High Times

Paper stock markets have been on quite an upward surge during the past year. Price and demand remain strong for most grades of recovered fiber, as a combination of healthy appetites on the part of domestic and overseas mills are being met with limited recovered fiber availability.

Doomsayers may see a murky future for the forest products industry in light of declining newspaper readership and the growth of e-books, but recent activities in North American market have shown that the domestic paper industry still offers opportunities.

The current market seems to possess an underlying strength that could keep the movement of material steady through the second half of 2011. Statistically, the most recent figures from the American Forest & Paper Association, Washington, D.C., show that domestic consumption of recovered fiber in May reached 2.54 million tons, a 5 percent decline from May of 2010, though 2 percent higher than in April of 2011. For the first five months of 2011, the U.S. has consumed 3 percent less recovered paper than in the first five months of 2010.

The AF&PA says the U.S. exported 3 percent more recovered paper in April than in March 2011. Year-to-date exports of recovered paper are up 13 percent.


Strength Through Consolidation
One of biggest challenges facing the paper industry has been balancing supply and demand for its finished products. Significant consolidation could help bring stability to the market.

Throughout the past several years, several dozen paper and paperboard machines have been taken offline. A number of paper and paperboard mills have closed down as well. Additionally, a number of announced or completed acquisitions could work to better control the supply of finished products.

International Paper (IP), a Memphis, Tenn.-based forest products company, has made a move to acquire Temple-Inland Inc., headquartered in Austin, Texas. At press time, Temple-Inland, which operates seven containerboard mills and more than 60 converting facility throughout North America, rejected IP’s overtures, but the deal reveals that there is value in the forest products industry.

IP first made its offer for Temple-Inland in early June 2011, which was rebuffed by Temple-Inland’s board of directors. Then, IP directly appealed to Temple-Inland’s shareholders. IP Chairman and CEO John Faraci says, “We believe Temple-Inland’s price expectations are unrealistic and their unwillingness to engage in any meaningful discussions with respect to value has left us with no alternative but to make our offer directly to Temple-Inland shareholders. While we prefer to reach a negotiated, friendly deal, we are committed to remaining disciplined and completing this transaction at a fair price for both companies’ shareholders. We are confident in our ability to secure the necessary regulatory approvals to complete this transaction in a timely manner.”

It is still uncertain whether IP’s offer will be successful or whether another company will make a solicited counter offer for Temple-Inland.

In rejecting the offer, Temple-Inland cited, among other factors, that the combined company would control almost 40 percent of North American containerboard capacity, a red flag for regulatory agencies. Given the expected scrutiny by U.S. antitrust authorities, it is likely that a potential transaction would be prolonged, even under the most favorable circumstances, Temple-Inland said.

In a Security and Exchange Commission (SEC) filing, Temple-Inland states that, as IP itself has consistently highlighted to the investment community, corrugated packaging demand remains below pre-recession levels but is expected to recover in the near future as the economy continues to improve. “IP is attempting by its offer to acquire Temple-Inland before corrugated packaging demand returns to pre-recession levels and pricing further improves,” Temple-Inland states.

According to a press release issued by Temple-Inland, “IP initially publicized its proposal to acquire Temple-Inland during a period of market weakness in order to claim an inflated ‘premium.’ Given the regulatory uncertainty and the significant conditionality of IP’s offer, there is considerable uncertainty regarding the offer and the timing of Temple-Inland stockholders receiving the ‘certain’ value that IP claims to be offering.”

The IP offer for Temple-Inland follows Atlanta-based RockTenn’s acquisition of Smurfit-Stone Container Corp. soon after Smurfit emerged from bankruptcy protection. The deal was approved and completed May 27, 2011.

Following completion of the deal, RockTenn began closing some of Smurfit’s more inefficient paperboard mills.

Total production in the paperboard sector continues to decline. The AF&PA reports that total kraft paper shipments were 135,100 tons in June, a decrease of 3.5 percent from the same time last year, though the monthly total is a 2.5 percent increase from May 2011.

Of further note, total boxboard production decreased by 0.2 percent in June 2011 compared with June 2010 and was flat from May 2011. Unbleached kraft folding production decreased compared with June 2010 as well as when compared with May 2011. Solid bleached boxboard and liner production increased in June 2011 when compared with June 2010. The production of recycled folding decreased when compared with June 2010 as well as when compared to May 2011, and the inventory of solid bleached kraft paperboard increased in June 2011.

