Paper Forecast — Consolidation Cuts Through

Foreign paper and board producers gobble up U.S. industry giants as the market continues to tighten for commercial printers.

Typically, activity in the paper industry is about as gripping as a documentary on fast-drying paints.

But during a two-week period in February, two of the biggest names in U.S. paper and board manufacturing paired off with large, foreign counterparts in one of the biggest consolidation waves in industry history. When the smoke cleared:

• UPM-Kymmene, of Finland, purchased Stamford, CT-based Champion International.
• Finnish-Swedish manufacturer Stora Enso acquired Chicago-based Consolidated Papers, less than a month after buying Norweigan paper wholesaler Carl Emil A/S.
• International Paper purchased Shorewood Packaging, headquartered in New York.
• Canadian giant Abitibi-Consolidated acquired Canadian Donohue.
• Smurfit-Stone Container, of Chicago, picked up St. Laurent Paperboard, of Quebec, in a takeover bid.

The quick and short answer behind the consolidation: low stock prices of U.S. companies and high stock values for foreign manufacturers looking to become global competitors, along with access to attractive raw material regions.

William H. Frohlich, executive vice president of the National Paper Trade Association, Washington, DC, has been tracing the roots of consolidation among paper companies for 15 years. He believes paper mills and merchants have been experiencing printer and end user pressures to reduce the cost of paper as it flows through the distribution channel.

"Currently, merger activity is a result, at least in part, of a strong economy that has not benefitted the paper sector very much," Frohlich states. "These company performance pressures have made it difficult for paper companies to prosper."

Will it continue? "The simple answer is yes, from my perspective," he adds. "The paper industry is realigning itself and I don't think it is finished. Mills, merchants and their customers will see continued consolidation and the new wrinkle: alliances. Independent companies are coming together to complement each other, as in paper merchant marketing groups. Also, e-commerce alliances are taking hold that bring paper companies together with paper-related Internet sites. These activities must also be factored into the paper industry realignment equation."

Commercial printers are left to wonder what impact all this consolidation will have on the availability of various grades and on paper prices, which are still on the rise. According to Andy Paparozzi, chief economist for the National Association for Printing Leadership, 23 percent of its research panel polled in January believe paper is less available than it was three months ago while only 4.4 percent feel it is more available. In January 1999, 7.3 percent felt it was less available while 16.4 percent felt it was more available.

While the availability perception has clearly changed in the course of the last year, in both polls more than 70 percent of the respondents felt paper availability had not changed. Until there is movement on that key statistic, Paparozzi doesn't see any shift in speculative purchasing or inventory accumulation by printers.

Given the highly fragmented nature of the paper manufacturing industry, the consolidation represents little more than removing a bucket of sand from the beach. A big bucket, no doubt, but a bucket nonetheless.

Indeed, a number of printers were not at all surprised by the transaction activity among the companies that supply this integral printing commodity.

"The recent wave of mergers is predictable given the chronic poor earnings of the forest products industry and relatively low growth rates of markets," states Brian Kullman, paper supply chain strategist for Chicago-based R.R. Donnelley & Sons. "It is what happens when an industry fails to make its cost of capital and investors bid down stock prices. The industry will be able to realize cost savings in procurement, freight, production schedules, trim optimization, among others, as a result of these mergers."

Kullman believes the market will remain true to supply and demand levels, and perhaps the somewhat smaller pool of paper companies will show a little more pricing discipline. The slow rate of capacity expansion is a more important issue.

"Larger forest products companies may be more willing to take downtime rather than cut price to secure orders, but it is easier to say that than do it in the face of unsold capacity," he says. "The paper industry is still relatively unconcentrated compared to markets for other commodities—oil, steel and chemicals—and it faces global competition."

Trudie Gustafson, vice president of contract and inventory administration for the Taylor Corporation, North Mankato, MN, also believes true market conditions will dictate prices paid by commercial printers. "It really boils down to pricing, and it is driven by capacity, supply and demand, and competition," she says. "There will always be competitors. The difference now is that they are changing in size and scope, as are their customer bases."

Englewood, CO-based Mail-Well, one of the commercial printing industry's leading consolidators in its own right, views the shrinking of the paper manufacturing side as a natural evolution. Keith Pratt, vice president of purchasing, believes consolidation can bring a more stabilizing influence to the marketplace.

"With Champion uniting with UPM and Stora Enso going with Consolidated, you're bringing in two powerhouses that haven't been in the U.S. before in a big way," he says. "We're now able to benefit from the merger of these companies. The combined companies bring a lot more to the table for Mail-Well in terms of product offerings."

Pratt also notes that the earlier International Paper/Union Camp merger fits into Mail-Well's structure of building relationships. "Already, I'm looking at areas where we can seize the moment and use these consolidations to Mail-Well's benefit," he says. "We have to look at it from a strategic basis and look at the opportunities it brings to Mail-Well."

While paper availability may not be reduced drastically due to industry consolidation, some printers see a reduction in mill choices. David A. Crone, general manager for Phoenix-based Woods Lithographics, points out that a year ago, his company's options for C1S included Frankote, Union, Temple-Inland, Springhill and Beveridge. Today, each company has been acquired by a larger company (in the case of Beveridge, it is closing its mill this June).

Crone feels the U.S. presence of Stora Enso could actually augment availability. "Pricing is another matter. You would think that less competition would allow a harder line on pricing, but if you look at the merchant level, which has gone through the same consolidation—locally, we have gone from 11 merchants, 15 to 18 years ago, to three—their pricing is as competitive today and maybe even more so than in earlier years. Time will tell."