Tougher times in the MIS industry

As the last leaves of autumn fall to the ground, attention shifts to another type of tree, the plantation variety. Accountants and planners across the land are speaking to their clients about the latest in managed investment scheme (MIS) offerings, and this year it’s everything from pearl farming, truffles, viticulture to the ever-present blue gum plantations.

MIS schemes are popular for their tax-deductible status, but the sector is at a turning point with the tax office removing tax deductibility for non-forestry investments after June 30. Pending the outcome of a court case between the tax office and members of the MIS industry – a court case that has been pending for over a year – this could be the last time you can invest in a range of non-forestry schemes and receive a 100% rebate on your income tax.

Even if you can find a scheme that makes sense from financial and tax perspectives, there are many questioning the economic viability of such schemes from a public policy perspective, perhaps indicating that tree schemes, like their horticultural cousins, may forever lose their tax office product rulings.

The arguments against MIS schemes are highlighted by rural economist David Cornish. “I have to question the management, the model, the performance,” he says.

“The reason why the tax deductions are in place is because of a perceived social benefit for the country, but I don’t think that holds up to scrutiny. It’s basically middle-class welfare. We need more direct and robust incentive. If you follow the dollar through an MIS, only maybe 20¢ hits the ground. Administration fees, kickbacks to financial planners and overheads eat up all those tax dollars. You’re subsidising the financial services industry.”

In contrast, some maintain that such criticisms of MIS, both from an investment and economic angle, are unfair.

“There’s no doubt that this sector has been vastly more marketable with tax deductions,” says agricultural investment adviser Marcus Elgin. “But nearly all of these projects – if you took away the MIS element – would still be viable. If you add in all the costs of MIS marketing, compliance and reporting to clients, ASIC and the tax office, the impact is really marginal anyway.

“You also need to be current with your criticism. And if you want to go back to emu farming, alpacas, and the bad old days of the 1990s, pre-product rulings, pre-Managed Investments Act, that’s not an argument. And if you think that managed investments are the sole origin of bad investments then you’re kidding yourself. "

Elgin says that if investors look beyond the tax incentives, good solid businesses can be found in the sector. Research is key, he says, a view echoed by Jim Blackburn, head of agricultural research for stockbroker Lonsec.

“There certainly are very viable investments in the MIS sector, but there are specific risks, so you need to do your research,” Blackburn says. “Within traditional forestry projects, for instance, you need to select good sites. That’s not rocket science, but other factors are more specific, and more specialist, so you need a fair amount of information and unless you have the skill you need independent research.”

One of the weakest aspects of MIS investments is the lack of universal research on the sector and the inability to benchmark MIS schemes.

A quick search on the internet can reveal a number of websites, such as 2020DirectInvest, which collates research reports on dozens of schemes across the forestry and non-forestry sectors. Schemes rated by research outfits like Marcus Elgin’s Australian Agribusiness Group or Adviser Edge can also provide investors with measures of a scheme’s track record, corporate governance, project risk and financial soundness.

On the surface, schemes like the Rewards Group’s Tropical Fruits Project 2008, or Great Southern’s 2008 Almond Income Project look viable, but schemes run by other operators without an MIS track record, or without any independent research reports send warning bells.

Obscure or single-crop schemes may also contain product-specific risks that are difficult to measure, let alone appreciate. This year’s offerings range from Tasmanian ginseng to Western Australian truffles to olives, truss tomatoes and abalone.

Tim Turner of Rewards Group, which has projects covering various fruits and tropical hardwoods like teak, suggests: “You need to look at the fundamentals of what’s being grown. Is there a demand for the product? What’s the end market? We grow high-value but low-volume commodities. We’re a niche specialist and we make sure we have a lucrative market to sell into, whether that’s export or domestic.

“I don’t think fruit will go out of fashion in a hurry. And at the end of the day, all we’re doing is running a 'corporate farm’, nothing more and nothing less. Is every farm in Australia is a contrived tax arrangement?”

Cornish similarly advises investors to stick to basic products. “When I worked at NAB I looked at nashi fruit, I looked at prawns, at emu farms, the whole box and dice, but I had to ask: how can you do a cash-flow on this? You can’t say. It’s speculative.

