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State of the North American Pulp & Paper Industry

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  1. State of the North AmericanPulp & Paper Industry Into The Breach January 2009 ~ ’08 Q4 Preliminary Data Center for Paper Business and Industry Studies (CPBIS) ~ Dr. Jacquelyn McNutt

  2. Overview North American Forest Products Industry Review~ The Industry Context Where Are We? Financial Performance Outlook ~ How Competitive Outlook ~ The Economy Grade-by-Grade Focus Prices ~ Key Raw Materials Key Takeaways

  3. Where Are We? North American Industry Context ~ • Mature, largely commodity industry ~ slow growth & struggling in current economic downturn… • Recession driving down grade demand ~ for now… • After a relatively strong upturn ~in pricing, investments and shareholder returns ~ this current downturn is dramatic… • Grade prices are strong for now ~ but starting to fall… • Cost pressures from market pulp, natural gas, oil, pulpwood and recovered paper are easing rapidly ~for now… • Credit crisis/ recession / have created very difficult environment for capital intensive, mature commodity industry like the paper industry…

  4. Where Are We? Current North American Industry Context ~ • Weak US Dollar helpedimprove competitiveness ~ but strengthening US dollar will erode this again in 2009… • Older asset base ~ has improved with rationalization ~ but more improvement is needed to reassert competitive strength • Organizational structures will go through additional stresses & need further substantial changes • Significant near term improvements absolutelyessential for individual companies to sustain through this recession let alone outperform the market & industry to reassert dominance… • But let’s also remember ~ The NA Industry Still enjoys significantfiber resources, logistics & world’s major marketplace…

  5. Where Are We? • Paper manufacturing book returns have been and remain below target ~ • High enough to cover required return on debt • Yet not a full return on equity • However, the sector has ~ • Performed well enough to generate positive shareholder returns and • Outperformedthe S&P 500 in recent years • But performance is sliding rapidly again…

  6. Where Are We? • Volume = relatively flat overall in the 2000s until now • With all grades once again declining • Except for tissue ~ which is still show resiliency… • Pricing has been strong, but now is weakening where • Most grades are coming sharply off recent highs • Cost pressures are easing though for now • Looking out = ?

  7. Where Are We? Volume Was Relatively Steady in the 2000s Until Q4 2008

  8. Where Are We? 2009 Volume ~ Now Falling From 2008 Peaks

  9. Where Are We? Prices Still Comparable To Strong 2008 Averages ~ But Now Falling From Peak Levels

  10. Financial Performance Comparative Trends ~ Revenue & Profits Return on Capital Employed & Debt Investment Spending Other Financial Measures [Asset turnover, EBITDA, enterprise value, & role of intangibles]

  11. Financial Performance Total Shareholder Returns Now Falling Sharply Back To S&P 500 Level

  12. Financial Performance 2008 Revenue ~ Dragged Down By Very Poor 4th Quarter

  13. Financial Performance EOY Market Value ~Revenue Multiple ~ Trails S&P 500 and Both Trending Sharply Downward

  14. Financial Performance EOY Market Value ~EBITDA Multiple ~ Comparable To and Now Trending Downward With S&P500

  15. Financial Performance Rising CostsThen Sharply Falling Volume Drove Down Profitability in ’08

  16. Financial Performance Very Poor Q4 Profits (EBITDA) Pull Pulp and Paper Back Towards 2003 Levels

  17. Financial Performance Returns on Book Value of Total Capital ~ Cover Debt But Remain Below Cost of Capital ~ Cash Returns To Shareholders Positive For Now

  18. Financial Performance Impacts Of Recessions And / Or Economic Slowdowns On Industry ROTC ~Have Been Mixed Performance Near Or Above Average In ‘73-’75 ~ And ‘01 To ‘03 ~Below Average In ’80 To ’82 And 90 To ’91

  19. Financial Performance But Book Value of Debt ~ Trending Downward Over Last 7 Years ~ Now Lifting

  20. Financial Performance Market Value of Debt ~Rising Relative To Equity ~But RemainsBelow 2002-’06In Absolute Dollars

  21. Financial Performance M&A Spending Rebounding Again ~ Capital Spending Down ~R&D Up Slightly

  22. Financial Performance Quarterly Capital Spending At Lowest Point In 2000s

  23. Financial Performance Asset Turnover ~Improving ~ Now Exceeds S&P 500 By 11pts.

  24. Outlook ~ How Competitive What Is Competitiveness ~ Looking Out? What Do We Need To Embrace ~ To Reassert A Competitive Based Performance? How Do NA Assets Stack Up ~ Looking Out? What Are Key Grade ~ Competitiveness Factors? Changing Measures of Competitiveness [Trade patterns, role of print, & assets’ age] What Are The Competitiveness Implications?

