State of the North American Pulp & Paper Industry Into The Breach January 2009 ~ ’08 Q4 Preliminary Data Center for Paper Business and Industry Studies (CPBIS) ~ Dr. Jacquelyn McNutt Overview North American Forest Products Industry Review ~ The Industry Context Where Are We? Financial Performance Outlook ~ How Competitive Outlook ~ The Economy Grade-by-Grade Focus Prices ~ Key Raw Materials Key Takeaways Where Are We? North American Industry Context ~ Mature, largely commodity industry ~ slow growth & struggling in current economic downturn… Recession driving down grade demand ~ for now… After a relatively strong upturn ~ in pricing, investments and shareholder returns ~ this current downturn is dramatic… Grade prices are strong for now ~ but starting to fall… Cost pressures from market pulp, natural gas, oil, pulpwood and recovered paper are easing rapidly ~ for now… Credit crisis/ recession / have created very difficult environment for capital intensive, mature commodity industry like the paper industry… Where Are We? Current North American Industry Context ~ Weak US Dollar helped improve competitiveness ~ but strengthening US dollar will erode this again in 2009… Older asset base ~ has improved with rationalization ~ but more improvement is needed to reassert competitive strength Organizational structures will go through additional stresses & need further substantial changes Significant near term improvements absolutely essential for individual companies to sustain through this recession let alone outperform the market & industry to reassert dominance… But let’s also remember ~ The NA Industry Still enjoys significant fiber resources, logistics & world’s major marketplace… Where Are We? Paper manufacturing book returns have been and remain below target ~ However, the sector has ~ High enough to cover required return on debt Yet not a full return on equity Performed well enough to generate positive shareholder returns and Outperformed the S&P 500 in recent years But performance is sliding rapidly again… Where Are We? Volume = relatively flat overall in the 2000s until now With all grades once again declining Except for tissue ~ which is still show resiliency… Pricing has been strong, but now is weakening where Most grades are coming sharply off recent highs Cost pressures are easing though for now Looking out = ? Where Are We? North American Paper & Board (ST 000s) Volume Was Relatively Steady in the 2000s Until Q4 2008 150,000 140,000 130,000 120,000 110,000 100,000 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Domestic Consumption Domestic Shipments Capacity Where Are We? 2009 Volume ~ Now Falling From 2008 Peaks 2008 Volume Change (est.) Nov-Dec ’08 Volume Change (est.) Printing & Writing -6% -20% Boxboard -1% -8% Containerboard -4% -12% Newsprint -6% -7% Tissue -1% NA Chemical Paper Grade Pulp -3% -3% Total -4% -14% Grade Where Are We? Prices Still Comparable To Strong 2008 Averages ~ But Now Falling From Peak Levels Grade 2008 Avg. 2008 Peak Jan. 2009 Jan. ’09 vs Peak UFS #4 Xero (US$/ton) $1,139 $1,180 $1,150 -2.5% 60lb #3 CFS (US$/ton) $1,068 $1,175 $1,060 -9.8% 42# Kraft Liner (US$/ton) $568 $605 $575 -5.0% 30lb Newsprint (US$/tonne) $671 $740 $745 +0.7% Pulp NBSK Trans. (US$/tonne) $745 $778 $613 -21% Financial Performance Comparative Trends ~ Revenue & Profits Return on Capital Employed & Debt Investment Spending Other Financial Measures [Asset turnover, EBITDA, enterprise value, & role of intangibles] Financial Performance Total Shareholder Returns Now Falling Sharply Back To S&P 500 Level Total Shareholder Return Index (2001 = 100) 250 200 150 100 Total Annual Shareholder Return (compound annual rate) 50 12/31/2008 Paper S&P 500 1 year -46.5% -36.0% 5 year -5.5% -1.9% 7 year 0.3% -1.3% 2001 