CONTENTS.....

PREFACE

WELCOMING REMARKS

FORUM ACTIVITIES: REPORT FROM SECRETARIAT

NEWS ITEMS:

• ODA FORESTRY RESEARCH PROGRAMME

FINANCING THE TIMBER INDUSTRY: THE ROLE OF STOCKMARKETS

INTERNATIONAL INVESTMENT IN THE TIMBER TRADE AND MANAGEMENT OF FORESTS

BIODIVERSITY CONVENTION UPDATE

DARWIN INITIATIVE UPDATE

TROPICAL BIOLOGY ASSOCIATION (TBA)

INTERGOVERNMENTAL PANEL ON FORESTS (IPF)

CRITERIA AND INDICATORS FOR SUSTAINABLE FOREST MANAGEMENT

TIMBER CERTIFICATION: INTERNATIONAL STANDARDS ORGANISATIONS (ISO) AND FOREST STEWARDSHIP COUNCIL (FSC)

CITES TIMBER |WORKING GROUP

INTERNATIONAL TROPICAL TIMBER ORGANISATION (ITTO)

SUSTAINABLE PAPER CYCLE

FUTURE OF THE UK TROPICAL FOREST FORUM

ANY OTHER BUSINESS

CLOSING REMARKS

Zoological Society of London

RECORD OF MEETING

PREFACE

WELCOMING REMARKS

3. Mr Kemp briefly outlined the purpose of the UK Tropical Forest Forum The Forum began as an initiative arising from discussions within the IUCN UK committee, and came into being with funding from the Nature Conservancy council. The objective of the Forum was to improve contacts, access to information and understanding between a very wide range of people within the UK who were interested in the conservation and management of tropical forests, thereby helping to make the UK contribution to tropical forest issues more coherent and more effective. There were four main interest groups represented in the Forum.

   • NGOs - both environmental and social

   • official government bodies (ODA, DoE, Forest Authority, Forestry

   • Commission etc.)

   • the scientific and academic communities

   • trade and commercial interests

4. Mr Kemp commented that the purpose of the Forum was not to take direct action or pass resolutions asking others to take direct action, but to be a means whereby people from different groups could come together and exchange information and ideas. Thus it was important that the Forum retained a wide representation of broad interests. Despite the numbers of Participants working overseas or located outside London, Mr Kemp expressed his appreciation of the number and range of people who were willing and able to attend meetings. He added that the report of the meeting would be mailed to all of the 900+ Participants in the Forum. He noted that the comments made during discussions were an invaluable contribution to the meeting report.

5. Mr Kemp outlined the agenda for the day, and noted that the last item would consider the future of the Forum itself, which needed to be advanced at the next Large Meeting in the autumn.

FORUM ACTIVITIES: REPORT FROM SECRETARIAT

7. The report of the Forum Secretariat relating to activities in the six month period from August 1995 to February 1996 was tabled for the meeting (Annex 1). The minutes of the Ninth Large Meeting held at the Royal Botanic Gardens, Kew had been circulated to all Forum Participants, now over 800 individuals and institutions. The majority of Participants were in the UK, though there was good representation within Europe and overseas. Deliberations of the Forum {cached a very wide audience, and personnel on field project overseas commented that the information sent to them helped them to keep up to date.

8. Working Groups - Three Forum Working Groups had met during the reporting period:

   • The Working Group on the commission on Sustainable Development (CSD) had been tracking policy activities from the Earth Summit through to the CSD reviews of last year, and now focused on the activities of the Inter-Governmental Panel on Forests (IPF). The group met on August 30 1995 prior to the first meeting of the IPF, and convened again in October 1995 to discuss the outcome of the IPF meeting. The Group would meet again on March 5th at the Overseas Development Administration (ODA), prior to the next IPF meeting.

   • The Biodiversity Working Group, sponsored by Earthwatch Europe, met on December 6 1995 at the Natural History Museum, the theme was inventory and monitoring of biodiversity. Ms Thornback announced she would be co-ordinating a workshop later in the year in Cameroon (sponsored by Earthwatch Europe and the European Commission's DG V111) which would examine the relationship linkages between inventory and monitoring of biodiversity with forest management and usage.

   • The Small Business Working Group had met on 26 September 1995 at the Linnaean Society to discuss essential oils and their role in adding value to forests, particularly in forest margins. The previous meeting of the Group had focused on honey, and the next meeting would consider the issue of crafts from tropical forests.

   • Neither the Timber Trade & Certification Working Group nor the Large Business Discussion Group had met during the reporting period.

   • A suggestion had been made following the Edinburgh Forum Meeting, but as yet, this had not met with much enthusiasm.

   • Anyone interested in initiating Working Groups on other themes, or after today's session on finance, should contact Ms Thornback.

9. Workshops - A one-day workshop had been held on February 8 1996 on the topic of 'the Forest-Agriculture Interface: Stabilising the Forest Boundary'. The workshop, sponsored by the ODA Renewable Natural Resources Research Programme (RNRRS), was of a technical nature and attended by over 100 people from a broad spectrum of interests (agro-foresters, foresters, biodiversity specialists, social economists, institutional specialists). A record of the workshop was being produced, anyone wishing to receive a copy should contact Ms Thornback.

10. Forthcoming meetings included:

    • A CSD/Intergovernmental Panel on Forests Working Group meeting on March 5th
    • A Small Business Working Group meeting

    • The next Large Forum Meeting would be on September 19 1996 at the Royal Geographic Society, following a one day conference concerning the rainforests of Brunei. A Rainforest Club dinner would be held on the evening of the Brunei conference

    (Ed's note: the Brunei conference by the Royal Geographical Society has been cancelled, and the Forum date move to November).

11. The newsletter; edition on Africa would be available in the summer.

12. The support for the Forum Secretariat was provided by the Natural Resources Institute (NRI) in Chatham, a governmental scientific agency owned by the ODA. The NRI was soon to be privatised, transfer to the private sector taking place on April 1 1996. The ODA had not yet announced the winner of the bid to buy NRI. The ODA had generously agreed to provide financial support for the Forum until December 1996, to provide security for the Four during the privatisation period. Negotiations for support from the new owner of NRI would be made once the new owner took over. In the meantime, a business plan would be prepared to explore all possibilities of the future work and scope of the Forum, and how activities were to be funded.

