Over the long sweep of history, the paper industry evolved through big, long- term trends driven by different regions of the world.
After WWII, North America started on a 30-year capacity building binge that dramatically expanded the world's pulp and paper making capacity. The expansion of the late 1950s through the early 1980s brought us new softwood pulping technology, faster, wider machines, dominant companies like Beloit, and a huge amount of product, most of which was for domestic consumption.
Europe followed shortly thereafter with its own period of expansion that brought on more capacity, created major companies like Voith, Valmet, and Andritz from the previously fragmented industry of suppliers, and its own contribution to technology development. Europe's expansion, however, differed from that of North America's in that it was built on the premise of exporting.
Today, Finland and Sweden, which have only 2% of Europe's population, make 24% of the continent's paper, so they clearly are exporting most of their production across country lines. Europe's paper industry grew also with the expectation of exporting outside the region, making its capacity considerably larger than required for domestic regional consumption.
Other parts of the world – Southeast Asia and Brazil, for example – followed in the 1990s with their own periods of substantial growth, bringing the industry new forestry practices, new large-scale hardwood pulping technology, large companies like APP, Fibria, and Suzano, and a new idea of the meaning of low-cost production. These countries' industries also were built on exports. Figure 1 shows how history's large trends still shape the global industry today. North American and European assets are considerably older on average than those of Asia and Latin America.
And lately, it's been China's turn. Larger in scale than any expansion that came before, China's growth has and will affect every industry participant in a wide range of ways. Moreover, the globalization of the world's economy amplifies the impact of China's large scale even further. So, it's important to know what effects are coming our way. How will China's influence on the global paper industry unfold? Here are some thoughts.
China's Paper Industry Will Never Be a Major Global Export Threat
China's mills are unlikely to threaten the global industry with cost-driven competition largely because China doesn't have much virgin fiber. Chinese paper mills make most of their product from recovered paper. Figure 2 shows that the majority of Chinese furnish (for all grades) is recycled ("RCF"). It also shows that China imports the majority of the virgin component of its furnish. With that dependency on imported raw materials, there is little room for Chinese producers to create competitive advantage over foreign producers enough to allow them to export.
Basically, the economics of exporting don't support recycled papers. Almost anyone can make paper from recycled furnish, every country has RCF, and paper machines are not hard to buy and build. The margin from running RCF through a paper machine, therefore, generally isn't high enough to support the additional costs of exporting.
There are possible exceptions. For example, when new capacity comes online – and these days, new machines can be big enough to add materially to the country's capacity – the machine's owner can be forced to export until it builds enough domestic demand for its output. However, as the overall growth trend continues, it will be interesting to see how much China will import, especially during periods when the price of imported recycled papers rises.
When Does Size Matter?
China's influence comes from how much it buys, not how much it makes. China's production is largely consumed at home. Of course, much of that domestic consumption is Chinese companies packaging goods that are destined for export, but the paper products themselves aren't exported per se.
China only exports four percent of its production. Figure 3 shows that China is consuming ever greater share of its economic output domestically relative to the overall economy. Paper consumption will follow the overall economic average. As this happens, China will need to expand its paper making capacity. And, as that happens, the country will become an even more important buyer of capital and consumables.
Impact on Suppliers
Decades ago, as western paper mills were built in great numbers, the supplier community grew up to serve them. Over time, suppliers in North America and Europe consolidated to form large, full-service providers. Today, China is the host of new mills hungry for capital, raw materials, and operating supplies. Since suppliers need to stay close to their customers, there is a premium for a China-based location. While much technology may still reside with western suppliers, cultural, economic, and political factors favor the development of Chinese suppliers.
We can see the growth of Chinese tissue machine suppliers in recent years in Figure 4: of the 1,052 machines supplied in China since 2010, 84% (844) were sold by domestic suppliers. Most (839) were relatively small and slow (1,000 MPM or less) but that is changing. This trend presents a clear and interesting challenge for western suppliers accustomed to serving western customers. How will this trend develop and what must western suppliers do to preserve and expand their positions?
Lots of Buying Leverage
A similar phenomenon exists in finished paper products, especially packaging grades. Suppose China needed to import linerboard in order, for example, to make up for temporary shortages of OCC. Most of the imports would likely come from the U.S., which makes more kraftliner than it needs. However, just 2% of China's demand would cause a 8% increase in the U.S. operating rate – an impossible increase under normal conditions.
Small perturbations in China can have big effects on other countries, even the large ones. We see this now with high prices of unbleached Kraft pulp and even containerboard. So, another interesting issue is the ongoing question of what is happening in China's internal paper industry.
Addicted to Recycled Fiber
China's reliance on recycled fiber means that it uses a major portion of all the recycled fiber collected worldwide (Figure 5). That fact connects all the world's RCF consumers to China. Fluctuations in China's demand drives the global price of major raw materials like OCC and mixed papers and, therefore, the costs and fortunes of many producers elsewhere. We have seen this in the upward spikes of OCC and the destruction of mixed white paper prices when China decided to severely restrict imports of contaminated single-stream recovered papers. The fortunes of producers of testliner and recycled grades of tissue and communication papers are now tied to the behavior of Chinese RCF importers. All that buying leverage makes China particularly important in the OCC market.
Lots of Capital
The last decade's growth of China's paper industry has created some large companies which have thrown off significant amounts of cash.
Together with a financial system that is eager to lend, there are Chinese entities today with an appetite and capacity for M&A. The appetite more and more includes targets outside of China which offer several benefits: geographic diversification, technology, sources of supply, lower risk, and available candidates.
Another one of the ways China's paper industry buying power will affect the global paper industry is its ability to acquire foreign companies and even build greenfield plants. We have seen the beginnings of this trend in Shanying's acquisition of Nordic, and Sun Paper's attempt at a greenfield mill in the U.S.
It will be interesting to follow this trend and see how it affects global trade flows, corporate attitudes towards financial performance, capacity decisions and, therefore market behavior, supplier relationships, and the other drivers of pulp and paper industry participants' performance. We at Fisher look forward to helping the pulp and paper industry navigate through these global changes.
About Fisher International, Inc.
Fisher International, by virtue of its deep expertise in the pulp and paper industry, provides insights, intelligence, benchmarking, and modeling across myriad scenarios. By arming companies with the knowledge that will help them gain a better understanding of their strengths and help identify weaknesses, Fisher is helping businesses stave off challenges and better position themselves for long-term growth. For more information, visit www.fisheri.com.
Source: Fisher International