20-F 1 d20f.htm FORM 20-F Form 20-F
Table of Contents

As filed with the Securities and Exchange Commission on June 30, 2010

 

 

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 20-F

 

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR

15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2009

Commission File Number: 33-99720

CELULOSA ARAUCO Y CONSTITUCIÓN S.A.

(Exact name of Registrant as specified in its charter)

Arauco and Constitution Pulp Inc.

(Translation of Registrant’s name into English)

Republic of Chile

(Jurisdiction of incorporation or organization)

Avenida El Golf 150

14th Floor

Las Condes, Santiago

Chile

(Address of principal executive offices)

Gianfranco Truffello

Tel.: 56-2-4617221 • E-mail: gtruffello@arauco.cl

Avenida El Golf 150

14th Floor

Las Condes, Santiago

Chile

(Name, telephone, e-mail and/or facsimile number and address of company contact person)

 

 

Securities registered or to be registered pursuant to Section 12(b) of the Act:

None

Securities registered or to be registered pursuant to Section 12(g) of the Act:

None

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:

 

Title of each class:
8.625% Notes due 2010
7.75% Notes due 2011
5.125% Notes due 2013
5.625% Notes due 2015
7.50% Notes due 2017
7.25% Notes due 2019

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report:    Shares of Common Stock, without par value: 113,152,446

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.    Yes  ¨     No  x

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities

Act.    Yes  ¨     No  x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.    Yes  x     No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this Chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    N/A

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.

Large accelerated filer  ¨     Accelerated filer  ¨     Non-accelerated filer  x

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statement included in this filing:

U.S. GAAP  ¨    International Financial Reporting Standards as issued by the International Accounting Standards

Board  x     Other  ¨

Indicate by check mark which financial statement item the registrant has elected to follow:    Item 17  ¨    Item 18  ¨

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨     No  x

 

 

 


Table of Contents

TABLE OF CONTENTS

 

          Page

PART I

      1

Item 1.

   Identity of Directors, Senior Management and Advisers    1

Item 2.

   Offer Statistics and Expected Timetable    1

Item 3.

   Key Information    1

Item 4.

   Information on the Company    15

Item 5.

   Operating and Financial Review and Prospects    40

Item 6.

   Directors, Senior Management and Employees    57

Item 7.

   Major Shareholders and Related Party Transactions    62

Item 8.

   Financial Information    64

Item 9.

   The Offer and Listing    68

Item 10.

   Additional Information    69

Item 11.

   Quantitative and Qualitative Disclosures About Market Risk    77

Item 12.

   Description of Securities Other than Equity Securities    78

PART II

      79

Item 13.

   Defaults, Dividend Arrearages and Delinquencies    79

Item 14.

   Material Modifications to the Rights of Security Holders and Use of Proceeds    79

Item 15T.

   Controls and Procedures    79

Item 16A.

   Audit Committee Financial Expert    80

Item 16B.

   Code of Ethics    80

Item 16C.

   Principal Accountant Fees and Services    80

Item 16D.

   Exemptions from the Listing Standards for Audit Committees    81

Item 16E.

   Purchases of Equity Securities by the Issuer and Affiliated Purchasers    81

Item 16F.

   Change in Registrant’s Certifying Accountant    81

Item 16G.

   Corporate Governance    81

PART III

      82

Item 17.

   Financial Statements    82

Item 18.

   Financial Statements    82

Item 19.

   Exhibits    82

 

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CERTAIN TERMS AND CONVENTIONS

Celulosa Arauco y Constitución S.A. is a corporation (sociedad anónima) organized under the laws of the Republic of Chile, and subject to the rules of the Chilean public corporations (sociedades anónimas abiertas). Except where otherwise specified or the context otherwise requires, when we refer to the “Company,” “Arauco” or “we,” in this annual report, we mean Celulosa Arauco y Constitución S.A. and its consolidated subsidiaries. When we refer to “Chile,” we mean the Republic of Chile; when we refer to “Argentina,” we mean the Argentine Republic; when we refer to “Brazil,” we mean the Federative Republic of Brazil; and when we refer to “Uruguay,” we mean the Oriental Republic of Uruguay. All references to “tons” are to metric tons (1,000 kilograms), which equal 2,204.7 pounds. One “hectare” equals 10,000 square meters or 2.471 acres. Discrepancies in any table between totals and the sums of the amounts listed are due to rounding.

Unless otherwise specified, all references to “$”, “U.S.$”, “U.S. dollars” or “dollars” are to United States dollars; references to “Chilean pesos” or “Ch$” are to Chilean pesos; references to “Argentine pesos” or “Ar$” are to Argentine pesos; references to “Brazilian reals” or “R$” are to Brazilian reals; references to “€” or “euro” are to the euro, the single European currency established pursuant to the European Economic and Monetary Union; and references to “UF” are to Unidades de Fomento. The UF is a unit of account that is linked to, and adjusted daily to reflect changes in, the Chilean consumer price index reported by the Chilean National Institute of Statistics (Instituto Nacional de Estadísticas). At December 31, 2009, one UF equaled U.S.$41.3 and Ch$20,942.9.

PRESENTATION OF FINANCIAL INFORMATION

This annual report includes our audited consolidated balance sheets of Arauco and our subsidiaries as of December 31, 2009 and 2008 and the related consolidated statements of income, shareholders’ equity and cash flows for each of the two years in the period ended December 31, 2009 (collectively, the “audited consolidated financial statements” or “financial statements”).

Since January 1, 2009, our consolidated financial statements are and will be prepared in accordance with the International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board (“IASB”). Prior to our transition to IFRS, our consolidated financial statements were prepared in accordance with generally accepted accounting principles in the United States, or U.S. GAAP.

Our consolidated financial information as of and for the year ended December 31, 2008 included in our audited consolidated financial statements was restated in accordance with IFRS. See Note 2 to our audited consolidated financial statements as of and for the year ended December 31, 2009, included elsewhere in this annual report.

IFRS differs in certain significant respects from U.S. GAAP. As a result, our financial information presented under IFRS is not directly comparable to our financial information presented under U.S. GAAP, and readers should avoid such a comparison.

Translations of certain amounts into dollars at a specified rate have been included in this annual report. Unless otherwise indicated, the U.S. dollar equivalent for information in Chilean pesos is based on the observed exchange rate (dólar observado) reported by the Central Bank of Chile (Banco Central de Chile), which we refer to as the Central Bank, for December 31, 2009, which was Ch$507.10 to U.S.$1.00. The observed exchange rate is, for any date, the average exchange rate at which transactions are actually carried out in the Formal Exchange Market (Mercado Cambiario Formal) on the previous day, as certified by the Central Bank on the following business day. You should not construe these translations as representations that the Chilean peso amounts actually represent such dollar amounts or could be converted into dollars at the rates indicated or at any other rate. On June 22, 2010, the observed exchange rate was Ch$530.32 to U.S.$1.00. For information regarding historical rates of exchange in Chile from January 1, 2004 see “Item 3. Key Information—Exchange Rates.”

The Federal Reserve Bank of New York does not report a noon buying rate for Chilean pesos.

Unless otherwise specified, references to the devaluation or the appreciation of the Chilean peso against the U.S. dollar are in nominal terms (without adjusting for inflation), based on the observed exchange rates for the relevant period.

 

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PART I

 

Item 1. Identity of Directors, Senior Management and Advisers

Not applicable.

 

Item 2. Offer Statistics and Expected Timetable

Not applicable.

 

Item 3. Key Information

SELECTED FINANCIAL DATA

The selected financial information presented below is prepared in accordance with IFRS as of and for the years ended December 31, 2008 and 2009. The selected IFRS financial information is derived from, should be read in conjunction with, and is qualified in its entirety by reference to, our audited consolidated financial statements and the notes thereto, prepared in accordance with IFRS, included in this annual report.

Our selected consolidated financial information as of and for the year ended December 31, 2008 was restated in accordance with IFRS. See Note 2 to our audited consolidated financial statements.

IFRS differs in certain significant respects from U.S. GAAP. As a result, our financial information presented under IFRS is not directly comparable to our financial information presented under U.S. GAAP, and readers should avoid such a comparison. A description of the effects of our transition to IFRS on our financial information is presented in Note 2 to our audited consolidated financial statements.

For all periods, the financial data in the following table are expressed in U.S. dollars, the currency in which we publish our audited consolidated financial statements.

The following table presents selected financial data expressed in U.S. dollars (except as otherwise indicated) as of December 31, 2008 and 2009 in accordance with IFRS.

 

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      As of and for the year ended December 31,  
     2008     2009  
     (in thousands of U.S.$, except ratios and
per share data)
 

Profit (loss) from operations

    

Revenue

   U.S.$ 3,713,893      U.S.$ 3,113,045   

Cost of sales

     (2,331,854     (2,152,535

Gross Profit

     1,382,039        960,510   

Other operating income

     104,270        183,273   

Marketing costs

     (12,002     (7,155

Distribution costs

     (455,197     (388,535

Research and development

     (3,827     (3,915

Administrative expenses

     (247,023     (242,185

Other operating expenses

     (37,869     (48,294

Financial income

     19,408        19,313   

Financial costs

     (175,241     (193,872

Participation in profit of associates through equity method

     4,241        4,084   

Participation in profit of joint ventures through equity method

     1,598        2,537   

Exchange rate differences

     (67,778     17,632   

Loss due to write off non current asset accounts not available for sale

     (9,086     (9,362

Negative goodwill immediately recognized

     0        36,871   

Other (loss) profit

     (444     27,231   

Profit before income tax

     503,089        358,133   

Income tax

     (98,044     (53,537

Net Profit

     405,045        304,596   

 

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      As of and for the year ended December 31,  
     2008     2009  
     (in thousands of U.S.$, except ratios and
per share data)
 

Profit attributable to equity holders

    

Profit attributable to equity instrument holders in net equity of the parent company

   399,566      300,898   

Profit attributable to minority interest

   5,479      3,698   

Net Profit

   405,045      304,596   

Ordinary Shares

    

Basic earnings per share

   0.0035796      0.0026919   

Earnings per share from continuing operations

   0.0035796      0.0026919   
            

Balance Sheet Data

    

Property, plant and equipment, net

   4,615,971      4,969,753   

Total Biological assets

   3,652,433      3,757,528   

Total assets

   10,239,840      11,415,772   

Loans that accrue interest (current)

   372,622      524,909   

Loans that accrue interest (non-current)

   2,279,321      2,678,010   

Total net equity

   6,007,236      6,382,433   

Other Financial Data

    

Capital expenditures(1)

   432,398      362,690   

Depreciation

   189,256      207,411   

Number of shares

   113,152,446      113,152,446   

Earnings per share from continuing operations

   0.0035796      0.0026919   

Cash Flow Data

    

Cash flows from Operating Activities

   769,736      751,025   

Cash flows used in Investing Activities

   (466,731   (717,291

Cash flows (used in) from Financing Activities

   (378,484   302,372   

 

(1)

Accrued for the period. Capital expenditures equals the sum of our expenditures in respect of (i) property, plant and equipment, (ii) intangible assets, (iii) biological assets, (iv) other investing disbursements.

 

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EXCHANGE RATES

The following table sets forth, for the periods and dates indicated, certain information concerning the observed exchange rates reported by the Central Bank. No representation is made that the Chilean peso or U.S. dollar amounts referred to in this annual report could have been or could be converted into U.S. dollars or Chilean pesos, as the case may be, at the rates indicated or at any other rate. The Federal Reserve Bank of New York does not report a noon buying rate for Chilean pesos. See “Item 10. Additional Information—Exchange Controls.”

 

     Daily Observed Exchange Rate

Year Ended December 31,

   High    Low    Average(1)    Period-End
     Ch$ per U.S.$

2005

   592.75    509.70    558.06    512.50

2006

   549.63    511.44    529.64    532.39

2007

   548.67    493.14    521.06    496.89

2008

   676.75    431.22    521.79    636.45

2009

   643.87    491.09    559.67    507.10

December

   508.75    494.82    501.45    507.10

2010

           

January

   531.75    489.47    500.66    523.10

February

   546.18    523.10    532.56    527.84

March

   533.87    508.66    523.16    524.46

April

   527.38    514.91    520.62    517.23

May

   549.17    517.23    533.21    530.62

 

Source: Central Bank of Chile

 

(1)

For each year, the average of the month-end exchange rates for the relevant year. For each month, the average daily exchange rate for the relevant month.

On June 22, 2010, the observed exchange rate was Ch$530.32 to U.S.$1.00.

 

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FORWARD-LOOKING STATEMENTS

This annual report on Form 20-F contains words such as “believe,” “expect,” “anticipate” and similar expressions that identify forward-looking statements, which reflect our views about future events and financial performance. Statements that are not historical facts, including statements about our beliefs and expectations, are forward-looking statements.

Forward-looking statements involve inherent risks and uncertainties. These forward-looking statements are based on current plans, estimates and projections; therefore, readers should not place undue reliance on them. Actual results could differ materially from those projected in such forward-looking statements because of various factors that may be beyond our control, including but not limited to our ability to service our debt, fund our working capital requirements, comply with financial covenants in certain of our debt instruments, fund and implement our capital expenditure programs and maintain our relationships with customers, as well as a change in control, the effects on us from competition, future demand for forestry, panels and wood products in the Chilean, Argentine, Brazilian, Uruguayan and export markets, international prices for forestry and wood products, the state of the Chilean and world economies and manufacturing industries, the relative value of the Chilean peso compared to other currencies, inflation, increases in interest rates and changes in our regulatory environment. Forward-looking statements in this annual report speak only as of their dates, and we do not undertake any obligation to update or revise any of them, whether as a result of new information, future events or otherwise.

 

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RISK FACTORS

We are subject to various changing economic, political, social and competitive conditions, particularly in our principal markets. Any of the following risks, if they actually occur, could materially and adversely affect our business, financial condition, results of operations and cash flows.

Risks Relating to Arauco and the Forestry Industry

Environmental concerns led us to temporarily suspend our operations at the Valdivia Mill in 2005, which adversely affected, and in the future may continue to adversely affect, our business, financial condition, results of operations and cash flows

Our operations at the Valdivia Mill, an industrial development in the Province of Valdivia in the Fourteenth Region of Chile (which was previously part of the Tenth Region of Chile), have been subject to environmental scrutiny by Chilean environmental regulators and the Chilean public since the mill began its operations in 2004. A variety of concerns and claims were raised regarding potential environmental impacts in the area. Primarily, it was alleged that the mill’s operations impacted the nearby Carlos Anwandter Nature Sanctuary and contributed to the migration and death of black-neck swans living in the area. In connection with an environmental administrative proceeding, environmental regulators required us to temporarily suspend operations at the Valdivia Mill for approximately one month in January 2005. We resumed operations at the mill on February 18, 2005.

On June 8, 2005, we voluntarily suspended operations at the Valdivia Mill, until certain technical and legal conditions could be clarified with the applicable regulatory authorities. We estimate this voluntary suspension resulted in a loss of sales of approximately U.S.$1.0 million per day and a loss of profits of approximately U.S.$250,000 per day. Pursuant to the decision of our board of directors, based on certain clarifications provided by the Environmental Regional Commission (Comisión Regional del Medio Ambiente), or COREMA, of the Tenth Region of Chile, the mill resumed operations on August 12, 2005 at 80% of its authorized production capacity, after 64 days of suspended operations. In order to achieve the full production capacity authorized by applicable permits, the mill had to fulfill certain new requirements established by the COREMA. On January 18, 2008, the COREMA authorized the Valdivia Mill to return to its annual authorized production capacity of 550,000 metric tons. The mill gradually increased its production over a four-month period starting in March 2008 and reached full capacity in June 2008. The suspension of operations at the Valdivia Mill adversely affected our business, financial condition, results of operations and cash flows. Any future suspension of operations at the Valdivia Mill or at any other of our significant operating plants can be expected to have similar adverse effects. We offer no assurance that the Valdivia Mill will be able to operate without further interruption. See “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Valdivia Mill” and “Item 8. Financial Information—Legal Proceedings.”

In June 2007, we submitted to the COREMA of the Tenth Region of Chile an environmental impact study for the implementation of substantial technological improvements on the quality of the effluents generated by the Valdivia Mill. On June 30, 2008, the COREMA approved that environmental impact study. However, the approval was subject to certain conditions that, in the opinion of Arauco, affected the feasibility of the project. For such reason, Arauco filed an appeal (recurso de reclamación) before the Directive Council (Consejo Directivo) of the Environmental National Commission (Comisión Nacional del Medio Ambiente), or CONAMA, challenging the conditions. Such appeal (recurso de reclamación) was partially accepted by the CONAMA. However, some conditions that affect the feasibility of the project were maintained. As a consequence, on September 17, 2009, we presented another appeal (recurso de reclamación) before the ordinary courts of justice, which has not been resolved as of the date of this annual report.

On February 19, 2009, we submitted to the COREMA of the Fourteenth Region of Chile an environmental impact study for the construction of a pipeline to discharge the Valdivia Mill’s wastewater in the Pacific Ocean near Punta Maiquillahue, in compliance with the resolution of the COREMA, which required that such wastewater be discharged in a body of water other than the Cruces River, the Carlos Anwandter Nature Sanctuary or their sources. The pipeline would transport the wastewaters of the Valdivia mill through an extension of 37 kilometers from the Valdivia mill to Punta Maiquillahue and would finally discharge the wastewater two kilometers inside the Pacific Ocean. Such environmental impact study was approved by the COREMA by resolution dated February 24, 2010,

 

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which has been partially challenged by us before the Directive Council (Consejo Directivo) of the CONAMA. As of the date of this annual report, the Directive Council of the CONAMA has not resolved the action presented by us. As stated in the environmental impact study, the construction of this pipeline will commence once (i) the CONAMA finally and definitively approves the environmental impact study in its final form, and (ii) all necessary permits for the construction of the pipeline have been issued by the competent authorities. The period of construction has been estimated at 24 months of actual work. According to the environmental impact study, once construction has been initiated, if it is delayed for reasons not attributable to us (such as events of force majeure or acts from third parties), the construction period will be deemed extended for the duration of such delay. Once the construction of the pipeline has been completed, we will conduct a 6-month trial phase of the pipeline and will then begin normal operations.

Approval by the COREMA or by the judicial courts of our appeal (as respectively applicable) regarding the resolutions that approved the environmental impact study of the pipeline and the improvement of the quality of the effluents projects, as well as the construction and operation of the pipeline are each subject to many environmental, regulatory, engineering and political uncertainties. As a result, we cannot provide any assurances that the projects will be finally approved as requested or completed. If either the request for the necessary permits for the construction of the pipeline is rejected, or the installation of the pipeline is delayed for reasons attributable to us, we may face sanctions that include warnings, fines or the revocation of the Valdivia Mill’s environmental permit for operation. Alternatively, if any rejection or delays are attributable to reasons beyond our control, we believe that the environmental authority should extend the applicable deadlines. However, we can provide no assurances that any deadline extensions would be granted, even if we comply with all the requirements that may be set forth by those authorities. See “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Valdivia Mill” and “Item 8. Financial Information—Legal Proceedings.”

Environmental concerns led us to suspend our operations at the Licancel Mill, which adversely affected our business, financial condition, results of operations and cash flows

Beginning in June 2007, our operations at the Licancel Mill, a pulp mill located in the Seventh Region of Chile, became subject to environmental scrutiny by Chilean environmental regulators and the public, which arose in connection with the death of fish in the Mataquito River, approximately 15 kilometers downstream of the mill. As a result, Chilean authorities, including certain public health authorities and the Superintendencia de Servicios Sanitarios (Sanitary Services Superintendency), required that we suspend activities at the Licancel Mill and that we suspend any further discharges into the river. We estimate that the suspension of operations at the Licancel Mill resulted in a total loss of profits of approximately U.S.$24 million. Several administrative and judicial proceedings have been commenced regarding the events at the Licancel Mill and the death of fish at the Mataquito River. The mill resumed operations during January 2008. For further details in respect of the proceedings related to the 2007 suspension of operations at the Licancel Mill, see “Item 8. Financial Information—Legal Proceedings.”

In 2007, we invested U.S.$8 million in a new effluent treatment system for the Licancel Mill. However, we can offer no assurance that the Licancel Mill will be able to operate without further interruptions. Any future suspension of operations at the Licancel Mill may adversely affect our business, financial condition, results of operations and cash flows. See “Item 8. Financial Information—Legal Proceedings” and “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Licancel Mill.”

We are subject to legal proceedings related to our mills, which could adversely affect our business, financial condition, results of operations and cash flows

On April 27, 2005, the National Defense Council (Consejo de Defensa del Estado), the Chilean national agency that institutes legal proceedings on behalf of the Chilean government, instituted a civil lawsuit seeking reparations, damages and indemnification from us for environmental harm allegedly caused by the Valdivia Mill. On September 7, 2007, the National Defense Council instituted a civil lawsuit seeking reparations, damages and indemnification from us for environmental harm allegedly caused by the Licancel Mill. The National Defense Council agreed to terminate this lawsuit pursuant to an agreement with Arauco dated January 29, 2010. However, the resolution that approved the agreement and declared the lawsuit terminated was challenged by certain third parties. This action remains under review by the tribunal as of the date of this annual report. If the results of the Valdivia Mill lawsuit are unfavorable to us, we may be required to invest funds or take other action to repair any

 

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environmental harm a court determines we have caused, which could materially and adversely affect our business, financial condition, results of operations and cash flows. We cannot predict the outcome or impact of this lawsuit or when it may be resolved. See “Item 8. Financial Information—Legal Proceedings.”

Since the end of 2004, various criminal proceedings relating to alleged violations of several environmental laws have been instituted in Chile in which some of our mills may be affected. We cannot predict the outcome or impact of these proceedings or when they may be resolved. While Chilean law in general provides that only individuals can be convicted in criminal actions, as a consequence of these proceedings, certain measures may be taken that could materially and adversely affect our business, financial conditions, results of operations and cash flows. An exception to this rule is Chilean Law No 20,393, which was published in the Official Gazette on December 2, 2009, and which established the criminal responsibility of legal entities for criminal offenses related to the financing of terrorism, money laundering or bribery. We do not have knowledge of any fact that could result in such criminal responsibility for the Company. See “Item 8. Financial Information—Legal Proceedings.”

We are also subject to certain other proceedings described in “Item 8. Financial Information—Legal Proceedings.” We cannot assure you that, as a result of such proceedings, our mills will be able to operate without interruption. Any such interruption could have a material and adverse effect on our business, financial condition, results of operations and cash flows.

The application of environmental regulations could adversely affect our ability to accomplish our development goals and adversely affect our business, financial condition, results of operations and cash flows

In each country where we have operations, we are subject to numerous national and local environmental laws concerning, among other matters, health, the handling and disposal of waste and discharges into the air, soil and water. We have made and expect to continue to make substantial expenditures to manage our existing operations in accordance with environmental requirements. The application of environmental laws in the countries where we have operations may affect our business strategy and our development goals, which may have an adverse effect on our business, financial condition, results of operations and cash flows.

Environmental requirements are a factor in the development and operation of new projects. Chilean environmental regulations have become increasingly stringent in recent years, particularly in connection with the approval of new projects, and this trend is likely to continue. The implementation of these environmental policies in Chile will affect various aspects of our operations, but the effect on our operations and the outcome of any regulatory review or proceedings is uncertain. Environmental concerns and enforcement matters also attract public interest and, therefore, may be subject to political considerations that are beyond our control.

Since 2004, we have been subject to a number of environmental administrative and judicial proceedings in Chile, including proceedings related to the Valdivia Mill, the Arauco Mill, the Nueva Aldea Complex, a forestry-industrial complex in the Eighth Region of Chile, and the Licancel Mill. As a result of these proceedings, we have been subject to fines and sanctions, and we may be subject to fines, injunctions or other sanctions in the future. Additional proceedings, enforcement actions or claims related to environmental requirements or impacts may also be brought against us. Any such proceedings or claims may have an adverse effect on our business, financial condition, results of operations and cash flows. See “Item 4. Information on the Company—Description of the Business—Pulp—Chile,” “Item 8. Financial Information—Legal Proceedings.”

In the future, the addition of new or more stringent environmental requirements or changes in the application, interpretation or enforcement of existing requirements, in any country where we have operations, could result in substantially increased capital, operating or compliance costs, impose conditions that restrict or limit our operations or otherwise adversely affect our business, financial condition, results of operations and cash flows. These changes could limit the availability of our funds for other purposes, which could adversely affect our business, financial condition, results of operations and cash flows.

 

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Our operations may be subject to significant interruption or prolonged suspension if any of our facilities experience a major accident or are damaged by natural disasters, severe weather or unexpected or catastrophic events (such as earthquakes, fires, floods, tsunamis and other similar events)

On February 27, 2010, a severe earthquake, followed by a tsunami, occurred off the coast of the southern-central region of Chile, which is an area where we maintain our industrial operations. Immediately after the earthquake, all of our production units applied their contingency plans, which involved shutting down operations and evaluating the damage caused to each facility by the earthquake. As a result of the earthquake and subsequent tsunami, our Mutrún sawmill was severely damaged. Our other operations that were affected by the earthquake and tsunami have been reopening gradually, with the timing of such reopenings depending on the specific conditions of the respective mill as well as external factors such as infrastructure conditions, road connectivity, power supply and public safety concerns. As of June 22, 2010, all of our operations were operating except for line 2 of the Arauco Pulp Mill (Arauco II), which will be reopened once the damages are assessed and repaired.

The suspension of our operations in Chile resulted in a decrease in sales volumes and adverse effects on our results of operations and cash flows; however, we have insurance covering part of these losses. Our insurance policies cover damages to our property, plant, equipment and inventories and for business interruption caused by such damages up to an amount of U.S.$650 million, with a deductible for such damages of U.S.$3.3 million and a deductible of 21 days for business interruption. For the first quarter of 2010, we recorded a loss for damages of property, plants and equipment and inventories of approximately U.S.$27 million, net of insurance coverage. As the date of this annual report, we expect to incur additional losses as a result of the earthquake and subsequent tsunami, but we cannot determine the total amount of such losses at this time.

We cannot assure you that we will not experience further suspensions or interruptions or experience damage to our property, plant, equipment and inventories as a result of further earthquakes, aftershocks, floods, repair and maintenance, relocation of facilities or other consequences associated with such events, which could materially and adversely affect our business, financial condition, results of operations and cash flows.

Climate change may negatively affect our business, results of operations and cash flows

A growing number of scientists, environmentalists, international organizations, regulators and other commentators argue that global climate change has contributed, and will continue to contribute, to the unpredictability, frequency and severity of natural disasters (including, but not limited to, hurricanes, tornadoes, freezes, other storms and fires) in certain parts of the world. As a result, a number of legal and regulatory measures as well as social initiatives have been introduced in different parts of the world in an effort to reduce greenhouse gas and other carbon emissions, which some argue to be substantial contributors to global climate change. In addition, public expectations for reductions in greenhouse gas emissions could result in increased energy, transportation and raw material costs and may require us to make additional investments in facilities and equipment. Although we cannot predict the impact of changing global climate conditions, if any, nor can we predict the impact of legal, regulatory and social responses to concerns about global climate change, any such occurrences may negatively affect our business, financial condition, results of operations and cash flows.

Fluctuations in market price for our products could adversely affect our financial condition, results of operations and cash flows

Prices for pulp, forestry and wood products can fluctuate significantly. The average price, on an annual basis, for Norscan bleached softwood kraft market pulp (pulp produced in Canada and Northern Europe sold to manufacturers of paper products delivered in Northern Europe, or NBSK), which is the benchmark for softwood bleached pulp, ranged from U.S.$598.69 per metric ton in 2005 to U.S.$641.51 per metric ton in 2008. In 2009, the price of NBSK ranged from a minimum of U.S.$577.09 per metric ton to a maximum of U.S.$798.79 per metric ton. During the first quarter of 2010, the price of NBSK ranged from a minimum of U.S.$798.63 per metric ton to a maximum of U.S.$889.08 per metric ton. As of June 22, 2010 the price of NBSK was U.S.$975.70 per metric ton. Our business, financial condition, results of operations and cash flows could be materially and adversely affected if the price of pulp or other forestry products were to decline significantly from current levels. The prices that we are able to obtain for pulp products and, to a lesser extent, other forestry products depend on the following:

 

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prevailing world prices, which historically have been subject to significant fluctuations over relatively short periods of time, depending on worldwide demand;

 

   

world production capacity;

 

   

the business strategies adopted by major integrated forestry, pulp and paper producers and other major producers; and

 

   

the availability of substitutes.

Each of these factors is beyond our control.

Worldwide competition in the markets for our products could adversely affect our business, financial condition, results of operations and cash flows

We experience substantial worldwide competition in each of our geographical markets and in each of our product lines. Several of our competitors are larger than we are and have greater financial and other resources, which they could use to take steps that could adversely affect our financial and competitive position. The pulp industry is sensitive to changes in industry capacity and producer inventories, as well as to cyclical changes in the world’s economies, all of which may significantly affect selling prices and, thereby, our profitability. Increased competition could materially and adversely affect our business, financial condition, results of operations and cash flows.

Global economic developments, and particularly economic developments in the U.S. economy, could adversely affect our business, financial condition, results of operations and cash flows

The decrease in demand of sawn timber products due primarily to the credit crisis and the continued downturn in the real estate market in the United States resulted in our decision to close four sawmills in 2008. As a result, in 2008 we recorded a pre-tax impairment charge totaling U.S.$32.9 million, relating to the closure of our sawmills. Additionally, during 2008 and as a result of the impact that the credit crisis had on the Brazilian market and the reduction of the quantities to be produced by the Curitiba fiberboard panels plant, we decided to conduct an impairment analysis pursuant to which we recorded in 2008 a pre-tax impairment charge of U.S.$32.5 million to reduce the carrying value of this plant to the estimated sales price minus selling costs. See Note 14 to our audited consolidated financial statements.

Export sales to the United States market accounted for approximately 10.3% of our sales revenues in 2009 as compared to 14.0% in 2008 and 12.0% in 2007. In addition, we placed a significant quantity of our sawn timber products in other markets, especially Asia and the Middle East, in order to avoid additional staffing adjustments in the facilities and to mitigate the economic impact of these events in our sawn timber division. Our business, financial condition, results of operations and cash flows could be materially and adversely affected if the economic conditions in the United States and abroad continue to deteriorate, and if we are unable to re-allocate our sawn timber products to other markets on equally beneficial terms, which could require us to recognize additional impairment charges.

We depend on free international trade as well as economic and other conditions in our principal export markets

In 2009, export sales, defined as sales out of the country where our goods were produced, accounted for approximately 76.2% of our total sales revenues. During this period, 52.7% of our export sales were to customers in Asia, 20.3% to customers in North America, 13.4% to customers in Europe, 10.9% to customers in Central and South America and 2.7% to customers in other countries. As a result, our results of operations and cash flows depend, to a significant degree, on economic, political and regulatory conditions in our principal export markets. Our ability to compete effectively in our export markets could be materially and adversely affected by a number of factors beyond our control, including deterioration in macroeconomic conditions, exchange rate volatility, government subsidies, and the imposition of increased tariffs or other trade barriers. If our ability to sell our products competitively in one or more of our principal export markets were impaired by any of these developments,

 

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it might be difficult to re-allocate our products to other markets on equally favorable terms and our business, financial condition, results of operations and cash flows might be adversely affected.

Disease or fire could affect our forests and manufacturing processes and, in turn, adversely affect our business, financial condition, results of operations and cash flows

Our operations are subject to various risks affecting our forests and manufacturing facilities, including disease and fire. Although, in the past, certain pests and diseases afflicting radiata or taeda pine plantations in other parts of the world have not significantly affected the forestry industries in Chile, Argentina, Brazil and Uruguay, these pests or diseases may appear in Chile, Argentina, Brazil or Uruguay in the future. Although, in the past, forest fires have not significantly affected our plantations partly due to the broad geographic extension of our plantations and the varied ages and climatic conditions of our plantations, forest fires may affect our plantations in the future. Our operations and, as a result, our business, financial condition, results of operations and cash flows could be adversely affected if any of these risks were realized. See “Item 4. Description of Business—Forestry Activity—Forest Management.”

Risks Relating to Chile

Chilean political and economic conditions directly impact our business and the market price of our securities

At December 31, 2009, 76.6% of our property, plant and equipment and forest assets were located in Chile, and in 2009, approximately 80.1% of our net sales were attributable to our Chilean operations. Accordingly, our business, financial condition, results of operations and cash flows depend, to a considerable extent, upon economic conditions in Chile. Future developments in the Chilean economy could adversely affect our business, financial condition, results of operations and cash flows and may impair our ability to proceed with our strategic plan of business. In addition, such developments may impact the market price of our securities.

The Chilean government has exercised and continues to exercise a substantial influence over many aspects of the private sector and has changed monetary, fiscal, tax and other policies to influence the Chilean economy. We have no control over and cannot predict how government intervention and policies will affect the Chilean economy or, directly and indirectly, our operations and revenues. Our operations and financial condition and the market price of our securities may be adversely affected by changes in policies involving exchange controls, taxation and other matters. In addition, our operations and financial condition and the market price of our securities may be adversely affected by factors such as:

 

   

fluctuations in exchange rates;

 

   

base interest rate fluctuations; and

 

   

other political, diplomatic, social and economic developments in or affecting Chile.

Chile’s rates of inflation, which were 7.1% in 2008 and -1.4% in 2009, as measured by changes in the Chilean consumer price index, may adversely affect our operations and financial condition and the market price of our securities.

