Comment
Look for industry to work collaboratively with government
 Pulp and paper prices outperform
the commodities index and the sector enjoys long-term market growth, but the reward is split by extreme cyclicality through which profits, shareholder value, credibility, and aspiration leak.
Who is to blame? The reality is that each member of the chain, from the forest to the merchant, can and does amplify, even distort, the impact of the business cycle. Forest owners can hold back wood sales in anticipation of higher prices tomorrow. Pulp mill owners managing a business still driven by scale and even bigger manufacturing units, plus an eye on replenishing the profit hole created by the last downturn, resist curtailing production. Far distant from the final consumer they default to stock.
The papermaker-seeing apparent orders mounting, seeking pulp price hedging, and nervous about the fixed capacity of the pulp pipeline -moves fast to secure pulp stocks, and equally fast to destock, while doggedly maintaining paper production. Merchants-also believing the chain to be inflexible-exaggerate order levels into waves, each merchant seeking apparent supply security and price hedging, but in actuality stretching the chain to its limits. All this in a world of chronic pulp overcapacity!
In reality there has always been sufficient pulp -with short-term extremes not created by real demand. Each member of the chain behaves logically in terms of the perceived constraints and nature of their businesses, in the face of competitive demands. Where the logical fails is from the perspective of the total chain.
A huge amount of stock and its movement is redundant. Its purpose is to absorb speculation, cover the internal exaggeration of market upturns and corrections, disguise failed supplier relationships, provide a perceived profit opportunity, and give the appearance that the individual can manage the cycle. The real solution should focus on inventory chain management.
There are other components required before the extreme paper cyclicality is laid to rest: massive industry consolidation, full and timely information (such as exchange rates), strong and committed supplier-buyer relationships especially in meeting supply-purchase contracts, the availability of financial instruments to buy and sell forward, and low-cost wood resources from plantations.
Putting these elements in place will take time and commitment , which means cyclicality is alive and well in the paper industry for a good while yet. There is even vested interest in its existence, with profit windfall the lure. The hint of relative fiber scarcity, plus intense paper demand growth in a fiber-deficient region-Asia-means the global chain will tighten, causing the cycle to amplify. In turn, the diversity and impact of external destabilizers on the global pulp and paper business will multiply.
Despite this, the industry can improve profit and returns through inventory chain management. The basic approach is not to condemn cyclicality outright, but address those elements that are lost, e.g. customers, shareholders, access to capital markets, substitution, political support, while positioning the business for resilience.
That can be done if the following questions are answered correctly:
- Were the necessary inventory chain management initiatives taken and supported, beginning with empathy for neighbors? Was stock redundancy quantified and reasons identified? It is better to pass statistics and knowledge along than have stock and price cyclicality?
- Was communication regarding markets, inventories, customers' needs, and the environment initiated, received, and transmitted along the chain? With thousands of forest owners, governments, mills, merchants and consumers, the message can be readily distorted or diluted.
- Were cycle management strategies implemented for each of the segments-forest, market pulp, paper, and merchant? The forest owners must identify the handful of locations where the right biological, climatic and market conditions exist for the development of low-cost wood resources. For market pulp, this means creating pulp production costs below the price cycle by evolving a new culture of service, market orientation, more flexible production and even new cellulose and fiber products.
For paper, override cyclicality by positioning paper products/sectors with stable prices, independent of the pulp cycle. Engineer this through focus, specialization, marketing, branding, high switching costs and new product development. Recognize cyclicality as a business driver, harmonizing the business with the cycle through sequenced product development, timed growth, scheduled startups, product life cycle management, flexible working hours, and supply agreements. For the merchant, identify products and sectors with stable prices independent of the pulp cycle as with paper markets. Develop the existing channels to broaden the product and service dimension. Initiate strong market signals incorporating actual demand through the chain to dampen speculation and resulting stock losses.
Robert A. Wilson
is executive vice president, Jaakko Pöyry Consulting, U.K. Mr. Wilson gave this paper before the European Association of Paper Merchants Conference in Oslo, Norway, June 6 and 7, 1996. He was formerly business development manager, Arjo Wiggins SA.
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