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Breaking down Track Record
When an investor is considering an investment opportunity, the track record of the investee ranks as one of the most important considerations in the decision on whether to invest. Just as you wouldn’t hire an employee without knowing their experience, or purchase a service without knowing how the service provider is qualified to execute on your needs – you wouldn’t invest in a forest unless the Manager responsible for it can demonstrate their ability to perform and deliver your return expectations – be those financial from traditional timber or carbon/ecosystem services markets, or impact by way of other environmental and social benefits.
In this article, I’ll breakdown what is in a good track record, how the requirements differ if you’re a forest company or a forest Fund manager, and where they are the same.
Investors access the forest asset class in different ways:
- Directly into forest companies,
- Indirectly, via Funds,
- Or even further indirectly via Fund of Funds (let’s leave out listed companies for the sake of this discussion).
In each of these approaches, the investor assesses track record in a different way. Investors going direct will look at both the operational expertise of the Manager, as well as their ability to meet shareholder or debt provider’s needs. Fund investments look more at the Investment Manager’s ability to select and manage good investments and their managers.
Management Experience
Yes, this one’s a no-brainer, but a prospective investee will need to demonstrate the experience of their team – both the duration and type. How long has the manager been with the company, and if not that long, have they been working in a similar function for another organization. For a direct investment, an investor is going to want to understand that the forest company leadership has experience with both forestry and business. For a Fund investment, an investor will be looking at leadership for experience with launching, managing, and exiting similar vehicles in the past. Success of the manager will also be assessed in meeting financial targets on time, and depending on the investor, on achieving impact targets.
Presence on the Ground
Though less relevant for a Fund of Funds, presence on the ground is very important to investors. Investors will look more favorably to executive leadership in direct investment opportunities that is either based on the ground, where forest operations are situated, or that they can demonstrate frequent visits. The same goes for Fund managers. Though an investor would not expect a Fund manager to be located in rural forest operations, especially if there is a geographic spread of the investments in their portfolio, they will want to see that they demonstrate commitment by having a local presence. I’ve experienced this coming under scrutiny, when a Fund manager is based in the global north with investments in the global south. In both cases, leadership is much more attuned to the local context, risks, and opportunities of an investment if they are closer to it.
Financial Management
Certainly, investors are going to look at the books of forest company and Fund manager prospects. Investors will assess how realistic are return expectations, and review past financial results and the risk of the investment being insufficient to execute the project. They will assess cashflow management against the budget and third-party audits. They will investigate the strength of the financial management team, financial reporting systems and timeliness of reporting. They will assess the detail of the budget and reference points for assumptions. Investors will also seek evidence of wise investment decisions from the Manager – in the case of direct investments, this could be hiring local (but qualified) staff or purchasing equipment that is going to be possible to fix economically if it breaks down. These examples are common financial management challenges of direct investments in the tropics.
Investment Stage Specific Expertise
Not all forest investments are created equal. Forest operations in different stages of development require very different expertise. If an executive specializing in industrialization of a forest company is now running a prospective greenfield investment – investors will be cautionary, as growing a new forest plantation is very different than the harvesting and processing of mature trees. The reverse is also true. For investors considering a new Fund strategy, they will regard the Fund management team and assess their experience in launching a new Fund, building and diligencing an investment pipeline, and getting selected investments off to a good start. If the team mostly has experience in later stage Fund management and exit – these early fund development skills will be questioned.
ESG & other Risk Management
Risk assessment when performing due diligence on a new opportunity will be paramount for any investor. The investor will regard the incidence of any risk events in the past and how these were managed, they will look at processes for identifying and managing risk. They will research media archives for past press on the company. The investor will regard the ESG risk profile, for issues such as climatic risk, social license to operate and corruption – as well as risk aspects more to do with the business – such as market risk. They will look at who in the organization is tasked with risk management and ensure it is not managed in an ad hoc way. Further, they will want to understand the materiality of the assessed risks – that is, what will be the financial impact if an identified risk eventuates. It will be important that management acknowledges all critical risks, financial consequences, and wider impacts under the investment context.
