CEO's Report
Andrew White
Over the past year, the global economic downturn created substantial challenges – and also great opportunities to make FEA a stronger business by doing what it already does well – even better.
We maintained a strong focus on our prudent ongoing capital management and debt reduction programmes.
We paid close attention to cost reduction and efficiency in forest products manufacturing, marketing and distribution.
And critically, we worked proactively to ensure our forestry investment and timber products are carefully tailored to the needs of markets as they evolve and recover.
Our financial position is sound. We’ve done the ‘hard yards’ and we have the products, the distribution and the marketing skills to capitalise on a recovery in demand. Most critical is our unique business model – as a vertically integrated forestry and forest products company that focuses on the three platforms of:
- Establishing and processing renewable plantation timber;
- Maximising the value of forest products through processing and marketing the highest possible proportion of sawn timber rather than lower-value wood fibre; and
- Aiming to continue our record of delivering industry-leading returns to forestry investors.
These make FEA unique among Australia’s integrated hardwood-based forestry companies, and position us well to continue to challenge larger companies that are less focused on sustainability and value-adding.
Post balance date, a share placement and entitlement offer significantly strengthened FEA’s balance sheet. Further comments on the detail and implications of this initiative are outlined in the ‘Outlook’ section of this report.
FOREST PRODUCTS
Our Bell Bay sawmill and processing facility experienced a flattening market environment and longer than anticipated initial ramp-up period in the six months to 31 December 2008.
Higher operating costs and lower levels of productivity than planned resulted in a loss for the period. These issues have now been addressed, and productivity has increased steadily since January 2009 while maintenance costs have reduced.
Despite a ‘softer’ market for structural timber products over the past 12 months – primarily as a result of the economic downturn and its effect on domestic housing construction – sales of processed timber products have remained satisfactory and stock held at the sawmill is acceptably low.
The continuing effect of the First Home Owners Grant scheme and early signs of a sustained domestic economic recovery have led to strengthening demand for structural timber products, particularly for housing construction. This applies to volume and, very importantly, price. We are currently selling all the BassPine® products produced from our long-term 290,000 tonne per annum Radiata pine supply contract.
As productivity has increased, so has timber quality, with a much reduced proportion of lower ‘merchant’ grade products. Increasing production volumes and quality – coupled with reducing operational costs – mean we are well-placed to capitalise on both revenue and profitability from further improvement in domestic structural timber demand. This applies to both BassPine® softwood and EcoAsh® hardwood – as volumes of Eucalypt from our harvested forestry investment plantations increase.
Our SmartFibre wood fibre processing and export business continues to operate profitably, although it was impacted to some extent over the past year by reduced demand from longterm Japanese customers and, more recently, by lower softwood selling prices (hardwood prices have remained steady). Existing Japanese wood fibre stockpiles are now reducing, and it appears the market is stabilising to a more consistent level of demand.
We are confident that SmartFibre’s established, long-term supply contracts with major Japanese customers, and its strong track record for product quality, service, reliability and environmental certification will ensure an early recovery to market demand for its hardwood and softwood wood fibre.
FORESTRY INVESTMENTS
As the agribusiness investment market has a strong correlation to equities, some contraction was anticipated in light of the global financial crisis. However, what could not be anticipated were the failures of two of Australia’s largest investment managers, and the consequent loss of confidence in the sector these caused.
Overall, total agribusiness investment fell an estimated 77% on the previous year – from $1,079 million in FY08 to around $250 million in FY09. For FEA, sales of $23.3 million were realised – an almost 80% reduction on the previous financial year’s result of $114.5 million.
All plantation establishment required for FY08 sales was completed on schedule, prior to 30 June 2009. The fact that around $227 million (90%) of the estimated $250 million invested in agribusiness in FY09 was invested in plantation forestry indicates continuing acceptance of good quality forestry investment projects offered by sound and experienced managers with established records of success. However, it is difficult to see the industry really ‘moving on’ and re-embarking on a pattern of sustained growth until several current issues are resolved.
We believe investors and financial advisers will want to ‘wait and see’ the fi nal resolutions of the Timbercorp and Great Southern situations – and particularly the outcomes for investors – before the previous level of confidence in the industry can be restored.
We also believe the initial recommendations of the Joint Parliamentary enquiry into agribusiness managed investment schemes are positive in relation to the managed forestry investment industry. FEA has again acted as an industry leader and responded to demands for investment restructuring. Our next generation ‘reflection’ forestry investment model ensures the maximum investor protection possible – with investor contributions mirroring plantation expenses to provide the comfort that the investment will be fully-funded throughout the project term. Enhancing security even further is a ‘quarantine’ fund, which ensures project funds are discrete from the manager’s trading account. Our ‘reflection’ model, coupled with our strong track record of achieving industry-leading plantation growth rates for our investors will give FEA forestry investors a new, industry-leading level of security and confidence that their investment can serve as a valuable contributor to their wealth accumulation process.