  25. Outlook ~ How Competitive? We Need to Understand ~ Especially In This Recession ~ That CompetitivenessIs Multidimensional ~ • Mill Performance vs. International Competition ~ i.e. NAvs.SA/ European/ Asian mills’ productivity/ quality • Product Performance vs. Substitutes ~ i.e. paperboard folding cartonsvs.plastic packaging, newspapervs.TV, etc. • End-User Performance vs. International Competitors ~ i.e. domesticvs.international manufacturers • Financial Performance vs. Other Investments ~ i.e. returns on paper investmentvs.alternatives of similar risk

  26. Outlook ~ How Competitive? Based On These Dimensions ~ Industry Participants ~Must Recognize ~ • Off-shoring and substitution by alternative mediums have reduced demand below peak levels and this can accelerate once again… • NA’s lost cost leadership in pulp/ paper production~was being lifted by a weak dollar & performance improvements ~ but • A Strengthening US Dollar and dropping capital investments will change this • Where too strong a focus on capital rationing strategies will further erode the asset base… • The composite financial performance is dramatically weakened… • And without strong actions to balance cash needs with cash in and to shore up the financial strength of the firm ~ all is at risk…

  27. High Volume NA GradesHave Substitution Threats

  28. Outlook ~ How Competitive? Time Spent By US Consumers With Printed Media is Down ~ Except Books & Yellow Pages

  29. Outlook ~ How Competitive? Time Spent By US Consumers With Electronic Media Is Up ~ Except Radio and Recorded Music

  30. Outlook ~ How Competitive? Domestic Paper Demand ~ Resilient Given The Rate of Adoption of New Technologies

  31. Outlook ~ How Competitive? NA Producers Have Improved Asset Quality Through Incremental Investment/ Closure of Uncompetitive Lines North American Paper Machine Lines ~ Averages

  32. Outlook ~ How Competitive? US Total Pulp, Paper and Paperboard Export Growth Continued To Outpace Imports= Reduced Net Imports in 2008 ~ But With A Stronger US Dollar This Can Turn The Other Way Quickly in 2009…

  33. Outlook ~ How Competitive? • We must be mindful of today’s realties ~ • The US economy is down/ unstable & recessionary • Credit markets are in freefall/disarray ~ they will not bail us out • Our high-volume grades are very exposed to alternative mediums’substitution and global market place threats • Economic turbulence is creating ~ enormous global pressures with long term consequences • The global economic crisis is changing the competitive stage • Major volume losses and high costs of production ~ destroy cash flow • And even with all of this and the clear knowledge that traditional business models are stretched to the limit and will not suffice • Improvements are possible ~Don’t judge the long term by today… Look at history…This is not our first economic and industry crisis…

  34. Outlook ~ How Competitive? With all these dynamics ~ participants musttake dramatic action now to weather this storm before we can truly ~ learn how to then thrive… With a short term focus on cash flow, recession, crisis management, supply/demand, and operational excellence ~ which are going to be the key themes needing focus now…

  35. Outlook ~ The Economy Overall Economic Growth NA Economy Sectors Outlook ~ [Implications for the Industry]

  36. Outlook ~ The Economy Advanced Economies’ Recession Into 2009

  37. Outlook ~ The Economy NA Sectors That Directly Drive Pulp & Paper Demand ~Negative Going Into 2009

  38. Grade-by-Grade ~ Focus Printing & Writing Papers Boxboard Containerboard Newsprint Market Pulp Tissue

  39. Printing & Writing Papers In Addition ~High End Uses ~Auto Brochures/Annual Reports ~Being Replaced By Website Versions • High volume UCF remains under pressure from overseas competitors ~Newsprint producers still [slowly now]converting capacity to UC and CGW grades • Financial returns & growth prospects ~below industry averagewhere more restructuring & innovation are essential…. Implications ~ Certain segments will suffer net capacity reductions and others will grow some in timewithin a relatively unstable sector in the near term…

  40. P&W Paper Demand, Capacity & Shipments P&W PaperDemand Began To Change In The Mid-1990s ~ Volume Down In Late ‘08With The Economy ~ Risk of Sustained Declines In Volume In 2009

  41. P&W Papers ~ Excess Capacity Currently Significant Excess NA P&W Capacity ~ Will Come In Line With The Recovery

  42. P&W Papers ~Nominal Prices NominalPrices Are At / Near Historic Peak Levels Where Prior Grade Relationships Have Shifted

  43. P&W Papers ~ Real Prices Real Prices Have Been Rebounding Since 2002/2003 ~But Now Starting To Decline from 2008 Peaks ~ With Potential Major Recessionary Exposure

  44. Boxboard Boxboard Has Been A Relatively Stable Segment • Slow growth in domestic industries that consume boxboard • Increased competition from overseas producers =limited growth • High oil prices and environmental concerns dissuade furthersubstitutionby plastics ~but this can change… • Profitability/returnshave been better than industry average due torelatively concentrated supply base • Facility closures have broughtsupply and demand in line Implications ~Slow growthis expected going forward ~ and the recession could reduce demand significantly and create more stress

  45. Boxboard Demand Vs. GDP NA Boxboard Demand Growth Has Been Generally Positive ButSignificantly Lags GDP

  46. Boxboard Demand, Capacity & Shipments Demand Was Strong Until Late 2008

  47. Boxboard ~ Excess Capacity Excess CapacityIs Forming But Remains Below 2001 to 2003 Levels

  48. Boxboard ~Prices Nominal SBS Prices Staying Near Historic Highs ~ Flattening In Real Terms ~ And At Recessionary Risk

  49. Containerboard The NA Containerboard Segment Has Undergone One Of The Most Extensive Restructurings Within The Industry • Concentration of top producershas gone from one of the lowest to highest in the industry ~improved capacity utilization and expansion discipline has followed • Further acquisitions by large playerswill be difficult • NA producers export market has been supported by the weak US Dollar ~ but this can change with a stronger dollar • Profitability and returns have improvedwith strong capacity management but this is at great risk with a prolonged recession Implications ~ Producers are expected tomanage capacity aggressively to match demand ~risks of further closures possible with the economic and market downturn

  50. Containerboard Vs. Drivers NA Container-board DemandContinues To BeClosely Tied To DomesticNon-durables And DurablesTrends