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The lumber industry has seen its fair share of price increases and decreases throughout its history, but nothing quite like what we’ve experienced over the past year. From April 2020 until April of this year, lumber prices have soared more than 300 percent, setting a record high that’s affecting the wood niche and real estate industry like never before.
The average price of a new single-family home is roughly $36,000 higher due to the rising price of lumber, and with the pandemic still affecting our daily lives, these prices may get worse in 2021 before they get better. So, what’s causing this issue, and how does it affect those in the lumber industry responsible for supplying this expensive inventory?
A Perfect Storm
When the pandemic initially hit, many thought the demand for lumber would decrease. Some sawmills even shut down voluntarily due to this belief, while others did so to take safety precautions and follow social distancing protocols. However, what ultimately happened was that people began saving more money staying home, stimulus checks began to kick in and homeowners around the country saw the opportunity to complete the do-it-yourself and other renovation projects they had been putting off for decades.
In addition to these home projects, historically low mortgage rates drove single-family home construction sky-high. As many people were given the ability to work remotely, it encouraged people to buy homes and only furthered the demand for lumber. This has been the main factor contributing to the rising price of lumber – supply and demand.
The effects of the pandemic became a perfect storm that included mill owners shutting down, transportation bottlenecks in the industry as a result of less drivers working and moving product, and a surge in the real estate market and home construction projects. It may come as a surprise, but throughout all of this, log prices have remained relatively unchanged. The raw supply material isn’t causing the issue of rising prices, but rather the demand.
Restocking wood bought two months ago at $100 might cost you $175 to replace now. These sudden changes in price have caused a significant disruption in accurately keeping up-to-date with proper valuations of inventory. Business owners in the lumber industry have to keep up with these changes and ensure they’re maintaining proper insurance limits. PLM helps their policyholders do this in a few unique ways.
Tracking Inventory to Protect Your Business
Every business owner should be taking stock of their inventory on a quarterly basis, if not more often given the sudden fluctuations that can happen with pricing. The lumber industry’s very nature is high severity, low frequency, meaning there aren’t a lot of losses, but the ones that do occur are significant. Pennsylvania Lumbermens Mutual Insurance Company provides policyholders the option to insure their inventory on a monthly reporting form, which not only helps everyone involved keep track of inventory, but also is the most cost-efficient method to insure values that fluctuate. Stock reporting is an appropriate solution for insureds with significant inventories that cost quite a bit to insure and that frequently fluctuate more than 10 percent from month to month.
A policyholder working with PLM selects a maximum value for their inventory that will never exceed the limit they expect to have at any time over a 12-month period. They set this maximum high enough so they’ll never go over that limit. The insured is charged a deposit premium representing 75 percent of that maximum limit, with the thought process being that the average value over the course of a year will probably come to around 75 percent of the maximum limit.
A simple audit is conducted at the end of the policy term, adding up 12 reporting forms – one for each month – and then dividing that number by 12. If the number is below 75 percent of the maximum limit, the insured receives a refund. If the average is above 75 percent, the insured will receive a premium invoice for the overage amount.
The second option offered by PLM addresses seasonal fluctuations. For example, April to July may be the busiest, most profitable time for an insured where they have more inventory than usual. PLM will allow insureds to increase inventory limits for a specified timeframe to better reflect their increased inventory during peak seasons.
Additionally, as a specialty insurer in the wood niche, PLM offers a unique coverage called profits insurance, which is vital for lumber businesses to make sure they are adequately insured. With profits insurance, the lost profits a business would have earned on lumber lost to a covered loss would be covered. Insureds select their average gross profit margin and a separate limit of profits insurance is maintained. Essentially, if you lose $1,000 in lumber, PLM covers that $1,000. In addition, the loss of profit from the $1,000 of lumber lost would also be covered separately. Most insurance companies require that lumber be sold, but not delivered for this type of insurance. PLM only requires that the lumber be lost by a covered cause of loss.
Putting It All Together
Policyholders are typically underinsured – upwards of 60 percent of all commercial insureds and roughly the same percentage in the lumber industry. We want to ensure our policyholders have adequate coverage should the worst happen.
It’s imperative to make the right changes throughout the year that reflect the changes in lumber prices. This involves the monthly stock reporting previously mentioned not only during times when prices are rising, but also when they’re decreasing. This makes it easier and more cost-effective for insureds to get the exact amount of insurance they need.
Although 2021 may not see any relief for rising lumber prices, especially as the pandemic continues on, 2022 could see the first adjustment back to more normal prices. The U.S. is underbuilt on single-family homes, so the demand for housing will continue to dictate and reflect the pricing. As more sawmills come back online and start producing product, lumber prices may soften, but who’s to say the supply will outpace the demand?
As the oldest and largest mutual insurance company dedicated to wood products, Pennsylvania Lumbermens Mutual Insurance Company has been a trusted partner for many lumber and building material businesses for more than 125 years. We strive to provide our clients with superior coverage and service, as well as the risk management tools they need to operate safely.
For more information, ask your insurance agent or broker about PLM, contact a representative at PLM directly at http://www.plmins.com/ or call 1-800-752-1895. More details on loss control are also available on our website at http://www.plmins.com/additional-resources/.