Another article from the competitive intelligence group.  

Jeff
----- Forwarded by Jeffrey A Shankman/HOU/ECT on 02/09/2001 12:55 PM -----

	Robert Johnston
	02/09/2001 12:50 PM
		 
		 To: Jeff Kinneman/HOU/ECT@ECT
		 cc: Paul Pizzolato/HOU/ECT@ECT, Seung-Taek Oh/NA/Enron@ENRON, Brendan 
Fitzsimmons/NA/Enron@Enron, Gary Hickerson/HOU/ECT@ECT, Darren 
Delage/AP/Enron@Enron, Kimberly Landry/NA/Enron@Enron, Scott 
Tholan/Corp/Enron@Enron, Jeffrey A Shankman/HOU/ECT@ECT
		 Subject: Asian Credit Watch- AP & P

Per our conversations with most of you this week, Brendan and I have 
developed the following information on Asian Pulp & Paper and its potential 
to trigger widescale credit problems in Asia.  In the past week, APP has come 
close to default through complex trigger clauses in a mass of junk bond 
issues. Prospects of an APP default have already sent tremors through the 
Asian bond market and could have larger implications for emerging market 
debt. This week, the Indonesian government further complicated the picture by 
attaching assets of the Sinar Mas group, including APP, to guarantees of 
Sinar Mas group,s $1.5 billion debt to Bank Internasional Indonesia (BII), 
Indonesia,s fifth largest bank and formerly part of a Sinar Mas group.  The 
Wijaya family is likely to postpone payments until the last possible minute, 
before seeking a workout and corporate restructuring.

RJ

The Immediate Problem

o $1.6 billion in bonds are due in 2001, on top of $1.5 billion owed to the 
Indonesian government through the Sinar Mas group
o Between now and April 30, the APP group must come up with $145 million for 
nine separate coupon payments coming due. APP itself will owe $87 million in 
interest payments on four bonds over the next month
o APP missed a February 1 deadline for two bond payments of $43 million; one 
payment has been made but the other, of $13.5 million, is still hanging

Risks are formidable, with management playing a cat and mouse game with bond 
holders in order to maximize their negotiating position in a restructuring:

o Assets are encumbered by complex cross-guarantees that make it difficult to 
impossible to separate out individual properties
o The New York Stock Exchange has threatened a de-listing unless APP stock 
rises above the US$1 level; de-listing will trigger immediate redemption 
clauses in some classes of bonds
o The company,s Indonesian assets are diseased. Despite APP,s apparently 
sound business model, it is being corrupted by crime that is systemic within 
the Indonesian forestry and forest products industry
o Inventory dumping by APP, particularly in China, has been a major factor 
depressing paper prices since mid-2000
o APP,s management has failed to offer transparent explanations for their 
cash shortages. It has not reported third quarter earnings for 2000, due last 
November, to the US Securities and Exchange Commission (although, as a 
foreign company it has six months to report earnings, versus one month for US 
companies). Inter-company transfers may be masking serious problems within 
the APP group. 
o Indonesian political instability is worsening with the threatened 
impeachment of Indonesia,s President Wahid, lowering prospects for a 
government bailout of APP,s parent company, the Sinar Mas group, and its 
owners, the Wijaya family.
o There are clear prospects for collateral damage to Asian capital markets, 
with S&P already cutting ratings and a consequent shrinkage of liquidity. 

APP Risk Profile:

APP,s only immediate hope of meeting its debt payments is through asset sales 
or a sell-off of pulp and paper inventory. Neither has much chance of 
success. APP,s current strategy is to muscle its bond-holders into a 
restructuring agreement as soon as possible, most likely before an early 
March deadline for its next coupon payment falls due. There are significant 
obstacles to evaluation of assets in a restructuring, from cross-guarantees 
of bond issues that range across classes of bond holders and various 
jurisdictions, to inter-company transfers that present a false picture of 
financial health in some of its operating companies. Such obstacles ensure 
that a restructuring exercise will be lengthy. APP is the fifth largest 
issuer of junk bonds in the world, and has been regarded as a benchmark bond 
for Indonesia. Until the last few months, it was the only bond in the world 
that traded at a premium to its own government,s bonds, and was the only 
Indonesian issuer to raise funds successfully from capital markets in the 
depth of the Asian crisis. A pronounced ripple effect is likely on Asian 
bonds in the event of a default, as investors wait to see what happens to 
unsecured creditors who account for 40 percent to 50 percent of APP,s US$12 
billion in debt. At the moment, systemic fallout seems likely to be limited 
to the Asian region, as investors revert to the hostile stance adopted during 
the Asian financial crisis. 

APP Key Decision Makers:

The key decision makers at APP are CFO Hendrik Tse and CEO Teguh Ganda 
Wijaya. No others in the company are privy to all the Group,s Affairs, or to 
corporate strategy. Information is extremely closely held. Sources say that 
the APP situation is so complex that no one individual has a comprehensive 
understanding of all the potential ramifications of a decision on any one of 
the assets of APP or its subsidiaries, so complex are the cross guarantees 
and trigger clauses in the debt paper issued over the last few years.