Risks Relating to Argentina

The economic conditions in Argentina may adversely affect our financial condition, results of operations and cash flows

At December 31, 2009, approximately 11.7% of our property, plant and equipment and forest assets were located in Argentina, and in 2009, approximately 11.6% of our net sales were attributable to our Argentine operations. The financial condition and results of our Argentine operations, including the ability of Alto Paraná S.A., or Alto Paraná, our Argentine subsidiary, to raise capital, depend, to a certain extent, upon political and economic conditions prevailing in Argentina. See “Item 4. Information on the Company—Description of Business—History.”

 

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From 1998 to 2002, the Argentine economy experienced an economic recession marked by reduced levels of consumption and investment and an elevated unemployment rate. The Argentine gross domestic product, or GDP, decreased by 0.8% in 2000, 4.0% in 2001 and 10.9% in 2002. Since 2003, economic indicators have shown some signs of recovery, and the Argentine GDP increased by 8.8% in 2003, 9.0% in 2004, 9.2% in 2005, 8.5% in 2006, 8.7% in 2007 and 6.8% in 2008. In 2009, Argentina’s GDP growth slowed to 0.9% as a result of the global financial crisis. The future economic, social and political developments in Argentina, over which we have no control, could adversely affect our business, financial condition, results of operations and cash flows.

In addition, the Argentine government has exercised and continues to exercise a significant influence over many aspects of the Argentine economy. Accordingly, the Argentine government’s actions, including actions with respect to inflation, price controls, interest rates, foreign exchange controls, organized labor and taxes, have had and may continue to have a material adverse effect on private sector entities, including our operations in Argentina.

Argentine Central Bank restrictions may impair Alto Paraná’s ability to meet its obligations and transfer money abroad

We guarantee a portion of Alto Paraná’s debt. We may be required to fulfill our obligation under our guarantees if the Argentine government were to restrict Alto Paraná’s ability to transfer funds abroad. For a description of Alto Paraná’s debt which we guarantee see “Item 5. Operating and Financial Review and Prospects—Liquidity and Capital Resources.”

Since 2001, the Argentine government has imposed a number of monetary and currency exchange control measures, which have included the obligation to repatriate foreign currency earned abroad and tight restrictions on transferring funds abroad, with certain exceptions for authorized transactions. Although current restrictions have not materially affected Alto Paraná’s business, financial condition, results of operations and cash flows, there can be no assurance that the Central Bank of Argentina will not reverse its position and again restrict payments, which could impose material obstacles to Alto Paraná’s ability to transfer money abroad and negatively affect its business, financial condition, results of operations and cash flows.

Risks Relating to Brazil

Economic conditions in Brazil may have a direct impact on our business, financial condition, results of operations and cash flows

At December 31, 2009, approximately 11.7% of our property, plant and equipment and forest assets were located in Brazil, and in 2009, approximately 8.3% of our net sales were attributable to our Brazilian operations. During the first quarter of 2005, we acquired all of the shares of capital stock of LD Forest Products S.A. and of Placas do Paraná S.A. in Brazil, as well as 50% of the shares of capital stock of Dynea Brasil S.A. in Brazil. In April 2010, our subsidiary Arauco do Brasil S.A. acquired the other 50% of the shares of Dynea Brasil S.A. As a result of this acquisition, we own 100% of the shares of Dynea Brasil S.A.

In September 2007, Arauco entered into an agreement for the joint ownership of land with Stora Enso Oyj, a Finnish-Swedish multinational corporation. Pursuant to the agreement, Arauco acquired 80% of the shares in Stora Enso Arapoti Empreendimentos Agrícolas S.A., which owns 50,000 hectares of land, including 25,000 hectares of pine and 5,000 hectares of eucalyptus plantations; 20% of the shares in Stora Enso Arapoti Indústria de Papel S.A., which owns a paper mill with an annual production capacity of 205,000 tons of light weight coated paper; and 100% of the shares of Stora Enso Arapoti Serraria Ltda., which owns a sawmill with an annual production capacity of 150,000 cubic meters per year. In August 2009, we acquired, through our Brazilian subsidiary Placas do Paraná S.A., Tafisa Brasil S.A. (“Tafisa Brasil”), which has an annual total installed capacity of 640,000 cubic meters.

As a result of the foregoing, to a certain extent, our business, financial condition, results of operations and cash flows will be dependent on economic conditions in Brazil. See “Item 4. Information on the Company—Description of Business—History.”

 

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The Brazilian government has exercised, and continues to exercise, significant influence over the Brazilian economy. Brazilian political and economic conditions have a direct impact on our business

The Brazilian government frequently intervenes in the Brazilian economy and, occasionally, makes drastic changes in policy and regulations. The Brazilian government’s actions to control inflation and other policies and regulations have often involved, among other measures, wage and price controls, currency devaluations, capital controls and limits on imports. The business, financial condition, results of operations and cash flows of our recently acquired Brazilian subsidiaries may be adversely affected by changes in policy or regulation involving tariffs and exchange controls, as well as by factors such as:

 

   

currency fluctuations;

 

   

inflation;

 

   

social instability;

 

   

price instability;

 

   

interest rates;

 

   

liquidity of domestic capital and lending markets;

 

   

tax policy; and

 

   

other political, diplomatic, social and economic developments in or affecting Brazil.

Inflation and efforts by the Brazilian government to combat inflation may contribute significantly to economic uncertainty in Brazil and could harm the business of our Brazilian subsidiaries

In the past, Brazil has experienced extremely high rates of inflation; 3.1% in 2006, 4.5% in 2007, 5.9% in 2008 and 4.3% in 2009 as measured by the Brazilian consumer price index (Índice de Preços ao Consumidor-Amplo). During this period, inflation, governmental measures to combat inflation and public speculation about possible future actions have had significant negative effects on the Brazilian economy. Future measures taken by the Brazilian government, including interest rate increases, intervention in the foreign exchange market and actions to adjust or fix the value of the real may trigger increases in inflation, and consequently, have adverse economic impacts on our business. If Brazil experiences high inflation in the future, the business, financial condition, results of operations and cash flows of our recently acquired Brazilian subsidiaries could suffer.

Fluctuations in the value of Brazil’s currency against the value of the U.S. dollar may result in uncertainty in the Brazilian economy and the Brazilian securities market, which may adversely affect the financial condition, results of operations and cash flows of our recently acquired Brazilian subsidiaries

The Brazilian real has historically suffered frequent devaluation. In the past, the Brazilian government has implemented various economic plans and exchange rate policies, including sudden devaluations, periodic mini-devaluations during which the frequency of adjustments has ranged from daily to monthly, floating exchange rate systems, exchange controls and dual exchange rate markets. Although over long periods depreciation of the real generally is correlated with the differential in the inflation rate in Brazil versus the inflation rate in the United States, depreciation over shorter periods has resulted in significant fluctuations in the exchange rate between the real and the U.S. dollar and other currencies.

The real depreciated 34.2% against the U.S. dollar in 2009, and appreciated 4.2% during the first five months of 2010. The exchange rate between the real and the U.S. dollar may continue to fluctuate and may rise or decline substantially from current levels.

 

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Devaluation of the Brazilian real and currency instability could adversely affect the ability of our Brazilian subsidiaries to meet their foreign currency obligations in the future and could result in a monetary loss relating to this indebtedness.

Risks Relating to Other Markets

Our business, earnings and prospects may be adversely affected by developments in other countries that are beyond our control

Our business, financial condition, results of operations and cash flows depend, to a large extent, on the level of economic activity, government and foreign exchange policies and political and economic developments in our principal export markets. In 2009, approximately 94.9% of our total pulp sales and approximately 60.4% of our total sales of forestry, wood and panel products were attributable to exports, principally to customers in Asia, the Americas and Western Europe. Our business, earnings and prospects, as well as our financial condition, results of operations, cash flows and the market price of our securities, may be materially and adversely affected by developments in these export markets relating to inflation, interest rates, currency fluctuations, protectionism, government subsidies, price and wage controls, exchange control regulations, taxation, expropriation, social instability or other political, economic or diplomatic developments. We have no control over these conditions and developments, which could adversely affect our business, financial condition, results of operations and cash flows.

Developments in other emerging and developed markets may adversely affect the market price of our securities and our ability to raise additional capital

The market price of our securities may be adversely affected by declines in the international financial markets and world economic conditions. Chilean securities markets are, to varying degrees, influenced by economic and market conditions in other emerging and developed market countries, especially those in the United States, China and Latin America. Although economic conditions are different in each country, investors’ reactions to developments in one country can affect the securities markets and the securities of issuers in other countries, including Chile. Negative developments in the international financial markets in the future could adversely affect the market price of our securities and impair our ability to raise additional capital.

Risks Relating to Our Securities

The non-payment of funds by our subsidiaries could have a material and adverse effect on our business, financial condition, results of operations and ability to service our debt, including our securities

Our cash flow and our ability to service debt is dependent, in part, on the cash flow and earnings of our subsidiaries and the payment of funds by those subsidiaries to us, in the form of loans, interest, dividends or otherwise. Our subsidiaries are separate and distinct legal entities and have no obligation, contingent or otherwise, to pay any amounts due under the terms of our securities or to make any funds available for such purpose. Furthermore, claims of creditors of our subsidiaries, including trade creditors, will have priority over our creditors, including holders of our securities, with respect to the assets and cash flow of the subsidiaries. Our right to receive assets of any of our subsidiaries upon their liquidation or reorganization (and the consequent right of the holders of our securities to participate in those assets) will be effectively subordinated to the claims of that subsidiary’s creditors.

Changes in Chilean tax laws could lead us to redeem our securities

Under current Chilean law and regulations, payments of interest to holders of debt securities that are not residents of Chile for purposes of Chilean taxation will, generally, be subject to Chilean withholding tax at a rate of 4.0%. Subject to certain exceptions, we will pay additional amounts (as described in “Item 10. Additional Information—Taxation”) so that the amount received by the holder of securities after Chilean withholding tax will equal the amount that would have been received if no such taxes had been applicable. In the event of certain changes in Chilean tax laws requiring that we pay additional amounts that are in excess of the additional amounts that we would owe if payments of interest on our securities were subject only to a 4.0% withholding tax, we will have the right to redeem our securities.

 

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Item 4. Information on the Company

DESCRIPTION OF BUSINESS

We believe that, as of December 31, 2009, we were Latin America’s largest forest plantation owner, and that we are Chile’s largest exporter of forestry and wood products in terms of sales revenue. We have industrial operations in Chile, Argentina and Brazil. As of December 31, 2009, we had approximately 1.0 million hectares of plantations in Chile, Argentina, Brazil and Uruguay. During 2009, we harvested 16.2 million cubic meters of sawlogs and pulplogs and sold 4.9 million cubic meters of wood products, including sawn timber (green and kiln-dried lumber), remanufactured wood products and panels (plywood, medium density fiber board, or MDF, particle board, or PBO, and high density fiber board, or HB).

Based on information published by Resource Information Systems, Inc., an independent research company for the pulp and paper industry, at December 31, 2009, we were one of the world’s largest producers of bleached and unbleached softwood kraft market pulp in terms of production capacity, with an estimated 7.3% share of the total world production of bleached softwood kraft market pulp and a 15.7% share of the total world production of softwood kraft market unbleached pulp. “Market pulp” is pulp sold to manufacturers of paper products, as opposed to pulp produced by an integrated paper producer for use in its paper production facilities. “Kraft pulp” is pulp produced using a chemical process.

Based on information published by Resource Information Systems, Inc., we were also one of the world’s lowest-cost producers of softwood kraft market pulp. We believe that we are able to produce our products at a lower cost than our competitors because of the high growth rate and short harvest cycle of radiata and taeda pine compared to other commercial softwoods, the advanced genetic and silviculture techniques we apply in our forest management, our competitive labor costs, our modern mill facilities and the proximity of our operations to Pacific coast ports.

History

Celulosa Arauco y Constitución S.A. is a corporation (sociedad anónima) organized under the laws of Chile, and subject to the rules of the Chilean public corporations (sociedades anónimas abiertas). Our principal executive offices are located at Avenida El Golf 150, 14th Floor, Las Condes, Santiago, Chile, and our telephone number is +56-2-461-7200.

We were formed on September 14, 1979 in a merger between Industrias de Celulosa Arauco S.A., or Industrias Arauco, and Celulosa Constitución S.A., or Celulosa Constitución. Our two predecessor companies were created in the late 1960s and early 1970s by Corporación de Fomento de la Producción, or Corfo, a Chilean government development corporation, to develop forest resources, improve soil quality in former farming areas and promote employment. As part of the Chilean government’s privatization program, Corfo sold Industrias Arauco to Compañía de Petróleos de Chile S.A., or Copec, in 1977 and Celulosa Constitución to Copec in 1979. In October 2003, Copec transferred all of its gasoline- and fuel-related business assets to a new subsidiary, and changed its legal name to Empresas Copec S.A., or Empresas Copec. See “Item 7. Major Shareholders and Related Party Transactions—Major Shareholders.”

In 1996, we acquired Alto Paraná S.A., an Argentine company, which, at that time, owned plantations and other land in Argentina and manufactured and sold bleached softwood kraft pulp. With this acquisition, we expanded our market opportunities outside of Chile.

In 2000, we acquired 98% of the shares of Forestal Cholguán S.A., or Cholguán, and 50% of Trupán S.A., or Trupán, which permitted us to enter the MDF and HB markets, and in 2002, we began operations at two new MDF mills, one in Chile and one in Argentina.

 

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In 2005, we expanded our presence in Chile, Argentina and Brazil through a series of acquisitions that increased our land holdings and the production capacity of various sectors of our business.

On June 30, 2006, through our subsidiaries Aserraderos Arauco S.A., Forestal Celco S.A., Bosques Arauco S.A. and Forestal Valdivia S.A., we acquired the forestry assets of Cementos Bío-Bío S.A. The acquisition represented an investment of approximately U.S.$133.3 million. The acquired assets consisted of 21,000 hectares of pine plantations, one sawmill with an annual production capacity of approximately 250,000 cubic meters per year and a remanufacturing facility.

On September 27, 2007 we entered into an agreement for the joint ownership of land in Brazil with Stora Enso Oyj, a Finnish-Swedish multinational corporation. Pursuant to the agreement, we acquired 80% of the shares in Stora Enso Arapoti Empreendimentos Agrícolas S.A., now Arauco Florestal Arapoti S.A., which owns 50,000 hectares of land, including 25,000 hectares of pine and 5,000 hectares of eucalyptus plantations; 20% of the shares in Stora Enso Arapoti Indústria de Papel S.A., which owns a paper mill with an annual production capacity of 205,000 tons of light weight coated paper; and 100% of the shares of Stora Enso Arapoti Serraria Ltda., which owns a sawmill with an annual production capacity of 150,000 cubic meters per year. This alliance required an investment of U.S.$208.4 million, which was financed with our resources and commercial bank loans.

On May 17, 2009, our subsidiary Arauco International S.A. and a subsidiary of Stora Enso Oyj agreed through a joint venture partnership to acquire the Uruguayan subsidiaries of the Spanish Grupo Empresarial ENCE S.A., which acquisition was completed on October 16, 2009. The companies acquired by the joint venture partnership were Eufores S.A., Celulosa y Energía Punta Pereira S.A. and Zona Franca Punta Pereira S.A. The main assets of these subsidiaries include 130,000 hectares of land, of which 73,000 have forestry plantations, 6,000 hectares under agreements with third parties, an industrial site, the necessary environmental permits for the construction of a pulp mill, a river terminal, a chip producing mill and a nursery. The agreed value of these assets, pursuant to the aforementioned transaction, was U.S.$335 million, of which Arauco paid 50% (or U.S.$167.5 million). See “Item 5. Operating Financial Review and Prospects—Results of Operations—Negative Goodwill Immediately Recognized”.

On August 26, 2009, our subsidiary Placas do Paraná S.A. acquired 100% of the shares of Tafisa Brasil, by means of a share purchase agreement executed among SCS Beheer, B.V., Tafiber – Tableros de Fibras Ibéricos, S.L. (each of which is a subsidiary of Sonae Indústria, SGPS, S.A.) and Placas do Paraná S.A. Pursuant to the transaction, we paid a purchase price of approximately U.S.$227 million, of which approximately U.S.$165.2 million was allocated to pay the value of the shares of Tafisa Brasil, with the balance corresponding to liabilities that the acquired company maintained. The primary asset of Tafisa Brasil (which has been renamed “Arauco do Brasil S.A.”) is a panel production facility located in the city of Pien, Brazil, which is in the state of Paraná. The facility has an annual total installed capacity of 640,000 cubic meters, which includes three production lines: two lines producing medium density fiberboard (MDF) and one line producing particleboard. The facility also has added-value lines to produce products for the construction and furniture industries.

On September 27, 2009, Arauco and its subsidiary Arauco Internacional S.A., executed a series of joint venture agreements with Stora Enso, pursuant to which Stora Enso Amsterdam B.V. agreed to transfer ownership of 100% of the shares of Stora Enso Uruguay S.A. to Forestal Cono Sur S.A., an Arauco subsidiary in Uruguay, which was subsequently renamed Montes del Plata S.A. (“Montes del Plata”). As a consequence of this transaction, Arauco and Stora Enso equally control all assets that both companies own in Uruguay, which includes 74,000 hectares owned by Stora Enso (including 17,300 hectares which are already planted with forests) and 39,000 hectares owned by Arauco (of which 27,400 are already planted with forests). These assets, and those that we acquired from Grupo Empresarial ENCE, S.A. in May of 2009, have helped to secure a strategic basis to consider the construction of a future pulp mill in Uruguay. See “Item 5. Operating Financial Review and Prospects—Results of Operations—Other Profit (Loss)”.

In April 2010, our subsidiary Arauco do Brasil S.A. acquired 50% of the shares of Dynea Brasil S.A. from Dynea AS for U.S.$15 million. As a result of this acquisition, we now own 100% of the shares of Dynea Brasil S.A.

 

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Corporate Structure

We are substantially wholly owned by Empresas Copec S.A., a public company listed on the Santiago Stock Exchange, the Valparaíso Stock Exchange and the Chilean Electronic Stock Exchange. Empresas Copec is a holding company, the principal interests of which are in Arauco, gasoline and gas distribution, electricity, fishing and mining. See “Item 7. Major Shareholders and Related Party Transactions—Major Shareholders.”

The following table sets forth our ownership interests in our subsidiaries as of December 31, 2009.

 

     Country of
incorporation
   Total stock held  

Agenciamiento y Servicios Profesionales S.A. de C.V.

   Mexico    99.9986

Alto Paraná S.A.

   Argentina    99.9762   

Arauco Australia S.A.

   Australia    99.9986   

Arauco Colombia S.A.

   Colombia    99.9976   

Arauco Denmark ApS

   Denmark    99.9991   

Arauco Distribución S.A.

   Chile    99.9992   

Arauco do Brasil S.A.

   Brazil    99.9986   

Arauco Ecuador S.A.

   Ecuador    99.9986   

Arauco Florestal Arapoti S.A.

   Brazil    79.9989   

Arauco Forest Brasil S.A.

   Brazil    99.9988   

Arauco Forest Products B.V.

   The Netherlands    99.9991   

Arauco Generación S.A.

   Chile    99.9985   

Arauco Internacional S.A.

   Chile    99.9986   

Arauco Perú S.A.

   Peru    99.9986   

Arauco Wood Products, Inc.

   U.S.A.    99.9986   

Araucomex S.A. de C.V.

   Mexico    99.9986   

Aserraderos Arauco S.A.

   Chile    99.9992   

Bosques Arauco S.A.

   Chile    99.9256   

Controladora de Plagas Forestales S.A.

   Chile    59.6326   

Faplac S.A.

   Argentina    99.9979   

Flooring S.A.

   Argentina    99.9984   

Forestal Arauco S.A.

   Chile    99.9248   

Forestal Celco S.A.

   Chile    99.9256   

Forestal Concepción S.A.

   Panama    99.9986   

Forestal Cholguán S.A.

   Chile    97.4281   

Forestal Los Lagos S.A.

   Chile    79.9405   

Forestal Misiones S.A.

   Argentina    99.9885   

Forestal Nuestra Señora del Carmen S.A.

   Argentina    99.9987   

Forestal Valdivia S.A.

   Chile    99.9256   

Industrias Forestales S.A.

   Argentina    99.9987   

Inversiones Celco S.L.

   Spain    99.9991   

Investigaciones Forestales Bioforest S.A.

   Chile    99.9256   

Paneles Arauco S.A.

   Chile    99.9992   

Placas do Paraná S.A.

   Brazil    99.9987   

Savitar (Forestal Talavera S.A.)

   Argentina    99.9985   

Servicios Logísticos Arauco S.A.

   Chile    99.9995   

Leasing Forestal S.A.

   Argentina    99.9767   

Empreendimientos Santa Cruz S.A.(Ex. Lucchese Empreendimientos e Participaçoes Ltda.)

   Brazil    99.9885   

 

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Business Strategy

Our business strategy is to maximize the value of our plantations by pursuing sustainable growth opportunities in our core businesses and expanding into new markets and products. We are implementing our business strategy through the following initiatives:

 

   

We are improving the growth rate and quality of our plantations through advanced forest management techniques;

 

   

We are executing a capital expenditure plan designed to reinforce our competitive advantages through economies of scale and scope, improving the efficiency and productivity of our industrial activities and optimizing the use of the forest by going into biomass energy generation;

 

   

We continue to develop our facilities, transportation, shipping, storage and product distribution network that allow us to reach over 70 countries worldwide; and

 

   

We are expanding internationally into new regions that have comparative advantages in the forestry sector.

Domestic and Export Sales

The following table sets forth our sales revenue derived from exports and domestic sales for the years indicated.

 

     Year ended December 31,
     2008    2009
     (in millions of U.S.$)

Export Sales

     

Bleached pulp

   $ 1,508    $ 1,332

Unbleached pulp

     173      191

Sawn timber

     390      234

Remanufactured wood products

     223      170

Plywood and fiber panels

     506      441

Posts

     3      4

Other

     4      0
             

Total export sales revenue

   $ 2,807    $ 2,372
             

Domestic Sales

     

Bleached pulp

     107      69

Unbleached pulp

     4      13

Sawlogs

     72      46

Pulplogs

     13      10

Sawn timber

     82      68

Remanufactured wood products

     24      22

Chips

     10      17

Electric power

     121      78

Plywood and fiber panels

     441      390

Other

     33      28
             

Total domestic sales revenue

   $ 907    $ 741
             

Total sales revenue

   $ 3,714    $ 3,113
             

 

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The following table sets forth a geographic market breakdown of our export sales revenue for the years indicated.

 

     Year ended December 31,
     2008    2009
     (in millions of U.S. dollars)

North America

   $ 624    $ 482

Central and South America

     316      258

Asia

     1,189      1,251

Europe

     574      318

Other

     104      63
             

Total

   $ 2,807    $ 2,372
             

Forestry Activity

Radiata pine grows at the fastest rates within a narrow band of latitude and under certain climatic conditions. One of Chile’s main advantages in the forestry products industry lies in the short growing cycle of its radiata pine plantations. The faster growth rate of radiata pine trees in Chile allows harvesting of pulplogs and sawlogs 16 to 18 years after planting and of high quality sawlogs 25 years after planting. For most temperate softwood forests in the Northern Hemisphere this range is 18 to 45 years for pulplogs and 50 to 150 years for high quality sawn timber. Consequently, the Chilean forestry industry is a relatively low cost producer, since a Chilean producer generally requires less time and a smaller area to produce the same volume of pine as its North American or European competitors, who face lower forest growth rates and higher transportation and investment costs as a result of the larger tracts of forests necessary to produce equivalent yields of softwood. Accordingly, since the mid-1970s, we have focused our forest management toward the application of advanced genetic and silviculture techniques to increase productivity and the quality of our plantations.

Eucalyptus, which we started planting in 1989, grows well in the forest regions of Chile. Once planted, eucalyptus trees require no further forest management (other than fire control and reduction of weeds) until harvest. The average harvest cycle of eucalyptus plantations is approximately 12 years. Once cut, eucalyptus regrows and it is only after two additional harvest rotations of approximately 12 years each that it becomes necessary to replant.

Throughout our history, we have demonstrated a continued commitment to the improvement of our forest management policies. In particular, we have adopted environmentally sensitive policies towards our holdings of native forests, which are protected and preserved in their entirety. Our products come from our established plantations only; we do not sell any products derived from our native forests. We conduct our forestry operations in accordance with current legislative and environmental sustainability standards. Certain of our subsidiaries have received various environmental certifications as of the date of this annual report, which include, but are not limited to the following:

 

   

Sustainable Forest Management Certification: the Chilean certification of sustainable forest management, as determined since 2004 by the PEFC (Program for the Endorsement of Forest Certifications Schemes). PEFC is an international non-profit, non-governmental organization dedicated to promoting sustainable forest management;

 

   

Forest Stewardship Council (FSC) Certification: a forest management certification aimed at promoting forest management that is environmentally responsible, socially beneficial and economically viable for the world’s forests. FSC is a non-profit organization devoted to encouraging the responsible management of the world’s forests;

 

   

Chain of Custody Certification: a certification granted by the PEFC and designed to ensure that certified raw materials are used in finished product;

 

   

Chain of Custody and Controlled Wood Certification: a certification from FSC that is designed to ensure traceability of certified and uncertified wood from the forest to the finished product;

 

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Environmental Management System ISO 14001: a certification issued by the International Standards Organization (ISO), awarded to organizations that comply with environmental legislation, monitor significant environmental impacts, prevent pollution and maintain a continuing program of environmental improvement. ISO is an international non-profit, non-governmental organization dedicated to developing international business standards;

 

   

Occupational Health and Safety Assessment Series (OHSAS) 18001: a certification awarded for the effective management of conditions and factors that may adversely affect the work environment of employees, temporary workers, contractors and other persons who are in the workplace.

Forest Plantations

At December 31, 2009, our planted forests consisted of 80% radiata and taeda pine and 20% mainly of eucalyptus. Radiata and taeda pine have a rapid growth rate and a short harvest cycle compared to other commercial softwoods. Radiata and taeda pine are sufficiently versatile for both the production of forestry and wood products and the production of long fiber pulp for sale to manufacturers of paper and packaging.

We seek to manage our forestry resources in a way that ensures that the annual growth of our forest is equal to or greater than the volume of resources harvested each year. In 2009, Arauco planted a total of 47,094 hectares and harvested a total of 38,966 hectares in Chile, Argentina, Brazil and Uruguay (which includes 50% of the total land owned in Uruguay by our joint venture, Montes del Plata). We believe that we will reach a long-term sustainable equilibrium within the next five years, with annual harvests and plantations of approximately 58,000 hectares.

Our planted radiata pine forests are located in central and southern Chile, and most are located in close proximity to our major production facilities and to port facilities. The majority of our radiata pine is less than 16 years old.

At December 31, 2009, our aggregate radiata pine holdings comprised approximately 43% of all Chilean radiata pine plantations, making us the country’s largest radiata pine plantation owner according to the Chilean Forestry Institute. At December 31, 2009, we owned approximately 1.1 million hectares of land in Chile, of which 0.7 million hectares are forest plantations.

At December 31, 2009, we owned 257,722 hectares of forest and other land in Argentina, 126,616 hectares of forest and other land in Brazil and 126,786 hectares of forest and other land that our joint venture Montes de Plata owns in Uruguay. Of the total land we own in these three countries, approximately 179,621 hectares of land is planted with taeda pine and elliotti pine, a species of softwood that has a growth rate similar to that of radiata pine. The balance includes plantations of other species of trees, land to be planted, protected areas and natural forests.

 

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The following table sets forth the number of hectares and types of uses of our land holdings and rights, as of December 31, 2009.

 

     At December 31, 2009  
     Total    Distribution  
     (in hectares)    (percentage)  

Pine plantations(1)

     

0-5 years

   210,639    13.1

6-10 years

   181,258    11.3   

11-15 years

   179,941    11.2   

16-20 years

   133,553    8.3   

21+ years

   81,649    5.1   

Subtotal

   787,040    48.9   

Eucalyptus plantations(2)

   182,715    11.3   

Plantation of other species

   24,039    1.5   

Subtotal

   993,794    12.8   

Land for plantations

   63,494    3.9   

Land for other uses(3)

   553,682    34.4   
           

Total(4)

   1,610,970    100.0
           

 

(1)

All years are calculated from the date of planting.

(2)

Approximately 74% of our eucalyptus plantations are less than 10 years old.

(3)

Includes roads, firebreaks, native forests and yards.

(4)

Includes 100% of Alto Paraná and FAPLAC-owned plantations, 80% of Forestal los Lagos S.A.-owned plantations and 50% of Montes del Plata-owned plantations. Also includes 55.103 hectares for which we have the right to harvest but which we do not own, of which 46,937 hectares are in Chile, 7,821 hectares are in Uruguay and 345 hectares are in Argentina.

Land Acquisition and Afforestation

Our total land assets have increased from fewer than 170,000 hectares in 1980 to 1,610,970 hectares at December 31, 2009. That number does not include 16,487 hectares owned by third parties or the assets owned by Forestal Río Grande S.A. as to which we have harvesting rights. In the five years ending December 31, 2009, we purchased 249,464 hectares of land, of which 43,841 hectares were purchased in Chile, 21,648 in Argentina, 86,738 in Brazil and 97,237 in Uruguay.

We expect to acquire additional land in Argentina, Uruguay (through our joint venture, Montes del Plata) and Brazil, and to a lesser extent in Chile if we are presented with the opportunity to do so at a desired price or location. There can be no assurance that we would be able to acquire land at the desired price or location.

We plan to continue our policy of supplementing our pulplog production with purchases from domestic third parties. We believe that this policy is economically efficient, given the significant quantities of pulplog available from third parties and our increasing proportion of sawlogs yielded from our plantations. We believe that the aggregate of our existing plantations, land currently held by us that we intend to afforest and the third-party purchases we make in the ordinary course of our business will be sufficient to satisfy our anticipated future demand for sawlogs and pulplogs.

Chile

On January 6, 2005, through our subsidiary Forestal Valdivia S.A., we acquired 80% of Forestal Los Lagos S.A., which represented an investment of U.S.$21.4 million and included 9,234 hectares of land planted with eucalyptus in the Fourteenth Region of Chile.

On June 30, 2006, through our subsidiaries Aserraderos Arauco S.A., Forestal Celco S.A., Bosques Arauco S.A. and Forestal Valdivia S.A., we acquired the forestry assets of Cementos Bío-Bío S.A. The acquisition represented an investment of approximately U.S.$133.3 million. The acquired assets consist of 21,000 hectares of pine plantations, one sawmill with an annual production capacity of approximately 250,000 cubic meters per year and a remanufacturing facility.

 

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On October 11, 2006, the Bío Bío Investment Fund, a Chilean fund in which a group of Chilean insurance companies and other private investors participate, acquired the assets of Forestal Bío-Bío S.A. for U.S.$346 million, which included approximately 40,000 hectares of plantations. On that same date, Arauco entered into certain agreements with the Bío Bío Investment Fund pursuant to which Arauco became the administrator and exclusive buyer of these forestry assets. Arauco receives an annual fee for the administration of the forests. Arauco’s obligations under these agreements include the purchase of the fund’s forestry assets over a seven-year term beginning in 2006 and the purchase of the fund’s supply of timber during the same period. Arauco will pay a total of U.S.$461.6 million for the purchase of the fund’s forestry assets and timber supply over such seven-year term.

In January 2007, the Bío Bío Investment Fund transferred all of its assets and financial debt to Forestal Río Grande S.A., its newly created subsidiary. At the same time, the Bío Bío Investment Fund assigned all the administration and supply agreements it had entered into with Arauco to Forestal Río Grande S.A. Arauco has determined that Forestal Río Grande S.A. is a variable interest entity of which Arauco is the primary beneficiary. As a result, commencing on October 11, 2006, Arauco consolidates the assets and liabilities of Forestal Río Grande S.A. The indebtedness of Forestal Río Grande S.A. is neither secured by Arauco nor is Arauco liable for such indebtedness. See Note 1(c) to our audited consolidated financial statements.

In January 2007, through its subsidiary Bosques Arauco S.A., Arauco acquired 5,105 hectares of radiata pine plantation (excluding land) from Forestal Anchile Ltda. This acquisition represented an investment of approximately U.S.$43.6 million.

In July 2008, through its subsidiary Forestal Valdivia S.A., Arauco acquired U.S.$14 million worth of plantations from Lafarge Chile S.A.

Argentina

In October 2005, through our Argentine subsidiary Industrias Forestales S.A., we acquired from Louis Dreyfus S.A.S. 100% of the stock of Ecoboard S.A.I.F. and Louis Dreyfus S.A.I.F. (subsequently renamed Ecoresine S.A.) in Argentina and, indirectly as a result of that purchase, 100% of the stock of Caif S.A. and LD Manufacturing S.A. (subsequently renamed Faplac S.A.) and 60% of the stock of Flooring S.A. As a result of these acquisitions, we own another 8,000 hectares of plantations in Argentina.

In November 2006, through its subsidiary Arauco Internacional S.A., Arauco acquired La Señora del Milagro S.R.L. (subsequently renamed Forestal Nuestra Señora del Carmen S.A.), an Argentine forestry company, which owns approximately 4,000 hectares of land in Argentina, for U.S. $5.4 million.

In September 2007, Faplac S.A acquired 40% of the stock of Flooring S.A., from Fantoni SpA for U.S.$1.5 million.

