State of the North American
Pulp & Paper Industry
– An Update
p
& Outlook –
Unstable Times – Problems or Opportunities?
-- August 2005 -Value Resolution Group – Dan Cenatempo AVA, CMC
Center for Paper Business and Industry Studies (CPBIS) – Jim McNutt
1
O
Overview
i
North America Pulp & Paper Industry -Update & Outlook







2
Where are We?
Industry Performance
Economy
Grade--By
Grade
By--Grade Discussion
y Spending
p
g
Industry
Investment Decisions’ Drivers
Wrapp-up
p and Q&A
Wrap
O tl k – Where
Outlook
Wh
Are
A We?
W ?
 The North American pulp and paper industry is currently
enjoying a cyclical rebound – helped greatly by the capital
constraints and capacity rationalizations of recent years
 However,
However the industry remains at risk from:
from:
 Slowing -- but improving of late -- domestic demand growth
 Rising
g international competition
p
– but some changes
g evolving
g
 Substitution pressure from alternative substrates & medias
 Aging domestic asset base – requiring investment attention
 Nagging poor -- but improving -- financial performance
 Lure of pent up expansion plans in an improving market –
risks of past behavior still overhanging
3
O tlook -- Where Are We?
Outlook
Rebounding pulp & paper demand, closure of unviable facilities, a
weaker US dollar & strong economic growth are driving moderately
increased volume, (erratic) prices and profitability in the NA industry.
 The rebounding demand growth has been modest and
could take y
years to reach p
peak 1999 to 2000 levels
 The returning supply and demand balance currently
favor producers but could shift back to customers circa
2007 as higher prices dissuade
diss ade consumption
cons mption and
capacity could again begin to expand
 Yet – the improved fundamentals do create opportunities
to stabilize the NA Industry platform looking out . . .
4
O tlook – Industry
Outlook
Ind str Performance
 Creating shareholder value is the goal of the firm
 Successful companies continuously identify and successfully
execute investments with returns greater than cost of capital
 The industry has not made target returns and
and, therefore not
attracted necessary capital investment – but this could be
turning . . .
 Performance has traditionally followed excess capacity and
pricing – yet – as noted – we may be entering a new era here
 And note that – total shareholder returns have held up better
than some standard industry benchmarks
5
Industry performance and shareholder returns are
improving but still below the level required by
investors to make a fair return at this time . . .
O tl k – Industry
Outlook
I d t Performance
P f
20%
ROTC averages 6.7% vs.
11.0% cost of capital
15%
10%
5%
0%
1975 1978 1981 1984 1987 1990 1993 1996 1999 2002
Return On Total Capital
6
Cost of Capital
Q2
2005
2005 Returns
Are Improving –
But Still 4 Points
Below Target –
R ti
Rational
l
Investors Will
Not Allocate
Capital To A
Poorly
Performing
Industry – Key
Question = Is
The Industry
Situation
Changing?
Outlook – Industry Performance
Index of M
Monthly Totall Shareholde
er Returns
Total Shareholders’ Returns Still Trail S&P 500
400
S&P 500 TSR = 9.1% Per Year
P&FP W. Avg TSR = 6.9% Per
Year
P&FP Avg. TSR = 6.1% Per Year
L.T. Government Bond = 6.2% Per
Y
375
350
325
300
275
250
225
200
175
150
125
100
92
7
93
94 95 96 97 98 99
S&P Return Index
P&FP Company W. Avg.
00
01 02 03 04 05
P&FP Company Avg.
The S&P 500
Rebound Still
Leaves Pulp
& Paper
Industry
Shareholders
Wanting –
Underperform
ing The Index
By 22-3 Points
Per Year
Since 1992
Outlook – Industry Performance
Overall:
 US industry financial performance has been poor on an
absolute basis and persistently weak from the late 90’s
th
through
h today
t d – But
B t we are seeing
i
improvements
i
t
 These short
short--term performance improvements are a welcome
relief for the industry but could be transient if industry
management is again tempted to significantly increase major
capacity oriented [instead of performance enhancing] capital
investments
 The quality of pending investment decisions, basic economic
and demand factors, and the industry’s motivation to pursue
innovative structural change will drive industry performance
in the midmid-to longlong-term . . .