    (Ed's note: NRI was privatised on May 1st 1996, when ownership passed to the University of Greenwich. On August 1st, a separate company - NR International - was separated from the Institute. NR Internal is now owned by a consortium of the University of Greenwich, Edinburgh Imperial College, London and Wye College.)

13. The Forum secretariat continued to circulate information notices on behalf of Participants. Anyone wishing to utilise this service was asked to send 900 copies of the leaflet/pamphlet/book order form/conference notification to the Secretariat for circulation.

14. The European Tropical Forest Research Network (ETFRN) newsletter was mailed within the UK by the Forum Secretariat. Ms Thornback welcomed the presence at today's meeting of Mr Markus Radday, the new co-ordinator of ETFRN.

NEWS ITEMS

ODA - RESULTS OF FUNDAMENTAL EXPENDITURE REVIEW

16. Consequently, a new mission statement for the ODA had been prepared and was now being implemented. The new purpose was:

    '...to improve the quality of life of people in poorer countries by contributing to sustainable development and reducing poverty and suffering'

    . Four aims had been identified as helping to focus ODA's work to achieve its purpose; they were mutually supportive:

    • to encourage sound development policies, efficient markets and good government

    • to help poor people achieve better education and health, and to widen opportunities particularly for women

    • to enhance productive capacity and conserve the environment

    • to promote international policies for sustainable development and enhance the effectiveness of international development institutions

    Four individuals had been appointed to take responsibility for the four different aims. Mr Andrew Bennett was responsible for the aim of enhancing productive capacity and conserving the environment.

17. Bilateral expenditure would continue to be allocated on a country basis, as opposed to directly to each of the aims. The manner in which ODA worked would change, but this was still a subject of discussion.

18. The recommendation which received most attention from the media was that ODA's resources would be concentrated on a smaller number of countries so as to achieve greater impact. A specific recommendation in the Fundamental Expenditure Review was that 85% of financial expenditure should be concentrated on 20 countries. This would be achieved by a decline of financial aid to South East Asia, Latin America, the Caribbean and the Pacific, and a greater concentration on aid to Africa and South Asia. Aid was currently allocated to about 160 countries, sixty received less than £1 million a year; in the last financial year almost 70% of financial aid was spent on 20 countries. This proportion would gradually increase over the next few years, but there was no specific target and no set list of countries. The situation in forestry paralleled that in the wider financial programme. Last year ODA gave support to 38 countries, but over the last 7 years 75% of expenditure had been concentrated on just 10 countries: India, Nepal Sri Lanka, Indonesia, Kenya, Ghana, Cameroon, Brazil Honduras and Belize. Baroness Chalker of Wallasey, the Minister for Overseas Development, in a recent speech at Chatham House expressed regret that the aid budget had been reduced last November, compared with the previous projections. The overall aid budget in nominal terms was expected to remain fairly steady over the next three year framework. Bilateral aid, however, would decline as a proportion of the total over the same period, and it was already less than half of the aid programme. It was anticipated that spending on forestry would experience some decline in the next three years in relation to the general level of spending on bilateral aid.

ODA FORESTRY RESEARCH PROGRAMME

20. ODA had supported a wide range of research activities in the field of renewable natural resources for many years. In 1993, there was a major review of the research strategy in this area, the purpose of which was to develop a broad portfolio of aims and objectives for research, and to develop an improved system of research management to promote better uptake and greater impact. A 10 year Renewable Natural Resources Research Strategy (RNRRS) was developed to cover the period 1995 to 2005. The RNRRS adopted the "logical framework" methodology at the strategy, research programme and project levels. At the strategy level the goals mirrored those of the earlier eight objectives of the ODA - the alleviation of poverty, the promotion of economic growth and economic reform, and the mitigation of environmental problems. The purpose of the research was to enhance productive capacity in the renewable natural resources sector, on an economically and environmentally sustainable basis. The RNRRS was primarily focused on those countries where the ODA had, a substantial bilateral aid programme. The RNRRS also had a production system focus, with all research focused on 7 key natural resource production systems:

    • semi-arid
    • high potential
    • hill-side
    • tropical moist forest
    • forest-agriculture interface
    • land-water interface
    • peri-urban interface

    There were 12 different research programmes, one being concerned with forestry, and the others with agriculture, livestock and fisheries. The managers of the research programmes were contracted to deliver outputs which contributed to achieving the purpose.

21. The new Forestry Research Programme had 11 purposes within the 4 production systems relevant to forestry (semi-arid, hillside, tropical moist forest and forest-agriculture interface). The purposes were broadly defined and ranged from sustainable management of tropical moist forest to biodiversity of the forest-agriculture interface.

22. The management of most of the research programmes was contracted out on a non-competitive basis in 1990. The ODA was now tendering the management of these programmes, of which the Forestry Research Programme (FRP) was the first The FRP had an indicative budget of £2.5 million a year. Last year the ODA invited 19 UK institutions to express interest in the management of the FRP, of which 4 responded, 3 submitted bids, and the Natural Resources Institute was eventually selected. A contract with NRI was being negotiated, and would take effect from April 1997. In the interim, the Oxford Forestry Institute (OFI) would continue to manage the Forestry Research Programme, and during the transition period the two institutions would work together to ensure the smooth hand-over of responsibilities. The OFI was expected to remain as a force in the programme, both as a supplier of research services and as a contractor, and through representation on the Programme Advisory Committee (PAC), which supports and advises the programme manager. It was expected that most current members would continue when the change in management took place.

23. Ms Paula Vandergaert, Forests Monitor, asked whether the countries which were currently a focus for forestry aid but which fell outside ODA's overall geographical focus areas of Africa and South Asia (e.g. Indonesia, Brazil, Belize) would stop receiving aid? Mr Hudson replied that aid to those countries would continue in the short-term, but the exact timespan was uncertain. The programme in Central America had been declining for some years and by 1999 the programmes in Costa Rica and Honduras would finish, whilst those in Brazil, Guyana and Bolivia would continue. The programmes in the Pacific were coming to an end and there would be no ODA presence in forestry in that area in two years' time.