In March 2008, Ecoboard SAIF, Ecoresine S.A. and CAIF S.A. merged with Industrias Forestales S.A.

In March 2008, Faplac S.A. acquired 20% of the stock of Savitar S.A. and El Oasis S.A., for U.S.$2.2 million, both Argentine forestry companies and owners of about 10,000 hectares of land.

In December 2008, Alto Paraná S.A. acquired 99.99% of the stock of the Brazilian company Lucchese Empreendimentos e Participacoes Ltda., which was subsequently renamed Empreendimientos Santa Cruz S.A. and capitalized up to U.S.$29 million.

Brazil

In March 2005, through our Brazilian subsidiary Arauco do Brasil Ltda., we acquired from Louis Dreyfus S.A.S. 100% of the stock of LD Forest Products S.A. in Brazil and, indirectly as a result of that purchase, 100% of the stock of Placas do Paraná S.A. and 50% of the stock of Dynea Brasil S.A. As a result of these acquisitions, we acquired 25,800 hectares of plantations in Brazil.

 

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In August 2006, through our subsidiary Arauco Forest Brasil S.A., we acquired from the Marchiori Group certain forestry land in Brazil. This investment of U.S.$39.6 million includes 14,715 hectares of land and plantations, mostly consisting of elliotti pine.

On September 27, 2007 Arauco entered into an agreement for the joint ownership of land in Brazil with Stora Enso Oyj, a Finnish-Swedish multinational corporation. Pursuant to the agreement, Arauco acquired 80% of the shares in Stora Enso Arapoti Empreendimentos Agrícolas S.A., now Arauco Florestal Arapoti S.A., which owns 50,000 hectares of land, including 25,000 hectares of pine and 5,000 hectares of eucalyptus plantations; 20% of the shares in Stora Enso Arapoti Indústria de Papel S.A., which owns a paper mill with an annual production capacity of 205,000 tons of light weight coated paper; and 100% of the shares of Stora Enso Arapoti Serraria Ltda., which owns a sawmill with an annual production capacity of 150,000 cubic meters per year. This alliance required an investment of U.S.$208.4 million, which was financed with Arauco’s resources and commercial bank loans.

Uruguay

On May 17, 2009, our subsidiary Arauco International S.A. and a subsidiary of Stora Enso Oyj agreed through a joint venture partnership to acquire the Uruguayan subsidiaries of the Spanish Grupo Empresarial ENCE S.A. The companies acquired pursuant to this transaction were Eufores S.A., Celulosa y Energía Punta Pereira S.A. and Zona Franca Punta Pereira S.A. This acquisition was completed on October 16, 2009. The main assets of these subsidiaries include 130,000 hectares of land, of which 73,000 have forestry plantations, 6,000 hectares under agreements with third parties, one industrial site, the necessary environmental permits for the construction of a pulp mill, a river terminal, one chip producing mill and one nursery. The aggregate value of the assets acquired as a result of this transaction was U.S.$335 million, of which Arauco paid 50% (or approximately U.S.$167.5 million).

On September 27, 2009, Arauco and its subsidiary Arauco Internacional S.A., executed a series of joint venture agreements with Stora Enso, pursuant to which Stora Enso Amsterdam B.V. agreed to transfer ownership of 100% of the shares of Stora Enso Uruguay S.A. to Forestal Cono Sur S.A., an Arauco subsidiary in Uruguay, which was subsequently renamed Montes del Plata S.A. As a result of this transaction, Arauco and Stora Enso equally control all assets that both companies own in Uruguay, which includes 74,000 hectares owned by Stora Enso (including 17,300 hectares which are already planted with forests) and 39,000 hectares owned by Arauco (of which 27,400 are already planted with forests). These assets, and those that we acquired from Grupo Empresarial ENCE, S.A. in October of 2009, have helped to secure a strategic basis to consider the construction of a future pulp mill in Uruguay. For more information see “Item 5.Operating Financial Review and Prospects—Results of Operations—Negative Goodwill Immediately Recognized” and “—Other Profit (Loss)”.

Forest Management

For our pine plantations, our forestry management activities seek to increase sawlogs through advanced genetic techniques, planting and site preparation procedures, thinning and pruning. Managed forests can produce trees of larger diameter and, if pruned, a higher proportion of clear wood, which generally commands a higher price than knotted wood. Although some land is not suitable for the production of pruned logs, at December 31, 2009, over 66% of our pine forests in Chile were designed for clear wood production.

For our eucalyptus plantations, our forestry management activities seek to increase the amount of fiber production per hectare through advanced genetic techniques and planting and site preparation procedures. Eucalyptus is more expensive to plant than pine; however, after planting, eucalyptus requires minimal forest management, yields more fiber per hectare and has a shorter growth cycle and greater wood density than pine, resulting in a greater amount of pulp production per hectare.

As of December 31, 2009, we had eight nurseries in Chile, Argentina and Brazil, in which we grow seedlings using seeds and using cuttings from genetically selected trees. To achieve higher quality trees and an increased growth rate, we apply strict selection criteria to the trees from which seedlings are produced. We then plant the seedlings manually. Depending upon the species of tree to be planted and the nutrient and physical characteristics of the soil, we may also undertake a certain amount of ground preparation before planting. Our other principal forest activities are thinning, pruning and harvesting.

 

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Thinning, or culling inferior trees from the plantation, occurs in the following two stages:

 

   

Thinning to waste. Some thinned trees are chipped and used in pulp production. Thinning to waste occurs after four to six years and results in an average reduction of the number of trees per hectare from 1,250 to approximately 700.

 

   

Commercial thinning. Thinned trees are used in pulp production or, depending on the quality of the particular land, as sawlogs. Commercial thinning occurs at 10 to 12 years and results in an average reduction of the number of trees per hectare from 700 to approximately 450.

This high level of thinning benefits Arauco for the following reasons:

 

   

the cost of planting is relatively low,

 

   

the higher number of young trees provide each other with natural protection from the elements, and

 

   

the high degree of selection that thinning makes possible leaves only the highest quality trees to be harvested.

Pruning involves removing branches, the source of knots, which are the main defect in sawn timber. Pruning results in a high-quality clearwood sawlog of 5.3 meters from each tree, and is conducted three times:

 

   

at the time of the first thinning,

 

   

two years later, when trees are six to eight years old, and

 

   

one year later, when trees are seven to nine years old.

Our eucalyptus plantations are neither thinned nor pruned.

Harvesting timber involves felling trees, removing branches from the logs, cutting the logs into appropriate sections and loading the logs onto trucks for transport to sawmills, panel mills, pulp mills or ports for direct export. We use the lower section of the radiata pine, comprising the first 7 to 12 meters, in sawmills and plywood mills or it is exported as sawlogs. We use the mid-section of the radiata pine, comprising, on average, the next 8 to 13 meters, in either sawmills or pulp mills, depending on the diameter and quality of the pine. We use the top section of the tree for pulp and MDF production.

We monitor product demand and our current inventory levels, and we match harvests from sections of our plantations that will provide the optimal yield given our product requirements. This process involves the use of sophisticated operations research models and close communication between our different operating areas to ensure that the correct amounts of timber of the required characteristics are supplied. We replant as soon as practicable after harvesting, with an average period between harvesting and replanting of one year.

The following table illustrates, on a hectare basis, the extent of our thinning, pruning and harvesting activities in Chile during the periods indicated.

 

     Year ended December 31,
     2007    2008    2009
     (in hectares)

Thinning

   28,759    18,562    19,246

Pruning

   45,797    40,721    31,191

Harvesting

   36,072    29,184    30,872

We manage our forest activities, but we hire independent contractors to perform the bulk of our operations, including planting, maintenance, thinning, pruning, harvesting, transportation and access road construction. As of

 

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December 31, 2009, we had arrangements with more than 393 independent contractors that employed over 12,304 workers in Chile. Many of these contractors have long-standing relationships with us, but we award many contracts based on competitive bids. We believe that our arrangements with independent contractors provide greater flexibility and efficiency than performing these activities directly.

Our plantations are interspersed with native forest and farmland, and, as a result, they are naturally protected against the spread of certain diseases. In addition, our subsidiary Investigaciones Forestales Bioforest S.A., or “Bioforest”, has developed strategies to protect our forests from pests and diseases. During the last five years, radiata pine plantations have been affected by two health problems in particular: 1) the sirex noctilio, a wasp which attacks stressed trees, has caused a natural selection for thinning and 2) the disease produced by phytophthora pinifolia has reduced the growth rate of certain trees. To mitigate the effects of the sirex noctilio, Bioforest has implemented a biological control program under which it has released into the affected forests natural enemies of the sirex noctilio, including the nematode, the beddingia siricidicola and the parasitoid ibalia leucospoide. To control the spread of phytophthora pinifolia, Bioforest has begun genetically engineering our trees to be more tolerant to the disease and has also begun dispersing in our forests a fertilizer that further promotes resistance. For more information regarding certain risks to our forests presented by disease, see “Item 3. Key Information—Risk Factors—Disease or fire could affect our forests and manufacturing processes and, in turn, adversely affect our business, financial condition, results of operation and cash flows.”

We operate an extensive fire control organization that interacts with the fire control organizations of other forestry companies to ensure that any fire damage to our forests is minimal. The operation primarily consists of a system of spotter towers, manned 24 hours a day during the summer months, from which spotters report the direction of any fire observed to a central command post, where the fire’s exact location is determined and an appropriate ground and/or aerial response is formulated. Over the last five years, this system has limited fire damage to our forests to an average of 0.2% of the plantations per year.

Forest Production

We harvested 16.2 million cubic meters of logs during the year ended December 31, 2009, consisting of 7.6 million cubic meters of sawlogs, 7.0 million cubic meters of radiata pine pulplogs and 1.6 million cubic meters of eucalyptus pulplogs and other logs. We did not export any pulplogs during 2009 because substantially all of the pulplogs from our forests were used in our pulp or panel mills. During 2009, our sawmills and panel mills used 6.3 million cubic meters of sawlogs, and no sawlogs were exported. We also sold 1.2 million cubic meters of sawlogs to unaffiliated domestic sawmills during 2009.

A log merchandising facility located at the same site as our Horcones I and Horcones II Sawmills optimizes, cuts and classifies wood destined for our plywood facility, sawmills or pulp mills with an annual processing capacity of 1.7 million cubic meters of logs per year. The Nueva Aldea Complex also includes a log merchandising facility, with an annual processing capacity of 2.6 million cubic meters of logs per year.

Pulp

We believe that we were Chile’s largest producer of bleached and unbleached softwood market pulp in terms of production in 2009. For the year ended December 31, 2009, pulp sales were U.S.$1,605 million, representing 51.6% of our total sales revenue for the period.

Pulp obtained from wood fibers is used in the manufacture of printing and writing paper, hygienic and sanitary paper, board and packaging. Whether a specific kind of pulp is suitable for a particular end use depends not only on the type of wood but also on the process used to transform the wood into pulp. Pulp made from softwoods, such as radiata pine, has long fibers and is used to provide durability and strength to paper products. Bleached pulp is used primarily for printing and writing papers and for tissue. Unbleached pulp is used primarily for linerboard (a packaging material). Pulp made from hardwoods, such as eucalyptus, has short fibers and is used in combination with long fiber in manufacturing paper products.

We use a chemical process, known as the kraft process, in our pulp mills in Chile and Argentina. The raw wood is in the form of pulplogs and chips, which are combined in the production process to produce pulp. The

 

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pulplogs are first debarked and chipped. The chips are then screened, mixed and cooked with chemicals to separate the bulk of the lignin from the wood fibers. After the material is screened and washed, it is then passed to high-density tanks. For bleached pulp, the next step is a five-stage bleaching process using chemicals, primarily chlorine dioxide. At all of our pulp mills, the bleaching process is preceded by an oxygen delignification stage. Then, the fibers are subjected to a final stage where the sheets are formed and subsequently dried and baled for transport to customers. The lignin and bark produced during this process is used to fuel the boilers that produce steam, providing heat and generating electricity for the mill. Our bleached pulp is bleached to a 90+ brightness level, as measured by the ISO test procedure, which is one of the industry’s measurement methods.

Pulp Mills

At December 31, 2009, we owned and operated five pulp mills in Chile and one in Argentina, with an aggregate installed annual production capacity of approximately 3.2 million metric tons. Our six pulp mills produced 2.6 million metric tons of bleached pulp and 0.4 million metric tons of unbleached pulp in 2009.

All of our pulp mills in Chile except for the Nueva Aldea Mill and the Licancel Mill are ISO 9001:2000 and ISO14001:2004 certified. The Nueva Aldea Mill and the Licancel Mill were certified ISO 9001:2008 and ISO 14001:2004 in February 2010. The Alto Paraná Mill in Argentina is certified under ISO 9001:2000 and ISO14001:2004. No seasonal factors affect plant utilization, and the pulp mills generally run at full capacity throughout the year, with eight to ten days of maintenance scheduled every 12 months.

The following table sets out bleached and unbleached kraft pulp production by plant for each of the years indicated.

 

     Year ended December 31,
     2005    2006    2007    2008    2009
     (in thousands of metric tons)
Chile               

Arauco Mill (bleached)

              

Arauco I

   263    295    279    281    286

Arauco II

   494    494    475    507    505

Valdivia Mill (bleached)(1)

   351    440    436    488    540

Constitución Mill (unbleached)

   353    338    331    320    333

Nueva Aldea Mill (bleached)

   —      123    715    842    900

Licancel Mill (bleached)(2)

   145    141    53    118    51
                        

Licancel Mill (unbleached)

   —      —      —      —      75
                        

Subtotal

   1,606    1,831    2,289    2,555    2,690
                        
Argentina               

Alto Paraná Mill (bleached)

   331    348    336    343    310

Total

   1,937    2,179    2,625    2,898    3,000
                        

 

(1)

Operations at the Valdivia Mill were temporarily suspended for approximately one month during January and February of 2005 and for an approximate aggregate period of two months during June, July, and August of 2005.

(2) Operations at the Licancel Mill were temporarily suspended for approximately six months from June 2007 until January 2008. During 2009, the Licancel Mill produced unbleached pulp for a three-month period.

Chile

Arauco I. Arauco I, which was completed in 1972, is located at the Arauco Mill in the heart of a group of our radiata pine plantations in the Eighth Region of Chile. Arauco I produces elementary chlorine-free pulp, which does not use chlorine gas. Elementary chlorine-free pulp is also produced by a significant portion of our competitors in each of the world’s major pulp producing regions. The installed annual production capacity of Arauco I is approximately 290,000 metric tons of eucalyptus and pine bleached kraft pulp.

Arauco II. Also located at the Arauco Mill, Arauco II was completed in 1991. Arauco II’s pulping process is fundamentally the same as that of Arauco I, but it includes technological improvements in its production

 

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process and environmental design. Arauco II is also equipped to produce elementary chlorine-free pulp. The installed annual production capacity of Arauco II is approximately 500,000 metric tons of pine bleached kraft pulp.

As a consequence of the earthquake that occurred in Chile on February 27, 2010, the operations of Arauco II were temporarily suspended and will be reopened once the damages are assessed and repaired.

Constitución Mill. The Constitución Mill is located in the heart of a group of our radiata pine forests in the Seventh Region of Chile. As of December 31, 2009, the Constitución Mill was the largest unbleached softwood market pulp mill in the world, with an installed annual production capacity of approximately 355,000 metric tons. In February 2006, the COREMA of the Seventh Region of Chile approved an environmental impact study for the construction of a new pipeline for the Constitución Mill, which commenced operations in February 2007. The Constitución Mill is equipped to produce elementary chlorine-free pulp.

Licancel Mill. We acquired the Licancel Mill in September 1999. It is located in Licantén, which is 250 kilometers south of Santiago. The mill has an installed annual production capacity of approximately 140,000 metric tons of eucalyptus kraft pulp and pine bleached and unbleached kraft pulp. The Licancel Mill is equipped to produce elementary chlorine-free pulp.

Beginning in June 2007, our operations at the Licancel Mill became subject to environmental scrutiny by Chilean environmental regulators and the public, which arose in connection with the death of fish in the Mataquito River, approximately 15 kilometers downstream of the mill. As a result, Chilean authorities, including the health authorities and the Superintendencia de Servicios Sanitarios (Sanitary Services Superintendency), required that we suspend activities at the Licancel Mill and that we suspend any further discharges into the river. We estimate that the suspension of operations at the Licancel Mill resulted in a total loss of profits of approximately U.S.$24 million. Several administrative and judicial proceedings have been commenced regarding the events at the Licancel Mill and the death of fish at the Mataquito River. The mill resumed operations during January 2008. For further details in respect of the proceedings related to the 2007 suspension of operations at the Licancel Mill, see “Item 8. Financial Information—Legal Proceedings.”

In 2007, we invested U.S.$8 million in a new effluent treatment system for the Licancel Mill. However, we can offer no assurance that the Licancel Mill will be able to operate without further interruptions. Any future suspension of operations at the Licancel Mill may adversely affect our business, financial condition, results of operations and cash flows. See “Item 3. Environmental concerns led us to suspend our operations at the Licancel Mill, which adversely affected our business, financial condition, results of operations and cash flows” and “Item 8. Financial Information- Legal Proceedings.”

Valdivia Mill. We completed construction of the Valdivia Mill during the first quarter of 2004 and commenced operations in February 2004. The Valdivia Mill is located in Fourteenth Region of Chile (which was previously part of the Tenth Region of Chile), an area with significant radiata pine and eucalyptus plantations. The Valdivia Mill has an installed potential annual production capacity of approximately 550,000 metric tons of bleached pulp, consisting of softwood pulp and eucalyptus pulp. The Valdivia Mill is equipped to produce elementary chlorine-free pulp.

The Valdivia Mill has been subject to legal and administrative proceedings by the Chilean environmental regulators. Primarily, it has been alleged that the Valdivia Mill’s operations impacted the nearby Carlos Anwandter Nature Sanctuary and contributed to the migration and death of black-neck swans in an area downstream from the mill on the Cruces River. For a discussion of the administrative and litigation proceedings in which we have been involved as a result of our operations at the Valdivia Mill, see “Item 8. Financial Information—Legal Proceedings.”

On June 16, 2009, we submitted to the COREMA a request to increase our production at the Valdivia Mill by 20% from 550,000 metric tons to 660,000 metric tons per year, which request was rejected on July 20, 2009. Consequently, on May 28, 2010, we presented an environmental impact declaration to the COREMA pursuant to which we repeated our request to increase the production of the Valdivia Mill from 550,000 metric tons to 660,000 metric tons per year. As of the date of this annual report, this environmental impact declaration remains under the review of the COREMA.

 

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Nueva Aldea Mill. Located in the Eighth Region of Chile, this mill was completed in 2006 and currently has a production capacity of 1,027,000 metric tons per year, half of which is for the production of pine bleached kraft pulp and the other half of which is for the production of eucalyptus bleached kraft pulp. The Nueva Aldea Mill is equipped to produce elementary chlorine-free pulp.

On February 20, 2006, the COREMA of the Eighth Region of Chile approved the environmental impact study for the construction and operation of the Nueva Aldea Mill Pipeline, which will permit the mill to discharge certain liquid effluents into the ocean. The Nueva Aldea Mill Pipeline commenced its operations in the first quarter of 2010. However, as result of damages to the pipeline caused by the earthquake that occurred in Chile on February 27, 2010, we decided to temporarily suspend our use of the pipeline. As a result, the Nueva Aldea Mill is currently discharging its effluents in the same place in which the mill’s wastewaters were discharged prior to our use of the pipeline.

On February 9, 2009, COREMA approved our request to increase the Nueva Aldea Mill’s production to 20% above the previously authorized level, which was 856,000 metric tons per year. The COREMA determined that it was not necessary for us to present an environmental impact study in connection with our request for increased production. As a result, our total annual authorized production capacity has been increased to 1,030,000 metric tons. Furthermore, on October 7, 2009 we presented an environmental impact declaration requesting an additional increase in the production capacity of the Nueva Aldea Mill from 1,030,000 metric tons to 1,200,000 metric tons per year. The COREMA approved this request on February 4, 2010. As of the date of this annual report, plans to carry out this increase in production capacity are underway.

Argentina

Alto Paraná Mill. Alto Paraná’s softwood pulp mill is located in the Province of Misiones, a region whose soil and climate are favorable for the rapid growth of pine trees. The Alto Paraná Mill is the only bleached softwood kraft market pulp facility in Argentina. The mill has an installed annual production capacity of approximately 350,000 tons of pulp, of which approximately 68% is bleached softwood pulp, currently representing almost all of the total bleached softwood pulp production capacity in Argentina, and approximately 32% is fluff pulp.

Production Costs

Based on information published by Resource Information Systems, Inc., our cash costs for softwood pulp production are significantly lower than the average costs of market pulp producers in Canada, the United States and Scandinavia, particularly with respect to timber and energy costs. While our modern facilities result in depreciation exceeding some of such Northern Hemisphere producers, our costs are still significantly lower than the average costs of our Northern Hemisphere competitors, on a total delivered cost basis. The following table compares our costs for the production of bleached softwood kraft market pulp to the average costs of market pulp producers in selected regions in the Northern Hemisphere for the year ended December 31, 2009.

 

     Bleached Softwood Kraft Pulp Producers’ Cost
     Arauco    British
Columbia
Coast
   British
Columbia
Interior
   United
States
South
   Sweden    Finland
     (in U.S.$ per metric ton for the year ended December 31, 2009)

Wood

   155    182    133    152    264    288

Total chemicals

   70    63    60    89    53    64

Labor

   47    70    65    41    40    48

Others(1)

   31    173    152    133    75    65
                             

Total cash cost

   303    488    419    415    432    465

Depreciation

   35    48    28    65    58    85
                             

Total mill cost

   338    536    447    480    490    550

Transportation(2)

   89    64    93    65    31    40
                             

Total delivered cost

   427    600    540    545    521    590
                             

 

(1)

Includes energy, materials and other production costs.

 

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(2)

Delivered in Northern Europe.

Source: Resource Information Systems, Inc. World Pulp Annual Historical Data, December 2009, except Arauco information, which is furnished by Arauco.

Sales

The total production of bleached kraft market pulp in the global market during the year ended December 31, 2009 was approximately 51.5 million metric tons. Based on information published by Resource Information Systems, Inc., we believe that our production represented 5.0% of this market in 2009. During the year ended December 31, 2009, we sold approximately 95.1% of our bleached pulp in our export markets, principally to customers in Asia and Western Europe.

Integrated manufacturers dominate the world production of unbleached softwood pulp, which leaves non-integrated companies that sell market pulp, like us, with only a small percentage of total production. “Market pulp” is pulp sold to manufacturers of paper products, as opposed to pulp produced by an integrated paper producer for use in its paper production facilities. With a total world production of unbleached softwood kraft pulp of 2.3 million metric tons for 2009, according to Resource Information Systems, Inc., our Constitución Mill was the world’s largest single producer of unbleached softwood market pulp, with 15.7% of the total market in 2009. During the year ended December 31, 2009, approximately 93.6% of our total unbleached market pulp sales consisted of export sales. While for the last five years Asia has been our principal export market for unbleached market pulp, we continually seek niche markets for our products in Western Europe and the United States. Historically, our sales in the Chilean market have been less than 4.0% of our total unbleached pulp sales revenue.

The following table sets forth, by region, the sales volumes of bleached and unbleached pulp for the years indicated.

 

     Year ended December 31,
     2008    2009
     (in metric tons)

Bleached Pulp

     

North and South America

   364,231    333,781

Europe

   671,062    484,406

Asia

   1,335,029    1,865,318

Other

   40,467    23,962
         

Total

   2,410,789    2,707,467
         

Unbleached Pulp

     

North and South America

   56,673    51,012

Europe

   25,590    13,931

Asia

   225,542    344,941

Other

   0    0
         

Total

   307,805    409,884
         

While there are many grades and varieties, pulp is a commodity that is marketed primarily on the basis of price and service. In marketing our pulp, we seek to establish long-term relationships with non-integrated end users of pulp by providing a competitively priced, high-quality, consistent product and excellent service. The consistency of our pulp derives from our high-quality mills and our use of a single species of tree, in contrast to pulp producers in some of the world’s major softwood pulp producing regions that mix different species, depending on availability and seasonality. Our bleached pulp is marketed under the brand names “Arauco” and “Alto Paraná,” and our unbleached pulp is marketed under the brand name “Celco.”

Prices for bleached softwood kraft market pulp produced from radiata pine generally fluctuate depending on prevailing world prices, which historically have been cyclical. The fluctuations generally depend on worldwide demand, world production capacity, business strategies adopted by major forestry, pulp and paper producers and the availability of substitutes. See “Item 5. Operating and Financial Review and Prospects—Management’s Discussion and Analysis of Financial Conditions, Results of Operations and Cash Flows—Overview” and “—Prices.”

 

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The following table sets forth our average bleached and unbleached pine pulp prices per metric ton at the indicated dates, for the years indicated.

 

     2008    2009
     (U.S.$ per metric ton)

Bleached Pulp

     

March 31

   727    446

June 30

   738    486

September 30

   675    556

December 31

   472    637

Unbleached Pulp

     

March 31

   572    392

June 30

   577    416

September 30

   551    552

December 31

   452    598

In accordance with customary pulp market practice, we do not have long-term sales contracts with our customers (except for in a few limited cases); rather we maintain long-standing relationships with our customers with whom we periodically reach agreements on specific volumes and prices. We have a diversified customer base located throughout the world and totaling, as of December 31, 2009, more than 40 clients. As of December 31, 2009, we employed more than 15 sales agents to represent us in more than 30 countries. We manage this worldwide sales network from our headquarters in Chile.

Plywood and Fiberboard Panels

Our panel products consist of plywood and fiberboard panels. At December 31, 2009, we owned two plywood mills and one HB-MDF mill in Chile, one MDF mill and one PBO mill in Argentina, and one MDF mill, one PBO mill and one MDF-PBO mill in Brazil. For the year ended December 31, 2009, sales of panels were U.S.$832.2 million, representing 26.7% of our total sales revenues.

Exports, which include sales to countries other than Chile, Argentina and Brazil, accounted for 54.4% of our total sales revenues of plywood and fiberboard panels for the year ended December 31, 2009. We sell plywood and fiberboard panels primarily to customers in North America, Europe, Brazil, Chile, Argentina and other countries in Latin America.

On March 9, 2005, we acquired from Louis Dreyfus S.A.S. 100% of the stock of LD Forest Products S.A. in Brazil and, indirectly as a result of that purchase, 100% of the stock of Placas do Paraná S.A. and 50% of the stock of Dynea Brasil S.A. We paid an aggregate purchase price for these acquisitions of approximately U.S.$168.0 million. With these acquisitions, we acquired an MDF mill with installed annual production capacity of approximately 250,000 cubic meters, a particleboard mill with installed annual production capacity of approximately 320,000 cubic meters, an impregnated paper mill and a formaldehyde and resin plant.

On October 31, 2005, we acquired from Louis Dreyfus S.A.S. 100% of the stock of Ecoboard S.A.I.F. and Louis Dreyfus S.A.I.F. in Argentina and, indirectly as a result of that purchase, 100% of the stock of CAIF S.A. and LD Manufacturing S.A. and 60% of the stock of Flooring S.A. As a result of these acquisitions, we own a particleboard mill with installed annual production capacity of approximately 260,000 cubic meters, a chemical plant that produces resins used for the production of wood panels, and an MDF and particleboard-based wood floor mill with installed annual production capacity of approximately two million square meters. We paid an aggregate purchase price of approximately U.S.$55.0 million for this acquisition.As discussed in “Item 4. Description of Business—History”, we have expanded our panel production capacity in Brazil. On August 26, 2009, we acquired Tafisa Brasil. Tafisa Brasil’s primary asset is a panel production facility, located in Pien, Brazil, which produces both MDF and particleboard and has an annual total installed capacity of 640,000 cubic meters.

 

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The following table sets forth, by category, our plywood and fiberboard panel sales to unaffiliated third parties for each of the years indicated.

 

     Year ended December 31,
     2005    2006    2007    2008    2009
     (in thousands of cubic meters)

Total plywood and fiberboard panels

   2,046    2,397    2,455    2,353    2,630

Chile

Trupán-Cholguán Mill. This mill has an installed annual production capacity of approximately 580,000 cubic meters of panels. It has three production lines, one produces hardboard with a capacity of 60,000 cubic meters and the other two lines produce MDF with a production capacity of 170.000 and 350.000 cubic meters, respectively.

Arauco Mill. This mill has an installed annual production capacity of approximately 355,000 cubic meters of plywood panels. It has two production lines with respective production capacities of 140,000 and 215,000 cubic meters.

Nueva Aldea Mill. This mill has an installed annual production capacity of approximately 450,000 cubic meters of plywood panels distributed between two lines, each with a production capacity of 225,000 cubic meters.

Argentina

Piray Mill. This mill has an installed annual production capacity of approximately 305,000 cubic meters of panels and produces MDF.

Zárate Mill. This mill has an installed annual production capacity of approximately 260,000 cubic meters of panels and produces PBO.

Brazil

Jaguariaiva Mill. This mill has an installed annual production capacity of approximately 325,000 cubic meters of panels and produces MDF.

Curitiba Mill. This mill has an installed annual production capacity of approximately 270,000 cubic meters of panels and produces PBO.

Pien Mill. This mill has an installed annual production capacity of approximately 640,000 cubic meters of panels distributed in two production lines with a production capacity of 380,000 cubic meters of MDF and 260,000 cubic meters of PBO.

Wood Products

Our wood products consist of sawn timber (green, kiln-dried lumber and flitches) and remanufactured wood products. For the year ended December 31, 2009, revenue from sales of wood products was U.S.$493.9 million, representing 15.9% of our total sales revenues for the period.

The following table sets forth, by category, our wood products sales to unaffiliated third parties for each of the periods indicated:

 

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     Year ended December 31,
     2005    2006    2007    2008    2009
     (in thousands of cubic meters)

Sawn timber

   2,425    2,512    2,650    2,522    1,952

Remanufactured wood products

   360    430    389    348    279

Aserraderos Arauco S.A. was established in 1993 to centralize management and control production in our sawmill and remanufacturing operations. Our sawmills and remanufacturing facilities in Chile are currently operated by independent contractors that are paid sawing service fees calculated on a fixed and variable basis depending on productivity, with price renegotiations in the event of material changes in costs or productivity. Each of our 12 independent contractors operates exclusively for us and only with respect to one sawmill or remanufacturing facility. We believe that our arrangements with independent contractors provide us with greater flexibility and efficiency than performing such activities on our own. We operate our sawmills and remanufacturing facilities in Argentina.

As of December 31, 2009, we had 10 sawmills in operation, eight in Chile and two in Argentina, with aggregate installed annual processing capacity of approximately 5.38 million cubic meters of sawlogs and an aggregate installed annual production capacity of approximately 2.82 million cubic meters of lumber. Contractors that are not related to us or to each other operate our eight sawmills in Chile. We operate our sawmills in coordination with our forestry and sales operations, since our sawn timber is generally produced in accordance with customer specifications. All of our sawmills are located near our pine plantations.

As of December 31, 2009, we also own seven remanufacturing facilities, six in Chile and one in Argentina, that reprocess sawn timber into remanufactured wood products, such as moldings, jams and pre-cut pieces that end users require for doors, furniture and door and window frames. These facilities produced 289,000 cubic meters of remanufactured wood products in 2009.

During 2008, the decrease in demand of sawn timber products, due primarily to the credit crisis and the continued downturn in the real estate market in the United States, resulted in our decision to close the following facilities (indicating the date of closure and the annual lumber production capacity of each facility):

 

   

the Arapoti sawmill (closed on March 31, 2008 with an annual production capacity of 250,000 cubic meters),

 

   

the Lomas Coloradas sawmill (closed on August 9, 2008 with an annual production capacity of 250,000 cubic meters),

 

   

the Coronel sawmill (closed on November 17, 2008 with an annual production capacity of 150,000 cubic meters), and

 

   

the Coelemu sawmill (closed on December 30, 2008 with an annual production capacity of 80,000 cubic meters).

In November 2009 production at the Horcones II sawmill was suspended. However, due to favorable market conditions and in order to restore jobs in a region that was seriously affected by the earthquake, Horcones II resumed operations June 2010 with an annual production capacity of 174,000 cubic meters.

The following is a brief description of our sawmills and remanufacturing facilities and their production capacity, as of December 31, 2009.

Chile

Cholguán Sawmill and Remanufacturing Facilities 1 and 2. This sawmill was acquired in March 2000 and has installed annual production capacity of approximately 330,000 cubic meters of lumber, as well as drying

 

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kiln facilities and two remanufacturing facilities with installed annual production capacity of approximately 70,000 cubic meters of remanufactured wood products. The Cholguán sawmill also has a special facility for making laminating beams with installed annual production capacity of approximately 11,200 cubic meters and drying facilities with installed annual production capacity of approximately 252,000 cubic meters.

Colorado Sawmill. This sawmill has installed annual production capacity of approximately 320,000 cubic meters of lumber and produces “green” sawn timber (or sawn timber that is not kiln dried) for the Chilean, Japanese and Middle Eastern markets. It also has drying facilities with installed annual production capacity of approximately 181,000 cubic meters.

El Cruce Sawmill. This sawmill has installed annual production capacity of approximately 85,000 cubic meters of lumber.