8
Outlook -- The Economy
y
Real GDP Growth By Region
2002
2003
2004
2005
US
1.9%
3.0%
4.4%
3.4%
Euro Area
0.8%
0.5%
2.2%
2.2%
-0.3%
2.5%
4.4%
2.3%
UK
1.8%
2.2%
3.4%
2.5%
Canada
3.4%
2.0%
2.9%
3.1%
Other Advanced Economies
3.6%
2.4%
4.3%
3.5%
Newly Industrialized Asian
E
Economies
i
5 0%
5.0%
3 0%
3.0%
5 5%
5.5%
4 0%
4.0%
4.8%
6.1%
6.6%
5.9%
Africa
3.5%
4.3%
4.5%
5.4%
Central and Eastern Europe
4.4%
4.5%
5.5%
4.8%
Commonwealth of
Independent States
5.4%
7.8%
8.0%
6.6%
Developing Asia
6 6%
6.6%
7 7%
7.7%
7 6%
7.6%
6 9%
6.9%
Middle East
4.3%
6.0%
5.1%
4.8%
-0.1%
1.8%
4.6%
3.6%
Advanced Economies
Japan
Other Emerging Markets
Latin America
9
Overall
Economic
Growth
Projections
Do Favor
Continued
Demand
Growth In The
Industry
y
Outlook -- The Economy
NA Sectors That Directly Drive Pulp & Paper Demand Are
Projected To Be Weaker Than Overall GDP – But Remain Positive
Economic Indicator
Industry Segment
Impacted
199019901995
199519952000
200020002004
2005
200620062010
Real GDP
All
2.5%
4.1%
2.5%
3.4%
3.0%
Implicit Price Deflator
All
2 4%
2.4%
1 6%
1.6%
1 9%
1.9%
3 6%
3.6%
2 2%
2.2%
Personal Consumption
Expenditures
All
2.6%
4.4%
3.2%
3.1%
2.8%
Industrial Production
All
3.5%
6.0%
0.1%
3.7%
2.5%
I d t Prod.
Indust.
P d - Non
N -Durables
NonD
bl
C t i
Containerboard
b
d
1 8%
1.8%
1 3%
1.3%
-0.6%
0 6%
2 2%
2.2%
0 9%
0.9%
Indust. Prod. - Durables
Packaging
4.9%
9.5%
0.7%
5.7%
5.3%
Food & Beverage Sales
Boxboard
1.9%
3.2%
3.6%
5.0%
3.1%
Food services and drinking places
Tissue
4 8%
4.8%
5 5%
5.5%
6 3%
6.3%
7 4%
7.4%
2 9%
2.9%
Computer & Peripheral Sales
P&W Papers
21.6%
5.2%
2.0%
15.0%
4.6%
Professional Employment &
Business Services
P&W Papers,
Tissue
3.4%
5.3%
-0.4%
3.4%
2.7%
US Households
Tissue, Building
Products
1.2%
1.1%
0.2%
1.0%
1.0%
10Housing Starts
Tissue, Building
Products
2.5%
2.9%
5.5%
1.0%
-2.0%
Outlook -- Grade
Grade--by
by--Grade Discussion








11
North American Market
NA Boxboard
NA Containerboard
NA Newsprint
NA Printing & Writing Papers
NA Market Pulp
NA Tissue
NA Recovered Fiber & Energy
Outlook -- NA Market Overview
 The weakness in primary pulp and paper demand in the
2000s has as noted corrected -- due in part to improving
domestic economic conditions
 This -- combined with the closure of significant capacity
within the industry -- has put supply relatively in balance
with demand
 Producers have been generally successful implementing
price increases -- so far -- in this environment
The net result is a cyclical upturn in the US pulp and
paper industry that could reverse circa 2006 / 2007
12
O tl k -- NA M
Outlook
Market
k tO
Overview
i
 The North American Pulp and Paper industry is a mature
web of businesses generally characterized by:







Highest per capita consumption in world across all grades
Slower growth than real GDP
High capital intensity
Cost and price based competition
Below cost of capital returns
An aging asset base
Cyclical pricing and profitability.
profitability . . . .
