Competitiveness and Europe’s Pulp & Paper Industry:

The State of Play

Introduction

Gaining insights into the issues that impact global competitiveness is a constant concern for the paper industry. The issue has been high on the agenda in recent years in particular as European industry faces de-investment in the region and pulp and paper companies have seen strong downward pressure on margins and profitability.

However, the topic is crucial at any time, because it is only by analysing the elements that contribute to global competitivenessthat stakeholders can target their efforts to secure the industry’s long-term future in the most efficient manner. Given the pace of change in the global business environment in recent years, the paper industry felt that this was the appropriate time to map out the ‘state of play’ on the major issues that are impacting the global competitiveness of the sector.

The objective is to highlight some of the challenges and opportunities that could impact the long-term vitality of this key industrialsector and hopefully stimulate debate about the future direction of the industry. Of course, the paper industry is well aware that it has its own responsibilities in terms of boosting competitiveness and has been hard at work striving to meet that challenge,especially in the context of the Lisbon agenda. But clearly there is still much work to be done.

If the European paper industry can help throw the spotlight on some of the big issues, then perhaps stakeholders can all worktogether to help ensure the European pulp and paper industry of tomorrow remains a technological and competitive force.

Key Points

The SWOT analysis illustrates some of the main factors impacting the competitiveness of the European paper industry. The headlines show that this is an industry operating in a mature market with rising costs for energy and raw materials. But there is plenty of good news as well, as the sector boasts world-beating technology, the ability to target emerging markets and almost unlimited potential to exploit new product developments.

Free trade and fair competition combined with simple and cost-effective regulation will be crucial in helping Europe’s paper industry maintain its edge, while allowing the sector to grasp the opportunities that lie ahead.

STRENGTHS

• Large regional market

• Quality of products and customer service

• Availability of recovered paper

• Efficiency of production facilities

• Environmental performance

• Skilled personnel and management

• Health and safety standards

• European paper cluster

• Ability to develop niche products

WEAKNESSES

• High and increasing energy costs

• High wood costs

• Increasing competition from wood - the promotion

of renewable energy sources and subsidies

• Relatively high labour costs and rigidities

in labour market

• Trends towards over-regulation and red tape

• Management of capacities

OPPORTUNITIES

• R&D and other know-how advancement

• Market growth in Eastern Europe, Russia and Asia

• Increased and better mobilisation of wood

• Specialisation

• Consolidation

• Improvement of transportation infrastructure

• Better use of information technology

• Develop new value added products exploiting biotechnology

THREATS

• Increasing energy and transportation costs

• Increased wood costs and lower supply due to renewable

energy sources promotion and subsidies

• Increased recovered paper costs and increasing exports

• Increasing competition from electronic media

and competing materials like plastic

• Investments flowing to new areas –

varying degrees of delocalisation

• New environmental requirements and less

ambitious standards in competing areas

• Declining investments in R&D

• Declining availability of skilled workforce

General SWOT Analysis for Europe’s Paper & Board Industry in 2005

The Top 10 Competitiveness Factors

Set in a global context, it is fair to say that the European paper industry is in the unique position of being both sustainable and competitive. However, there are a whole host of factors that influence overall competitiveness, ranging from demand growthand the cost of energy right through to exchange rates and the influence of strict environmental regulation.

Some of these factors are outside the scope of corporate influence, so it is up to the industry to work with legislators and other stakeholders to ensure that European papermakers maintain their leadership position – and their ability to deliver superiorenvironmental performance. Equally, the industry clearly recognises that it must do what it can to boost competitiveness in theareas where it does have direct influence, e.g. R&D.

Given the cost structure indicated below, some of the competitiveness factors are obvious. However, the industry has gone furtherto identify 10 key competitiveness factors that can be targeted to maintain Europe’s leadership in the future.

Energy: The deciding factor in European paper industry

competitiveness – dramatically increasing energy prices.

Dramatic increases in energy costs in Europe have placed the European paper industry at a competitive disadvantage in relation to most of its global competitors. Consequently,industry is not only losing profitability, but also potentialinvestments to other regions. The unfinished liberalisation ofEurope’s energy markets has resulted in an oligopolistic, evenmonopolistic market and the introduction of the emissiontrading system has exacerbated this. The pace of liberalisationmust increase. If not, de-industrialisation in Europe will occurleading to fewer jobs and reduced growth across the board.

Recovered Paper: Sustained efforts are needed

to boost collection rates, quality and recyclability

in this important asset base.

