THE DRAFT HORSE MAKES IT INTO FORBES'1996 MONEY GUIDE

FORBES is considered the Cadillac of business publications. It deals with smart money and big money. In brief, it is not the most likely place on earth to find a big three-column picture of a logger dragging out a big black cherry log with a team of Belgians. But that is exactly what you will find on page 135 of their June 17 issue.

The article, reproduced below, deals with hardwood forest lots as long term investments with a kindly word for horse logging.

Want an inflation hedge that grows? Consider acquiring a few hundred acres of hardwood trees.

THIS ASSET GROWS TO THE SKY

by William Baldwin

Reprinted by permission of FORBES Magazine, Forbes, Inc., 1996

Paul Lyons is a patient investor. He has to be. He invests in cherry trees, which take 80 years to grow.

In 1933 Lyons, then age 22, paid $500 for a 237-acre woodlot with some black cherry on it. The land is in western New York, far enough from population that the development value is just about zero. Even in the Depression, $2 an acre was cheap. How did he get the deal? Loggers had cut the parcel heavily, leaving nothing but skinny trees of no immediate value. Other potential buyers saw no assets there, only liabilities. Whoever owned the land would have to pay property taxes for a long, long time before collecting a dividend.

Lyons (and now his four sons, to whom he has deeded the property) has paid a lot of property taxes over the years, but he has something to show for it. In the early 1960s the family sold $40,000 worth of mature trees from the lot. The forest is ready for another cut now that will yield a much bigger dividend. Lyons just turned down an unsolicited $500,000 offer for the land.

This is farming-but without planting or harvesting costs. Hardwood forest owners usually spend no money on reforestation since these trees reseed themselves. Sawmills vie for the right to send in loggers and cut trees marked for sale.

So long as the owners pay careful attention to what they take out, the mixed hardwood forest will shift more heavily toward valuable cherry and oak and away from less desirable species like beech and birch-and the harvests will go on indefinitely.

"I own a lot of stocks and bonds", says Lyons, 85, "but I don't think there's anything in the world you can invest in as good as land with wood growing on it."

Own a forest? Why not? Real estate makes a sensible diversification for any investor whose portfolio is heavy with financial assets. Its principal advantage is that it stands up to inflation. Its chief disadvantage is that it is illiquid. That's not a problem if you can afford to buy and hold, and hold and hold. Paul Lyons' astute 1933 buy is going to help put his four great-grandchildren through college.

If you want to diversify into investment real estate, you have a lot of choices: apartment buildings, commercial properties, farmland, raw land with development potential and resort properties. Hardwood acreage has its own set of risks and rewards that makes it very different from these other options. What it has in common with them is this: It is unforgiving of naive buyers. In this respect real estate is very unlike securities. A monkey picking stocks could do pretty well, thanks to an auction market kept efficient by the incessant trading by professionals. Not so forest land.

"There's a tremendous difference between the values of two tracts of timber that to the layman look very much the same," says David Roby, a lawyer in Lyme, NH, who started investing in timberland 19 years ago and now, with three partners, owns parcels in five eastern states. "Tract A is predominantly cherry worth $1,500 a thousand board feet. Tract B Is predominantly red maple worth $75 a thousand."

Paul Lyons was born with a wooden spoon in this mouth. His father owned a mill that made tool handles out of ash. During the Depression all those WPA workers needed a shovel to lean on, and that provided the cash to buy land. By the time he quit buying in 1965, Lyons had accumulated 12 tracts of land in Pennsylvania and New York, comprising 2,000 acres.

Paul Lyons' offspring are not woodsmen. They all live in Florida and pursue unrelated careers, like selling marine supplies. How do they manage their forest properties? Like a lot of absentee landowners, they have arranged for a consulting forester to handle sales. In return for a fee of 10% to 15% of the proceeds, these agents select trees to be harvested, take bids from sawmills and make sure the loggers take only the trees they're supposed to take.

