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The paper industry's peril

Oct 31, 2001 12:00 AM


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The magazine industry has been hit hard this year, suffering blows from advertising losses and postal increases — in addition to the pressures of a toppling economy — even before the tragedy of Sept. 11 exacerbated market conditions. Yet the downturn followed a record year. The paper industry, by contrast, is experiencing a devastating year following a poor year, says George Doehner, president of Bulkley Dunton Publishing Group, a New York City-based paper merchant.

The sagging economy and loss of ad revenue has eroded newsstand sales and forced a number of magazines out of business — which in turn has triggered a decrease in paper consumption, followed by declines in paper prices and mill closures. Magazine paper consumption for 2001 is expected to be down 6.5 percent, or 3.8 million tons, says Mark McCready, senior consultant of multi-client services at Jaakko Pöyry Consulting, Inc. (Atlanta).

“We have fewer pages, so we use significantly less paper,” concurs Carlos Gonzalez, manufacturing manager for 101 communications (Chatsworth, CA), publisher of government technology magazine Federal Computer Week. “The magazines are getting skinnier, so the demand is not high for paper.”

As the holiday season approaches, printers and paper manufacturers usually enjoy a boom in business. A year ago, all mills were fully booked; now they are able to take additional orders, which creates a shaky climate for pricing, says Brian Kullman, vice president of supply chain strategy for R.R. Donnelley & Sons Co. (Chicago). “This is the first time in eight years that our year-over-year physical impressions printed actually declined. The market weakness is real.” Kullman notes that in the paper crisis of 1995 and 1996, there was little impact on the number of pages that R.R. Donnelley printed. “This is a good time for magazine publishers — brought on by misery,” says Kullman.

While publishers grapple with the ad downturn and two postal increases, the lower paper prices offer little consolation. Instead, they reflect the poor state of business overall and create an atmosphere of uncertainty as publishers prepare budgets for next year. “Any magazine publisher would rather have a stronger economy and stable prices for paper and printing than this horrible situation and trying to make up for it with lower prices,” says John Clifford, president of paper distributor Clifford Paper Inc. (Upper Saddle River, NJ).

Prices are not expected to increase until well into next year. “Prior to Sept. 11, the expectation was that prices would pick up — not rapidly, like in 1995 or 1996, but begin a slow increase,” says Kelly Ferguson, worldwide editorial director at Paperloop Inc., publisher of paper industry magazine Pulp & Paper. “We'd still have to go through the rest of this year and into next year before things really began to improve. We're in limbo now as we wait to see what happens with the general economy.”

At this point, consumption is expected to continue to drop, says Ferguson.

PRICE HIKES

If the market continues to bottom out, paper manufacturers may be forced to implement significant price increases to stay in business, which could hit magazines hard. “If things get so bad for the paper industry that it's not able to make money to keep current structures in place, we could have a whiplash situation where massive amounts of capacity would have to be shut down,” Clifford says. Prices could go up again on a cyclical basis, more dramatically than they normally would, so the paper industry could stay in business.” Five years ago, when demand outweighed supply, prices skyrocketed by 60 percent as mills got up to capacity and then stabilized slowly.

One reason there hasn't already been a major price hike is that the mills and paper companies are controlling the supply side through production downtimes and plant closures. “In the past, mills have continued full-blast, creating paper and then prostituting pricing and market share to get rid of it,” says John O. Bell, president of The Ovid Bell Press, Inc. (Fulton, MO). “Over the past year, the course has been different. They've recognized that it is better to try to control the supply of paper and, in essence, create artificial pricing for that particular commodity.”

In fact, mills are more willing to take downtime than accept orders at lower prices, adds R.R. Donnelley's Kullman. For example, the free-sheet side (17 percent of magazines use coated free-sheet and 71 percent use coated groundwood) has shut down approximately 100,000 tons of paper production, and the machines are temporarily not making that paper, says Jaakko Pöyry's McCready.

Despite the efforts of the paper manufacturers to curtail production, capacity continues to outweigh demand. “Until demand catches up with supply, you've got a very sloppy buyer's market,” says Tom Purple, mid-Atlantic regional vice president at paper brokerage Websource, which is owned by Georgia-Pacific Corp. subsidiary Unisource Worldwide, Inc. (Norcross, GA).

While mills are slowing down production, some publishers and printers are also reducing their paper inventories to a just-in-time level. Magazine publishers that maintained large inventories last year have cut them significantly this year, says Purple. “Press runs are not as long, page counts are not as big and paper is more readily available,” he says. “You don't want to inventory a lot of paper, since prices are still dropping.”

The Ovid Bell Press, however, has tried to run inventories a little longer — notching up to a 45-day supply as opposed to a 30-day supply. “I have faith in my fellow man, but I have more faith in paper sitting on my floor,” Bell says.

Added to the mix is a strong international paper market that is gaining ground in North America. With its strong dollar, the U.S. has been a magnet for overseas paper. On the West Coast, Asia has 70 percent of the coated free-sheet market, according to Purple. And many European companies are moving into North America via acquisitions of U.S. and Canadian companies.

DOWNSIZING VIA CONSOLIDATION

During the past few years, industry consolidation has also contributed to the pricing and consumption issues. This year, some of the largest paper companies merged, including Westvaco Corp. and Mead Corp., while Bowater Inc. acquired Alliance Forest Products Inc.

