INDIA

1. GENERAL ECONOMIC AND POLITICAL SITUATION - 2002

A coalition government entitled NDA (National Democratic Alliance), composed of over 20 parties and led by the BJP leader Mr Atal Bihari Vajpayee, Prime Minister, has completed five years in power. Last year was quite difficult considering tensions on the border which required the country to position substantial army resources for almost a year.

On the political front, following relief over the peaceful completion of the J&K polls, attention shifted to the Gujarat elections, in which the BJP won by a large margin. Activity at the legislature was hectic with a record 43 bills passed this winter session. These covered important legislation pertaining to banking sector reform, financial market regulation, restructuring of the Unit Trust of India and other measures aimed at boosting economic reforms. Finally, while the government reiterated its commitment to privatization, it continued to send out conflicting signals. Greater clarity should emerge in the coming months on the strength and direction of this initiative.

As the year drew to an end, investors finally had some respite. The SENSEX and S&P CNX Nifty ended the month up 4.6 and 4.1 percent respectively. With the extension of the rally of the previous month, the SENSEX and S&P CNX Nifty ended the quarter with a gain of 12.9 and 13.5 percent respectively. The rally has been supported by strong performances in the banking, technology and pharmaceutical sectors. With regard to the banking sector, the recently passed ordinance has shifted negotiating power in dealing with the recovery of non-performing assets (NPAs).

At the same time, the technology sector performed well on expectations of better corporate results. However, consumer companies continued to stagnate as demand failed to pick up. On the economic front, the gross domestic product grew 5.8 percent in the second quarter, which was ahead of expectations. The service sector was the key driver of growth at 7.5 percent, driven mainly by financial services and trade and transport services. Agriculture output was flat while the index of industrial production rose 6.1 percent.

Concerns over a possible war in Iraq continue to haunt investors. While Iraq has submitted to inspections and handed over detailed documentation pertaining to its weapons programs, concerns abound that this will prove to be insufficient and could still trigger a military response.

The market perceived the RBI (Reserve Bank of India) to be caught in a bind. While RBI continues to buy dollars in the open market to avoid Rupee appreciation, the liquidity injected in this process caused yields to slide at a frenetic pace. The move was further supported by low currency swap rates, which allowed participants access to rupee funds, on a fully hedged basis, at rates substantially lower than those prevailing in the domestic markets. As the market looked at it, the RBI was faced with a choice between protecting the rupee from appreciating and cutting domestic interest rates.

Fundamentally, apart from the inflationary threat caused by the Iraq situation, the domestic inflation remains weak. Going by the provisional data released date, WPI inflation has exhibited a negative movement over the last 13 weeks. While the year-on-year inflation figure remains close to 3.2 percent, data for the last 13 weeks is expected to manifest itself into lower inflation in coming days. Considering the above factors, the country continues to maintain an expectation of stable to lower interest rates over a period of time.

After growing at 5.6 percent in 2001-02, India's gross domestic product is projected to rise by a sluggish 4.4 percent in the current year, with agriculture set to suffer a 3 percent decline.

The foreign exchange reserves of over US$73 billion provide a comfortable cushion at a time of pronounced global uncertainty.

2. PERFORMANCE OF THE PAPER AND WOOD INDUSTRY - 2002

The year 2002 has been a stable year for the pulp and paper industry.

The total size of the Indian paper industry in terms of volume is approximately 6 million tonnes per year. The growth rate of the industry is around 5 percent per year.

Export from India is marginal at approximately 4 percent of industry volume. The import and export of paper are not balanced. The reason for the low level of export is the lack of quality producers in India. This directly implies that quality paper makers can effectively use India as the base for their operations as other conditions are positive.

The per capita consumption, although increased, is still around 5 kilograms.

The role of government is crucial in the Indian paper industry as it plays the role of regulator, supplier and buyer.

Although small paper mills dominated the market in India until the 1990s, these small companies have now become obsolete as they did not have the advantage of economics of scale. Such issues have been analyzed for pulp, paper, paperboards and newsprint as well as a detailed analysis of the user industries of paper.

The Indian Paper industry is witnessing structural changes as major paper manufacturers plan and execute consolidation and/or restructuring measures.

a. Consumption, production and trade

Demand

Demand for paper is strongly correlated with trends in GDP growth and increase in per capita income (PCI). According to studies conducted by the UN, the demand for paper increases by around
1.5-2.5 percent for every one percent increase in PCI. This holds true for India even in the higher range in spite of year-on-year variations in demand growth.

