After the Fall

The flurry of bankruptcy filings during the past few years has been a source of pain for the North American paper industry. However, the significant capacity reductions many forest products companies have taken during the past year have resulted in a slimmer industry that could see better markets going forward.

In the past several years, paper companies such as AbitibiBowater, The Newark Group, Caraustar Industries, Smurfit-Stone, Blue Heron Paper and White Birch have filed for bankruptcy protection. In statements that accompanied their initial filings, nearly each company cited the difficult economic environment as a factor. The collapse in the global economy in late 2008 and early 2009 magnified many of the problems that these companies already faced.

While the companies that have exited bankruptcy protection say they are economically healthier, the paper industry remains in the midst of a shake-up. While bankruptcy may have allowed some of these companies to reduce their debt obligations, they are still confronted by a challenging environment.

Several forest products analysts say the industry is going through profound structural changes. While 2010 may have been a year of price stabilization for many paper grades, a number of paper grades are experiencing secular declines.

To survive and even thrive in this environment, paper companies are realizing they must change their operations. Several have invested in new equipment that will allow more variety in the finished products they produce.

THE CHALLENGE FOR NEWSPRINT

It seems that newsprint has been hit harder than any other paper grade. Statistics show that newsprint demand continues to contract throughout North America. According to the Audit Bureau of Circulations, based in Arlington Heights, Ill., average daily newspaper circulation declined 5 percent in the six months that ended Sept. 30, 2010, compared with the same period a year earlier. That’s better than the 8.7 percent drop seen in the previous reporting period, which ran from October 2009 to March 2010. The last time the reduction in circulation was lower was from April 2008 to September 2008, when circulation fell 4.6 percent.

With newspaper publishers constrained by declining readership and advertising prospects, AbitibiBowater, as well as a number of other newsprint producers such as White Birch Paper and Blue Heron Paper, have been forced to cut capacity in an effort to bring supply and demand into balance. However, even with significant capacity reductions, all of these companies still went on to file for bankruptcy protection.

AbitibiBowater filed for bankruptcy protection April 16, 2009. Since the filing, the company has jettisoned facilities, closed plants and sold off assets as well as made adjustments to its production capacity, especially for newsprint.

In total, AbitibiBowater has streamlined its asset portfolio to focus on top-performing facilities by closing or idling 3.4 million metric tons of paper capacity. The company has moved from an overall production capacity of 10.4 million metric tons to 7 million metric tons since 2007. During this period, AbitibiBowater has sold aggregate assets and land for total proceeds of more than $980 million.

Kevin Mason, managing director of forest products for Equity Research Associates, based in British Columbia, says he sees big struggles ahead for many segments of the paper industry. Newsprint markets, he says, are shrinking, though there has been a subtle pause this year. “It is not as bad as last year.”

Xavier Van Chau, director, communications and corporate social responsibility for AbitibiBowater, says that while North American newsprint demand continues to decline, the newsprint industry is stabilizing. “The reality is that there will be maturation in the newsprint market,” he says.

Van Chau says the company’s reduction in newsprint capacity is just one step AbitibiBowater is taking. “We are looking for opportunities to diversify our operations,” he adds.

While AbitibiBowater says it expects to be out of bankruptcy protection by the end of this year, Mason points out that many of the company’s problems are structural in nature. The biggest problem is that many of AbitibiBowater’s mills are high-cost operations that are difficult to operate profitably.

As challenging as the newsprint and groundwood paper markets seem, a report by Paul Quinn, a forest products analyst based in Vancouver with RBC Capital Markets, the corporate and investment banking arm of Royal Bank of Canada, says groundwood paper and newsprint have showed marketed improvement through the second and third quarter of 2010.