24. Mr John Palmer, Tropical Forestry Services Ltd., asked how the ODA would choose to support a project in any particular country, and whether the shift from 8 objectives as previously to the four new aims would affect the choice of project or country, and therefore affect the manner in which the research strategy was composed? Mr Hudson explained that the manner in which funds were allocated was on a country basis, where annual discussions were conducted between the ODA and its partner countries, and a 3 year expenditure framework was agreed. With this expenditure framework, sectoral allocations were made based on a country strategy, these were agreed between the ODA and the country concerned. This allowed for the priorities to be identified by the country itself, but it was also governed by other donors' activities. For example, there were many countries in which ODA was not active, Africa included, where forestry was a priority but where other donors were extremely active, and therefore ODA's presence was not necessary. Mr Hudson said that the change from objectives to aims was largely to achieve a closer inter-disciplinary approach within the ODA. At present, the ODA was organised in a matrix structure, with geographical divisions as columns and functional specialists as rows. In the past, the ODA had tended to think in sectoral terms, whether it be natural resources, health, engineering, or education. The change to aims was intended to encourage ODA to work in a cross-cutting manner. This had implications for the research programme and the manner in which it was conducted. In recent - years there had been a shift in focus of research away from one which was primarily biologically oriented to one which was more concerned with policy, social and economic issues. It was expected that this shift would continue into the future.

25. Ms Thornback noted that the ODA's Joint Funding Scheme (JFS) for support of NGO projects was not subject to the restrictions regarding country imposed on the bilateral funding scheme. The budget was increasing and now amounted to about £30 million a year. Mr Hudson confirmed that this was the case and added that the IFS was managed separately from the bilateral programme.

FINANCING THE TIMBER INDUSTRY: THE ROLE OF STOCKMARKETS

by Mark Campanale

26. The Chairman introduced the major topic of the morning's agenda, which had been identified as a subject for Forum discussion during a conference at the Oxford Forestry Institute (OFI) in 1995. The Chairman introduced Mr Mark Campanale of NPI as first speaker.

27. Mr Campanale commented that when he left Wye College about ten years ago he thought he could only use his agricultural economics education (and his interest in social and environmental matters) within the voluntary aid sector. This was because seeking social or environmental equity had in the past been seen as the remit of either the voluntary or public sector. But the 1980s saw a complete transformation in which such aspirations became subordinate to the in interests of business and the private sector. The challenge now was how public social policy goals could be achieved through the private sector. This was why the growing socially responsible business and investment movement was important, and now had £1 billion worth of funds under management. Mr Campanale had worked in the City for the last seven years as an environmental analyst and now worked for NPI, a large pension company with £8 billion of funds under management It employed a team of social and environmental economists to manage ethical funds, otherwise known as socially responsible funds. With over £30 million in such funds, their aim was to back environmentally responsible business.

28. Based on his research programme, Mr Campanale would today present some analysis of the tropical forest sector. He emphasised that the views he expressed and the research he presented were his own as a member of the Forest Network, and not necessarily those of NPI.

    Private sector capital flows to developing countries

29. Over the last 5 years, there had been a decline in official capital flows to developing countries, relative to private sector capital flows. This had changed dramatically such that the World Bank recorded that the volume of private capital flows to developing countries had quadrupled since the turn of the decade. Private capital flows now accounted for three-quarters of all long term flows to developing countries.

30. Private capital could be separated into long term 'project finance' (such as investment in the construction of foreign owned plants and machinery) and private equity finance, sometimes called 'portfolio investments', namely the purchase of shares of locally registered companies on the stockmarkets of Southeast Asia or Latin America. Whilst local and regional investors were important players on these markets, UK and US portfolio investors had shown considerable interest in the last five years.

31. Portfolio investors behaved differently to official aid flows in that most private sector portfolio investors held stock on the short to medium term Private capital was highly liquid and moved to markets which offered the possibility of the highest rate of return. Whilst the public sector had some degree of public accountability, private investors were largely unaccountable for the outcome of their decisions. By seeking to maximise financial returns through dealing on stockmarkets, such markets, by their nature, did not generally allow for inclusion of social environmental factors. For example, public sector aid flows might be subject to social or environmental cost benefit analysis. When considering the purchase of shares in a company, fund managers did not conduct any cost benefit analysis, nor was there a requirement for them to do so. Official flows tended to involve the use of cost-benefit analysis - it was longer term and 'sticky' in that when capital was invested in a project, it was not easily transferred. Arguably, these long term aid flows might achieve greater benefit to the local economy than highly volatile private sector portfolio flows.

    Financial returns on emerging markets

32. Mr Campanale presented a graph showing the relationship between the FTA/S&P World Index (a combination of the Financial Times All-Share Index and Standard & Poors' Index) representing UK and US stockmarket performance, and an index representing the IFC Emerging Markets Composite Index (an index reflecting a composite of emerging markets, including Southeast Asian and Latin American stockmarkets). These indexes were used to compare investment return on 'traditional' versus emerging stockmarkets. In the time period of 1993 and 1994, the IFC Emerging Markets dramatically outperformed the World Index. Portfolio investors were attracted to markets which offered the prospects of the highest returns.

33. In the 1970s and 1980 s, bankers and professional investors disparagingly described the nations of SE Asia and Latin America as 'third world economies'; now they called them 'emerging markets', which reflected an enormous change in perceptions. Taking the lead into these markets had been British investors, through specialist emerging market investment vehicles, which were particularly popular amongst savers in 1994.

    Quoting timber companies on stockmarkets

34. Mr Campanale showed a headline from the Financial Times of March 1994 which reported on the move of forest concessions away from private to public ownership through quotation on stockmarkets. This was an important event in terms of the tropical forestry sector as it opened businesses up to the international capital markets and the possibility of transforming the industry. One of the reasons cited in the article was:

    'Analysts say that... going public will provide some insulation from political uncertainties and from the pressures on their activities by environmental groups'.

35. Mr Campanale presented a diagram of the relationship of different groups involved in forest management, and said that it could be divided into two sections. Traditionally, most debates on forests had involved academics, researchers, NGOs, forests and forest peoples, government, law and policy-makers, and to a certain extent the World Bank and IMF. On the right side of the diagram was a parallel world which included written papers and analytical debates, generated by investment analysts, companies and international investors.

36. Mr Campanale observed that, in his opinion, there was little or no overlap between the research generated by the two distinctly different groups, particularly between investment analysts and environmental analysts. Academics and policymakers were able to discuss issues such as biodiversity and track macro-economic issues, but provided very little information of a micro nature, for example, there was very little research available on the activities of specific named logging companies or who owned them.