The massive increase in paper collection and recycling has been mainly driven by the European paper industry with average collection rates at 59% in 2004 - considerably higher than Asia or North America.However, most quality recovered paper sources are alreadybeing utilised particularly in Western Europe. This means thatgreater efforts are required to increase collection rates,increase recovered paper quality and improve the recyclabilityof paper products. It is also important that new regulationspromoting biofuels do not lead to the wholesale incineration of valuable raw material.

Wood Resources: High wood costs, use of pulpwood

for bio-energy, and difficulties in mobilising resources could

all impact competitiveness.

Europe is at the high end in terms of wood costs and this isunlikely to change. Faster growing plantations in Latin Americaand Southeast Asia, along with sources in Russia, representcompeting wood supply regions with significant potential forincreasing supply at lower wood cost.In terms of wood availability, Europe appears to be wellpositioned. In practice though, the mobilisation of woodresources in Europe is hindered by factors such as thefragmentation of ownership, increasing numbers of areasbarred to industrial use and transportation costs. Anotherthreat comes from the EU’s renewable energy policies, whichmeans subsidised wood being used only for bio-energyproduction rather than being used first as a raw material,adding value and jobs.

Labour: Skills and greater productivity have to balance

high labour costs across the paper industry.

Europe has markedly higher direct and indirect labour coststhan competitors in many markets including Indonesia, China,Brazil and Chile. On the other hand, quality and productivitylevels are favourable for European producers.While labour costs still vary widely within Europe, labour productivity remains a positive factor in terms of competitiveness, but it will require continued investment in training and skills development.

Capital costs 18%

Energy 13%

Personnel 14%

Chemicals 12%

Fibres 32%

Other manufacturing

costs 11%

Source: Jaakko Pöyry Consulting

Average Weighted Cost Structure of Paper Industry for CEPI GmbH/S.A./Ltd./etc. (2005)

Example of Energy Costs Facing New Investment in Europe

JAN 05

JAN 06

MARMAY

JULY

SEPTNOV

JAN 04

MARMAY

JULY

SEPTNOV

Germany Electricity Spot price (€/MWh)

Source: EEX Jan 06

20

30

40

50

60

70

Average 2004: 28.5 €/MWh Average 2005: 46.0 €/MWh Diff 05/04: +61 %

Chemicals: The European pulp & paper industry

benefits from an efficient chemical cluster that

delivers high-tech products.

Chemical prices around the world have started to converge, but the combination of price, availability and technology stillgives Europe a slight edge over competitors.Cooperation between European chemical producers and pulpand paper companies is an advantage in the development ofnew grades. At the same time, skilful use of chemicalsincreases production speed and efficiency, as well as reducing costs. Competitors in Asia and North America do not enjoy the same fruitful cooperation.REACH will have impact though, and the costs are likely to be considerable.

Capital Costs: The European paper industry enjoys

a small competitive advantage.

In terms of capital costs, the European paper industry has a marginal advantage over some of its global competitors.Interest rates are slightly lower than those in North Americaand Japan, and clearly lower than in developing countries. Thedifferences are narrowing worldwide though, which means thatEurope’s advantage diminishes as well.Financiers have also become increasingly cautious about the sustainability of business fundamentals, includingenvironmental and socio-economic issues. Sound projects canget competitive financing and there are several good examplesof this, especially in Latin America. Consequently, the capitaladvantage will become less relevant for European industry.

Regulatory Framework: Red tape, inconsistency

and the sheer volume of regulations result in high

costs for the industry.

Sensible measures are always needed to regulate industry andhave driven large environmental improvements, but excessive,poorly targeted legislation, inconsistent or “one size fits all”regulation and red tape can all put a brake on competitiveness.In the environmental arena, it is safe to say that Europe boastsglobal leadership, but this comes at a cost. As the cost oflegislation mounts, the competitiveness of Europe’s paperindustry declines in relation to competitors whereenvironmental requirements are on a much lower level or their enforcement is lax.

Transportation: Good infrastructure remains an asset

but road charging and congestion means increasing costs.

The bulky nature of pulp and paper products puts transportationand logistics high on the competitiveness agenda.Unfortunately, transport costs in Europe are rising and look setto rise further. Labour costs, oil prices, road tolls, and securityare all likely to drive up the total logistics cost, especially inCentral Europe. Meanwhile, traffic forecasts for 2010 indicatethat costs attributable to congestion are likely to increase by142% to EUR 80 billion, which amounts to 1% of EU GDP.

