Impact Forestry Funds Eye 8% Returns, Says GIIN Report

Apr 2019
Global, April, 29 2019 - Sustainable and impact forestry sector presents strong opportunity for impact investors, with annualized gross returns ranging from 7 to 18%, according to report from GIIN

The forestry sector presents a strong opportunity for impact investors, driven by the potential of higher valuations and further ESG integration. Annualized gross returns expectations range from 7-18% per annum, according to a forestry impact investment report put out recently by Global Impact Investing Network (GIIN), signifying the strong potential of investing in the sector. While sustainable and impact forestry investing has grown steadily in the past two decades, some gaps between asset managers and owners remain, according to the “Scaling Impact Investment in Forestry” report.

Sustainable forestry focuses on long-term stewardship of forestry resources, while impact forestry seeks to create an additional impact on the environment and communities.

The report looked at 37 funds in the sustainable and impact forestry sector, which manage over US$9.4 billion in forestry and related assets. All of the funds with one exception target risk-adjusted, market-rate returns. Annualized, gross returns expectations ranged from 7% per annum to 18% per annum, with a median target of 8% per annum. Emerging-market-focused funds target annualized returns of 15% while developed-market-focused funds target 10%.

There were also differences in terms of sources of revenue. Funds which generate revenues through sales of forest products target annualized returns of 15% while those which earned revenues from leasing land or land rights target 13%. Funds which focus on timber sales, land rights sales and carbon offset sales look for returns of 8% to 10%.

Four of the funds profiled earn revenues respectively from timber sales, carbon offset sales, leasing and sale of land rights.

Investing in sustainable and impact forestry has several advantages, according to asset owners interviewed in the report. The long-term nature of forestry investments, which are often in the 10-12 year range, is suitable for long-term institutional investors and family officers. Timber investments have historically supported some asset owners’ portfolios in hedging inflation because the biological growth cycles of trees are independent of inflationary cycles while the sale of timber and wood products experiences high demand during periods of inflation. The asset maturation of trees is biological and not economic, thus being more stable which results in lower risk and predictable cash flows.

Many asset owners consider the ecosystem services provided by forests to be fundamentally undervalued. As sustainable forestry becomes more understood and monetized, it is expected to outcompete the broader market. The prices of forests are expected to be bolstered by cash flows from ecosystem service payments, carbon markets and rising land prices.

Meanwhile, the growing interest and demand for impact investing and ESG integration have extended to the forestry sector. Sustainable forest investment not only has ecological benefits such as land conservation and reducing carbon footprints, but social benefits like rural development and improving air and water quality. This means sustainable forest investment can meet a broad set of impact objectives which makes it attractive to wealth managers and other investors.

The report also identified several constraints for investing in sustainable forestry. For instance, the long investment tenure and illiquidity restricts the number of investors since not everyone can allocate money for 10-12 years. The business models of sustainable forestry funds can be complex and not easily understood by people not familiar with the forestry industry. Disappointing performance in the conventional timber market has also put off some investors, despite the sustainable forestry market outperforming the conventional market. This perception of low value has hindered the sustainable forestry investment market from growing.

The industry has a relatively small set of funds that often have limited track records which also puts off some investors as they feel hesitant or unwilling to put effort into screening sustainable forestry funds.

The report recommends five ways that the sustainable and impact forestry market can be strengthened. These include clarifying product-market fit, using blended finance, developing additional partnerships with conservative organizations, integrating vertically, and strengthening communications. For instance, many sustainable forestry funds include distinct and disparate cash flows, which makes it difficult to understand for some investors. As such, GIIN suggests asset managers could reduce the diversification of funds’ revenue sources, such as separating cash flows from timber and other forest product sales. Also, to deal with the perception of significant risk in sustainable forestry, asset managers could use blended finance, which combines capital with different levels of risk tolerance. Besides risk mitigation, this method could be used for pursuing untested strategies or markets, as well as new social and environmental impacts.  

Meanwhile, an increasing number of managers in the industry are operating vertically integrated supply chains, which leads to operational efficiencies that enhance returns and enables risk to be managed better. Sustainable and impact forestry is a sector that offers significant potential and opportunities for impact investors, especially those looking to increase their ESG exposure.

Source : The Asset

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