20-F 1 v330029_20f.htm FORM 20-F

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 20-F

 

¨REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

RANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2012

OR

¨TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

¨SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Date of event requiring this shell company report

FOR THE TRANSITION PERIOD FROM TO

 

COMMISSION FILE NUMBER 000-49751

 

 

 

Catalyst Paper Corporation

(Exact name of Registrant as specified in its charter)

 

N/A

(Translation of Registrant’s name into English)

 

British Columbia, Canada

(Jurisdiction of incorporation or organization)

 

2nd Floor, 3600 Lysander Lane

Richmond

British Columbia, Canada V7B 1C3

 

(Address of principal executive offices)

 

 

 

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:

Common Shares.

 

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

None.

 

The number of outstanding shares of each of the issuer’s classes of capital or common stock as of

December 31, 2012 was:

14,527,571

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes £ No R

 

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 R

 

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 R 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). Yes £ No £

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer   £ Accelerated filer £ Non-accelerated filer R

 

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

U.S. GAAP   R International Financial Reporting Standards as issued Other £
  by the International Accounting Standards Board  £  

 

Indicate by check which financial statement item the registrant has elected to follow. Item 17 R 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 R

 

 
 

 

TABLE OF CONTENTS

 

PART I
 
ITEM 1. Identity of Directors, Senior Managements, Advisors and Auditors 1
ITEM 2. Offer Statistics and Expected Timetable 1
ITEM 3. Key Information 1
  Cautionary Statement with Regard to Forward-Looking Statements 1
  A. Selected Financial Data 3
    Exchange Rate Data 6
  D. Risk Factors 7
ITEM 4. Information on the Corporation 15
  A. History and Development of the Corporation 15
  B. Business Overview 21
    Competition 23
    Fibre Supply 24
    Competitive Strengths 24
    Business Strategy 25
  C. Organizational Structure 26
  D. Property, Plant and Equipment 26
    Paper 26
    Pulp 28
    Properties 29
    Environment 29
    Social Responsibility 31
ITEM 4A. Unresolved Staff Comments 32
ITEM 5. Operating and Financial Review and Prospects 32
  A. Operating Results 32
    · Segmented Results – Annual 39
    · Financial Condition 46
    · Outlook 47
  Critical Accounting Policies and Estimates 50
  Changes in Accounting Policies 55
  Impact of Accounting Pronouncements Affecting Future Periods 55
  B. Liquidity and Capital Resources 55
  C. Research and Development, Patents and Licences 59
  D. Trend Information 59
  E. Off Balance Sheet Arrangements 59
  F. Tabular Disclosure of Contractual Obligations 60
ITEM 6. Directors, Senior Management and Employees 60
  A. Directors and Senior Management 60
  B. Compensation 62
    Compensation of Directors 62
    Executive Compensation Strategy 65
  C. Board Practices 69
  D. Employees 71
  E. Share Ownership 71
ITEM 7. Major Shareholders and Related Party Transactions 72
  A. Major Shareholders 72
  B. Related Party Transactions 72

   

 
 

 

PART I … continued
 
ITEM 8. Consolidated Statements and Other Financial Information 72
  A. Consolidated Statements and other Financial Information 72
  B. Significant Changes 73
ITEM 9. The Offer and Listing 73
  A. Offer and Listing Details 73
  B. Plan of Distribution 74
  C. Markets 74
ITEM 10. Additional Information 74
  B. Memorandum and Articles of Association 74
  C. Material Contracts 75
  D. Exchange Controls 76
  E. Taxation 77
  H. Documents on Display 80
ITEM 11. Quantitative and Qualitative Disclosures about Market Risk 80
ITEM 12. Description of Securities Other than Equities Securities 83
     
PART II
 
ITEM 13. Defaults, Dividend Arrearages and Delinquencies 83
  A. Indebtedness 83
  B. Dividends 83
ITEM 14. Material Modifications to the Rights of Security Holders and Use of Proceeds 83
ITEM 15. Controls and Procedures 84
  A. Disclosure Controls and Procedures 84
  B. Internal Control over Financial Reporting 84
  C. Report of the Independent Public Accounting Firm 84
  D. Changes in Internal Control over Financial Reporting 84
ITEM 16A. Audit Committee Financial Expert 84
ITEM 16B. Code of Ethics 84
ITEM 16C. Principal Accountant Fees and Services 85
     
PART III
 
ITEM 17. Financial Statements 86
ITEM 18. Financial Statements 86
ITEM 19. Exhibits 86

  

 
 

 

PART I

 

Unless otherwise specified, “Catalyst”, the “company”, “we”, “us”, “our” and similar terms refer to Catalyst Paper Corporation and its subsidiaries and affiliates. Unless otherwise indicated, all dollar amounts are expressed in Canadian dollars, references to “$” and “dollars” are to Canadian dollars and references to “U.S.$” and “U.S. dollars” are to United States dollars. As used in this annual report references to “tonnes” means metric tonnes, which is equivalent to 1,000 kilograms or 2,204 pounds (1.1023 tons) and the term “ton”, or the symbol “ST”, refers to a short ton, an imperial unit of measurement equal to 0.9072 metric tonnes.

 

ITEM 1.IDENTITY OF DIRECTORS, SENIOR MANAGEMENT, ADVISERS AND AUDITORS

 

A.Directors and Senior Management

 

Information not required for an annual report.

 

B.Advisers

 

Information not required for an annual report.

 

C.Auditors

 

Information not required for an annual report.

 

ITEM 2.OFFER STATISTICS AND EXPECTED TIMETABLE

 

Information not required for an annual report.

 

ITEM 3.KEY INFORMATION

 

Cautionary Statement with Regard to Forward-Looking Statements

 

Certain statements and information in this annual report are not based on historical facts and constitute forward-looking statements or forward looking information within the meaning of Canadian securities laws and the U.S. Private Securities Litigation Reform Act of 1995 (“forward looking statements”), including but not limited to, statements about our strategy, plans, future operating performance, contingent liabilities and outlook.

