A resurgence in OSB demand in the US, prompted by an earlier- and stronger-than-expected housing recovery, will mean stiffer competition for pulpwood, putting pellet manufacturers at a competitive disadvantage.
The number of new housing starts in the US has staged a spectacular comeback since September of 2012. The average number of housing starts (annualized) from January to August of 2012 was 729,000. In the final four months of the year (September–December), that number had climbed to 889,000, a 22 percent increase. In 2013, the number of starts has continued to climb; the January–February average was 914,000 (an additional 3 percent increase).
This surge in new residential construction caught the market by surprise. After the housing market crash and the resulting recession, most OSB manufacturers had scaled back production, closing many plants, delaying bringing new ones online and cutting shifts. As a result, current capacity is approximately two-thirds of pre-2008 levels. Throughout most of 2012, most analysts believed it would take until 2016 or beyond for the market to return to the historical average for housing starts (approximately 1.3 million units annually).
Due to capacity reductions, however, this bump in demand has not been met with sufficient supply. Since the beginning of the recession, six OSB mills in the South closed indefinitely, removing 2.35 billion square feet per year of capacity from the system. The remaining 20 mills, with a total capacity of 9.8 billion square feet, were running at 76 percent of capacity, or 7.4 billion square feet per year.
This imbalance between supply and demand has pushed US South pulpwood prices higher over the course of the last year. Pine pulpwood prices increased by 5.7 percent from February 2012 to February 2013 for all consumers (pulp and paper, pellet and OSB mills).
What’s interesting, however, is that OSB mills paid 8.4 percent more for pulpwood in February 2013 than they did in 2012, a rate of increase that is 40 percent higher than the rate of increase for all other consumers. With current profit margins, the ability of OSB mills to pay more for pulpwood and to outbid other consumers gives them a competitive advantage.
The price of OSB is twice what it was a year ago. As a result, profits are soaring. Analysts at Scotiabank say that profit markets are averaging 54 percent above the cost of production. Given the distance between these types of profit margins and breakeven, OSB mills can afford to pay more for pulpwood. Profit margins for pellet manufacturers are not nearly as robust, so as additional pellet and OSB mills come online, competition for pulpwood supply is likely to drive raw material prices higher. As long as the housing market recovery maintains its current status, we expect this trend to continue.
Persuaded by better housing statistics and higher OSB prices, some companies have begun to boost capacity.
Louisiana-Pacific Corporation was the first manufacturer of OSB to take notice of recovery. CEO Curtis Stevens, in a conference call after second quarter results were posted, told investors that the company would consider starting one of its curtailed OSB mills when housing starts reached the 850,000 unit level. In his third quarter conference call, Curtis said, “Well, it came quicker than we thought, with last month’s reported annualized housing start rate at 872,000 and permits at nearly 900,000.” The company has since restarted its curtailed Thomasville, Alabama OSB mill, which has an annual capacity of 700 million square feet, though it is likely to produce closer to 300 million square feet in its first year back in operation.
The second OSB manufacturer in the South to respond was Georgia-Pacific. On April 10, the company opened its Clarendon, South Carolina mill, which has a capacity of 800 million square feet per year. Like L-P Thomasville, however, the production rate is likely to be significantly lower in its first year of production.
Norbord Inc. has also announced it will restart its Jefferson, Texas OSB mill in the second quarter of 2013. The mill, which was indefinitely curtailed in 2008, has a production capacity of 415 million square feet.
The addition of this capacity could bring prices down; however, we think OSB manufacturers will be cautious of adding too much capacity, thereby creating an oversupply. These companies have been producing OSB with negative margins throughout the recession and tepid economic recovery. They will not be in a hurry to undermine current market prices.