The chonging supply clioin The effects of wood-to.ellergy production on the LBM market

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II/HEN the housing market rebounds, it will reemerge V V into a radically different marketplace.

Most economists agree that by 201I housing activity will once again be fueling economic growth in the United States. In addition, economic stimulus initiatives will likely create a growing number of infrastructure revitalization projects (new public buildings and retrofittings for energy efficiency, for instance).

A third component of the new marketplace-the woodbased energy industry-will also play a role. Current funding and incentives, combined with governmental policies and a drive toward energy independence, will spur companies to convert the energy stored in wood into heat, electricity, and fuel on a commercial scale.

The first two of these components-housing and infrastructure-are known quantities. We can easily measure their effect on the supply of building products based on experience. The impact of the emerging bioenergy industry on the LBM industry, however, is more obscure.

Wood baskets throughout the U.S. have seen significant movement toward commercial wood-to-energy production over the course ofthe last few years.

Wood pellet manufacturers make up the largest part of the market currently. Higher oil prices earlier in the year led to a rise in domestic demand, as residents in colder climates switched to pellet stoves for heating. The increased demand from European markets, where environmental policy has encouraged the use of renewable energy sources, has led to broad expansion of pellet plants along the coasts.

Wood-fueled power plants are becoming commonplace. More companies that intend to burn wood to produce electricity begin the permitting and construction phases every week. This category includes emerging independent power companies and electric utilities building or converting plants to burn only wood or co-fire wood with coal. A growing number of schools, colleges, universities, cities, towns and businesses also burn wood to power their cam- puses and operations. As more states implement renewable portfolio standards requiring power companies to produce a percentage of their electricity through renewable sources, the number of these facilities will continue to grow.

The most compelling and technologically uncertain wood-to-energy scheme is cellulosic ethanol. Currently, federal and state incentives and grants are pushing this biofuel market. Two companies are leading the effort. Range Fuels is building the first commercial scale facility in the U.S. in Soperton, Ga. Gulf Coast Energy began operating a demonstration scale facility in Livingston, Al., and has plans to build three commercial facilities as soon as the first plant shows commercial viability.

More facilities are in the planning and pilot stages. If these early adopters can prove the technology and economics of cellulosic ethanol sound, others will quickly follow.

In conjunction with a recent study, "Quantifying Forest Biomass Resources in the U.S. South," Forest2Market has been tracking these facilities, from announcement through the onset of production. Based on this research, we estimate that plants open before the end of 2015 just in the U.S. South will consume 30 million tons of wood per year.

Bioenergy Facilities in the U.S. South Plant

Eetlrnated Wood Flbar

GaPacitY Use (minion tons; Wood Pellets 3,451,000 tons 5

Power Producers 2.281 MW 23

Cellulosic Ethanol 152,000,000 gallons 2

Tota! 30

Of course, it is possible-due to failed technologies or financial difficulties-that some of these plants will never open. A conservative estimate for 2015 puts the demand at about half that number, approximately 15 million tons. (The new administration's "green recovery" plans will play an important role in whether this number is at the top or bottom of-or even beyond-this range.)

One of the biggest myths about wood-based energy production is that the vast majority of wood fiber used will be underutilized biomass-the crowns, limbs and understory left in the forest after harvest. This has turned out not to be the case. Bioenergy companies, even those that planned to use biomass in the beginning, have turned to pulpwood. At a South Carolina Forestry Association meeting in November, a speaker from Flange Fuels indicated that they were using pulpwood in their demonstration scale cellulosic ethanol facility due to the dirtiness and lack of consistency of woody biomass. A major pellet manufacturer on the Gulf Coast has made a similar decision.

In addition to the quality of the malerial, another reason that biomass may not be the answer to the growing demand problem lies in the economics of removing the material from the forest. Loggers, already hurt by impossible cost structures and lower delivered prices, will not easily make the ilansition to biomass harvesting. Biomass is a lightweight material. Loggers are paid by weight, so harvesting and hauling biomass will always be the last resort for loggers.

In addition, the new equipment required for harvesting biomass is expensive. Even if loggers could afford payments on new equipment loans, with the current credit crisis they are unlikely to find the loans they need.

In places where bioenergy is booming, however, demand has started to spawn interest in new technology. In East Texas, where there are three pellet mills and three planned independent power producers, the economics of biomass harvesting look promising. Angelina Fuels recently purchased a John Deere bundler (produced in Europe) to collect and bale logging debris for transport. Additional improvements in equipment and processes could ease the supply disruptions that are likely to occur because of the emerging bioenergy industry.

