Financial problems slow growth, delay big projects, but region’s long term prospects remain positive

Latin American Producers Follow Steady Course Despite Global Problems

However, recently a number of factors have slowed growth in key countries such as Brazil and Argentina, which impacts domestic demand growth, and in turn the rush to build and ability to finance new capacity. In addition, changes in fundamental economic factors such as exchange rates and economic growth in other regions of the world have had a profound impact on trade, notably for exports of products such as market pulp. Nevertheless, none of this appears to have changed the longer term view that the region’s pulp and paper industry will continue to expand, taking advantage of its low cost position and potentially huge demand base. It’s mainly a question of when. Another question is what strategy will this expansion employ. For example, will the region continue its traditional role of exporting pulp, or will a larger move into printing and writing paper exports be part of such an expansion.

Economic growth will certainly mean growth in domestic demand as well. The region’s current population consists of about 500 million prospective consumers, slightly over half of them living in just two countries: Brazil and Mexico. It’s the potential for large segments of this population to become consumers that offer hope for growth in the future. Per capita paper and board consumption in Latin America averages just 34 kg/capita, vs. per capita consumption averages of about 100 kg and 326 kg in Western Europe and North America, respectively. Thus, as has been said of the growing economies in Asia, with China the most repeated example, even small gains in per capita consumption mean lots and lots of new paper machines.

The short-term outlook is mixed but overall appears headed in a positive direction. The market for the regions’ key exports product, market pulp, is improving, and mills in Brazil have become increasingly competitive owing to the devaluation of its currency. However, slowing economic growth in countries neighboring Brazil have hurt paper and paperboard exports to these areas. Over the long term the outlook continues to hold considerable promise although recent uncertainties have slowed major pulp and paper project development.

This article will review activities in the region in 1998, provide an update on current markets and trade, and provide data on projected capacity growth over the next two to three years from a recently released global capacity report. It will also look into how major U.S. companies with interests in Latin America have fared during this dynamic period.

TABLE 1: Paper and paperboard capacity growth shows modest gains over the next two years.

CAPACITY GROWTH CONTINUES. Latin America’s capacity to produce pulp, paper and paperboard is forecast to add over 1.3 million mtons of new capacity over the 1998 to 2001 period, based on data in a report recently issued by the Food and Agriculture Assn. (FAO) of the United Nations (Tables 1 and 2). In its most recent annual report, Pulp and Paper Capacities Survey: 1998-2003, the region’s average annual growth rate for paper and paperboard capacity is projected at 2.6% over this period. Total paper and board capacity in the region is projected to rise from 17.0 million mtons in 1998 to 18.4 million mtons by 2001, a 1.3 million mton increase. Wood pulp capacity is expected to grow at an even more modest average annual rate of 1.7% to total over 12.2 million mtons in 2001.

Growth in paperboard capacity will account for nearly 900,000 mtons or two-thirds of the increase in paper and paperboard capacity, while paper capacity is expected to expand at a slightly slower rate of 1.9% annually through 2001. Paper capacity will increase 431,000 mtons from 1998 to 2001, reaching 7.74 million mtons.

TABLE 2: Total woodpulp capacity will increase at a higher rate than market pulp through 2001.

It should be noted that of the six major countries in the region, only Brazil, Colombia and Mexico were identified as having sent in new data for the report. However, data for Chile was received late and included in the world totals. Latin American data provided in this article include the new data on Chile. Data on Argentina and Venezuela, the two other larger producers, have not been updated since at least 1996.

With data from Chile included, the reporting countries identified as having submitted updated data for the current FAO capacity report account or 82% of Latin Americas’ total paper and paperboard capacity, 91% of total wood pulp capacity and 95% of total market pulp capacity.

As noted six major countries—Argentina, Brazil, Chile, Colombia, Mexico and Venezuela—account for the majority of pulp, paper and paperboard capacity in the region. Printing and writing paper capacity is concentrated in Brazil, which accounts for 2.2 million mtons of the 3.7 million mtons of capacity in 1999 (Table 3). The second largest producer is Mexico, with just less than 700,000 mtons of printing and writing paper capacity at present. Little change is forecast in the other major printing and writing paper producers. Printing and writing paper capacity will increase from 3.9 million mtons to 4.1 million mtons, rising at 1.9% over the forecast period, a 223,000-mton increase.

TABLE 3: Brazil accounts for most of the region’s printing and writing capacity.

The region in recent years has become known as a global market pulp producer, most notably of eucalyptus hardwood market pulp, although some softwood market pulp is also produced in countries such as Chile. Chemical market pulp capacity in the region is projected to rise from 5.2 million mtons in 1998 to just 5.4 million mtons in 2001. This modest growth in pulp capacity, dominated by hardwood pulps, is in contrast to major growth in pulp capacity through the mid-’90s. For example, according to Pulp & Paper International, bleached kraft pulp production in Latin America rose from 3.5 million mtons in 1990 to over 5.5 million mtons in 1994. Most of the growth was in Brazil and Chile. Output during this period rose by 699,000 mtons in Chile and 1.4 million mtons in Brazil.