Demand for paper is also influenced by other factors such as literacy rate, growth in the service sector, advancement of printing technology in the country, development of paperless transaction, development of the packaging industry and acceptability of substitutes.

Types of paper, their usage, constitution of total demand and expected growth rate

Type of paper (% of total consumption)	Main varieties	Applications	Expected growth rate 2001 - 2005
Cultural paper (46%)	Creamwove, Maplitho, bond paper, Chromo paper	textbooks, notebooks, office stationery	5-7%
Industrial paper (48%)	Kraft paper	wrappers, corrugated boxes, liners, sacks and textile tubes	6-8%
	Paper board - single layer board, multi-layer board, duplex board, chromo board (one side coating), art board (two side coating)	packaging of pharmaceuticals, cigarettes, match sticks, hosiery, food liquor, fruits juices, edible oils, engineering products, consumer durable	10-11%
Specialty paper (6%)	Security paper, grease proof paper, electrical grades of paper	currency, wrappers, labels	10-12%
Newsprint	Glazed, non-glazed	Printing of newspapers and magazines	6-7%

The correlation between GDP growth and paper demand is used to arrive at paper demand as it is much simpler than calculating demand for the entire paper industry. In addition, it has been found that estimates using mathematical techniques on macro economic data have often been found to be inaccurate. The GDP correlation method does have one drawback, however, in that it cannot be used to estimate demand for different types of paper. Using the correlation method, paper consumption in India is expected to reach 6.9 million tonnes by the year 2010 with the assumption that the GDP will be growing at a rate of 5 to 6 percent for the corresponding period.

Paper - demand by variety

(`000 tonnes)	2000-01	2001-02	2002-03	Change (%)*	Change (%)**
Writing and printing paper	1 764	1 850	1 944	4.9	5.1
Creamwove	1 017	1 054	1 094	3.6	3.8
Maplitho ( including unbranded copier)	475	494	519	4.0	5.0
Branded Copier	68	80	90	17.6	12.0
Coated paper	204	222	242	8.6	9.0
Industrial paper	2 671	2 805	2 959	5.0	5.5
Kraft	1 410	1 495	1 592	6.0	6.5
Duplex (including coated and uncoated)	732	775	825	5.9	6.5
Grey and white boards	235	245	257	4.3	5.0
MG poster (less than 60 gsm)	147	145	142	-1.4	-2.1
MG poster (others white/coloured)	147	145	142	-1.4	-2.1
Speciality	180	191	206	6.0	8.0
Total	4 615	4 846	5 109	5.0	5.4

*Compounded annual growth for 2001-02 period

**Compounded annual growth for 2002-03 period

Factors influencing demand

Establishment of new business areas such as telecom and power will lead to increasing literacy levels, thus increasing the low per capita consumption of paper (5 kg per annum). In addition, rapid growth in population, growing quality consciousness and changing consumer preferences will increase paper demand.

Certain user industries such as FMCG, pharmaceuticals, etc. are expected to grow at a relatively higher rate. The increasing usage of packaged and branded consumer goods is expected to add momentum to the use of paper board packaging. The demand for paper board is therefore expected to grow at between 10 and 11 percent (i.e. much higher than the overall industry growth rate).

The higher than industry average growth rate for paper board will lead to a reduction in the share of cultural paper in the total industry demand. The domestic writing and printing paper industry fared fairly well in 1999-2000, largely due to the increase in basic import duty from 20 to 30 percent.

Per capita consumption of paper and paperboard in India at 5 kg is very low compared to other developing countries like China (17.2 kg) and Brazil (28 kg) for the year 2000.

Supply

The capacity utilization levels for the paper industry have typically been between 50 and 60 percent with the exception being the early 1970s and 1995. The low capacity utilization during those years was due to a large proportion of closed capacity (1.1 million TPA) in the industry because of unavailability of raw material. Adjusting for closed capacities the capacity utilization levels for the paper industry have been much higher, reaching 85 percent and above.

