HAWKINS WRIGHT

HAWKINS WRIGHT

HAWKINS WRIGHTHAWKINS WRIGHT

ChinaChina’’s influence on the global markets influence on the global market

PPRICERICEWWATERHOUSEATERHOUSECCOOPERS 19OOPERS 19THTH Annual Global Annual GlobalForest and Paper Industry ConferenceForest and Paper Industry Conference

May 2006May 2006

HAWKINS WRIGHT

Global Paper Markets are matureGlobal Paper Markets are mature

•• Printing and writing papers account for about two thirds ofPrinting and writing papers account for about two thirds ofbleached chemical market pulp demandbleached chemical market pulp demand

•• World demand for P&W has grown at only 1.4% p.a. in theWorld demand for P&W has grown at only 1.4% p.a. in thelast five yearslast five years>> US GDP +4.6% paUS GDP +4.6% pa>> Per capita P&W -1.4% paPer capita P&W -1.4% pa

•• P&W demand since 1998P&W demand since 1998>> developed nations +0.7% padeveloped nations +0.7% pa>> developing nations +6.9% padeveloping nations +6.9% pa

HAWKINS WRIGHT

Global P&W ProductionGlobal P&W Production

thousand tonnes

2000 2005

Growth p.a.

2000-2005

West Europe 34,333 38,103 +2.1%

North America 30,493 27,865 -1.8%

Japan 11,754 11,479 -0.5%

Sub-total 76,580 77,447 +0.2%

South Korea 2,015 2,439 +3.9%

China* 1,621 3,590 +17.2%

Sub-total 3,636 6,029 +10.6%

Others (est.) 13,405 16,854 +4.7%

Total 93,621 100,330 +1.4%

USA P&W demand down -2.7% Q1 2006USA P&W demand down -2.7% Q1 2006

HAWKINS WRIGHT

Conversion of P&B moves to ChinaConversion of P&B moves to China

•• ChinaChina’’s exports grew from $325 s exports grew from $325 bnbn to to$752 $752 bnbn 2002-2005 (=43% GDP) 2002-2005 (=43% GDP)

•• Exported goods packed in cartons andExported goods packed in cartons andcases, protected with tissuecases, protected with tissue

•• Accompanied by guarantees, instructions,Accompanied by guarantees, instructions,labels, leaflets etclabels, leaflets etc

•• Apparent consumption of P&B overstatedApparent consumption of P&B overstatedin China, understated in N. America andin China, understated in N. America andW. EuropeW. Europe

•• ChinaChina’’s P&B demand growth depends ons P&B demand growth depends onexportsexports

•• US Dept Commerce say China GDP +9%US Dept Commerce say China GDP +9%compared with USA +4%compared with USA +4%

•• Should be China +9%, Should be China +9%, IFIF USA is +4% USA is +4%

If 1.5 million t China to USA2000 2005 % p.a.

Western Europe 34300 38100 2.1%

North America 30500 29360 -0.8%

Japan 11750 11480 -0.5%

Sub total 76550 78940 0.6%

China 1620 2100 5.3%

Others 15450 19290 4.5%

Sub total 17070 21390 4.6%

Total 93620 100330 1.4%

HAWKINS WRIGHT

Historical Market pulp demand since 2000Historical Market pulp demand since 2000(5 years), by region(5 years), by region

China accounts for 64% of demand growth since 2000

-734

370

222

642

323

2,015

5,007

-1,000 0 1,000 2,000 3,000 4,000 5,000

China

Other Asia

West Europe

East Europe

North America*

Latin America

Japan

thousand tonnes

Total growth since 2000: 7.8 million t

*growth is definitional/statistical

HAWKINS WRIGHT

China China –– the population the population

•• Total 1,300 million Total 1,300 million –– average disposable income = US$660 in average disposable income = US$660 in2004 (USA $32,000)2004 (USA $32,000)

•• Huge inequality in income distributionHuge inequality in income distribution>> Urban 500m - $1024 per capitaUrban 500m - $1024 per capita>> Rural 800m - $316Rural 800m - $316>> Rural unemployed Rural unemployed –– 240m 240m>> Rural migrants Rural migrants –– 145m 145m>> Working 500mWorking 500m>> Working in SOE 350mWorking in SOE 350m

HAWKINS WRIGHT

Household income in ChinaHousehold income in ChinaUnequally distributed

<$1000

29%

$1000-5,000

49%

$5000-10,000

16%

$10000-15000

5%

>$15,000

1% •• 78% of 78% of householdshouseholdshave an annualhave an annualincome of less thanincome of less than$5000$5000