2002 2003 2004 Paper 2005 2006 S&P 500 2007 2008 Financial Performance 2008 Revenue ~ Dragged Down By Very Poor 4th Quarter Compound Annualized Rate 20.0% 10.0% 12.5% 6.5% 2.5% 7.3% 0.0% -4.3% -10.0% -20.0% -30.0% -28.9% -40.0% Latest Quarter 1 Year Pulp & Paper 5 Year S&P 500 Financial Performance EOY Market Value ~ Revenue Multiple ~ Trails S&P 500 and Both Trending Sharply Downward 2.5x Value / Revenue 2.0x 1.5x 1.0x 0.5x 0.0x 2001 2002 2003 2004 2005 2006 2007 2008 Pulp & Paper S&P 500 Financial Performance Median Ttl. Enterprise Value / EBITDA EOY Market Value ~ EBITDA Multiple ~ Comparable To and Now Trending Downward With S&P500 14.0x 12.0x 10.0x 8.0x 6.0x 4.0x 2.0x 0.0x 2001 2002 2003 2004 2005 2006 2007 2008 Pulp & Paper S&P 500 Financial Performance Rising Costs Then Sharply Falling Volume Drove Down Profitability in ’08 Profit Margin = EBITDA / Sales 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 2001 2002 2003 2004 2005 2006 2007 Pulp & Paper S&P 500 2008 Financial Performance Compound Annualized Rate Very Poor Q4 Profits (EBITDA) Pull Pulp and Paper Back Towards 2003 Levels 10.0% 3.4% 5.4% 0.0% 7.8% 0.4% -10.0% -16.6% -20.0% -30.0% -31.3% -40.0% Latest Quarter 1 Year Pulp & Paper S&P 500 5 Year Financial Performance Returns on Book Value of Total Capital ~ Cover Debt But Remain Below Cost of Capital ~ Cash Returns To Shareholders Positive For Now 20.0% ROTC averages 6.5% vs. 10.2% cost of capital 15.0% 10.0% 5.0% 0.0% 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 Return On Total Capital Cost of Capital Financial Performance Book Return on Capital / Cost of Capital (66% Avg.) Impacts Of Recessions And / Or Economic Slowdowns On Industry ROTC ~ Have Been Mixed 140.0% 120.0% 100.0% 80.0% '73-'75 60.0% '90-'91 40.0% 20.0% '80-'82 '01-'03 Red = Recession and / or slowdown 0.0% 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 Performance Near Or Above Average In ‘73-’75 ~ And ‘01 To ‘03 ~ Below Average In ’80 To ’82 And 90 To ’91 Financial Performance Book Value of Debt To Capital Ratio But Book Value of Debt ~ Trending Downward Over Last 7 Years ~ Now Lifting 85% 80% 75% 70% 65% 60% 55% 50% 45% 40% 35% 30% 25% Q1 '01 Q1 '02 Q1 '03 Q1 '04 Q1 '05 Q1 '06 Q1 '07 Q1 '08 Debt % of Invested Capital Financial Performance Market Value of Debt ~ Rising Relative To Equity ~ But Remains Below 2002-’06 In Absolute Dollars $100,000 75.0% 65.0% $90,000 $80,000 45.0% $70,000 35.0% 25.0% $60,000 15.0% $50,000 5.0% $40,000 Q1 '01 Q1 '02 Q1 '03 Q1 '04 Q1 '05 Q1 '06 Q1 '07 Q1 '08 Total Debt - Dollars Debt % of TEV -5.0% Share of TEV Dollars Millions 55.0% Financial Performance Expenditures Relative To Sales M&A Spending Rebounding Again ~ Capital Spending Down ~ R&D Up Slightly 10.0% 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Q1 '01 Q1 '02 Q1 '03 Q1 '04 Q1 '05 Q1 '06 Q1 '07 Q1 '08 Capital Invesment Acquisitions R&D Financial Performance Capital Spending Index (Q1 2001 = 100) Quarterly Capital Spending At Lowest Point In 2000s 125.0 105.0 85.0 65.0 45.0 25.0 Q1 '01 Q1 '02 Q1 '03 Q1 '04 Q1 '05 Q1 '06 Q1 '07 Q1 '08 Financial Performance Asset Turnover ~ Improving ~ Now Exceeds S&P 500 By 11pts. Asset Turnover = Sales / BV Assets 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 0.5 Q1 '01 Q1 '02 Q1 '03 Q1 '04 Q1 '05 Q1 '06 Q1 '07 Q1 '08 Pulp & Paper S&P 500 Outlook ~ How Competitive What Is Competitiveness ~ Looking Out? What Do We Need To Embrace ~ To Reassert A Competitive Based Performance? How Do NA Assets Stack Up ~ Looking Out? What Are Key Grade ~ Competitiveness Factors? Changing Measures of Competitiveness [Trade patterns, role of print, & assets’ age] What Are The Competitiveness Implications? Outlook ~ How Competitive? We Need to Understand ~ Especially In This Recession ~ That