37. In contrast, the financial sector had substantial data and rigorous analysis at the 'micro' level, particularly listing and describing concession areas, life of operations, cost of forest, profitability on logging activities, compensation of local groups versus cash flow on operations. But such analysis rarely, if ever, discussed human or environmental questions. Forests were assessed for what they represented to the financial sector, namely, a commodity, that is, a natural resource with a definable numerical value. The social and environmental effects of timber companies tended to be excluded from financial reports, as this data was not directly relevant to financial evaluation- nor indeed of interest to most investors.

38. Mr Campanale postulated why a logging company should seek quotation on a stockmarket? According to Barings Securities, the number of proposals by public-listed companies on the Kuala Lumpur Stock Exchange involving timber assets had steadily increased since late 1 993. The majority of these proposals had involved acquisitions of timber concessions, logging companies, sawmills and plywood mills in Malaysia, Indonesia, Papua New Guinea, and the Solomon Islands. One of the main issues in most of the reverse take-over cases involved fund-raising for diversification and expansion.

39. What were the reasons for seeking a stockmarket listing? Through public-assisted funds, companies were able to secure raw material supply lines, as well as vertically integrating their operations to enhance margins. The tax angle was another important consideration in reverse take-over cases involving timber concessions and loggers. Logging profits were currently taxable at the full rate of tax, whereas downstream processing activities were eligible for tax incentives, such as pioneer status and investment tax allowances. Therefore, timber concession owners had been encouraged to tie up with downstream processors under a listed vehicle. The tax-free profits from a tie-down could also be realised immediately under a listed vehicle, as profits from the sale of shares (as of 1994) were not subject to capital gains tax in Malaysia.

40. Malaysia's timber companies were seen as manufacturing companies with tax and government incentives rather than as logging companies which were resource-based. Indonesian companies were more severely constrained by the government's forestry regulations such as reafforestation fees and forest levies which put additional burdens on their profitability. [Source: Baring securities, Malaysia Timber Review Sector, July 1994.]

    Analysts: valuing the forest resource

41. Analysts did recognise that there had been a declining natural resource base, but 'While many are aware that the world's timber supply is becoming increasingly scarce, few actually realise the extent of the shortage...' (Wl Carr, August 1994). Some analysts have also tried to assess the need for sustainable forestry management, and there has been some I discussion of what was meant by 'sustainable'; however such debates are quite rare. It tended to be divided into two: those that sought to manage natural forests on a sustainable basis, for example through careful forest management in 60 year cycles. Others saw sustainability de fined in terms of conversion of natural or secondary forests to industrial plantations.

42. Once the forest areas had been logged and become secondary forests, were they then to be classified as unproductive? More research was necessary into the effect on wildlife and biodiversity of conversion of 'unproductive forest' to industrial plantations such as fast-growing eucalyptus. In the financial literature, biodiversity was not an issue which was discussed in relation to logging companies. Plantations, however, were considered to be an important part of the transformation of the forestry sector into an industrial sector, as plantations were likely to sustain future earnings. In contrast, the management of natural forests offered no guarantee of sustained future earnings (unless they could be converted to plantation).

43. The ownership of raw materials had become a critical issue, with many transnationals moving to gain access to forests outside of either their own national forests or other reserves. One important issue was the ability of these companies to obtain resources at zero cost

    '[We have] preference for concessions acquired at low entry costs... One of our selections is Berjaya group, which has been able to secure a massive 1.6 million acre concession in the Solomon Islands for virtually no cost..' (Gok Goh Malaysia, 1994, stock recommendation).

    More research was necessary into whether systems which transfer rights of access to resources at low entry cost had a political or economic explanation. The main issue for economists was whether such transfers amounted to efficient resource allocation.

44. Mr Campanale presented an example of figures used by analysts, which included parameters such as profit, concession size, harvestable years etc. One of the fastest growing sectors during a period of rapid stockmarket growth was the quoted tropical forestry sector, and a breakdown was made between sawn timber, logs etc. One of these companies had an operating margin (the difference between costs and revenues) of 61%. More research was necessary into whether this was sustainable forest management, or some other form of forest management. One reason for this high level of profitability amongst companies was related to the amount paid for forest concessions. The large operating margins achieved have indicated that companies often with the largest concession areas acquired them at little or no cost, or else it was not being recorded a s a cost in the literature. There also appeared to be a correlation between the acquisition of forest at zero cost and the ability of such companies to generate margins of 40 60%. If mark et rates for virgin forest in Malaysia were between M$1,000 1,500 per acre, the local political economy and history of the region might be the reason for the current pricing regime for forest concessions. Mr Campanale also showed a map of concession areas of two large companies in Southeast Asia which he had been investigating.

45. If the principle tool of financial analysis was the analysis of cash flow and profitability, then factors such as the sustainability of the resource often remained unexplored. Analysts might sometimes mis-forecast profit revenues on quoted timber companies through kick of information on the sustainability of such earnings. For example, the life-expectancy of one SE Asian concession operating in the Solomon Islands was forecast by analysts as 83 years, but suggestions from some local environmental groups and international observers was that a more realistic life-expectancy figure was 10 years at current extraction rates. Clearly, earnings could not be sustained for 83 years if the resource was depleted within 10 years. More research was necessary into whether short-term profit flows, as recorded in the literature, was indicative of rapid depletion of the resource.

46. There were two approaches in valuing timber concessions: the discounted cashflow method (DCF) and the one-year forward earning method. The DCF method discounted the cashflow arising from the timber processing activities over the harvestable life of the concession. A DCF/share ratio was then computed and measured against the stock price to arrive at a price-to-E F/share ratio. This ratio ranged from two times to six times for the Malaysian timber sector. The second method assumed that all the logs in the concession were sold within one year, and the prospective net profit was equivalent to the value of the concession. The Latter method was only suitably applied to logging companies with small concession or for clear felling trees.

47. An explanation of the controversy could be found in the excellent review 'Aokam Perdana, Fable or Fortune?' Phileo Peregrine Malaysia Research, Phileo Peregrine Securities, 22 April 1993. See also 'War of Words rages on Aokam Perdana's Real Worth', Singapore Business Times, May 11th 1993. Pauline Almeida (author) argued that the shares of Aokam were overvalued because they were calculated on earnings forecasts of 20-25 years when the life of Aokam's logging concessions, based on current logging rates were much shorter, but by doing so, this would 'appear to fall short of the ideal 60 year sustainable cycle for tropical hardwoods and even if replanting efforts began, this would be at high cost'. Hence these short term earnings were unsustainably high.