•• Just 6% ofJust 6% ofhouseholdshouseholds (28 (28million in all) have anmillion in all) have anincome greater thanincome greater than$10,000/year$10,000/year

•• This 6% ofThis 6% ofhouseholds accounthouseholds accountfor 28% of totalfor 28% of totalincomeincome

Total of 363 million households in 2004Total of 363 million households in 2004

HAWKINS WRIGHT

China China –– the economy the economy

•• GDP +9% p.a. ($1.75 trillion in 2005)GDP +9% p.a. ($1.75 trillion in 2005)>> +9.4% in Q3 2005+9.4% in Q3 2005>> +9.2% in calendar 2005+9.2% in calendar 2005>> +10.2% in Q1 2006+10.2% in Q1 2006

•• Driven by, investmentDriven by, investment……>> Foreign investment boom ($55bn in 2004), but it has slowed inForeign investment boom ($55bn in 2004), but it has slowed in

2005.2005.>> Gross fixed investment ~ $820 billion in 2005 47% of GDPGross fixed investment ~ $820 billion in 2005 47% of GDP

HAWKINS WRIGHT

China China –– the economy the economy

•• Exports in 2005, $752 billion; imports $650 billionExports in 2005, $752 billion; imports $650 billion>> Trade surplus forecast $102 billion (double 2004), $202b withTrade surplus forecast $102 billion (double 2004), $202b with

USAUSA>> 90% of world90% of world’’s toys,50% cameras,70% copierss toys,50% cameras,70% copiers>> Current account surplus 7% of GDP in 2005? Increasing tradeCurrent account surplus 7% of GDP in 2005? Increasing trade

tensions, particularly with the US and Europe (to a lesser extent)tensions, particularly with the US and Europe (to a lesser extent)

•• Gross savings 50% of GDPGross savings 50% of GDP>> Households save 25% of income because no pension, noHouseholds save 25% of income because no pension, no

healthcare, for better education, lack of consumer credithealthcare, for better education, lack of consumer credit

•• But capital inflow does not result in stronger YuanBut capital inflow does not result in stronger Yuan>> $853bn foreign exchange reserves$853bn foreign exchange reserves>> +2% appreciation against US$ since July+2% appreciation against US$ since July>> Just increased interest rates to cool down lendingJust increased interest rates to cool down lending

HAWKINS WRIGHT

China - ProblemsChina - Problems

•• Banking system is inefficient because savings and foreignBanking system is inefficient because savings and foreignmoney inflow is wastefully invested in supporting SOE and inmoney inflow is wastefully invested in supporting SOE and innew capacity/infrastructurenew capacity/infrastructure

•• Growth is driven by exports and investment in new capacity,Growth is driven by exports and investment in new capacity,not by domestic demandnot by domestic demand>> Consumption is rising, but not as fast as incomes. Savings rate isConsumption is rising, but not as fast as incomes. Savings rate is

increasing.increasing.>> Investment driven partly by the pressure to recycle these savingsInvestment driven partly by the pressure to recycle these savings

•• Banks are technically insolvent - non-performing loans >45%Banks are technically insolvent - non-performing loans >45%of loan book (US$900 billion is PWC estimate)of loan book (US$900 billion is PWC estimate)

•• Reform financial sector will be expensiveReform financial sector will be expensive•• Paper and board industry also over-investedPaper and board industry also over-invested

HAWKINS WRIGHT

•• 37.2% of statistics are made up on the37.2% of statistics are made up on thespotspot

•• especially in Chinaespecially in China

HAWKINS WRIGHT

Official statisticsOfficial statistics……

2002 2003 2004

Growth

2002-2004

Newsprint 1,850 2,070 3,000 1,150

Printings

Coated 1,800 2,400 3,000 1,200

Uncoated 9,200 9,600 10,200 1,000

Tissue 3,100 3,470 3,840 740

Packaging 4,000 4,800 4,700 700

Cartonboard 4,600 5,500 6,700 2,100

Liner 6,000 6,800 8,300 2,300

Medium 6,000 6,700 8,100 2,100

Specialities 1,250 1,660 1,660 410

Total 37,800 43,000 49,500 11,700

Plus 5 million tonnes imports gives 54 million apparent demandPlus 5 million tonnes imports gives 54 million apparent demand

HAWKINS WRIGHT

Paper Industry structure Paper Industry structure –– Hawkins Wright Hawkins Wright

•• The The NewNew China industry China industry>> Capacity >50,000 t/y using imported fibre (woodpulp &Capacity >50,000 t/y using imported fibre (woodpulp &

wastepaper)wastepaper)>> Some smaller mills producing woodfree papersSome smaller mills producing woodfree papers>> Mills built since 1996Mills built since 1996