 

Forward-looking statements:

 

·are statements that address or discuss activities, events or developments that we expect or anticipate may occur in the future;

 

·can be identified by the use of words such as “believe”, “expect”, “anticipate”, “intend”, “plan”, “likely”, “predicts”, “estimates”, “forecasts”, and similar words or phrases or the negative of such words or phrases;

 

·reflect our current beliefs, intentions or expectations based on certain assumptions and estimates, including those identified below, which could prove to be significantly incorrect:

 

oour ability to develop, manufacture and sell new products and services that meet the needs of our customers and gain commercial acceptance;
oour ability to continue to sell our products and services in the expected quantities at the expected prices and expected times;
oour ability to successfully obtain cost savings from our cost reduction initiatives;
oour ability to implement business strategies and pursue opportunities;
oexpected cost of goods sold;
oexpected component supply costs and constraints; and

oexpected foreign exchange and tax rates;

 

·while considered reasonable by management, are inherently subject to known and unknown risks and uncertainties and other factors that could cause actual results or events to differ from historical or anticipated results or events. These risk factors and others are discussed in this annual report and in Management’s Discussion and Analysis for the financial year ended December 31, 2012, which may be found on SEDAR at www.sedar.com and on EDGAR at www.sec.gov. Certain of these risks are:

 

othe impact of general economic conditions in the countries in which we do business;

 

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oconditions in the capital markets and our ability to obtain financing and refinance existing debt;
omarket conditions and demand for our products (including declines in advertising and circulation);
othe implementation of trade restrictions in jurisdictions where our products are marketed;
ofluctuations in foreign exchange or interest rates;
oraw material prices (including wood fibre, chemicals and energy);
othe effect of, or change in, environmental and other governmental regulations;
ouncertainty relating to labour relations;
othe availability of qualified personnel;
othe availability of wood fibre
olegal proceedings;
othe effects of competition from domestic and foreign producers;
othe risk of natural disaster and other factors many of which are beyond our control.

 

As a result, no assurance can be given that any of the events or results anticipated by such forward looking statements will occur or, if they do occur, what benefit they will have on our operations or financial condition. Readers are cautioned not to place undue reliance on these forward-looking statements. We disclaim any intention or obligation to update or revise any forward looking statements, whether as a result of new information, future events or otherwise, except as required by law.

 

Market and Industry Data and Forecast

 

This annual report includes market share and industry data and other statistical information and forecasts that we have obtained from independent industry publications, government publications, market research reports and other published independent sources. Some data are also based on our good faith estimates, which are derived from our internal surveys, as well as independent sources. RISI, Inc., an independent paper and forest products industry research firm (“RISI”), is the source of a considerable amount of the third party industry data and forecasts contained herein. Industry publications, surveys and forecasts generally state that the information contained therein has been obtained from sources believed to be reliable. However, we cannot and do not provide any assurance as to the accuracy or completeness of included information and do not guarantee the accuracy or completeness of such information.

 

Forecasts are particularly likely to be inaccurate, especially over long periods of time. Although we believe these sources to be reliable, we have not independently verified any of the data nor have we ascertained the underlying economic assumptions relied upon therein.

 

Presentation of Financial Information

 

Effective for the year ended December 31, 2009, we adopted U.S. generally accepted accounting principles (“U.S. GAAP”) for the presentation of our consolidated financial statements for Canadian and United States reporting requirements.  Prior to 2009, we had presented our annual and interim consolidated financial statements in accordance with Canadian generally accepted accounting principles (“Canadian GAAP”) with reconciliation in our annual consolidated financial statements to U.S. GAAP for material recognition, measurement and presentation differences.

 

In accordance with U.S. GAAP, an enterprise value was established for the company as of September 30, 2012, the end of the quarter following our emergence from protection under the Companies’ Creditors Arrangement Act, under fresh start accounting. This enterprise value was determined with the assistance of an independent financial advisor. For a discussion of the valuation methods used to determine enterprise value and additional information on fresh start accounting, see note 6, Creditor protection proceedings related disclosures in our annual consolidated financial statements for the year ended December 31, 2012.

 

Companies’ Creditors Arrangement Act Proceedings

 

On January 31, 2012, Catalyst Paper Corporation and certain of its subsidiaries obtained an order from the Supreme Court of British Columbia under the Companies’ Creditors Arrangement Act (“CCAA”) and subsequently received a recognition order from the United States court under Chapter 15 of the US Bankruptcy Code.

 

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The company’s secured and unsecured creditors approved the company’s proposed plan of arrangement under the CCAA (“Plan”) at meetings held on June 25, 2012. The Plan was approved by the Canadian Court on June 28, 2012 under the CCAA process and by the United States Court on July 27, 2012 under the Chapter 15 process. The restructuring under the Plan completed on September 13, 2012. See Item 4.A Creditor Protection and Restructuring Process.

 

A.Selected Financial Data

 

The following table sets forth consolidated historical financial and operating data for Catalyst Paper Corporation for the periods indicated. The financial statement data as of December 31 and September 30, 2012, and December 31, 2011, 2010 and 2009 and for the three months ended December 31 and nine months ended September 30, 2012, and the years ended December 31, 2011, 2010 and 2009 is derived from our audited consolidated financial statements in our annual report. The financial data as of December 31, 2008 and for the year ended December 31, 2008 has been derived from our audited financial statements and related notes thereto and have been restated to be in accordance with U.S. GAAP. These financial statements are not included in the annual report. This information should be read in conjunction with Operating and Financial Review and Prospects, which is included in the annual report. The financial information has been derived from consolidated financial statements that have been prepared in accordance with U.S. GAAP. All information provided below is in millions of Canadian dollars, except information related to volume, information per share, and revenue per tonne.