    How UK investment managers assess companies

48. Companies raised funds through either the international bond markets or through equity placings on stock markets. Very often these funds were used to move into downstream processing activities Dr for the acquisition of assets such as mills or forest reserves in other countries.

49. Portfolio managers had to consider many companies at the same time, either through original research or through broker recommendations. Sometimes a decision to buy could be based on a review of a balance sheet, a broker recommendation or on market sentiment It was not always the case that fund managers would spend hours/days poring over statistics or other data before deciding to invest. For example, if a recommendation was through a trusted broker who had analysed the business case, then this recommendation might override other factors. A further reason was that investors were seeking to 'buy the market' by indexing their funds. This meant that they could not exclude the natural resources sector, which included forests. Indexing did not require any additional analysis, as investors were simply seeking to mirror the leading stocks quoted on a particular market.

50. There were many demands on people's time. Having an understanding on the overall valuation of the market was important, e.g. average trading multiples for quoted companies. Reaching the detail about concession values and sustainability was not a primary driver.

51. Mr Campanale revealed the names of a number of UK high street financial organisations who had invested in the Southeast Asian logging industry. This demonstrated the international nature of investors in timber companies. He also pointed out that, because UK or US institutions expected high returns on their investments in riskier, emerging markets this might be a driving factor affecting the behaviour of timber companies on the ground. As a consequence, the behaviour of logging companies could to some extent be blamed on their western institutional shareholders. In this respect, this brought the debate much closer to home. Geographically, forest concessions might be physically located in SE Asia, but financially, ownership was to a degree a north European question. In the UK, we did not have to look much further than the City of London to find investors prepared to pump millions into short term, ill-thought through schemes whose ecological and economic damage was incalculable.

52. Mr Campanale said that whilst the issue was not really being addressed by UK based policy-makers, there was a g rowing awareness amongst journalists. An article published in the Sunday Times (28 August 1995), entitled 'Pensions linked with forest scandal' revealed that capital from the pension schemes of the Post Office, BT, British Coal and ICI had been ploughed into such schemes. Some of the responses to those letters showed there was a concern. For example, Edinburgh Fund Managers said that they were aware that natural resource-based companies were some of the largest quoted on the stockmarket, and therefore a source of high returns. However, they added that they were also aware that the attention and publicity from pressure groups might embarrass them. Groups such as Friends of the Earth, Forests Monitor and the Gaia Foundation had begun to write letters to those responsible.

    How could UK investors respond?

53. Most UK institutional investors did not have access to any environmental information, nor did they employ any environmental analysts, and the public and government were not pushing them to do so. Mr Campanale concluded that there was a need to better understand the relationship between forests, companies, analysts and international investors, and more focus should be placed on investment companies in terms of the affect that the flow of capital had on the developing world

54. Some British investors were seeking a practical alternative. NPI, Mr Campanale's employers, had set up a specialist environmental unit to find socially responsible investment alternatives. These funds were now growing at a rapid rate following public interest. This interest was confirmed by public opinion, and in 1995, NPI commissioned a series of Gallup opinion polls which spoke to 1,000 people each month. These sought to find out how people would like their money invested across a range of social and environmental concerns. Many people would like to avoid the armaments, tobacco and intensive farming industries. But interestingly, in the case of Forests, 53% of the public would like to avoid investment into companies who destroy forests. This was one of the highest of the 'avoidance' figures.

55. Mr Campanale concluded by putting forward a number of policy recommendations: for example, where institutions such as the World Bank and others were involved in setting up stockmarkets in emerging markets, a potential existed to influence how companies were regulated. For example, it might be possible to require a degree of environmental disclosure to the stockmarkets as a listing requirement. Forestry management practices and biodiversity inventories could be one such listing requirement. Without information on environmental management systems or the sustainable management of forests, it was difficult for UK based institutional investors or the public to question companies in more detail.

    DISCUSSION

56. Mr Jim Cannon, Imperial College London, said that he recently read an article in the Sunday Times which showed that the 'vice share index' (comprising companies involved in the arms trade, forest destruction etc.) was clearly out-performing socially responsible investment. What would the impact of that sort of information have on the results of public opinion surveys? Mr Campanale said that there were three answers to this issue.

    • Firstly, there was clear evidence that ethical investment could make money: he referred to a survey in the Daily Telegraph recently which illustrated that the average ethical trust out-performed the average conventional fund over 6 months, a year, 3 years and 5 years. His own fund, NPI Pension Global Care Fund, had won an award from Miropal for being top performing pension fund in 1995. The NPI Global Care Unit Trust had outperformed the average 'conventional' international growth unit trust since its launch in 1991

    • Secondly, Mr Campanale pointed out a flaw in the analysis used by the Sunday Times article, which compared a hypothetical index of arms companies and tobacco companies against a unit linked, balanced portfolio of United Charities and Friends Provident Stewardship funds. These invested across a wide range of different sectors in industry and the Sunday Times Index was a self-selecting, narrow index.

    • Thirdly, Mr Campanale agreed that some specific sectors, such as armaments, could be made to be very profitable through dealing in the misery of other people. In the case of forests, if assets were turned into cash now by clearing a forest out in 5 years instead of 83 years, then it was clear that they could pay out cash and consequently, the share price would respond positively.

57. Dr Ted Gullison, Imperial College London, asked whether it was possible for socially responsible investment to take over some of these logging companies? Mr Campanale replied that the public level of interest towards socially responsible investment had been significant, but it had not yet grown to a size which enabled it to influence entire businesses or whole sectors. One of the barriers to growth was that those responsible for selling insurance and financial services were more interested in high growth funds managed from a conventional, non-ethical approach They were rarely convinced that socially responsible pensions or unit trusts were viable alternatives, even when presented by the facts.

58. Dr Nicholas Guppy, Centre for Human Ecology, asked what the attitudes were of the governments in which these logging operations were occurring? Mr Campanale responded that banks and financial institutions were often more powerful than governments, and said that he did not think these governments were aware of the extent of the situation. Mr Campanale gave an example of a logging company in Southeast Asia which gave local people around $10 million f or the construction of a school and a road for the local community. However, the profit taken out by the company was approximately $70 million every year for 10 years. Therefore, $ 700 million in profit was taken out at $30 million of cost.

