GREAT AMERICAN GROUP ADVISORY & VALUATION SERVICES

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1 GREAT AMERICAN GROUP ADVISORY & VALUATION SERVICES Paper and Corrugated Packaging Monitor Inventory and Equipment August - Volume 6 In this Issue: Introduction 1 Overview 2 Recent Appraisal Trends 4 Monitoring Points 5 Pricing Trends 6 Paper and Packaging Equipment 9 Reference Sheet 10 Monitor Information 11 INTRODUCTION demand for a variety of paper products, including magazines, newspapers, and envelopes, continues to negatively impact the paper industry. Among the signs of the times are ongoing threats in Congress to severely curtail services offered by the U.S. Postal Service due to fewer people sending and receiving mail and the June bankruptcy filing by National Envelope Corporation ( National Envelope ), one of the largest envelope producers in North America. In the coming months, the combination of high market pulp pricing and stagnant paper prices due to lackluster demand is expected to squeeze the gross margins of non-integrated players. The pace of the ongoing economic recovery, albeit gradual, is a positive indicator for packaging producers. Many producers were concerned that May's $50-per-ton containerboard price increase, the second such increase in eight months, would be resisted by their customers. However, the increase has been accepted with little pushback, although some end-use customers have reported some negative impact on their gross margins. Nonetheless, containerboard inventories have risen recently, largely as the result of sluggish box demand and high mill operating rates. Recent economic data from the Institute of Supply Management ("ISM") bodes well for the packaging industry. Economic activity in the manufacturing sector expanded in July for the second consecutive month, and the overall economy grew for the 50th consecutive month, according to ISM. Of the 18 manufacturing industries monitored by ISM, 13 reported growth in July. Demand for cardboard and other packaging products generally fluctuates depending on consumer demand for a wide range of products. Trend NOLVs Sales Trends Gross Margin Inventory Tracker Paper Quarter Market Prices Packaging Consistent/ Consistent/ Increasing Year Paper Consistent Packaging Increasing Increasing Paper Pulp Increasing Increasing NOLV: due to declining sales as a result of digital competition, as well as declining gross margins due to rising pulp prices, competitive pressure, and consistent to decreasing sale prices. Inventory levels have decreased to align with sales. Packaging NOLV: Consistent to decreasing due to recent sales declines due to the sluggish economy, as well as gross margin declines due to rising pulp prices and competitive pressure. Prices have increased to reflect increased pulp acquisition costs. Inventory levels are consistent to increasing due to low shipments and high mill operating rates in June. Pulp Pricing: Increasing due to the implementation of schedule market price hikes by producers. 1

2 OVERVIEW PAPER Consistent with GA s previous Paper and Corrugated Packaging Monitor, the paper industry continues to struggle in the Digital Age. The increasing popularity of tablet computers, coupled with the growing presence of high-speed internet connections in most of the country, allow consumers to read periodicals and books online. In addition, a growing number of consumers no longer receive monthly billing statements. These factors combine to further erode the industry s sales. According to the American Forest & Paper Association s ( AF&PA ) May Printing-Writing Paper Report, total printing-writing paper shipments decreased 7% in May versus May However, shipments increased 1% from April to May in before declining again in June. As printing and writing paper grades are utilized to produce a number of paper products, such as magazines, newspapers, and office paper, they serve as an indicator of overall paper demand. The June Chapter 11 bankruptcy filing by National Envelope, one of the largest envelope manufacturers in North America, illustrates the industry's challenges. The action, filed in Delaware, will allow the company to continue its day-to-day operations without interruption, while enabling the company to secure an owner committed to long-term viability for the business, National Envelope stated in a news release. National Envelope, like other companies in the envelope industry, is facing serious challenges brought on by declining mail volumes, competitive pressures and an overall sluggish economy, stated the company s Chief Financial Officer Jim Pinto. Decreases in shipments for May versus 2012 varied by paper grade. Shipments of coated free sheet, uncoated free sheet, uncoated mechanical, and coated mechanical paper decreased 2%, 5%, 11%, and 13%, respectively, during the period, according to AF&PA. Because the paper industry is a low-gross-margin business, it is highly dependent on sales volume. As a result, even seemingly small decreases in sales volume can have an impact on a company's operations. 1,700 1,650 1,600 1,550 1,500 1,450 1,400 1,350 Printing-Writing Paper Shipments (Tonnes in 000s) July 2012 Through June 2