 

   Predecessor 6   Successor 6 
   Years ended December 31   Nine months
ended
September 30
   Three months
ended
December 31
 
(In millions, except per share amounts)  2008 4 5   2009 4 5   2010 5   2011 5   2012 5   2012 5 
Consolidated Statements of Earnings (Loss) Data:                              
Sales  $1,696.9   $1,077.7   $1,051.4   $1079.7   $797.7   $260.5 
Operating expenses                              
Cost of sales, excluding depreciation and amortization   1,456.5    890.0    930.1    970.7    718.0    245.6 
Depreciation and amortization   159.8    137.3    109.7    105.5    23.4    12.9 
Selling, general and administrative   46.9    44.8    43.4    40.3    26.2    7.7 
Restructuring and change-of-control   30.1    17.9    25.3    5.9    5.3     
Impairment   151.0    17.4    294.5    661.8         
    1,844.3    1,107.4    1,403.0    1,784.2    772.9    266.2 
Operating earnings (loss)   (147.4)   (29.7)   (351.6)   (704.5)   24.8    (5.7)
Interest expense, net   (74.8)   (69.1)   (71.9)   (73.2)   (60.3)   (11.6)
Gain on cancellation of long-term debt       30.7                 
Foreign exchange gain (loss) on long-term debt   (82.2)   75.3    27.6    (9.7)   24.0    (3.2)
Other income (expense), net   (15.7)   (28.6)   (2.6)   (2.1)   (2.6)   0.1 
Earnings (loss) before reorganization items and income taxes   (320.1)   (21.4)   (398.5)   (789.5)   (14.1)   (20.4)
Reorganization items, net                   666.9    (3.2)
Income (loss) before income taxes   (320.1)   (21.4)   (398.5)   (789.5)   652.8    (23.6)
Income tax expense (recovery)   (90.7)   (23.1)   (19.8)   (8.4)   (1.1   0.2 
Earnings (loss) from continuing operations   (229.4)   1.7    (378.7)   (781.1)   653.9    (23.8)
Gain (loss) from discontinued operations net of tax   10.4    (7.3)   (19.5)   (195.5)   (3.6)   (12.9)
Net earnings (loss)   (219.0)   (5.6)   (398.2)   (976.6)   650.3    (36.7)
Net (earnings) loss attributable to non-controlling interest   (0.8)   1.2    1.3    2.6    (31.9)   1.5 
Net earnings (loss) attributable to the Company  $(219.8)  $(4.4)  $(396.9)  $(974.0)  $618.4   $(35.2)
Basic and diluted earnings (loss) per share                              
- continuing operations  $(0.67)  $0.01   $(0.99)  $(2.04)  $1.63   $(1.55)
- discontinued operations   0.03    (0.02)   (0.05)   (0.51)   (0.01)   (0.89)
Weighted average common shares outstanding (in millions)   336.1    381.8    381.8    381.9    381.9    14.4 

 

 

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   Predecessor 6   Successor 6 
   As at December 31   As at
September
30
   As at
December
31
 
(In millions)  2008 5   2009 5   2010 5   2011 5   2012 5   2012 5 
Consolidated Balance Sheet Data:                              
Working capital 1  $201.5   $214.8   $212.0   $152.4   $203.7   $151.4 
Property, plant and equipment   1,854.4    1,664.7    1,285.6    386.3    614.1    611.6 
Total assets   2,390.3    2,090.8    1,696.2    737.6    1,040.1    978.8 
Current portion of long-term debt   75.8    1.0    27.0    466.8    6.7    6.6 
Total debt 1   969.9    775.6    810.9    842.3    465.6    428.6 
Shareholders’ equity (deficiency)   822.5    813.6    423.5    (593.6   144.9    116.3 

 

   Predecessor 6   Successor 6 
   Years ended December 31   Nine
months
ended
September
30
   Three
months
ended
December
31
 
(In millions)  2008 4 5   2009 4 5   2010 5   2011 5   2012 5   2012 5 
Consolidated Statements of Cash Flows Data:                              
Cash flows provided (used) by operations  $78.1   $103.6   $(44.1)  $(71.5)  $(44.0)  $52.1 
Cash flows used by investing activities   (205.3)   (2.9)   (4.5)   (17.7)   (3.4)   (6.2)
Cash flows provided (used) by financing activities   132.2    (22.6)   60.9    18.9    34.9    (40.0)
                               
(In millions , except per tonne)                              
Other Financial Data:                              
Adjusted EBITDA 2  $163.4   $125.0   $52.6   $62.8   $48.2   $7.2 
Adjusted EBITDA margin 2,3   9.6%   11.6%   5.0%   5.8%   6.0   2.8%
Additions to property, plant and equipment   41.9    11.5    11.2    19.7    12.2    10.4 
                               
Sales (000 tonnes)                              
Specialty printing papers   1,081    892    830    838    605    207 
Newsprint   388    261    236    205    198    66 
Pulp   507    110    277    308    251    74 
                               
Average Sales Revenue ($ per tonne)                              
Specialty printing papers   936    929    812    824    833    828 
Newsprint   762    683    644    689    678    666 
Pulp   767    641    813    804    637    604 
                               
Production (000 tonnes)                              
Specialty printing papers   1,060    886    836    842    613    193 
Newsprint   377    270    225    208    200    65 
Pulp   503    87    273    315    243    75 

  

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Notes to Selected Consolidated Financial Information

1Current portion of long term debt is included in total debt and excluded from working capital.