Horcones I Sawmill and Remanufacturing Facility. This sawmill has installed annual production capacity of approximately 360,000 cubic meters of lumber. It also has drying kilns with installed annual production capacity of approximately 412,000 cubic meters and a remanufacturing facility with installed annual production capacity of approximately 136,000 cubic meters of remanufactured wood products.

Horcones II Sawmill (reopened in 2010). This sawmill was closed in November 2009 due to unfavorable market conditions, however it resumed operations in June 2010 with an annual production capacity of approximately 174,000 cubic meters of lumber.

Nueva Aldea Sawmill. This sawmill has installed annual production capacity of approximately 430,000 cubic meters of sawn timber. It is also equipped with drying kilns with installed annual production capacity of approximately 355,000 cubic meters.

Valdivia Sawmill and Remanufacturing Facility. This sawmill has installed annual production capacity of approximately 340,000 cubic meters of lumber. It also has drying facilities with installed annual production capacity of approximately 345,000 cubic meters and a remanufacturing facility with installed annual production capacity of approximately 72,000 cubic meters of remanufactured wood products.

Viñales Sawmill and Remanufacturing Facility. This sawmill has installed annual production capacity of approximately 360,000 cubic meters of lumber. It is also equipped with drying kilns with installed annual production capacity of approximately 231,000 cubic meters and a remanufacturing facility with installed annual production capacity of approximately 120,000 cubic meters of remanufactured wood products.

Mutrún Sawmill (closed in 2010). This sawmill had installed annual production capacity of approximately 130,000 cubic meters of lumber. It was equipped with drying kilns with installed annual production capacity of approximately 90,000 cubic meters. In February 2010, the Mutrún Sawmill was severely damaged by the earthquake and tsunami in Chile, and was closed indefinitely.

Lomas Coloradas Remanufacturing Facility (temporarily closed). This remanufacturing facility has a production capacity of 36,000 cubic meters per year and was temporarily closed in 2008 as a result of the negative impact that the housing market crisis in the United States had on our wood division.

Argentina

Bosetti Sawmill. Alto Paraná S.A. acquired this sawmill in 2004 as part of its purchase of the forestry assets of Pecom Energía S.A. in Argentina. This mill has installed annual production capacity of approximately 150,000 cubic meters of lumber. It also has drying facilities with installed annual production capacity of approximately 180,000 cubic meters.

Piray Sawmill and Remanufacturing Facility. This sawmill, previously known as the Misiones Sawmill, was completed in 2000. It has installed annual production capacity of approximately 320,000

 

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cubic meters of lumber. It is also equipped with drying kilns with installed annual production capacity of approximately 320,000 cubic meters and a remanufacturing facility with installed annual production capacity of approximately 65,000 cubic meters of remanufactured wood products.

Forestry Products

Our forestry products are sawlogs, pulplogs, posts and chips. As a result of our forest management policies and the increasing maturity of our plantations, our plantations are yielding increasing volumes of forestry products, particularly clear wood. As the volume of clear wood has grown, we have broadened our range of forestry products. For the year ended December 31, 2009, sales of forestry products were U.S.$89.5 million, representing 2.9% of our sales revenues for such year.

The following table sets forth, by category, forestry product sales to unaffiliated third parties for each of the years indicated.

 

     Year ended December 31,
     2005    2006    2007    2008    2009
     (in thousands of cubic meters)

Sawlogs

   1,457    1,474    1,562    1,745    1,221

Pulplogs

   254    239    149    457    308

Posts

   88    34    4    15    18

Chips

   109    178    150    96    0

Sustainable Development

In June 2007, we registered three electricity co-generation power plants as projects of the Clean Development Mechanism (CDM) within the Kyoto Protocol. The three power plants, located in Trupán, Nueva Aldea (first phase) and Nueva Aldea (second phase), generate electricity through forestry biomass (meaning forestry and wood industrial sub-products, including the renewable resource called “black liquor”), which is a renewable resource, and replace fossil fuel energy from the electricity grid. In connection with the CDM in June 2007, we sold 482,129 Certified Emission Reductions (CERs or “carbon credits”). With this issuance, we became the first Chilean forestry company to issue CERs through the CDM of the Kyoto Protocol. The following table presents the total amount of CERs sold by Arauco for each of the years indicated.

 

     Year ended December 31,
     2007    2008    2009
     (in tons of CERs)

CERs sold

   482,129    255,592    333,067

In May 2008, we approved the construction of a new biomass cogeneration plant with a capacity of 25 Megawatts and a power boiler with a capacity of 210 tons per hour of steam in the Horcones complex. We anticipate the plant and boiler will commence operations in the second half of 2010. This operation will represent an investment of approximately U.S.$70 million. We expect that this operation will contribute 24 Megawatts per year of additional power to the Chilean Central Interconnected System (SIC), which distributes electrical power throughout the Central and Southern Regions of Chile. We expect to register this new biomass power plant as a CDM project during 2010.

In January 2009, we announced plans to complete a Carbon Footprint Assessment (CFA) in order to determine the amount of carbon dioxide stored in our wood products and, to calculate the carbon dioxide emissions resulting from our plantation business. The results of the assessment were obtained in July 2009.

In April 2009, we successfully registered a fourth CDM project: the Valdivia biomass power plant.

 

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Competition

We experience substantial worldwide competition in each of our geographical markets and in each of our product lines.

Pulp

In general, our competitors in the pulp market vary depending on the geographical region and variety of pulp involved. CMPC Celulosa S.A. and Fibria Cellulose S.A. are our main competitors in most geographical regions. While Fibria produces hardwood pulp only, CMPC produces both softwood and hardwood pulp. In Asia, we also face competition from Canadian, Brazilian, Russian and Indonesian producers. In Europe, we also face competition from Brazilian, Scandinavian and American producers. Our main competitors with respect to unbleached softwood pulp are from Canada and Russia.

Plywood and fiberboard panels

Arauco’s principal competitors in the plywood markets are located in the United States, Finland and Russia. In some regions, Arauco also competes with hardwood plywood produced in China, Africa and other regions of the world.

Arauco’s main competitors in the MDF market are: in Latin America, Duratex S.A., Masisa S.A. and other large South American producers; in North America, local producers such as Flakeboard Company Limited and Roseburg Forest Products Co.; in Asia, producers from Malaysia and China, and in the Middle East, European producers.

For sales of PBO, we focus on the Latin American market, where we compete with Duratex S.A., Masisa S.A., Berneck S.A. and Fibraplac S.A.

Wood Products

For remanufactured wood products, our main competitors are located in Chile, Brazil, and the United States. For sawn timber, our main competitors are located in Europe, New Zealand, Canada, and Chile. Arauco believes that its operating efficiencies, competitive logistics costs, ability to serve customers with multiple specifications, geographical presence in thirty eight countries and the versatility of its radiata and taeda pine allow it to compete effectively in the world market for wood products.

Transportation, Storage and Distribution

To remain competitive worldwide, we ship our products to various distribution centers around the world from which final delivery to the customer is made. Historically, we and other Chilean forestry products producers have coordinated our transportation requirements to achieve larger lots to fill specially designed forestry products ships and thus obtain competitive freight rates.

The following are the principal Chilean ports that we use, each of which are operational as of the date of this annual report:

 

   

Coronel. A private port located between Concepción and the Arauco Mill, which we constructed as a member of a consortium with five other companies and in which we have an equity interest of 50%. We shipped approximately 27.2% of our aggregate export volume through this port in 2009;

 

   

Lirquén. A private port in Concepción in which we have an equity interest of 20.1% and through which we shipped approximately 36.5% of our aggregate export volume during 2009; and

 

   

San Vicente and Talcahuano. State-owned ports near the city of Concepción through which we shipped approximately 36.3% of our aggregate export volume during 2009.

 

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The ports we use in Chile are approximately 55 kilometers from the Arauco Mill, 330 kilometers from the Constitución Mill, 390 kilometers from the Licancel Mill, 100 kilometers from the Nueva Aldea Mill, and 410 kilometers from the Valdivia Mill. We do not own pulp storage warehouses in any of these ports.

We ship pulp to various ports in Europe, North and South America and Asia and, as is customary in the pulp industry, we store some stock in those ports. We use 11 foreign ports that have warehouse facilities available, and standard storage terms provide that we are entitled to a certain period of storage free of charge. We seek to ensure that it does not exceed the free storage period for each shipment. At December 31, 2009, we had approximately 94,594 air dry metric tons of pulp in storage in warehouses at foreign ports.

We believe that our shipping costs are comparable to those of our international competitors, notwithstanding Chile’s greater distance from Europe, because of the proximity of our plantations and mills to the Pacific coast and the economies of scale we achieve through the volume of our exports.

In Argentina, timely and competitively priced delivery of finished products to our customers is an important factor in our ability to compete effectively, and we ship most orders either by truck or railway almost immediately after they are produced.

In Brazil, our efficient distribution system, which delivers finished products to almost two thousand customers in over 250 cities, many of which are separated by long distances, is a key component to our competitiveness.

Description of Property

Our principal properties consist of land and production plants and facilities, the majority of which are located in Chile. At December 31, 2009, we owned approximately 1,099,846 hectares of land in Chile, over 735,824 hectares of which consist of forest plantations, and 637,910 hectares of land in Argentina, Brazil and Uruguay, of which 320,809 consist of forest plantations. In addition, at December 31, 2009, we owned various plants and facilities, including five pulp mills, three panel mills, eight sawmills and six remanufacturing facilities in Chile; one pulp mill, two sawmills, one MDF mill, one PBO mill and one remanufacturing facility in Argentina; and one MDF mill, one PBO mill and one MDF-PBO mill in Brazil. In Brazil, the Arapoti sawmill was closed on March 31, 2008. In Chile, the Lomas Coloradas sawmill, the Coronel sawmill and the Coelemu sawmill were closed in 2008. In 2009 Horcones II was temporarily closed, with operations restarting in June 2010. In February 2010, the Mutrún sawmill was severely damaged as a result of the earthquake and is closed indefinitely.

Insurance

Consistent with industry practice, we maintain fire insurance coverage for all our Chilean forest holdings and nurseries but do not insure against pests or disease. Depending on the age of the trees affected, our insurance covers timber loss, either at replacement cost or commercial value. In Argentina we maintain fire insurance for 8,520 hectares of timber assets located in the Campana region, near Buenos Aires. For the rest of our Argentine operations we do not maintain fire insurance for our timber assets because we believe that the risk of damage from fire is low because Argentina receives significant amounts of rainfall, particularly during the summer months. We do not carry fire insurance for our forests in Brazil because the risk of damage from fire does not justify the costs of carrying insurance.

We also carry insurance, consistent with industry practice, covering our production plants, facilities and equipment. This insurance provides coverage, in the event of fire, explosion, machinery breakdown or natural disaster, which includes earthquakes and tsunamis. The insurance covers up to an amount of U.S.$650 million, which includes physical damage and 12 months of business interruption (18 months in the case of a boiler explosion in our pulp mills), with a deductible of U.S.$3.3 million for asset damage and 21 days for business interruption. All of our insurance policies covering our forest holdings and production plants, facilities and equipment in Chile are carried by the RSA group, Mapfre S.A., Chartis S.A. and Ace Group.

The forestry insurance is carried by the RSA Group and Penta Security Compañía de Seguros SA. Our insurance policies for facilities and equipment in Argentina are carried by the RSA Group, Mapfre S.A., Ace Group,

 

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La Meridional (part of American International Group, Inc.) and the Zürich Financial Services Group, and these policies cover damage resulting from fire. Our MDF and particleboard mills in Brazil are insured by Itaú XL Seguros Corporativos and Allianz Seguros S.A., and these policies cover fire, explosions, electrical damage, equipment damage and loss of profit.

CAPITAL EXPENDITURES

To utilize our increasing volume of forest production, we have added to, expanded and modernized our processing facilities. In 2009, aggregate capital expenditures were U.S.$362.7 million, consisting primarily of U.S.$95.2 million in acquisitions of biological assets, U.S.$212.2 million in internal projects within our existing mills, U.S.$32.0 million in the construction of a new biomass cogeneration plant in the Horcones Complex, U.S.$5.9 million in the construction of the Nueva Aldea Pipeline and U.S.$17.4 million in the installation of a new biomass cogeneration power plant in the Viñales sawmill. In August 2009 Arauco acquired Tafisa Brasil, an investment of U.S.$167.0 million (calculated as of the December 2009 Brazil real-U.S. Dollar exchange rate). In October 2009, through a joint venture with Stora Enso, Arauco acquired forest assets in Uruguay. The aggregate value of the assets acquired as a result of this transaction was U.S.$335 million, of which Arauco paid 50% (or approximately U.S.$167.5 million).

These capital expenditures represent amounts accrued for purposes of our audited consolidated financial statements and do not necessarily represent the cash cost of capital expenditures in 2009.

For the year ending December 31, 2010, we have planned capital expenditures of approximately U.S.$650.0 million, which principally include U.S$102.4 million in acquisitions of biological assets, U.S.$289.2 million in internal projects within our existing mills, an additional U.S.$49.6 million for the biomass cogeneration power plant in the Viñales sawmill, U.S.$58.8 million in increased production capacity at the Nueva Aldea Mill and approximately U.S.$100.0 million for property and assets damaged by the earthquake that occurred in Chile on February 27, 2010 (which amount is almost completely covered by insurance).

GOVERNMENT REGULATION

Environment

In each country where we have operations, we are subject to numerous national and local environmental laws, regulations, decrees and municipal ordinances concerning, among other things, health, the handling and disposal of solid and hazardous waste, discharges into the air, soil and water and other environmental impacts. Some of these laws require us to conduct environmental impact studies of future projects or activities (or major modifications thereto). Under these laws, our operations may be subject to specific approvals, consents and regulatory requirements, and emissions and discharges may be required to meet specific standards and limitations. We have made and will continue to make substantial expenditures to comply with such environmental laws, regulations, decrees and ordinances.

Chile

The Chilean legislation to which we are subject includes the Chilean Environmental Law (Ley Sobre Bases Generales del Medio Ambiente) and related regulations. The Chilean Environmental Law created the National Environmental Commission (Comisión Nacional del Medio Ambiente), or CONAMA, which includes under its organization the various Regional Environmental Commissions (the COREMAs). CONAMA is a public agency under the supervision of the President of Chile through the Environmental Ministry (Ministro Presidente de la Comisión Nacional del Medio Ambiente). These commissions are responsible for, among other things, coordinating existing environmental regulations and evaluating environmental impact studies or declarations of environmental impact. Under the Chilean Environmental Law, we are required to conduct environmental impact studies or declarations of environmental impact of any future projects or activities (or their significant modifications) that may affect the environment. These and other regulations also establish procedures for private citizens to object to the plans or studies submitted by project owners.

 

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CONAMA, the COREMA, and other governmental agencies may also participate in the oversight of the implementation of projects in accordance with their environmental impact studies or declarations of environmental impact. Under the Chilean Environmental Law and other regulations, affected private citizens, public agencies and local authorities can sue to enforce environmental compliance. Enforcement remedies include temporary or permanent closure of facilities and fines. The application of these environmental laws and remedies may adversely affect the manner in which we seek to implement our business strategy and our ability to realize our strategy.

On January 26, 2010, Law No 20,417 was published in the Official Gazette. This new law replaces the existing CONAMA and COREMA with a new set of public institutions: the Ministry of the Environment (aimed at developing national environmental policy), the Service of Environmental Evaluation (in charge of administering the environmental assessment system) and the Superintendency of Environment (in charge of supervising and auditing environmental compliance). The creation, functioning and attributes of these new institutions are subject to the publication of administrative decrees by the President of Chile, which have been sent to the Comptroller General of Chile for review in accordance with Chilean law. Nevertheless, certain provisions of the Law No 20,417 are already in force, including minor procedural modifications to the Environmental Impact Evaluation System (“SEIA”), such as the requirement that local authorities opine on the compatibility of projects or activities submitted to the SEIA with local territorial ordinances and/or plans and the prohibition against dividing up projects for the purpose of avoiding mandatory submission to the SEIA, among others. These decrees are expected to be published and to become effective by the end of 2010.

We recently faced, and continue to face, certain environmental proceedings in connection with certain of our pulp mills. For a description of these proceedings, see “Item 8. Financial Information Litigation Proceedings.”

Argentina

Our operations in Argentina are subject to Argentine environmental legislation, including regulation by municipal, provincial and federal governmental authorities. Argentine environmental legislation includes the requirement that water used or recovered in the production process be treated and purified before being returned to the Paraná River at the proper temperature. All gaseous emissions must be scrubbed to ensure satisfactory levels of waste particle recovery and odor removal. Regular testing of river and air quality is used to monitor the ultimate impact of the mill on the environment.

We believe that we are currently in material compliance with all applicable local and national environmental regulations governing our operations in Argentina.

Brazil

Our Brazilian operations are subject to environmental legislation, including municipal, regional and federal governmental laws, regulations and licensing requirements. Law No. 6,938 establishes strict liability for environmental damage, mechanisms for enforcement of environmental standards and licensing requirements for activities that are damaging or potentially damaging to the environment. A violation of environmental laws and regulations may result in

 

   

fines,

 

   

partial or total suspension of activities,

 

   

forfeiture or restriction of tax incentives or benefits, or

 

   

forfeiture or suspension of participation in credit lines with official credit establishments.

As a result, we may become liable for environmental damages caused by management of our materials, including damages caused during the transportation, treatment and disposal of our industrial waste, even where third parties manage such activities on our behalf.

 

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Law No. 9,605 provides that individuals or entities whose conduct or activities cause harm to the environment are subject to criminal and administrative sanctions and are liable for any costs to repair the damages resulting from such harm. For individuals who commit environmental crimes, criminal sanctions range from fines to imprisonment; for legal entities, criminal sanctions may include fines, partial or total suspension of activities, restrictions on participation in government contracts and, in cases of bad faith, dissolution. In addition, Law No. 9,605 also establishes that the corporate structure of a company may be disregarded if the structure impedes the recovery for harm caused to the environment. We are not aware of any successful assertion of claims against shareholders under this provision of Law No. 9,605.

We believe we are currently in material compliance with all applicable local and national environmental regulations governing our operations in Brazil.

Forestry Regulation

Chile

The management and exploitation of forests in Chile is regulated by the Forests Law of 1931, as amended, and Decree-Law No. 701 of 1974, as amended. The Forests Law and Decree-Law No. 701 impose a variety of restrictions on the management and exploitation of forests. Forestry activities, including thinning, on land that is designated as preferably suited for forests or that has natural or planted forests, are subject to management plans that require the approval of the CONAF (National Forest Service). In addition, the Forests Law and Decree-Law No. 701 impose certain standards for the prevention of forest fires, as well as fines for the harvesting or destruction of trees and shrubs in violation of the terms of a forest management plan. We believe that we are in material compliance with the Forests Law and Decree-Law No. 701.

Law No. 20,283, published in the Official Gazette on July 30, 2008, provides a new policy for the management and conservation of native tree forests and forest development. Its purposes are the protection, recovery and improvement of native forests in order to guarantee both forest sustainability and environmental policy. This law establishes a fund for the conservation and sustainable management of native forests. According to the new law, owners of native forests are able to exploit them so long as they have a “management plan” approved by the National Forestry Corporation. Depending on the owner’s approved plan, as well as other factors, the subsidy provided by the fund may vary between U.S.$200 and U.S.$400 per hectare. The law also prohibits the harvesting of native trees in certain areas and under certain conditions. Management believes that this law will not have a material effect on our business. In compliance with applicable regulations, we have adopted environmentally sensitive policies towards our holdings of native forests, which are protected and preserved in their entirety. Our products come from established plantations only; we do not sell any products derived from our native forests. Arauco’s forestry operations adhere to our international control systems, which are all in accordance with current legislative and environmental sustainability standards. Certain of our subsidiaries have received various environmental certifications as of the date of this annual report. See Item 4. “Description of Business—Forestry Activity”.

All of our forest activities are ISO 14001 certified since 2001. During 2003, we obtained CERTFOR Forest Management Certification in Chile. In 2004, PEFC (the Programme for the Endorsement of Forest Certification) undertook its first audit of our operations and confirmed that we complied with international PEFC requirements. See “Item 4. Information on the Company—Description of Business—Forestry Activity.”

In 2005, CERTFOR certified the chain of custody of the Arauco, Constitución, Licancel and Valdivia pulp mills and Arauco and Nueva Aldea plywood mills, pursuant to the Sustainable Forestry Management practices, which require that sources used for production are not endangered or that their use is not otherwise prohibited. The National Regulatory Institute (Instituto Nacional de Normalización) also accredited the effluent laboratories of the Constitución and Arauco wood mills in accordance with the strict requirements of Chilean environmental standards.

In 2009, Arauco began the pre-assessment process for FSC (Forest Stewardship Council) forest management certification. This pre-evaluation allowed us to identify the Company’s position regarding FSC principles and criteria, allowing it to better prepare for the FSC’s official assessment. This pre-assessment process covered all of Arauco’s forest operations in Chile and was conducted by Woodmark, a Soil Association certification body.

 

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Argentina

The management and exploitation of forests in Argentina is regulated by National Law 13,273, National Law 25,080, National Decree 710, Provincial Law No. 854, Provincial Law No. 3,426 and other regulations promulgated thereunder, which collectively constitute the regulatory framework. The regulatory framework imposes a variety of restrictions on the management and exploitation of forests in Argentina. The regulatory framework regulates the replanting of land after harvesting. We believe that our Argentine operations are in material compliance with the regulatory framework.

Brazil

Environmental laws and regulations relating to the management and exploitation of forests and the protection of Brazilian plant and wildlife govern our Brazilian forestry operations. Under this regulatory framework Brazilian authorities establish forest preservation areas and regulate replanting of forests after harvesting. We believe that our Brazilian operations are in material compliance with the regulatory framework.

 

Item 5. Operating and Financial Review and Prospects

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION, RESULTS OF OPERATIONS AND CASH FLOWS

The following discussion is based on and should be read in conjunction with our audited consolidated financial statements and the notes thereto, included elsewhere in this annual report. Our consolidated financial statements are prepared in U.S. dollars in accordance with IFRS.

Overview

We derive our sales revenue from the sale of bleached and unbleached pulp, forestry products, such as sawlogs and pulplogs, plywood and fiberboard panels and wood products, such as sawn timber and remanufactured wood products. For the year ended December 31, 2009, export sales constituted approximately 76.2% of our total sales revenue. Sales of pulp constitute the single largest component of our sales revenue. As with many commodities, pulp is subject to significant cyclical price fluctuations determined by global supply and demand. Accordingly, our sales revenue is subject to cyclical fluctuations. World prices for forestry and wood products, which are also generally viewed as commodities, fluctuate significantly.

Although prices tend to have the most significant effect on our results of operations, sales volume and product mix, costs and exchange rate fluctuations also can have a substantial impact on our results.

Our business , results of operations and cash flows depend, to a large extent, on the level of economic activity, on government and foreign exchange policies and on political and economic developments in our principal export markets. In 2009, we exported our products to Asia, to North, Central and South America, to Europe and, to a lesser extent, to Africa and the Middle East. In 2009, approximately 94.9% of our total pulp sales and approximately 60.4% of our total forestry, wood products and panel product sales were attributable to exports, principally to customers in the Americas, Asia and Western Europe. Our business, earnings and prospects may be materially and adversely affected by developments in these export markets with respect to inflation, interest rates, currency fluctuations, protectionism, government subsidies, price and wage controls, exchange control regulations, taxation, expropriation or social instability, as well as by political, economic or diplomatic developments.

At December 31, 2009, approximately 76.6% of our property, plant, equipment and forest assets were located in Chile, approximately 11.7% were located in Argentina and approximately 11.7% were located in Brazil. In 2009, approximately 80.1% of our consolidated sales revenue was derived from our operations in Chile, approximately 11.6% of our consolidated sales revenue was derived from our operations in Argentina, and approximately 8.3% of our consolidated sales revenue was derived from our operations in Brazil. Accordingly, our financial condition, results of operations and cash flows depend, to a significant degree, upon economic conditions in Chile, Argentina and Brazil.

 

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Despite growth in the 1980s and 1990s, the Chilean economy has remained smaller than that of certain other Latin American countries. In 2004, GDP growth was stronger than previous years, reaching 6.07% and 5.67% in 2005. The GDP grew at a slower rate in subsequent years (4.6% in 2006, 4.6% in 2007 and 3.7% in 2008). In 2009, the Chilean GDP contracted 1.5%, mainly due to the global financial crisis.

From late 1998 to 2002, the Argentine economy went through an economic recession marked by reduced levels of consumption and investment and an elevated unemployment rate. Argentine GDP decreased by 0.8% in 2000, 4.0% in 2001 and 10.9% in 2002. In December 2001, amid public demonstrations and the resignation of the Argentine president, Argentina declared a suspension on payment of its foreign debt. In early 2002, the government released the Argentine peso from its one-to-one peg to the dollar and allowed the exchange rate to float, resulting in a 49.6% devaluation of the Argentine peso from January 1, 2002 to December 31, 2002. From 2003 to 2008, economic indicators showed signs of recovery, and the Argentine GDP increased by 8.8% in 2003, 9.0% in 2004, 9.2% in 2005, 8.5% in 2006, 8.7% in 2007. In 2008 the Argentine economy growth slowed to 6.8%. Due to the global financial crisis, Argentina’s GDP grew by only 0.9% in 2009. The future economic, social and political developments in Argentina, over which we have no control, could impair Alto Paraná’s business, financial condition or results of operations.

Brazil’s GDP decreased by an estimated 0.2% in real terms in 2009, compared to a growth rate of 4.8% in 2008 and 5.4% in 2007. This decrease is mainly explained by the financial crisis. Analyzing the previous years, the GDP decreased 0.5% in 2003, mainly due to uncertainty regarding the election process and new economic policies to be implemented by the newly elected government of President Luis Ignacio Lula da Silva. The Brazilian real/U.S. dollar exchange rate also experienced turbulence in that period. During 2001, the Brazilian real declined in value by 18.7% against the U.S. dollar, and in 2002, it further devalued by 52.3%, closing at R$3.5333/U.S.$1.00 on December 31, 2002. These changes were attributable primarily to uncertainties regarding the ongoing presidential election process. Those concerns dissipated during 2003, resulting in an appreciation of the Brazilian real by 18.2% against the U.S. dollar in that year. During 2004, the Brazilian real continued to recover against the U.S. dollar, with an 8.8% appreciation. The Brazilian real appreciated 20.7% in 2007. In 2008 and 2009, the real depreciated against the dollar by 32.2% and 34.2% respectively.

The global financial crisis has severely impacted the global paper industry, and current global economic conditions have resulted in a decrease in demand for forest products in all markets, including Latin America. Our financial condition, results of operations and cash flows could be materially and adversely affected if the global economic conditions continue to deteriorate. Future developments in the Chilean, Argentine and Brazilian economies may impair our ability to proceed with our strategic plan or our business, financial condition or results of operations. Our financial condition, results of operations and cash flows could also be materially and adversely affected by changes in political, economic, regulatory or other policies of the Chilean, Argentine and Brazilian governments, which have exercised and continue to exercise substantial influence over many aspects of the private sector in these countries, or other political or economic developments in Chile, Argentina and Brazil, as well as regulatory changes or administrative practices of Chilean authorities, over which we have no control.

Valdivia Mill Closure

Our operations at the Valdivia Mill, an industrial development in the Province of Valdivia in the Fourteenth Region of Chile (which was previously part of the Tenth Region of Chile), have been subject to continued environmental scrutiny by Chilean environmental regulators and the Chilean public since the mill began its operations in 2004. A variety of concerns and claims have been raised regarding potential environmental impacts in the area. Primarily, it was alleged that the mill’s operations impacted the nearby Carlos Anwandter Nature Sanctuary and contributed to the migration and death of black-neck swans living in the area. In connection with an environmental administrative proceeding, environmental regulators required us to temporarily suspend operations at the Valdivia Mill for approximately one month in January 2005. We resumed operations at the mill on February 18, 2005.

On June 8, 2005, we voluntarily suspended operations at the Valdivia Mill, until certain technical and legal conditions could be clarified with the applicable regulatory authorities. We estimate this voluntary suspension resulted in a loss of sales of approximately U.S.$1.0 million per day and a loss of profits of approximately U.S.$250,000 per day. Pursuant to the decision of our board of directors, based on certain clarifications provided by

 

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the Environmental Regional Commission (Comisión Regional del Medio Ambiente), or COREMA, of the Tenth Region of Chile, the mill resumed operations on August 12, 2005 at 80% of its authorized production capacity, after 64 days of suspended operations. In order to achieve the full production capacity authorized by applicable permits, the mill had to fulfill certain new requirements established by the COREMA. On January 18, 2008, the COREMA authorized the Valdivia Mill to return to its annual authorized production capacity of 550,000 metric tons. The mill gradually increased its production over a four-month period starting in March 2008 and reached full capacity in June 2008. The suspension of operations at the Valdivia Mill adversely affected our business, financial condition, results of operations and cash flows. Any future suspension of operations at the Valdivia Mill or at any other of our significant operating plants can be expected to have similar adverse effects. We offer no assurance that the Valdivia Mill will be able to operate without further interruption. See “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Valdivia Mill” and “Item 8. Financial Information—Legal Proceedings.”

Licancel Mill Closure

Since June 2007, our operations at the Licancel Mill, a pulp mill located in the Seventh Region of Chile, have been subject to environmental scrutiny by Chilean environmental regulators and the public. On June 5, 2007, in connection with the death of fish in the Mataquito River, approximately 15 kilometers downstream of the mill, we decided to voluntarily suspend our operations in the Licancel Mill as a preventive measure. In addition, Chilean authorities, including the health authorities and the Superintendencia de Servicios Sanitarios (Sanitary Services Superintendency), required that we suspend activities at the Licancel Mill and that we suspend any further discharges into the river. On June 18, 2007, as a result of a pipe leakage in the effluent treatment system currently in place at the Licancel Mill, an estimated 50 cubic meters of effluents reached the Mataquito River. On that same date, we decided to close the mill indefinitely and informed the Sanitary Services Superintendency of the incident. On October 3, 2007, Arauco requested that the health authority (Autoridad Sanitaria) of the Seventh Region of Chile that it remove the suspension of activities at the Licancel mill. On October 22, 2007, the health authority of the Seventh Region of Chile removed the suspension and imposed certain conditions, consisting primarily of the implementation of certain emergency detection and control programs and systems with which Arauco has complied. Furthermore, on November 12, 2007 the Sanitary Services Superintendency removed the suspension regarding the release of discharges by the Licancel mill. The mill resumed operations during January 2008, using the new effluent treatment system in which we invested U.S.$8 million during 2007.

We estimate that the suspension of operations at the Licancel Mill resulted in a total loss of profits of approximately U.S.$24 million. Several administrative and judicial proceedings have been commenced regarding the events at the Licancel Mill and the death of fish at the Mataquito River, including a civil lawsuit instituted by the National Defense Council seeking reparations, damages and indemnification from us for environmental harm allegedly caused by the Licancel Mill, which action was subsequently terminated by agreement of the parties. However, the resolution that approved the agreement and declared the lawsuit terminated was challenged by certain third parties. This action remains under review by the tribunal as of the date of this annual report. We can offer no assurance that the Licancel Mill will be able to operate without further interruptions. Any future suspension of operations at the Licancel Mill may adversely affect our business, financial condition, results of operations and cash flows. See “Item 8. Financial Information—Legal Proceedings” and “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Licancel Mill.”

Prices

In recent years, our sales revenue has been affected by price level volatility in the export market. The prices for each of our pulp, panels, wood and forestry products depend on the markets in which they are sold. While prices are generally similar for a given product on a global basis, regionalized market conditions affect prices in markets such as Asia, Europe and the United States.

 

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The following table sets forth, for the periods indicated, average unit sales prices for our products.

 

     Year ended December  31,(1)

Product(2)

   2008    2009
     (U.S.$ per metric ton)(3)

Pulp

     

Bleached pulp

   670.5    517.4

Unbleached pulp

   572.8    497.7
     (U.S.$ per cubic meter)(3)

Wood Products

     

Sawn timber

   183.4    154.7

Remanufactured wood products

   708.0    687.6

Panels

     

Plywood and fiberboard panels

   395.6    315.9

Forestry Products

     

Sawlogs

   46.1    37.9

Pulplogs

   28.1    33.4

Posts

   216.5    208.3

 

(1)

Calculated as average unit prices for the year based on our internally collected data.

(2)

Each category of product contains different grades and types and the shipping terms vary with the product, as well as the customer.

(3)

We generally quote our prices in U.S. dollars for export sales and in Chilean pesos, Argentine pesos or Brazilian reals for domestic sales.

Pulp Prices

Historically, world pulp prices have been subject to significant fluctuations over relatively short periods of time. Pulp prices mainly depend on worldwide demand, world production capacity, worldwide pulp and paper inventory levels and availability of substitutes, and in general terms, are directly related to global economic growth. All of these factors are beyond our control.

Prices for bleached grades of hardwood pulp, including eucalyptus, generally follow the same cyclical pattern as prices for Norscan Bleached Softwood Kraft market pulp, or NBSK, which is the benchmark for softwood bleached pulp. However, the latter historically has had higher prices mainly due to lower global supply. Moreover, during the last five years, the majority of the added global pulp production capacity has been dedicated to the production of hardwood pulp, particularly eucalyptus pulp.

Prices for unbleached softwood market pulp also follow cyclical patterns related to worldwide demand. Unbleached softwood market pulp represents about 4.3% of the total wood pulp market. The majority of such pulp is sold in Asia, and its price does not necessarily follow the cycle of prices for NBSK or Bleached Eucalyptus Kraft Pulp (“BEKP”).