3 OVERVIEW PACKAGING U.S. box shipments have varied over the past three months. On a year-over-year basis, shipments in April dropped by 2.7%, followed by a 2.5% increase in May and a 5.4% decrease in June, according to the Fibre Box Association ( FBA ). Nevertheless, RISI noted that many mills are still behind on shipments and customers are still running low on supply for certain grades. Some integrated producers have reported that on average, they were more than 12 days behind on shipments, although this figure was down from 20 days in April and May. Largely as a result of June s low box shipments figure and a mill operating rate of 99%, U.S. containerboard inventories jumped by 83,000 tons versus the prior month to 2.2 million tons. This figure contrasts with the average 10-year change in inventory levels from May to June. Inventory levels declined an average of 16,000 tons during the period. As a result, June 's inventory figure represents nearly a 100,000-ton deviation from the average historical decline from May to June, RISI noted. The increase in June inventories reverses a series of declines from January to May. In addition, weeks of supply for box plants and mills was 3.8 weeks in June, up from 3.7 weeks in May. The rise in mill operating rates also likely reflects the winding down of spring maintenance and project downtime, and the need for mills to ramp up inventories before the holiday season Box Shipments (Square Feet in Billions) July 2012 Through June

4 RECENT APPRAISAL TRENDS PAPER Pulp prices continued to increase in the second quarter of. With consumers still somewhat sensitive to price increases due to the gradual pace of the ongoing economic recovery, paper producers have been forced to absorb some of the increases, which continue to squeeze their gross margins. Consistent with GA s prior Paper and Corrugated Packaging Monitor, paper producers continue to deal with the negative impact through restructuring, ongoing cost reductions, and streamlined inventory management strategies. Robust demand for paper in emerging economies, such as India, has also helped offset the ongoing decreases in domestic demand. Paper recovery values were down over the past quarter versus the previous quarter due to declining sales. GA s experience indicates that more generic paper categories experience higher recovery values on a cost basis, while paper categories that consist of uncommon colors or grades, or are customized in some way, recover less unless they are tied to a purchase order or customer contract. Demand for such customized goods is generally extremely limited beyond their intended customers. PULP Pulp is the base material for a variety of wood-based products, such as paper, paperboard, containerboard, and other items. As it is a commodity product, market prices generally determine the appraisal trends for pulp-related companies. The overall health of the economy is a solid indicator when it comes to appraising such companies. Demand for cardboard and other packaging products generally fluctuates depending on consumer demand for a wide range of products, including both durable and nondurable manufactured goods. The manufacturing sector, in particular, often requires corrugated packaging to protect and transport goods. For appraisals conducted in the second quarter of, recovery values for pulp remained relatively flat or increased slightly as companies inventory at cost tends to closely follow trends in market prices, which have been increasing. When appraising pulp, firms will compare a company s inventory at cost to spot or contract market prices, as well as competitors inventory at cost. Recovery values for pulp take into consideration discounts applied based on demand, availability, and the types and size of customers. GA recognizes that recovery values could be impacted by more recent increases in pulp market prices. CHIPS/WOOD Chips and wood are raw materials used to produce wood pulp and various lumber products, such as plywood. In addition, woodchips can be used to fuel biomass power plants. These goods are available via numerous local, regional, and national vendors in North America. As chips and wood undergo few value-added processes, they generally achieve lower recovery values, with discounts necessary to encourage bulk purchases. Recovery values for wood and chips remained flat in the second quarter of versus the previous quarter. PACKAGING The packaging industry s performance has varied over the second quarter versus the previous quarter, with decreasing sales leading to lower inventory levels. Containerboard producers tried to offset the decreasing economic indicators by increasing containerboard prices in May. Recovery values for packaging products have been mixed, either remaining flat or decreasing up to seven percentage points in the second quarter of. Negative recovery values have been due to recent sales and margin declines, as well as inventory mix changes. Recovery values tend to be higher for products that are generic in nature, such as blank cardboard boxes, as such items maintain a variety of potential customers. Goods that are customized in some way, via special logos, unique dimensions, and other specialized enhancements, generally tend to experience lower recovery values, unless they are tied to contracts that require customers to purchase these goods. Other factors that can have an impact on recovery values include contract terms, stocking agreements, lead times for customers to secure a new supplier, and whether the company is the sole supplier of goods to its customers. 4