Historically, the North American industry expanded after each
cyclical peak. Excess capacity was then been pushed onto
international markets – This pattern has finally changed.
13
O tl k -- NA M
Outlook
Market
k tO
Overview
i
 Today the NA Industry business environment has
stabilized due to a combination of factors:
 A weakening US dollar
 Rebounding domestic demand
 Improving returns
 Weakening competitiveness of European producers
 Moderating industry growth in developing regions
 Better understanding by industry leaders of the role of
capacity and spending management
 This represents a substantive change from the past five
years of persistent weakening overall market place and
i d t performance
industry
f
14
Outlook -- NA Market Overview
This has generated a much needed breath of
fresh air for the NA Industry to take stock, and
determine its path forward under more stable
and positive circumstances . . .
A
Accordingly
di l -- the
th North
N th American
A
i
industry
i d t does
d
have
h
a
window of opportunity to further restructure and innovate to
better compete in the changing global market looking out –
b the
but
h business
b i
environment
i
for
f such
h enhancement
h
moves
is transient – and time is likely essential.
15
Outlook – NA Market Overview
Change in Capacity
(Tons/Tonnes)
Compound Annual
Growth Rate
20002000
2004
20052005
2010
19901990
2004
20052005
2010
-74
609
1.4%
1.0%
U.S. Containerboard
-1,292
1,516
1.7%
0.8%
NA Newsprint
-2,057
-2,328
-0.5%
-2.9%
NA Printing & Writing
-1,221
-51
1.7%
0.0%
800
131
2.1%
0.2%
-352
532
1.5%
0.5%
Grade Segment
NA Boxboard
NA Tissue
NA Market Pulp
16
Industry
Surveys And
Projections
B th Indicate
Both
I di t
That Capacity
Could Begin To
Grow Again
Between 2005
And 2010 – But
At A Much
Lower Than
Historic Rate
And From A
Reduced Base
O tlook – NA Bo
Outlook
Boxboard
board
Boxboard is a weak but stabilizing
g NA segment
g
- Slow growth in industries that consume boxboard,
boxboard, increased
competition from overseas producers and widespread
substitution by plastics and alternative packaging materials
have hurt producers
y
are better than industry
y average
g despite
p
 Profitability/returns
these poor fundamentals due to a relatively concentrated
supply base
 Facility
F ilit closures
l
have
h
brought
b
ht supply
l and
d demand
d
d in
i line
li
Implications: Slow capacity growth projected but relatively
Implications:
high risk of falling demand and additional facility closures
closures.
17
O tlook – NA Bo
Outlook
Boxboard
board
2
Relative Growth
h 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
18
NA SBS
Total Boxboard
NA
Boxboard
Demand
Growth Now
Significantly
Lags
g GDP –
Bleached
Board
Growth
Slightly
Outpaces
Recycled
Outlook – NA Boxboard
NA Boxboa
ard Volume
Vo
olume (Short Tons Millions)
10,500
8,000
x
5,500
3,000
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
NA Demand
19
NA Capacity
Total Shipments
Both
Demand And
Supply Have
Resumed
Growth But
Will Take
Several
Years To
Reach
Historic
Levels
O tlook – NA Bo
Outlook
Boxboard
board
900
25 0%
25.0%
20.0%
700
600
15.0%
500
400
9%
300
8%
9% 9%
8%
200
100
8%
6%
6%
7%
7%
5%
5%
10.0%
9%
6% 6%
6%
5%
4%
5 0%
5.0%
5% 5%
3%
0
0.0%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Excess Capacity
20
% Excess Capacity
Box - % Ex
xcess Capacity
NA
A Boxboard - Excess Cap
pacity
(Short T
Tons 000s)
800
NA Boxboard
Has
Consolidated
& Reduced
Excess
Capacity – But
Will Be
Tempted To
Add Capacity
In The OutOutyears If
Demand
Continues To
Grow
Outlook – NA Boxboard
SBS 15 poin
nt Price ($ Sh
hort Ton)
$1,200
$
,
$1,100
$1,000
$900
$800
$700
$600
$500
$400
1990
1992
Real Price ($2004)
21
1994
1996
1998
Nominal Price
2000
2002
2004
Linear (Real Price ($2004))
The Recent
Rebound In
NA Prices Is
Faltering –
L
LongLong
-term
t
Prices
Continue To
Trend
Downwards
Outlook – NA Containerboard
This NA Containerboard segment has undergone one of the most
extensive restructurings
g within the industry
y - 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
 However, NA producers have lost export market to new
overseas capacity, especially in China and Germany
 Profitability and returns are lower than industry average
 Slack capacity absorbed quickly with improved economy
Implications: Producers are expected to grow capacity
slowly with demand – risks of further closures persist from
loss of volume in export markets and to substitutes.