However, several major kraft pulp projects that have been proposed, notably in Chile and Brazil, are at present on hold. It’s unclear on when any of these projects will become active, and furthermore, how many of them might go forward. However, it seems likely that if pulp markets continue to improve, that on the far end of the period covered in the FAO capacity report, additional pulp capacity could be coming on line.

TABLE 4: Market pulp capacity is concentrated in just two countries with little growth projected.

1998 WAS A TOUGH YEAR. The international financial crisis that began in Asia in mid-1997 hit Latin America more heavily than originally anticipated. In 1998, the economies of Latin America posted only a 2.2% gain in gross domestic product (GDP), vs. 5.2% and 3.5% gains in 1997 and 1996, respectively. Growth in the region’s GDP for 1999 is currently forecast at just 0.7%, according to Pulp and Paper Forecaster’s most recent report. Much of the declines were posted in second-half 1998 and through early 1999. Nearly all Latin American countries were either reporting a sharp slowdown in economic growth, or else were in full-blown recession. However, signs are that there will be some recovery in the second half of the year.

Performance has varied considerably by country within the region as well. For example, the Central American region has fared better than South America. The slowdown is pronounced in Brazil, which posted only a 0.2% rise in GDP in 1998. It’s projected by Forecaster that Brazil’s GDP output will drop by 0.2% for full year 1999. Looking into next year, Forecaster predicts the region’s economies will post a 3.5% gain in GDP, with Brazil expanding about 3% and Mexico by 3.5%. Brazil felt the shock wave from the international financial crisis as Brazil’s currency, the real, came under attack. To defend the currency, the government raised interest rates, which slowed the economy. Then in early 1999 it allowed its currency to “float”, leading to devaluation.

This is a far cry from the mid-’90s, when the rising tide of the economies of the region’s participants and the opening of intra-regional trade via the creation of the Mercosur trade region in 1991, made the future look bright and prosperous. In terms of the pulp and paper industry, large investments in capacity were being made to meet both growing domestic demand, and to provide countries such as Brazil export oriented businesses that could add to the balance of trade. One of the key basic factors behind this push was to take advantage of large fiber cost advantage producers in the region hold vs. other regions of the world, particularly in plantation-based hardwood pulps.

Despite these difficulties, Latin American producers increased paper and board output in 1998 by a modest 0.1% over the 1997 level, reaching 6.53 million metric tons. Pulp output recorded an even bigger gain, jumping 6.1% to 6.72 million metric tons. Of course, the bulk of this increase was for market pulp, as mills in Brazil and the other major hardwood pulp producing regions sought to take advantage of dollar-denominated sales.

As of late summer 1999, Latin American pulp and paper companies are beginning to see some light at the end of the tunnel. The outlook over the short term is positive for the major international firms producing market pulp. Hardwood market pulp prices are moving up, which will benefit all producers, but particularly those in Brazil, where the devaluation of the Brazilian currency has improved the countries already competitive cost position.

Through the first part of 1999, market pulp exports from Brazil were running well ahead of 1998 levels through first quarter 1999. Market pulp demand appears to be solid, and thus output this year may increase significantly over 1998. In paper and board grades, however, problems in the economies of Brazil’s neighbors have a larger impact, since a higher proportion of these exports are sold in the region itself, compared to market pulp exports which are sold globally.

Mills in Chile recorded some of the biggest gains in output in 1998. A major pulp mill expansion at Arauco led to a big jump in production. At present, only minor pulp expansion projects are underway and funded. Arauco and CMPC have indicated they might make larger expansions, but apparently major projects are on hold owing to the recent weakness in pulp markets and to economic uncertainties. Overall paper and board output rose 9.5% in 1998 to to 728,000 mtons, while pulp output rose more strongly, reaching 2.1 million mtons, vs. 1.86 million mtons in 1997, an 11.8% increase. Output in Argentina edged upward as well, with paper and board output rising a modest amount while production of pulp remained unchanged, although market pulp output dropped.

Mexico’s economy struggled through the later part of 1998, but GDP growth remind positive, rising 4.8% in 1998. In turn paper and board demand expanded 6% to 4.5 million mtons in 1998 as production reached 3.7 million mtons, vs. 3.5 million in 1997. Imports rose 12%, but this was outpaced by a 20% gain in exports. Privatization of Grupo Industrial Pipsa—the newsprint producer—occurred last year as Durango bought it. The new conglomerate is one of the largest producers in Latin America.

While capacity is expanding, the recent financial problems have certainly slowed capacity growth considerably, and a number of major projects are on hold. Among these are Champion International’s plans for a new mill complex in Brazil. The company has already invested millions of dollars in acquiring the land to support the facility, but has pushed back the startup owing to the recent problems in the domestic economy as well as uncertainty over the overall direction of pulp and paper markets in the short term.