 

2Adjusted EBITDA is a non-GAAP measure. Adjusted EBITDA does not have a standardized meaning. Adjusted EBITDA as set forth above represents net earnings (loss) before net interest expense, income taxes, depreciation and amortization and impairment, foreign exchange gain (loss) on long-term debt, loss on repayment of long-term debt, other income (expense), and non-controlling interests. We focus on adjusted EBITDA as we believe this measure enables comparison of our results between periods without regard to debt service, income taxes and capital expenditure requirements. Adjusted EBITDA is also useful in analyzing our ability to comply with our debt covenants. As such, we believe it would be useful for investors and other users to be aware of this measure so they can better assess our operating performance. Adjusted EBITDA should not be considered by an investor as an alternative to net income, an indicator of our financial performance or an alternative to cash flows as a measure of liquidity. As there are no generally accepted methods for calculating adjusted EBITDA, this measure as calculated by us might not be comparable to similarly titled measures reported by other companies.

 

3Adjusted EBITDA margin is defined as adjusted EBITDA as a percentage of sales.

 

4Refer to “Changes in accounting policies” under Item 5. Operating and Financial Review and Prospects for a discussion of the changes in the Corporation’s policy with respect to classification of gains and losses on certain of the company’s derivative financial instruments and translation of foreign currency-denominated working capital balances effective January 1, 2010. Prior period comparative information has been restated.

 

5The Snowflake mill was permanently closed on September 30, 2012 and the sale of the mill was completed on January 30, 2013; comparative periods have been restated for the classification of the Snowflake mill’s results as discontinued operations.

 

6The company’s reorganization pursuant to the CCAA proceedings and the application of fresh start accounting materially changed the carrying amounts and classifications reported in the financial statements. Accordingly, financial results for periods prior to September 30, 2012 are not comparable to results for periods subsequent to September 30, 2012. References to Successor or Successor company refer to the company on or after September 30, 2012 and references to Predecessor or Predecessor company refer to the company prior to September 30, 2012.

 

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We have provided below a reconciliation of adjusted EBITDA to net earnings (loss) attributable to the Company, which we believe is the most directly comparable U.S. GAAP measure. 

 

(In millions of dollars)  2008 1   2009 1   2010   2011   2012 
Net earnings (loss) attributable to the Company  $(219.8)  $(4.4)  $(396.9)  $(974.0)  $583.2 
Net earnings (loss) attributable to non-controlling interest   0.8    (1.2)   (1.3)   (2.6)   30.4 
Net earnings (loss)   (219.0)   (5.6)   (398.2)   (976.6)   613.6 
Depreciation and amortization   159.8    137.3    109.7    105.5    36.3 
Impairment   151.0    17.4    294.5    661.8     
Gain on cancellation of long-term debt       (30.7)   (0.6)        
Foreign exchange (gain) loss on long-term debt   82.2    (75.3)   (27.6)   9.7    (20.8)
Loss on Powell River fire               2.4     
Other (income) expense, net   15.7    28.6    3.2    (0.3)   2.5 
Interest expense, net   74.8    69.1    71.9    73.2    71.9 
Income tax recovery   (90.7)   (23.1)   (19.8)   (8.4)   (0.9)
Reorganization items, net                   (663.7)
(Earnings) loss from discontinued operations net of tax   (10.4)   7.3    19.5    195.5    16.5 
                          
Adjusted EBITDA 2  $163.4   $125.0   $52.6   $62.8   $55.4 

 

1Refer to “Changes in accounting policies” under Item 5. Operating and Financial Review and Prospects for a discussion of the changes in the company’s policy with respect to classification of gains and losses on certain of the company’s derivative financial instruments and translation of foreign currency-denominated working capital balances effective January 1, 2010. Prior period comparative information has been restated.

 

2Adjusted EBITDA is a non-GAAP measure. Adjusted EBITDA does not have a standardized meaning. Adjusted EBITDA as set forth above represents net earnings (loss) before net interest expense, income taxes, depreciation and amortization and impairment, foreign exchange gain (loss) on long-term debt, loss on repayment of long-term debt, other income (expense), and non-controlling interests. We focus on adjusted EBITDA as we believe this measure enables comparison of our results between periods without regard to debt service, income taxes and capital expenditure requirements. Adjusted EBITDA is also useful in analyzing our ability to comply with our debt covenants. As such, we believe it would be useful for investors and other users to be aware of this measure so they can better assess our operating performance. Adjusted EBITDA should not be considered by an investor as an alternative to net income, an indicator of our financial performance or an alternative to cash flows as a measure of liquidity. As there are no generally accepted methods for calculating adjusted EBITDA, this measure as calculated by us might not be comparable to similarly titled measures reported by other companies.

 

Exchange Rate Data

 

Bank of Canada

 

The following table sets forth certain exchange rates based upon the noon rate as quoted by the Bank of Canada. Such rates are set forth as, for the period indicated, U.S. dollars per Canadian $1.00. On March 14, 2013 the noon rate was 0.9746 U.S. dollars per Canadian $1.00.

 

   2008   2009   2010   2011   2012 
                     
Low   0.7711    0.7692    0.9278    0.9430    0.9599 
High   1.0289    0.9716    1.0054    1.0583    1.0299 
Period-end   0.8166    0.9555    1.0054    0.9833    1.0051 
Average rate 1   0.9381    0.8757    0.9710    1.0110    1.0004 

 

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   2012   2013 
   September   October   November   December   January   February 
Low   1.0099    0.9996    0.9972    1.0048    0.9923    0.9723 
High   1.0299    1.0243    1.0074    1.0162    1.0164    1.0040 
Period-end   1.0166    1.0004    1.0068    1.0051    1.0008    0.9723 
Average rate 1   1.0222    1.0130    1.0030    1.0105    1.0079    0.9902 

 

1The average rate is derived by taking the average of the noon rate for each business day during the relevant period.

 

B.Capitalization and Indebtedness

 

Information not required for an annual report.

 

C.Reasons for the Offer and Use of Proceeds

 

Information not required for an annual report.

