REIT generated growth for Plum Creek

Seattle-based Plum Creek Timber restructured itself as a real-estate investment trust in 1999. Since then it has become a giant of the forest.

President and CEO Rick Holley says that growth wouldn't have happened if Plum Creek hadn't become a REIT.

The company now is the country's largest private landowner, with 8 million acres of timberland in 18 states. Since 1999 its revenues and assets have more than tripled. Its stock price has climbed 56 percent since it first announced its planned REIT conversion 10 years ago, far outpacing the major indexes.

Plum Creek's profits have shrunk lately, a consequence of the housing downturn. Still, in a bear market, its share price is up nearly 6 percent so far this year.

No wonder Wall Street is pressuring slip-sliding Weyerhaeuser to follow Plum Creek into REIT-dom.

REITs are companies that own, and usually manage, income-producing real-estate. Congress authorized them in 1960 to open commercial real-estate investing to those without the wherewithal to buy a big property by themselves or invest in a limited partnership.

REITS have restrictions. At least 75 percent of their assets must be in real estate, and that property must produce at least 75 percent of their gross income. They must pay at least 90 percent of their profits to shareholders as dividends.

But REITs can deduct those dividends from corporate taxable income. That means they pay little or no tax, which in turn means more money to reinvest, or return to shareholders. And REITs generally pay sizable dividends, making them attractive to investors.

Timber REITs have another advantage. While the bulk of most other REITs' dividends is taxed as ordinary income, timber REITs' dividends qualify for the lower capital-gains rate.

"The tax implications are pretty big, and pretty appealing," said Daniel Rohr, an analyst at research firm Morningstar who covers Plum Creek and other timber companies.

Most of the 200 or so REITs traded on the major stock exchanges own apartments or shopping malls or office buildings. Timber REITs are rare: There are just three.

Plum Creek was the first. It had been organized as an publicly traded "master limited partnership" (MLP), which, like a REIT, is largely exempt from corporate income taxes. But big, tax-exempt institutional investors couldn't own Plum Creek then; for them, the MLP's distributions would have been taxable income.

In the 1990s, Holley said, Plum Creek concluded that acquiring more timberland was key to the company's growth. To do that it needed to generate more capital. To generate more capital it needed those big institutional investors.

The REIT structure appealed because REIT dividends don't trigger the adverse tax consequences for institutional investors that MLP distributions do. But the concept of a timber REIT was so novel at the time that, before it converted, Plum Creek obtained a ruling from the Internal Revenue Service that timber would qualify as a real-estate asset for REIT purposes.

The REIT conversion helped Plum Creek by focusing Wall Street's attention on the company's millions of acres of trees — "an asset that gets more valuable over the long run even if the entire management team takes a vacation and the economy takes a flier," said Brooks Mendell of Forisk Consulting, a timber-economics firm in Athens, Ga.

Wall Street analysts like timber, he said, but it tends to be undervalued when they review the assets of a vertically integrated timber company, including high-cost, low-margin mills.

"It gets mixed up like a big salad or a big stew," Mendell said. Plum Creek's REIT conversion made the value of its timberlands more transparent.

In 2001 Plum Creek merged with The Timber Co., a Georgia-Pacific spinoff, more than doubling its timberland holdings to 7.8 million acres. Holley calls the transaction "the transforming event in our company's history ... If we hadn't converted to a REIT, we could never have done that merger."

Most of The Timber Co.'s owners were institutional investors. They couldn't have owned units in an MLP.

The Timber Co. merger put Plum Creek in the big leagues, says D.A. Davidson analyst Steve Chercover: "It went from being a pipsqueak that no one paid attention to, to being a component of the S&P 500 that people can't ignore."

Plum Creek paid for the transaction by issuing 113 million shares of new stock to Timber Co. shareholders. It also has borrowed to buy other timberlands; Holley said the company's size and health — both indirect consequences of the REIT conversion — have helped it get that money on more favorable terms.

Plum Creek owns taxable subsidiaries that engage in lines of business off-limits to the REIT itself: cutting trees, selling logs, manufacturing lumber and plywood, and developing some real estate.

But, in keeping with REIT restrictions, those subsidiaries account for less than 20 percent of the parent company's assets. And Plum Creek's overall tax bill is negligible.

Institutional investors now own 65 percent of its shares.

There are some important differences between Weyerhaeuser's situation today and Plum Creek's at the time of its REIT conversion. Weyerhaeuser, structured as a conventional corporation, has no barriers to institutional investors — they own more than 80 percent of the company.

And Weyerhaeuser's mills, real-estate arm and other nontimberland segments account for a much larger share of the company's assets than was the case with Plum Creek in 1999.

Eric Pryne: epryne@seattletimes.com