We believe that with this additional security, investors will react positively to forestry investment managers such as FEA who can demonstrate a strong, long-term record of performance, forestry and silvicultural expertise – and who have taken plantations through the full cycle from establishment to final harvest – and in doing so have delivered acceptable plantation growth rates and hence harvest returns for investors.
LAND LEASING AGREEMENT WITH FORESTS NEW SOUTH WALES
Another strong and positive development for FEA is its agreement, reached during FY09 with Forests New South Wales to lease high-quality, second-rotation plantation sites in northern New South Wales for forestry investment plantations. Not only does the agreement reduce our capital requirement for land acquisition – it also means investors have the added security of knowing their trees are being established on land with a long-term, proven record of high plantation growth rates.
DEVELOPMENT OF TIMBER PROCESSING CAPACITY IN NORTHERN NEW SOUTH WALES
Currently, we have approximately 71,000 hectares of hardwood plantations under management – around 40,000 hectares in northern New South Wales.
We are committed to building on our successful Tasmanian model of vertical integration in the region, and are currently working towards establishing a New South Wales forest products processing capacity in anticipation of the first clearfall harvest of local plantations, scheduled to commence around 2014.
Over the course of the past year, our Innovation Unit has continued to undertake the necessary research and development with the timber species we are growing in northern New South Wales and South East Queensland to ensure our proposed timber processing facility can commence operations at the appropriate time.
CAPITAL MANAGEMENT AND DEBT REDUCTION
Further details of our initiatives in these areas are included in the CFO’s Commentary. I will state briefly here that we were able to reduce our net debt (bank debt less cash on hand) to $190 million at 30 June from $197 million at 31 December 2008.
Current debt facilities total $240.8 million – a cash advance (revolving line of credit) and a $9 million working capital facility. The cash advance facility does not have regular principal repayments and its maturity date is January 2011.
Surplus assets worth $22 million were divested during FY09, mostly at book value, and further sales will be made where advantageous.
OUTLOOK
We chose to view the challenging climate of the past financial year as an opportunity to critically review all aspects of our strategies and operational regimes – and look forward boldly to developing new and better ways of achieving our corporate vision.
I believe we have done so successfully. The world has been through 18 months of massive, almost incomprehensible change. A significant consequence of the global financial crisis is that the financial environment is now particularly risk-averse worldwide.
At the same time, equity markets have become regionally-based. ‘Island Australia’ is gone and we are now firmly part of Asia. Two of Australia’s major Agribusiness investment managers are also gone. Australian governments remain strongly supportive of forestry investment as the best means to achieve its target of more than 3 million hectares of forestry plantations by 2020 as outlined in “Plantations for Australia: The 2020 vision” which will help to address our current $2 billion per annum trade deficit in forest products.
However, the government and regulators are now focused on stability. They are looking to managers to develop soundly structured forestry investment models that optimise investor security – and to provide full and transparent disclosure of plantation growth rates and investment returns.
FEA has recognised and reacted positively to this ‘new world’. We had to. Change happens fast and those that cannot perceive and prepare will simply not prosper. We have battled tough markets – we have improved what we do and how we do it. As economic conditions and market demand improve, FEA is strongly positioned to realise the significant opportunities for growth this ‘new world’ presents.
In forest products processing we have reduced costs, substantially increased productivity and improved product quality – and are ready to benefit from the current strong prospects of market recovery for both sawn timber and wood fibre.
Proactively, we have created our ‘reflection’ forestry investment model which will meet the needs of an evolving market for enhanced investor security in 2009-10 and beyond. The ongoing prospects for forestry investment are strong.
FEA is Australia’s longest-established hardwood plantation forestry investment manager, with a successful 24-year history over 17 consecutive forestry investment projects. Our focus on investor security and industry-leading growth rates and returns means we are well-placed to benefit as the market recovers from the challenges of the past year.
Perhaps most significantly, our $39.5 million capital raising to be completed in October marks a watershed in the evolution of FEA as a stronger, more regionally-focused enterprise. The proceeds will significantly strengthen our balance sheet and in concert with our ongoing debt reduction programme – provide additional confidence and financial security as we move forward.
The relationship FEA has formed with Sun Hung Kai Investment Services Limited through our share placement has the potential to assist us to grow further. Sun Hung Kai Investment Services is part of Sun Hung Kai Financial Limited, Hong Kong’s leading non-bank financial institution and a long-term investor in Australia.
In embracing such a significant banking and financial partner, we can potentially gain greater exposure to regional equity markets and further strengthen our already well-established ties with key Asian markets.
As well as emphasising our important regional focus, the relationship also marks an evolution in our share register, enhancing balance, liquidity and wider distribution. That we are currently in a position to look forward with relative optimism is a great tribute to the quality, skills and dedication of the entire FEA team – from the Board and management to all those directly involved in forestry, forestry investment and forest products.
It is thanks to their efforts that I am confident that FEA will continue to realise its corporate positioning ‘OUTGROWING THE REST’.
Andrew White
Chief Executive Officer