During 2009, pulp prices for all grades increased with respect to 2008, which was mainly explained by a recovery from the global financial crisis that began during the second half of 2008. This recovery brought as a consequence lower average inventory levels and higher demand for pulp, which are key drivers for price increases.

The market price for NBSK was U.S.$598.69 per ton at December 31, 2005, a 3.6% decrease as compared to December 31, 2004. The price of U.S.$730.0 per ton recorded at December 31, 2006 represented an increase of 21.9% as compared to December 31, 2005. The price for NBSK was U.S.$869.30 at December 31, 2007, which represented an increase of 19.1% when compared to December 31, 2006. The price for NBSK was U.S.$641.51 at December 31, 2008, a 26.2% decrease as compared to December 31, 2007. The price of U.S.$798.77 per ton recorded at December 31, 2009 represented an increase of 24.5% as compared to December 31, 2008.

The market price for BEKP was U.S.$589 per ton at December 31, 2005, which represented a 13.3% increase over the price at December 31, 2004. At December 31, 2006, the price for BEKP was U.S.$671.6 per ton, which represented a 14.0% increase over the price at December 31, 2005. The price for BEKP at December 31,

 

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2007 reached U.S.$775.20, which represented a 15.4% increase over the price at December 31, 2006. At December 31, 2008, the price for BEKP was U.S.$584.54, which represented a 24.6% decrease as compared to December 31, 2007. The price for BEKP at December 31, 2009 reached U.S.$700, which represented a 19.8% increase of over the price at December 31, 2008.

The market price for unbleached kraftwood pulp, or UKP, reached U.S.$460.0 per ton at December 31, 2005, which represented a decrease of 20.0% as compared to the price of December 31, 2004. In 2006, prices increased reaching U.S.$586.9 per ton by December 31, 2006, which represented an increase of 27.5% over the price at December 31, 2005. The price at December 31, 2007 reached U.S.$598.5, which represented a 19.8% increase over the price at December 31, 2006. The price at December 31, 2008 dropped to U.S.$455.76, which represented a decrease of 23.8% as compared to December 31, 2007. The price at December 31, 2009 was U.S.$603.65, which represented a 32.4% increase over the price at December 31, 2008.

Forestry, Wood Product, Plywood and Fiberboard Prices

Over the last five years, the average prices for our forestry and wood products have fluctuated significantly, reflecting the effect on demand of global economic developments.

In spite of strong international growth and demand for wood products in 2005, prices in the U.S. declined during the first three quarters of 2005 due to excess inventories of panel and remanufactured wood products at distributors. This trend affected the average prices for wood products during 2005. By the end of 2005, the average prices for wood products demonstrated signs of recovery. However, the continued weakening of the construction sector in the United States caused a decrease in the price and demand for wood, particularly moldings, during 2006.

The continued weakening of the construction sector in the United States throughout 2006 caused a decrease in the price and demand for wood, especially in moldings in that market. Along with the markets in Asia, the Middle East and Central America have been strengthening and Europe registered strong demand and prices for wood throughout 2006. The prices of plywood in the United States and Canada slightly decreased during 2006, while the other markets maintained levels comparable to those for 2005. The demand for products directed at furniture markets in Latin America remained strong during the year, and sales of medium-density fiberboard (MDF) panels also experimented important improvements due to the high demand in all the markets in which Arauco participates, which are concentrated in North, Central and South America.

The complications related to the United States construction and real estate markets continued throughout 2007. The construction sector has continued to be affected by a significant stock of unsold houses, which caused construction to fall 30% in the United States during 2007. This negatively affected the sales volume of wood. Prices of moldings and wood continued to decrease. From a commercial point of view, 2007 was marked by an increase in the demand in virtually all markets for panels. In Europe, consumer trends favoring products with a sustainable forestry management certification increased demand for the entire range of Arauco’s panels. In the United States, the strong contraction of the real estate sector adversely affected the sale of MDF moldings. This was offset, however, by the strong increase in the demand for MDF boards in Latin America. In the case of Arauco’s plywood panels, the demand benefited from a decrease in the supply from other manufacturers and by the highly diversified applications of these products unrelated to the construction sector.

The slowdown in the global growth markets during 2008 continued to affect the demand for timber in all markets. The construction sector continued to decline in the United States. In particular, the construction of houses declined to a rate of approximately 550,000 houses per year by December 2008, which negatively compares with the 2 million homes built in the United States during 2006. This decline negatively affected the sales volume and prices of wood and moldings, which reached their lowest levels during the last quarter of 2008. During most of 2008 there was a consistent demand for panels, which resulted in an increase in price in most of the products produced by Arauco. During the latter part of 2008, however, demand lowered, which negatively affected sales volume and prices of plywood and MDF in most markets, especially in the United States and Europe.

The fiscal year 2009 was challenging for the panels business due to low demand and a weak dollar. However, Arauco was able to sell all panels production without any plant shutdown despite the decline in demand. This was due to Arauco’s geographic diversification, with sales in over forty countries, and to Arauco’s broad product portfolio.

 

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Prices for our pulp, panel, forestry and wood products may decline in the future. Our results of operations may be materially adversely affected if the prices of our products were to decline from current levels.

Costs

Our major costs of sales are the following:

 

   

the cost of timber,

 

   

costs related to harvesting (forestry works),

 

   

maintenance costs,

 

   

chemical costs,

 

   

the cost of sawmill processing,

 

   

depreciation, and

 

   

energy and fuel costs.

Our major administrative and selling expenses are wages and salaries, traffic, shipping and freight costs, insurance expenses and commissions.

IAS 41 requires that biological assets, such as standing trees, are shown on the balance sheet at fair value. Our forests are thus accounted for at fair value less estimated point-of sale costs at harvest, considering that the fair value of these assets can be measured reliably.

The recovery of forest plantations is based on discounted cash flow models, which means that the fair value of biological assets is calculated using cash flows from continuing operations discounted on the basis of our sustainable forest management plans and the estimated growth of our forests. This recovery is performed on the basis of each stand identified and for each type of tree species.

These discounted cash flows require estimates in growth, harvest, sales prices and costs. It is therefore important that management make appropriate estimates of future levels and trends for sales and costs, as well as administer regular surveys of the forests to establish the volumes of wood available for harvesting and their current growth rates.

Our property, plant and equipment are depreciated on a straight-line basis over the remaining useful lives of the underlying assets. However, the amount of such depreciation that relates to our fixed production assets, such as pulp mills and sawmills, is allocated to finished goods held as inventories and accumulates until charged to cost of sales when the finished goods are sold. Forests and land are not depreciated.

Selling expenses consist primarily of per ton fees we paid to our selling agents. Traffic, shipping and freight costs are the costs of carrying the product to the destination.

During 2008, cost of sales increased principally due to higher cost of wood. Cost of chemicals and freight costs also increased due to a high average price in petroleum, especially during the first three quarters of the year.

During 2009, cost of sales decreased by 7.7% as a result of lower sawn timber sales volume as well as lower unit costs of wood, chemicals and energy, reflecting Arauco’s stringent cost management and favorable market conditions for raw materials.

 

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Exchange Rate Fluctuations

The Chilean peso has been subject to devaluation in the past and could be subject to significant fluctuations in the future. During 2009, the value of the Chilean peso relative to the U.S. dollar increased approximately 25.5% in nominal terms and approximately 23.8% in real terms, based on the observed exchange rates on December 31, 2008 and December 31, 2009. The observed exchange rate on June 22, 2010 was Ch$530.32 to U.S.$1.00. For information regarding historical rates of exchange in Chile from January 1, 2004 see “Item 3. Key Information—Exchange Rates.”

We generally price our exports in U.S. dollars, whereas our domestic sales in Chile are priced in Chilean pesos; domestic sales in Brazil are priced in reals and domestic sales in Argentina are priced in Argentine pesos except for pulp sales, which are priced in U.S. dollars. To the extent that the Chilean peso depreciates against the U.S. dollar, our domestic sales revenues may be adversely affected when expressed in U.S. dollars. The same effects may occur for our domestic sales in Argentina and Brazil for products sold in each of the respective local currencies. The effect of exchange rate fluctuations is partially offset by the fact that certain of our operating expenses are denominated in U.S. dollars (such as our freight costs and selling expenses in the form of commissions paid to our sales agents abroad) and a significant part of our indebtedness is denominated in U.S. dollars. As of December 31, 2009, our U.S. dollar-denominated indebtedness was U.S.$ 2.8 billion. In addition, as the U.S. dollar appreciates against the local currency in any of our export markets, we must from time to time price our sales in that local currency to compete effectively.

Critical Accounting Policies

A summary of our significant accounting policies is included in Note 1 to our audited consolidated financial statements, which are included in this annual report. The preparation of consolidated financial statements in accordance with IFRS requires management to make subjective estimates and assumptions that affect the amounts reported. Estimates are based on historical experience and various other assumptions that are believed to be reasonable, though actual results and timing could differ from the estimates. Management believes that the accounting policies below take into account those matters that require the exercise of judgment, but acknowledge that different judgments could result in substantially different results. The most critical accounting policies and estimates are described below.

Property, Plant and Equipment

Property, plant and equipment are stated at cost and are depreciated using the straight-line method based on the estimated useful lives of the assets. In estimating the useful lives (residual values are considered) we have primarily relied upon actual experience with the same or similar types of equipment and recommendations from the manufacturers. Useful lives are based on the estimated amount of years an asset will be productive and are revised periodically to recognize potential impacts caused by new technologies, changes to maintenance procedures, changes in utilization of the equipment, and changing market prices of new and used equipment of the same or similar types.

Property, plant and equipment assets are evaluated for possible impairment. Factors that would indicate potential impairment may include, but are not limited to, significant decreases in the market value of a long-lived asset, a significant change in a long-lived asset’s physical condition and operating or cash flow losses associated with the use of a long-lived asset. This process requires our estimate of future cash flows generated by each asset or group of assets. For any instance where this evaluation process indicates impairment, the appropriate asset’s carrying values are written down to net realizable value and the amount of the write-down is charged against the results of continuing operations.

Expenditures that substantially improve and/or increase the useful life of facilities and equipment are capitalized. Other maintenance or repair costs are charged to income as they are incurred.

 

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Fair Value of Financial Instruments

The Company recognizes financial assets and liabilities on its balance sheet at fair value, which is the value that the Company estimates would be attributable to such asset or liability in an arms-length transaction. As of the date of the initial recognition, the management of the Company classifies its financial assets at fair value through (i) income or (ii) collectible credits and accounts, depending on the purpose for which the financial assets were acquired.

The fair value of financial instruments that are not traded in an active market is determined by using valuation techniques. Arauco uses its judgment to select a variety of methods and make assumptions that are mainly based on market conditions existing at each balance sheet date.

The doubtful provision of trade receivables is established when there is evidence that Arauco will not receive payments under the original terms of sale. Provisions are made when the client is a party to a bankruptcy court agreement or cessation of payments, or when Arauco has exhausted all levels of recovery of debt in a reasonable time. See Note 23 to our consolidated financial statements.

Biological Assets

The recovery of forest plantations is based on discounted cash flow models which mean that the fair value of biological assets is calculated using cash flows from continuing operations, that is to say, on the basis of sustainable forest management plans considering the potential growth of forests. This recovery is performed on the basis of each forest stand identified and for each type of tree species.

These discounted cash flows require estimates in growth, harvest, sales prices and costs. It is therefore important that management make appropriate estimates of future levels and trends for sales and costs, as well as administer regular surveys of the forests to establish the volumes of wood available for harvesting and their current growth rates. The principal considerations used to calculate the valuation of forest plantations are presented in Note 21.

Lawsuits and Contingencies

Arauco and its subsidiaries are subject to certain ongoing lawsuits, the future effects of which need to be estimated by the management of the Company in collaboration with its legal advisors. Arauco seeks to evaluate the reports of its legal advisors and make appropriate contingency estimates in each balance sheet based on such reports. Arauco also makes contingency estimates and/or adjustments to prior contingency estimates upon the occurrence of material changes to the nature or underlying facts of such lawsuits.

 

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Results of Operations

The following table provides a breakdown of our sales revenue and volumes, cost of sales and administration and selling expenses for the last two years.

 

     Year ended December 31,
     2008    2009
     Sales     Volume    Sales     Volume
     (in millions of U.S.$, except where indicated)

Sales Revenue

         

Pulp

         

Bleached pulp(1)

   U.S.$ 1,616.5      2,410      1,400.8      2,707

Unbleached pulp(1)

     176.3      307      204.0      410

Total

     1,792.8      2,717      1,604.8      3,117

Wood Products

         

Sawn timber(2)

     471.6      2,522      301.9      1,952

Remanufactured wood products(2)

     246.6      348      191.9      279

Total

     718.3      2,870      493.8      2,231

Plywood and Fiberboard panels

         

Plywood and Fiberboard panels

     946.9      2,353      831.0      2,630

Other

     1.4           0     

Total

     948.4           831.0      2,630

Forestry Products

         

Sawlogs (net)(2)

     72.4      1,745      46.3      1,221

Pulplogs(2)

     12.8      457      10.3      308

Posts

     3.2      15      3.8      18

Chips

     10.2      78      16.7      293

Other

     2.9           4.6      36

Total

     101.6      2,295      81.7      1,583

Energy

     120.8           77.9     

Other

     32.1           23.9     

Total sales revenue

   U.S.$ 3,713.9           3,113.0     

Cost of Sales, exclusive of depreciation

         

Timber

     733.2           630.2     

Forestry labor costs

     412.0           353.2     

Maintenance costs

     247.4           284.2     

Chemical costs

     339.2           261.4     

Depreciation

     177.1           190.9     

Other costs of sales

     423.0           432.5     
                     

Total cost of sales

   $ 2,331.9         $ 2,152.5     

Gross margins

     1,382.0           960.5     
     37.2        30.9  
                     

Total operating costs and expenses

   $ 2,628.9         $ 3,023.9     

Operating margin

     26.5        18.1  

 

(1)

Volumes measured in thousands of metric tons.

(2)

Volumes measured in thousands of cubic meters.

Net Sales

Net sales decreased 16.2%, from U.S.$3,713.9 million in 2008 to U.S.$3,113.0 million in 2009, mainly as a result of decreases of (i) 10.5% in pulp sales, (ii) 12.4% in panels sales, (iii) 19.6% in forestry products sales and (iv) 31.3% in wood products sales.

 

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Pulp Sales

Sales revenue of bleached and unbleached pulp decreased from U.S.$1,792.8 million in 2008 to U.S.$1,604.8 million in 2009, as a result of a 21.9% decrease in average prices, which was partially offset by a 14.7% increase in sales volume. Sales revenue from the sale of bleached pulp decreased by 13.3% due to a 22.8% decrease in average prices, which was partially offset by a 12.3% increase in sales volume. Sales revenue from the sale of unbleached pulp increased by 15.7%, principally due to a 33.2% increase in sales volume of unbleached pulp, which was partially offset by a reduction in overall prices of unbleached pulp by 13.1%. The increase in sales volume mainly results from the increase in production capacity of pulp at the Nueva Aldea Mill from 856,000 to 1,027,000 tons per year as of March 2009.

Wood Products Sales

Sales of wood products, including sawn timber and remanufactured products decreased by 31.3%, from U.S.$718.3 million in 2008 to U.S.$493.8 million in 2009, reflecting a 22.3% decrease in sales volume and a 11.5% decrease in average prices. Sawn timber sales revenue decreased 36.0%, from U.S.$471.6 million in 2008 to U.S.$301.9 million in 2009, due principally to a 22.6% decrease in the sales volume of wood products and a decrease of 17.3% in average prices. Sales of remanufactured wood products decreased 22.2% from U.S.$246.6 million in 2008 to U.S.$191.9 million in 2009, due to a 2.9% decrease in average prices and a 19.9% decrease in sales volume. The decrease in the sales volume of wood products sales was mainly attributable to the closure of four of our sawmills during 2008. These closures were directly related to the weakening of the construction sector in the United States and Latin America in 2008 as a result of the global financial crisis.

Plywood and Fiberboard Panels Sales

Sales of plywood and fiberboard panels decreased 12.2%, from U.S.$946.9 million in 2008 to U.S.$831.0 million in 2009. This decrease was primarily due to an average price decrease of 21.1%, which was partially offset by an 11.2% increase in sales volume. The decrease in prices, which has affected the majority of our panel product lines, resulted from the weakening of the construction sector in 2009, particularly in Latin America and the United States, and an oversupply of panels in the Brazilian market, which added downward pressure to the prices of panels during the second half of 2009. The increase in sales volume is largely attributable to our acquisition of Tafisa in August 2009, which added 640,000 cubic meters of annual capacity to our panels business. See “Item 4. Description of Business—History.”

Forestry Sales

Sales revenue from forestry products decreased by 19.6%, from U.S.$101.6 million in 2008 to U.S.$81.7 million in 2009. This decrease is mainly due to a decrease in sales volume of 31.0% of sawlogs, pulplogs and chips, which was partially offset by a 16.6% increase in the average prices of forestry products as compared to 2008.

Cost of Sales

Cost of sales decreased by 7.7% from U.S.$2,331.9 million for 2008 to U.S.$2,152.5 million for 2009, primarily due to an overall decrease in the per unit cost of production for most of our products. In particular, we saw an annual decrease in our timber, forestry labor and chemicals costs of 14.0%, 14.3% and 22.9% respectively. These decreases were partially offset by both an increase in our maintenance costs and depreciation.

Gross Margins

Gross margins decreased from 37.2% for 2008 to 30.9% for 2009, primarily due to decreases in average sales prices, which was partially offset by a decrease in the per unit cost of sales.

Other Operating Income

Other operating income increased 75.8% from U.S.$104.3 million in 2008 to U.S.$183.3 million in 2009, primarily as a result of an increase in the fair value of our biological assets. This increase in fair value is mainly explained by the higher price of wood, an increase in volume of our forests and an older average age of the trees in 2009 compared to 2008.

 

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Distribution Costs

The distribution costs for all markets decreased from U.S.$455.2 million in 2008 to U.S.$388.5 million in 2009, mainly due to a decrease in the per unit freight cost of our exports. This decrease in our freight costs was a result of the global financial crisis and the oversupply of shipment capacity.

Administrative Expenses

In 2009, administrative expenses were similar to those of 2008, slightly decreasing from U.S.$247.0 million to U.S.$242.2 million.

Financial Costs

Financial costs increased 10.6% from U.S.$175.2 million in 2008 to U.S.193.9 million in 2009, primarily due to an increase in interest expense of 13.5%, partially offset by a decrease in other financial costs of 1.9% as compared to 2008. Our interest expense increased as result of higher levels of long-term debt; in particular, this increase was the result of U.S.$142.0 million in long-term debt we issued in March 2009 in the local market and U.S.$500 million we issued in July 2009 in the U.S. market.

Exchange Rate Differences

We recorded foreign exchange gains of U.S.$17.6 million in 2009 compared to losses of U.S.$67.8 million in 2008. During 2009, the Chilean peso appreciated 20.3% against the U.S. dollar compared to 2008, which positively impacted our sales and other accounts receivables positions recorded in Chilean Pesos. In the same period the Brazilian Real depreciated 34.2% against the U.S. dollar in 2009, which also positively impacted our related party payables position recorded in Brazilian Reals.

Negative Goodwill Immediately Recognized

Negative goodwill immediately recognized increased to U.S.$36.9 million in 2009 from zero in 2008. This increase is a result of our purchase of ENCE’s main assets in Uruguay at a purchase price below market value, which allowed us to recognize negative goodwill. See “Item 4. Description of Business—History.”

Other Profit (Loss)

In 2009, we earned other profit of U.S.$27.2 million, as compared to the other losses we incurred in 2008 of U.S.$0.4 million. This increase was primarily due to the gain that we recorded as a result of our contribution of 50% of our equity in Forestal Conosur S.A. (our wholly-owned subsidiary in Uruguay) to our joint venture with Stora Enso, Montes del Plata. This contribution resulted in a change in control of Forestal Conosur S.A., which allowed us to recognize the assets and liabilities contributed to the joint venture at fair value under the equity method rather than at book value on a consolidated basis which resulted in a gain for Arauco. See “Item 4. Description of Business—History.”

Income Tax

In 2009, we incurred income tax expenses of U.S.$53.5 million, which is a decrease of U.S.$44.5 million from the income tax expenses of U.S.$98.0 million in 2008. This decrease was principally due to our lower profit before income tax and to the increase in non-taxable items.

Net Profit

Net profit decreased 33.0% from U.S.$405.0 million in 2008 to U.S.$304.6 million in 2009. The main cause of this decrease was the global financial crisis that continued to negatively affect the construction sector throughout 2009, which resulted in decreases in both our prices and total sales revenues.

 

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LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of liquidity are funds from operations, domestic and international borrowings from commercial and investment banks and debt offerings in the domestic and international capital markets.

Our net cash flow provided by operating activities was U.S.$751.0 million during the year ended December 31, 2009 and U.S.$769.7 million during the year ended December 31, 2008. The decrease in net cash provided from operating activities in 2009 as compared to 2008 was principally due to a lower collection of accounts receivable as a result of decreasing sales of our products. The decrease in income is explained by the global financial crisis.

Our net cash used in investing activities increased from U.S.$466.7 million during the year ended December 31, 2008 to U.S.$717.3 million during the same period of 2009. This increase is primarily explained by the acquisition of Tafisa Brasil for U.S.$167.0 million in August 2009 and the acquisition of forest assets through a joint venture with Stora Enso for U.S.$167.5 million in October 2009.

Our net cash related to financing activities increased from U.S.$378.5 million used in financing activities during the year ended December 31, 2008 to U.S.$302.4 million provided by financing activities during the year ended December 31, 2009. This increase is mainly due to an increase in our levels of debt. In March 2009, we issued two bond series for approximately U.S.$142.0 million in the local market and in July 2009 we issued U.S.$500 million in the U.S. market.

In accordance with customary practice in the pulp industry, we do not have long-term sales contracts with our customers (except for in a few limited cases); rather, we maintain relationships with our customers pursuant to which we reach agreements from time to time on specific volumes and prices.

We expect our principal capital expenditures for 2010 to include the acquisition of biological assets, the biomass cogeneration power plant at the Viñales sawmill, an increase in the production capacity of the Nueva Aldea Mill and the repair of property and assets damaged by the earthquake of February 27, 2010. See “Item 4. Information on the Company—Capital Expenditures.” For subsequent years, our capital expenditures will depend on the state of the economy in each country where we have operations, as well as market conditions.

We believe that cash flow generated by operations, cash balances, borrowings from commercial banks and debt offerings in the domestic and international capital markets will be sufficient to meet our working capital, debt service and capital expenditure requirements for the foreseeable future.

The following table sets forth certain contractual obligations as of December 31, 2009, and the period in which the contractual obligations come due.

 

     Payments Due by Period
     Total    Less than 1
year
   1-3 years    3-5 years    More than 5
years
     (in millions of U.S. dollars)

Contractual obligation (1)

              

Short- and long-term debt obligations (2)

   4,097.6    524.5    805.4    754.4    2,013.3

Capital (finance) lease obligations

   0.6    0.4    0.2    —      —  

Purchase obligations (3)

   33.1    33.1    —      —      —  

Total

   4,131.3    558.0    805.6    754.4    2,013.3
                        

 

(1)

Excludes obligations to purchase wood, plantations and land from Forestal Río Grande S.A. because these obligations are already included in our consolidated financial statements.

(2)

Includes estimated interest payments related to long-term debt obligations.

(3)

Excludes contracts entered into with independent contractors to perform operations on our behalf. Our payment obligations under such contracts are not pre-determined, but rather depend on the performance of certain variables. Accordingly, we cannot quantify our contractual obligations under such contracts.

At December 31, 2009, our short-term bank borrowings were U.S.$203.0 million. At December 31, 2008, our short-term bank borrowings were U.S.$234.9 million.

 

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Our total long-term bank, export credit agency and multilateral lending agency debt (including the current portion of such debt) was U.S.$389.0 million at December 31, 2009, of which 97.6% was U.S. dollar-denominated. At December 31, 2009, we also had total capital markets borrowings (including the current portion of such debt) of U.S.$2,686.6 million, 84.5% of which was U.S. dollar-denominated. At December 31, 2009, the weighted average maturity of our long-term debt was seven years. The interest rate on our variable rate debt is determined principally by reference to the London inter-bank offered rate (LIBOR), and at December 31, 2009 the average interest rate for our U.S. dollar floating rate debt over six-month LIBOR was 0.2%. The average interest rate for our U.S. dollar fixed rate debt was 6.9%. These average rates do not reflect the effect of swap agreements and subsequent unwinds effective as of December 31, 2009.

The following are our principal financing activities during 2009 and through the date of this annual report:

On March 18, 2009, Arauco issued two series of bonds for approximately U.S.$142 million in the Chilean local market. The first series of bonds in an aggregate principal amount of 2,000,000 UF was issued at 4.54% with a maturity of 21 years and a grace period of 10 years. The second series of bonds in an aggregate principal amount of 2,000,000 UF was issued at 3.35% with a maturity of 5 years and a grace period of 2 years. Both series of bonds received a local rating of AA by Fitch Ratings and Feller-Rate.

On July 27, 2009, Arauco issued bonds (the “144A Bonds”) in accordance with Rule 144A and Regulation S under the Securities Act of 1933 for a total amount of U.S.$500,000,000 at 7.25% with a maturity of 10 years. Pursuant to the terms of the 144A Bonds, the bondholders had the option to exchange the 144A Bonds for bonds registered with the Securities and Exchange Commission. As a result, beginning on October 15, 2009 and ending on November 13, 2009, the Company carried out an exchange offer whereby approximately 99.8% of the 144A Bonds were exchanged for new registered bonds.

The instruments and agreements governing our bank loans and local bonds set limits on our incurrence of debt and liabilities through the use of financial covenants. The principal financial covenants contained in the bank loan agreements are as follows:

 

   

Our debt to equity ratio must not exceed 1.2:1;

 

   

Our interest coverage ratio must not be less than 2:1; and

 

   

We are required to maintain a minimum consolidated net worth of U.S.$2.5 billion, as measured in accordance with IFRS.

The principal financial covenant contained in the local bond agreements is:

 

   

Our debt to equity ratio must not exceed 1.2:1.

We were in compliance with these covenants for both bank loans and local bonds agreements as of December 31, 2009.

Substantially all of our borrowings are denominated in dollars. See “Item 11. Quantitative and Qualitative Disclosures about Market Risk—Foreign Currency Risk.”

OFF-BALANCE SHEET ARRANGEMENTS

We do not have any off-balance sheet arrangements.

 

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TREASURY MANAGEMENT

Our treasury activities are centrally governed by our cash and deposits policy, which sets corporate guidelines for all of our subsidiaries with respect to treasury management. Our international subsidiaries are aligned with these general corporate guidelines and may adopt specific policies to meet local needs. Our cash and deposits policy was developed by our Chief Financial Officer (CFO) and it is periodically revised.

Our corporate finance office is based in Santiago, Chile and manages our treasury activities in Chile. The corporate finance office also oversees our treasury activities outside of Chile, which are managed by our financial directors for each country in which we operate. Our CFO reviews, normally on a daily basis, our cash balance on a consolidated basis and anticipates short- and long-term cash needs according to the company’s normal operations, capital expenditures and obligations.

Our Chilean subsidiaries borrow from or lend money to us in accordance with their daily cash requirements or surplus, maintaining their cash balance close to zero. Our policy is to invest all cash we receive from our Chilean subsidiaries in financial instruments on a centralized basis.

HEDGING

We periodically review our exposure to risks arising from fluctuations in foreign exchange rates and interest rates and make a determination, on a case-by-case basis, at our senior management level whether or not to hedge such risks. As a result, from time to time we enter into currency and interest rate swaps with respect to a portion of our borrowings. See Note 23 to our audited consolidated financial statements.

We have two offsetting interest rate swap agreements outstanding, each in a notional amount of U.S.$130 million, with respect to the interest rate on our 7.75% Notes due 2011. These interest rate swaps settle semi-annually and terminate in 2011. The net effect of our interest rate swap agreements is that we pay fixed interest at a rate of 5.506% and receive fixed interest at a rate of 7.75%. See Note 23 to our audited consolidated financial statements.

The Bío Bío Investment Fund entered into one interest rate swap agreement, in an initial notional amount of U.S.$240 million with amortizations during the life of the swap in the same amount and dates of the amortizations of the credit agreement the Bío Bío Investment Fund obtained on October 6, 2006, with interest rate settled quarterly and with a final maturity in October 2013. The net effect of this interest rate swap agreement is that the Bío Bío Investment Fund pays fixed interest rate at a rate of 5.256% and receives a floating rate at 3 months LIBOR. In January 2007, the Bío Bío Investment Fund transferred all of its assets and financial debt to Forestal Río Grande S.A.

Arauco entered into the following two cross currency swap agreements to hedge the amount of the UF 2,000,000 local bond issued in March 2009:

 

   

A cross currency swap agreement with Banco de Chile for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 2.25% and pays semi-annual interest based on the notional amount of U.S.$35,700,986.39, which is equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement, at a rate of 4.99%. This swap matures in March 2014.

 

   

A cross currency swap agreement with JPMorgan Chase Bank for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 2.25% and it pays semi-annual interest based on the notional amount of U.S.$35,281,193.28, which is the equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement, at a rate of 4.94%. This swap agreement matures in March 2014.

In order to hedge the cross currency risk presented by the local bond issued in March 2009, Arauco entered into the following hedging contracts:

 

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A cross currency swap agreement with Barclays Bank PLC for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 4.25% and it pays semi-annual interest based on the notional amount of U.S.$38.38 million, which is equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement of 5.86%. This swap agreement matures in October 2014.

 

   

A cross currency swap agreement with Banco de Chile for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 4.25% and it pays semi-annual interest based on the notional amount of U.S.$37.98 million, which is equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement of 5.79%. This swap agreement matures in April 2014.

 

   

A cross currency swap agreement with Deutsche Bank for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 4.25% and it pays semi-annual interest based on the notional amount of U.S.$37.98 million, which is equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement of 5.8%. This swap agreement matures in October 2014.

 

   

A cross currency swap agreement with Deutsche Bank for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 4.25% and it pays semi-annual interest based on the notional amount of U.S.$37.62 million, which is equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement of 5.79%. This swap agreement matures in October 2014.

 

   

A cross currency swap agreement with Barclays Bank PLC for UF 1,000,000. Arauco receives semi-annual interest based on the notional amount of UF 1,000,000 at a rate of 4.25% and it pays semi-annual interest based on the notional amount of U.S.$38.42 million, which is equivalent to UF 1,000,000 at the currency exchange rate at the date of the agreement of 5.62%. This swap agreement matures in October 2014.

These cross currency swap agreements allow us to address uncertainties regarding exchange rates. Through these agreements, we receive cash flows in UF, which allow us to comply with the terms of the bonds and pay fixed amounts in dollars, the currency in which a significant amount of our assets are denominated.

We have also analyzed our exposure to risks associated with fluctuations in prices of commodities, including pulp, but have, thus far, not entered into any material hedging transactions with respect to such risks. See “Item 11. Quantitative and Qualitative Disclosures About Market Risk.”

RESEARCH AND DEVELOPMENT

We spent U.S.$3.2 million in 2007, U.S.$3.8 million in 2008 and U.S.$3.9 million in 2009 on research and development. We conduct our principal research and development programs through Bioforest, which concentrates its efforts on applying and implementing the advanced technology available in the market to the specific characteristics of our forests and mills.

We are continuously researching and attempting to develop different strains of long-fiber pine trees to improve their quality and to shorten the average harvest cycle. Additionally, we maintain close relations with international research institutes, equipment suppliers and the scientific and engineering community involved with our industry.

TREND INFORMATION

On February 27, 2010, a severe earthquake, followed by a tsunami, occurred off the coast of the southern-central region of Chile, which is an area where we maintain our industrial operations. Immediately after the earthquake, all of our production units applied their contingency plans, which involved shutting down operations and evaluating the damage caused to each facility by the earthquake. As a result of the earthquake and subsequent

 

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tsunami, our Mutrún sawmill was completely destroyed. Our other operations that were affected by the earthquake and tsunami have been reopening gradually, with the timing of such reopenings depending on the specific conditions of the respective mill as well as external factors such as infrastructure conditions, road connectivity, power supply and public safety concerns. As of June 22, 2010, all of our operations were operating except for line two of the Arauco Pulp Mill (Arauco II), which will be reopened once the damages are assessed and repaired.

The suspension of our operations in Chile resulted in a decrease in sales volumes and adverse effects on our results of operations, subject to any recoveries under our insurance policies. Our insurance policies cover damages to our property, plant, equipment and inventories and business interruption up to an amount of U.S.$650 million, with a deductible for such damages of U.S.$3.3 million and a deductible of 21 days for business interruption. For the first quarter of 2010, we recorded a loss for damages to our property, plant and equipment and inventories of approximately U.S.$27 million, net of insurance coverage. As the date of this annual report, we expect to incur additional losses as a result of the earthquake and subsequent tsunami, but we cannot determine the total amount of such losses at this time.

Pulp sales reached U.S. $386.3 million during the first quarter of 2010, a 6.6% increase compared to the same quarter of the previous year. This increase is mainly explained by higher average prices of 49.2%, partially offset by lower sales volume of 25.9%. The lower sales volume is largely explained by the interruption of operations at our pulp mills in March 2010 as a result of the earthquake that hit the central and southern regions of Chile on February 27, 2010.