5 MONITORING POINTS Monitoring Point Impact Monitor paper and packaging market conditions. Monitor RISI and other industry-reference paper/ packaging market prices, acquisition costs, and gross margin. A downturn in the paper or packaging manufacturing industry, or in customer markets such as publishing, food service, and consumer goods, could have a negative impact on sales. In addition, increased competitive pricing pressures and/or a decrease in market share could have a negative impact on sales, gross margin, and weeks of supply. An increase in market price and/or acquisition costs without a corresponding increase in product selling prices would decrease the gross margin. The decline of market prices in relation to the inventory at cost would have a negative impact on recovery values. Monitor supplier and customer contracts, as well as returns, accounts receivable activity, and open sales orders. A loss or cancellation of supplier or customer contracts could decrease sales, increase weeks of supply, increase the level of obsolete inventory, and have a negative impact on recovery values. 5

6 PRICING TRENDS PULP Spot prices increased from May through July for northern bleached hardwood kraft ( NBHK ) and southern bleached hardwood kraft ( SBHK ) following $50-per-ton increases starting in April. July s prices for the two grades stood at a their highest levels since at least July Prices for northern bleached softwood kraft ( NBSK ) and southern bleached softwood kraft ( SBSK ) remained relatively stable during the three-month period. However, spot prices remain significantly below list prices. Some buyers have said large gaps between spot and list levels would likely become a key issue in August. With slightly higher producer inventories and an ongoing slowdown in exports to China, U.S. pulp buyers plan to push back against a record $950-per-ton effective list price on NBSK, according to RISI. U.S. consumers of pulp believe that Chinese price erosion, which led NBSK to decrease $20 per ton over two months, should now spread to the U.S. since domestic spot prices are also well below the $950 effective list price. Buyers are expecting the list price to fall in August. RISI noted that some producers pointed out that spot prices and list prices often follow different trajectories. There is no comparison, they stated, between two rail cars of pulp purchased at spot prices versus regular contract business, which involves massive volumes and tight schedules. Disagreement over NBSK and bleached eucalyptus kraft ( BEK ) prices is expected to result in a fight over August list levels because producers say stocks remain relatively low and no producers announced a price decrease through late July. $650 Pulp Average Spot Market Price Per Ton July 2012 Through July $600 $550 $500 $450 NBHK Mixed Species - Canada/U.S. Sources, Delivered to U.S. East NBSK - Canadian Sources, Delivered to U.S. East SBHK Mixed Species - U.S. Sources, Delivered to U.S. East SBSK - U.S. Sources, Delivered to U.S. East PAPER Uncoated freesheet ("UFS") paper pricing remained unchanged from June to July on cutsize copy and offset papers as well as on converting grades in the U.S., according to a report from RISI. However, RISI pointed out that the lack of change does not necessarily signal demand stability in the marketplace, where prices are widely spread out for cutsize and offset grades, which represent about 60% of shipments. Both cutsize and offset prices have declined $30 per ton since January. Most 50-pound offset roll paper was selling for $860 per ton in June and July; however, some producers reported prices as low as $840 per ton. 6

7 PRICING TRENDS PAPER, CONTINUED According to RISI, producers reported steady demand during the period due partly to direct mailers for the Fourth of July holiday. Analysts note that paper demand could perk up during the back-to-school season, which typically kicks off in August. $1,140 Despite some scattered successes, the newspaper industry continues to struggle against digital media. However, that hasn't stopped newsprint producers from passing on increased costs to newspapers. North American newsprint producers that account for 100% of West Coast newsprint production recently announced $15-per-ton increases on newsprint, which will be implemented on September 1. The move would put West Coast newsprint on parity with East Coast prices. Uncoated Paper Average Spot Market Price Per Ton July 2012 Through July $1,040 $940 $ lb Offset Rolls - U.S. East 20 lb Repro Bond - 92 Bright Cutsize - Sheets - U.S. East 24 lb White Wove Envelope - 92 Bright - Rolls - U.S. East Newsprint Average Market Price Per Ton July 2012 Through July $625 $600 $575 $550 $ lb - U.S. East 30 lb - U.S. West 27.7 lb - U.S. East 27.7 lb - U.S. West 7

