Canada’s Forest IndustryChallenges and Opportunities

Doug WilkesMaritime Lumber Bureau Annual MeetingJune 4, 2008

2

Agenda

Part 1: State of the Industry

i. Economic Conditions

ii. Pulp and Paper

iii. Solid Wood

Part 2: What does the Future Hold?

iv. Key Issues

v. Opportunities for Eastern Canada

vi. Product and Market Development

vii. Conclusions

3

A Challenging Economic Environment

Canada United States Europe

Real GDP forecasts indicate a significant slowing

Source: International Monetary Fund

0%

1%

2%

3%

2006 2007 2008f 2009f0%

1%

2%

3%

2006 2007 2008f 2009f0%

1%

2%

3%

2006 2007 2008f 2009f

4

A Challenging Economic Environment

U.S. Business Confidence U.S. Consumer Confidence

Confidence in the U.S. economy has declined rapidly

Source: Institute of Supply Management Source: Conference Board

48

51

54

57

Apr2006

Jul2006

Oct2006

Jan2007

Apr2007

Jul2007

Oct2007

Jan2008

60

80

100

120

Apr2006

Jul2006

Oct2006

Jan2007

Apr2007

Jul2007

Oct2007

Jan2008

5

A Challenging Economic Environment

Canadian Bank Rate Credit Spreads

Credit Markets Remain Turbulent

Source: Bank of Canada

Source: IMF

A recent IMF report estimates bank losses from U.S. sub-prime mortgages, consumer loans, and corporate loans will be in the range of $440 to $510 billion

-200

-100

0

100

200

300

Jan 2006 Jul 2006 Jan 2007 Jul 2007 Jan 2008-32

0

32

64

96

128

High Yield (Left axis) High Grade (Right axis)

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

5.0%

2004 2005 2006 2007 2008

6

A Challenging Economic Environment

USD/CAD Exchange Rate Factors Driving the Strong Dollar

The strong Canadian dollar will be a continuing reality

Source: Pacific Exchange Rate Services

• Energy demand

– Oil at $125 per barrel (and climbing)

– Demand for natural gas increasing

• Mineral and metals demand

– Prices remain at historical highs, with sustained emerging economy demand

• Monetary policy

– U.S. Canada interest rate differential

$0.60

$0.70

$0.80

$0.90

$1.00

$1.10

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

Pulp and Paper

8

Pulp and Paper Markets

Tonnes/Million

Total Paper Demand Forecast Average Pulp Price Forecast

Demand is being driven by emerging markets

Source: RISI Source: RISI

China is the fastest growing market – already the second largest behind the U.S. – and its per capita paper consumption is less than a 25% OF THE U.S.

$USD/tonne

150,000

190,000

230,000

270,000

2005 2007 2009 2011 2013 2015 2017 2019 2021$500

$600

$700

$800

2005 2007 2009f 2011f

9

0

100

200

300

400

500

600

Chile Russia Sweden U.S.South

Finland B.C.Interior

U.S.West

B.C.Coast

EasternCanada

FreightLabourChemicals and OtherEnergyWood

Pulp and Paper Markets

$USD/tonne

But Canadian pulp producers are at a cost disadvantage, especially in current USD terms

Source: Canadian Council of Forest Ministers

Offshore competition is generally lower cost, larger, more technically capable, and closer to expanding markets.

10

Demand Outlook by Product

•High growth in Chinese paper and board production, China is a large and expanding importer of pulp

•Prices are expected to continue to increase

•Low cost South American suppliers may erode Canadian market share in the U.S. and limit price increases

Market Pulp

•North American demand is continuing to decline

•Price declines are expected to continue

•Chinese and Indian newsprint demand is being met domestically

•Freight disadvantages for North American producers to Asian markets is significant

Newsprint

•U.S. demand is expected to continue to climb modestly

•Developing world’s need for packaging is expected to remain strong

•Growth may be restrained by decreasing basis weights and reusable plastic crates

Paperboard Packaging

•Internet usage has had a negative impact, yet annual demand is expected to grow by 1% p.a.