The Lyons family uses Mark Webb in Union City, PA. Webb, 45, is a logger's son who forsook the dangerous chain saw in favor of a forestry degree. Last winter Webb was out in the woods on snowshoes, cruising a 40-acre Lyons parcel and marking 526 trees for sale.

The bids that came in from sawmills ranged all the way from $36,226 to $61,450. Besides submitting the high bid, the winner promised to use a team of horses to haul the logs out of the woods. Horses, says Webb, do less damage to the forest than diesel-powered skidders.

That makes a big difference in this case because the Lyons clan is going to leave behind 80% of the wood on this parcel to keep growing. That way, says Webb, the Lyonses can come back every 10 to 15 years for another cut. If you can afford to refrain from a heavy cut you do so because, as trees age, they not only add board feet but also become more valuable per board foot. (A board foot is an amount of lumber that when rough-cut is a foot square and an inch thick.)

A spindly cherry tree 14 inches in diameter might be worth 30 cents per board foot on the stump and yield 40 board feet. Two or three decades later it's a 20-inch tree worth four times as much per board foot and containing five times as much usable saw timber. That is, by waiting 25 or so years you collect 20 times the dividends compound annual return of 13%.

Wait long enough and you will get an occasional trunk straight and fat enough to be worth turning into veneer. This is the tree that money grows on. Veneer cherry logs are worth as much as $6 per board foot.

Here's another reason to wait: Nominal prices go up. The better hardwoods have comfortably beaten inflation over the past decade. Call this a growth commodity. It's like owning an oil reservoir that gets bigger every year.

You have risks, though, that you don't have with oil. Gypsy moths, elm span worms or fall canker worms mi hi attack, forcing you to shell out $15 an acre for spraying. Deer munch on saplings, destroying natural regeneration of the stand. But you can get even with these pests. Many landowners are able to lease out the hunting rights for $3 to $5 an acre, which in Pennsylvania is just about enough to cover your property taxes.

Theft is occasionally a problem. A veneer-quality tree worth $3,000 is mighty tempting. The government is another worry. The Bill of Rights forbids the confiscation of private property, but there is an exception for timberland. All the government has to do is find an endangered species in your forest, and it picks up a de facto National Wildlife Refuge for free. This is a hazard in conifer stands in the Pacific Northwest and in the Southeast. It is not a problem on Pennsylvania's 12.5 million acres of privately held forest land-not yet, that is.

Interested? Spend a year or two shopping before you buy your first acre. You can hire a consulting forester to cruise a parcel that is up for sale, for a fee of about $5 an acre. Landowner Roby says he and his partners look into 100 properties for every 20 they inspect closely. They may bid on five and acquire one.

Hardwood forest ranges all the way from inaccessible scrubland with nothing on it to mature parcels containing $6,000 an acre in readily salable sawtimber. Your best strategy is to aim somewhere in the middle. No matter how cheap it is, the vacant land is likely to be a bad investment -because (a) it's hard to earn back 80 years of property taxes, compounded, and (b) you can't be sure what kind of trees will grow well in that soil.

At the other extreme, the costliest land, you have this problem: You are competing with sawmill owners, who have a very precise idea of what the wood is worth. The mills often buy when they can get bank financing and quickly recoup most of their outlay with a heavy cut.

Do what Paul Lyons did with that 1933 purchase. Buy a parcel that is 30 years away from a good harvest. If you are patient and willing to bid on a fairly large tract (500 acres and up), you might be able to buy at $400 to $600 an acre. Against that investment, your botanical dividend-150 to 250 board feet per acre per year, averaged over a long holding period-is pretty attractive. A good mix of species could easily average 60 cents a board foot at today's prices.

Tax treatment: Not too bad. You can write off the property taxes against your salary, says William L. Hoover, professor of forest economics at Purdue University. Write-offs for spraying and other maintenance costs may have to be postponed until your harvest years later, but hopefully your maintenance costs will be small. When it's time to thin the stand, your dividend is treated as a capital gain. Maybe by then we'll have a capital gains tax cut.