The global financial crisis that affected the world paper market, especially in Europe and North America, led to a substantial decrease in the prices of our products during the last quarter of 2008. Prices began to show a slight recovery during the second quarter of 2009, and then continued increasing for the rest of the year, almost reaching pre-crisis levels in the last quarter of 2009. The recovery in the pulp market was confirmed during the fourth quarter of 2009 and the first quarter of 2010, during which time pulp prices have grown strongly, reaching near pre-crisis levels. We expect this positive price trend to continue throughout the remainder of 2010, although at a slower pace than that of the fourth quarter of 2009 and the first quarter of 2010.

Although inventory levels increased slightly at the end of the fourth quarter of 2009, on average inventory levels were low as compared to 2008 levels. World stock levels at March 2010 were 23 days for long fiber and 29 days for short fiber, showing little variation from the same levels as December 2009, which were 23 and 30 days, respectively.

The European paper market is still facing challenging circumstances. Local producers have not been able to transfer the higher global pulp prices to paper products, consequently suffering decreases in margin due to the higher costs of raw material. Also, the sovereign debt crisis in Greece that occurred in the first months of 2010 has impacted the value of the euro against the US dollar, which increased European pulp-buyer prices in euro terms. The status of the overall European economy is uncertain in the short term, and the pulp market may be negatively impacted if the crisis spreads to other European countries, as there is a close relationship between the health of the economy of a region and its pulp and paper demand.

During the first months of 2010, Asian countries (mainly China, Korea and India) continued to have increased demand for pulp, leading to pulp price increases throughout the region. Local producers are finding it difficult to transfer these price increases to their own products, but they are still in a relatively comfortable position due to past purchases. Paper production is still very strong for local consumption and exports, fostering initiatives in Europe and North America for the establishment of tariffs on most competitive products from these Asian countries. During the last quarter of 2009, the market in general was very strong in Asia, particularly China, a trend we should continue to see in the mid-term as new paper production will continue to come from Asia and paper will be exported from these markets to Europe and North America.

For North American producers, the last quarter of 2009 brought several challenges that may continue to be material during 2010. First, despite the strong lobby of American kraft pulp producers, the United States Senate decided not to renew the black liquor subsidy as a renewable alternative fuel. Second, North American paper producers are facing strong competition coming from China, Indonesia and Korea, and are claiming antidumping measures against Chinese and Indonesian producers. In North America, during the first quarter of 2010, we have

 

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observed a lower demand for pulp and a lower production of paper mainly due to mill closures. This volume has been replaced by imports coming from China, South Korea and Indonesia.

Our sawn timber and panels business is strongly related to the real estate and construction industries. The real estate and construction markets in the United States have showed signs of improvement during 2010, however, construction levels are still at their lowest in 50 years. During the early months of 2010, homebuilding levels have improved and have been on track to reach 600,000 units per year, as compared to an average of 580,000 units during 2009, and we expect the trend will remain positive throughout 2010. In Chile the construction sector has shown strong activity after the earthquake and we expect this will positively impact the demand for our panels, molding and wood products.

 

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Item 6. Directors, Senior Management and Employees

DIRECTORS AND EXECUTIVE OFFICERS

Directors

A board of directors manages our business. Our by-laws (estatutos) require that the board of directors consist of nine directors. Our directors cannot also be our executives. The entire board is elected every three years and can be re-elected for any number of periods. The current board was elected in April 2010, and their terms will expire in 2013. The board may appoint replacements to fill any vacancies that occur during periods between elections; however, at the annual shareholders’ meeting following any such replacement, an election of the entire board must take place. Scheduled meetings of the board of directors are, generally, held once a month. Extraordinary board meetings are called when summoned by the Chairman or when requested by at least two directors.

We do not have an audit committee or compensation committee.

Our current directors are listed below.

 

Name

   Years as
Director
  

Position

   Age

José Tomás Guzmán

   24    Chairman    81

Roberto Angelini

   24    First Vice-Chairman    61

Manuel Bezanilla

   24    Second Vice-Chairman    65

Jorge Andueza

   16    Director    61

Jorge Bunster(1)

   16    Director    57

José Rafael Campino(1)

   0    Director    57

Carlos Croxatto

   24    Director    95

Alberto Etchegaray

   16    Director    60

Eduardo Navarro

   2    Director    45

Timothy C. Purcell

   5    Director    50

 

(1)

As of March 23, 2010, Jorge Bunster voluntarily resigned as Director and was replaced by José Rafael Campino.

Included below are brief biographical descriptions of each of our directors.

José Tomás Guzmán became a Director on April 30, 1986 and became Chairman of the board of directors on May 4, 2007. He served as Chairman of the board of directors from April 18, 1991 to January 4, 2005, when he voluntarily resigned, and as First Vice-Chairman of the board of directors from January 27, 2005 to May 4, 2007. He is a partner of the law firm Portaluppi, Guzmán y Bezanilla, is a Vice-Chairman of COPEC, Empresas Copec and AntarChile, is Chairman of the board of directors of Forestal Arauco, Inversiones Siemel S.A. and Compañía de Seguros de Vida Cruz del Sur S.A., and serves as a member of the boards of directors of Industrias Forestales S.A., Sigma S.A., Servicios Corporativos Sercor S.A., Corpesca S.A. and Astilleros Arica S.A. Mr. Guzmán holds a law degree from the Catholic University of Chile.

Roberto Angelini became a Director on April 30, 1986 and became First Vice-Chairman of the board of directors on May 4, 2007. He served as Vice-Chairman of the board of directors from April 18, 1991 to January 4, 2005, when he voluntarily resigned, and as Second Vice-Chairman of the board of directors from January 27, 2005 to May 4, 2007. He serves as Chairman of the board of directors of Empresas Copec, COPEC, AntarChile, Corpesca S.A., SouthPacific Korp S.A., Pesquera Iquique-Guanaye S.A., Astilleros Arica S.A. and Servicios Corporativos Sercor S.A. He also serves as a member of the boards of directors of Forestal Arauco, Industrias Forestales S.A., Empresa Pesquera Eperva S.A., Compañía de Seguros de Vida Cruz del Sur S.A., Inversiones Siemel S.A. and Sigma S.A. Mr. Angelini holds a degree in civil engineering from the Catholic University of Chile.

Manuel Bezanilla became a Director on April 30, 1986. He was appointed as Second Vice-Chairman of the board of directors on May 4, 2007. He is also a partner of the law firm Portaluppi, Guzmán y Bezanilla and serves as a member of the boards of directors of Forestal Arauco, Pesquera Iquique-Guanaye S.A., AntarChile and Inversiones Siemel S.A. Mr. Bezanilla holds a law degree from the Catholic University of Chile.

 

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Jorge Andueza became a Director on April 11, 1994. He is also the Chief Executive Officer of AntarChile and serves as a member of the boards of directors of COPEC, Empresa Pesquera Eperva S.A., Corpesca S.A., Compañía de Seguros de Vida Cruz del Sur S.A., Inversiones Siemel S.A., Astilleros Arica S.A., Pesquera Iquique-Guanaye S.A., SouthPacific Korp S.A., Servicios Corporativos Sercor S.A. and Sigma S.A. Mr. Andueza holds a degree in electronic civil engineering from Federico Santa María Technical University.

Jorge Bunster became a Director on April 11, 1994. As of March 23, 2010, he voluntarily resigned and was replaced by José Rafael Campino. Mr. Bunster was Chairman of the board of directors of Abastecedora de Combustibles S.A., and served as a member of the boards of directors of COPEC, Metrogas S.A., Empresa Eléctrica Guacolda S.A. and Gasmar S.A. Mr. Bunster holds degrees in commercial engineering and economics from the Catholic University of Chile and a master’s degree in business administration from Navarra University.

José Rafael Campino became a Director on March 23, 2010. He is currently Chairman of the board of directors and Chief Executive Officer of Forestal del Sur S.A., a member of the boards of directors of Forestal Los Lagos S.A. and Forestales Regionales S.A., Managing Partner of Forestal Atlántico Sur S.A.R.L. in Montevideo, Uruguay and President of the Corporación Chilena de la Madera (Chilean Forestry Association). Mr. Campino holds a degree in civil engineering from the Catholic University of Chile and Master of Science degree in management from Stanford University.

Carlos Croxatto became a Director on April 30, 1986. He also serves as a member of the boards of directors of Empresas Copec, Forestal Arauco and Industrias Forestales S.A. Mr. Croxatto holds a degree in civil engineering from the University of Chile.

Alberto Etchegaray became a Director on April 11, 1994 and served as Chairman of the board of directors from January 4, 2005 to May 4, 2007, when he voluntarily resigned. He is also a partner of Domet Ltda., the Chairman of the board of directors of Invesco Internacional S.A., Salfacorp S.A., Red Salud S.A and Habitaria S.A. He served as the Chilean Minister of Housing for four years. Mr. Etchegaray holds a degree in civil engineering from the Catholic University of Chile.

Eduardo Navarro became a Director on September 25, 2007. He is also the Chief Executive Officer of Empresas Copec S.A., the Chief Executive Officer of Pesquera Iquique-Guanaye S.A., and serves as a member of the boards of directors of COPEC, Abastecedora de Combustibles S.A., Sociedad Nacional de Oleoductos S.A., Empresa Eléctrica Guacolda S.A., Corpesca S.A., South Pacific Korp S.A., Compañia Minera Can-Can S.A., Metrogas S.A. and Colbún S.A. Mr. Navarro holds degrees in commercial engineering and economics, and a master’s degree in economics, all from the Catholic University of Chile.

Timothy C. Purcell became a director on April 26, 2005. He is also Managing Partner of Linzor Capital Partners, LP. Mr. Purcell currently serves as a member of the boards of directors of Compañía de Seguros de Vida Cruz del Sur S.A., Cruz del Sur Administradora General de Fondos S.A., Isapre Cruz Blanca S.A., BOPP Holdings, Parque Arauco S.A. and Corporación Santo Tomás. He is also a Trustee of International House in New York. Mr. Purcell received an undergraduate degree with distinction in Economics from Cornell University, as well as a Masters Degree in International Studies from the University of Pennsylvania and a master’s degree in business (MBA) from Wharton Business School.

 

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Executive Officers

Our executive officers are appointed by the board of directors and hold office at its discretion. Our current principal executive officers and the directors of each area or department are listed below.

 

Name

   Years with
Arauco
  

Position

   Age

Matías Domeyko(1)

   21    President and Chief Executive Officer    48

Gianfranco Truffello

   15    Chief Financial Officer    42

Robinson Tajmuch

   19    Comptroller Director    53

Hernán Arriagada

   19    Engineering and Construction Director    62

Franco Bozzalla

   20    Wood Pulp Area Managing Director    47

Jorge Garnham

   33    Corporate Management Director    56

Cristián Infante

   14    Atlantic Region Managing Director    43

Charles Kimber

   24    Corporate Affairs & Marketing Director    48

Antonio Luque

   18    Sawn Timber Area Managing Director    53

Alvaro Saavedra

   18    Forestry Area Managing Director    54

Gonzalo Zegers

   2    Panels Area Managing Director    49

 

(1)

Matías Domeyko worked at Arauco from 1987 to 1994. He rejoined Arauco in 1997.

Included below are brief biographical descriptions of each of our executive officers and the directors of each area or department.

Matías Domeyko is the President and Chief Executive Officer of Arauco. Mr. Domeyko is also a member of the board of directors of Puerto Lirquén S.A. He worked at Arauco from 1987 to 1994. He rejoined in 1997 and served as our Chief Financial Officer until 2005. He previously served as the Director of Development of Copec. Mr. Domeyko holds a degree in commercial engineering from the University of Chile.

Gianfranco Truffello is the Chief Financial Officer of Arauco. He joined Arauco in 1994 and was previously our Finance Manager. He also served as the Chief Financial Officer of Alto Paraná S.A. Mr. Truffello holds a degree in civil engineering from the Catholic University of Chile and a master’s degree in business administration from the Massachusetts Institute of Technology.

Robinson Tajmuch is the Comptroller Director of Arauco. He joined Arauco in 1991 and was previously our Comptroller. Before joining Arauco, he served as Auditing Manager at Price Waterhouse. Mr. Tajmuch holds a degree in accounting and auditing from the Santiago University of Chile.

Hernán Arriagada is our Engineering and Construction Director. He joined Arauco in 1991 and was previously the Engineering Manager and Engineering and Maintenance Manager of the mills at the Arauco site. Mr. Arriagada holds a degree in mechanical engineering from the University of Santiago.

Franco Bozzalla is the Woodpulp Area Managing Director. He joined Arauco in 1990. He was formerly a sales representative of Forestal Arauco and the Panels Area Managing Director. Mr. Bozzalla holds a degree in civil engineering from the Catholic University of Chile.

Jorge Garnham is the Corporate Management Director of Arauco. He joined Arauco in 1978. He was formerly the Managing Director of Alto Paraná S.A., Chief Accounting Officer, Manager of Forestry Sales of Arauco and Woodpulp Area Managing Director. Mr. Garnham holds a degree in civil engineering from the Catholic University of Chile.

Cristián Infante is the Atlantic Region Managing Director. He joined Arauco in 1996 as a woodpulp sales representative, where he worked for two years. In 1998, Mr. Infante was appointed sales manager for industrial lumber and remanufactured products of Forestal Arauco, where he worked until 1999, at which time he moved to Centromaderas S.A., where he worked for two years. Mr. Infante holds a degree in civil engineering from the Catholic University of Chile.

 

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Charles Kimber is the Corporate Affairs & Marketing Director of Arauco. Mr. Kimber also supervises the Environmental Area Managing Director, Andrés Camaño. He graduated from the Catholic University of Chile with a degree in Commercial Engineering and joined Arauco in 1986, where he has held several positions in sales. He was previously Managing Director of Arauco Wood Products Inc.

Antonio Luque is the Sawn Timber Area Managing Director of Arauco and has held that position since 1993. Before joining Arauco, he was the General Manager of Cabildo S.A. and a research engineer at Compañía Industrial. Mr. Luque holds a degree in civil engineering from the University of Chile.

Alvaro Saavedra is the Forestry Area Managing Director of Arauco. He joined Arauco in 1991. Previously, he was the Director of Development of Forestal Arauco. He holds a degree in civil engineering from the University of Chile and a masters degree in science from the University of London.

Gonzalo Zegers is the Panels Area Managing Director of Arauco. He joined Arauco in 2008. Before joining the Company, he was the general manager of Agrofruta S.A. from 1991 to 1995, Chief Financial Officer (1995-1996) and Chief Executive Officer (1996-2005) of MASISA, and Chief Executive Officer of ATC Panels Inc. (USA) until 2008. Mr. Zegers holds a degree in commercial engineering from the Santiago University of Chile.

Compensation

For 2009, the aggregate compensation of all our directors and executive officers and senior managers paid or accrued in that year for services in all capacities, including salaries and compensation for their service to those executive officers who serve as directors, was approximately U.S.$31.9 million. We do not maintain any pension or retirement programs or incentive compensation plans for our directors or executive officers. We also do not maintain any plans providing for benefits upon termination of employment. The following table sets out the compensation of our directors for their services as directors in the years provided.

 

     2008    2009

Roberto Angelini

   U.S.$ 186,716    136,161

José Tomás Guzmán

     215,353    163,383

Carlos Croxatto

     251,961    183,110

Manuel Bezanilla

     140,871    122,509

Jorge Andueza

     57,292    54,453

Jorge Bunster

     57,292    54,453

Alberto Etchegaray

     57,292    54,453

Eduardo Navarro

     57,292    54,453

Juan Cambiaso

     31,500    36,055

Antonio Luque

     31,783    22,760

Matías Domeyko

     136,570    77,244

René Katz

     11,788    11,414

Manfred Mayer

     11,788    11,414

Jorge Garnham

     23,783    22,754

Eduardo Zañartu

     11,995    11,340

Alvaro Saavedra

     35,783    22,760

Franco Bozzalla

     25,339    22,754

Cristián Infante

     12,000    8,003

Gonzalo Zegers

     5,532    11,346

Robinson Tajmuch

     6,876    22,754

Charles Kimber

     23,783    22,754

Timothy C. Purcell

     57,292    54,453
           

Total compensation

   U.S.$ 1,449,884    1,144,761
           

 

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Employees

The following table provides a breakdown of our employees by main category of activity as of the end of each year in the three-year period ended December 31, 2009.

 

     As of December 31,
     2007    2008    2009

Pulp mill employees

   2,326    2,288    2,286

Other industrial employees

   3,828    3,445    3,398

Forestry employees

   1,160    1,185    1,347

Administrative employees

   585    897    873
              

Total

   7,899    7,815    7,904
              

In addition, as of December 31, 2009, we had contracts with approximately 992 contractors, who employed approximately 26,899 employees. Contractors that are not affiliated with us or with each other operate our eight sawmills and six remanufacturing facilities in Chile. The 12 independent contractors that operate our Chilean sawmills had 2,757employees at December 31, 2009. The independent contractors that operate our Chilean remanufacturing facilities had 1,887 employees at December 31, 2009 and the independent contractor that operates the laminating beams line employed 60 employees at December 31, 2009.

Under Chilean labor legislation, we are secondarily liable for the payment of labor and the social security obligations owed to employees of our contractors. In the event that we do not exercise the rights granted to us by the labor laws regarding the supervision of our contractors in their compliance of their labor and social security obligations, then our responsibility is elevated from secondary to joint and several, thus enabling an employee of a contractor to bring a claim relating to these obligations against both the contractor and to us, as the party hiring such contractor, although the contractor would remain primarily liable for such obligations. Furthermore, we are also responsible for the health and safety conditions of the contractors’ workers and are obligated to ensure that the contractors comply with all obligations related to such conditions while such workers are performing activities for us within our corporate purpose.

Approximately 21.0% of our employees in Chile, 51.2% of our employees in Argentina and 19.8% of our employees in Brazil were unionized at December 31, 2009. We negotiate collective bargaining agreements of two or three years’ duration with unionized employees.

We have stable employee relations in Chile, Argentina and Brazil. Our Chilean operations have not experienced any work stoppages in the last five years other than (i) a ten-day work stoppage in November 2009 at our Constitución, Arauco, Nueva Aldea, Horcones and Cholguán complexes (ii) a three-day work stoppage in September 2009 at our Constitución, Arauco, Nueva Aldea, Horcones, Valdivia and Trupán-Cholguán complexes; and (iii) a six-day work stoppage in May 2007 at our Horcones complex (which includes the Arauco pulp mill, a panel plant and two sawmills), each of which was caused by the employees of our third party forestry contractors at each of the respective facilities.

In Argentina, during January 2008, the chemical mill in Argentina experienced three days of work stoppage, but these strikes were limited to two hours per shift and did not materially affect operations. In addition, in January and February 2007, we experienced (i) a 12-day stoppage at the Faplac mill due to problems with the labor union of its chemical division and (ii) a six-day suspension of operations at our Alto Paraná mill as a result of a strike by a group of approximately 150 power saw operators.

During the last five years, there have been no strikes or other material work stoppages at our Brazilian subsidiaries.

 

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SHARE OWNERSHIP

Our former director, Anacleto Angelini, who passed away on August 28, 2007, owned 20.8% of the partnership rights in Inversiones Angelini y Compañía Limitada, or Inversiones Angelini, which is the principal shareholder of AntarChile. He directly owned 0.9% of AntarChile. Through his direct and indirect interests in Inversiones Angelini, AntarChile and Empresas Copec, Anacleto Angelini beneficially owned 8.3% of our shares. Mr. Angelini’s estate was divided among his heirs through a public deed in January 2010, and as a result Mr. Angelini’s ownership of partnership rights in Inversiones Angelini was distributed among his widow, Mrs. María Noseda Zambra, who received approximately 15.3%, his nephew Mr. Roberto Angelini, who received approximately 3.1%, and his niece Mrs. Patricia Angelini Rossi, who received approximately 2.3%.

Our First Vice-Chairman, Roberto Angelini, owns 15.3% of Inversiones Angelini. He directly owns 0.2% of AntarChile. Through his direct and indirect interests in Inversiones Angelini, AntarChile and Empresas Copec, Roberto Angelini beneficially owns 6.1% of our shares.

Our Chairman, José Tomás Guzmán, owns 1.9% of Inversiones Angelini. Directly and indirectly through Agroforestal e Inversiones Maihue S.A., he owns 4.1% of AntarChile and 2.6% of Empresas Copec. Through his interests in Inversiones Angelini, AntarChile and Empresas Copec, José Tomás Guzmán beneficially owns 2.6% of our shares.

None of our other directors or executive officers beneficially owns 1% or more of our shares.

 

Item 7. Major Shareholders and Related Party Transactions

MAJOR SHAREHOLDERS

Our only outstanding voting securities are shares of common stock of a single series, without nominal (par) value. The following table sets forth certain information concerning ownership of our common stock, as of June 22, 2010, with respect to each shareholder known by us to own more than 5% of the outstanding shares of our common stock and all of our directors and executive officers, as a group.

 

     Number of
Shares Owned
   Percentage
Ownership

Empresas Copec

   113,127,452    99.98

Directors and executive officers of the Company, as a group

   —      —  

Through its ownership of our Common Stock, Empresas Copec currently has voting control over us.

Empresas Copec is a Chilean public company listed on the Santiago Stock Exchange, the Valparaíso Stock Exchange and the Chilean Electronic Stock Exchange. It is a holding company, the principal interests of which are in Arauco, gasoline distribution, electricity, gas distribution and fishing. Before October 1, 2003, Empresas Copec’s legal name was Compañía de Petróleos de Chile S.A. As of that date, Compañía de Petróleos de Chile S.A. transferred all its gasoline- and fuel-related business assets to a new subsidiary, Compañía de Petróleos de Chile COPEC S.A., which we call COPEC, and changed its legal name to Empresas Copec S.A. In May 2005, AntarChile purchased 3.1 million shares of COPEC, increasing its ownership to 60.4% of Empresas Copec. At December 31, 2009, AntarChile owned 60.8% of Empresas Copec.

Through its ownership in Empresas Copec, AntarChile beneficially owned 60.8% of our shares at December 31, 2009. As of June 22, 2010, AntarChile beneficially owns 60.8% of our shares.

Inversiones Angelini y Compañía Limitada (“Inversiones Angelini”) in turn owns 63.4% of AntarChile’s shares, and certain other related investors own an additional 13.3% of AntarChile. Inversiones Angelini and such other investors are defined herein as the “Angelini Group.”

 

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The principal equity owners of interest in Inversiones Angelini are Mrs. María Noseda Zambra with approximately 31.2%, Mr. Roberto Angelini Rossi with approximately 15.3%, and Mrs. Patricia Angelini Rossi with approximately 14.5%.

As of June 22, 2010, the Angelini Group controls Arauco through the ownership structure described above.

RELATED PARTY TRANSACTIONS

We engage in a variety of transactions in the ordinary course of business with related parties. Related parties include, among others, directors, officers and affiliates of the Company. The new Title XVI, or “Title XVI”, of the Chilean Companies Act, which was included by Law Nº 20,382 published in the Official Gazette on October 20, 2009, amended among others, articles 44 and 89 of the Chilean Companies Act, establishing the applicable norms for transactions with related parties by and among public corporations and their subsidiaries. Title XVI requires that our transactions with related parties contribute to the company’s interest and be on a market basis or on terms similar to those prevailing in the market. In addition, Title XVI provides that related party transactions must be approved by an informed majority of the disinterested members of the board of directors. If a majority of the disinterested directors abstains from voting on a particular transaction, the transaction must be approved by a unanimous vote of the non-abstaining disinterested directors or by two-thirds of the shares with voting rights. Resolutions approving any such transactions must be reported to our shareholders at the next annual shareholders’ meeting.

Notwithstanding the above, in accordance with Article 147 of the Chilean Companies Act, our Board has resolved that the following transactions with related parties do not need to follow the procedure set forth in the previous paragraph: (i) transactions which do not involve material amounts; (ii) transactions with affiliates in which we control 95% or more of the equity; and (iii) transactions that are considered by our Board to be performed in the ordinary course of our business in accordance with our general policy of customary dealings, which was approved by our Board on December 29, 2009 and is available to shareholders at our main office and is published on our website, at www.arauco.cl.

Article 146 of the Chilean Companies Act defines related party transactions as negotiations, acts, contracts or transactions between the company and any other person or entity that involve the following:

 

   

directors or officers of a corporation (or their respective spouses and certain other relatives) acting on their own;

 

   

directors or officers of a corporation who have a direct or indirect ownership interest of at least 10% of the equity shares of the other company or are also directors or officers of such other company;

 

   

persons who have been in the last 18 months previous to the transaction, directors or officers of the corporation; and

 

   

“related persons” of the corporation, as defined in article 100 of the Chilean Securities Markets Law.

Article 100 of the Chilean Securities Markets Law establishes that the following are “related persons” to a company: (i) the entities of the corporate group (grupo empresarial) to which such company belongs; (ii) the entities that are either parent company, subsidiary, owners of at least 10% of the equity of a company or other companies in which the company owns at least 10%; (iii) directors or officers of a company (or their respective spouses and certain other relatives); (iv) any person who, individually or with other persons under a voting agreement can designate at least one member of the management of the company or control at least 10% of the capital of such company; and (v) any other person who is indicated as such by the Chilean Superintendencia de Valores y Seguros, in accordance with certain parameters established by the abovementioned Article 100.

 

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Our transactions with affiliates include the following:

 

   

We purchase goods and services that may also be provided by other suppliers. Among the most significant are our fuel purchases from COPEC, a subsidiary of Empresas Copec, our majority shareholder; and

 

   

We purchase port services from our 20.1% affiliate Puerto de Lirquen S.A. and our 50.0% affiliate Compañía Puerto de Coronel S.A.;

 

   

We purchase from EKA Chile, a chlorate sodium supplier, which is 50% controlled by Arauco, and we provide EKA Chile with electricity;

 

   

We purchase from Dynea Brasil, a chemicals and melamine supplier, which, as of April 2010, is now 100% controlled by Arauco, and we provide Dynea Brasil with fuel and services; and

 

   

We obtain legal services from Portaluppi, Guzmán y Bezanilla, a law firm of which two of our directors, José Tomás Guzmán and Manuel Bezanilla, are partners.

Financial information concerning transactions with affiliates is included in Note 11 to our audited consolidated financial statements.

On June 11, 2007, in order to refinance the notes (obligaciones negociables) issued by Alto Paraná S.A. in 2001 (the “APSA Notes”) and other existing debt and to finance capital expenditures in the ordinary course of business, Alto Paraná S.A. issued U.S.$270 million of 6.375% Notes due 2017 in the form of Rule 144A/Regulation S notes sold in the local and international capital markets. Arauco fully and unconditionally guaranteed these notes. Alto Paraná paid down the APSA Notes with the proceeds of the 6.375% Notes.

 

Item 8. Financial Information

See “Item 17—Financial Statements.”

EXPORT SALES

Export sales constituted approximately 76.2% of our sales revenue for the year ended December 31, 2009. Our total export sales revenue for 2009 was U.S.$3.1 million. Our principal overseas markets are Asia, North America and Western Europe. See “Item 4. Information on the Company—Description of Business—Domestic and Export Sales.”

LEGAL PROCEEDINGS

We have been and continue to be subject to environmental proceedings related to allegations by the Chilean environmental regulators and private parties. We are also subject to certain other legal proceedings arising from the ordinary course of our business. For more information regarding the environmental proceedings and other legal proceedings arising from the ordinary course of business, see Note 19 to our audited consolidated financial statements.

Since the end of 2004, various criminal proceedings relating to alleged violations of several environmental laws have been instituted in Chile in which some of our mills may be affected. We cannot predict the outcome or impact of these proceedings or when they may be resolved. While Chilean law in general provides that only individuals can be convicted in criminal actions, as a consequence of these proceedings, certain measures may be taken that could materially and adversely affect our business, financial conditions , results of operations and cash flows. As an exception of the abovementioned general rule, Chilean Law Nº 20,393, which was published in the Official Gazette on December 2, 2009, established the criminal responsibility of legal entities for criminal offenses related to the financing of terrorism, money laundering or bribery. We do not have knowledge of any fact that could

 

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result in such criminal responsibility for the Company. See “Item 8. Financial Information—Legal Proceedings.” See “Item 3. Key Information—Risk Factors—Risks Relating to Arauco and the Forestry Industry—We are subject to legal proceedings related to our mills, which could adversely affect our business, financial condition, results of operations and cash flows.”

Valdivia Mill

Our operations at the Valdivia Mill have been subject to continued environmental scrutiny by Chilean environmental regulators and the Chilean public since the mill began its operations in 2004. A variety of concerns and claims have been raised regarding potential environmental impacts in the area.

The COREMA for the Tenth Region of Chile evaluated claims regarding the migration and death of black-neck swans, whose habitat in the nearby Carlos Anwandter Nature Sanctuary is downstream from the mill on the Cruces River. There have been allegations of a causal connection between the migration and death of black-neck swans and the operations at the Valdivia mill, and in a study dated April 18, 2005, researchers at the Austral University in Valdivia concluded that wastewater discharges from the Valdivia Mill had significantly altered the quality of the Cruces River. The study also concluded that the effluent discharges were a significant contributing factor in the death or migration of a large population of the black-necked swans in the Carlos Anwandter Nature Sanctuary downstream from the Valdivia Mill. The National Defense Council instituted an action seeking reparations, damages and indemnification from us for environmental harm allegedly caused by the discharges from the Valdivia Mill. In response, we have argued to the court that this action should be rejected, as several studies have demonstrated that there is no relationship between the alleged damages and the operation of the Valdivia Mill.

On June 8, 2005, we voluntarily suspended operations at the Valdivia Mill pending the receipt of legal and technical guidance from the applicable regulatory authorities. We estimate this voluntary suspension resulted in a loss of sales of approximately U.S.$1.0 million per day and a loss of profits of approximately U.S.$250,000 per day. Pursuant to the decision of our board of directors, based on certain clarifications provided by the Environmental Regional Commission (Comisión Regional del Medio Ambiente), or COREMA, of the Tenth Region of Chile, the mill resumed operations on August 12, 2005 at 80% of its authorized production capacity after 64 days of suspended operations. In order to achieve the full production capacity authorized by applicable permits, the mill had to fulfill certain new requirements established by the COREMA. On January 18, 2008, the COREMA authorized the Valdivia Mill to return to its annual authorized production capacity of 550,000 metric tons. The mill gradually increased its production over a four-month period starting in March 2008 and reached full capacity in June 2008. The suspension of operations at the Valdivia Mill adversely affected our business, financial condition, results of operations and cash flows. Any future suspension of operations at the Valdivia Mill or at any other of our significant operating plants can be expected to have similar adverse effects. We offer no assurance that the Valdivia Mill will be able to operate without further interruption. See “Item 3. Key Information—Risk Factors—Risks Relating to Arauco and the Forestry Industry—Environmental concerns led us to temporarily suspend our operations at the Valdivia Mill, which adversely affected, and in the future may continue to adversely affect, our business, financial condition, results of operations and cash flows” and “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Valdivia Mill.”

In June 2007, we submitted to the COREMA of the Tenth Region of Chile an environmental impact study for the implementation of substantial technological improvements on the quality of the effluents generated by the Valdivia Mill. On June 30, 2008, the COREMA approved that environmental impact study. However, the approval was subject to certain conditions that, in the opinion of Arauco, affected the feasibility of the project. For such reason, Arauco filed an appeal (recurso de reclamación) before the Directive Council (Consejo Directivo) of the Environmental National Commission (Comisión Nacional del Medio Ambiente), or CONAMA, challenging the conditions. Such appeal (recurso de reclamación) was partially accepted by the CONAMA. However, some conditions that affect the feasibility of the project were maintained. As a consequence, on September 17, 2009, we presented another appeal (recurso de reclamación) before the ordinary courts of justice, which appeal has not been resolved as of the date of this annual report.

On February 19, 2009, we submitted to the COREMA of the Fourteenth Region of Chile an environmental impact study for the construction of a pipeline to discharge the Valdivia Mill’s wastewater in the Pacific Ocean near Punta Maiquillahue, that is, in a body of water other than the Cruces River, the Carlos Anwandter Nature Sanctuary

 

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or their sources. The pipeline would transport the wastewaters of the Valdivia mill through an extension of 37 kilometers from the Valdivia mill to Punta Maiquillahue and would finally discharge the wastewater two kilometers inside the Pacific Ocean. Such environmental impact study was approved with certain conditions by the COREMA by resolution dated February 24, 2010. We have challenged these conditions before the Directive Council (Consejo Directivo) of the CONAMA. As of the date of this annual report, the Directive Council of the CONAMA has not resolved the action presented by us. As stated in the environmental impact study, the construction of this pipeline will commence once (i) the COREMA approves the environmental impact study in its final form, and (ii) all necessary permits for the construction of the pipeline have been issued by the competent authorities. In the environmental impact study, we estimated that the construction of the pipeline will take 24 months. Once the construction of the pipeline has been completed, we will conduct a 6-month trial phase of the pipeline and will then begin normal operations.