In addition, since a number of them were for kraft pulp projects, the weakness in pulp markets for most of 1998 and early 1999 was a major factor. Now that pulp markets are heading upward, there is again more active discussions about expanding pulp and paper capacity. For example, Aracruz was recently noted by some sources to be again considering a third pulp mill line for its hardwood market pulp mill in Brazil. Estimated capacity is about 750,000 mtpy. It’s unclear whether or not this project is receiving actual attention of whether its being used as a ploy to encourage consolidation of the market pulp business in Brazil, as some have suggested. However, sources noted that Aracruz is well positioned for this expansion and could finance much of it internally if pulp markets remain reasonably good. Bahia Sul and Cenibra have explored merging but its unclear where this stands. Other proposed include a new mill by Stora Enso, the Veracel project in Brazil, but it appears that this project is on the back burner.

TRADE PICTURE MIXED. The upheavals in Asia have also had a big impact on trade flows. Trade within Mercosur grew strongly since its formation in 1991. By 1997, trade of all goods and services between its four founders—Argentina, Brazil, Paraguay and Uruguay—had jumped to $18 billion, up from just $4 billion in 1990. Recently, however, trade within Mercosur has gone sour. In the first three months of 1999, Brazil’s exports to Argentina fell by about one-quarter vs. 1998, and its imports from Argentina fell off nearly one-third.

A variety of factors have also led to changes in trade between North and South America. U.S. exports of kraft linerboard to Latin America are off 17% through April, with big declines in shipments to Ecuador and Mexico (Table 5). Similarly, U.S. imports of chemical market pulp from Latin America are trailing 1998 levels over the same period. U.S. imports of uncoated freesheet from Latin America are also down. In the case of uncoated freesheet, imports from sources such as Indonesia and Canada are up over prior year levels, and thus the drop of imports from Brazil is partly due to this.

TABLE 5: U.S. exports to and imports from Latin America were down in early 1999.

U.S. KAOLIN IMPORTS RISING. U.S. imports of kaolin clay from Brazil are one area where sharp increases have been seen in recent years, and this continues to be the case into 1999 (Table 6). Kaolin imports have risen from less than 1,000 short tons in 1996 to over 40,000 short tons last year. Through the first six months of 1999, imports of Brazilian clay into the U.S. are running at about 46,000 short tons annually.

TABLE 6: U.S. imports of kaolin fromBrazil have risen dramatically in recent years.

The National Economic and Social Development Bank (BNDES) reports that the country possesses the world’s second largest kaolin reserves. The information in this report is based largely on 1996 data, however, it’s still informative. The U.S. has by far the largest reserves, estimated at about 8.5 billion tons, with Brazil’s estimated at 1.7 billion mtons.

In 1996, most processed kaolin, about 60%, was produced in the State of Amapa, a result of the Caulim da Amazonia SA (CADAM) operation. The state of Sao Paulo produced about one-third, principally due to the operation of ECC do Brasil. In 1996, new plants by Para Pigmentos SA and Rio Capim entered operation, each with a capacity of about 300,000 mtons.

NORTH AND SOUTH CONNECTIONS. In addition to the large trade flows that have existed for years between North and South or Latin America, several U.S. companies in particular have a strategy incorporating a Latin American manufacturing base into their portfolio of facilities. Among the major ones are Champion International, which for many years has operated a major integrated printing and writing paper mill in Brazil, and Westvaco. Many other producers have operated corrugated box plants in central and south America for years, and have also recently begun to make acquisitions in the region.

However, in recent years, following the turmoil that began in 1997, producers with operations in Latin America have felt a negative impact on their operations. For example, Westvaco reported that operating profit in its unbleached segment dropped in 1998 to $95.6 million, mainly due to pricing pressures faced by Rigesa Ltd., the company’s Brazilian subsidiary. Rigesa accounted for 20% of Westvaco’s unbleached segment operating profit in 1998 vs. 37% in 1997. In 1996, Rigesa accounted for nearly half of the companies unbleached segment operating profit.

Westvaco operates a paperboard mill, corrugated box plant and consumer packaging plant in Valinhos, Sao Paulo State, and a paperboard mill in Tres Barras, in the State of Santa Catarina. Rigesa is one of the few paper companies in Brazil that is integrated from trees to the market. The companies forest base consists of 119,000 acres in southern Brazil.

Champion International has had a major presence in Latin America for many years, via its Brazilian subsidiary, Champion Papel e Celulose (CPC). CPC includes the Mogi Guacu fine paper mill, which is being converted to alkaline papermaking, and a major wood-related operation. CPC’s export sales vary, but account for 35% to 60% of CPC’s overall sales. CPC’s competitive position has been improved by the devaluation of the real since it was allowed to float freely in January 1999, the company reports. However, the devaluation increases the cost of materials purchased by CPC from suppliers outside of Brazil. CPC increased its presence in Latin America in January of 1998 via the acquisition of Inpacel and its forestry affiliate in the southern state of Parana. The mill is the only lightweight coated groundwood paper company in Latin America with an annual capacity of 188,000 mtons. With the purchase orf Inpacel and its 125,000 acres of land, the company owns or controls more than 1.5 million acres of land in Brazil including pine and eucalyptus plantations.