Can't see the forests for the operating revenue

By Peter V O'Brien

Friday 9th July 2004

A three-sentence announcement from forestry company Evergreen Forests on June 30 about the value of its forests was another example of the yo-yo nature of "profit" that accounting standards impose on some industries.

"Evergreen's chairman Mr Peter Wilson, announced today that Evergreen's independent forest value has increased to $121.2 million as at 30 June, 2004 [December 2003, $118.7 million]. Mr Wilson said that this improved valuation indicates that forest values are stabilising and gives some confidence that provisioning in June and December 2003 has reflected the consequences of the high currency and shipping costs."

The final sentence said Evergreen's 2004 results would be announced in late August.

Evergreen's announcement might have seemed innocuous but it indicated an impact on the full year result, because the $2.5 million valuation should the taken as a revenue item to be consistent with previous treatments. The $118.7 million valuation on December 31 was struck after taking $19.65 million before tax ($13.62 million after tax) as a specific expense in the interim operating statement (the profit and loss account, in the old terminology).

That treatment was the main factor in Evergreen's half-year loss of $13.15 million, compared with a $4.27 million profit in the corresponding period of the previous year. The full-year accounts would apparently write back $2.5 million of the December 31 "expense" with a similar effect on profitability.

Forestry is a volatile industry, where prices for raw material and semi-processed product can fluctuate wildly and affect forest values. Forests are a forest company's "stock" in a broad (and probably non-purist) sense.

It was valid to record changing valuations for forests, otherwise a company's shareholders, creditors, customers and other interested parties could get a false impression of the enterprise's health.

Taking the change through the operating statement verged on the bizarre, given the capacity of valuations to show high volatility when based on gyrating commodity prices. The issue was common to all forestry companies. They recorded big losses from revaluations but probably now would be writing back part of the earlier deficits in line with improved market conditions.

Nuhaka Farm Forestry Fund reported a loss of $3.08 million for the year ended March, after taking $4.38 million through the operating statement as "diminution in the value of assets," for which read "forests."

Carter Holt Harvey's accounts for the year ended December had the most spectacular "loss" arising from the forest revaluations. It reported a net loss of $656 million, which people who compile sharemarket tables carefully translated into a massive deficit in earnings a share terms.

Carter Holt's report was succinct: "During the quarter, the year's fourth, the company completed its valuation of its forests, which has resulted in a writedown in the forest estate, associated goodwill and other restructuring costs of $876 million.

All but $9 million of this writedown is non-cash and has been recorded as a restructuring and non-recurring item. The main factor affecting the writedown was the erosion of log realisations in key markets."

Actual forest asset writedowns accounted for $822 million of Carter Holt's $876 million which was treated as "unusual and extraordinary items" in the operating statements. It was been a little amusing to observe accounting gurus' flip-flops over the years.

They used to frown on companies taking unrealised gains (or losses) to account, particularly investment groups like the former Brierley Investments, which used the device of an investment fluctuation account to park unrealised items after bringing them through the revenue account.

The incorporation of non-realised gains or losses in accounts of investment companies (usually related to portfolios of shares and debt securities) is now part of the true faith and standard accounting procedure under "mark-to-market" principles.

There was some logic in mark-to-market, given investment companies usually traded their portfolios and had different mixes of securities at specific times.

That accounting arrow flew a long way to reach revenue writedowns for impaired assets values in current operating statements when there was no evidence of permanent impairment, or even short-term unrealised movements.

It would be interesting to run a book on how long it will be before the gurus proclaim that revaluations of assets such as forests be removed from operating revenue statements and put into non-revenue reserve accounts.

Taking the change through the operating statement verged on the bizarre

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