Forest valuation and risk

This paper aims to illustrate ways in which sources of risk can affect the valuation of a commercial plantation estate. Deterministic and stochastic analyses of a hypothetical commercial plantation estate are compared. Both are built on a long-term harvest schedule of wood flows that typifies current planning and valuation practices for large commercial plantation estates. The stochastic analyses incorporate typical systematic risks, including those associated with harvest yields, costs, prices and fire. Deterministic valuation using a market discount rate that includes a risk premium underestimates the expected value of the combined asset. Applying such a discount rate to a stochastic valuation would double count risk. Stochastic analysis forces owners to focus on a risk-free discount rate reflecting their time preference for net income flows over time, rather than using a valuer's current discount rate. Stochastic analyses of valuations enable better assessment of the sensitivity of valuations to the impact of fire frequency, climate change, product prices in the immediate future and land prices, as illustrated in this study.