In my previous piece about plantations I described how the pulp & paper (P & P) industry relied on low inputs prices (trees) for its profitability, even for its existence.
Those who didn’t understand my descriptions have inspired me to make the picture even clearer. The details aren’t important, it’s the bigger ‘returns’ picture that I’m hoping to paint.
The main reason that the P & P industry relies on trees is that trees have been virtually free. The P & P industry simply removes ‘unwanted’ forests and other untidiness, and converts it to fibre via a series of mechanical and chemical processes. Champers and canapés for all.
When people propose alternative sources of fibre for paper, they usually do so because trees have so many other valued uses that reducing them to fibre is absurd. It would be like reducing large diamonds to powder to make industrial abrasives.
Nevertheless the P & P industry is used to getting the trees it wants from compliant (some might say stupid and corrupt) governments. Whether any exist in our neck of the woods I’ll leave to the reader.
When free trees became harder to come by, the P & P boys decided that plantations were the way to go. Plus if you could convince dopey governments to ‘invest’ taxpayers’ money in pulp plantations, it wouldn’t be too hard to convince them later that they needed to borrow billions to turn the trees into pulp.
Trouble was that the costs of growing the trees exceeded the price that the P & P industry wanted to pay. Enter the MIS – a clever way of shifting the costs of P & P inputs onto gullible investors and unwitting and unwilling taxpayers. A brilliant business innovation producing ‘easy money’.
But wait, there’s more…
Of course, there’s a structural problem with the P & P industry. The price that the industry gets for pulp (or chips) varies. Worse yet it is tending to vary downwards because huge countries like Russia, China and Brazil are converting trees to pulp producing the glut forecast when Gunns Ltd’s pulp mill was first mooted. The result is declining pulp prices.
More supply, lower prices. Nothing new here.
The pulp makers cannot get more for their pulp than the international price, so if the price drops, so does their income. The price of pulp is therefore a ceiling on the income attainable from the entire pulping process. All savings have to come from below that ceiling.
The only way P & P operators can accommodate such reductions is by cutting costs, including paying less for their inputs, cutting expensive toys like pollution control and downsizing their staff.
When the Gunns/ALP mill was first mooted, the price for pulp was around $850 tonne. Now it’s around $650 tonne. Does anyone smell trouble?
Gunns’ proposal was to sell 820,000 tonnes of pulp in each of the first couple of years. With a price drop of $200 tonne since then that’s a shortfall of (820,000 x $200) $164 million per year. Serious money.
Gunns would have nowhere else to turn to get that money except those governments that we talked about earlier. Everything else would represent big losses that they couldn’t afford with a $2.5 bn debt hanging off their project. Even at 5% that’s an annual interest bill of $125 million per year, without repaying any capital.
The only way to cut costs is to cut input costs (trees, water, contractor payments), operating costs (staff), and anything else that was within cooee. Given that, who would want to be in the pulp wood plantation business, or the contractor business come to that? Would they even be ‘businesses’?
Everything would have to be cut and hang the consequences.
That’s probably the real reason for the likes of Timo Piilonen (1). He’d know how to operate on a shoestring, and how to gull pollies into providing more support. Good man to have on your side.
If the pulp price ceiling drops any more, the mill financials could rapidly become extremely precarious.
There’s an upside… for some
The winners would have already won. The pulp mill suppliers would have their cash. The operators would be on a fixed contract.
It’s only the mugs that would be exposed, particularly those who go into debt to enter such a ‘business’. Come in suckers.
The potential embarrassment would be so severe that governments would be easily convinced to conceal the problems with ‘just a little more money’, particularly as it isn’t theirs - it’s ours! More hundreds of millions every year on top of the $350m- plus in mixed subsidies already identified.
The plantation timber owners? They’ve got nothing. No land, no income, and many of them are looking at rental charges if they don’t remove the trees. Gunns would be doing them a favour by taking them off their hands. The contractors are likewise stuck – big interest payments on their equipment and no other source of income. They could be relied upon to pressure governments for more mill subsidies.
So back to the topic.
Who needs plantations? The pulp and paper industry.
Plantations are pulp mill feedstock which means, no trees - no mill.
The more pulp plantations that we’ve got the harder the industry will push for a mill.
It’s anyone’s guess who would have the appetite to finance a business with a declining product price that depends on world market conditions and currency values when there are so many other genuinely attractive opportunities out there.
As for investing in pulpwood plantations – I don’t think so. They’re a guaranteed write off.
Watch this space.
Mike is a complex systems consultant, change facilitator and executive/management coach.
Note. The author welcomes constructive criticism and new information that adds to our understanding of these issues and rejects personal vilification as a legitimate form of discourse.
Earlier: The Truth About Plantations, HERE
The Danger of Managed Investment Schemes:
“The tax-effective managed investment industry has been a curious feature of Australia’s finance industry for at least three decades. Probably due to our convict heritage and resulting egalitarian culture, our nation’s government has created two unique institutions: a public holiday for a horse race, and a system of tax avoidance, sanctioned by our tax collector. In any country the horse race is considered with a sigh of delight, while our tax schemes would be called fraud.” Read the full Money Mangement article, HERE