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Rayonier: Converting to a Timber REIT?

George C. Fisher

Rayonier (RYN) is timber company worth investigating. Rayonier is a leading international forest products company with operations around the world. RYN trades, merchandises and manufactures logs, timber and wood products, and is a major producer of high-value-added specialty pulps. RYN has expanded its chemical cellulose segment, used to make non-commodity grade pulp products. With business in 60 countries, the company derives 43% of its sales from customers outside the U.S. and Canada.

Rayonier's performance fibers segment (46% total sales) is a leading manufacturer of high performance cellulose fibers. Cellulose specialty products have a wide variety of end uses, including rigid packaging, photographic film, pharmaceuticals, cosmetics, detergents, sausage casings, food products, thickeners for oil well drilling muds, and cigarette filters. RYN also supplies performance fibers for absorbent hygiene products. These fibers, typically referred to as fluff fibers, are used as an absorbent medium in products such as disposable diapers, sanitary napkins, convalescent bed pads, industrial towels and wipes, and non-woven fabrics.

Rayonier's timberland management segment (22%) manages timberlands, sells standing timber to third parties, and sells timberlands for both future harvesting and real estate development. RYN owns, leases or controls about 2.3 million acres of timberland in the U.S. and New Zealand. RYN has a very active land management program that includes selling general timberland for others to manage and harvest, and selling higher value real estate properties for commercial and residential development purposes. The Wood Products and Trading business segment (32%) manufactures and sells dimension and specialty lumber and medium density fiberboard, and purchases and harvests timber, primarily from third parties, and sells logs and wood panel products.

Of particular interest is the rumor that RYN is converting from a corporation to a real estate investment trust (REIT). As it primary business is real estate (harvesting timber, selling land, and land development), RYN is contemplating the tax advantages of a REIT format. Plum Creek Timber (PCL) has already set the stage as the first timber company to convert from a corporation to a REIT. The advantages to the company are corporate income taxes are passed on to the shareholders. The advantages to shareholders are that 90 percent of reported earnings are paid out in dividends.

For example, RYN is expected to earn $1.64 per share in 2004 using the current corporate structure. Annual dividends are currently $1.08. With a tax-free REIT structure, the same earnings would represent $2.24 a share, with a dividend of $2.00 a share.

However, large institutional investors are pressuring the company to sell or spin off the underperforming fibers business, valued at around $12 a share. In addition, the company is being pressured to exit the specialty pulp business as well. Both these business segments have not fared well during this recession. If RYN exits these businesses, the company would effectively transform itself into a pure timber company. I think this would be a good move for investors, along with a conversion to a REIT structure. In doing so, the company could announce a huge special dividend or buyback and retire large amounts of its stock. Either would be good for shareholders.

For investors willing to bet Rayonier will transform from a timber, pulp, and wood fiber company to a pure timber company, there could be interesting, and potentially profitable, times ahead. I like the long-term prospects of timber companies and have been a shareholder of Plum Creek since it went public in the late 1980s. I plan on buying my initial position of RYN to take advantage of this likely transformation.

NOTE: Two weeks after writing this commentary, RYN announced its conversion to a REIT structure, and the price of the stock climbed from the low $30s to the low $40s. It is anticipated that RYN will distribute approx $2.25 per share as a special dividend by the end of 2003.

George Fisher, author of The StreetSmart Guide to Overlooked Stocks (McGraw Hill, 2002) and All About DRIPs and DSPs (McGraw Hill, 2001), Sagamore Beach, MA [email protected]

Copyright North Shore Associates 2003