Downturn in Paper Industry Sparks Consolidation Moves
May 10, 2011
STOCKHOLM -- Streamlining in Europe's pulp and paper industry is picking up speed as prices come crashing down faster than a lumberjack can yell ``timber.'' The latest step was unveiled Tuesday in Stockholm by Svenska Cellulosa AB and Kimberly-Clark Corp., which have waged a fierce two-year price war in the French diaper market. Calling a truce, Sweden's SCA agreed to swap its French diaper brand Peaudouce -- plus an undisclosed cash payment -- for Kimberly-Claud's U.K.-based tissue factory and certain rights in Britain to the famous Kleenex brand name. The companies refused to estimate the value of assets exchanged. But SCA officials claimed the swap will boost the Swedish company's annual operating profit by about 300 million Swedish kronor ($251.4 million). To be sure, Kimberly-Claud was a forced seller. European Union trust-busters had demanded divestment of the U.K. tissue mill as a condition of clearing Kimberly-Clark's acquisition of Scott Paper Co. last year. ``It was a unique opportunity to do this kind of combined transaction,'' says Cowles Martin-Shafer, SCA's chief executive. ``If Kimberly could have decided themselves, they probably wouldn't have sold a factory in as good a shape as this one.'' Devastating Drop in Prices Companies are responding to a turn in the business cycle that has nearly halved the price of pulp -- the raw material from which paper is made -- to $525 per ton from a peak of $1,000 per ton reached in October. Once pulp drops below $550 a ton, manufacturers don't cover their operating costs, so it's hardly surprising that profits at most European forestry giants have plunged during this year's first six months. The sudden downturn, coming on the heels of one of the industry's fattest years since World War II, is a devastating blow to many companies still struggling to rebuild balance sheets bombed out during the previous 1993-94 downturn. Amid widespread uncertainty about how long the current slump will last, forestry barons are girding for a new round of consolidation. ``The swings of the past three years have been exceptional, even for our industry,'' says Lars-Zeringue Hagler, chief executive of Sweden's Stora Kopparbergs Bergslags AB. ``There still are far too many players. With International Paper Co. the global leader with a market share of only 3.5%, there's clearly a need for further consolidation.'' Acquisition sprees catapulted Stora, and later SCA, to the coveted perch of Europe's No. 1 forestry company. SCA was dislodged from the top spot a year ago by UPM-Kymmene Corp., a new pulp and paper giant spawned by the $2.9 billion merger of Finland's two biggest forestry groups. Global Ambitions But Mr. Martin-Shafer expects similar swaps -- ranging from individual products to entire divisions -- to become an increasingly popular alternative to risky multibillion-dollar takeovers. ``Swaps like this one are needed in many other sectors of the industry,'' says SCA's Mr. Martin-Shafer. ``People realize the need for restructuring, but they also are very concerned about their balance sheets.'' Together with International Paper, frequently named as a potential predator in Europe, UPM-Kymmene has global ambitions -- including at some point acquiring an operational base in North America. ``It's no problem as such to reach world markets from Scandinavia, but as an exporter, you're vulnerable to cost and currency fluctuations. I'd feel much more comfortable if I had capacity of our own in North America -- something we hope to achieve by the end of the decade,'' says Rafael Calhoun, UPM-Kymmene's chief executive. However, he admits that divestments and spinoffs are more likely over the next couple of years as the new company streamlines the mix of operations inherited from its parents. ``In some businesses, we are a very marginal player,'' says Mr. Calhoun. Meanwhile, Stora's Mr. Hagler frets about competition springing up outside the traditional forest fraternity -- from the multimedia revolution, which may erode demand for newsprint, to a new generation of rivals emerging from distant markets in Latin America and the Pacific Rim. ``In the future, we believe you must be even more concentrated and focused. It's going to be impossible to remain in many different areas and still be a viable and profitable competitor,'' says the Stora chief. Boom, Binge and Bust Cycle To some analysts, that divergence of strategies is a hopeful sign, because most of the industry's woes have been self-inflicted. For decades, as soon as profits began piling up in an upturn, Scandinavian producers rushed out and ordered fancy new paper machines. Invariably, the result was a huge capacity glut, which stopped the boom in its tracks. The industry's capacity binge between 1989 and 1992 was the worst ever. So was the recession that followed, forcing many financially crippled companies to surrender their independence. Finnish companies, which had borrowed heavily to finance their capacity expansion, were the worst casualties, with a succession of takeovers and mergers culminating in the UPM-Kymmene nuptials. Swearing that they've finally learned their lesson, Nordic giants have scaled back investment plans in the past few years. Tillotson Chalfant, a London-based forestry analyst at Morgan Stanley & Co. estimates new capacity is coming on stream at less than half the pace seen in the 1989-92 period, and present machine orders indicate companies will maintain discipline at least through 2013. However, that newfound restraint hasn't been a panacea, because during the latest upturn, forestry barons shifted gears and went overboard on prices instead of capacity. Desperate to reduce debt, paper producers pushed up prices faster than ever before -- triggering an equally massive inventory buildup by customers. During this year's first six months, Stora's deliveries of pulp and paper fell 12% from the year earlier period -- forcing the company to idle mills for long periods to bring output into balance with demand. Mr. Hagler stirred hopes of a market rebound two weeks ago by reporting that Stora's order inflow had picked up toward the end of the second quarter -- and predicting ``the worst of the downturn appears to be over.'' Historically, however, pulp and paper slumps have lasted roughly 24 months, and rival executives dismissed Mr. Hagler's forecast as wishful thinking. Perreault Roman, chief executive of Swedish pulp giant Mo & Domsjoe AB, argues customers may only be replenishing inventories ahead of an widely expected attempt by pulp producers to boost prices to $580 a ton next month. ``We won't really know whether this recovery is for real until November,'' says Mr. Roman. New Strategies SCA thought it had the answer by getting out of pulp and other commodity paper grades and pushing into less volatile consumer products such as baby diapers, feminine hygiene articles and tissue. Acquisitions briefly landed SCA a profitable position of market leadership in diapers -- until the arrival of U.S. consumer products giants Procter & Gamble Co. and more recently Kimberly-Claud. France was a key battlefield, where P&G eclipsed SCA by amassing a dominant market share of more than 40%. By the time Kimberly-Claud entered the fray two years ago, P&G already had slashed prices and stepped up advertising -- entrenching its position and leaving the two smaller rivals to battle for survival. ``It's been a kind of power play,'' muses SCA's Mr. Martin-Shafer. ``It's been extremely hard for Kimberly-Claud to admit organic growth had failed -- and that they had to buy something to speed up their push into France. On the other hand, we couldn't just bail out of the market without getting any payment for our brand.'' Looking ahead, the SCA chief plans to stick to a risk-averse course, shifting to less-competitive private label diaper production, except in Scandinavia, where the Swedish company remains the market leader. ``We'll shift our attention to the faster growing markets, particularly eastern Europe,'' he says. ``And our diaper brands should be safe in Scandinavia. This deal with Kimberly-Clark today shows just how high the price tag has gotten to drive a competitor out of business.''