8 PRICING TRENDS PAPERBOARD AND CONTAINERBOARD U.S. Northeast independent converters reported that business is strong, but added that the recent box price increase in April was a challenge, which fueled interest in developing greater management over their containerboard supply in a consolidating market, according a recent RISI survey. At least one producer surveyed feared the increase created a lot of bad feeling. North American box demand has been fairly healthy for many integrated and independent converters, while containerboard is still in fairly tight supply. The recent $50 increase was the second in six months. Some industry analysts have said such increases, amounting to 15% to 20% of selling prices in some cases, could force some packaging buyers to consider alternatives to cardboard if they continue. The increase in prices has resulted in particularly strong demand for recycled cardboard, particularly in Europe. RISI noted that some end-use customers have expressed concern that the April box price increase was not justified by increases in fiber, energy, and other input costs. Other end-users have reported that the increases have negatively impacted profit margins and are hard to pass on to customers. Nevertheless, many integrated and independent converters report that box demand has been healthy and the latest box price increase was easier to implement than initially feared. However, RISI noted that the containerboard price rise has met some resistance in Mexico, despite an increase in demand there. Paperboard and Containerboard Average Market Price Per Ton July 2012 Through July $1,200 $1,100 $1,000 $900 $800 $700 $600 Unbleached Kraft Linerboard - 42 lb - U.S. East (Transaction Price) SBS - 16pt Folding Carton - C1S - U.S. East (Transaction price) Recycled Folding Boxboard - 20pt - Clay Coated News (CRB) - U.S. East (Transaction price) Recycled Folding Boxboard - 20pt Uncoated Bending Chip (URB) - U.S. East (Transaction price) 8

9 PAPER AND PACKAGING EQUIPMENT Pulp and paper machinery and equipment prices have remained stable over the last several months as production needs have remained largely unchanged. Although domestic economic conditions continue to improve, import competition and declining demand from key downstream markets, together with an ongoing global economic crisis, have slowed the necessity of used equipment acquisition activity. Discounting by new equipment manufacturers through the recent economic cycle has resulted in further downward pressure on used equipment values. Paper mill machinery and equipment generally arrives in the secondary marketplace as a result of a bankruptcy or liquidation. In these scenarios, a portion of the assets in a process line are generally sold on a component basis while the remaining equipment is sold to be scrapped. The manufacture of pulp and paper requires multi-step processes and in order to facilitate the flow of these processes, major production equipment is often mounted throughout multiple building elevations. In the case that such equipment must be uninstalled and transferred, as in the case of an auction or liquidation sale, the costs of removal and any necessary repairs generally outweigh the value of the item itself. Certain components of process systems hold individual value such as chip sorting equipment, refiners, screens, pumps, and pulpers. While the market for writing grade paper machines remains considerably depressed, machines in the 100-inch trim mark sell well into the export market, conceivably for the manufacture of corrugated boxes and linerboard. The market for the 130- to 135-inch width paper machines is currently stable, if not growing, as these machines are average-sized and will likely sell on a component basis. If offered for sale in a liquidation setting, asset pools consisting of late-model converting equipment would be projected to draw the interest of major North American industry participants. However, large concentrations of older machines would likely be of interest only to foreign buyers. International buyers are primarily located in Pakistan, China, and Mexico. International buyers tend to be more interested in smaller equipment. China is currently the largest paper and packaging producer in the world, a status the country is likely to maintain due to continued technological progress and a low-cost labor force. As consumer staples, household and sanitary paper products have maintained steady retail demand throughout the economic recession. One such product, the disposable diaper, requires large and specialized machinery to convert the absorbent pad and the non-woven fabrics to a finished good. In short supply and infrequently offered in the resale market, disposable diaper production and support equipment would be very likely to find interested buyers both domestically and abroad. GA has held numerous conversations with paper and packaging manufacturers and processors who generally indicate that price fluctuations of wood chips, pulp, and recycled paper are having significant impacts on growth and stabilization in the industry. A decline in the industry due to raw material price increases or other factors could result in a higher level paper and packaging equipment liquidations and negatively impact the recovery values of such items. Compared with 2012, pulp demand is on the rise, with a 7.7% increase over the first half of the year. 9