Major paper producers and their installed capacities (as of 31 March 2003)

Major producers	Capacity in 2003 TPA	Product mix
AP Paper Mills	98 500	Creamwove, Maplitho, Kraft
Ballarpur Industries	198 368	Maplitho, Creamwove, bond, others
Hindustan Paper Corp.	200 000	Creamwove
ITC Bhadrachalam	182 500	duplex board, Maplitho, Kraft
JK Corp.	130 000	Maplitho, bond, art board, security paper, MG poster
Orient Paper & Industries	161 000	Creamwove, Kraft, Maplitho, duplex board.
Sinar Mas	110 000	Coated writing & printing paper.
West Coast Paper Mills	119 750	Creamwove, Maplitho, Kraft, MG poster

Paper - demand supply

(`000 tonnes)	2000-01	2001-02	2002-03	Change (%)*	Change (%)**
Capacity ('000 tonnes)	6 676.0	6 768.0	7 040.0	1.4	4.0
Closed capacities	866.8	875.5	880.0	1.0	0.5
Effective Capacity	5 809.2	5 892.5	6 160.0	1.4	4.5
Effective capacity utilization %	80.5	81.8	83.8	1.7	2.3
Demand	4 615.4	4 845.8	5 109.2	5.0	5.4
Production	4 674.4	4 822.8	5 159.0	3.2	7.0
Imports	134.0	173.0	150.0	29.1	-13.3
Exports	193.0	15.0.0	200.0	-22.3	33.3

*Compounded annual growth for 2001-02 period

**Compounded annual growth for 2002-03 period

Paper - import by variety

(`000 tonnes)	2000-01	2001-02	2002-03	Change (%)*	Change (%)**
Writing and printing paper	60	83	77	38.3	-7.2
Creamwove	0	1	1
Maplitho (including unbranded copier)	20	25	23	25.0	-8.0
Branded Copier	0	2	2
Coated chrome paper	10	15	15	50	0.0
Art paper	15	20	18	33.3	-10.0
Art boards	15	20	18	33.3	-10.0
Industrial paper	45	49	49	8.9	0
Kraft	20	22	22	10.0	0
Duplex (including coated and uncoated)	20	22	22	10.0	0
Grey and white boards	5	5	5	0	0
MG poster (less than 60 gsm)	0	0	0
MG poster (others white/coloured)	0	0	0
Speciality	110	115	115	4.5	0.0
Total	215	247	241	14.9	-2.4

*Indicates % change of 2001-02 over 2000-01

**Indicates % change of 2002-03 over 2001-02

Paper - export by variety

(`000 tonnes)	2000-01	2001-02	2002-03	Change (%)*	Change (%)**
Writing and printing paper	105	85	93	-19	9.4
Creamwove	30	25	27	-16.7	8.0
Maplitho (including unbranded copier)	25	20	23	-20.0	15.0
Branded Copier	0	0	0		0
Coated chrome paper	15	15	15	0	0
Art paper	20	15	18	-25.0	20.0
Art boards	15	10	10	-33.3	0
Industrial paper	35	25	30	-28.6	20.0
Kraft	5	5	5	0	.0.0
Duplex (including coated and uncoated)	30	20	25	-33.3	25.0
Grey and white boards	0	0	0
MG poster (less than 60 gsm)	0	0	0
MG poster (others white/coloured)	0	0	0
Speciality	0	0	0
Total	140	110	123	-21.4	11.8

*Indicates % change of 2001-02 over 2000-01

**Indicates % change of 2002-03 over 2001-02

Some of the major players have created a very strong brand name within a particular segment and are able to command a premium price for their product compared to competitors. For example, in bond papers, BILT commands a premium for its brand `executive bond' which has become a generic name.

New project status (cost in Rs million)

Company	Status	Products	Capacity	Cost	Start	Type
Andhrapradesh Paper Mills ltd	UI	paper, paperboard	15 500	888.6	2001-02
Balkrishna Industries ltd	UI	DB	18 000	200	Na	R/M/SE
Ballarpur Industries ltd	P	W & P	55 000	1 000	2002-03	SE
Ballarpur Industries ltd	P	W & P	60 000	700	Na	SE
Bhadra Packaids ltd	P	paperboard	8 000	11	Na	NU
Fleetguard Filters ltd	P	filter paper	840	50	2001-02	NU
Hindustan Newsprint	UI	deinked-pulp	33 000	522	2002-03	R/M
ITC Bhadrachalam Paperboards ltd	P	DB	182 500	2 000	Na	R/M
Mukerian Papers ltd	UI	paper	41 250	1150	Na	Nu
Parca Paper Industries ltd	UI	DB/kraft	9 900	173	Na	Nu
Portals ltd	P	bank note paper	8 000	n/a	Na	Nu
Safalya Industries ltd	UI	paper, paperboard	6 600	35	Na	Nu
Sinarmas Pulp (BILT)	P	coated paper	35 000	20	2002-03	SE
Sirpur Paper Mills ltd	P	paper, paperboard & NP	19 800	520	2001-02	R/M/SE
South India Paper Mills ltd	P	paper	2 000	392	2001-02	Nu
Tamil Nadu Newsprint and Papers ltd	UI	W & P, NP	40 000	1450	2002-03	R/M/SE
Varinder Agro Chemicals ltd	UI	kraft paper	23 760	324	Na	Nu
West Coast Paper Mills ltd	P	DB	44 000	2145	2002-03	Nu
Yash Paper ltd	P	W & P, kraft	16 000	100	2001-02	SE

