Rotation length and discount rates

Summary

When valuing a commercial plantation, forest risk is commonly incorporated in the discount rate. Determination of the most economic rotation length is heavily dependent on the discount rate selected. Commonly the discount rates that are used for economic evaluation and for determining rotation length are the same.

A single-stand simulation model was developed to analyse the rotation length of radiata pine. Two approaches were examined: one building risk and uncertainty into the value of β in the determination of discount rate and the other explicitly building part of the risk into a deterministic analysis.

The analysis shows that explicitly building some of the risk components into the analysis increases the optimum economic rotation length, sometimes considerably.

In the examples presented, the objective rotation length is increased by as much as 10 years, which is considerable in a crop with a common rotation length of about 35 years. The exact increase will depend on what each forest grower deems to be the appropriate assumptions, but the assumptions made in this article are reasonable.

Organisations would need to carry out their own analyses using their own biometric models and economic data, but the conclusion is that longer rotation lengths are implied if at least a part of the risk is considered explicitly rather than simply by adjusting the discount rate. The conclusion is believed to have widespread applicability.

Keywords:

• plantations
• rotation
• risk
• uncertainty
• discount rates
• simulation models
• valuation

Acknowledgements

The author thanks Emeritus Professor Ian Ferguson for all his advice, assistance and friendship over many years that, when added to the mentoring and friendship of Norm Lewis and the late Andy Keeves, has led to the author being able to write this article.

The work over many years by staff of the Woods and Forests Department, now ForestrySA, has provided the data that facilitated the development of the forest biometrics underpinning the analyses.

Thanks also to Prof Ian Ferguson, Dr Jim O’Hehir and Dr Kim Iles for their comments on various drafts of this article. Comments by two anonymous referees led to improvements to this article. This article does not answer all the questions, but it just suggests where a forest owner might need to carry out an analysis so as to best determine the ideal rotation length.

Notes

1. Wettenhall obtained the Australian beta values from the Aspect Huntley web site https://private.broking.westpac.com.au/do/secure/companyResearch, a subscription service.