Guyana Timber Industries, Guyana Timber Industries, LtdLtd

Investing in Sustainable Investing in Sustainable EnterpriseEnterprise

Anupam Narula

Jennifer Schilling

Truman Semans

Emerging Markets Corporate Finance

March 1, 2001

Case BackgroundCase Background

Owner Ashley Churchill granted 25-year concession for 45,000 acre forest tract in Guyana (option for 300,000 acre expansion)

Concession – Good roads and infrastructure– Mixed species (80% lesser known)

Goal – profitable business selling environmentally certified timber, flooring, and charcoal

Churchill, UK citizen, lacks operational experience

Case QuestionsCase Questions

How will potential investors value the venture?

What are viable sources of financing for start up? (initial capital requirement of $1.5 million)

Sustainable ForestrySustainable Forestry

4 10 25

Yield

4 10 25

Price$

m3

Clearcut

Sustainable

500 mm acres deforested 1980-1995, especially in emerging markets

Timber demand growth 20% since 1990– Clearcuts increasing

Certification

– Environmental and social benefits

– Limits short-term revenue, increases costs

– Price premium?

Potential Funding Potential Funding SourcesSources

Commercial banks

Multilateral institutions

Bilateral development agencies

Green or timber venture funds

Carbon offsets

Joint venture

Country RiskCountry Risk

Political– Election Uncertainty

– External Conflicts

Financial– Taxes

– Financial Institutions

Economic– Foreign Exchange

– Low GDP per capita, $860 in 1999

Cash Flow Cash Flow UncertaintiesUncertainties

0

10000

0.8

0.02

50000

0

10000

30

50

25000

0

0.65

130000

0

200000

0.05

90000

100

0.45

80

5

0.08

50000

3

0.08

150000

0.4

50000

70

90

100000

0.08

0.9

250000

0.08

600000

0.25

600000

500

0.75

250

35

(3,000,000) (2,000,000) (1,000,000) - 1,000,000 2,000,000 3,000,000 4,000,000 5,000,000

Max felling

Timber price

Log-to-timber efficiency

Charcoal Price

Cost of silviculture (400ha)

Percent wood used for charcoal

Cost to ship 7200 m3 timber

Growth in timber price

fuel cost at 400 ha

Timber-to-flooring efficiency

Growth in floor prices

SG&A

Materials for charcoal (per ton)

Material for woodfloor (per m3)

Cost to train 112 workers

Guyana Tax

FSC Royalty (one time)

Maintenance Percent

Royalty

First year training

Growth in charcoal price

NPV (Net Income)

Cash Flow Cash Flow UncertaintiesUncertainties

UNCERTAINTY RISK TYPE SOURCES OF INFORMATION

Market Price (certified timber, flooring and charcoal) MARKET

GTIL Monthly spot prices for

non-tropical timber

Harvest Rate OPERATIONAL

COUNTRY

GTIL Industry experts Literature

Production Efficiency (conversion of logs to finished product) OPERATIONAL

GTIL

Price Premium for Certified Product

MARKET

GTIL Industry experts Literature

Tax Rate OPERATIONAL

COUNTRY

Government documents Existing timber companies

in Guyana Cost of Goods Sold (shipping and silviculture) OPERATIONAL

GTIL

Case SolutionCase Solution

ICRG Risk RatingsICRG Risk Ratings

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

Jan-

84

Jan-

85

Jan-

86

Jan-

87

Jan-

88

Jan-

89

Jan-

90

Jan-

91

Jan-

92

Jan-

93

Jan-

94

Jan-

95

Jan-

96

Jan-

97

Jan-

98

Jan-

99

Jan-

00

ICRG Political ICRG Financial ICRG Economic ICRG Composite

Cost of CapitalCost of Capital

– typically underestimates risk

– Sovereign yield spread 8%

Beta 1.0 Beta 0.8 ICCRC 26.6 22.3 Exchange Rate -7.8 -6.2 Political Risk +2 +2

Cost of Capital 20.8 16.1

Country Risk Ratings– Institutional Investor rating inferred from

ICRG for ICCRC

ICCRC

Goldman- Integrated-EHV

Valuation: Base CaseValuation: Base Case

Original 45,000 acre concession

Mean NPV: -$934,275

Standard Deviation: 1,405,527

Range: (-$3,615,795 to $4,479,946)

Frequency Chart

Certainty is 23.00% from 0.00 to +Infinity $

.000

.007

.013

.020

.026

0

6.5

13

19.5

26

-3,615,795.33 -2,025,047.33 -434,299.33 1,156,448.67 2,747,196.67

1,000 Trials 14 Outliers

Forecast: NPV (Net Income)

23% positive NPV

Valuation: Real Valuation: Real OptionsOptions

Underlying asset: market price of timber (non-tropical proxy)

Option to shut-down (original concession)– Based on break even market price

Mean NPV: -$876,419

Standard Deviation: 1,279,956

Range: (-$3,294,817 to $3,590,571)

Frequency Chart

Certainty is 22.60% from 0.00 to +Infinity $

.000

.007

.013

.020

.026

0

6.5

13

19.5

26

-3,294,816.49 -1,850,812.16 -406,807.82 1,037,196.51 2,481,200.84

1,000 Trials 12 Outliers

Forecast: NPV (Net Income)

22.6% positive NPV

Valuation: Real Valuation: Real OptionsOptions

Option to Expand and Shut Down (additional 300,000 acre concession)– Based on five year payback of additional

capital expenditures

Mean NPV: $422,531

Standard Deviation: 3,989,345

Range: (-$3,429,844 to $26,560,027)

Frequency Chart

Certainty is 36.40% from 0.00 to +Infinity $

.000

.017

.034

.050

.067

0

16.75

33.5

50.25

67

-3,144,789.68 358,418.57 3,861,626.82 7,364,835.06 10,868,043.31

1,000 Trials 34 Outliers

Forecast: NPV (Net Income)

36.4% positive NPV

Valuation ComparisonValuation Comparison

Shut down option has little value

Expansion option value brings significant upside with little additional downside

BASE CASE SHUT DOWN EXPANSION

Mean NPV -$934,275

-$876,419

$422,531

Standard Deviation 1,405,527 1,279,956 3,989,345

Range Minimum -$3,615,795 -$3,294,817 -$3,429,844

Range Maximum $4,479,946 $3,590,571 $26,560,027

Cumulative Comparison

.000

.250

.500

.750

1.000

-5,000,000.00 -625,000.00 3,750,000.00 8,125,000.00 12,500,000.00

NPV (Expansion)

NPV (Base Case)

NPV (Shut Down)

Overlay Chart

Valuing Sustainable Valuing Sustainable TimberTimber

Sustainability brings value in the long term (over 10 years)

Cost of capital (r=0.16)– Development

decreases risk

Growth (g=0.04)– Price of timber

(certification) ORIGINAL WITH

EXPANSION Annual Revenue $100,000 $250,000 PV (perpetuity) $134,590 $336,470

4 10 25

Yield

4 10 25

Price$

m3

Clearcut

Sustainable

Viable Financing Viable Financing SourcesSources

Marketing and operational assistance

– Joint venture (Jolyka Bolivia)

Organizations that value environmental and development

– IFC, World Bank, Inter-American Development Bank

– Green venture funds – Global Environment Fund, GMO/A2R