There’s an interesting post over at naked capitalism on the decline of Mead Corporation, a manufacturer of specialty papers. I wish I were knowledgeable enough to comment on it.
The “case study” raises all sorts of interesting questions include where the responsibility for Mead’s problems resides and what the relationship between management and labor should be. I think it also supports something I’ve mentioned around here from time to time, namely that sector expertise is a relevant factor.
The only other thing that occurred to me was the analog to the “don’t confuse genius with a bull market” advice. It might be that a company that succeeded during the enormous explosion in niche magazines in the 1980s (magazines are the primary use of the coated papers that Mead made) might not be able to maintain that success in an Internet age.
Mr. Smith had some good material to work with and could have made some reasonable points; its unfortunate he so obviously had a desired theme, and then constructed “facts” and a narrative to support it.
So for example, it is indeed a head scratcher that they went through 3 CEO’s in short order. That doesn’t speak well to senior executive recruitment practices. And their consolidation startegy does not seem to have been robust. On the other hand, I doubt Mr. Smith has a clue as to what an appropriate capex budget for a paper mill is, given that he’s not on the inside, and that it can vary wildly year to year given the particular needs of the line. Yet he uses it as a weapon. Further, the assertion that a particular line “is efficient” is suspect. He has many data points and citations at the ready in his essay, yet he conveniently forgets to cite the two attributes that anyone with even rudimentary facility with the flat rolled unit operations of process industries would ask wrt efficieny: “how wide, and what’s the line speed.” Perhaps its an efficient line, I don’t know. But without those two facts you are just flapping your lips.
Moving to the PE side, again, his thinking is muddy. Yes, paper mills do not have good free cash flow characteristics, although neither do plastic injection molders, and we’ve made a fortune doing those deals. Yes, cyclicality is a problem, but operating leverage exists in many LBO deals. It gets managed, and it works both ways. And he completely misses the biggest issue in the business: extremely volatile paper input prices.
Furthermore, Cerberus is basically a turnaround firm (go look up the Latin) and was attempting what is known as the “last man standing” strategy. When unit volumes are declining faster than capacity is rationalized a change agent comes along and attempts the consolidation and then to exert pricing power with the remaining best-of-breed manufacturing footprint. Mr. Smith obviously doesn’t understand that you don’t sell the capacity because it will come back to compete with you.
Which brings me to the final point. Dave, you hit the nail square on the head. “Specialty” papers is a declining business, for obvious reasons. We can hurl invective at incompetant management – and maybe they were to a degree – and hail the virtues of labor (Hmmmmm. Is it Labor Day, or sumthin’?) But the fact of the matter is that Cerberus simply made an error in investment judgment and picked a dog sector. Mr. Smith proves himself just another gasbag for trying to make more of it.
This simply makes a point that I have made here repeatedly: one should restrict his essays or comments to areas with which one has at least some decent level of expertise. Otherwise, like Mr. Smith, its just being a gasbag. I have first hand knowledge of Cerberus and their diligence and investment acumen- and importantly, their risk profile. The notion in Mr. Smith’s piece that they are dopes speaks much more to the dopiness of Mr. Smith than Cerberus.
PS – Anyone who cares to read this might ask, “how do you know?” I spent 6 years as a process engineer in a steel mill doing the cost/quality/productivity thingy. And now, as a private equity partner, we owned a paper mill. Fine company by the way.