Approvals by the COREMA and the judicial courts, as well as the construction and operation of the pipeline are each subject to many environmental, regulatory, engineering and political uncertainties. As a result, we cannot provide any assurances that the projects will be finally approved as requested or completed. If our request for the necessary permits for the construction of the pipeline is rejected, or if the installation of the pipeline is delayed for reasons attributable to us, we may face sanctions that include warnings, fines or the revocation of the Valdivia Mill’s environmental permit for operation. Alternatively, if any rejections or delays are attributable to reasons beyond our control (such as a force majeure or the acts of a third party), we believe that the Chilean environmental authorities should extend the applicable deadlines for the completion of these projects. However, we can provide no assurances that any deadline extensions would be granted, even if we comply with all the requirements that may be set forth by those authorities. See “Item 3. Key Information—Risk Factors—Risks Relating to Arauco and the Forestry Industry—Environmental concerns led us to temporarily suspend our operations at the Valdivia Mill, which adversely affected, and in the future may continue to adversely affect, our business, financial condition, results of operations and cash flows” and “Item 4. Information on the Company—Description of Business—Pulp—Pulp mills—Chile—Valdivia Mill.”

As part of the environmental resolution that modified the Valdivia Mill environmental permit in 2005, the COREMA of the Tenth Region asked CONAF to elaborate an Integral Environmental Management Plan for the wetland, which was completed in 2006. The plan concluded that there was a need to develop a Conceptual Ecosystem Model for the wetland. CONAF selected the Science Faculty of the University of Chile to conduct this study.

The study indicated in its second progress report that the disappearance of the “luchecillo,” a water weed that was an important food source of black-necked swans, was likely related to natural causes. Specifically, the study proposed that the disappearance of the “luchecillo” was caused by the convergence of three factors in May 2004: (i) low levels of precipitation, (ii) low levels of water flow in the rivers and the wetland and (iii) three instances in which temperatures reached zero degrees Celsius or lower. According to the study, the simultaneous occurrence of these factors was likely responsible for the disappearance of the “luchecillo” which, in turn, lead to the death and migration of the swans. This second progress report was followed by a final report issued by the Science Faculty of the University of Chile, which was not approved by CONAF.

Nueva Aldea

In January 2001, we obtained environmental approval for the Nueva Aldea Project that included the construction of a pulp mill with an annual production capacity of 550,000 metric tons. After obtaining approval, we determined that we could increase the annual production capacity of the mill to 856,000 tons without an additional environmental impact study. The COREMA for the Eighth Region of Chile determined that it was necessary to formally review the difference in capacity before we proceeded with construction, and in August 2004, we submitted a new environmental impact study that considered the higher capacity. In September 2004, while this new study was under consideration, we began construction of the pulp mill according to the parameters approved in 2001. The COREMA for the Eighth Region of Chile disagreed with our decision and, on January 12, 2005, initiated an administrative proceeding and ordered suspension of construction of the mill until the new environmental impact study was approved.

 

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On March 10, 2005, the COREMA for the Eighth Region of Chile unanimously approved the new study and expressly authorized construction of the mill with installed annual capacity of 856,000 metric tons. We promptly resumed the construction of the pulp mill. The COREMA for the Eighth Region of Chile’s new approval requires submission of a new environmental impact study of the discharge of wastewater through a pipeline into the sea. On February 20, 2006, the COREMA of the Eighth Region of Chile approved this new environmental impact study. Proceedings relating to these approvals were decided on October 17, 2008 by the CONAMA without affecting the rights of Arauco. See Note 12 to our audited consolidated financial statements.

Licancel Mill

Beginning in June 2007, our operations at the Licancel Mill, a pulp mill located in the Seventh Region of Chile, became subject to environmental scrutiny by Chilean environmental regulators and the public. On June 5, 2007, in connection with the death of fish in the Mataquito River, approximately 15 kilometers downstream of the mill, we decided to voluntarily suspend our operations in the Licancel Mill as a preventive measure. In addition, Chilean authorities, including the health authorities and the Superintendencia de Servicios Sanitarios (Sanitary Services Superintendency), required that we suspend activities at the Licancel Mill and that we suspend any further discharges into the river. On June 18, 2007, as a result of a pipe leakage in the effluent treatment system currently in place at the Licancel Mill, an estimated 50 cubic meters of effluents reached the Mataquito River. On that same date, we decided to close the mill indefinitely and informed the Sanitary Services Superintendency of the incident. On October 3, 2007, we requested to the health authority (Autoridad Sanitaria) of the Seventh Region of Chile that it remove the suspension of activities at the Licancel Mill. On October 22, 2007, the health authority of the Seventh Region of Chile removed the suspension and imposed certain conditions relating to our activities in the mill consisting primarily of the implementation of certain emergency detection and control programs and systems, with which we have complied. Furthermore, on November 12, 2007 the Sanitary Services Superintendency removed the suspension regarding the release of discharges by the Licancel Mill. The mill resumed operations during January 2008, using the new effluent treatment system in which we invested U.S. $8 million during 2007.

On September 7, 2007, the National Defense Council instituted a civil lawsuit seeking reparations, damages and indemnification from us for environmental harm allegedly caused by the Licancel Mill. The National Defense Council agreed to terminate this lawsuit pursuant to an agreement with Arauco dated January 29, 2010. However, the resolution that approved the agreement and declared the lawsuit terminated was challenged by certain third parties. This action remains under review by the tribunal as of the date of this annual report. Several other administrative and judicial proceedings have been commenced as a result of the event at the Licancel Mill, including one proceeding arising from the death of fish at the Mataquito River.

Tax Litigation in Argentina

On December 14, 2007, Argentina’s internal revenue service (AFIP), notified our Argentine subsidiary, Alto Paraná S.A., of a claim for unpaid taxes in the amount of approximately AR $418 million (including principal, interest and penalties), arising from a dispute regarding certain income tax deductions taken by Alto Paraná S.A. in connection with certain debt service payments made beginning in 2001 in respect of outstanding bonds. On February 8, 2010, Argentina’s Tribunal Fiscal de la Nación issued an unfavorable administrative ruling requiring that Alto Paraná S.A. satisfy the abovementioned claim.

Alto Paraná’s legal and tax advisors continue to believe that this claim lacks merit, and as a result, Alto Paraná has appealed the decision to the Court of Appeals. Alto Paraná also filed an injunctive action requesting that the court stay the company’s payment obligation until the appeal has been fully resolved. On May 13, 2010, the Court of Appeals granted the request in exchange for a guarantee by Alto Paraná until the final judgment has been issued.

Tax Litigation in Chile

On August 25, 2005, the Chilean Servicio de Impuestos Internos (the “Chilean IRS”) issued tax calculations No. 184 and No. 185 of 2005 objecting to certain capital reduction transactions effected by Arauco on April 16, 2001 and October 31, 2001, and furthermore, requested reimbursement from the Company for amounts

 

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returned to it in respect of certain claimed tax losses. On November 7, 2005, the Company requested a Review of the Supervision Action (Revisión de la Actuación Fiscalizadora, or “RAF”), which is an administrative review of the tax action brought by the Chilean IRS, and subsidiarily, a claim was filed against the abovementioned tax calculations No. 184 and 185 of 2005. The RAF was resolved on January 9, 2009 by the Chilean IRS, which resolution, however, only partially sustained the Company’s request. In response, the Company filed an additional complaint with regard to the portion of the RAF that was not granted by the administrative review. As of the date of this annual report, the investigation in respect of this complaint is pending.

The Company believes that its position in respect of this complaint is supported by solid legal arguments and that there is a reasonable likelihood that this matter will result in a favorable outcome for the Company. However, if this result does not occur, it is possible that an obligation will arise for the amount specified, which was $3,362,265,453 Chilean Pesos, plus any accrued interest as of the payment date.

DIVIDEND POLICY

Chilean law currently requires that, unless otherwise decided by the unanimous vote of our issued and subscribed shares eligible to vote, public corporations distribute a cash dividend in an amount equal to at least 30% of the corporation’s consolidated net income for each year on the basis of IFRS, unless and except to the extent the corporation has unabsorbed losses from prior years. In April 2002, our shareholders approved the current dividend policy, setting the cash dividend at 40% of our consolidated net income for each year which was determined on a Chilean GAAP basis through the year ended December 31, 2008, and as of January 1, 2009, is now determined on an IFRS basis. In accordance with IFRS, the determination of the dividend amount is based on the effective realized profit net of any relevant variations in the value of unrealized assets and liabilities. For information regarding the differences between Chilean GAAP and IFRS, see note 2 to our audited consolidated financial statements.

On November 27, 2007, our board of directors approved a provisory dividend for U.S.$0.95 per share, which was distributed on December 12, 2007 and charged to net income. On April 22, 2008, our shareholders approved a final dividend for 2007, which was distributed on May 7, 2008. On November 25, 2008, our board of directors approved a provisory dividend for U.D.$0.89 per share, which was distributed on December 10, 2008 and charged to net income. On April 23, 2009, our shareholders approved a final dividend for 2008, which was distributed on May 7, 2009. In the aggregate, dividends distributed equaled 40% of our consolidated net income for 2008, on a Chilean GAAP basis. On November 24, 2009, our board of directors approved an interim dividend of U.S.$0.2294 per share, which was distributed on December 11, 2009 and charged to net income. On April 27, 2010, our shareholders approved a final dividend of U.S.$0.5016 per share for 2009, which was distributed on May 11, 2010. In the aggregate, dividends distributed equaled 40% of our consolidated net income for 2009 as determined on an IFRS basis.

Although the board of directors has no current plans to recommend changes in our dividend policy, the policy has been changed in the past and no assurance can be given that the policy will not be changed in the future, due to changes in Chilean law, capital requirements, operating results or other factors.

 

Item 9. The Offer and Listing

Neither our stock nor our SEC-registered securities are listed on any stock exchange or other regulated market.

Trading in our securities takes place primarily in the over-the-counter market. Accordingly, we are unable to obtain reliable information on such trading.

 

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Item 10. Additional Information

ARTICLES OF INCORPORATION AND BY-LAWS

When we refer to the “Company,” “Arauco” or “we,” in this description of the articles of incorporation and by-laws, we mean Celulosa Arauco y Constitución S.A.

Organization and Registration

We are a corporation (sociedad anónima) organized in Chile under the laws of Chile, and subject to the rules of the Chilean public corporations (sociedades anónima abiertas) and registered on August 18, 1971, by resolution 300-S of the Chilean Securities Commission and recorded in the Santiago Commercial Register of 1971 on page 6433 under entry number 2994 and on page 6431 under entry number 2993. Notice was published in the Official Gazette on September 4, 1971.

Objects and Purposes

Our purpose, as stated in our by-laws (estatutos), includes the manufacture of forestry products, the management of forestry lands and other activities.

Capital

In 2002, our by-laws were amended such that our capital is denominated in U.S. dollars. In 2002, we and two of our subsidiaries, Aserraderos Arauco and Paneles Arauco, received authorization from the Chilean Internal Tax Service to prepare our audited consolidated financial statements in U.S. dollars, beginning January 1, 2002. In January 1, 2003, our subsidiaries Forestal Arauco, Bosques Arauco, Forestal Valdivia, Forestal Celco and Cholguán obtained the same permission from the Chilean Internal Tax Service.

Directors

Pursuant to our by-laws, our board of directors is composed of nine members elected by a general meeting of our shareholders. Our directors are not required to be shareholders. Our by-laws state that the amount of compensation to be received by the directors for their directorial services shall be fixed by the general shareholders’ meeting. Directors may be compensated for any non-directorial services rendered to us at levels of compensation comparable with compensation commonly paid for these services, compensation which is compatible with the directors’ compensation fixed by the general shareholders’ meeting. The by-laws also state that our board of directors has all of the authorities of administration and disposal that Chilean law or the by-laws do not confer upon the general shareholders’ meeting. The board of directors has the right to act on our behalf without the need for a special power of attorney, even in cases where a power of attorney is required by law. In particular, the by-laws provide that the board of directors is empowered to encumber our assets, real and personal property with mortgages, easements or pledges regardless of the value of such property or the amount of the respective encumbrances and to borrow money paying interest, with or without a guaranty for the loan.

Our by-laws provide that we may enter into acts or contracts in which one or more directors are interested only if the interested director’s interest is made known to the board, the acts or contracts are approved by the board and the terms of the act or contract conform to those prevailing in the market. In addition, board resolutions approving interested director transactions must be reported by the chair of the meeting at the first general shareholders’ meeting following the approval of the interested director transaction.

See “Item 6. Directors, Senior Management and Employees” for further information about our board of directors.

 

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Shareholders

Our share capital consists of ordinary shares of no par value issued in registered form. Record holders of shares are registered in our share register. Any transfer of shares must be noted in our share register.

Voting Rights

Each share of our stock entitles the holder to one vote at any meeting of shareholders. Resolutions may be taken upon a vote of an absolute majority of the voting shares present or represented. Any resolution relating to amendments to our by-laws must be approved by an absolute majority of the voting shares issued. Resolutions with regard to the following matters require the affirmative vote of two-thirds of the voting shares issued:

 

   

transformation, including division or merger with another company;

 

   

advanced dissolution;

 

   

change of corporate domicile;

 

   

reduction in our equity capital;

 

   

approval and appraisal of non-cash capital contributions;

 

   

reduction in the number of members of the board of directors;

 

   

the disposal of 50% or more of our assets, whether or not such disposal also includes any of our liabilities; the disposal of 50% or more of the assets of one our subsidiaries, provided that such subsidiary represents at least 20% of our assets; and any disposal of shares by the company that causes us to lose control of a subsidiary; and

 

   

changes to the way in which corporate benefits will be distributed.

According to our by-laws, holders of our shares also have the right to vote at the general shareholders’ meeting for the election of directors. Shareholders or their representatives may accumulate their votes in favor of one candidate or distribute them among various candidates. A vote on the election of directors may be omitted if an election is proposed by acclamation and none of the shareholders present or represented opposes the motion. The board of directors may also be dismissed by a regular or special general shareholders’ meeting, though the shareholders may only vote to dismiss the board as a whole.

Changes to Shareholders’ Rights

To change the rights of holders of our shares or create a new series of our shares, we must amend our by-laws. Any reduction in the number of our shares requires a two-thirds majority vote of all holders of our shares under Chilean law. Chilean law also requires that public corporations distribute a cash dividend in an amount equal to at least 30% of the corporation’s consolidated net income for each year (on an IFRS basis), unless otherwise decided by a unanimous vote of the corporation’s issued and subscribed shares eligible to vote. Any changes to the way in which corporate benefits are distributed must be approved by a two-thirds majority of all holders of the corporation’s shares.

Shareholders’ Meetings

Our by-laws provide that the board of directors shall call general shareholders’ meetings. Notice of general shareholders’ meetings must be made by a prominent notice published at least three times, on different days, in the newspaper of one of our corporate domiciles, as determined by a general shareholders’ meeting, or in the absence of a determination, in the Official Gazette.

 

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A shareholder must be registered in our share register as of the meeting date to be entitled to participate and vote at any shareholders’ meeting. In addition, other persons may represent shareholders at general meetings. Powers of attorney must be given in writing and must be granted with respect to all of the shares the shareholder is entitled to vote as of the date five days before the general shareholders’ meeting.

General shareholders’ meetings may be regular or special meetings. Regular shareholders’ meetings are held once a year within the first four months of the year. Among other things, the regular general shareholders’ meeting appoints independent external auditors to examine our accounts, inventory, balance sheet and other financial results. The by-laws provide that the following matters are to be considered at regular shareholders’ meetings:

 

   

the review of our results of operations and external auditors’ reports and the approval or rejection of our annual report, our balance sheet and financial statements;

 

   

the distribution of profits of each financial period and the distribution of our dividends;

 

   

the election or dismissal of the members of the board of directors; and

 

   

any matter of corporate interest that is not transacted at a special general shareholders’ meeting.

Special shareholders’ meetings may be held at any time required by corporate needs to consider any matter that the law or our by-laws require to be considered at a general shareholders’ meeting. Our by-laws require the meeting notice to disclose any matters to be discussed at a special shareholders’ meeting. According to the by-laws, the following matters must be considered at special shareholders’ meetings:

 

   

dissolution;

 

   

transformation, merger or division and the amendment of our by-laws;

 

   

the issue of bonds or debentures convertible into shares;

 

   

the disposal of 50% or more of our assets, whether or not such disposal also includes any of our liabilities; the disposal of 50% or more of the assets of one our subsidiaries, provided that such subsidiary represents at least 20% of our assets; and any disposal of shares by the company that causes us to lose control of a subsidiary; and

 

   

the grant of real or personal guarantees to secure obligations of third parties, unless they are subsidiaries, in which case the approval of the board of directors will be sufficient.

Any other matters within the competence of general shareholders’ meetings may be considered at special shareholders’ meetings.

Any act of a general shareholders’ meeting relating to our dissolution, transformation, merger or division, the amendment of our by-laws, any disposal of 50% or more of our assets or the issue of bonds convertible into shares or convertible debentures must be held before a notary public, who must certify that the minutes of such meeting are the true expression of what occurred and was resolved at such meeting.

Allocation of Net Income and Distribution of Dividends

Our by-laws provide that the shareholders at a general shareholders’ meeting shall determine the annual distribution of our net profits for each financial period, within the limitations prescribed by law. The shareholders shall also set the date on which any distribution shall be paid, within the time limits prescribed by law. Chilean law prescribes that distributions shall be paid within 30 days of the general shareholders’ meeting at which such distribution was determined.

 

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In accordance with Chilean law, in the event of liquidation, capital can be distributed to the shareholders only after the rights of the creditors have been secured or debts owed to creditors have been paid. Our by-laws provide that a general shareholders’ meeting will appoint one or more liquidators to carry out the liquidation and to call shareholders’ meetings, as required under Chilean law.

Regulation of and Restrictions on Foreign Investors

There are no limitations on the rights to hold securities, including rights of non-resident or foreign shareholders to hold or exercise voting rights on securities.

Disclosure of Shareholder Ownership

We register certain information about our shareholders in our shareholder registry. We are required to disclose this information to the Chilean Securities Commission on a quarterly basis.

Rights of Shareholders

Our by-laws provide that, in the case of a dispute between shareholders or between shareholders and management, the parties will submit their dispute to a mixed arbitrator, who may determine the procedural rules to be used in the arbitration but must issue a final judgment in accordance with Chilean law. Subject to limited exceptions, the arbitrator’s judgment shall not be subject to appeal. The parties shall appoint the arbitrator by mutual agreement and if no agreement is reached, an arbitrator will be appointed by the civil court system from among present and former associate justices of the Supreme Court of Justice of Chile.

EXCHANGE CONTROLS

The Central Bank is responsible for, among other things, monetary policies and exchange controls in Chile. Prior to 1989, Chilean law permitted the purchase and sale of foreign currency only in cases explicitly authorized by the Central Bank. Law No. 18,840, the Organic Law of the Central Bank of Chile (Ley Orgánica Constitucional del Banco Central de Chile), or the Central Bank Act, enacted in 1989, liberalized the rules that govern the ability to buy and sell foreign currency.

The Central Bank Act empowers the Central Bank to determine which types of foreign exchange operations must be carried out in the Formal Exchange Market rather than the Informal Exchange Market (Mercado Cambiario Informal). The Central Bank has ruled that certain foreign exchange transactions, including those attendant to foreign investments and bond issuances, may be effected only in the Formal Exchange Market. The Central Bank may also impose restrictions on foreign exchange operations that are conducted or are required to be conducted in the Formal Exchange Market. These restrictions may include the requirement of prior authorization from the Central Bank, the imposition of reserve requirements and the limitation of foreign exchange operations that may be conducted by the entities that participate in the Formal Exchange Market.

The Formal Exchange Market consists of banks and other entities authorized by the Central Bank to participate in such Formal Exchange Market. On April 16, 2001, the Central Bank agreed that, effective April 19, 2001, the prior foreign exchange restrictions would be eliminated and a new Compendium of Foreign Exchange Regulations (Compendio de Normas de Cambios Internacionales) would be applied.

The main objective of this change is to facilitate capital movements from and into Chile and to encourage foreign investment.

The following specific restrictions were eliminated:

 

   

a reserve requirement with the Central Bank for a period of one year;

 

   

the requirement for prior approval by the Central Bank for certain operations, such as repatriation of investments and payments to foreign creditors;

 

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the mandatory return of foreign currencies to Chile; and

 

   

the mandatory conversion of foreign currencies into Chilean pesos.

Under the amended regulations, only the following limitations are applicable to these operations:

 

   

the Central Bank must be provided with information related to certain operations, such as foreign investments and foreign credits; and

 

   

certain operations, such as money transfers to and from Chile related to foreign investments and foreign credits, must be conducted within the Formal Exchange Market.

International Issue of Bonds

Before April 19, 2001, any international issue of bonds was subject to approval by the Central Bank after submission of an application to the Central Bank through a bank or other participant in the Formal Exchange Market. Absent the Central Bank’s authorization, issuers were unable to offer bonds outside of Chile. On April 19, 2001, the Central Bank issued new foreign exchange regulations, effective as of March 1, 2002, that were included in the new Chapters XIV and VIII of the Compendium, applicable to bond issues made either from Chile or through an agency abroad. It must be noted however, that all debt issues made before the new regulations remain subject to the regulations existing at the time of their issue.

Debt securities issued directly by us

In accordance with regulations issued by the Central Bank, which were included in the new Chapter XIV of the Compendium, effective March 1, 2002, as amended, any international issue of bonds in an aggregate amount exceeding U.S.$1,000,000 must be registered and dated by the Central Bank or by a bank or other entity authorized by the Central Bank to participate in the Formal Exchange Market before the proceeds from the issuance can be remitted to Chile and received by the issuer or simultaneously with the remittance into Chile of such proceeds. The issuer must submit forms regarding the offering to the registering entity or directly to the Central Bank, along with a letter of instructions indicating whether it prefers to receive the proceeds in Chilean pesos or in a foreign currency. If presented through a Formal Exchange Market entity, such entity must, in turn, verify that the forms submitted by the issuer are in accordance with the documentation relating to the issue and inform the Central Bank of the operation no later than 11:00 a.m. on the banking business day following the date on which the proceeds of the issue are transferred to the issuer.

If the issuer opts to receive the proceeds of the issue outside of Chile, it must report this to the Central Bank directly or through a Formal Exchange Market entity during the first ten calendar days of the month following the one in which the proceeds were received.

Chapter XIV of the Compendium also states that proceeds from the issue, as well as payment of capital and interest relating to the issue, must be received and sent from and through the Formal Exchange Market, but purchases of U.S. dollars in connection with payments on debt securities issued directly by us can be made either in the Formal or in the Informal Exchange Market. There can be no assurance, however, that we will be able to purchase U.S. dollars in the Informal Exchange Market or in the Formal Exchange Market at the time or in the amounts required to pay debt service related to any such debt securities. There can also be no assurance that further Central Bank regulations or legislative changes to the current foreign exchange control regime in Chile would not restrict or prevent our purchase of U.S. dollars to make payments under our securities.

In the case of debt securities issued directly by us before the effectiveness of the new regulations, the registration of the debt securities with the Central Bank grants us access to the Formal Exchange Market for the purchase of U.S. dollars necessary to make payments in respect of those securities but requires that payments on such debt securities shall be made only with U.S. dollars purchased in the Formal Exchange Market.

 

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The regulations of Chapter XIV of the Compendium do not make any reference to the one-year mandatory deposit in the Central Bank that was previously required by Chapter XIV. However, the Central Bank is authorized, under the Central Bank Act, to impose such a requirement.

Debt securities issued through our Panamanian agency

In December 1996, we established a registered agency in Panama. We may from time to time issue debt securities directly or through our Panamanian agency depending on, among other factors, whether or not we expect to bring the proceeds thereof into Chile. In such cases, the proceeds of such issuance of the notes may be brought into Chile or held abroad. In either case, however, in accordance with Chapter VIII of the Compendium, we were required to inform the Central Bank of the issuance of international bonds through our Panamanian agency during the first ten calendar days of the month following the one in which the disbursement of funds to the agency was produced, and provide the schedule of payments of the notes. On December 27, 2007, the requirement to provide such information to the Central Bank was eliminated. We will no longer be required to inform the Central Bank of future issuances of bonds made through our Panamanian agency.

Purchases of U.S. dollars in connection with payments on debt securities issued through our Panamanian agency, whether before or after April 19, 2001, can be made either in the Formal Exchange Market or in the Informal Exchange Market. Although we were required to inform the Central Bank of the issuance of debt securities through our Panamanian agency, such communication to the Central Bank did not give us access to the Formal Exchange Market for the purchase of U.S. dollars necessary to make payments in respect of those debt securities.

There can be no assurance that we will be able to purchase U.S. dollars in the Informal Exchange Market or in the Formal Exchange Market at the time or in the amounts required to pay debt service related to any such debt securities. There can also be no assurance that further Central Bank regulations or legislative changes to the current foreign exchange control regime in Chile and will not restrict or prevent our purchase of U.S. dollars to make payments under our securities from Chile.

TAXATION

General

The following summary contains a description of the principal Chilean and United States federal income tax consequences of the purchase, ownership and disposition of our securities, but it does not purport to be a comprehensive description of all the tax considerations that may be relevant to a decision to purchase our securities. This summary does not describe any tax consequences arising under the laws of any state, locality or taxing jurisdiction other than the United States and Chile.

This summary is based on the tax laws of Chile and the United States as in effect on the date of this Form 20-F, as well as regulations, rulings and decisions of Chile and the United States available on or before such date and now in effect. All of the foregoing is subject to change, and any changes could apply retroactively and could affect the continued validity of this summary.

Prospective purchasers of our securities should consult their own tax advisors as to the Chilean, United States or other tax consequences of the purchase, ownership and disposition of our securities, including, in particular, the application to their particular situations of the tax considerations discussed below, as well as the application of state, local, foreign or other tax laws.

Chile and the United States have executed an income and capital tax treaty for the avoidance of double taxation and the prevention of fiscal evasion, but this treaty is not in effect, and its effectiveness is contingent upon ratification in the United States Senate and by the Chilean Congress. At this time it is not clear when the United States Senate and the Chilean Congress will consider ratification, and therefore the effective date of the treaty is uncertain.

 

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Chilean Taxation

The following is a general summary of the principal consequences under Chilean tax law, as currently in effect, of an investment in our securities made by a foreign holder. Foreign holder means either:

 

   

in the case of an individual, a person who neither is a resident nor is domiciled in Chile. For Chilean tax purposes, an individual is domiciled in Chile if such individual has his or her principal place of business in Chile. The individual will be considered as a resident if she or he stays in Chile for more than six months in one calendar year or a total of more than six months in two consecutive fiscal years; or

 

   

in the case of a legal entity, a legal entity that is not organized under the laws of Chile, unless our securities are assigned to a branch or a permanent establishment of such entity in Chile.

Under Chile’s income tax law, our payments of interest made from Chile in respect of our securities to a foreign holder will generally be subject to a Chilean withholding tax assessed at a rate of 4.0% (the “Chilean Interest Withholding Tax”).

We have agreed, subject to specific exceptions and limitations, to pay to the foreign holders of notes additional amounts in respect of the Chilean Interest Withholding Tax in order to ensure that the interest amount the foreign holder receives is net of Chilean Interest Withholding Tax. If we pay additional amounts in respect of the Chilean Interest Withholding Tax, any tax refunds in respect of these amounts will be for the benefit of the company. In the event that certain changes in Chilean tax laws require us to pay additional interest amounts in respect of the Chilean Interest Withholding Tax at a rate in excess of 4.0%, we have the right to redeem our securities.

Under existing Chilean law and regulations, a foreign holder will not be subject to any Chilean taxes in respect of payments of principal that we make with respect to our securities. Our payments with respect to our securities of amounts not considered principal or interest may be subject to a Chilean withholding tax of up to 35%.

The Chilean Income Tax Law provides that a foreign holder is subject to income tax on his Chilean source income. For this purpose, Chilean source income means earnings from activities developed in Chile or goods located in the country. According to the Chilean Income Tax Law, the source of interest income corresponds to the residence country of the debtor. Under these rules, the capital gain realized on the sale or other disposition by a foreign holder of our securities will be generally subject to taxes on capital gain.

A foreign holder will not be liable for gift, inheritance or similar taxes with respect to its holdings unless the securities held by a foreign holder:

 

   

are located in Chile at the time of such foreign holder’s death, or

 

   

are located outside of Chile, but were purchased or acquired with funds derived from Chilean source income.

A foreign holder should not be liable for Chilean stamp, registration or similar taxes.

The issue of our securities directly by us was subject to the Chilean stamp tax, which we paid. The issue of our securities through our Panamanian Branch was not subject to a stamp tax.

United States Taxation

This summary of certain United States federal income tax considerations deals principally with United States Holders that acquired our securities as part of the initial offering of our securities, hold our securities as capital assets and whose functional currency is the United States dollar. It does not purport to be a comprehensive description of all of the tax considerations that may be relevant to a particular investor, and generally does not address the tax treatment of United States Holders that may be subject to special tax rules, such as banks, financial

 

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institutions, tax-exempt entities, regulated investment companies, real estate investment trusts, insurance companies, dealers in securities or currencies, traders in securities electing to mark to market, certain short-term holders of our securities, persons that will hold our securities as a position in a “straddle” or conversion transaction, or as part of a “synthetic security” or other integrated financial transaction, persons that own (or are deemed to own for United States tax purposes) 10% or more of our voting stock or persons that are not United States Holders. United States Holders should be aware that the U.S. federal income tax consequences of holding our securities may be materially different for investors described in the previous sentence, including as a result of certain laws applicable to investors with short holding periods or that engage in hedging transactions.

As used under this section “United States Taxation,” the term “United States Holder” means a beneficial owner of a Note that is a citizen or resident of the United States or a United States domestic corporation or that otherwise is subject to United States federal income taxation on a net income basis in respect of our securities.

Taxation of Interest and Additional Amounts

A United States Holder will treat the gross amount of interest and Additional Amounts (i.e., without reduction for Chilean Interest Withholding Tax, determined utilizing the 4.0% Chilean Interest Withholding Tax rate applicable to all United States Holders of our securities) as ordinary interest income in respect of our securities at the time that such payments are accrued or are received, in accordance with the United States Holder’s method of tax accounting. Any Chilean Interest Withholding Tax paid will be treated as foreign income taxes eligible for credit against such United States Holder’s United States federal income tax liability, subject to generally applicable limitations and conditions, or, at the election of such United States Holder, for deduction in computing such United States Holder’s taxable income. Interest and Additional Amounts will constitute income from sources outside the United States for foreign tax credit purposes. Such income generally will constitute “passive category income.” Foreign tax credits will not be allowed for withholding taxes imposed in respect of certain short-term or hedged positions in securities and may not be allowed for withholding taxes imposed in respect of arrangements in which a United States Holder’s expected economic profit is insubstantial. United States Holders should consult their own advisors concerning the implications of these rules in light of their particular circumstances.

The calculation of foreign tax credits and, in the case of a United States Holder that elects to deduct foreign taxes, the availability of deductions, involves the application of rules that depend on a United States Holder’s particular circumstances. United States Holders should consult their own tax advisors regarding the availability of foreign tax credits and the treatment of Additional Amounts.

A Holder of our securities that is, with respect to the United States, a foreign corporation or a nonresident alien individual (a “Non-U.S. Holder”) generally will not be subject to United States federal income or withholding tax on interest income or Additional Amounts earned in respect of our securities, unless such income is effectively connected with the conduct by the Non-U.S. Holder of a trade or business in the United States.

Taxation of Dispositions

Gain or loss realized by a United States Holder on the sale, redemption or other disposition of our securities generally will be treated as capital gain or loss and such gain or loss will be long-term capital gain or loss if at the time of the disposition, our securities have been held for more than one year. The net amount of long-term capital gain realized by a United States Holder that is an individual is generally taxed at a reduced rate. Gain, if any, realized by a United States Holder generally will be treated as U.S. source income for U.S. foreign tax credit purposes.

A Non-U.S. Holder of our securities will not be subject to United States federal income or withholding tax on gain realized on the sale or other disposition of our securities unless (i) such gain is effectively connected with the conduct by the Non-U.S. Holder of a trade or business in the United States or (ii) in the case of gain realized by an individual Non-U.S. Holder, the Non-U.S. Holder is present in the United States for 183 days or more in the taxable year of the sale and certain other conditions are met.

 

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Backup Withholding and Information Reporting

Payments of principal, premium, if any, and interest on our securities and payment of the proceeds of any disposition of our securities made to certain United States Holders may be subject to U.S. information reporting requirements. In addition, certain United States Holders may be subject to a U.S. backup withholding tax in respect of such payments if they do not provide their taxpayer identification numbers to the payor or otherwise establish an exemption. Non-U.S. Holders generally are exempt from these withholding and reporting requirements, but may be required to comply with applicable certification and identification procedures to establish their eligibility for such an exemption.

DOCUMENTS ON DISPLAY

We are subject to the informational requirements of the Securities Exchange Act of 1934, as amended. In accordance with these requirements, we file reports and other information with the Securities and Exchange Commission. These materials, including this Annual Report and the exhibits thereto, may be inspected and copied at the Commission’s Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. Copies of the materials may be obtained from the Public Reference Room at the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed rates. In addition, the Commission maintains an Internet website at http://www.sec.gov, from which these materials may be electronically accessed. The public may obtain information on the operation of the Commission’s Public Reference Room by calling the Commission in the United States at 1-800-SEC-0330.

 

Item 11. Quantitative and Qualitative Disclosures About Market Risk

The following discussion about our risk management activities includes forward-looking statements that involve risk and uncertainties. Actual results could differ materially from those projected in such forward-looking statements.

