Timber real estate investment trusts (REITs) make money by harvesting trees grown on their land. To continue paying dividends to investors, timber REITs must be careful to maintain a maintain a “sustainable harvest rate” to avoid depleting their inventory by over-harvesting.
By estimating their total timber inventory and depletion rates, companies estimate their “merchantable timber inventory,” the amount of timber that the company can sustainably harvest and sell at a given time. When estimating merchantable timber, companies cannot include timber located in restricted or environmentally sensitive areas.
Merchantable timber inventories and depletion rates are critical information for investors, and publicly listed timber REITs report this information in filings with the Securities and Exchange Commission. However, without inside information, it can be difficult to determine when a company may be overstating timber inventory or misleading investors about sustainability claims. To encourage those with inside information to step forward, the Dodd-Frank SEC Whistleblower program allows whistleblowers to confidentially report companies who are misleading investors. Whistleblower who provide original information that leads to a successful prosecution can receive between 10% and 30% of monetary sanctions.
While corporate commitments to sustainability are growing, understanding the accuracy of company filings is crucial, particularly for the timber industry. A settled securities class action case against Rayonier, the second largest publicly listed timber REIT, shows how concealing over-harvesting and overstating timber assets can have a serious impact on future financial reporting and how confidential reports from timber industry employees can play a large role in uncovering wrongdoing.
In re Rayonier Inc. Securities Litigation
In September 2015, a group of investors filed a consolidated class action complaint against Rayonier, a publicly traded timber real estate trust, and three former executive officers, alleging that the company had misrepresented its business, operational and compliance policies. The complaint was informed by Rayonier’s 2014 restatement of prior financial statements and a company announcement informing investors that the company would need to reduce harvesting levels by a million tons annually by 2017. As a result of the revision, Rayonier’s stock fell by 21% over the following two days, erasing approximately $909 million in market capitalization.
In 2014, the company had spun off its performance fiber business, leaving the over-harvested timber to new management. The new CEO David Nunes initiated a review which found that the company’s harvesting rates from 2004 to 2013 were on average 44% above sustainable levels on average for a decade, leading to the restatement.
According to the complaint, the company had concealed over-harvesting from investors for years by deviating from the historical definition of merchantable timber inventory to include timber in restricted, environmentally sensitive, or economically inaccessible areas, thus overstating estimated merchantable timber inventory volumes. By overstating the timber inventory, Rayonier understated depletion expense costs of goods sold by approximately $2 million in two quarterly periods in 2014.
During the period in which Rayonier was over-harvesting, the complaint also stated that the company falsely assured investors about its “commitment to sustainable harvesting” and told investors that “sustainable forestry [is] the past, present and future of Rayonier.” In addition to drawing on public reports, the complaint relied on statements from five confidential witnesses, who stated that Rayonier executives had known about the over-harvesting and that “literally everyone” knew about the over-harvesting “right down to the truck drivers.”
In March 2017, Rayonier agreed to settle the case for $73 million. In 2018, Rayonier also resolved a derivative lawsuit filed against former CEO Paul Boynton and several other former executives which sought damages for breach of fiduciary duty.
The Rayonier litigation highlights that, for the timber industry, claims about sustainability represent crucial information for investors. Sustainability practices and policies in timber harvesting can directly impact business operations and financial reporting. While investor groups continue to advocate for stricter guidelines on sustainability and climate risks, timber companies who mislead investors about their sustainability policies and practices may already be violating federal securities laws.
This case also highlights the importance of confidential reporting, particularly in cases where there may be widespread internal knowledge of wrongdoing but few external indicators. In the timber industry, where environmental violations and deceptive information about environmental impacts may be connected to misleading statements made to investors, whistleblowers may be able to rely not just on the whistleblower provisions of environmental laws, but also on the extremely successful whistleblower programs created by the powerful Dodd-Frank Act.