 

D. Risk Factors

 

We face risks and uncertainties which fall into the general business areas of markets, international commodity prices, currency exchange rates, environmental issues, fibre supply, government regulation and policy and, for Canadian companies, trade barriers and potential impacts of Aboriginal rights, including unresolved Aboriginal land claims in the Province of British Columbia.

 

Subsequent to our restructuring under the CCAA proceedings, we may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful

 

Our ability to service our debt obligations or to refinance our debt obligations depends on our financial condition and operating performance, which are subject to prevailing economic and competitive conditions and certain financial, business, legislative, regulatory and other factors beyond our control. We may be unable to maintain a level of cash flows from operating activities sufficient to permit us to fund our day-to-day operations or to pay the principal, premium, if any, and interest on our indebtedness.

 

If our cash flows and capital resources are insufficient to fund our debt service obligations, we could face substantial liquidity problems and could be forced to reduce or delay capital expenditures or to sell assets or operations, seek additional capital or restructure or refinance our indebtedness. We may not be able to affect any such alternative measures, if necessary, on commercially reasonable terms or at all and, even if successful, such alternative actions may not allow us to meet our scheduled debt service obligations. The credit agreement that governs the new ABL Facility and the note indentures that govern the 2017 Notes and the Exit Notes restrict our ability to dispose of assets and use the proceeds from any such dispositions and may also restrict our ability to raise debt or equity capital to be used to repay other indebtedness when it becomes due. We may not be able to consummate those dispositions or obtain proceeds in an amount sufficient to meet any debt service obligations when due. Our inability to generate sufficient cash flows to satisfy our debt obligations, or to refinance our indebtedness on commercially reasonable terms or at all, would materially and adversely affect our financial position and results of operations and our ability to satisfy our obligations under the 2017 Notes, the Exit Notes and the new ABL Facility.

 

If we cannot service our debt obligations, we will be in default and as a result, holders of the 2017 Notes and Exit Notes could declare all outstanding principal and interest to be due and payable, the lenders under the new ABL Facility could terminate their commitments to loan money, our secured lenders could foreclose against the assets securing such borrowings and we could be forced into bankruptcy or liquidation.

 

Our degree of leverage upon completion of our restructuring under the CCAA proceedings may limit our financial and operating activities

 

- 7 -
 

 

Our historical capital requirements have been considerable and our future capital requirements could vary significantly and may be affected by general economic conditions, wood fibre supply, currency exchange rates, industry trends, performance, interest rates and many other factors that are not within our control. Subject to the limits contained in the credit agreement that governs the new ABL Facility and the note indentures that govern the 2017 Notes and the Exit Notes, we may be able to incur additional debt from time to time to finance working capital, capital expenditures, investments or acquisitions, or for other purposes. If we do so, the risks related to our high level of debt could intensify. Our substantial level of indebtedness has had in the past, and could have in the future, important consequences, including the following:

 

making it more difficult for us to satisfy our obligations with respect to our debt,

 

limiting our ability to obtain additional financing to fund future working capital, capital expenditures, product developments, acquisitions or other general corporate requirements,

 

requiring a substantial portion of our cash flows to be dedicated to debt service payments instead of other purposes, thereby reducing the amount of cash flows available for working capital, capital expenditures and other general corporate purposes,

 

increasing our vulnerability to general adverse economic and industry conditions,

 

exposing us to the risk of increased interest rates as certain of our borrowings, including the Exit Notes and borrowings under the new ABL Facility are at variable rates of interest,

 

limiting our flexibility in planning for and reacting to changes in our industry,

 

placing us at a disadvantage compared to other, less leveraged competitors, and

 

increasing our cost of borrowing.

 

We may not realize our anticipated cost savings from our cost savings initiatives

 

As part of our restructuring under the CCAA proceedings, we have taken steps to lower operating costs by implementing various cost savings initiatives. Certain of these initiatives included, but were not limited to, new five-year competitive labour agreements in British Columbia to help reposition the business, lower property tax rates for all three mills located in British Columbia, provincial approval of our application for funding relief on our salaried pension plan solvency deficit, disposal of surplus assets, and closure of the Snowflake recycle mill operations. Estimates of cost savings are inherently uncertain, and we may not be able to achieve all of the cost savings or expense reductions that we have projected. Our ability to successfully realize savings and the timing of any realization may be affected by factors such as the need to ensure continuity in our operations, labour and other contracts, regulations and/or statutes governing employee/employer relationships, and other factors. In addition, our implementation of certain of these initiatives has and is expected to require upfront costs. There can be no assurances provided that we will be able to successfully contain our expenses or that even if our savings are achieved that implementation or other expenses will not offset any such savings. Our estimates of the future expenditures necessary to achieve the savings we have identified may not prove accurate, and any increase in such expenditures may affect our ability to achieve our anticipated savings. If these cost-control efforts do not reduce costs in line with our expectations, our financial position, results of operations and cash flows will be negatively affected.

 

There is a limited trading market for the company’s common shares

 

Although our new common shares are listed on the TSX certain holders of common shares may also be creditors of the company and there is no certainty that a viable trading market for the common shares will develop. The potential lack of liquidity for the common shares may make it more difficult for us to raise additional capital, if necessary, and it may affect the price volatility of the common shares. There can also be no assurance that a holder will be able to sell its common shares at a particular time or that the prices such holder receives when it sells will be favorable. Future trading prices of the common shares will depend on many factors, including our operating performance and financial condition.

 

As a result of the Plan, certain holders of common shares may also be creditors of the company and may seek to dispose of such securities to obtain liquidity. Such sales could cause the trading prices for these securities to be depressed. Further, the possibility that the holders of common shares may determine to sell all or a large portion of their shares in a short period of time may adversely affect the market price of the common shares.

 

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Our business is of a cyclical nature and demand for our products may fluctuate significantly

 

The markets for pulp and paper products are highly cyclical and are characterized by periods of excess product supply due to many factors, including additions to industry capacity, increased industry production, structural changes in the industry, periods of weak demand due to weak general economic activity or other causes, and reduced inventory levels maintained by customers.