22
Outlook – NA Containerboard
3
Relative Grow
wth Index (199
90 = 1)
2.75
2.5
2.25
2
1.75
15
1.5
1.25
1
0 75
0.75
0.5
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
US Linerboard
US Medium
US Durable Production
US Non
Non-Durable
Durable Production
Real GDP
23
NA Container
Container-board Demand
Continues To
Grow At A Rate
Cl
Closely
l Tied
Ti d To
T
Domestic Non
Non-Durables and
Durables
Production
Outlook – NA Containerboard
45,000
U.S. Containe
U
erboard Volum
me
(Short To
ons Millions)
40,000
NA Capacity
Is Expected
To Be Well
Controlled
R l ti To
Relative
T
Demand
35 000
35,000
30,000
25,000
20,000
15,000
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
D
Demand
d
24
C
Capacity
it
T t l Shipments
Total
Shi
t
O tlook – NA Containerboard
Outlook
25%
5,000
20%
4 000
4,000
15%
14%
3,000
9%
10%
9%
10%
2,000
1,000
,
9%
6% 5%
7%
6%
6%
4%
6% 6%
5%
5%
5% 5%
5%
5% 5%
4%
3%
-
0%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
E
Excess
Capacity
C
it
25
%E
Excess C
Capacity
it
U.S. Con
ntainerboard
d - % Excess C
Capacity
U.S
S. Containerb
board - Exces
ss Capacity
(Sho
ort Tons 000s)
6,000
NA
Container-Container
board’s
Excess
Capacity Is
Now
Relatively In
Balance
Kraftt Linerboard
d 42lb. Price ($ Short Ton
n)
O tlook – NA Containerboard
Outlook
$700
$
$600
$500
$400
$300
$200
1990
1992
Real Price ($2004)
26
1994
1996
1998
Nominal Price
2000
2002
2004
Linear (Real Price ($2004))
NA Capacity
Reductions
Helped
Containerboard
Producers
Maintain &
Prices – But
Normal Profits
Are Not Yet
Being
Generated
O tl k – NA N
Outlook
Newsprint
i t
Newsprint is the weakest overall industry NA segment - ShortShort-term publishing and printing declines have been
exacerbated by substitution to alternative media
 National and local papers continue to reduce page size
 Newsprint is in decline in the longlong-term
 Opportunities for further consolidation exist and significant
capacity reductions and grade conversions will continue . . .
Implications: Rational players will spend a minimum of capital
and seek value added grade conversions. No new NA
Newsprint
p
mills are likely
y to be built -- at least by
y rational
sector players . . .