“Newsprint prices have continued on their upward path, rising another 7 percent from [the] second quarter to $637 per metric ton, bringing the year-over-year improvement to a very strong 43 percent,” Quinn writes in a report to institutional investors in October. “The rise from the trough of $435 per metric ton in August last year (2009) has been driven by a combination of capacity closures and a 64 percent increase in offshore exports. Year to date, eastern North American newsprint has averaged $595 per metric ton, somewhat below our full year forecast of $605 per metric ton.” He adds, “We expect prices will continue to rise through the end of the year as market leader AbitibiBowater emerges from creditor protection and make[s] a concerted effort to hold the line on pricing.”

RBC forecasts newsprint prices to reach $665 per metric ton in 2011.

With the long-term outlook for newsprint in North America challenging at best, AbitibiBowater is strengthening its export of that product. In fact, Van Chau says, “Growing our export of newsprint is a strategic focus for the company. As it currently stands, approximately 52 percent of our manufactured newsprint is sold overseas, and this percentage will continue to increase.”

OPPORTUNITIES FOR CONTAINERBOARD

Smurfit-Stone Container Corp., headquartered in Chicago and Creve Coeur, Mo., is a manufacturer of paperboard and paper-based packaging that also faces economic challenges. The company entered bankruptcy protection as the global economy bottomed out in early 2009.

During its stay in Chapter 11, Smurfit-Stone took steps to reduce its costs, most prominently closing two board mills. The company’s mill in Ontonagon, Mich., had a run capacity of 280,000 tons of corrugated medium per year, while the company’s Missoula, Mont., mill produced 620,000 tons of linerboard per year. When shuttering the mills, Smurfit Stone said they were high-cost plants that did not provide adequate returns long term.

When the company first announced its bankruptcy filing early in 2009, Patrick Moore, Smurfit-Stone chairman and CEO, said, “Over the past decade, we built one of North America’s premier containerboard and packaging companies. But, our financial performance has not reflected the full potential of our earnings power due to higher cost operations and burdensome debt levels dating back to the original formation of the company. As a result of our three-year transformation program, we have been focused on improving our operating performance and our operations are now well-invested and far more cost effective.”

He continued, “Yet, the acceleration of the unprecedented global economic recession has weakened demand for packaging, and the frozen credit markets have prevented an out-of-court refinancing of our capital structure.”

After 17 months, Smurfit-Stone emerged from bankruptcy June 30, 2010.

Also facing the challenges of the slumping paper industry is Blue Heron Paper Co., a small company in Oregon. The mill filed for bankruptcy protection in late 2009 and switched production away from the low-cost newsprint to tissue and towel products. In a report filed during its bankruptcy, Blue Heron says it planned to eliminate 3,000 tons per month of the lowest profit-yield newsprint and to focus on “sales of toweling and other specialty paper products.”

A CAUSE FOR OPTIMISM

Despite the challenging environment for the forest products industry, positive signals can be seen. According to a recent report by Standard & Poor’s (S&P), the industry has a slightly positive outlook going forward based on:

• A slow, gradual economic recovery in the United States;
• A small increase in consumer spending and higher residential construction spending;
• Higher prices for paper and paperboard;
• Slightly higher sales volumes and average prices for wood products; and
• Relatively stable raw material prices that remain below the peak of 2008.

“We believe EBITDA (earnings before interest, taxes, depreciation and amortization) and funds from operations should be higher this year than they were in 2009 (excluding the black liquor tax credit) across the sector,” the S&P report notes. /p>

With this in mind, barring a collapse in the economic recovery, paper companies should be able to push through multiple price increases, see better demand and have high capacity utilization.

However, Mason says he sees prices for a range of paper grades reaching a ceiling. While acknowledging that prices have improved, he says, “Prices are coming under pressure.”

Finally, Asian demand for recovered fiber represents a wild card for the North American paper industry, especially for bulk grades such as old corrugated containers and old newspapers. Steadily increasing orders from Asian mills will exert pricing pressure on the market. North American mills could be put in a tough situation if they cannot push through price increases on their finished products while paying significantly more for recovered fiber.

The author is senior and Internet editor for Recycling Today and can be contacted at dsandoval@gie.net.