Competitiveness Is Multidimensional ~ Mill Performance vs. International Competition ~ i.e. NA vs. SA/ European/ Asian mills’ productivity/ quality Product Performance vs. Substitutes ~ i.e. paperboard folding cartons vs. plastic packaging, newspaper vs. TV, etc. End-User Performance vs. International Competitors ~ i.e. domestic vs. international manufacturers Financial Performance vs. Other Investments ~ i.e. returns on paper investment vs. alternatives of similar risk Outlook ~ How Competitive? Based On These Dimensions ~ Industry Participants ~ Must Recognize ~ Off-shoring and substitution by alternative mediums have reduced demand below peak levels and this can accelerate once again… NA’s lost cost leadership in pulp/ paper production ~ was being lifted by a weak dollar & performance improvements ~ but A Strengthening US Dollar and dropping capital investments will change this Where too strong a focus on capital rationing strategies will further erode the asset base… The composite financial performance is dramatically weakened… And without strong actions to balance cash needs with cash in and to shore up the financial strength of the firm ~ all is at risk… High Volume NA Grades Have Substitution Threats Grade Category Potential Substitutes Re-usable shipping containers, Containerboard offshoring of manufacturing Flexible packaging, offshoring of Packaging Grades manufacturing Printing & Writing Electronic communications, Papers alternative advertising mediums Electronic communications, Newsprint alternative advertising mediums Tissue No Major Substitutes Outlook ~ How Competitive? Time Spent By US Consumers With Printed Media is Down ~ Except Books & Yellow Pages 500 450 Hours Per Person Per Year 400 350 Total Printed Media Newspapers Consumer magazines Consumer books Yellow Pages 300 250 200 150 100 50 0 2000 2002 2004 2006 2008 2010 Outlook ~ How Competitive? Time Spent By US Consumers With Electronic Media Is Up ~ Except Radio and Recorded Music 3,500 3,000 Hours Per Person Per Year Total Electronic media 2,500 Television 2,000 Radio 1,500 Internet, video games and mobile media Recorded music 1,000 Box office and home video 500 2000 2002 2004 2006 2008 2010 Outlook ~ How Competitive? Domestic Paper Demand ~ Resilient Given The Rate of Adoption of New Technologies 275 Number of People (millions) 250 225 200 175 Line Item Cell Phone Subscriptions Pay TV Subscriptions Internet Usage (18+) Current Population 1995-'06 Annual Growth 19% 10% 17% 300mm 233 158 158 150 125 109 103 111 100 75 56 40 50 25 34 28 5 0 1990 Cell Phone Subscribers 1995 2000 Pay TV Subscribers 2006 Internet Users 18+ Outlook ~ How Competitive? NA Producers Have Improved Asset Quality Through Incremental Investment/ Closure of Uncompetitive Lines North American Paper Machine Lines ~ Averages Characteristic (Median) 1999 2007 % Change Age 53 41 -23% Maximum Speed (fpm) 600 800 +33% Width (inches) 174 240 +38% Capacity (tons per day) 200 240 +20% Outlook ~ How Competitive? Dollar Value of Pulp, Paper and Paperboard Trade US Total Pulp, Paper and Paperboard Export Growth Continued To Outpace Imports = Reduced Net Imports in 2008 ~ But With A Stronger US Dollar This Can Turn The Other Way Quickly in 2009… $20,000,000 $15,000,000 $10,000,000 $5,000,000 $0 -$5,000,000 -$10,000,000 1989 1991 1993 1995 1997 US EXPORTS 1999 2001 US Imports 2003 2005 Net Balance 2007 Outlook ~ How Competitive? We must be mindful of today’s realties ~ The US economy is down/ unstable & recessionary Credit markets are in freefall/disarray ~ they will not bail us out Our high-volume grades are very exposed to alternative mediums’ substitution and global market place threats Economic turbulence is creating ~ enormous global pressures with long term consequences The global