27
O tlook – NA Newsprint
Outlook
Ne sprint
Relative Grow
R
wth Index (19
990 = 1)
2
1.75
1.5
1.25
1
0.75
0.5
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Real GDP
28
NA Newsprint Demand
NA
Newsprint Is
A Declining
g
Segment In
Long--Term –
Long
A ShortShort- to
Mid-- Term
Mid
Improvement
M Occur
May
O
But Is Not
j
Projected
Outlook – NA Newsprint
19 000
19,000
Demand,
Capacity,
Exports, &
Shipments
Are All
Sliding
Downward
At A
Relatively
Quick Rate
Newsprin
nt Volume
(Metric T
Tons 000s)
17,000
15,000
13,000
11,000
9,000
7,000
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
NA Demand
29
NA Capacity
Total Shipments
Outlook – NA Newsprint
2,000
25%
1,600
20%
1,400
1,200
15%
12%
1,000
10%
800
11%
10%
600
8%
9%
7%
400
5%
200
4%
8%
6%
6%
10%
8%
10%
10%
8%
6%
5%
4% 3%
4%
0
0%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Excess Capacity
30
5%
% Excess Capacity
NA N
Newsprint - % Excess Cap
pacity
NA
A Newsprint - Excess Cap
pacity
(Metric Tons 000s)
1,800
The Supply
And
Demand
Situation
Has
Improved
But Excess
C
Capacity
it
Remains
Outlook – NA Newsprint
New
wsprint Price
e ($ Per Mettric Ton)
$900
$800
$700
$600
$500
$400
$300
1990
1992
1994
Real Price ($2004)
31
1996
1998
Nominal Price
2000
2002
2004
Linear (Real Price ($2004))
Capacity
Reductions
Have
Helped
Boost
Prices -But A
Strong
Downward
Trend
Persists
O tl k – NA P&W P
Outlook
Papers
Recent economic slowdown & alternative media
substitution have impacted P&W demand negatively - Uncompetitive capacity being closed & modest demand
i
increases
will
ill tend
t d to
t reign
i
in
i excess capacity
it
 CF, CGW, UCF & GW Grades have seemingly collapsed into
one relatively interinter-changeable/somewhat flexible grade
structure from consumers’ perspectives
 In this context -- CF quickly became commoditized -displaced by improved CGW grades – changes still expected
Implications:
p
Significant
g
repositioning
p
g / redeployment
p y
of
assets – continued M&A & financial constraints.
32
O tl k – NA P&W P
Outlook
Papers (cont.)
In addition -- high end uses -- auto brochures/annual
reports -- are being replaced by website versions

High
g volume UCF under pressure
p
from overseas
competitors, and Newsprint producers are converting
capacity to UC and CGW grades creating serious
downstream p
pressures for UCF across time

Financial returns & growth prospects are similar to
industry average & room exists for continued M&A activity
Implications: Certain segments will suffer net capacity
reductions and the grade turmoil will continue to create an
unstable overall gradegrade-toto-grade business environment.
33
Outlook – NA P&W Papers
2
Re
elative Growtth Index (1990
0 = 1)
1.75
15
1.5
1.25
1
0.75
0.5
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Real GDP
34
NA UCFS Demand
Employment - WC Proffessionals
P&W Paper
Demand
Fundamentals
Began To
Change In The
Midd-1990s
990s –
Mid
Minimal And
Risky Growth
Is Expected
Going
Forward
O tlook – NA P&W Papers
Outlook
NA P& Wrriting Papers
Volume (Sho
ort Tons 000s
s)
40,000
35,000
30,000
25,000
20,000
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Demand
35
Capacity
Shipments
Rising Imports
Have Slowed
Shi
Shipments
t
Relative To
Domestic
Demand And
Further
Capacity
Rationalization
Is Likely
Outlook – NA P&W Papers
25%
5,000
20%
4,000
14%
3,000
13%
11%
10%
2,000
8%
8%
8%
8%
7%
15%
15%15%
13%
14%
11%
12%
12%
12%
10%
9%
7%
5%
1,000
4%
0
0%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
E
Excess
C
Capacity
it
36
10%
%E
Excess C
Capacity
it
NA P&W - % Excess Cap
pacity
NA P&W Pape
N
ers - Excess C
Capacity
(Shorrt Tons 000s)
6,000
Significant
NA P&W
Over-Over
Capacity
Persists –
Sustaining A
Difficult
M k
Market
Condition
O tl k – NA P&W P
Outlook
Papers
Real Price ($2004 Shorrt Ton)
$1 600
$1,600
$1,400
$1,200
$1,000
$800
$600
$400
1990
37
1992
1994
1996
CFS No. 3 60lb.
UCFS No. 4 Xerocopy
1998
2000
2002
2004
UCGW Average
CGW No. 4 50lb.
Collapsed
Real Price
Trends
Continue
Downward
And Recent
Pricing
Improvements
Have Been
Disappointing
Outlook – NA Market Pulp
Market Pulp is an intermediate good in the production of the
other
th paper and
d paperboard
b
d grades
d - Pulp Investment returns – among the poorest in the industry –
which in some circles is baffling . . .
 Environmental restrictions – new capacity additions difficult
 International producers – continue to import pulp competitively
to US
 DIP pulps presently relatively more financially attractive than
virgin
i i pulps
l
Implications: Some capital to be spent on integrated DIP
facilities. Capacity
p
y will creep
p up
p with incremental improvement
p
projects – Wild card here is China’s fiber demand . . .