We are exposed to market risk from changes in interest rates and currency exchange rates. From time to time, we assess our exposure and monitor opportunities to manage these risks, including entering into derivative contracts. In the normal course of business, we also face risks that are either non-financial or non-quantifiable. Such risks principally include country risk, credit risk and legal risk and are not represented in the tables below.

INTEREST RATE RISK

Interest rate risk exists principally with respect to our indebtedness that bears interest at floating rates. At December 31, 2009, we had outstanding approximately U.S.$3,022.4 million of long-term indebtedness excluding accrued interest, of which approximately 87.2% bore interest at fixed interest rates and approximately 12.8% bore interest at floating rates of interest. These average rates do not reflect the effect of swap agreements. 86.2% of the indebtedness was denominated in U.S. dollars as of that date. The interest rate on our variable rate debt is determined principally by reference to LIBOR.

The following table summarizes our long-term debt obligations, including 2010 maturities, at December 31, 2009 that are sensitive to changes in interest rates. The table presents the aggregate principal amount of each category of indebtedness maturing in each year, at the weighted average interest rate for each category of indebtedness. Average interest rates for liabilities are calculated based on the prevailing interest rate for each loan at December 31, 2009.

 

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     As of December 31, 2009
     Average
Interest
Rate(1)
    Expected contractual maturity date    Total Long
Term Debt
   Fair Value(2)
     2010    2011    2012    2013    2014    Thereafter      

Long-Term Interest Bearing Debt

                         

Fixed Rate

                         

(U.S.$-denominated)

   6.9   270.5    387.0    —      300.0    —      1,265.0    2,222.5    2,375.4

(UF-denominated)

   3.8   —      —      13.8    13.7    96.4    289.1    413.0    407.8

(R.$-denominated)

   0.0   —      0.0    0.0    0.1    0.1    0.2    0.4    0.4

Variable Rate

                         

(U.S.$-denominated) LIBOR +

   0.2   39.1    58.3    82.3    82.3    47.9    72.4    382.3    381.5

(R.$-denominated) TJLP +

   3.8   —      0.1    0.1    0.1    0.1    3.8    4.2    4.2

Total

     309.6    445.4    96.2    396.2    144.5    1,630.5    3,022.4    3,169.3

 

(1)

Average interest rate means, for variable rate debt, the weighted average prevailing interest rate at December 31, 2009, on our variable rate debt, and for fixed rate debt, the weighted average prevailing interest rate at December 31, 2009, on our fixed rate debt. Average rates do not reflect the effect of swap agreements.

(2)

These figures were calculated based on the discounted value of future cash flows expected to be received or paid, considering current discount rates that reflect the different risks involved. See Note 23 to our audited consolidated financial statements.

FOREIGN CURRENCY RISK

Our principal exchange rate risk involves changes in the value of the Chilean peso and, to a lesser extent, the Brazilian real, the euro and the Argentine peso relative to the dollar. We generally believe that our foreign currency exposure is not material to our net income. In 2009, substantially all of our consolidated revenues were denominated in or indexed to foreign currencies. We estimate that a majority of our consolidated costs and expenses are denominated in dollars. As of December 31, 2009:

 

   

70% of our accounts receivable were denominated in U.S. dollars and a 19% in Chilean pesos;

 

   

34% of our cash and short-term investments were denominated in U.S. dollars, 41% were denominated in Chilean pesos and 12% in euros;

 

   

substantially all of our indebtedness was denominated in U.S. dollars; and

 

   

a significant portion of our consolidated total assets was denominated in U.S. dollars.

Substantially all of our foreign currency-denominated revenues, costs and expenses, receivables and indebtedness are denominated in U.S. dollars. As of December 31, 2009, substantially all of our long-term debt was denominated in U.S. dollars. Accordingly, variations in the value of the Chilean peso relative to the dollar will not have a significant effect in the cost in dollars of our foreign debt service obligations.

 

Item 12. Description of Securities Other than Equity Securities

Not applicable.

 

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PART II

 

Item 13. Defaults, Dividend Arrearages and Delinquencies

None.

 

Item 14. Material Modifications to the Rights of Security Holders and Use of Proceeds

None.

 

Item 15T. Controls and Procedures

(a) Disclosure controls and procedures. We carried out an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Accounting Officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as of December 31, 2009. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective controls and procedures can only provide reasonable assurance of achieving their control objectives. Based upon our evaluation, our Chief Executive Officer and Chief Accounting Officer concluded that the disclosure controls and procedures, as of December 31, 2009, were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the U.S. Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Accounting Officer, as appropriate to allow timely decisions regarding required disclosure.

(b) Management’s annual report on internal controls and procedures. Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Accounting Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the our assets that could have a material effect on our financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Based on our evaluation under the framework in Internal Control—Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2009.

 

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(c) Attestation Report of the registered public accounting firm. This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only the management’s report in this annual report.

(d) Changes in internal controls over financial reporting. There has been no change in our internal control over financial reporting during 2009 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

Item 16A. Audit Committee Financial Expert

We do not have an audit committee. Accordingly, certain rules under the U.S. federal securities laws that would otherwise apply to the audit committee apply to our board of directors as a whole. We believe that the members of our board of directors have sufficient financial and other experience to perform their responsibilities under these rules. Our board of directors has determined that Timothy C. Purcell qualifies as an “audit committee financial expert” within the meaning of Item 16A of Form 20-F. Our board of directors has determined that Timothy C. Purcell is independent as that term is defined in Rule 10A-3 under the Exchange Act. For a description of Mr. Purcell’s professional experience, see “Item 6. Directors, Senior Management and Employees—Directors and Executive Officers.”

 

Item 16B. Code of Ethics

We have adopted a code of ethics, as defined in Item 16B of Form 20-F under the Securities Exchange Act of 1934, as amended. Our code of ethics applies to all of our employees, including, but not limited to, our Chief Executive Officer, Chief Financial Officer and Chief Accounting Officer. We will provide any person without charge, upon request, a copy of such code of ethics. Requests for a copy of the code of ethics may be made to Celulosa Arauco y Constitución S.A., El Golf 150, 14th Floor, Santiago, Chile, Attn: Gianfranco Truffello, tel. (011-562) 461-7200, fax (011-562) 461-7541. Our code of ethics is also published on our website at www.arauco.cl. If we amend the provisions of our code of ethics that apply to our Chief Executive Officer, Chief Financial Officer and Chief Accounting Officer, or if we grant any waiver of such provisions, we will disclose the amendment or waiver in our annual report on Form 20-F.

 

Item 16C. Principal Accountant Fees and Services

Audit and Non-Audit Fees

The following table sets forth the fees billed to us by our independent auditors, PricewaterhouseCoopers, during the fiscal years ended December 31, 2008 and 2009.

 

     Year ended
December 31,
     2008    2009
     (U.S.$ in thousands)

Audit fees

   $ 1,267    1,589

Audit-related fees

     4    166

Tax fees

     127    220

Other fees

     78    13
           

Total fees

   $ 1,476    1,988
           

 

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Audit fees in the above table are the aggregate fees billed by PricewaterhouseCoopers in connection with the audit of our annual financial statements in accordance with IFRS and U.S. GAAP, as well as the review of other filings.

Audit-related fees in the above table are the aggregate fees billed by PricewaterhouseCoopers for assurance and related services that are reasonably related to the performance of the audit or review of our financial statements or that are traditionally performed by the external auditor, including consultations regarding the Sarbanes-Oxley Act, due diligence related to acquisitions and review of offering memorandums prepared in connection with the issuance of debt under Rule 144A.

Tax fees in the above table are fees billed by PricewaterhouseCoopers associated with the issuance of certificates for tax and legal compliance purposes in Brazil and Argentina; tax consultation on the impact of debt restructured by our subsidiaries in Argentina; and tax consultation in the United States.

Other fees in the above table are fees billed by PricewaterhouseCoopers in connection with training services and consultations in International Financial Reporting Standards.

Audit Committee Approval Policies and Procedures

Our board of directors has established pre-approval policies and procedures for the engagement of our independent auditors. Pursuant to our pre-approval policy, our board of directors has pre-approved a list of services that our independent auditors are allowed to provide to us or our subsidiaries.

Additionally, our board of directors expressly approves, on a case-by-case basis, any engagement of our independent auditors for audit and non-audit services that are not included on the pre-approved list.

 

Item 16D. Exemptions from the Listing Standards for Audit Committees

Not applicable.

 

Item 16E. Purchases of Equity Securities by the Issuer and Affiliated Purchasers

Not applicable.

 

Item 16F. Change in Registrant’s Certifying Accountant

Not applicable.

 

Item 16G. Corporate Governance

Not applicable. Neither our stock nor our SEC-registered securities are listed on any stock exchange or other regulated market.

 

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PART III

 

Item 17. Financial Statements

Not applicable.

 

Item 18. Financial Statements

Our audited consolidated financial statements have been prepared in accordance with IFRS, as issued by the IASB, and are included in this annual report beginning at page F-1.

 

Item 19. Exhibits

Documents filed as exhibits to this annual report:

 

  1.1    English translation of the by-laws (estatutos) of Celulosa Arauco y Constitución S.A., dated as of April 29, 2010
  8.1    List of subsidiaries
12.1    Certification of chief executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
12.2    Certification of principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
13.1    Certification of chief executive officer and principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

Omitted from the exhibits filed with this annual report are certain instruments and agreements with respect to our long-term debt, none of which authorizes securities in a total amount that exceeds 10% of our total assets. We hereby agree to furnish to the SEC copies of any such omitted instruments or agreements as the SEC requests.

 

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The registrant hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused and authorized the undersigned to sign this annual report on its behalf.

 

CELULOSA ARAUCO Y CONSTITUCIÓN S.A.

By:

 

/s/ Matías Domeyko

 

Matías Domeyko

Chief Executive Officer

Date: June 30, 2010


Table of Contents

Index of Exhibits

 

  1.1    English translation of the by-laws (estatutos) of Celulosa Arauco y Constitución S.A., dated as of April 29, 2010
  8.1    List of subsidiaries
12.1    Certification of chief executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
12.2    Certification of principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
13.1    Certification of chief executive officer and principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002


Table of Contents

LOGO

CONSOLIDATED FINANCIAL STATEMENTS

AT DECEMBER 31, 2009 AND 2008

IFRS - International Financial Reporting Standards

IAS - International Accounting Standards

IFRIC - International Financial Reporting Standards Committee

PCGA - GAAP in Chile

ThU.S.$- Thousands of U.S. Dollars

 

F - 1


Table of Contents

LOGO

 

 

   

 

PricewaterhouseCoopers

    RUT: 81.513.400-1
    Santiago de Chile
    Av. Andrés Bello 2711-Torre Costanera
    Las Condes
    Teléfono [56] (2) 940 0000

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of

Celulosa Arauco y Constitución S.A.

In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of income, comprehensive income, shareholders’ equity and cash flows present fairly, in all material respects, the financial position of Celulosa Arauco y Constitución S.A. and its subsidiaries at December 31, 2009 and 2008, and January 1, 2008 and the results of their operations and their cash flows for each of the two years in the period ended December 31, 2009 in conformity with International Financial Reporting Standards as issued by the International Accounting Standards Board. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

/s/ PricewaterhouseCoopers

Santiago, Chile

June 24, 2010

 

F - 2


Table of Contents

LOGO

 

INDEX

 

     Page

Consolidated Balance Sheet

   F-4

Consolidated Statement of Income

   F-6

Consolidated Statement of Changes in Net Equity

   F-7

Consolidated Statement of Cash Flows-Direct Method

   F-8

NOTE 1 - Presentation of Consolidated Financial Statements

   F-9

NOTE 2 - First Time Adoption of International Financial Reporting Standards

   F-25

NOTE 3 - Inventories

   F-33

NOTE 4 - Cash Flow Statement

   F-33

NOTE 5 - Accounting Policies, Changes in Accounting Estimates

   F-35

NOTE 6 - Taxes

   F-35

NOTE 7 - Property, Plant and Equipment

   F-38

NOTE 8 - Leases

   F-42

NOTE 9 - Ordinary Revenue Recognition

   F-44

NOTE 10 - Employee Benefits

   F-45

NOTE 11 - Effect of Foreign Currency Exchange Rate Variations

   F-46

NOTE 12 - Borrowing Costs

   F-47

NOTE 13 - Related Parties

   F-48

NOTE 14 - Consolidated and Separate Financial Statements

   F-52

NOTE 15 - Investments in Associates

   F-56

NOTE 16 - Interests in Joint Ventures

   F-59

NOTE 17 - Distributable Net Profit and Earnings per Shares

   F-62

NOTE 18 - Impairment of Assets

   F-64

NOTE 19 - Provisions, Contingent Assets and Contingent Liabilities

   F-67

NOTE 20 - Types of Intangible Assets

   F-75

NOTE 21 - Biological Assets

   F-77

NOTE 22 - Environment

   F-80

NOTE 23 - Financial Instruments

   F-83

NOTE 24 - Operating Segments

   F-100

NOTE 25 - Events after Reporting Period

   F-105

 

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CONSOLIDATED BALANCE SHEET

 

    

Note

   12/31/2009    12/31/2008    01/01/2008
          ThU.S.$    ThU.S.$    ThU.S.$

Assets

           

Current Assets

           

Cash and cash equivalents

   4    534,199    167,308    267,872

Financial assets at fair value through profit or loss

   23    8,426    13,469    10,626

Trade and Other receivables-net

   23    558,441    588,803    686,726

Related party receivables

   13    18,272    5,475    11,379

Inventories

   3    620,058    691,206    529,478

Biological assets

   21    310,832    305,730    351,227

Prepaid expenses

      61,263    74,331    54,194

Tax receivables

      160,346    148,670    122,219

Other current assets

      2,421    998    1,738

Total Current Assets

      2,274,258    1,995,990    2,035,459

Non-Current Assets

           

Trade and Other receivables

   23    11,080    7,864    17,099

Investment in associates through equity method

   15-16    476,101    141,590    153,861

Intangible assets

   20    74,930    14,469    15,640

Property, plant and equipment

   7    4,969,753    4,615,971    4,609,641

Biological assets

   21    3,446,696    3,346,703    3,479,289

Deferred tax assets

   6    109,760    87,221    81,295

Hedge assets

   23    17,998    0    0

Prepaid expenses

      26,322    21,169    16,530

Other non-current assets

      8,874    8,863    24,424

Total non-current assets

      9,141,514    8,243,850    8,397,779

Total Assets

      11,415,772    10,239,840    10,433,238
                 

 

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CONSOLIDATED BALANCE SHEET (continued)

 

     Note    12/31/2009    12/31/2008     01/01/2008
          ThU.S.$    ThU.S.$     ThU.S.$

Liabilities

          

Current Liabilities

          

Loans that accrue interest

   23    524,909    372,622      336,363

Other financial liabilities

   23    10,648    14,051      7,007

Trade and Other payables

   23    321,892    309,704      309,127

Related party payables

   13    12,081    9,102      8,116

Provisions

   19    5,169    3,753      2,320

Current tax payables

      15,917    10,325      40,960

Other liabilities

      58,741    88,542      214,933

Deferred income

      1,629    2,628      4,671

Post employment benefit obligations

   10    2,372    2,188      2,478

Total Current Liabilities

      953,358    812,915      925,975

Non-Current Liabilities

          

Loans that accrue interest

   23    2,678,010    2,279,321      2,388,826

Provisions

   19    9,463    5,585      6,271

Deferred tax liabilities

   6    1,256,090    1,092,393      1,093,597

Other liabilities

      110,832    24,045      35,446

Deferred income

      291    236      299

Post employment benefit obligations

   10    25,295    18,109      19,445

Total non-current liabilities

      4,079,981    3,419,689      3,543,884

Net Equity

          

Net equity attributable to parent company net equity instrument holders

          

Issued capital

      353,176    353,176      353,176

Other reserves

      21,618    (139,238   0

Retained earnings

      5,893,799    5,675,616      5,465,431

Net equity attributable to parent company net equity instrument holders

      6,268,593    5,889,554      5,818,607

Minority interest

      113,840    117,682      144,772

Total net equity

      6,382,433    6,007,236      5,963,379

Total net equity and liabilities

      11,415,772    10,239,840      10,433,238
                  

 

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CONSOLIDATED STATEMENT OF INCOME

 

     Note    2009     2008  
          ThU.S.$     ThU.S.$  

Profit (loss) from operations

       

Revenue

   9    3,113,045      3,713,893   

Cost of sales

      (2,152,535   (2,331,854

Gross profit

      960,510      1,382,039   

Other operating income

   1    183,273      104,270   

Marketing costs

      (7,155   (12,002

Distribution costs

      (388,535   (455,197

Research and development

      (3,915   (3,827

Administrative expenses

      (242,185   (247,023

Other operating expenses

      (48,294   (37,869

Financial income

      19,313      19,408   

Financial costs

   1    (193,872   (175,241

Participation in profit of associates through equity method

   15    4,084      4,241   

Participation in profit of joint ventures through equity method

   15    2,537      1,598   

Exchange rate differences

   11    17,632      (67,778

Loss due to write off non-current asset accounts not available for sale

   1    (9,362   (9,086

Negative goodwill immediately recognized

      36,871      0   

Other profit (loss)

      27,231      (444

Profit before income tax

      358,183      503,089   

Income tax

   6    (53,537   (98,044

Net Profit

      304,596      405,045   
               

Profit attributable to equity holders

       

Profit attributable to equity instrument holders in net equity of the parent company

      300,898      399,566   

Profit attributable to minority interest

      3,698      5,479   

Net Profit

      304,596      405,045   
               

Ordinary Shares

       

Basic earnings per share

      0.0026919      0.0035796   

Earnings per share from continuing operations

      0.0026919      0.0035796   

Comprehensive Income Statement

       
          2009     2008  
          ThU.S.$     ThU.S.$  

Net Profit

      304,596      405,045   

Other income and expenses with charge or credit to net equity

       

Cash flow hedges

      (5,807   0   

Currency translation differences

   11    177,480      (148,469

Adjustments associated

      1,902      (3,015

Income tax related to components of other income and expenses or payment in equity

      987      0   

Other income (expenses) charged to or credited to net equity

      174,562      (151,484

Comprehensive income statement

      479,158      253,561   
               

Comprehensive Income and Expense Statement Attributable to:

       

Comprehensive income and expenses attributable to majority shareholders

      461,754      260,328   

Comprehensive income and expenses attributable to minority shareholders

      17,404      (6,767

Comprehensive income

      479,158      253,561   
               

 

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CONSOLIDATED STATEMENT OF CHANGES IN NET EQUITY

 

     Ordinary
Shares
   Reserves     Changes in
Retained
Earnings
(Accumulated
Losses)
    Changes in
Equity
Attributable
to Parent
Company
Shareholders,
Total
    Changes
in
Minority

Interests
    Changes in
Net Equity
Total
 

12/31/2009

   Share
Capital
   Conversion
Reserves
    Hedge
Reserves
    Other
Reserves
         
     ThU.S.$    ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$  

Opening balance at 01/01/2009

   353,176    (136,223   0      (3,015   5,675,616      5,889,554      117,682      6,007,236   

Changes

                 

Comprehensive income and expenses

   0    163,774      (4,820   1,902      300,898      461,754      17,404      479,158   

Cash dividends declared

   0    0      0      0      (82,715   (82,715   (21,246   (103,961

Changes in equity

   0    163,774      (4,820   1,902      218,183      379,039      (3,842   375,197   

Closing balance at 12/31/2009

   353,176    27,551      (4,820   (1,113   5,893,799      6,268,593      113,840      6,382,433   
                                               
     Ordinary
Shares
   Reserves     Changes in
Retained
Earnings
(Accumulated
Losses)
    Changes in
Equity
Attributable
to Parent
Company
Shareholders,
Total
    Changes
in
Minority
Interests
    Changes in
Net Equity
Total
 

12/31/2008

   Share
Capital
   Conversion
Reserves
    Hedge
Reserves
    Other
Reserves
         
     ThU.S.$    ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$     ThU.S.$  

Opening balance previous period 01/01/2008

   353,176    0      0      0      5,465,431      5,818,607      144,772      5,963,379   

Changes

                 

Comprehensive income and expenses

   0    (136,223   0      (3,015   399,566      260,328      (6,767   253,561   

Cash dividends declared

   0    0      0      0      (189,381   (189,381   (20,323   (209,704

Changes in equity

   0    (136,223   0      (3,015   210,185      70,947      (27,090   43,857   

Closing balance at 12/31/2008

   353,176    (136,223   0      (3,015   5,675,616      5,889,554      117,682      6,007,236   
                                               

 

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CONSOLIDATED STATEMENT OF CASH FLOWS-DIRECT METHOD

 

Cash Flows from (used in) Operating Activities, Direct Method

   12/31/2009     12/31/2008  
     ThU.S.$     ThU.S.$  

Collection of trade accounts receivable

   3,675,727      3,926,137   

Research and development disbursements

   (3,915   (3,827

Payments to suppliers

   (2,785,842   (2,891,042

Paid salaries

   (190,821   (186,925

Payments received and forwarded by the Value Added Tax

   147,533      185,779   

Other collections (payments)

   16,326      (12,143

Cash flows from (used in) Operating Activities, Total

   859,008      1,017,979   

Cash flows from (used in) Other Operating Activities

    

Amounts received from dividends classified as operating activities

   17,084      5,797   

Amounts received from interest received classified as operating activities

   18,601      18,729   

Interest payments classified as operating activities

   (152,343   (162,223

Amounts received by the Income Tax Returned

   62,203      36,949   

Income tax payments

   (53,528   (147,495

Cash flows from (used in) other Operating Activities, Total

   (107,983   (248,243

Cash flows from Operating Activities

   751,025      769,736   
            

Cash flows from (used in) Investing Activities

    

Proceeds from sale of property, plant and equipment

   4,006      1,152   

Proceeds from sale of biological assets

   2,185      2,241   

Proceeds from sale of subsidiaries, net of cash expropriated

   7      0   

Proceeds from sale of other financial assets

   0      19   

Other cash flows from (used in) investing activities

   0      186   

Purchase of property, plant and equipment

   (275,151   (310,260

Payments for intangible assets purchase

   (1,378   (1,279

Payments for biological assets purchase

   (92,002   (146,359

Payments for acquiring subsidiaries, net of cash acquired

   (174,111   0   

Payments for acquiring associates

   0      (2,353

Payments for acquiring joint ventures, net of cash acquired

   (116,279   0   

Loans to related companies

   (51,225   0   

Other investing disbursements

   (13,343   (10,078

Cash flows used in Investing Activities

   (717,291   (466,731
            

Cash flows from (used in) Financing Activities

    

Loans obtained

   545,286      623,625   

Bonds issued

   636,677      202,537   

Loan payments

   (746,531   (887,058

Dividend payments to minority interests

   (20,769   (19,638

Dividend payments by the reporting entity

   (114,406   (297,950

Other Cash Flows from (Used in) Financing Activities

   2,115      0   

Cash flows from (used in) Financing Activities

   302,372      (378,484
            

Net increase (decrease) of Cash and Cash Equivalents

   336,106      (75,479

Effect of exchange rate variations on cash and cash equivalents

   30,785      (25,085

Cash and cash equivalents, shown in the cash flow statement, at the beginning of the year

   167,308      267,872   

Cash and cash equivalents, shown in the cash flow statement, at the end of the year

   534,199      167,308   
            

 

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NOTE 1. PRESENTATION OF CONSOLIDATED FINANCIAL STATEMENTS (IAS 1)

Entity Information

Name of Reporting Entity

Celulosa Arauco y Constitución S.A. (hereinafter “Arauco” or the “Company”), Tax No. 93,458,000-1, Closed Company, was registered in the Securities Registry (the “Registry”) of the Superintendency of Securities and Insurance (the “Superintendency”) as No. 042 on June 14, 1982. Forestal Cholguán S.A., a subsidiary of Arauco, is also registered on the Registry as No. 030 and subject to audit by the Superintendency. Arauco is controlled by Empresa Copec S.A., which owns 99.9779% of Arauco, and is registered in the Registry as No. 0028. By virture of their registration in the Registry, each of the above companies is subject to supervision by the Superintendency.

The Company’s head office address is El Golf Avenue 150, floor 14, Las Condes, Santiago, Chile.

Arauco is principally engaged in the production and sale of forestry and wood products. Its main operations are focused on the following business areas: Pulp, Plywood and fiberboard panels, Sawn Timber and Forestry.

Arauco is controlled by Empresa Copec S.A., Corporation, which owns 99.9779% of Arauco, and is registered in the Superintendency of Securities and Insurance Securities Registry as No. 0028, therefore being subject to supervision by the Superintendency.

The ultimate controllers of the Company are Mrs. Maria Noseda Zambra of Angelini, Roberto Angelini Rossi and Mrs. Patricia Angelini Rossi through Inversiones Angelini y Cia. Ltda., which owns 63.4015% of the shares of AntarChile S.A., the controller of our parent company Empresas Copec S.A.

Arauco’s consolidated financial statements were prepared on a going concern basis.

Presentation of Financial Statements

Financial Statements presented by Arauco as at December 31, 2009:

 

  - Consolidated Balance Sheet

 

  - Consolidated Statement of Income

 

  - Consolidated Statement of Changes in Net Equity

 

  - Consolidated Statement of Cash Flows – Direct Method

 

  - Disclosure of Explanatory Information (notes)

Period Covered by the Financial Statements

Fiscal years ended December 31, 2009 and 2008.

Date of Approval of Financial Statements

The issuance of these consolidated financial statements for the year ended December 31, 2009 was approved by the Board of Directors of the Company (the “Board”) in Extraordinary Session No. 417 on March 23, 2010.

 

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Functional Currency

Arauco has defined the U.S. Dollar as its main functional currency, as most of the Company’s operations are a result of exports, and its costs to a large extent are related to or index-linked to the U.S. Dollar.

For the pulp segment, most of the sales operations are exports, and the costs are related mainly to plantation costs, which are settled in U.S. Dollars.

For the sawmill and panel segments, although total sales include a mix of domestic sales and exports, the prices for the products are established in U.S. Dollars, as is also the case for the cost structure of the related raw materials.

Although the costs of labor and services are generally billed and paid in local currency, these costs are not as significant as the cost of raw materials and depreciation of equipment, which are driven by the global market and therefore, are influenced mostly by the U.S.Dollar.

The financial information included herein is presented in thousands of U.S. Dollars without decimals.

All significant information required by International Financial Reporting Standards (“IFRS”), as issued by the International Accounting Standard Board (“IASB”), is presented in these consolidated financial statements.

Additional Information Relevant to the Understanding of the Consolidated financial statements

The company Fondo de Inversión Bío Bío and its subsidiary Forestal Río Grande S.A. are entities that qualify as Special Purpose Entities. However, they are controlled by Arauco, which is determined, in part, by the fact that they maintain exclusive contracts with Arauco for wood provision, forward purchase of land and forest administration. Consequently, the financial information of these companies is consolidated with the financial information of the Company and is included in these consolidated financial statements of Arauco.

Compliance and Adoption of IFRS

The accompanying consolidated financial statements of Arauco include the balance sheet, statements of income from operations and cash flows in accordance with IFRS.

This presentation is required to give a faithful representation of the effects of transactions, as well as other events and conditions, according to the definitions and criteria established within the conceptual framework of IFRS for the recognition of assets, liabilities, income and expenses.

IFRS Compliance Declaration

These consolidated financial statements were prepared in accordance with International Financial Reporting Standards (“IFRS”), as issued by the International Accounting Standard Board (“IASB”), and represent the wholesale adoption, explicitly and without reservation of the mentioned international standards.

 

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Disclosure of Capital Information

Information on Objectives, Policies and Processes applied by the Company regarding Capital Management

Arauco’s policies on capital management have the objective of:

 

  a) Guaranteeing business continuity and normal operations in the long term;

 

  b) Providing all financing needs for new investments to achieve sustainable growth over time;

 

  c) Maintenance of an adequate capital structure considering all economic cycles that impact the business and the nature of the industry; and

 

  d) Maximizing the Company’s value, as well as providing an adequate return to shareholders.

Qualitative Information on Objectives, Policies and Processes applied by the Company regarding Capital Management

Arauco determines and manages its capital structure based on its equity at book value plus its financial liabilities (bank borrowings and bonds).

Quantitative Information on Capital Management

Financial guarantees of the Company are as follows:

 

Instrument

   Amount at
12/31/2009
(ThU.S. $)
   Amount at
12/31/2008
(ThU.S. $)
  

Equity >=
ThU.S. $

2,500,000

  

Equity
Hedging
>= 2.0x

  

Debt
Level(1) <=
1.2x

  

Debt
Level(2) <=
0.75x

Local Bonds

   398,693    203,668    N/A    N/A    ü    N/A

Syndicated Bank Loans

   0    160,378    ü    ü    ü    N/A

Forestal Río Grande S.A. Loan

   138,837    173,627    N/A    ü(3)    N/A    ü(3)

Bilateral Bank Loan

   255,304    241,026    N/A    ü    ü    N/A

Other Loans

   156,639    41,860    No Safeguards Required

Foreign Bonds

   2,252,838    1,829,990    No Safeguards Required

N/A: Not applicable for the instrument

 

(1) Debt Level (financial debt divided by: equity plus minority interest)

 

(2) Debt Level (financial debt divided by: total assets)

 

(3) Financial guarantees on credits taken by Forestal Río Grande S.A. only apply to financial statements of that company

Debt instruments ratings at December 31, 2009 are as follows:

 

Instrument

   Standard
& Poor’s
   Fitch
Ratings
   Moody’s    Feller Rate

Local Bonds

   —      AA    —      AA

Foreign Bonds

   BBB    BBB+    Baa2    —  

Capital requirements are established based on the Company’s financial needs and on maintaining an adequate liquidity level and complying with financial guarantees established in current debt contracts. The company manages its capital structure and makes adjustments based on the prevailing economic conditions in order to mitigate the risks associated with adverse market conditions, and based on opportunities that may arise to improve the Company’s level of liquidity.

 

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Capital (in Thousand of U.S. Dollars) as at December 31, 2009, December 31, 2008 and January 01, 2008:

 

In ThU.S.$

   12/31/2009    12/31/2008    01/01/2008

Equity

   6,268,593    5,889,554    5,818,607

Bank Loans

   550,780    616,891    881,547

Finance Leases

   608    1,394    3,597

Bonds

   2,651,531    2,033,658    1,840,045
              

Capital

   9,471,512    8,541,497    8,543,796
              

The nature of external capital requirements is determined by the obligation to maintain certain financial ratios that ensure compliance with either bank loans or bond payments, which provide guidelines on the capital ranges required for compliance with these requirements.

Arauco has fulfilled all its external requirements.

Arauco considers it unlikely that future uncertainty risks will result in any significant adjustment to the book value of assets and liabilities within the next financial period. In the case of the fair value of biological assets, no risks are foreseen in which the value of forests will change significantly. Notably, the data used to make the foregoing determination contemplates the long-term realization of such risks, and therefore the estimates provided are also relevant for the long term.

Summary of significant accounting policies

The accompanying consolidated financial statements as of December 31, 2009 were prepared in accordance with current IFRS accounting policies, uniformly applied to all items in these consolidated financial statements.

a) Basis for Presentation of financial information

The consolidated financial statements have been prepared under the historic cost convention, as modified for the revaluation of biological assets, financial assets and financial liabilities (including derivative instruments) at fair value through profit and loss.

b) Critical accounting estimates and judgments

The preparation of consolidated financial statements in accordance with IFRS requires management to make subjective estimates and assumptions that affect the amounts reported. Estimates are based on historical experience and various other assumptions that are believed to be reasonable, though actual results and timing could differ from the estimates. Management believes that the accounting policies below take into account those matters that require the exercise of judgment, but acknowledge that different judgments could result in substantially different results.

 

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- Property, Plant and Equipment

The carrying amounts of fixed assets are reviewed whenever events or changes in circumstances indicate that the carrying amount of an asset may be impaired. The recoverable amount of an asset is estimated as the higher of fair value less the cost to sell and the value in use, with an impairment charge being recognized whenever the carrying amount exceeds the recoverable amount. The value in use is calculated using a discounted cash flow model, which is most sensitive to the discount rate as well as the expected future cash inflows.

- Fair Value of Financial Instruments

The fair value of financial instruments that are not traded in an active market is determined by using valuation techniques. Arauco uses its judgment to select a variety of methods and make assumptions that are mainly based on market conditions existing at each balance sheet date.

-Biological Assets

The recovery of forest plantations is based on discounted cash flow models which means that the fair value of biological assets is calculated using cash flows from continuing operations on a discounted basis, on our sustainable forest management plans and the estimated growth of forests. This recovery is performed on the basis of each stand identified and for each type of tree species.

These discounted cash flows require estimates in growth, harvest, sales prices and costs. It is therefore important that management make appropriate estimates of future levels and trends for sales and costs, as well as conduct regular surveys of the forests to establish the volumes of wood available for harvesting and their current growth rates. The principal considerations used to calculate the valuation of forest plantations are presented in Note 21.

-Lawsuits and Contingencies

Arauco and its subsidiaries are subject to lawsuits in process, whose future effects need to be estimated by the management of the Company, in collaboration with its legal advisers. Arauco seeks to interpret the reports of its legal advisers and make appropriate contingency estimates in each balance sheet and/or upon each substantial modification to an underlying cause of any such litigation.

c) Consolidation

The consolidated financial statements include all entities over which Arauco has the power to govern the financial and operating policies, usually accompanying a shareholding of more than one half of the voting rights. Subsidiaries are fully consolidated from the date on