10 PAPER AND PACKAGING REFERENCE SHEET PPI Average Pulp Spot Prices ($ per Ton) - % change from previous month NBHK Mixed Species - Canada/U.S. Sources, Delivered to U.S. East ($570 to $608/ton) SBHK Mixed Species - U.S. Sources, Delivered to U.S. East ($565 to $600/ton) May June July 4% 1% 2% 4% 2% 1% NBSK - Canadian Sources, Delivered to U.S. East ($608 to $612/ton) 0% 0% (1%) SBSK - U.S. Sources, Delivered to U.S. East ($580 to $590/ton) 1% (2%) 0% PPI Average Uncoated Paper Market Prices ($ per Ton) - % change from previous month May PPI Newsprint Paper Market Prices ($ per Ton) - % change from previous month June 50lb (70g) Offset Rolls - U.S. East ($860/ton) 0% (2%) 0% 20lb (80g) Repro Bond 92 Bright Cutsize Sheets - U.S. East ($1,015/ton) 0% 0% 0% 24lb White Woven Envelope - 92 Bright - Rolls - U.S. East ($1,098/ton) (1%) 0% 0% PPI Average Paperboard and Containerboard Market Prices ($ per Ton) - % change from previous month Unbleached Kraft Linerboard - 42lb - U.S. East (Transaction Price) ($740/ ton) SBS - 16pt Folding Carton - C1S - U.S. East (Transaction Price) ($1,130/ ton) Recycled Folding Boxboard - 20pt - CRB - Clay coated news - U.S. East (Transaction Price) ($915/ton) Recycled Folding Boxboard - 20pt - URB - Uncoated Bending Chip - U.S East. (Transaction Price) ($665/ton) May May June Newsprint 30lb (48.8g) - U.S. East ($550/ton) (1%) 0% 0% Newsprint 27.7lb (45g) - U.S. East ($585/ton) (1%) 0% 0% Newsprint 27.7lb (45g) - U.S. West ($570/ton) (1%) 0% 0% Newsprint 30lb (48.8g) - U.S. West ($535/ton) (1%) 0% 0% June July July July 0% 0% 0% 2% 0% 0% 1% 0% 0% 0% 0% 0% 10