38
Outlook – NA Pulp
Market Pulp vs
M
s. Paper Grow
wth Index
2
1.75
15
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
39
Total NA Market Pulp
NA BHKP
Demand
For Market
Pulp
F ll
Follows
Other
Grades –
But Watch
China’s
Needs and
Demands
Looking
O t
Out
O tl k – NA P
Outlook
Pulp
l
15 000
15,000
NA Market Pu
N
ulp Volume
(Metric Ton
ns 000s)
12,500
10,000
7,500
5,000
2 500
2,500
1983 1986 1989 1992 1995 1998 2001 2004 2007 2010
BSKP Shipments
BSKP Capacity
40
BHKP Shipments
BHKP Capacity
Supply
pp y And
Demand For
Chemical
Market Pulp
Is Expected
To Be
Relatively
Flat – But
Again
g
–
Watch
China’s
Needs
Evolve . . .
Outlook – NA BHKP
600
30%
25%
400
20%
300
200
100
10%
10%
12%
6%
9%
7%
6%
3%
5%
2%
(200)
10%
11%
11%
10%
(100)
8%
5%
6%
5%
4%
3% 3%
0%
1%
1983
1986
1989
1992
1995
1998
Metric Tons
41
15%
12%
2001
2004
2007
2010
% of Capacity
BHKP - % E
Excess Capac
city
BHKP - Ex
xcess Capaciity
(Short Tons 000s)
500
NA BHKP
Capacity Is
In Check But
Is Expected
To Creep Up
O
Over
Time
Ti
–
Increasing
The Risk Of
Capacity
Closures
Outlook – NA BSKP
30%
1,500
20%
1 000
1,000
14%
11% 12%
500
15%
11%
14%
12%
12%
10%
9%
9%
8%
-
4%
1%
5%
7%
7%
7%
7%
6%
5%
4%
3%
0%
0%
(500)
-5%
1983
1986
1989
1992
Metric Tons
42
1995
1998
2001
2004
2007
% of Capacity
2010
BSKP - % Excess Capa
acity
BSKP - E
Excess Capac
city
(Shorrt Tons 000s))
25%
NA BSKP Is
Carrying
Relatively
More
Capacity
Than BHKP
– Making It
More
Sensitive To
Swings In
Demand
Rea
al Pulp Price
e Per Metric Ton ($2004)
O tl k – NA M
Outlook
Market
k tP
Pulp
l
$1,200
$1,100
$1,000
$900
$800
$700
$600
$500
$400
$300
1990
1992
1994
1996
NBSKP Deliv. To US
43
1998
2000
2002
2004
NBHKP Deliv. To US
Market Pulp
Prices Have
Once Again
Flattened &
Long--term
Long
Fundamentals
Still Not
Strong Going
Forward
Outlook – NA Tissue
Tissue is strongest overall segment in North America - End
Endd-p
product
oduct demand
de a d is
s mature
atu e – Americans
e ca s highest
g est pe
perpercapita consumers in world & incremental demand is slow
 Demand growth is slowing – but still expanding per capita
 However
H
– overall
ll company fi
financial
i l returns
t
l
less
sensitive
iti to
t
supply / demand dynamics at mill level than other grades
 Regulatory
g
y considerations will limit large
g M&A activity
y
 Both technology changes and new entrepreneurial entrants
will drive spending
 Excess
E
capacity
it is
i building
b ildi
– but
b t likely
lik l to
t be
b absorbed
b
b d
Implications: Segment may be losing some luster – is a
day of reckoning coming or will historical market
dynamics win out?