59. Mr Edward Milner, Acacia Production Ltd., commented that one group he noticed was missing from the diagram presented earlier were the consumers. Mr Campanale said he did not think that consumers, nor certification, were important players where the main trading partners of the companies managing Southeast Asian forests were Japan, China, Korea and Taiwan. In these companies, green consumerism did not yet seem to be an issue.

60. Mr Drake Hocking, Steep Associates, thanked Mr Campanale for his extremely stimulating talk and opined that this was an issue that the Forum group had to seriously contemplate. Mr Hocking said that one associates large institutional investors like pension funds with an interest in long-term income flow rather than short-term capital gain. He continued by saying that if this perspective was changing, then individuals ought to be concerned about their pensions, since the rate of extraction would not be delivering income at the time of retirement What could international investors and individuals holding pension plans do to change this? Mr Campanale replied to Mr Hocking's first point by explaining that the average period of years during which a pension holds a share had decreased in the last ten years from about eight years to around three or four. Therefore, investors were interested in maximised revenue in a short period of time. In terms of the forestry sector, analysts and the companies themselves were aware of the cost of replanting for industrial plantations. Thus, their strategy to keep high revenue growth was by acquiring undeveloped forest reserves. In response to Mr Hocking's second point, Mr Campanale said that institutions could be made to be accountable. For example, it could be possible for academics to start holding the managers accountable for w here their money was being invested through the University Superannuation Scheme.

61. Mr Roger Turner, Royal Society for the Protection of Birds (RSPB), asked for clarification on one of the policy recommendations of why the World Bank was investing in the establishment of stockmarkets without requiring environmental information? Mr Campanale said that his recommendation was that no company should be allowed to list on the stockmarket unless it disclosed a sustainability review. This would entail an independent verification of forest management (not certification) that would have to be filed with the stockmarket on a year-by-year basis by the relevant companies. Once the World Bank endorsed this view, any company which was quoted as a forest company would need to comply with this sustainability review in order to trade shares. However, although the UK pension fund analysts would have access to that information, it would not impede them in deciding where to invest.

62. Mr Edward Milner asked whether disclosure was currently a requirement in the stockmarket in the UK? Mr Campanale said it was not, although there was debate whether potential environmental liabilities such as contaminated land ought to be disclosed. The Government's Advisory Committee on Business and Environment had a Financial Sector Working Party, who issued a report on this topic. NPI was represented on this committee and strongly put forward the recommendation that all companies must disclose details of their environmental liabilities to the stockmarket This had been under discussion. Mr John Gummer, Minister for the environment, had accepted the recommendation. But there did appear to be a reluctance to implement the recommendation because of resistance by companies. If such resistance occurred in the West, where we had a reasonably robust regulatory framework, then there would be even more resistance in the South, which would have more to lose because of lower environmental standards.

INTERNATIONAL INVESTMENT IN THE TIMBER TRADE AND MANAGEMENT OF FORESTS
by Lionel Fretz

63. Mr Fretz outlined the four areas which he was to cover during his talk:

    • Lenders approach towards taking risk
    • Typical drawbacks of investment in the forestry sector from an investor's perspective
    • The project finance model - BOOT (Build Own Operate Transfer) which had been applied to financing the paper and pulp sector
    • A project which Coppers & Lybrand were working on with SGS Forestry to fundamentally change institutional investors' attitudes to investment in forestry

    Lenders' approach towards risk

64. Although investors often dealt in very large sums of money, they had very little time to examine individual projects. For example, SAMA (Saudi Arabian Monetary Authority) and KIA (Kuwait) Investment Authority) managed between them $100 billion of assets, but only had about 50 employees. Therefore, these investors often relied on other analysts' work in determining their investment decisions. In capital markets, that might be something like a rating agency, e.g. Standard & Poors, who attach ratings to different companies, borrowers or shares.
65. Investors were in the business of assuming risk in order to obtain a return, and therefore must be able to do several things in relation to risk.
• Investors must be able to measure risk. The assumption was that the greater the risk taken, the greater the return was gained in compensation. However, there was a point at which either the return required for taking risk was so great that it became uneconomic, or a type of risk was involved which investors would not take at any price. An example of an unacceptable risk which investors would not accept was one where the risks were unquantifiable e.g. environmental liabilities.

• Investors must be able to understand risk. Investors must be able to work out how a risk of loss would come about and what the financial effects would be if the risk did come about. This type of understanding usually emerged from industry expertise, which investors lacked, and therefore reliance was put on rating agencies and analysts.

• Investors must be able to manage and control risk should something go wrong. This was particularly difficult when governments were involved. For example, the privatisation of British Petroleum, which occured around the time of the stockmarket crash in 1987, would under normal circumstances have triggered clauses to allow underwriters to change the course of privatisation, but government leverage over underwriting prevailed.

Drawbacks of forestry investment

66. A number of factors had restricted investment in forestry management:
• Investors generally lacked industrial or technical knowledge. This could be circumvented by an independant ratification of environmentally sustainable practices and environmental liability statements, as suggested by Mark Campanale.

• Forestry assets were usually extremely long-term in nature. Firstly, there was a correlation between the amount of risk and the length of an investment. Secondly, investors preferred long-term assets with liquidity, where they had the assurance that it could be sold. Whilst this was possible with a 25 year government bond, it was very difficult with a forestry investment.
• There were frequent ongoing and unknown commitments. For example, in plantation forestry the cash flow profiles began at planting and continued throughout the life of the plantation. Investors preferred investments which required minimal management, from their point of view, where fixed lump sum was invested and returns were received over the life of the investment. This had fundamental implications to the manner in which one would structure forestry assets in order to make them attractive for investment.
• Investors were concerned with the unquantifiable nature of environmental issues. Legislation was often not helpful in this sense. Fro example, according to the proposed European legislation on the taking of charges over land, were a bank to take possession by exercising its charge over land, it could be held responsible for all the environmental liabilities that occurred before that point. Therefore, the only solution was to combine the commercial benefits with sustainable forestry practice and management techniques.

