to reasonably estimate the global environmental impact of the business, one can and should compare:
- the carbon balance of the integrated timber products business
against the combination of:
- the carbon balance of unmanaged forests and
- the carbon balance of fossil-based materials that would otherwise be required if timber-based products were not produced.
SCA estimates the following substitution effects in their 2019 study:
- 9 MMt of CO2 saved by using durable wood products instead of other building materials;
- 0 MMt saved by bioenergy from pulp and paper products at the end of their life instead of using fossil fuels;
- 5 MMt saved by bioenergy sold externally;
- A 100% offset of the emissions from internal bioenergy, thanks to the carbon-neutral assumption (equivalent to ca. 2.9 MMt of CO2 modelled)
According to SCA, the substitution benefits amount in practice to ca. 7.3 MMt of CO2-equivalent. If we added this number to the carbon balance from Models #1 or #2, we would get to a level close to gross sequestration, indicating an essentially carbon-neutral value-chain with, on top, carbon sequestration from the forests. These substitution numbers, however, rely on the contested carbon-neutral assumption of bioenergy. While the discussion on the topic is often polarized, truth is likely found somewhere in between, and subject to several complexities, as highlighted by Guest et al. (2012): the degree to which bioenergy is carbon neutral can be modelled as a function of two major variables – harvest rotation and product storage periods.
5.4 Debate on Industrial Forestry
The environmental impact of industrial forestry is a complicated and contested topic. On one side, some industry players stress
- the positive environmental impact arising from the natural carbon sequestration provided by the forests;
- the positive substitution effects obtained when wood-based products replace alternative fossil-fuel based products;
- the risk of fire, storms and insects that could destroy old-growth forests and release carbon before that carbon is stored in wood products;
- the untapped potential for additional supply in regions where harvesting levels are below sustainable thresholds.
On the other side, critical voices highlight
- the limitations of sustainable forestry certification mechanisms;
- the negative impact of mono-culture industrial forests on biodiversity, which can also negatively impact indigenous human and animal populations;
- the fact that, after clear-cutting, it takes decades before the new trees can again provide net CO2 absorption of soil emissions;
- that only a relatively small portion of the original tree becomes a durable wood product, while a significant proportion gets burnt or is used for short life-cycle products.
All parties make valid points, but the weight of the arguments comes down to the details of each individual case. The multifaceted nature of the industry makes blanket statements impossible. The unique characteristics of each forest, and the way in which it is managed and ultimately used, must be understood in entirety when assessing whether a particular case creates a net positive or negative for the environment.
Sustainable Forestry Certifications cannot guarantee that not a single illegally harvested log goes through a company’s supply chain – their aim is to limit risk. Just like no bank can guarantee that there won’t be a single Euro going through its accounts, which is linked to some criminal activity – but organisations can do their best to prevent such an outcome. Sustainable forestry certification systems are not perfect, but all-else-equal, would there be less illegal harvesting and more sustainable harvesting without such certifications? Very unlikely and difficult to imagine. The best course of action is to recognise both the pros and cons of these certification systems, and constructively try to improve them.
The images of clear-cut forests can be shocking, and scientific studies show that a significant (net) amount of carbon is released to the atmosphere after clear-cutting. The science behind biodiversity and forest management is complex, and studies such as Felton et al. (2010) and Chaudhary et al. (2016) suggest that there are economic and environmental trade-offs in relation to biodiversity as a function of forest management. But should society stop building houses made of wood and build them with concrete and steel? Here, the substitution effects come into play and many academic studies and reviews find support for the positive substitution thesis. Leskinen et al., 2018, is one such case. At the same time, some of these substitution effects are moderated by the fact that most studies assume biomass energy to be carbon neutral – an assumption that is increasingly criticised, see reasons above. Nevertheless, Lifecycle analysis (LCA) studies like that of Skullestad et al. (2016) conclude that timber buildings cause significantly lower emissions vs. reinforced concrete alternatives even when adjusting for biogenic emissions.
