John T. Dillonis chairman and CEO of International Paper.

Necessary changes for a global marketplace

While industry consolidation understandably causes concern, I think we also have to look at why it is happening and what it will accomplish for the long-term health of the industry. First, we must consider that we are now operating within a global marketplace. If we can't serve our global customers, we simply can't make it in today's world. As we consolidate and build stronger companies, we'll be better able to serve our global customers, to compete, and, more importantly, to survive.

Second, and equally important, is the fact shareholders are forcing consolidation. Our shareowners are upset with this industry, and we are viewed as a low priority investment. Earnings are not only poor and highly volatile, they aren't meeting the cost of capital.

We have got to significantly improve performance. At International Paper, we are making changes to manage capacity and to move from a commodity-based company to a customer-focused company.

CAPACITY MANAGEMENT, CUSTOMER FOCUS. We're changing at IP from a belief that every machine and facility must be operated at 100% capacity. We call this making more money, not making more tons, and we operate our facilities to meet our customers' supply needs while avoiding excess production that builds inventory.

For years, the paper industry has been viewed as highly cyclical. Earnings are cyclical because we choose to operate beyond customer demand, thereby building inventory and lowering revenue. As with consolidation, our shareholders are demanding a different view, calling for us to stop operating beyond our order book.

To manage capacity, we are applying marginal economics to the operation of our facilities to help us run profitably for sustained periods at less-than-full operating rates. Rather than spreading fixed costs across a larger production base, we focus on reducing absolute costs and finding that "sweet spot" where production is most profitable.

As was the case during this summer and fall, a slow down of machines alone is not enough. In which case, we do have to shut down machines. IP took more than 500,000 tons of market-related downtime in the third quarter of this year. Whether by downtime or slowdowns, we are committed to running efficiently.

You may say that my company has the low cost production capacity and therefore we have learned that low cost capacity should operate full all the time. We do believe that having low cost production units is essential. However, in times of rapidly declining demand, such as right now, the shareholder-driven answer is to match production to customer demand and take the cyclicality out of the earnings stream.

This leads to our second big change- moving from a commodity-based company to a customer-focused company. We must know as much about our customers' businesses as we do our own. We have to help them grow and become more successful if we are to be more successful. As they grow, we help create demand for our product.

We have to look at both sides of the supply and demand curve. At IP, we recognize our supply and our demand can and must be managed. We don't assume that our business will rise and fall only in concert with general economic indicators. We can impact that demand curve by the way we develop that product or service.

PUBLIC RESPONSIBILITIES. We are also changing the way we look at public responsibilities at IP. First, because it is the right thing to do. And second, because our constituents and communities are demanding better performance in the environment, and health and safety. We're responding, but the challenges have, and will, continue. Our actions must represent the practical understanding that our stakeholders and our customers are demanding better performance. And our response must reflect a deep understanding that we need the public's approval and support.

As we stay attuned with the public, we must also keep in mind the importance of maintaining a public policy and political presence. Many of our industry's Washington, D.C., and state capital offices are closing due to consolidation, and, as a consequence, our presence in the public affairs arena is declining. Yet, this is a time of increasing public policy debate. It is critical, therefore, to have the strongest position possible, and not let our political voice diminish.

In all of these areas, we not only must do the right thing, we must communicate with the public that we share their values, be they clean air, clean water, healthy forests, or strong communities.