•• The The OldOld China industry China industry>> Mills using predominantly non-wood fibres and domesticMills using predominantly non-wood fibres and domestic

wastepaperwastepaper>> Mills built before 1996Mills built before 1996>> We cannot define We cannot define ‘‘Old ChinaOld China’’ with any confidence, but it doesn with any confidence, but it doesn’’tt

matter as grades not comparable to international qualitiesmatter as grades not comparable to international qualities

HAWKINS WRIGHT

New China apparent consumption, 2005New China apparent consumption, 2005

- But up to 50% of printing papers and 65% of Packaging gradescould be exported in converted form- Chinese domestic consumption <15 million t

Production Import Export

Apparent

consumption

Newsprint 1,800 135 20 1,915

Printings 0

Coated 2,660 730 790 2,600

Uncoated 1,930 435 340 2,025

Tissue & Specialities 1,340 50 100 1,290

Cartonboard 3,810 970 190 4,590

Liner 7,000 1,775 85 8,690

Other Packaging 1,460 720 35 2,145

Total 20,000 4,815 1,560 23,255

HAWKINS WRIGHT

Xinjiang

Guangdong

Fujian

Shandong

Liaoning

JilinInner Mongolia

Heilongjiang

Guangxi

Jiangsu

Zhejiang

Guizhou

Sichuan

Yunnan

Gansu

Hubei

Hebei

Henan

Anhui

HunanJiangxi

Ningxia

Tianjin

Shanxi

ShaanxiTibet

Qinhai

Shanghai

Beijing

Guangzhou

Wuhan

Over 80% of New ChinaOver 80% of New Chinaproduction in four provincesproduction in four provinces

Industry is concentrated in the coastal provinces near to the export manufacturing zones

HAWKINS WRIGHT

Pulp imports, 2005Pulp imports, 2005

Total imports 7.2 millionTotal imports 7.2 milliontonnestonnes

China accounts for 50% ofChina accounts for 50% ofRussian pulp exportsRussian pulp exports

Canada

28%

Russia

12%

Chile

11%

Indonesia

19%

Brazil

8%

USA

9%

Other

13%

HAWKINS WRIGHT

Capacity expansionsCapacity expansions

thousand t/y

2004 2005 2006 2007 2008

Total

additions

Newsprint (incl. swing PMs) +70 +905 +1,150 +600 +500 +4,085

Woodfree +210 +1,265 +225 - +400 +2,445

Total Graphic +280 +2,170 +1,375 +600 +900 +6,530

Cartonboard +1,000 +750 +250 +800 +300 +4,140

Corrugating +1,710 +1,050 +2,050 +3,630 +650 +10,490

Total Packaging +2,710 +1,800 +2,300 +4,430 +950 +14,630

Total others +267 +283 +294 +145 +85 +1,159

TOTAL +3,257 +4,253 +3,969 +5,175 +1,935 +22,319

Confirmed capacity additions

New China capacity end 2003 estimated 15 million New China capacity end 2003 estimated 15 million t/yt/y

HAWKINS WRIGHT

Woodfree capacity investmentsWoodfree capacity investments

• In 2004-5 +1.7 million t/y of woodfree capacity> Dagang PM3, Huasheng PMs, UPM-Kymmene PM2, Sun

paper> Swing PMs Jiangxi Chenming, Yueyang

• Woodfree demand in 2004: 3 million t/y• Unconfirmed projects of RGM (APRIL), Nine Dragons,

APP, Nippon, Oji, Yinhe, Tralin, & Huatai amount to 4million t/y

• Other investments in Asia> Hankuk (Korea) +200,000 t/y Q42005> APRIL (Indonesia) +415,000 t/y Q42006> Thailand- three machines under study

HAWKINS WRIGHT

ConclusionsConclusions

• Chinese market continues to be oversupplied and Paperprices have fallen back> Mills are flexible and markets less rigid than in the west> Paper stocks high so some downtime

• Credit squeeze affecting paper mills and their customersand their customers’ customers> Profitability is the big unknown but corporate ambitions driven more

by size than profits

• Hard for Chinese mills to compete with integrated Thai,Indonesian & European mills in export markets> Pulp market remains volatile, Renminbi adjustment?> Sino-foreign JVs (IP & Sun, AWA & Chenming, Sappi & Moorim &

Chenming, Stora & Huatai, Marubeni & Yinge Jituan) andmarketing alliances

• China will continue to be a big market for fibre for theforeseeable future – but a price sensitive one