44
O tlook – NA Tissue
Outlook
Tiss e
2
Relativ
ve Growth Ind
dex (1990 = 1
1)
1.75
NA Tissue
Has
Innovated
To Keep
Demand
Ahead Of
Household
Formation
1.5
1.25
1
0.75
0.5
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Real GDP
45
NA Tissue
U.S. Households
O tlook – NA Tissue
Outlook
Tiss e
10,000
NA Tissue Volume
(Short Ton
ns 000s)
9,000
8,000
7,000
6,000
5,000
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Demand
46
Capacity
Shipments
Constraint
Is Needed
As
Capacity
Growth Has
Recently
Outpacing
Demand –
But Some
Structural
Protections
Remain
Outlook – NA Tissue
25%
NA Tissue - Excess Capa
N
acity
(Short Tons 000s)
1,200
20%
1 000
1,000
15%
800
12%
600
9%
11%
10%
400
9%
8% 8%
6%
200
4%
7%
7%
%
12% 13%
12%
11%
10%
10%
9%
9%
7%
5%
5%
4%
0
0%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Excess Capacity
47
% Excess Capacity
NA
A Tissue - % Excess Capacity
1,400
Excess
Tissue
Capacity Is
Building
But Will
Moderate
As The
Rate Of
Capacity
Additions
Slow
O tlook – NA Tissue
Outlook
Tiss e
160
Household Paper Produ
ucts
ce Index
Pric
150
140
130
120
110
100
90
80
70
1993
1995
1997
1999
Real Price ($2004)
($
)
Linear (Real Price ($2004))
48
2001
2003
Nominal Price
2005
Consumer
Products
Pricing Is
Trending
Upward –
The AwayAwayfrom Home
Market
Trends Are
Less
Favorable
Real R
Recovered F
Fiber Price - U.S. Midwes
st
($2004 Per Short To
on)
Outlook – Recovered Fiber
$100
$81
$83
$75
$62
$80
$78
$67
$50
$44
$62
$46
$54
$35
$25
$0
2000
OCC#11
49
$62
2001
2002
2003
2004
ONP#8
2005
Recovered
Fiber Is
Creating
U
Upward
d Cost
C t
Pressures
Across
Grades – &
With China’s
Needs –
Pressure
Expected to
Sustain
Outlook – Energy – Oil and Natural Gas
$70
$10
Nominal D
Dollars Per Barrel
$8
$50
$7
$6
$40
$5
$30
$4
$3
$20
$2
$10
$1
$-
$1/84
1/87
1/90
1/93
Oil Price
50
1/96
1/99
1/02
Industrial Gas Price
1/05
$ Per Thousand Cubic
c Ft.
$9
$60
$60+ Bbl Oil
& $7/Mcf
Natural Gas
Will Create
C
t
GDP &
Industry
Instability –
But Also
Raise Value
Opportunity
For Wood To
Fuel . . .
US Industry
I d t Spending
S
di
History – Issues – Directions
 Capital Spending – Overview & Outlook
 Profitability & Capital Turnover
 ROTC Versus Cost of Capital
 Debt
D bt L
Levels
l
 Production Capacity Expectations
 Capital
C it l Spending/Depreciation
S
di /D
i ti
 Capital Spending Level
51
US IIndustry
d t – Capital
C it l Spending
S
di
US capital expenditures will continue to be depressed by poor
financial performance & slowing of capacity growth - M&A crowded out CAPEX on PPE last 5 years – Should ease
within largest firms – antitrust constraints
 However, asset swaps & business
business--line spinspin-offs likely to
accelerate + second
second--tier players consolidation
 There is risk that unexpected international acquisitions
activity will interrupt capital spending patterns
Overall, net M&A impact should be better (less impacting) for
CAPEX than the last 5 y
years – but not enough
g to offset weak
investment fundamentals yet.