•North America will remain the largest market

•Modest demand growth in coated paper grades

•Uncoated demand is expected to remain flat but stable

Printing and Writing Papers

Least Attractive Most Attractive

Solid Wood

12

Canadian Solid Wood Overview

• Heavily exposed to the housing markets, especially the trade-protected U.S. market

– 78% of North American lumber is used in housing construction

– 80% of Canadian lumber is exported to the U.S.

– 92% of Canadian panels are exported to the U.S.

• Canadian producers face growing competitive cost and operating challenges

– Fibre: availability and quality

– Labour

– Transportation and energy

– Canadian dollar

– Access to capital

13

The U.S. Housing Market

Housing Starts

U.S. housing starts in March 2008 matched a 17 year low.

Source: U.S. Department of Commerce (seasonally adjusted)

500

1,000

1,500

2,000

2,500

2004 2004 2005 2005 2006 2006 2007 2008

14

The U.S. Housing Market

Inventory of Unsold Homes

The U.S. housing market downturn is unlikely to recover soon

Source: National Association of Realtors

Inventory Months

2,500,000

2,900,000

3,300,000

3,700,000

4,100,000

4,500,000

2005 2006 2007 20080

2

4

7

9

11

Inventory of Unsold Home Months Supply

15

Solid Wood Prices

Lumber Panels

Lumber and Panel Prices Remain at Historical Lows

Source: Random Lengths Source: Random Lengths

$150

$250

$350

$450

$550

2000 2001 2002 2003 2004 2005 2006 2007 2008

Western SPF Eastern SPF

$100

$210

$320

$430

$540

$650

2000 2001 2002 2003 2004 2005 2006 2007 2008

OSB Composite Structural Panel Composite

16

U.S. Softwood Lumber

U.S. softwood lumber trade dispute is a continuing issue

• U.S. Congress moved again last month to hinder Canadian imports, passing a bill imposing additional red tape and potentially limiting imports by raising the cost of compliance

• East vs. West

• The result: Canadian market share of U.S. softwood imports is eroding, with Chile, Brazil, and New Zealand gaining ground.

– Canada’s share of U.S. softwood lumber imports declined from 98% in 1990 to 83% in 2006

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Lumber and Panel Mill Closures

PlanerCranbrook, BC

SawmillVancouver, BC

SawmillHudson Bay, SK

SawmillLadysmith, BCWestern Forest Products

OSBMiramichi, NB

SawmillLa Sarre, QC

OSBSilsbee, Texas SawmillKamloops, BCWeyerhaeuser

Selected Canadian Capacity Reductions

OSBSt-Michel-des-Saints, QCLouisiana PacificOSBFootner, ABAinsworthOSB Englehart, ONOSBFootner, AB Grant 2 sawmillsSawmillMill

Sawmill

SawmillSawmillSawmillSawmill

Mackenzie, BCDonnacona, QCDalhousie, NBAbitibiBowater

Cochrane, ON

Senneterre, QC

Bearn, QCCanal Flats, BCElko, BCTembec

SawmillLac-Saint-Jean, QC Cascades

SawmillCastelgar, BC

SawmillTerrace, BCWest Fraser Timber

SawmillQuesnel, BC

PanelNew Westminster, BCCanforOSBFort Nelson, BCSawmillChetwynd, BC

SawmillGrandforks, BCPope & Talbot

Sawmill100 Mile House

SawmillEnderby, BCNorth Okanagan

Selected Canadian Capacity Reductions

SawmillLytton, BCLytton LumberSawmillCampbell RiverTimberWestSawmillSawmillPlywoodSawmill

SawmillSawmill

Veneer Mill

Adams Lake BCVancouverInterforKelowna, BC

Williams LakeTolko

Armstrong, BC

Vancouver, BC

McBride, BCMcBride Industries

Since 2001, 46 sawmills have closed in B.C., resulting in the loss of 20,000 jobs –half of these in the last year alone.