economic crisis is changing the competitive stage Major volume losses and high costs of production ~ destroy cash flow And even with all of this and the clear knowledge that traditional business models are stretched to the limit and will not suffice Improvements are possible ~ Don’t judge the long term by today… Look at history… This is not our first economic and industry crisis… Outlook ~ How Competitive? With all these dynamics ~ participants must take dramatic action now to weather this storm before we can truly ~ learn how to then thrive… With a short term focus on cash flow, recession, crisis management, supply/demand, and operational excellence ~ which are going to be the key themes needing focus now… Outlook ~ The Economy Overall Economic Growth NA Economy Sectors Outlook ~ [Implications for the Industry] Outlook ~ The Economy Advanced Economies’ Recession Into 2009 Real GDP Growth By Region 2005 2006 3.2% 2.6% 1.9% 1.9% 2.9% 3.3% 3.2% 2.2% 2.8% 2.7% 5.8% Africa Central / Eastern Europe Developing Asia Middle East Latin America Advanced Economies US Euro Area Japan UK Canada Other Advanced Economies Emerging Markets 2007 2008Est 2009Est 2010Est 2.2% 2.6% 2.1% 3.1% 2.7% 1.2% 0.0% -0.4% -0.7% -0.5% -2.2% -0.1% 0.3% -0.5% .2% 1.5% 0.9% 0.9% 1.7% 2.9% 5.7% 4.6% 0.2% 0.2% 2.2% 5.8% 5.6% 6.5% 3.3% 3.0% 4.2% 6.0% 6.8% 5.6% 4.4% 2.5% 4.4% 9.0% 9.5% 10.0% 8.2% 7.7% 8.8% 4.3% 4.7% 5.0% 5.5% 5.9% 5.6% 4.2% 5.3% 2.1% 3.0% 3.8% 4.5% Outlook ~ The Economy NA Sectors That Directly Drive Pulp & Paper Demand ~ Negative Going Into 2009 Industry Segment Impacted 2008 2009 Real GDP All +1.2% -2.2% Implicit Price Deflator All +2.4% +1.8% Personal Consumption Expenditures All +% +1.2% Industrial Production All -1.2% -3.8% Containerboard -1.2% NA Indust. Prod. - Durables Packaging -2.0% NA Food & Beverage Sales Boxboard +5.6% NA Tissue +4.2% NA P&W Papers -2.7% NA P&W Papers, Tissue -0.5% -1% Tissue, Building Products -41% -13% Economic Indicator Indust. Prod. - Non-Durables Food services and drinking places Computer & Electronic Sales Professional Employment & Business Services Housing Starts Grade-by-Grade ~ Focus Printing & Writing Papers Boxboard Containerboard Newsprint Market Pulp Tissue Printing & Writing Papers In Addition ~ High End Uses ~ Auto Brochures/Annual Reports ~ Being Replaced By Website Versions High volume UCF remains under pressure from overseas competitors ~ Newsprint producers still [slowly now] converting capacity to UC and CGW grades Financial returns & growth prospects ~ below industry average where more restructuring & innovation are essential…. Implications ~ Certain segments will suffer net capacity reductions and others will grow some in time within a relatively unstable sector in the near term… P&W Paper Demand, Capacity & Shipments 40,000 NA P& Writing Papers Volume (Short Tons 000s) 35,000 30,000 25,000 20,000 15,000 10,000 5,000 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Demand Capacity Shipments P&W Paper Demand Began To Change In The Mid-1990s ~ Volume Down In Late ‘08 With The Economy ~ Risk of Sustained Declines In Volume In 2009 P&W Papers ~ Excess Capacity 23% 5,000 4,000 18% 15% 14% 3,000 13% 11% 11% 13% 2,000 1,000 0 13% 13% 12% 13% 10% 8% 10% 8% 8% 8% 7% 9% 7% 8% 7% 4% 3% 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Excess Capacity 8% % Excess Capacity NA P&W - % Excess Capacity NA P&W Papers - Excess Capacity (Short Tons 000s) 6,000 Currently Significant Excess NA P&W Capacity ~ Will Come In Line With The Recovery P&W Papers ~ Nominal Prices $1,800 Price ($ Per Short Ton) $1,600 $1,400 $1,200 $1,000 $800 $600 $400 $200 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 CFS No. 3 60lb. UCFS No. 4 Xerocopy CGW No. 4 50lb. Nominal Prices Are At / Near Historic Peak