Weak lumber markets always create a decline in the volume of wood chips generated as a by-product of lumber production, and the diminished supply then leads to higher prices. While not great news for pulp and paper producers seeking furnish for pulp mills, sawmill operators in this region depend heavily on these higher returns from residue, particularly wood chips, to serve as an offset to production costs. When lumber prices are low, chip revenue can mean the difference between running and shutting down.
In the third quarter, we wrote about the potential for a shortage of chips in this area as a result of the fading availability of windstorm damaged timber and stiff competition for remaining residue chips. What changed over the last quarter?
Throughout 2008, pulp and paper producers dramatically increased their wood chip inventories in the Northwest because they feared a shortfall. To prepare for the coming winter, these companies supplemented residue chips with high cost whole log chips in order to build chip piles rapidly. During this period, whole log chips were being produced at record levels.
By November, however, the flagging economy and resulting worldwide slowdown in demand for paper and packaging brought deep cuts in the prices of paper products. Northwest paper mills, cast in the role of the high cost producer, rolled back production. Many were forced to take major downtime and several curtailed capacity indefinitely.
With deep curtailments of pulp mills throughout the region, wood chips became a drag on the market overnight. Over the last couple of years, ownership of a number of pulp mills (of all sizes) has changed or evolved, and these mills are operating with a different strategy than in the past — filling orders rather than filling their warehouses. In the south-end, Southwest Oregon and Northern California in particular, buyers are placing delivery quotas on wood chips. Long-time buyer-seller relationships have suffered as a consequence of this just-in-time philosophy. Because chips, in some cases, are languishing without a home, many mills are directing wood chips be burned as hog fuel out of necessity. At year-end, chip inventories were falling quickly, though supply still outstripped demand.
The future for wood chip supply and pricing is uncertain. Soft worldwide demand is likely to continue. Demand for wood fiber will strengthen when the economy rebounds, though this could be one to two years away. While wood fuels and pellets will continue to emerge as strong players seeking a steady resource for a growing industry, this will be a gradual process.
First quarter 2009 Northwest chip prices will trend lower and pulp logs will continue to experience deep price cuts.
With no economic turnaround in sight, everyone is double checking their hole cards. Sawmill operators need to evaluate the future of traditional wood chip buyers and the pricing structure with which they’ve become accustomed. Pulp mills operating in high cost fiber areas will need to balance whole log chips and residuals to ensure a secure supply. The ability of individual companies to recognize and adapt to changes in traditional raw-material patterns will determine the winners and losers in the supply chain.