Tee and Teguh Wijaya are to a large extent playing a bluff game, engaging in 
brinkmanship with their bond holders. It signaled the market that it could 
move into a default situation on February 1 when its paper making subsidiary, 
Pabrik Kertas Tjiwi Kimiah, failed to make payments on two different bond 
issues worth $43 million. On February 6, APP finally paid the coupon on one 
of the bonds, a US$600 million note issued by Tjiwi Kimia Finance Mauritius, 
just within a grace period of five business days. If Tjiwi Kimia had failed 
to meet the deadline, it would have triggered cross default clauses on a 
series of other bonds. The second coupon payment, of $13.5 million, for a 
US$200 million issue of guaranteed senior notes due in 2001, is now late. We 
expect APP to wait until the last possible moment to make the payment. The 
group is husbanding its cash in advance of an expected restructuring. The 
better its cash position is, the more APP will be able to operate from a 
position of strength in a restructuring negotiation. 

According to one source: APP is &signaling the market and its bond holders 
that it is in their best interest to help with a restructuring before 
everything collapse. The idea is to squeeze the bondholders now, while they 
still have some negotiating leverage rather than wait until there is nothing 
left.8 APP is trying to play off one set of bond holders against another 
because the interests of the bond holders in the operating companies, some of 
which have significant cash flow, is different from those in the parent. This 
is obviously a dangerous game, but one in which APP feels it has no choice 
but to engage. The earlier it can restructure the better of it will be, and 
the greater its chances of survival in some form. Trying to keep control of 
the situation so that it doesn,t unravel is the name of the game at this 
point. Tee and Widjaja are thinking quite far ahead and have targeted their 
non-core subsidiaries for disposal in a debt restructuring. They have been 
actively shopping their China assets for several months, and sources indicate 
that their packaging assets will also go on the block. APP is still hopeful, 
however, of engineering a debt restructuring so that it is on their terms.

One of the issues that adds greatly to the complexity of the situation is 
that much of the sales from both companies come from within the group, and 
often these go via another APP company or Sinar Mas. Another source said, 
&This is a vertically integrated group and one of the worries is that if you 
start messing with the structure, let,s say one group of bond holders wants 
to wind up one of the subsidiaries that is a primary customer, you could 
threaten the whole group.8 

The Wijayas are well regarded by foreign investors, and are not in the 
category of Suharto cronies such as forestry magnate Bob Hassan, who was 
sentenced this past week to two years in jail for financial wrongdoings and 
corruption. They are not saints ) the Indonesian government removed the 
Wijayas from the board of Bank Internasional Indonesia after it was 
nationalized in 1999, based on evidence that they exceeded the 30 percent cap 
for lending to affiliates. However, they depend heavily on international 
capital markets for funding and cannot afford significant steps that would 
bar future access. At the moment, they have few alternatives to raise cash to 
meet their debt payments other than through asset and inventory sales. The 
company has built up substantial paper inventory, and according to one 
source, it could use inventory sales to meet current cash obligations if it 
could find a buyer. This is a big if, however, since current prices are 
depressed and releasing further inventory to the market would only make 
matters worse.

Asset Sales and Other Alternatives to Meet Debt Repayments:

An executive from a major international pulp and paper company confirmed that 
APP was actively trying to sell its Chinese assets.  These assets include:

o PT Ekamas Fortuna
o PT Purinusa Ekapersada
o Ningbo Zhonghua Paper
o Gold Hongye Paper
o Gold Hai Paper (Kunshan) Co.
o Jin Yu (Qingyuan) Tissue Paper Industry

The executive said that his company had looked at attractive parts of the 
assets on offer, but had held back because of the impenetrable cross 
guarantees between companies and reluctance of their bankers to finance an 
acquisition at a discount that would offer no cover for their equity. The 
executive believed that all the banks would have to agree to asset sales in 
the context of a general restructuring before any individual bank would 
finance an acquisition. Yet another issue is that the financing of the China 
factories was based on access to Indonesian pulp at intra-company prices. 
Once the company is broken up into pieces, it will have to rely on the world 
market and will no longer be able to produce at a profit.  

Stora Enso made a formal bid for the assets last year but was rejected. It is 
said to remain interested although the price it is willing to pay will be 
considerably less. One of the problems with APP,s brinkmanship strategy is 
that it is lowering the value of its assets. Companies will not be willing to 
pay book value when it comes time for the company to sell off its non-core 
assets. 

Restructuring is imminent, creating opportunities for investors:

o A restructuring of the company in the near term seems inevitable and will 
produce returns for existing bond holders if they bought at low enough prices 
and if their debt is secured by APP assets outside Indonesia
o A restructuring will release some of APP,s assets, which are considered 
attractive except for those in Indonesia. APP is the world,s low cost 
producer of pulp and paper, with substantial assets in Indonesia, China, and 
India. Its Chinese factories are attractive despite current over-capacity in 
the domestic Chinese market. APP accounts for 20 percent of the Chinese 
market for printing and fine paper. 
o Some play is available from price volatility as APP continues to tease 
investors by keeping them guessing about its actual cash situation