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LIGHTWEIGHT CONTAINERBOARD

IMPLICATIONS FOR CONTAINERBOARD PRODUCERS

Sarilee Norton

July 2011

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CONTAINERBOARD MARKET SHARE BY COMPANY

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Interstate Resources

Atlantic Packaging

KapStone Kraft

Simpson Paper

Corrugated Services

Sonoco Products

US Corrugated

Durango Group

1.0-1.5% each

0.5-1.0% each

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INDUSTRY BASICS AND TERMS Corrugated is the most commonly used type of paper packaging—over 90%

of the goods produced in the U.S. get to market using corrugated packaging. Corrugated shipments in 2010 were 357 billion square feet, down 10% from just five years ago.

Containerboard is made from two types of heavy paper, linerboard and medium. Linerboard is used for the two flat outer facings while medium is used to form the fluted inner, or middle layer of the corrugated sheet.

Kraft linerboard and semi-chemical medium are made from virgin fiber. By industry definition, kraft linerboard must contain no less than 80% virgin fiber and semi-chemical medium not less than 60%. All other containerboard is referred to recycled. Today, material sold as kraft linerboard may be as high as 30-40% recycled.

Fabricating the corrugated sheet and producing the container are both done at converting plants, which may be corrugator plants, sheet plants or sheet feeders. Corrugator plants perform both combining and converting. In the combining process, medium is fluted and laminated on each face to linerboard to produce corrugated sheets. In the box making operation, the combined sheets are printed, cut, folded and joined to create the finished boxes. Sheet plants purchase already combined sheets and make them into finished boxes. Sheet feeders only produce combined board, for sale to sheet plants or others who make finished product.

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THE LOGIC OF LIGHTWEIGHTS

LESS FIBER, MORE SUSTAINABLE, LESS COST?

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ABOUT RULE 41 – PERFORMANCE VERSUS WEIGHT Beginning of the end for ‘standardized’ grades Variability in performance from mill to mill,

machine to machine now a real consideration Proliferation of new, lighter weight grades and

introduction of ring crush specifications• Mid-weight and heavier grades have migrated to

high-performance, lighter versions• Not much has changed with the lightest grades

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LINER BASIS WEIGHTS – THEN AND NOW

38#, 7%

42#, 50%69#, 21%

90#, 4%33#, 11%

26#, 5%1978

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Under 26#, 1%26#, 4%

27-32#, 7%

33#, 5%

34-37#, 25%42#, 19% 55-61#, 20%

69#, 10%

70-89# , 1%

90#, 1%All Other, 7%

2008

SOURCE: Future of Lightweight Containerboard in North America, 2010

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SUSTAINABILITY – IT’S NOT GOING AWAY Company policies and public statements –

they’ve made sustainability too visible to fail Packaging a major plank in many platforms Common themes:

• Lighter weight materials• Reducing amount of materials• Leaner manufacturing, more efficient processes• Rethinking packaging’s role in supply chain

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INFLUENCE OF MEGA-RETAILERS

Buying power and ability to shape the market are enormous

The push to private label and direct control of their suppliers

Globalization of their business model They set the bar very high – quality,

consistency, reliability, flexibility, industry savvy – yes, they want it all

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A relentless focus on reducing costs

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An ‘holistic’ approach to packaging in the retail environment, integrating: marketing materials cost and

efficiency sustainability operations data

SOURCE: Institute of Grocery Distribution Report, 2007

RETAIL-READY – LOTS OF BENEFITS FOR RETAILER…

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…AND IMPACT ON LIGHTWEIGHTS

“One of the most interesting technological developments over the past few years has been the development and use of lighter weight liners and flutings. Improved papermaking technologies have ensured that the overall structural properties of the corrugated container can be maintained…to produce economic and environmental benefits.”

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…PIRA International

SOURCE: Wal-Mart Retail Ready Packaging Guidelines

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A SCENARIO FOR CHANGE Time is right for lightweight investment

• Black liquor credits• Restrained spending climate in recent years• Generally good balance sheets

Hard strategy for major integrated to embrace

Who will step up• Mid-sized integrateds, recycled positions• Independent consortium• European supplier—though not at current

exchange rate

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A SCENARIO FOR CHANGE (CONT.)

North American companies with underutilized graphics paper assets• Cost to convert• Economics versus competitors

Incremental upgrades• What are the limiting factors for lightweights• Market impact of more of the same grades

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RISI CAPACITY FORECASTBACK TO THE FUTURE?