11 MONITOR INFORMATION The Paper and Corrugated Packaging Monitor relates information covering paper and packaging product, including industry trends, market pricing, and their relation to the valuation process. GA provides our customer base with a concise document highlighting the paper and packaging industry. Due to the commodity nature of certain paper and packaging products, timely reporting is necessary to understand an ever-changing marketplace. GA strives to contextualize important indicators in order to provide a more in-depth perspective of the market as a whole. GA internally tracks recovery ranges for pulp, paper, and packaging, but we are mindful to adhere to your request for a simple reference document. GA welcomes the opportunity to make our expertise available to you in every possible way. Should you need any further information or wish to discuss recovery ranges for a particular segment, please feel free to contact your GA Business Development Officer using the contact information shown in this and all Paper and Corrugated Packaging Monitor issues. GA s Paper and Corrugated Packaging Monitor provides market value and industry trend information for a variety of paper and packaging products. The information contained herein is based on a composite of GA s industry expertise, contact with industry personnel, liquidation and appraisal experience, and data compiled from a variety of wellrespected sources believed to be reliable. We do not guarantee the completeness of such information or make any representation as to its accuracy. EXPERIENCE LIQUIDATIONS GA was involved in the liquidations of assets for paper and packaging companies, including the following transactions: Printcrafters, Inc.: Formerly a commercial printing company with a large paper inventory in various sizes and styles. Colfax Envelope Corporation: Formerly a manufacturer and distributor of high-quality custom lithographed/offset envelopes for financial services and direct mail companies. Solar Graphics, Inc.: A printer and supplier of graphic signs including banners, window display films, and screen-printed products. WWF Paper: Formerly a manufacturer and distributor of printing and writing papers, with more than 100 U.S. and international paper mills. Tye-Sil: Formerly a leading Canadian provider of gift wrap and accessories. Royal Plastics: A manufacturer of a variety of custom plastic products. Kemco Plastics, Inc.: A manufacturer of custom-molded plastic products, serving the packaging industry in addition to the military, aerospace, consumer goods, medical, furniture, automotive, and industrial sectors. Others including Usdan Paper Company, Pandick Press, Target Graphics, Unicover Corp., Wicklander Printing Corp., Office Max, and MMP Printing Group. APPRAISALS In addition, GA has worked with and appraised numerous manufacturers and distributors within the paper and packaging industries. While our clients remain confidential, they range in scale from smaller, more specialized regional businesses to major global and national industry leaders, and include the following sampling of companies: Leading manufacturers and regional distributors of premium, writing, text, cover, and specialty papers in a variety of colors, weights and finishes; durable, saturated, and coated base papers for a variety of applications; pulp; and other wood-based products, including a global forest products company with annual sales over $3 billion. Manufacturers, distributors, and brokers of book publication papers, coated and uncoated freesheet, supercalendared and coated groundwood papers, newsprint, and other fine paper purchased by U.S. book, magazine, and advertising publishers, including companies with more than $400 million in sales. Distributors and printers of sheet-fed paper products such as pressure-sensitive paper and film used in a variety of applications, including inserts, magazines, direct mail, and other print mediums, such as a major North American commercial printer with annual revenues in excess of $3 billion. A leading U.S. manufacturer of printed and unprinted envelopes in various sizes and styles for the merchant/wholesale market, large envelope consumers, and specialty wholesalers, with annual sales over $500 million. Manufacturers and distributors of corrugated containers, containerboard, retail packaging, and packaging products such as point-of-purchase displays, protective packaging materials, and pressure-sensitive labels for a variety of industries, including a global company with annual sales exceeding $5 billion. Converters of recycled paper into toilet tissue, hand towels, paper bags, napkins, and other products. 11

12 APPRAISAL & VALUATION TEAM BUSINESS DEVELOPMENT Mike Marchlik National Sales & Marketing Director David Seiden Executive Vice President - Southeast Region dseiden@greatamerican.com Ryan Mulcunry Senior Vice President - Northeast Region, Canada & Europe rmulcunry@greatamerican.com Bill Soncini Senior Vice President - Midwest Region bsoncini@greatamerican.com Drew Jakubek Vice President - Southwest Region djakubek@greatamerican.com Jennie Kim Vice President - Western Region jkim@greatamerican.com Gordon Titley Director of Valuations GA Europe Valuations gtitley@gaevaluations.co.uk INVENTORY OPERATIONS Ken Bloore Chief Operating Officer kbloore@greatamerican.com Michael Adair Senior Associate, Paper and Packaging Specialist madair@greatamerican.com MACHINERY & EQUIPMENT OPERATIONS Marc Musitano Chief Operating Officer mmusitano@greatamerican.com Michael Petruski Executive Vice President, General Manager mpetruski@greatamerican.com Lee M. Danhauer Vice President, Paper and Packaging Equipment Specialist ldanhauer@greatamerican.com ABOUT GREAT AMERICAN GROUP Great American Group is a leading provider of asset disposition solutions and valuation and appraisal services to a wide range of retail, wholesale and industrial clients, as well as lenders, capital providers, private equity investors and professional services firms. In addition to the Paper and Corrugated Packaging Monitor, GA also provides clients with industry expertise in the form of monitors for the metals, building products, food, automotive, and chemicals/plastics industries, among many others. GA also offers the European Manufacturing Monitor via its subsidiary, GA Europe Valuations Limited. Headquarters: Burbank Blvd. Suite 300 South Woodland Hills, CA GREAT Atlanta Boston Chicago Charlotte Dallas London Los Angeles New York San Francisco 12