18

Challenges

The Mountain Pine Beetle Infestation

19

Challenges

Mountain Pine Beetle Area in B.C.

20

Challenges

Source: BC Ministry of Forests and Range

The Mountain Pine Beetle will profoundly affect fibre supply in B.C.

Annual Allowable Cut – Northern B.C. Excess Manufacturing Capacity Forecast

• Currently capacity insufficient to process available timber

• However, fibre supply will decrease substantially post 2010

• When supply reductions occur there will be significant excess capacity

• A dozen or more mills may close due to fibre supply constraints, with estimates of lumber production declines of between 3 -5 bbf

0

10

20

30

40

50

1998 2001 2004 2007 2010 2013 2016 2019 2022 2025 2028

Sawlog AAC Biomass AAC Total AAC

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Challenges

Labour will increasingly be a challenge for the industry

• Aging Workforce

• Increasing competition for skilled labour in the remote areas of Canada

– Oil sands and mining industries are targeting forestry workers with transferable skills

– De Beers recently held info sessions and interviews in towns near mill closures in Northern Ontario to hire for its Victor Mine, 45 permanent offers were accepted the next day

• Attractiveness of the industry

• Workforce productivity

– A bigger challenge in Eastern Canada than the West

– Reflects scale and technology

22

Challenges

• Transportation and energy costs

– Price of oil has doubled in last 12 months

– Greater impact for those operations further from market

• Strong Canadian dollar

– The increase in exchange rates since 2006 has cost the Canadian forest industry over $2 billion in reduced annual revenues

• Access to capital

– Size and condition of facilities

– Industry ROI a serious impediment to gaining access

23

Opportunities and Challenges for Eastern Canada

1. Eastern timber supply

2. Changing dynamics in manufacturing and markets

3. Challenged by high-cost operations

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What Does the Future Hold?

Eastern Canada’s relatively stable timber supply will be a key advantage

QC21%

ON13%

AB9%

BC45%

MB4%

SK3%

PE0%NS

1%

NL2%NB

2%

Softwood AAC on Crown Lands Forecast Timber Supply

Source: National Forestry Database, 2005

• Projections for Eastern Canada are relatively stable

• The forecast decline in B.C. will impact North American markets (10%-20% of B.C. AAC)

25

What Does the Future Hold?

• Manufacturing

– Reduction in MSR from B.C.

– Reduction in wide width production and premiums

– 10% - 20% decline in B.C. lumber production

• Markets

– Move towards engineered products/smaller dimension lumber

– Manufactured housing = tighter product specifications

– JIT delivery (product and volumes)

– Changes in packaging and distribution

– Greater customer-specific requirements

Changing Dynamics

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The Future

• The use of offsite construction is a growing element of residential construction industry

– Considerably shortens construction days onsite

– Decreases the cost of labour and materials

• Engineered wood products will be central to this strategy

• 25 years ago engineered wood products constituted less than 1% of the structural lumber market, in 2006 the amount was 7%

Changing face of home construction

27

New Market Development

Potential development of offshore markets for lumber and panels

• Globalization has been easier in pulp and paper grades due to international standardization

• Potential for the development of non-traditional markets in lumber and panels exists

– India and China’s growing middle class are driving a residential construction boom

– Although homes are generally constructed from non-wood materials, there is significant opportunity in some components (eg. window and door frames and roof systems)

• North American producers need to be proactive to develop these markets

In 2006, forest products were the leading Canadian export to India, China and South Korea.

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Conclusions

• The current challenges in the forest products industry have and will continue to drive the need for change and improvement

• One time consolidations and restructurings will not provide lasting solutions for the Canadian forestry industry: fundamental changes are required

• At Deloitte, we will work with companies / stakeholders to:

– address issues and challenges (financial, operational, structural) facing organizations

– identify and analyze alternative solutions to meet business needs and requirements

– identify opportunities for improvement and transformation

– implement identified change initiatives

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