The need for consolidation is not limited to the paperboard industry. For printing and writing mills, the future also looks challenging. With a number of mills that make high-grade paper, end markets are not totally secure. With this in mind, rumors have been circulating about possible mergers and acquisitions in this sector, which could result in better economies of scale.


A Return to Pricing Power
Since price and demand plummeted in late 2008 and early 2009, many forest products industry sectors have improved.

Bulk grades such as old corrugated containers (OCC), old newspaper (ONP) and mixed paper have been the leaders of the market during the past several quarters. Suppliers of these grades have been challenged with swelling demand, with some recyclers saying prices are cresting near record highs.

Higher paper stock prices also are translating into higher finished product prices. Most paperboard producers have implemented finished product price increases. Sonoco, RockTenn and Caraustar, among others, have announced significant price hikes this summer for their finished products.

High grades, including pulp substitutes and deinking grades, also are showing strength, as a moderately improved economy (at least at this printing) requires more material to feed their needs.
According to many industry observers, the strength in prices is driven largely by the shortage of recovered fiber.


The Disappearing Grade
Newsprint (ONP) has been viewed as the grade with the greatest challenges going forward. Reflecting the problems in the paper industry, bankruptcy protection appears to be the modus operandi for many producers. AbitibiBowater emerged from bankruptcy protection in late 2010. Even after slashing newsprint production during its stay in bankruptcy protection, the company continues to jettison capacity and sell off assets. SP Newsprint also recently announced that it has renegotiated with its creditors. And Catalyst Paper, another large newsprint producer, has been removing capacity as it also seeks to find a floor for the supply/demand scenario.

Despite these challenges, the ONP market has been one of the biggest gainers during the past several quarters. A repercussion of the slide in newsprint production is less available ONP for recycling purposes. While a large volume of ONP goes back into making new newsprint, there are many other consuming markets for the grade, including boxes, insulation and building products as well as export markets.

If the overall decline in generation wasn’t enough of a challenge, from the recyclers’ perspective, higher prices for most grades have given these companies the opportunity to stop sorting ONP from other fibers. Instead, they are opting to include more ONP with their mixed paper grade. Several paper stock dealers note the price difference between the two grades is narrow enough that it makes financial sense to blend them together.

The result has been a domino effect on the remaining ONP, with some dealers saying that No. 8 deinking news (typically a cleaner grade of ONP) is, for all intents and purposes, non-existent. Meanwhile, the more widely collected and processed No. 6 news has seen its quality drastically decline to a level where it is basically a mixed paper grade.

For newsprint producers, the possibility of a more robust recovery has been muddied with the inability of newsprint producers to push through price increases in July 2011. Several newsprint producers had announced plans to hike newsprint prices by $35 per metric ton. However, AbitibiBowater, the largest newsprint producer, balked at the increase, which resulted in a failure of the price increase to hold.


High Grades on a High
High-grades have not garnered as much attention as bulk grades recently. But, dealers of high grades are quick to point out that prices for this material have been on an upward swing. Many high grades and office grades of recovered fiber have been heading to the tissue and towel sector. While not necessarily totally immune from economic problems, this sector of the paper industry has shown consistent, albeit modest, capacity increases.

The improvement in high-grade pricing comes despite a fairly significant decline in new shipments. The AF&PA reports that printing-writing paper shipments decreased 5.1 percent in June 2011 compared with June 2010. All four major printing-writing grades posted decreases compared with last June. U.S. purchases of printing-writing papers decreased 6 percent in June, while total printing-writing paper inventory levels that month decreased 4 percent compared with May 2011.

May exports of uncoated free sheet increased year-over-year for the third straight month, according to AF&PA figures. Inventory of coated free sheet decreased for the second time in the last eight months. Coated mechanical inventory month-over-month decreased for the second time this year in June. However, uncoated mechanical shipments decreased year-over-year for the third consecutive time in 18 months.


Full Speed Ahead
Going forward, China, a key driver for bulk grades, also may become a more significant player in the high-grade market, as new capacity to produce printing and writing papers comes online in the country. Facilities such as the new Nine Dragons printing and writing paper mill will require large volumes of high grades as they come online, which may create a situation similar to what is experienced with low grade markets.
 
The weakness in the U.S. currency in comparison with the euro and other world currencies has resulted in a sharp uptick in demand for recovered fiber from the U.S. Additionally, freight rates have softened recently. This, along with more capacity on steamship lines, has made it more economical to ship recovered fiber offshore.