 

Demand for forest products generally correlates to global economic conditions. Demand for pulp and paper products in particular is driven primarily by levels of advertising. In periods of economic weakness, reduced spending by consumers and businesses results in decreased demand for forest products, causing lower product prices and possible manufacturing downtime. The North American newsprint and directory paper market is mature with demand for newsprint declining significantly in the last five years.

 

We believe these declines in newsprint and directory paper demand will continue long term, although we have the ability to partially mitigate the impact by switching production from newsprint and directory paper to other paper grades. Demand for our products is traditionally weaker in the first half of the year.

 

As at December 31, 2012, one of the paper machines at our Crofton mill has been indefinitely curtailed. Should demand for our products weaken, additional indefinite or periodic production curtailments may be required, which could have an adverse impact on our financial condition and ability to generate sufficient cash flows to satisfy our operational needs and debt service requirements.

 

We operate in a commodity market where prices may fluctuate significantly

 

The pulp and paper industry is a commodity market in which producers compete primarily on the basis of price. Prices for our products have fluctuated significantly in the past and may fluctuate significantly in the future, principally as a result of market conditions of supply and demand, as well as changes in exchange rates. Our earnings are sensitive to price changes for our principal products, with the effect of price changes on newsprint and mechanical specialty printing paper grades being the greatest. Market prices for our products typically are not directly affected by input costs or other costs of sales and, consequently, we have limited ability to pass through increases in operating costs to our customers without an increase in market prices. Even though our costs may increase, our customers may not accept price increases for our products or the prices for our products may decline. As our financial performance is principally dependent on the prices we receive for our products, prolonged periods of low prices, customer refusal to accept announced price increases, or significant cost increases that cannot be passed on in product prices may be materially adverse to us.

 

Media trends may lead to long-term declines in demand for our products

 

Trends in advertising, Internet use and electronic data transmission and storage can have adverse effects on traditional print media. As our newsprint, telephone directory and retail customers increase their use of other forms of media and advertising, demand for our newsprint, uncoated mechanical and coated mechanical papers may decline on a long-term basis.

 

We are subject to exchange rate fluctuations

 

Nearly all of our sales are based upon prices set in U.S. dollars, while a substantial portion of our costs and expenses are incurred in Canadian dollars and our results of operations and financial condition are reported in Canadian dollars. The value of the Canadian dollar in relation to the U.S. dollar has increased significantly in recent years. Increases in the value of the Canadian dollar relative to the U.S. dollar reduce the amount of revenue in Canadian dollar terms from sales made in U.S. dollars, and would reduce cash flow available to fund operations and debt service obligations.

 

Since we have debt denominated in U.S. dollars, including our 2017 Notes and our Exit Notes, our reported earnings could fluctuate materially as a result of exchange rates given that changes in the value of the Canadian dollar against the U.S. dollar during a given financial reporting period result in a foreign currency gain or loss on the translation of U.S. dollar cash and debt into Canadian currency.

 

We have managed a part of our currency exposure in the past through the use of currency options and forward contracts to hedge anticipated future sales denominated in foreign currencies and U.S. dollar denominated debt. However, no assurance can be made that we will engage in any hedging transactions or, if we decide to engage in any such transactions, that we will be successful in eliminating or mitigating currency exchange risks. At March 5, 2013, we did not have any foreign currency options or forward contracts outstanding.

 

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We face significant global competition

 

We compete with American, European and Asian producers in highly competitive global markets. Some of our competitors are larger and can accordingly achieve greater economies of scale, some have greater financial resources and some operate mills in locations that have lower energy, furnish or labour costs or have less stringent environmental and governmental regulations than the locations where we operate.

 

Our ability to compete is affected by a number of these factors as well as the quality of our products and customer service and our ability to maintain high plant efficiencies and operating rates and to control our manufacturing costs. If we were unable to compete effectively, there may be a materially adverse impact on our business.

 

We face risks related to our international sales

 

A significant portion of our sales are outside of Canada and the United States 99% of our pulp sales and 24% of our paper sales in 2012. These international sales result in additional risks including restrictive government actions (including trade quotas, tariffs and other trade barriers and currency restrictions), local labour laws and regulations affecting our ability to hire, retain or dismiss employees, the need to comply with multiple and potentially conflicting laws and regulations, unfavourable national or regional business conditions or political or economic instability in some of these jurisdictions, higher transportation costs and difficulty in obtaining distribution and sales support.

 

We are exposed to fluctuations in the cost and supply of wood fibre

 

We have no significant timber holdings and are dependent on third parties for the supply of wood fibre required for our paper manufacturing operations.

 

Approximately 70% of our fibre is provided by five suppliers. Our fibre supply could be reduced as a result of events beyond our control, including industrial disputes, natural disasters and material curtailments and shutdown of operations by suppliers for market or other reasons. Market-related curtailments or shutdowns can be influenced by both seasonal and cyclical factors, such as raw material availability, finished goods inventory levels, interest rates and demand for lumber. Continued weakness in the U.S. housing market could lead to production curtailment for B.C. lumber producers and result in a reduction in residual fibre supply available to us.

 

We source a significant quantity of our fibre from the interior of B.C. The current mountain pine beetle infestation in the B.C. interior is expected to reduce the long-term fibre supply in the B.C. interior and could have a significant impact on the availability, quality and cost of fibre.

 

Approximately 69% of our fibre is sourced under long-term fibre agreements with third parties with pricing based on market prices or on prices determined under market-based formulas. Given that the market price for fibre varies due to external factors, there is a risk that we will not continue to have access to wood fibre at previous levels or pricing.

 

Aboriginal groups have claimed aboriginal title over substantial portions of B.C.’s timberlands, including areas where the forest tenures held by our suppliers are located. Although the renewal of forest tenures held by our suppliers may be adversely affected by claims of aboriginal title, the specific impact cannot be estimated at this time.