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MILL OPERATING RATES — COMMENTARY Mill operating rates (production divided by stated capacity) are generally

considered to have reached an upward price support tipping point at 95+%. This statistic is tracked closely and is used as a fundamental indicator of market strength. The downside tipping point is not as frequently referenced, but is in the range of 91-92+%.

There can be a lot of noise in the monthly numbers; operating rates have actually exceeded 100% in a given month. We believe a quarterly comparison is a better indicator of strengthening or deteriorating market conditions.

Many mills also achieve incremental productivity gains, called ‘creep’, that may not be reflected in their capacity numbers. Noted changes in capacity usually show major upgrades, product conversions or shutdowns. Creep is estimated to be between 1.0% and 2.0% a year for well operated, well-maintained assets, though today, that may be a little optimistic.

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CAPACITY AND OPERATING RATES

This chart clearly shows capacity reductions and the impact on operating rates in the period since 1999. The forecasted numbers for 2010-2013 period have been adjusted to reflect more current information, e.g., Greenpac investment.

SOURCE: RISI, Norton Associates

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RISI CAPACITY CHANGES DETAIL (ACKNOWLEDGEMENT AND THANKS TO KEN WAGHORNE, VP PACKAGING, RISI)

Company Location Country Capacity Date GradeEurocan Kitimat, BC Canada (369) 2010 Q1 Kraftliner

Unidentified Projects or Creep US 220 2010 KraftlinerSmurfit-Stone Missoula, MT US (440) 2010 Q1 KraftlinerUnidentified Grade Shift US (340) 2010 KraftlinerUnidentified Projects, Shift or Creep 184 2010 Recycled LinerAbitibiBowater Coosa Pines, AL US 94 2010 Q2 Recycled LinerUnidentified Projects, Shift or Creep US 116 2010 Semichemical Medium* Unidentified Projects, Shift or Creep US 50 2010 Recycled MediumSpecialty Paper Mills Santa Fe Springs, CA US 72 2010 Q4 Recycled Medium

(413) Doesn't include IP shuts in 2008-2009 totaling 1.4 million tons

Unidentified Projects, Shift or Creep US 160 2011 KraftlinerUnidentified Projects, Shift or Creep US 125 2011 Recycled LinerUnidentified Projects, Shift or Creep US 20 2011 Recycled Medium* Unidentified Projects, Shift or Creep US 250 2011 Kraftliner* Assumed Swing US 200 2011 KraftlinerAbitibiBowater Coosa Pines, AL US (94) 2011 Q1 Recycled Liner* Unidentified Projects, Shift or Creep US 80 2011 Semichemical Medium* Unidentified Projects, Shift or Creep US 40 2011 Recycled Medium

781* Unidentified Projects or Creep US 200 2012 Kraftliner* Assumed Grade Shift US 300 2012 Kraftliner* Assumed Grade Shift US (300) 2012 Recycled Liner* Unidentified Projects, Shift or Creep US 100 2012 Semichemical Medium* Unidentified Projects, Shift or Creep US 40 2012 Recycled Liner* Assumed Conversions from Graphic Paper US 200 2012 Kraftliner* Assumed Conversions from Graphic Paper US 150 2012 Recycled Liner* Assumed Conversions from Graphic Paper US 150 2012 Recycled Medium* Unidentified Projects, Shift or Creep US 40 2012 Recycled Medium

880* Unidentified Projects, Shift or Creep US 360 2013 Kraftliner* Assumed New Machine US 300 2013 Recycled Liner* Assumed New Machine US 200 2013 Recycled Medium* Assumed Conversions from Graphic Paper US 150 2013 Recycled Liner* Assumed Conversions from Graphic Paper US 150 2013 Recycled Medium* Unidentified Projects, Shift or Creep US 100 2013 Semichemical Medium* Unidentified Projects, Shift or Creep US 40 2013 Recycled Liner* Unidentified Projects, Shift or Creep US 40 2013 Recycled Medium

1340* Unidentified Projects, Shift or Creep US 420 2014 Kraftliner* Unidentified Projects, Shift or Creep US 40 2014 Recycled Liner* Assumed New Machine US 300 2014 Recycled Liner* Unidentified Projects, Shift or Creep US 140 2014 Semichemical Medium

900* Unidentified Projects, Shift or Creep US 560 2015 Kraftliner* Assumed closures US (150) 2015 Recycled Liner* Unidentified Projects, Shift or Creep US 200 2015 Semichemical Medium* Assumed closures US (80) 2015 Recycled Medium

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Major Containerboard Capacity Changes (short tons ,000) in North America, 2010–2015

*Note: Projects marked with an asterisk were not included in the 51st AF&PA Capacity Survey or reflect assumed capacity changes.