Taxation: European tax rates offer advantages but

additional national and local taxation has a significant

impact.

The average European2 corporate tax3 rate is 26.8%. However, if the European corporate tax rate is weighted by the paper andboard production capacity the average tax rate rises to 31.5%.This still represents a slight competitive advantage for European paper producers compared to several of their maincompetitors. However, there is also the cumulative effect ofnational and local taxation in addition to corporate taxation. The real tax burden depends on how the authorities treat debt,depreciation and other items. Unfortunately, the capital-intensive nature of the paper industry means that it is oftenpenalised by heavier taxation and excessive administration.

Ability to Innovate: Europe holds a technological

lead over competing regions but R&D and a skilled

workforce are vital for the future.

Europe boasts a skilled labour force and technologicaladvantages over competing regions. However, R&D levels in the paper industry are somewhat lower than other sectors.Progress does seem to have been made in this respect with theForest-Based Sector Technology Platform (FTP). The FTP waslaunched by the Forest-Based Industries in February 2005 andoutlines a high level strategy for innovation and research acrossthe sector.The goal is to focus and coordinate research throughout thevalue chain to help the industry exploit opportunities in areassuch as wireless, biotechnology, nanotechnology and IT.

Personnel European average weighted on P&Pb capacity

0

IDN

CHNRUS

BRACHL

JPN

CANUSA

EUR/operating person*/a, including all fringe benefits

20000

10000

30000

40000

50000

60000

Source: Jaakko Pöyry Consulting

* Operating person is a person, who has an official valid contract of employment with a paper or a pulp company

** Labour cost is the part of the cost of a product that is attributable to wages (including all fringe benefits)Wood cost at mill European average weighted on P&Pb capacity

0

10

20

30

40

50

RUS (Eur

opean)

AUSNZL BRA

CHL

USA sout

h

SWE sout

hGBR

AUT

CAN east

DEU sout

h

FIN so

uth

FRA

EUR/m3 sob

Source: Jaakko Pöyry Consulting

Price of Softwood Pulpwood1 in Europe and in MainCompeting Countries (2005)

Labour Costs** in Europe and in Main Competing Countries(2005)

The Battle for Competitiveness

It is clear that the competitiveness of the European paper industry depends on a multitude of factors – some of which the industry can control, and others that are firmly outside the influence of the companies involved.

The industry does hold some key strategic advantages and in the battle for global competitiveness Europe’s best opportunities lie in using multiple advantages together. That will mean enhancing the sector’s R&D performance through the Forest-Based SectorTechnology Platform and other initiatives, for example. It will also mean increasing the mobilisation of the wood resources thatalready exist, as well as boosting the quality and quantity of the recovered paper streams that deliver much of the industry’s raw material base.

At the same time, the European paper industry will benefit greatly by coordinating and cooperating with other stakeholders,especially in areas where it has little direct influence. Energy is of course a major issue here as it has the potential to be one of the most damaging competitiveness factors.

Ultimately, the European paper industry is a competitive and sustainable sector. The companies involved in the sector aredetermined to ensure that this remains a key strategic asset for Europe and by working with other stakeholders across all the competitiveness measures included here, particularly in encouraging a coherent policy framework, it aims to maintain its global leadership position in the future.

1 Softwood from mechanical pulping2 EU25 + Norway + Switzerland (excluding Baltic States, Malta and Slovenia)3 Corporate tax refers to direct taxes charged by various jurisdictions on the profits made by companies

Source: Jaakko Pöyry Consulting

KEY ASSETS FOR COMPETITIVE EDGE

European paper industry

+ Asset ...unless -

Chemical industry and know-how Industry ignores added value

Recovered paper Loop leaks to Asia

R&D Cooperation with cluster fails

Infrastructure to support inbound

and outbound logistics

Transport costs increase

KEY VULNERABILITIES

European paper industry

- Disadvantage ...unless +

Energy price upwards trend Playing field made even globally

Excessive environmental regulation Simplified and purposeful legislation

for sustainability

Fibre cost differential Improved mobilisation of fibre resources

Tariff and non-tariff barriers Free trade and fair competition

Confederation of European Paper Industries250 Avenue Louise, Box 80 B-1050 Brussels

Tel : +32 2 627 49 11 Fax : +32 2 646 81 37 mai l@cepi .orgwww.cepi .org www.paperonl ine.orgwww.paperrecovery.org www.forestrycert i f icat ion. info