 

The permanent closure of our Snowflake mill, which produced 100% recycled newsprint from ONP, has eliminated our exposure to cost and supply fluctuations in ONP.

 

We are dependent on the supply of certain raw materials

 

In addition to wood fibre, we are dependent on the supply of certain chemicals and raw materials used in our manufacturing processes. Any material disruption in the supply of these chemicals or raw materials could affect our ability to meet customer demand in a timely manner and harm our reputation, and any material increase in the cost of these chemicals or other raw materials could negatively affect our business and the results of our operations.

 

We have incurred losses in recent periods and may incur losses in the future that may affect liquidity and ongoing operations

 

- 10 -
 

 

As of December 31, 2012, we had recorded net losses in 9 of the last 12 quarters. These losses were driven by reduced prices, weak market demand, production curtailments, general inflationary pressure and increased input costs and the strong Canadian dollar. Should we be unable to return to sustained profitability, cash generated through operations may be insufficient to meet operating cash requirements, requiring increased reliance on the ABL Facility to fund operating costs. If sufficient funding is not available under the ABL Facility, then additional funding sources may be required and there is no assurance that we will be able to access additional funding sources on favourable terms or at all to meet our cash requirements. The failure to obtain such funding could adversely affect our operations and our ability to maintain compliance with covenants under the ABL Facility, the 2017 Notes, and the Exit Notes.

 

Labour disruptions could have a negative impact on our business

 

Labour disruptions could occur and have a negative impact on our business. The new labour agreements with the CEP and PPWC expire on April 30, 2017 and the new labour agreement with CLAC expires on March 31, 2015. We do not anticipate labour disruptions in our operations in 2013.

 

Claims of aboriginal title and rights in Canada may affect our operations

 

The ability to operate our mills in Canada may be affected by claims of aboriginal rights and title by aboriginal groups. The governments of Canada and B.C. have established a formal process to negotiate settlements with aboriginal groups throughout B.C. in order to resolve these land claims. It is the policy of the governments that ownership of lands held in fee simple by third parties (such as us) will not be affected by treaty negotiations. The Powell River mill site has been included in areas to which an aboriginal group has asserted aboriginal title both through treaty negotiations with government and by commencing an action in 2005 in the Supreme Court of B.C. While we and other industrial companies have been named as parties in the court proceeding along with the governments of Canada and B.C., counsel for the aboriginal group has advised us that the plaintiffs are currently negotiating with these two governments and have no intention of proceeding with the action at this time. Based on the history of similar proceedings, we expect that it would be many years before a final court decision could be rendered if the proceeding were pursued.

 

Recent Supreme Court of Canada decisions have confirmed that the governments of Canada and B.C. are obligated to consult with and, in certain circumstances, accommodate aboriginal groups whenever there is a reasonable prospect decision, such as a decision to issue or amend a regulatory permit, which may affect aboriginal groups’ rights or title. This duty of consultation and accommodation may affect our ability to obtain or amend necessary regulatory permits on a timely basis and may influence the conditions set out in such permits.

 

Increases in energy costs could have a negative impact on our business

 

Our operations consume a significant amount of electricity, natural gas and fuel oil. Increases in prices for these commodities can increase manufacturing costs and have an adverse impact on our business and results of our operations.

 

Although our electricity supply agreements are provincially regulated and pricing has historically been stable, B.C. Hydro and Power Authority (“B.C. Hydro”) in recent years has sought, and to some extent achieved, rate increases above historical levels. B.C. Hydro raised its rates by 9.3% on an interim basis in April 2010 and a subsequent Negotiated Settlement Process resulted in the approval of a final effective rate increase of 7.3% on November 18, 2010. The difference between the interim and final approved rate increase was refunded through a credit on energy purchases in Q1 2011. The introduction of the Harmonized Sales Tax (“HST”) on July 1, 2010 substantially eliminated the 7% provincial sales tax on electricity, which reduced some of the impact of the rate increase. However, with the re-implementation of the BC provincial sales tax on April 1, 2013 and BC Hydro’s expressed intention to seek approval from the utilities commission to increase its rates in the range of 10% for the next three years in response to infrastructure maintenance and B.C. energy policy that includes mandating self-sufficiency by 2016, feed in tariffs, and the implementation of Smart Metering, our electricity prices could increase significantly and have an impact on our earnings. B.C. Hydro announced a 5.4% interim rate increase, effective April 1, 2012, subject to final approval by the British Columbia Utilities Commission (BCUC) later in the year. We have mitigated some of the impact of rate increases through reductions in usage at the highest incremental power rate and intend to further mitigate rate increases by implementing energy conservation projects and increasing our capacity to self-generate electricity, but there can be no assurance that we will be able to eliminate the effect of all such rate increases.

 

Since oil and natural gas are purchased on spot markets, their prices fluctuate significantly due to various external factors. We manage our exposure to the price volatility for these fuels through the use of financial instruments and physical supply agreements under a hedging program and also by using lower priced alternatives where feasible. There is, however, no assurance that we will be successful in eliminating or mitigating exposure to price volatility for these fuels.

 

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We are subject to significant environmental regulation

 

We are subject to extensive environmental laws and regulations that impose stringent requirements on our operations, including, among other things, air emissions, liquid effluent discharges, the storage, handling and disposal of hazardous materials and wastes, remediation of contaminated sites and landfill operation and closure obligations. It may be necessary for us to incur substantial costs to comply with such environmental laws and regulations.

 

Some of our operations are subject to stringent permitting requirements and from time to time we face opposition to construction or expansion of proposed facilities, such as landfills. We may discover currently unknown environmental liabilities in relation to our past or present operations or at our current or former facilities, or we may be faced with difficulty in obtaining project approvals in the future. These occurrences may (i) require site or other remediation costs to maintain compliance or correct violations of environmental laws and regulations, (ii) result in denial of required permits, (iii) result in government or private claims for damage to person, property or the environment, or (iv) result in civil or criminal fines and penalties or other sanctions.