“A lot of schemes are inherently volatile. If I gave you a tried and true investment in broad-acreage I could give you a good return, but with truss tomatoes I wouldn’t know what to say. There’s too many ifs. If it wasn’t for the tax deductions it wouldn’t be viable. You’ve got to understand the product. You’ve got to know the track record."

Yet the very independence of a lot of “independent research” can be quite problematic, says agribusiness consultant Sam Paton. “Is independent advice that independent? Often it’s paid for by the MIS promoter,” Paton says. “The thing about investors that puzzles me around this time of year is that nobody considers whether advice is independent.”

Paton advises investors to seek their own independent advice, not just read reports given to them by their planners or scheme promoters. He also cautions that not all advisers may be across the specific risks to agriculture, which follows different cycles and economic triggers to other asset classes.

“My experience after 15 years of analysing these schemes is that no one in this country takes responsibility for delivering a good outcome for investors. ASIC isn’t interested, the tax office isn’t interested, nor are forestry authorities. You need to be very careful.

“If some of these schemes are so good why aren’t we seeing direct investment from people’s own money? Why aren’t the Greek and Italian companies coming here and growing olives if it’s so good?”

The presence of non-MIS companies in the same sector can give some impression as to whether the underlying business is viable. A simple rule of thumb is if the scheme would not be attractive without the tax benefit then don’t invest.

Yet beyond finding a scheme that satisfies both rational investment and taxation requirements, thought must be given to the inherent economic sustainability of the industry. Cornish and Paton say hardwood forestry schemes, for one thing, are actually hurting the very industries in which they operate, something that ultimately is bad for scheme investors in the long term.

“A lack of a forethought is leading to a whole massive oversupply of chipwood and the only option for many growers is to take their wood down to the wharf and hope that Mitsui is in a good mood and is happy to pay a good price,” Paton says.

“There are just too many trees being funded by economic distorting tax incentives,” says Cornish.

Australian National University economist Judith Ajani, author of The Forest Wars says that government policy is long overdue to change, and that tax office product rulings should be scrapped for forestry schemes, just as they are being scrapped for non-forestry schemes in the new financial year.

“These are high-cost tree planting schemes that are attractive for the tax incentives, but what we’ve got is an industry that’s not driven by demand from an end market, but from investors seeking tax deductions,” Ajani says.

“The demand for tax minimisation is much greater than the demand for wood chips and we have an artificial economy. Japan buys about 90% of our hardwood chips, but Japan’s consumption has been flat since the early 1990s and the demand from new markets hasn’t risen to the level that plantation companies had expected.

“The original argument was that if you invest in hardwood trees you save native forests, but what you see is that lower hardwood prices lead to mills seeking cheaper supplies, and that means native forests. Government just hasn’t made the policy connections between plantations and native forests.

“With the government not engaged in forest policy we will see plantations continue to struggle, despite the amount of subsidies, against the also subsidised and underpriced state forestry boards. This is an area where we’ve got some serious fragmentation.”

Paton says ultimately the industry is losing out to foreign competition. “Kimberley Clark closed up in South Australia over a decade ago because it wasn’t viable. The pricing in Australia often just doesn’t work. When you talk to internationally credentialed forestry companies they tell me that Australia is a combination of disaggregated and sub-economic tree growing areas, whereas if you go to New Zealand you’ll find a quarter of a million hectares of trees in one mass.

“I would venture to say that a significant proportion of Australia’s plantations will not see a second planting.”

While generally in favour of the industry, Australian Agribusiness Group’s Marcus Elgin says the industry is noticing government tightening of tax incentives, but this is only affecting non-forestry schemes at the moment. “It’s fair to say that the MIS industry is hurting, but they’re not standing still,” Elgin says.

“There is a test case scheduled to appear before the Federal Court in August between the tax office and the MIS industry. I would think that if the case is actually heard then we should know the outcome by the end of the calendar year. The industry is confident that it will win the case, but then the tax office is confident it will win the case as well."

If you have a lot of tax to pay and can put the time and effort into obtaining truly independent advice, soaring commodity prices do make carefully-selected MIS products quite compelling. While non-MIS agri investments exist (as featured in our earlier story Agribusiness springs back), and are providing excellent returns on an otherwise moribund stockmarket, the tax savings of MIS can be significant, and off-market products do have the benefit of less price volatility (though on the flip-side, less liquidity).

Check the product rulings, do your research, think beyond the tax, and you could enjoy the fruits of a well-chosen investment.