52
US IIndustry
d t – Capital
C it l Spending
S
di
Combination of economic
economic, pulp and paper market,
market and
financial / investment realities drove US capital
expenditures down from $8+ billion in 2000 to $6+ billion
by 2001 - 2005 capital expenditures will fall again to $6 billion
and then likely cycle between $6.0
$6 0 billion and $8.5
$8 5
billion through 2006
 The following table and graphs summarize these
historical trends and projections
53
US IIndustry
d t – Capital
C it l Spending
S
di
U.S. Real Capital E
Expenditures
($2004 - Milllions)
14,500
12 500
12,500
10,500
8 500
8,500
6,500
4,500
2,500
1975
54
1979
1983
1987
1991
1995
1999
2003
Capital
Expenditures
(CAPEX) On
Pulp & Paper
Property,
Plant &
Equipment
q p
(Nominal $
Millions)
US Industry
Ind str – Profitability
Profitabilit
Net Operrating Profit M
Margin
After-Tax
10%
9%
8%
7%
6%
5%
4%
3%
2%
1%
0%
1975 1978 1981 1984 1987 1990 1993 1996 1999 2002
55
Q2
'05
MTD
Profitability
Has Improved,
B Continues
But
C
i
To Trend
Downward –
And Is
Expected To
Weaken For
the Remainder
of 2005
US Industry – Capital Turnover
Sales / Tota
al Invested C
Capital
200%
180%
160%
140%
120%
100%
80%
1975
56
1979
1983
1987
1991
1995
1999
2003
Capital
Turnover Is
Trending
Downward
Yet Also
Has
Rebounded
& Trend
May Be
Flattening
US Industry
Ind str – Debt Levels
Le els
70%
Debt To Capital Ratio
65%
60%
55%
50%
45%
40%
35%
30%
25%
20%
1975
1979
1983
1987
1991
1995
Debt % of Invested Capital
57
1999
2003
I
Improved
d
Debt Levels
Are Still
Constraining
Needed
Business
Investments
– Yet Debt is
N
Now
M h
Much
Lower Cost
Than Equity
q y
Nortth American Paper & Bo
oard (ST 000s)
US IIndustry
d t – Production
P d ti
Capacity
C
it Expectations
E
t ti
135,000
125,000
115 000
115,000
105,000
95,000
85,000
75,000
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Domestic Consumption
58
Domestic Shipments
Capacity
Total US
Paper &
B
Board
d
Consumption
Is Resuming
Growth –
While Overall
Capacity Is
Relatively
Flat
US IIndustry
d t – Capital
C it l Spending/Depreciation
S
di /D
i ti
PP&E Capitall Expend % o
P
of Deprec.
300%
275%
250%
225%
200%
175%
150%
125%
100%
75%
50%
25%
0%
1975 1978 1981 1984 1987 1990 1993 1996 1999 2002
59
Q2
'05
MTD
US Capital
Expenditures
Remain
Significantly
Below
Depreciation
Levels – But
Seem To
Have
Stabilized
US Industry – Investment Decisions’ Drivers
Attractive
tt act e Oppo
Opportunities
tu t es = More
o e Likely
e y To
o Invest
est
 Strong ROTC = Proven capability to identify/execute
value creating projects – more likely to attract & invest
capital than poor performers
 Good Outlook Product Mix = More likely to invest (i.e.
ti
tissue,
selected
l t d P&W) than
th poorly
l performing
f
i segments
t
(i.e. boxboard, newsprint, UCF, market pulp)
 Geographic Mix = Firms in Higher growth geographic
markets (i.e. Asia & Latin America) more likely to invest
than US and Canadian (and now some European)
f
focused
d players
l
60
US Industry – Investment Decisions’ Drivers
Greater Capital Availability = More Likely To Invest
 Debt
Debt--To
To--Capital
p
Ratio = High
g debt % – the more likely
y to
divert cash to lower debt instead for capital expenditures
 Debt Capacity = Low debt % – creates real opportunities
to use new low cost debt for innovative investment
moves
 Cash Flow Available For Reinvestment = More cash
generated by operations, the more funds typically
invested in the business & to stimulate investors
61
And Remember . . . .
Even though the Current Industry State of
Affairs is Still Unstable & Many Systemic
Problems Remain -- As that Famous Arm
Chair Philosopher Ziggy Once Said . . . .
“You can Complain Because
Roses have Thorns, or you can
Rejoice Because Thorns have
Roses”
62
Recap & Final Thoughts
The essential focus we should have at
this place in our industry’s path forward
is that the future is ours to create –
timidity will undermine our efforts . . .
And . . . In this context – our challenge is
really to seize the opportunities instead of
simply enjoying our respite – to innovate
and restructure in new and novel ways . . .
63
Recap & Final Thoughts
Thank You! -- Copies Available At
www.valueresolution.com -- And -- www.cpbis@gatech.edu
Contact Information
Dan Cenatempo
President -- Value Resolution Group,
Group Inc.
Inc
770-522-8972 -- dan@valueresolution.com
Jim McNutt
Executive Director – Center for Paper Business & Industry Studies
404-894-5733 – jim.mcnutt@cpbis.gatech.edu
64