Levels Where Prior Grade Relationships Have Shifted P&W Papers ~ Real Prices Real Price ($2007 Short Ton) $1,800 $1,600 $1,400 $1,200 $1,000 $800 $600 $400 $200 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 CFS No. 3 60lb. UCFS No. 4 Xerocopy CGW No. 4 50lb. Real Prices Have Been Rebounding Since 2002/2003 ~ But Now Starting To Decline from 2008 Peaks ~ With Potential Major Recessionary Exposure Boxboard Boxboard Has Been A Relatively Stable Segment Slow growth in domestic industries that consume boxboard Increased competition from overseas producers = limited growth High oil prices and environmental concerns dissuade further substitution by plastics ~ but this can change… Profitability/returns have been better than industry average due to relatively concentrated supply base Facility closures have brought supply and demand in line Implications ~ Slow growth is expected going forward ~ and the recession could reduce demand significantly and create more stress Boxboard Demand Vs. GDP 2 NA Boxboard Demand Growth Has Been Generally Positive But Significantly Lags GDP Relative Growth Index (1990 = 1) 1.75 1.5 1.25 1 0.75 0.5 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Real GDP Total Boxboard Boxboard Demand, Capacity & Shipments 12,500 NA Boxboard Volume Volume (Short Tons Millions) 10,000 Demand Was Strong Until Late 2008 7,500 5,000 2,500 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 NA Demand NA Capacity Total Shipments Boxboard ~ Excess Capacity 900 25.0% 20.0% 700 600 15.0% 500 400 9% 300 8% 9% 9% 7% 8% 200 100 10.0% 9% 8% 6% 6% 7% 7% 6% 7% 5.0% 4% 5% 5% Box - % Excess Capacity NA Boxboard - Excess Capacity (Short Tons 000s) 800 5% 3% 3% 2% 0 0.0% 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Excess Capacity % Excess Capacity Excess Capacity Is Forming But Remains Below 2001 to 2003 Levels Boxboard ~ Prices SBS 15 point Price ($ Short Ton) $1,200 $1,100 $1,000 $900 $800 $700 $600 $500 $400 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Real Price ($2007) Nominal Price Linear (Real Price ($2007)) Nominal SBS Prices Staying Near Historic Highs ~ Flattening In Real Terms ~ And At Recessionary Risk Containerboard The NA Containerboard Segment Has Undergone One Of The Most Extensive Restructurings Within The Industry Concentration of top producers has gone from one of the lowest to highest in the industry ~ improved capacity utilization and expansion discipline has followed Further acquisitions by large players will be difficult NA producers export market has been supported by the weak US Dollar ~ but this can change with a stronger dollar Profitability and returns have improved with strong capacity management but this is at great risk with a prolonged recession Implications ~ Producers are expected to manage capacity aggressively to match demand ~ risks of further closures possible with the economic and market downturn Containerboard Vs. Drivers 3 Relative Growth Index (1990 = 1) 2.75 2.5 2.25 2 1.75 1.5 1.25 1 0.75 0.5 1990 1992 1994 1996 1998 2000 2002 2004 2006 US Containerboard US Durable Production US Non-Durable Production Real GDP 2008 NA Containerboard Demand Continues To Be Closely Tied To Domestic Nondurables And Durables Trends Containerboard Demand, Capacity & Shipments 45,000 40,000 NA Capacity Overhang Will Be Created By Short Term Substantial Drop In Demand U.S. Containerboard Volume (Short Tons Millions) 35,000 30,000 25,000 20,000 15,000 10,000 5,000 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Demand Capacity Total Shipments Containerboard ~ Excess Capacity 5,000 20% 4,000 15% 14% 3,000 9% 2,000 9% 9% 9% 1,000 10% 10% 6% 5% 6% 7% 6% 6% 4% 6% 5% 5% 7% 7% 5% 3% 4% 3% - 0% 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Excess Capacity % Excess