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OPERATING RATES — THE BELLWETHER INDICATOR? Mill operating rates have traditionally been thought of as the leading indicator

of market strength.

After dipping below 95% in the third quarter of 2008, operating rates did not return to 95+% until the second quarter of 2010.

First quarter 2011 rates have been struggling to reach the 95% tipping point. Some of the decline reflects temporary mill outages, but soft demand is also a real factor

We believe efforts to keep operating rates looking favorable have run out of momentum in the face of sluggish box shipments and at best, uncertain economic conditions. We don’t see much to indicate that the remainder of 2011 will be a better environment for operating rates, unless there is another round of capacity rationalization.

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BOX PLANT ACTIVITY

STILL STRUGGLING TO RECOVER VOLUME

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BOX PLANT ACTIVITY — COMMENTARY Box plants shipments track well with overall economic activity, as measured

by industrial production, especially for non-durables. About two-thirds of shipments are to non-durables segments, with food and beverage being the largest category. Recent softness in the economy hasn’t had as sharp an impact on box shipments compared with some other manufactured products since people continue to eat, drink and use disposable packaging. But the industry still hasn’t recovered from 2009.

Discrete events, such as a hurricanes or crop failures, can have significant impact on quarterly numbers.

Box plant capacity utilization isn’t a meaningful measure of market activity, since most plants operate well below their nameplate capacity. While the corrugator is, in a broad sense, the limiting factor, bottlenecks often are often caused by short-term mix shifts or machine center downtime.

We think a better benchmark is shipments activity, tracked in aggregate for the period or on an average week basis to account for changes in the number of workdays in a month or quarter.

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BOX PLANT ACTIVITY — AVERAGE WEEK SHIPMENTS

Since 2008 box plant shipments have yet to get close to the ‘magic’ 7.5 BSF average week benchmark. RISI notes that if the first quarter rate of growth is annualized, it would translate to 5+% for the balance of 2011. However, if key economic indicator forecasts become stagnant, we think 2011 will be no better than 1.5-2.5% growth.

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NORAMPAC’S NEW MACHINEIT MAKES GOOD SENSE FOR THEM

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THE BASICS 7 machines, 1.1 million tons, 3% share of

market Primarily recycled grades, no kraft linerboard Machines generally narrower trims and

slower speeds; largest machine ranks ~70 of ~140 in capacity

328-inch multi-fourdrinier recycled linerboard machine; 540,000 tons capacity--among top 10 in North America

Basis weight range 20-35#; will trim 3-out to meet modern corrugator requirements

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THE ECONOMICS Investment $430 million (US)

• Land purchase/site work* 7%• Building construction* 12%• New equipment* 55%­ Metso contract ~$91 million

• Other project costs* 26% Benchmarks

• Greenpac, Niagara Falls ~$796/ton of capacity• Pratt, Shreveport ~$417/ton of capacity• IP Pensacola conversion $145? million for

500K tons (150K incremental) l/w kraft linerboard Percentages based on 2010 data from Niagara County Industrial

Development Agency, project total cost estimate of $407.5 million *

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WHO ELSE TO CONSIDER?

The tier-two players• Pratt – a distinctive strategy, adding convertor

capacity, two big corrugators in Indiana• Boise – DeRidder newsprint machine conversion

should look even better with the benefit of Tharco’s cut-up

• Longview – Who might eventually own the assets and what would they do with them?

Other ‘buzz’• KapStone, Atlantic Packaging, Interstate Resources• Multi-plant independents/sheet feeders, e.g.,

USCorrugated, Schwarz Group, Corrugated Synergies

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WHAT DOES IT ALL MEANA POINT OF VIEW

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CAPACITY CREEPING BACK TO 2003-2005 LEVELS…

…BUT NOT BOX SHIPMENTS

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THE RELATIONSHIP BETWEEN DEMAND AND PRICE…

…BUT WHAT’S HAPPENED SINCE 2008?

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HISTORY WOULD SUGGEST…

…THAT PRICES CAN’T BE SUSTAINED