But consolidation is the result of this paper glut, says Paperloop's Ferguson. “Five or six years ago, when a lot of the consolidation started, we recognized that we had a lot of over-capacity, and some of those mills needed to shut down or be consolidated. It was a natural progression of the industry to try to retain market share by consolidation,” he explains. “Companies are trying to better match their production with consumption. They are scaling back production. This wasn't seen so much in 1995 or 1996 — it's typically been all-out or stop. This time, it feels like it's a much smarter way to do business to keep some of those assets operating.”

Another difference in this year's consolidations is that the merging companies are choosing partners that share the same focus. “Ten to 15 years ago, the idea was to have your hands in as many grades as possible,” Ferguson says. “Companies are now choosing the grades where they want to be a major player, and are discarding or selling off areas where they can't compete. The combination of companies tends to be more focused than diversified.”

Industry consolidation also helps prices to stabilize, says Clifford. “Consolidation allows the strong to survive, and the strong will do a better job for magazine publishers,” he says. “It will stabilize pricing and allow them to manage business better, as opposed to crazy cyclical swings. Stability will be a good thing for magazine publishers.” More mergers are expected in the near future.

On the flip side, consolidation puts too much clout in the hands of a few key paper companies — a main concern for publishers.

“We don't want to have all directions coming from one or two players,” says one paper procurement specialist for a business-to-business publisher. “We don't like to have our eggs in one or two baskets — we like to spread out. Consolidations only concern us more.”

OFFSETTING POSTAL HIKES

The postal-rate increases have further compounded the situation. Websource's Purple says paper manufacturers should pay more attention to what the U.S. Postal Service (USPS) is doing to its core customers and take more of an active role in lobbying against the rate hikes. “You can't always get that rate increase out of the customer,” he says. “Collectively, you've got $50 billion to $60 billion in sales annually with the top North American companies. Paper manufacturers should be looking at ways to grow the use of paper, while the USPS is encouraging magazines to look at ways to cut down on paper use.”

Indeed, instead of taking advantage of the cheaper prices of the better-quality paper grades, publishers are considering all sorts of production value changes to offset financial losses incurred by the postal increases. “Magazines may look for lower basis-weight alternatives and go to a coated No. 4 or No. 5 or to a supercalendered grade,” says Ferguson. “You'll see some shifts in lighter basis weights.”

McCready expects to see more trim-size changes than basis-weight fluctuations. “Many magazines are about as low as they can go with basis weights. Because of the opacity situation, the ads will show through unless there's a technology improvement that corrects that,” he says. “Magazines today are too thin — you get to a point where you really can't go much lower.”

New presses, however, can produce on much lighter paper stock than in the past, and with fewer web breaks, says Steven W. Frye of Frye Publication Consulting. He also notes that the USPS has loosened restrictions on polybagging with onserts — publishers have freedom to insert more pieces in the mailing.

Another way for magazines to cut costs and still have the appearance of a heavier book is to choose a matte stock instead of a gloss. “One hundred twenty pages on 40-lb. gloss looks more substantial when switched to a matte stock, without an increase in basis weight,” observes Websource's Purple. “Some magazines have an uncoated section that makes the magazine look bigger and better. It increases the perceived ‘thud value.’”

The trouble with switching to matte, however, is that ads run in three or four different magazines, and advertisers prefer a gloss, Clifford says.

There's little expectation in the paper industry that things will turn around soon. All eyes are on the economy to track stability and forecast the future. “The single greatest concern for magazine publishers and the paper industry is confidence in the U.S. economy,” says Frye. “We're a true indicator of that economy.”

BUY AMERICAN

With the immediate surge in the media following the terrorist attack on Sept. 11, Paperloop's Ferguson says there may be a spike in consumption as companies publish special issues. But that may not affect pricing, if it comes out of inventory. According to Bell, that initial swell is expected to turn into a further drop in the market and put the economy that much closer to recession, if not depression. And most expect ad pages to drop even further.

Some are even speculating about how the new nationalist spirit will affect imports. John Hartung, vice president of manufacturing at fitness magazine publisher Weider Publications Inc. (Woodland Hills, CA), says, “From a pricing and product-quality standpoint, there's some fine paper in Europe. But I want to buy domestic now. I'm kind of torn to buy American.”

Reprinted courtesy of Folio: magazine

Q3 paper prices

Coated-paper prices experienced dramatic price erosion in Q3, with July representing the low point for demand. Prices hit bottom in September, losing an average value of 13.8 percent year-to-date for these coated grades. A prospective postal-rate increase for periodicals, expected to go into effect in Q4 2002, will undoubtedly put more pressure on coated-paper prices as magazine producers vie for lower-cost, lighter-weight paper without compromising quality.

Mean prices for coated grades* July 2001 Aug. 2001 Sept. 2001
No. 3, 60-lb. rolls $810 $810 $840
No. 4, 50-lb. groundwood rolls, 79 brightness $870 $865 $860
No. 5, 34-lb. rotogravure rolls $985 $985 $975
No. 5, 40-lb. offset rolls $820 $820 $805
*per ton
Source: Paperloop