Capacity U.S. Containerboard - % Excess Capacity U.S. Containerboard - Excess Capacity (Short Tons 000s) 25% NA Containerboard’s Excess Capacity Is Increasing But Below 2001 Levels Kraft Linerboard 42lb. Price ($ Short Ton) Containerboard ~ Prices $700 $600 $500 $400 $300 $200 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Real Price ($2007) Nominal Price Linear (Real Price ($2007)) Nominal Linerboard Prices Remain Near Historic Highs ~ But The Recession Will Likely Turn This Newsprint Newsprint remains weakest overall NA industry segment Short-term publishing and printing declines have been exacerbated by substitution to alternative media National and local papers continue to reduce page size and basis weights ~ and are considering in some cases to move from 7 days Opportunities for further consolidation exist and ~ significant capacity reductions and grade conversions will continue Ultimate demand floor for Newsprint is uncertain Implications ~ Ongoing consolidation and capacity rationalization to improve efficiency and match supply and demand is essential ~ Exacerbated and sustained sector pressures with the recession… Newsprint Demand Vs. GDP Relative Growth Index (1990 = 1) 2 1.75 NA Newsprint Demand ~ Continues To Decline 1.5 1.25 1 0.75 0.5 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Real GDP NA Newsprint Demand Newsprint Demand, Capacity & Shipments 20,000 18,000 16,000 Newsprint Volume (Metric Tons 000s) 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 NA Demand NA Capacity Total Shipments Demand, Capacity, Exports, & Shipments ~ Are All Sliding Downward At A Relatively Rapid Rate Newsprint ~ Excess Capacity 2,000 25% 1,600 20% 1,400 1,200 1,000 15% 12% 11% 10% 800 10% 9% 10% 8% 600 7% 400 6% 5% 200 4% 7% 6% 5% 4% 3% 4% 4% 7% 5% 3% 3% 3% 0 0% 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Excess Capacity % Excess Capacity NA Newsprint - % Excess Capacity NA Newsprint - Excess Capacity (Metric Tons 000s) 1,800 Substantial Capacity Rationalization ~ Has Kept Supply And Demand In Balance ~ Despite Falling Volume ~ This Will Be A Further Challenge In The Recession… Newsprint ~ Prices Newsprint Price ($ Per Metric Ton) $900 $800 $700 $600 $500 $400 $300 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Real Price ($2007) Nominal Price Linear (Real Price ($2007)) Nominal Newsprint Prices Are At Historic Highs ~ But Real Prices Flattening & The Threat of Declines is Real Market Pulp Market Pulp ~ Intermediate Good In Production Of Other Paper And Paperboard Grades Internationally traded commodity with growing world-wide demand ~ especially in developing regions being now impacted by recession… Environmental restrictions ~ new capacity additions difficult NA is a large net exporter ~ which is at some risk with exchange rates DIP pulps presently relatively more financially attractive than virgin pulps ~ But this is a constantly changing reality… Implications ~ This sector will be very chaotic but has always showed resiliency ~ Wild cards here are China’s fiber demand… And South America’s capacity expansions… Market Pulp With Other Grades Market Pulp vs. Paper Growth Index 2 1.75 1.5 1.25 1 0.75 0.5 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 NA P&W Papers + Tissue NA BSKP Total NA Market Pulp NA BHKP Market Pulp Demand Still Follows Other Grades ~ But Watch China Demand and South American Capacity Additions Market Pulp Capacity & Shipments 15,000 Market Pulp Demand Has Fallen With Overall Paper Demand Starting In Late 2008 NA Market Pulp Volume (Metric Tons 000s) 12,500 10,000 7,500 5,000 2,500 1983 1986 1989 BSKP Shipments BSKP Capacity 1992 1995 1998 2001 2004 BHKP Shipments BHKP Capacity 2007 2010 BHKP ~ Excess Capacity 1,600 16% 15% 14% 1,200 12% 12% 14% 12% 12% 11%11% 10% 