Impact Management
Forest investors now need to understand how impacts are being managed within an investment they are considering. Whether for regulatory reasons, such as the EU Sustainable Finance Disclosure Regulation (SFDR), shareholder requirements, or requirements of their investment strategy. Investors will look specifically at the impact targets of their interest (maybe carbon storage, biodiversity improvement or gender equality – to name a few). They will look at how targets are set, and how the impact indicators are monitored and reported. For direct investments into forest companies, investors may look at how impact generating activities (such as community development programs, or incorporation of native species) reduce risk and increase the value of the investment.
Standards & Best Practices
Investors often have specific standards that they expect their investees to align to or commit to. For example, in the tropics it is common that investors only want to invest into projects that are FSC (or similar) certified (or eligible for certification). A manager should be able to demonstrate how their forest business or Fund aligns to required or voluntary standards, and how these standards are integrated in the day-to-day running of the business or Fund. If the Investor comes with more bespoke requirements, aligned to their investment strategy, the manager can build confidence with investors through their management systems, practices and procedures. For example, if the investor looking to invest direct comes with requirements that a R&D program for natives species is developed, a manager could demonstrate its use of the scientific approach in site-species matching, or a permanent sample plot inventory monitoring system, etc.
Stakeholder Engagement
Forest investors understand how important responsible stakeholder engagement is to the success of an investment. When diligencing an investment – they will look to understand if you have carried out a stakeholder identification and analysis assessment, and what are your processes for stakeholder engagement. For forest businesses, this could be having regular and documented meetings with neighbors, civil society organizations and local governments. It would require that management plans are provided to local stakeholders for feedback and demonstrate that stakeholder concerns are documented, and to the extent possible, addressed. A grievance mechanism could be a good way to manage this. For a Fund manager, they will have policies and procedures that ensure stakeholder engagement is actively managed within the investee companies.
The Team
If an investor is considering a fund investment – they will assess the experience and strength of the team for its ability to manage key elements (Fund/portfolio management, investment management, financial management, market analysis, ESG and Impact, Carbon, and Risk and compliance would be the main ones). Fund investors also prefer if the team has skin in the game – if they are investing themselves into the strategy and that part of the team’s remuneration is linked to Fund performance. For a direct investment, an investor will look at the stage of the business and make sure the appropriate skills are represented. For early-stage businesses, this could be experience in clonal propagation or seedling germination, and plantation establishment silviculture expertise. For later stage opportunities, harvesting and processing will be important, as will marketing and sales. As with Fund investments, leadership of forest companies should have some element of performance-based remuneration There should also be strong executive leadership, financial management, sustainability, ESG and impact management, HR, community liaison (depending on the context), health and safety etc. Investors will also assess management and employee turnover and in rural contexts, the extent in which local talent, and local labor is accessed, developed, and retained. The investor may also want to see a succession plan, or if one isn’t already in place – that one is developed.
Track Record Toolbox
Above are some of the key building blocks that make up a forest business or Fund manager’s track record. Investors may also look into such elements as growth experience – for forest businesses, does executive leadership have demonstrated experience of taking its business to the next level or expanding operations? For a Fund manager, has the manager successfully managed and exited earlier Funds, while launching successor Funds? In both cases, board experience may also be assessed – active participation in board meetings, documentation of board decisions and how action items are executed.
Forum for Forest Company Executives
If you are an Executive of a forest company in tropical developing geographies, or a Fund manager with a mandate for investing in these regions, you will likely resonate with this article – where maintaining excellence in your Investors’ eyes is but one of the several balls you need to juggle on the daily.
Compared to Fund managers, Executives of forest companies in the tropics have the extra burden of isolation. The ForestLink is creating a peer-to-peer forest executive forum, for forest company leadership working in the tropics. As a participating executive, you will discuss the strategic, managerial, and operational challenges and opportunities you face together with peers and other experts so you can take informed action to improve your own professional track record, and that of the business you represent. Register your interest to stay updated and learn more.