UI: under implementation, P: proposed, DB: duplex board, W & P: writing and printing, NP: news print

Na: not available, Nu: new unit, R/M: renovation and modernization, SE: substantial expansion

The major players in different types of paper

Type of paper	Major companies
Creamwove	HPC, Orient, BILT, AP Paper, TNPL, small regional players
Kraft paper	ITC Bhadrachalam, Orient, Nath Pulp, Rama Pulp & Paper
Maplitho	BILT, JK Corp., AP Paper, West Coast,
Speciality paper	BILT, Pudumjee Pulp, Shree Vindhya
Coated duplex board	Balakrishna, NR Agarwal, Rollatainers, ITC Bhadrachalam
LWC duplex board	NR Agarwal, Jayant Paper, Rohit Pulp
Uncoated duplex board	ITC Bhadrachalam, Orient, Seshasayee, small regional players

b. Financial performance

There has been a downward trend in operating margins, which have declined from 20 to 18 percent for efficient mills.

Net profit figures for select groups of mills have been reduced from 5 to 3 percent depending on financing costs.

c. Outlook for the future

The industry is now looking forward to 2003 with optimism. The factors which may have an impact on the pulp and paper industry in 2003 include the continued growth rate in Asian countries, innovation in products made out of paper, enlargement of the European Union, sustainable drive (especially with respect to climatic change and forest practices), and the disturbances in the Middle East.

Outlook

• Domestic consumption of paper and paperboard, excluding newsprint, is expected to increase by 5.4 percent as compared with 5.0 percent.

• Demand for writing and printing paper is 5.1 percent compared to 4.9 percent in 2002 and there is also an increased demand of 6.5 percent in industrial papers. Industry will meet this demand by augmenting the capacity utilization, especially in large mills.

• Prices have already firmed up and some rise is expected this year.

• Industry expects improved performance in 2003.

• Apart from take-overs and amalgamations, large players have also started looking at increasing their market share by outsourcing from other domestic and overseas mills.

• There will be impetus for technology up-grades to increase cost effectiveness, quality improvement and environmental control and protection.

• In a fibre-scarce country, use of carbonate fillers such as PCC will offer the dual advantage of fibre saving and quality improvement.

• Inefficient and polluting mills will face difficulties in sustaining their operations.

• Use of recovered fibre will increase.

• Improved climate will prevail for import-export trade.

Opportunities

• Enormous domestic demand with few world class machines at favourable locations (i.e. near port and market).

• Ideal for recovered fibre use because of low labour costs for manual sorting for waste paper up-grade.

• Scope for DIP mills for market.

• Tropical sunny climate favourable for high-tech plantation schemes.

• WTO access for international financing.

• Government policies favourable and flexible for foreign direct investments.

• Qualified professionals with proficient English are abundantly available.

3. ISSUES OF PARTICULAR INTEREST

a. Environmental aspects

The theme of sustainability, as brought about in the Earth Summit in 1992 on climatic change and forest practices, has been reaffirmed during the World Summit held in Johannesburg in 2002 and will have an impact on the paper industry, particularly with regard to energy and forest management practices.

With increasing worldwide environmental concern, the government has instituted stringent measures on the industry, which are to be implemented with immediate effect (i.e. April 2003).

These environmental guidelines are as follows:

• Use of chlorine dioxide and oxygen delignification for AOX control

• AOX to be less than 1.0 kg of product;

• to be achieved within 18 months.

• Installation of limekiln for recalcination and reuse of lime sludge

• to be achieved within 24 months;

• in case there is high silica content then the following measures should be followed:

­ desillication of black liquor to be followed by the lime kiln (vertical shaft kiln to be used for manufacturing low quality cement).

• Tertiary treatment for colour removal from effluent

• Reduction of fresh water usage

• by reducing waste water discharge to less than 100 m³/tonne of paper;

• to be achieved within two years.

• Zero discharge in paper machine section by using its entire section effluent in the process

• to be achieved in less than two years.

• Control of odour emissions

• mill should be in a position to channel sulphur emissions for burning either in the recovery boiler or in limekiln;

• to be achieved within a period of two years.

• Use of treated effluent for irrigation purposes

• maximum effluent to be used for irrigation purposes wherever possible.