Producers clean up their own backyards
by Caroline Jewitt
Merger and acquisition deals may have lost some impact in terms of size and value compared to previous years, but the benefits of consolidation and globalization moves remain unchanged
The pulp and paper industry has recorded yet another busy 12 months of merger and acquisition (M&A) activity around the globe, but with a slight difference. In the past two or three years, companies have strived relentlessly toward extending their global reach and made some headway in achieving that goal by linking up with complementary parties across different continents. While globalization is still an issue at the heart of most major pulp and paper corporate strategies, there has been a definite push toward consolidating business within regions rather than between them in the past 12 months.
Looking at Europe, plenty of deals have been clinched, but none of them have left industry analysts speechless. Hannu Nyman at Conventum Securities, for example, remains satisfied, but hardly overwhelmed at the nature of recent M&A moves. "There have been no new mega-mergers like UPM-Kymmene pursuing Champion International, Stora Enso and Consolidated Papers or Metsä-Serla [now M-real] buying up Modo Paper," according to Nyman. "Deals such as Haindl and Zanders are much smaller in comparison," he continues.
In June, UPM-Kymmene agreed to buy 100% of Haindl's share capital for Euro 3,640 million ($3,259 million), plus Euro 210 million of debt. The Finnish giant is trying to offload two of the German company's six paper plants to Norske Skog for Euro 1,082 million in an attempt to appease the European Commission (EC) competition authorities. But the EC's preliminary review has raised concerns that the transactions will result in a high level of concentration in the newsprint and magazine sectors within Europe. The competition body is due to announce its final decision on the deal in November.
The other acquisition that Nyman picks out of a long list is M-real's deal to buy Zanders Feinpapiere from International Paper (IP). The three companies went public with their business intentions in September last year. The ink was scarcely dried on M-real's deal to acquire Modo Paper, when the company revealed that it was to buy the US producer's 72% stake in Zanders. Since then, M-real has continued to acquire minority shares in the German fine paper company and now owns over 90%.
But of these two main European transactions, Nyman cites UPM-Kymmene/Haindl as the most significant linkup. "The UPM-Kymmene and Haindl deal continues to consolidate Europe," he says. Following further restructuring, there are likely to be just two sizes of camp in the forest products industry - big and small, according to Conventum Securities. "The time of the middle-sized forest industry companies is over," Nyman comments. "Smaller players will continue to survive in niche markets, but the middle-sized all-round players will disappear," he adds.
The UPM-Kymmene/Norske Skog/Haindl trio has also tickled the interest of analysts at Morgan Stanley, who keep a close eye on capacity development and capital expenditure. The analysts have often said that capital discipline among the major players was in check in 2000, with most of the leaders spending below depreciation levels. Despite a flurry of new machine announcements at the beginning of this year, the disciplinary trend looks set to continue. "Consolidation continues to take precedence as the preferred vehicle for growth and to improve the industry structure. For example, following UPM-Kymmene's announced acquisition of Haindl, the top five newsprint producers in western Europe will control over 90% of the industry's capacity. Newsprint is now Europe's most consolidated paper grade and should also prove to be among its most profitable segments in the years ahead," according to Morgan Stanley.
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Of all the European deals in the past 12 months, the one that kept observers guessing for the longest time was AssiDomän's sale of its containerboard and corrugated assets. For months, the industry grapevine was buzzing with names of likely buyers including SCA and Mondi. But at the end of the day it was Kappa Packaging that scooped the prize and contributed to reshaping the European packaging sector. Richard Nilsson of Enskilda Securities said that the deal makes Kappa a "much more interesting company now".
Mattias Sjödin of Carnegie is another analyst who believes that restructuring will continue, but in a different vein. "We expect the consolidation trend to persist," he says, "however, the pace of consolidation that we witnessed last year simply cannot be repeated in 2001." Out of the major deals that were struck in 2000, Sjödin highlights IP acquiring Champion International, Georgia-Pacific (G-P) snapping up Fort James, Stora Enso pursuing Consolidated Papers, Abitibi-Consolidated taking over Donohue and Norske Skog buying up Fletcher Challenge Paper. Sjödin also picks out Weyerhaeuser placing a bid for Willamette, "which will probably turn out to be successful", he says.
Among the smaller deals in 2000, Sjödin picks out UPM-Kymmene/Repap, IP/Shorewood Packaging, Smurfit-Stone/St Laurent Paperboard and Westvaco’s purchase of the Evadale mill from Inland. "Furthermore, Arjo Wiggins and Cartiere Burgo were taken off the stock market," he continues.
North America continues to buzz
Deals may have generally been smaller and more localized, but there are still plenty of them, particularly in North America. Having placed the company firmly on the North American map through the takeover of Fletcher Challenge Canada, Norske Skog has continued on the M&A trail. Earlier this year, Norske Skog Canada (NSCL) agreed to buy fellow Canadian company, Pacifica Papers. The deal has cleared all the hurdles put in its way by competition bodies and NSCL was due to take up ownership of Pacifica at the end of August. The transaction takes the combined company to the #3 spot in the North American newsprint and specialty mechanical papers market. Shortly after the deal was announced, NSCL wrapped up the sale of the Mackenzie pulp mill to Pope & Talbot in June.