The project finance model - BOOT

67. The project finance model (BOOT) had overcome a number of these drawbacks when applied to the paper and pulp sector. The model was typically applied to capital constrained economies, where governments did not have sufficient resources to finance what would otherwise be public sector assets. A fundamental feature of project financing was that the sponsors or investors looked to the underlying cash flows of the investment, rather than the parties involved, for their repayment.
68. The project finance model worked in the pulp and paper industry for a number of reasons: the risks were allocated amongst the parties who were most able to bear them (e.g. contractors, suppliers' purchasers of output, operators of assets etc.); the nature of the investment was much shorter term, and therefore there was a lower requirement for liquidity.
69. The typical project finance model was originally extracted from a power station financing model. In this model the project company was featured as the central player, and owned and operated the assets. These activities were in turn financed by equity investors and lenders. In the context of a Iogging operation, the main contractor would be responsible for contracting the cutting equipment mill and for delivering the equipment on time and within the budget. The performance of the equipment would be guaranteed by the supplier. If the main contractor and supplier failed, they could be required to pay liquidated damages to the project company for non-delivery. Hence, the risk of cost overruns and delays could be passed on to the contractors and suppliers.
70. Long-term supply contracts, quality and quantity specifications and fixed price agreements ensured that the project company would not have the risk of a certain commodity not arriving or of not being the correct type. Thus, the company was given the guarantee that inputs would be coming in regularly and liquidated damages would be incurred if there was non performance. These and additional contracts, such as an operating contract and a purchase contract allowed for the accurate identification of cashflows in the project company, therefore reducing the risk. However, this model did not work so well for longer-term projects, particularly hardwood plantations. This was because there was a lack of entities interested in committing to long-term fixed price contracts for purchases of hardwood, and also a lack of liquidity in the overall market due to the longer rotation times.

Project with SGS Forestry

71. Coopers & Lybrand had joined with SGS Forestry to develop an innovative financial solution to surmount the drawbacks of investing in environmentally sustainable forestry and generate both liquidity and an attractive return to investors.
72. The central assertion of this financial solution was that the overall yield over the long-term would be greater by applying environmentally sustainable forestry practices. Concessions were priced on marginal costs, not replacement costs, so if it could be proven that the yield was higher in the longer term by using environmentally sustainable practices, a higher price would be paid for concessions. If a government had an obligation to be transparent, it would be required to provide those concessions to people who were willing to pay more. If institutional investors could be persuaded to pay more than existing contractors for those concessions and make more money by practising environmentally sustainable harvesting, then that would be a major step forward.
73. Another challenge was the need to demonstrate relative value of forests, and that must be reflected in the financial product. Coopers & Lybrand and SGS Forestry were working on a financial template which could be applied universally, and were consulting many institutional investors who would not otherwise invest in forestry for the reasons identified earlier. Mr Fretz concluded by reporting that good progress was being made, and Coopers & Lybrand were hoping to obtain commercial benefit from exploiting this new financing technology.