While it is the common belief that most of this demand will be met with biomass-the crowns,limbs and understory left in the woods after harvest, this is not the case (see sidebar at left). Most bioenergy concerns-particularly pellet manufacturers and ethanol producers-will use pulpwood as their major source of wood fiber. Based on current infrastructure, technology and operational practices, our models indicate that pine pulpwood and chips will account for the largest percentage of supply for bioenergy plants in the U.S. South-72%o in 2010, 66Vo in 2015. and 617o in 2O2O If bioenergy demand is on the low end in 201 5I 5 million tons-then an additional l0 million tons of pulpwood and chips will be needed to meet the demand. If the demand is on the high end-30 million tons-20 million tons of additional demand will be placed on the system.

To put these numbers in context, consumption of pine pulpwood and chips in the South totaled approximately 130 million tons in 2006, when the housing market was healthy. The additional demand from bioenergy will represent an 8%o-to-l5%o increase in total demand (assuming the housing market recovers to 2006 levels by 2Ol5).

In this context, even our most conservative estimates show that the new energy markets will have a significant impact on the wood fiber supply chain. Consider, for instance, the emergence of OSB on the market in the early 1990s. In local markets, where OSB plants were built in close proximity to each other or to other wood-consuming facilities (southeast Oklahoma and the central North Carolina/Virginia border are two examples), prices for pulpwood-smaller diameter pine logs-doubled and sometimes quadrupled.

As with the introduction of OSB, supply disruptions caused by bioenergy demand will occur in hotspots. East Texas is a striking example, with three announced independent power plants competing with both wood pellet manufacturers and dozens of mill operations. In these areas, OSB, pulp and paper mills, and bioenergy facilities will compete for the same wood supply. Reacting to the increase in demand, pulpwood prices will climb. The competition for loggers to harvest the timber and deliver it to the mill will also intensify, adding additional costs to production. Working from the conservative estimates of bioenergy capacity, the table below shows Forest2Market's estimates of pine pulpwood and chip prices in the South from 2001 to2020.

While the increased demand from new energy facilities will immediately affect building products made from pulpwood, sawtimber will eventually feel the strain as well. Today, most timberland owners plan their harvests between the ages of 2l and 50, with the intent to harvest sawtimber. They do so because the number of dollars they earn per acre increases as they sell larger logs. As prices for pulp- wood increase, however, some landowners will begin harvesting their timber earlier, at pulpwood sizes. Building on a conservative estimate once again, if pulpwood prices rise to within 4O7o or 507o of sawtimber prices, the average age of a southern pine at final harvest could move from 27 years down to 22 years. Larger class sizes-those used to produce lumber, plywood and veneer-will become rarer as a result.

What does this mean for the building products industry?

Expect intermittent shortages. Due to the increased demand for pulpwood and a decreased supply of sawtimber, anticipate periodic and local shortages of raw materialsand hence building products.

Expect prices to climb. Manufacturers and sellers of products made from pulpwood, like OSB and some dimensioned lumber and specialty cuts, will pay more for pulpwood, which will lead to increases in the price of those products. Increased raw material prices will also challenge producers of sawtimber-based products. Lumber, plywood and veneer will all see jumps in price.

Expect some upside. Sawmills, in particular, will see increased market opportunities to sell secondary chips, the byproducts of milling operations. Once used only by pulp and paper companies, these byproducts will see a strong increase in prices because bioenergy facilities will be competing for them. The additional revenue will help bolster cash reserves sawmills need to weather housing slumps in the future.

Inventory and supply chain management will be critical for success on the other side of this downturn. Knowing your market-including current timber and lumber prices, the progress of policy initiatives addressing the economic recovery, and forecasts for both the economy and pricing-could lead to opporlunities near term. For instance, based on our forecast modeling, we expect a brief housing re-bound in 2009. The window of opportunity will be brief-a false start really-but those who can time their inventory to take advantage of this brief uptick could benefit.

The future has never been harder to predict. Where is the bottom of the housing market? Will the new administration's policies encourage home buying, infrastructure rebuilding, and bioenergy advancement? The new year will likely bring answers to these questions that we do not yet anticipate.

Clearly, though, because of the energy value of wood, energy will compete with other forest products for timber supply on a much grander scale going forward. And companies with a deeper understanding of the backside of the LBM supply chain will be able to manage procurementdespite shortages and price increaseswhile remaining profitable.

- Pete Stewart is president, c.e.o., and fttunder of Forest2Market, Pineville, N.C., a company specializ,ing in the wctod supply chain from the forest to the market. F2M currently oJfers tintber pricing, benchmarking services, Jorecasts and resource studies, and in 2009 will launch its ltrmber pricing service. He can be reached at pete.stewart@Jorest2market. com or (704) 357-01 10. ext. I L

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