In practice, the integrated forestry companies analysed here transform ca. 20% of the trees they source into a durable wood product, as estimated earlier. Business models that deliver a larger share of durable wood products and provide further positive environmental impact are possible, for example if residues are used to produce other durable products such as wood fibre insulation (see Steico research here – Steico reportedly transforms ca. 75% of roundwood into durable wood products, with an additional environmental benefit coming from insulation) – the question becomes whether environmental sustainability is also economically sustainable, which is a necessary condition for a sustainable business to survive, if not thrive.We should also not forget that there is an interplay between companies, consumers and public institutions (including regulators): companies offer products for which there is a demand and respond to incentives created by regulators.
Integrated forestry and wood-based products companies offer investors a diversified portfolio of businesses:
- Forest ownership,
- Manufacturing of durable wood products linked to the construction cycle,
- Manufacturing of paper and packaging products with different cyclical characteristics than wood products used in construction.
Historically, returns on capital have been moderate, but this is principally explained by the low returns on capital generated on forest assets, which indirectly provide stock investors with underlying “real-asset” exposure.
From an environmental point of view, these companies are characterised, thanks to their forest assets, by large CO2 sequestration performance, while their durable wood products provide substitution and long-term carbon storage potential.
6.1 Additional Remarks
The numbers presented in this research document are based on publicly available information and, especially those relating to environmental aspects, should be treated as approximations, due among other factors to the complexity of a company’s value chain and industrial processes. They are intended to stimulate discussions and reflections on the topic and serve as a basis for the definition and application of a standardised methodology for the estimation of timber companies’ environmental impact, currently under development at Timber Finance.
Holmgren, K. Kolar (2019). Reporting the overall climate impact of a forestry corporation – the case of SCA. Retrieved from https://www.sca.com/siteassets/hallbarhet/fossilfri-varld/klimatnytta/report-en.pdf
Leskinen, P., Cardellini, G., González-García, S., Hurmekoski, E., Sathre, R., Seppälä, J., … & Verkerk, P. J. (2018). Substitution effects of wood-based products in climate change mitigation.
Guest, G., Cherubini, F., & Strømman, A. H. (2013). Global warming potential of carbon dioxide emissions from biomass stored in the anthroposphere and used for bioenergy at end of life. Journal of industrial ecology, 17(1), 20-30.
Skullestad, J. L., Bohne, R. A., & Lohne, J. (2016). High-rise timber buildings as a climate change mitigation measure–A comparative LCA of structural system alternatives. Energy Procedia, 96, 112-123.
Chaudhary, A., Burivalova, Z., Koh, L. P., & Hellweg, S. (2016). Impact of forest management on species richness: global meta-analysis and economic trade-offs. Scientific reports, 6(1), 23954.
Felton, A., Lindbladh, M., Brunet, J., & Fritz, Ö. (2010). Replacing coniferous monocultures with mixed-species production stands: an assessment of the potential benefits for forest biodiversity in northern Europe. Forest ecology and management, 260(6), 939-947.
Disclosures and Conflicts of Interest
Some or all the companies mentioned in this report may be included in the Timber Finance Forest-Based Construction Basket tracker and are part of the Timber Finance Carbon Capture & Storage Index. Timber Finance Management and/or the Timber Finance Initiative may have commercial relationships or be in discussions with some of the companies mentioned in this report. Specifically, Stora Enso is a member of the Timber Finance Initiative association.
Please note that this research is prepared for informational purposes and targeted to institutional investors in Switzerland. They do not represent investment advice and do not take into consideration the individual requirements, risk tolerance and goals of an investor. Recipients who are not Swiss institutional investors should seek the advice of their independent financial advisor prior to taking any investment decision based on this report or for any necessary explanation of its contents.
The information presented in this report is obtained from several different public sources that we consider to be reliable. Nevertheless, we cannot guarantee the accuracy of the presented information. The information used may change quickly and we are not committed or obliged to modify the reports base on new information. The opinions and views expressed in this report reflect those of the author at the point in time of its compilation and may vary at any time. Valuation methods like DCF and any other analysis or expert judgement do not provide any guarantee that the target price or fair value will be reached, for example because of unforeseen changes in financial or economic conditions.
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