DISCUSSION

75. Mr Barry Evans, WWF South Pacific Programme, commented that both presentations concentrated on forestry for timber. What, if any, knowledge was there in the city about non-timber forest products? Mr Fretz said that there was very little emphasis on non-timber benefits of forests. However, he added that the academic world had not yet produced a satisfactory way of measuring those benefits, and so until they was a potential source of cash flow that could be properly measured and quantified, they would simply be discounted by the financial community.
76. Ms Paula Vandergaert, Forests Monitor, expressed her concern that institutional investors seemed to have no interest in environmental and social issues. When Forests Monitor attempted to present information to institutional investors on a particular company's environmental and social record, Forests Monitor was accused of being an extreme environmentalist group. Ms Vandergaert asked how Forests Monitor could enter into dialogue and educate investors about some of these issues? Mr Fretz said that consumer and group pressure was positive, but not sufficient For example, the certification process was making a difference here in the UK, but other countries were not environmentally driven. Environmental benefits could only in the short term be combined with commercial ones, namely the provision of an attractive financial return relative to other investment opportunities. Mr Fretz added that a change in attitude would take a long time.
77. Mr Drake Hocking, Steep Associates, commented that governments were beginning to become more transparent and undertake certain obligations of disclosure on the environmental liabilities incurred in the granting and sale of concessions. This was coming about partly as a result of the sort of work that Coopers & Lybrand was carrying out. However, this transition was a long-term process which was not always in line with the short-term vision of governments and other parties who controlled concessions. How could this be tackled? Mr Fretz explained that it was sometimes easier to impose transparency obligations on poorer countries because they were in greater need of money. Many countries in the Far East fell into the category of not being capital constrained. Mr Hocking said that Coopers & Lybrand were educating investors in developed countries, whereas concessions were in countries where people were ignorant of these issues. Mr Hocking commented that the only manner in which the governments of those countries which were selling off concessions at cut-rate prices and providing the high returns could be held in check was by making those governments more responsive to the people of those countries. In turn, the people needed to be made aware of the problems and provided with the avenues by which they could make their governments and representative more accountable.
78. Mr James Ogilvie, Forestry Authority, commented that one surprising aspect about Mr Campanale's talk was the low time horizon that major financial institutions applied to their investments. With such a low time horizon, investors would perceive the investment in terms of price-earnings as opposed to discounted cash-flow terms. Mr Fretz said that Coopers & Lybrand's view was that the best way to circumvent the problem was to promote greater visibility and hence liquidity . It was not the long-term nature of assets per se that posed a problem but the ability of selling the asset Coopers & Lybrand found in a recent survey of mergers and acquisitions that over 75% of company acquisitions were done on a discounted cash flow basis. Mr Fretz added that he thought that this was the direction that the world was moving.
79. Mr Ashley Parasram, Guyana Timber Industries, commented that the situation in Guyana was at a different level from that in Indonesia and Malaysia. Investment was difficult to approach in Guyana since the country did not have large industries, nor a large power base from which to raise money through pension funds. Guyana Timber Industries was a relatively new company, for which Coopers & Lybrand had written the business plan. It had subsequently been put through several financial houses both in the UK and North America, only to have the same response as indicated, first being political stability and then asset value. Mr Parasram commented that there was a great need for attention to be paid to companies who were attempting to start up forestry operations, particularly sustainable forestry operations. He asked how a new company of this type could obtain support from financial houses? What were the advantages in the context of Coopers & Lybrand's work? Mr Fretz answered that it was still very difficult for long-term start up operations to raise capital and sell shares on a private finance market. Mr Parasram related this issue to certification. If the market value and quantity of the timber could be calculated, and the market place be guaranteed since certified timber had a niche market, surely the asset value could be quantified. He said that one problem Guyana Timber Industries encountered was that banks only recognised logs, not trees, and Guyana Timber Industries had to look for alternative sources of financial support due to this resistance. In the context of certification, could a new role be found? Mr Fretz responded that part of the product which Coopers & Lybrand was developing was on the lines of certification. Regarding Mr Parasram's point on start-up operations, Mr Fretz said that generally there would be a number of on-going and substantial financial obligations to fulfil for a number of years following the start-up, and the question was whether these were too substantial to be financed up front. Mr Parasram said that theoretically, he thought that it should work in the context of certification, but Guyana Timber Industries had not been given a positive response, even with involvement from Coopers & Lybrand. (Mr Fretz later pointed out that Coopers & Lybrand had merely prepared a business plan for a client. This did not imply Coopers & Lybrand's endorsement or support for the project, nor had Coopers & Lybrand been retained to raise any finance for the period.)
80. Dr Nicholas Guppy, Edinburgh Centre for Human Ecology, commented that the crucial point in the discussions was that forests were undervalued if considered on a replacement cost basis. He said that it seemed that investors in tropical forest concessions were looking, above all, at felling mature trees which had virtually no cost before proceecling to plantation forestry, which was a long-term commitment involving heavy tax and expenditure. Thus, forest trees had virtually no value. Dr Guppy said that if trees could be sold at a price which would realistically pay for their replacement then it would be possible to enter long-term financing. Mr Fretz agreed with Dr Guppy's point and added that consumer forces were needed to create pressure for concessions to be given to environmentally benign companies. The best method of increasing the proceeds from proper pricing was to provide the government entity with the economic incentive to do so. Mr Fretz drew a parallel with public utilities such as gas or water, where there was a regulator in place who limited the rate of return of these companies. A movement to greater regulation of returns on lettings and concession would be extremely positive.
81. Mr Patrick Cunningham, Sue Cunningham Photographic Agency, asked whether Mr Fretz's function was to offer advice to investors or to assemble portfoilios? How did Mr Fretz offer his function? Mr Fretz replied that Coopers & Lybrand intended to make money by taking a fee for arranging financial transactions. Coopers & Lybrand advised either the borrower or the investor, although typically it would be a borrower, on raising finance in the capital markets. Mr Cunningham said that there were three areas of business in forestry: 'mining' virgin forests, growing short rotation softwood crops, and growing longer rotation hardwood crops. In classic economic terms, the first was by far the most attractive, the second was approachable and the third was the least attractive. In environmental terms, the attraction ran exactly in the opposite direction. How would Mr Fretz advise his investors, would he advise investors across the three areas? Mr Fretz responded that it would depend upon their investment objectives, but general financial theory dictated that one should have a portfolio of investments. He said it was difficult to comment without a specific example. However, statistics indicated that 75% of finance in the forestry sector was invested into the paper and pulp area, rather than the 'mining' area, which was the most economically viable. Mr Cunningham said that, as Mr Fretz had pointed out, very little investment was made into the hardwood sector, which was one area which had the potential to be environmentally acceptable. However, there were a number of companies in the pulp sector which were investing some of their proceeds into small areas of hardwood and native species for timber production.
82. Mr Jim Cannon, Imperial College London, said that most people agreed that sustainable development of natural tropical forest involved the maintenance of biodiversity. However, biological conservation as part of sustainable development could not be achieved through the sustainable use of forests if there was a sole reliance on timber. The more established non-timber forest products, such as oils etc., were very important. There was a large, hidden and valuable biodiversity in tropical forests which was only beginning to be known, Glaxo for example was investing money in the International Biological Institute in Costa Rica. Was there a place in the market to involve acceptable companies and investors which were dealing with resources other than timber? Mr Fretz said that the market was not proven. Although it was accepted that there was value in biodiversity, the quantification processes for measuring the value of biodiversity were not evolved enough to determine what that value was with any accuracy and replicability.
83. Mr John Palmer, Tropical Forest Services Ltd., commented that net discounted revenue calculations were used to rank potential projects - in which a multi-billion dollar American company in Brazil he once worked for - might invest. Once the company had decided in what to invest, the most important factor was cash flow to satisfy both on-going costs and the investors on the other end. Some of the more complex calculations carried out by foresters never figured. If a financial analyst only had half an hour to look over figures produced by a company, what additional indices or indicators relevant to forestry could be reasonably requested from a company? Mr Fretz commented that, on the cash flow side, the market which Coopers & Lybrand were targeting was principally that of institutional investors rather than industrial investors. Institutional investors were satisfied with capital appreciation as a form of obtaining their returns, which was different from industrial investors. Mr Palmer asked what kind of indicators were Coopers & Lybrand looking for? Mr Fretz said that he was working on an indicator which the market would find acceptable, but he couldn't divulge any further information on this at present as it was commercially sensitive.
84. Mr Ron Kemp commented that this last point was one that perhaps the Forum could pursue. Mr Kemp added that the specific recommendations which may be relevant to the World Bank (greater transparency and accountability when money was being sought for in international investment) would be brought to that organisation's attention A Forum Working Group could be set up to promote further discussion on the issues raised during the meeting if there was interest from Participants.
85. Mr Kemp thanked the two speakers for extremely stimulating and important presentations. He hoped that the breadth of interest within the Forum could assist in taking this vital topic forward and he suggested that a one-day Forum workshop on the subject could be scheduled for the Autumn, with a Working Group established to help prepare for the meeting.

AFTERNOON SESSION

BIODIVERSlTY CONVENTION UPDATE

87. The importance of the establishment of national strategies by the Parties and in situ conservation measures was also acknowledged at the Conference. A three-year scientific work programme on coastal and marine ecosystems was set up. The need for dialogue between the Convention and the Commission on Sustainable Development (CSD) Intergovernmental Panel of Forests (IPF) was recognised, particularly regarding the Convention's access and benefit-sharing provisions to IPF's work and the contribution of the Convention to the IPF
88. A two-year pilot phase of the 'clearing house' mechanism was established to facilitate the sharing of information, which would assist in establishing a network of existing institutions and encourage other institutions to provide capacity-building. The Global Environment Facility (GEF) would help to finance access to the 'clearing-house' mechanism.
89. Montreal was chosen as the location for the Convention Secretariat and it has subsequently moved there.
90. I