10% 10% 9% 10% 1,000 10% 8% 10% 800 4% 6% 600 9% 5% 400 7% 6% 2% 8% 7% 6% 4% 3% 3% 200 2% 1% - 0% 1983 1986 1989 1992 Metric Tons 1995 1998 2001 2004 % of Capacity 2007 2010 BHKP - % Excess Capacity BHKP - Excess Capacity (Short Tons 000s) 1,400 NA BHKP Excess Capacity Is Increasing To Relatively High Levels BSKP Excess Capacity 3,000 BSKP - Excess Capacity (Short Tons 000s) 2,500 12% 12% 11% 12% 2,000 1,500 15% 14% 14% 9% 11% 12% 13% 11% 11% 10% 10% 9% 8% 7% 10% 9% 7% 8% 6% 5% 7% 1,000 4% 5% 5% 4% 500 3% 0% 3% 1% - 0% 1983 1986 Metric Tons 1989 1992 1995 1998 % of Capacity 2001 2004 2007 2010 BSKP - % Excess Capacity 14% NA BSKP Excess Capacity Is Also Relatively High Market Pulp ~ Nominal Prices Pulp Price Per Metric Ton $1,000 $900 Nominal Market Pulp Prices Have Fallen Quickly And Sharply $800 $700 $600 $500 $400 $300 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 NBSKP Deliv. To US NBHKP Deliv. To US Real Pulp Price Per Metric Ton ($2007) Market Pulp ~ Real Prices $1,200 $1,100 $1,000 $900 $800 $700 $600 $500 $400 $300 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 NBSKP Deliv. To US NBHKP Deliv. To US Real Market Pulp Prices Are Falling Towards Historic Lows Tissue Tissue Has Been the Strongest Overall Segment In North America in Recent Years – Demand is Catching Supply End-product demand is mature ~ Americans highest per-capita consumers in world & incremental demand is slow However ~ overall company financial returns less sensitive to supply / demand dynamics at mill level than other grades Regulatory considerations ~ will limit large M&A activity Both technology changes and new entrepreneurial entrants will drive spending Excess capacity in recent years ~ is reversing Implications ~ Tissue remains the strongest performing grade in the sector ~ but it is not immune to the recession…. Tissue Vs. GDP & Households Formation 2 Relative Growth Index (1990 = 1) 1.75 NA Tissue Demand Growth Has Been More Resilient than Overall GDP 1.5 1.25 1 0.75 0.5 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Real GDP NA Tissue U.S. Households Tissue Demand, Capacity & Shipments 12,000 11,000 10,000 Demand Is Growing Slowly and Capacity Is Once Again Managed 9,000 NA Tissue Volume (Short Tons 000s) 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Demand Capacity Shipments Tissue Excess ~ Excess Capacity 25% NA Tissue - Excess Capacity (Short Tons 000s) 1,200 20% 1,000 12% 600 9% 11% 10% 400 8% 8% 4% 13% 12% 12% 9% 6% 200 15% 13% 800 7% 7% 7% 10% 10% 7% 6% 5% 5% 4% 0 0% 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Excess Capacity % Excess Capacity NA Tissue - % Excess Capacity 1,400 Excess Capacity Is Falling Back Towards Historic Average Levels Tissue ~ Prices 200 Household Paper Products Price Index 190 180 170 160 150 140 130 120 110 100 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Real Price ($2007) Linear (Real Price ($2007)) Nominal Price Prices Strong Since 2004 - 2008 ~ Finished Product & Roll Stock Are Up In Nominal And Real Terms Prices ~ Key Raw Materials Pulpwood Recovered Paper Oil Natural Gas Pulpwood ~ Prices $200 PPI Index - U.S. Pulpwood $180 $160 $140 $120 $100 $80 $60 $40 $20 $0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Real Price ($2007) Nominal Price Real US Pulpwood Prices Risen Over Past Six Years ~ We Expect To See Them Fall With Other Commodities Real Recovered Fiber Price - U.S. Midwest ($2007 Per Short Ton) Recovered Fiber ~ Prices $140 $120 $102 $100 $80 $88 $69 $67 $69 $72 $84 $60 $54 $49 $93 $74 $65 $46 $40 $78 $78 $66 $61 $39 $20 $22 $3 $0 2000 2001 2002 2003 2004 2005 2006 2007 2008 Spot OCC#11 ONP#8 After Unprecedented Increases ~ OCC & ONP Costs Have Fallen Dramatically Oil Price: Domestic West Texas Intermed. ($ per Bbl) Oil ~ Prices $130 $120 $110 $100 $90 $80 $70 $60 $50 $40 $30 $20 $10 $0 Spot Price 1990 1993 1996 Real Price ($2007) 1999 2002 2005 2008 Nominal Price Oil Prices Have Fallen Dramatically From Daily Peak Of $145 Per Barrel In July 2008 To $40 Per Barrel Today Natural Gas ~ Prices Natural Gas Deliv. to Industrial ($ per Ths. Cu. ft.) $11 $10 $9 $8 $7 Spot $6 $5 $4 $3 $2 $1 $0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Real Price ($2007) Nominal Price Natural Gas Prices Have Also Fallen ~ Into The $7 Per Thousand Cubic Foot Range Key Takeaways ~ Overall The NA Industry Performed Relatively Well Over The Past Five To Six Years ~ But The Current Recession Will Reverse This Industry participants will be seriously challenged to produce strong financial performance in a slow demand growth and credit crippled environment and weak global and domestic economies Rising prices improved profitability but demand shortfalls will both undercut price increases and drive returns down… Rising costs that offset some of the benefits of high pricing are easing in the recession and this is a very needed relief… Key Takeaways ~ Looking Out The NA industry financial performance has been adequate but not compelling for a number of years ~ but now is a big ? Improvements in recent years were a relief ~ yet the dramatic nature of this recession cries out for more… Quality of management decisions for short term actions to traverse the recession will differentiate the survivors and future thrivers from those who fail… Short term changes in industry direction will impact all aspects of the industry ~ producers and suppliers alike ... Where there is light on the horizon ~ it will come from bold crisis management actions ~ stay tuned ... Disclaimer The State of the Industry (SOI) presentations are written companions to live lectures. Therefore, content of these presentations should only be considered in conjunction with their oral presentations and only in their entirety. Certain statements made in the SOI presentation series concern past performance and the outlook for the pulp and paper industry. These statements are made for discussion purposes only and are based on limited public information available on the presentation date. While we believe the information contained within the presentations is reasonable, no assurance can be given that the assessments and outlooks discussed are correct. Accordingly, actual or anticipated results with further information and analysis could differ from those herein and these differences could be material. We have no obligation to tell you when opinions or information in this presentation change. Therefore, parties using these presentations should accordingly exercise due diligence when relying on data or other information in the presentations. Unless otherwise stated, trends and outlooks for the overall industry or grade segment are not necessarily applicable to any particular company, security, investment, product, supplier group, customer group or otherwise related industry; This presentation is not intended to provide investment advice of any kind. It has been prepared without regard to the individual financial circumstances and objectives of persons who use it. The industry discussed in this report and related securities may not be suitable for all investors. We recommend that investors independently evaluate particular investments and strategies, and encourage investors to seek the advice of a financial adviser. The appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives. Contact Information Thank You! ~Copies Available At www.cpbis@gatech.edu Contact Information Dr. Jacquelyn-Danielle McNutt Executive Director ~ Center for Paper Business & Industry Studies 404-894-5733 ~ jacquelyn.mcnutt@cpbis.gatech.edu