Analysts were positive about the Norwegian-owned producer's M&A progress. Many described the Pacifica deal as a good move that fits in with the company's strategy of focusing on its core business of publication papers. Lars Kjellberg at Credit Suisse First Boston welcomed the deal, saying that the west coast market has lacked a strong newsprint player with Bowater and Abitibi-Consolidated dominating the east coast.
Bowater has been busy with its own M&A activity in the pursuit of a linkup with Alliance Forest Products. The companies were expected to close the deal at the end of the third quarter. The transaction marks Bowater's fourth key acquisition in the newsprint sector in the last three years. By absorbing capacity over the years, Bowater has squeezed into the #2 slot on the list of North America's newsprint producers and #3 in market pulp.
Another of the North American big boys, G-P, has also played a significant role in changing the shape of the industry. In August this year,
G-P completed the sale of four paper mills to Domtar for a total price of $1.65 billion. The giant producer has also contributed to the globalization movement by selling some of its away-from-home tissue assets to Sweden's SCA. The sale satisfied the US Department of Justice's anti-trust concern over G-P's earlier acquisition of Fort James. The deal gave SCA a 17% slice of the US away-from-home tissue market and a #3 market position behind G-P/Fort James and Kimberly-Clark.
According to analysts, there is a clear trend for companies to grow their core segments rather than diversifying. Producers are looking to sharpen their focus while contributing to the consolidation of the industry. "The single deal that sticks out from this trend is G-P's acquisition of Fort James last year," Sjödin at Carnegie comments. "However, this deal was not made in order to diversify G-P, rather G-P saw a unique opportunity to transform the company fundamentally and to move up the value chain," he explains.
The general consensus at Carnegie is that there is sound industrial logic behind the vast majority of the deals that have been struck over the past 12 months. "With hindsight, the timing of a few deals was rather poor and prices were also too high," Sjödin points out. "We consider 2000 a peak year for M&A in the pulp and paper industry and we do not expect the same extraordinarily high level of activity in 2001," he concludes.
Latin America sees some action
Many pulp and paper companies may have failed to amaze industry watchers with news of blockbuster deals being struck around the globe, but several Latin American firms managed to hook observers' attention. The move made by Japan Brazil Paper and Pulp Resources Development Company (JBP) to overturn Aracruz and Votorantim Celulose e Papel's (VCP) bid for a majority stake in Celulose Nipo-Brasileira (CENIBRA) is still fresh in onlookers' minds. At the 11th hour, JBP exercised its right to first refusal on Companhia Vale do Rio Doce's (CVRD) 51.48% stake in CENIBRA. The move takes the Japanese consortium's share in the 820,000 tonne/yr bleached eucalyptus pulp mill from 48.52% to 100%. JBP's decision puts paid to Aracruz and VCP's ambitions to snap up the main stake. The two Brazilian players had earlier joined forces to form a special purpose joint venture company, Carthage Investment, to bid for the shares. A $670.5 million offer from the joint venture won the closed bid auction for CENIBRA earlier in the year.
Commenting on M&A activity in Latin America during the past 12 months, Thomas Souza at Merrill Lynch shares Aracruz and VCP's disappointment. "Latin American deals were mostly good and made strategic sense for the winners," he says. "The only disappointment we had was to see JBP exercise its pre-emptive rights on CENIBRA. This was not expected and was a blow for the Brazilian industry consolidation movement," Souza continues.
Analysts at Morgan Stanley were also surprised at JBP swiping away the Brazilians' chance to consolidate their activity. "We didn't expect JBP to exercise its right based on the price and because both Aracruz and VCP are Brazilian companies," according to Hillary Peruzzi. "This is bad news for both Aracruz and VCP," she continues. "We had projected numerous operational and administrative synergies among the three companies which would have added shareholder value and provided a good growth vehicle for both Aracruz and VCP," Peruzzi comments. "The loss of CENIBRA is slightly more negative for VCP than Aracruz, in our opinion, since Aracruz still has the Veracel project to develop while VCP has limited expansion prospects and may be forced to look outside the company to grow," she continues.
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Peruzzi also echoes Souza's comments regarding Brazilian consolidation. Ahead of JBP's trump card, Peruzzi said that for the Brazilian pulp and paper market as a whole, the deal would be a positive step toward further consolidating the market among the top local players. If the buyout had proceeded as planned, Aracruz, VCP, Klabin and Suzano would now control around 80% of Brazilian pulp production and 61% of printing/writing paper output, according to Peruzzi. "This should have resulted in a more rational industry, benefiting Brazilian producers and the global industry," she says.
Despite the setback by JBP, Souza is pleased with the way in which Latin American M&A activity has progressed in general. "It has been pretty intense over the past year with the sale of Igaras to Klabin, Suzano gaining full control of Bahia Sul and, of course, JBP acquiring the 51% it did not already own in CENIBRA. In total, these transactions added up to $1.4 billion in equity value," he adds.
