An imminent rise in paper costs is not a shock for most publishers. While prices have been falling for about two years now, Verso-the current largest supplier of coated mechanical paper-reported a $63.8 million net loss in the first six months of this year, down from a net income of $5.7 million during the same period of 2006. On top of that, supply is down. According to Jeff Bruce, managing director of Xpedx, a division of International Paper, about 17 percent of North American coated paper production permanently shut down this summer. Key printers like Verso and Stora Enso have had to limit and even cancel orders of certain high-demand grades, leaving buyers, in some cases, to scramble.
According to RISI, an information provider for the global forest products industry, when NewPage closes on its acquisition of Stora Enso North America in 2008, the company will bump off Verso and SAPPI as top graphic-paper producers, with a market share in each category almost double theirs. On the printer side, R.R. Donnelley has made three major acquisitions in the last year and is now a $10-plus billion company. And Bruce says, "There’s no question we’ll see more M&A activity." So just how much will the market presence of these growing giants affect already-rising prices and constricting availability?
"The most likely scenario," says John Maine, vice president of World Graphics at RISI, "is that coated paper prices and availability in North America are not going to be greatly affected. The market will remain competitive with supply from other North American producers, European mills, and expanding supply from Asia."
Lane Press reported a different story in its latest "Paper Prophet" newsletter. While Japan’s market offers a "glimmer" of hope, it says, Europe offers even less. "With prices in Europe $60 or more above U.S. prices, not to mention transport costs, it is unlikely we’ll see any significant quantity of coated paper coming from Europe any time soon."
Dedra Smith, president of Printmark West, agrees that "with the weak U.S. dollar, foreign paper is not looking like the usual salvation."
How Bad Is It?
Several other sources-including Ken Garner, president of United Litho-says the word "volatile" is commonly used to describe the paper/printer world. "Healthy industries usually aren’t characterized by high levels of merger/acquisition activity," says Garner, "they typically expand. If you look at consolidation of paper companies and printers in this way, it would seem to suggest they are both struggling. I don’t think the consolidation trend is good news for publishers."
Publishing consultant Steve Frye has a slightly different view, at least on printers. "Most people think there are less options and choices with consolidation, but I have not found that to be true with printers," he says. "The choices we have now are more integrated. Printers have gotten stronger and prices have gone down in the printing industry every year." With paper in general, though, he seems to entirely agree.
"We have an unprecedented era before us," he says, "and nothing good is going to come out of it. Publishers will be in a bad situation. Everyone I talk to sees it, and many are even trying to get out of the industry. I hate to say it, but the writing’s on the wall."
Effects of Consolidation
In terms of pricing, Frye says publishers should expect an increase of more than 15 percent in coated mechanical paper prices for the next year. Those who’ve been getting by in the last few years without hikes because of negotiations or long-term contracts "could be hit," he says, "with 20 percent or more." To use a specific example, a 40-pound coated number-5 sheet that sold for $720 per ton ($36 cwt) in January 2007 is expected to increase to $820 ($42 cwt) in early 2008. Frye says one reason is that foreign companies are divesting from the U.S. paper market and are selling mills not back to paper makers but to financial companies. Both Verso and Stora, he says, are owned by private equity, which is surprising in light of historically low margins in the paper industry. These companies "will make sure to get larger ROIs," he says. "That’s why they’re shutting down supply."
Maine of RISI, on the other hand, sees a less dire pricing scenario. "There are actually elements of the acquisition [of Stora by NewPage] that could favor both lower and high prices for coated paper," he says. "On one hand, synergies could reduce delivery costs by 5-8 percent, which could theoretically lead to lower paper prices. On the other hand, the dominant supplier will be more likely to control supply to match demand by shutting capacity as needed to balance the market."
But that control can lead to more problems, especially for small buyers. "When mills reach the capacity point," says United Litho’s Garner, "they put customers on allocation. They can’t give you any more. It’s not a problem if you don’t anticipate needing more, but it makes it harder for small printers to grow." Without room for growth, a competitive market becomes even less likely.
Charlie Shelley, vice president of sales and marketing at Lane Press, says a shortage of paper means a smaller printer may have to "run around and beg," ultimately forcing a compromise on quality and price, while larger companies are more likely to store extra paper and possibly be less likely to get bumped off an allocation list and left with none.
Lane Press reports that most mills are oversold through the end of the year, and shipments are 7-10 days late. Smith of Printmark West says, "You can’t get grade-5 coated groundwood short-term at all right now," and other grades are tightening as 700,000-800,000 tons of coated groundwood have been taken off the market. Maine believes prices may be cushioned during the next oversupply situation, around 2010, but Smith disagrees. "It’s not going away," she says. "It may not drop back down in the foreseeable future."