Long-range timber supply planning for a vertically integrated paper mill

Abstract

We consider a vertically integrated papermaking operation composed of an integrated pulp and paper mill with its regional supply network. Considering land procurement and harvest rotation as strategic decision variables, we construct a model to establish a long-range timber supply plan that minimizes the total discounted cost of meeting annual virgin wood fiber demand over an infinite horizon. Under appropriate assumptions on costs and storage, the land procurement and harvest rotation decisions are separable with harvest rotation being determined via a forest economics-type equation and land procurement being determined by a newsvendor-type equation.

Introduction

To manufacture paper, a forest products company must develop efficient procurement channels for raw materials. In general, the source(s) of raw material will depend on a company’s degree of vertical integration and its operating strategy. Historically, paper companies have secured their timber supply by devoting enormous amounts of capital to the ownership and management of timberlands. However, in recent years there has been a shift in US timberland ownership from forest products companies to various organizations such as conservation groups, investment trusts, and real estate agencies. Consolidation in the US paper industry is cited as a primary reason why paper companies have been selling off some timberland holdings (Korutz, 2005). The surviving companies generally acquire large amounts of debt and hence a subsequent need to raise cash for paying off that debt by selling assets. In light of this shifting timberland ownership, we investigate the relationship between timberland ownership and the management of these timberlands to satisfy the long-term demand of an integrated pulp and paper mill for virgin wood fiber.

In general, the products manufactured by the paper industry can be considered commodities whose prices are determined by intersection of supply and demand in nearly pure competitive markets. On the supply side, economies of scale in production dictate that capacity be expanded and updated in relatively large increments, requiring considerable investments of time and money; annual capital investment in the US paper industry ranged from $8 billion to $15 billion per year from 1979 to 1999 making it one of the most capital-intensive manufacturing sectors in the US economy (American Forest and Paper Assocation, 1999). Meanwhile, demand for paper products is strongly dependent upon general global economic activity and mirrors economic trends. The combination of inflexible capacity and cyclical demand creates frequent imbalance that has historically characterized the paper industry and motivates the long-term perspective assumed by this paper.

Despite the transient shifts in timberland ownership, US paper companies with a greater degree of vertical integration typically enjoy lower costs relative to their less integrated peers. For such a vertically integrated paper company, decisions regarding land ownership and harvest rotation are important factors in long-term profitability. In this paper, we examine these decisions’ effect on the long-range strategic planning of the virgin wood fiber supply for a papermaking operation composed of an integrated pulp and paper mill.

As we focus on long-term viability, our strategic model does not consider tactical issues such as the specification of particular timber stands to purchase and the precise scheduling of their harvest in relation to other timberlands. Typically, integer programming models address such detailed tactical plans by incorporating features such as adjacency constraints (Goycoolea et al., 2005) and silvicultural management alternatives (Barros and Weintraub, 1982). Such integer programming models have proven to be invaluable in forestry optimization as they provide a systematic framework to address scenario-specific issues facing forestry companies and governmental agencies. In comparison, we consider a more theoretical perspective in pursuit of general analytical insight by combining perspectives from forest economics and operations management.

The focus of this paper is motivated by the long thread of forest economics research (reviewed in Section 3.1), dating back to the mid-1800s, that addresses the fundamental question of determining an appropriate harvest rotation for a timber stand given information regarding relevant prices and costs. Traditional forest economic approaches focus on maximizing the net present value of an infinite series of revenue streams. However, much harvested timber is not sold on the market, but is instead the input to some other manufacturing process, often operated by the same company. Thus, the timberland operations may be merely part of the supply chain for a larger manufacturing process. In this paper, we develop an economic model similar to a traditional forest economics model, but incorporating the overlying supply chain considerations by assuming an objective to minimize the cost of meeting annual demand for virgin wood fiber. In the following section, we further describe the problem and outline the remainder of the paper.