Following an exhausting year in the M&A arena, Latin America can expect more of the same, according to Souza. "We expect M&A activity to accelerate in 2003 once the major capacity expansions, for example at Aracruz and VCP, are completed and these companies show strong free cash flow once again," he says. "But we would not be surprised if other asset sales or activities come up. We think there are a couple of assets which could be sold, although at this time there is no intent from the owners to sell them," he continues. Souza is remaining tightlipped on the identity of the prospective buyers and sellers, though.
Looking to the future for the Latin American industry, analysts at Merrill Lynch, for example, fully expect to see more deals struck throughout the region. "We believe there is room for consolidation in almost every segment," Souza says. "Ultimately, we believe that consolidation in market pulp, uncoated free sheet, packaging and tissue would be mostly welcome to strengthen the position of the [Latin American] industry relative to other regions in the world," he explains.
Full of Asian promise
Latin America is not the only region to have seen smaller scale M&A activity heating up in the past 12 months. Asian companies have been involved in a number of deals locally, as well as some that are more international in scope.
Asia Pacific Resources International Holdings (APRIL), for example, sold its shares in the Chinese Changshu mill to UPM-Kymmene last year. Nyman at Conventum hailed the transaction as a good move, as UPM-Kymmene had already stated its aim of obtaining fine paper operations in China and trying to get a foothold in Indonesian pulp production. He believes that the price tag of $150 million was reasonable as the Chinese market is set to see strong growth in the future. Although there are a large amount of local mills manufacturing low quality paper, consumption of high quality paper will increase, according to Nyman.
More recently, the EC cleared Norske Skog and Abitibi-Consolidated's acquisition of Hansol Paper's stake in the PanAsia Paper joint venture. The purchase of Hansol's 33.3% share will give the companies 50/50 ownership of PanAsia.
On the basis of these deals among others, some analysts point out that Asia differs from the other main regions when it comes to M&A trends. Players in Europe, North America and Latin America are increasingly turning their attention to local consolidation. Asia, on the other hand, stands out as having renewed international M&A potential. In the past few years, companies on the acquisition trail have eyed Asian prospects with some suspicion, favoring mainly European or US deals as the way to boost a firm's ranking on the production ladder. Last year, the region lost some supporters as Asia's improving economy wiped out the availability of bargain basement deals. But this year, the picture has changed again due to the economic downturn that swept the world at the turn of the year. Economic uncertainty continues to exert pressure on costs and spending and has damaged the delicate Asian markets more than other markets around the globe.
Asia Pulp & Paper (APP), for example, is one company that has slipped into the depths of a debt quagmire. With debt estimated at over $12 billion, the obvious answer is for the company's owners to sell off assets to keep the wolves from the door. Earlier this year, APP pulled in $114.5 million from the sale of Sinar Mas India to Ballarpur Industries. The troubled outfit's Chinese assets are up for sale and some of the Indonesian production sites are also likely to be auctioned off. APP is hanging on resolutely to the idea that the company can repay its debts following the implementation of a debt restructuring plan next year. But if APP’s assets do fall into other hands, the shape of Asia's pulp and paper industry could be in line for a real makeover.
Nyman certainly thinks that European companies will find renewed interest in the region in the short term due to Asia's financial troubles coupled with the fact that US companies continue to be overpriced. Time will tell if firms look east instead of north, south or west.
Collecting the profits
Over the past 12-36 months, M&A movement has brought together producers in different continents, countries and cities in an attempt to rationalize the pulp and paper industry. Companies have struck deals in the hope of combating overcapacity and reducing price volatility. In many cases, such business moves have paid off. In general, there were fewer new capacity announcements last year, producers took responsibility for trimming back excess capacity and prices for many grades stabilized around the world.
On top of the benefit to the global arena, producers have worked hard to improve shareholder value and are reaping the benefits of synergy moves. Many businesses have already seen some improvement in the lining of their coffers, but the jingle of loose change is still missing in other accounts. The global economy is the most likely culprit for the slow realization of monetary gains, according to analysts.
In Brazil, for example, positive results for individual companies, as well as the industry as a whole, have yet to appear. "Unfortunately, the results have not been apparent during this downturn," according to Souza. "Although, we believe that globalization continues to be the best option to reduce pricing volatility and improve capital spending discipline," he comments.
Over the past 12 months, producers have proved that globalization and consolidation go a long way toward stabilizing prices, as well as balancing supply and demand, but there is room for further improvement, according to analysts. Europe is one area which may witness fewer mega-deals in the future, though. According to Nyman, "EU competition authorities would block major deals." Companies including SCA, M-real and UPM-Kymmene, for example, have already felt the squeeze of EC competition law. On a positive note, the region is likely to see more action at a reduced level as companies sort themselves into Nyman's projected two-tier system of large and small-sized enterprises. The rest of the world, however, is still open to offers and the coming months will surely turn analysts' heads as the industry strives toward stability and prosperity on every continent.
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