 

We permanently closed our Elk Falls paper mill in 2010. We may be required to conduct investigations and take remedial action for contaminated areas. We also permanently closed our paper recycling division in 2010 but do not currently expect any significant expenditures in respect of remediation of that site.

 

Our operations may be affected by the regulation of greenhouse gases (GHG) in Canada:

 

·The federal government has indicated its intent to regulate priority air pollutants, including particulate matter and sulphur oxides (SOx), and GHGs under the Canada Clean Air Act and the Canadian Environmental Protection Act. Under proposed targets, our Crofton mill may be required to reduce SOx emissions. The cost of making any such reductions is estimated between $4 and $8 million. The new standards are still being determined with compliance required within three to five years. In January 2010, the federal government, as part of its commitment to the Copenhagen Accord, announced a GHG reduction target of 17% by 2020 based on 2005 emissions. It is unknown what the federal government’s final position on these initiatives will be, as none have been enacted into law.

 

·B.C. is a signatory to the Western Climate Initiative, a collaboration of four provinces and currently only one U.S. state (California), whose mandate is to achieve a 15% reduction in GHGs below 2005 levels among member entities by 2020. In addition, the B.C. government has announced its goal of reducing the provincial release of GHGs by 33% by 2020, based on 2007 levels, with interim reduction targets of 6% by 2012 and 18% by 2016. Quebec and California have initiated their regulatory processes in connection with implementation of a cap and trade system. B.C. has not issued regulations for its cap and trade program for GHGs and at this time is reviewing its climate change and clean energy policies. It is too early to determine the impact on the company under any such cap and trade scheme.

 

·Effective January 1, 2010, a GHG reporting regulation was brought into effect by the B.C. government which affects our three paper mills in B.C. The regulation includes requirements for calculating and reporting GHG emissions from facilities that release 10,000 tonnes or more of GHGs per year plus third-party verification at facilities that release 25,000 tonnes or more per year. The first reports and verification audits were successfully completed in 2011.

 

The finalization of Canadian federal and provincial climate change regulation may depend on regulatory initiatives undertaken in the U.S. The United States has indicated its intention to introduce more stringent environmental regulation and implement policies designed to reduce GHG emissions through the Clean Air Act but the timing of the implementation of any national limits is uncertain. When limits are developed, it is expected that they will focus on the electricity generating sector.

 

Effective July 1, 2012, the carbon tax rates under the B.C. government’s carbon tax on fossil fuels increased by 25%. The impact of increases in the carbon tax depends on our ability to decrease the use of fossil fuel. For the year ended December 31, 2012, we paid $6.5 million in carbon taxes on our fossil fuel purchases.

 

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Additional regulatory initiatives may be implemented in other jurisdictions to address GHG emissions and other climate change-related concerns. If, to the extent we operate or offer our products for sale in such jurisdictions, we may be required to incur additional capital expenditures, operating costs or mitigating expenses, such as carbon taxes, to comply with any such initiatives.

 

Elimination of British Columbia Harmonized Sales Tax will negatively impact our future financial results

 

On April 1, 2013, the Province will revert back to provincial sales tax regime. We estimate that the additional annualized cost to our business from that date onward will be approximately $12 million, based on actual 2012 expenditures.

 

Equipment failures and the need to increase capital and maintenance expenditures could have a negative impact on our business

 

Our business is capital intensive. Our annual capital expenditure requirements vary due to differing requirements for current maintenance, expansion, business capital and environmental compliance and future projects. We regularly carry out maintenance on our manufacturing equipment but key components may still require repair or replacement. The costs associated with such maintenance and capital expenditures or our inability to source the necessary funds to enable us to maintain or upgrade our facilities as required could have an adverse effect on our business and operations.

 

In addition, we may from time to time temporarily suspend operations at one or more facilities to perform necessary maintenance or carry out capital projects. These temporary suspensions could affect the ability to meet customer demand in a timely manner and adversely affect our business.

 

We may be subject to litigation which could result in unexpected costs and expenditure of time and resources

 

We may from time to time be subject to claims and litigation proceedings generally associated with commercial and employment law issues. Given that these claims are subject to many uncertainties and the inability to predict with any certainty their outcomes and financial impacts, there is no guarantee that actions that may be brought against us in the future will be resolved in our favour or covered by our insurance. Any losses from settlements or adverse judgments arising out of these claims could be materially adverse to our operations and business.

 

The Snowflake mill sources water from groundwater wells in the vicinity of the Little Colorado River for its process requirements. The Little Colorado River Adjudication, filed in 1978, is pending in the Superior Court of Arizona, Apache County. The purpose of this adjudication is to determine the nature, extent and relative priority, if applicable, of the water rights of all claimants to the Little Colorado River system and sources. There are more than 3,500 participants, including Snowflake. Native American tribes and the United States government contend that Snowflake’s withdrawal and use of groundwater impermissibly interferes with water rights to the Little Colorado River. We dispute this contention. However, an adverse determination could result in claims for damages that may be materially adverse to us.

 

In addition, securities class-action litigation often has been brought against public companies following periods of volatility in the market price of their securities. It is possible that we could be the target of similar litigation in future. Securities litigation could result in substantial costs and damages and divert management’s attention and resources.

 

We extend trade credit to our customers and they may not pay us promptly or in full

 

We extend trade credit to many purchasers of our products and rely on their creditworthiness. Some of these customers operate in highly competitive, mature, cyclical or low-margin businesses and some are highly leveraged financially or are experiencing negative cash flows which may result in them needing to refinance, restructure or file for bankruptcy protection or bankruptcy. We will typically have a greater number of such customers during economic downturns. The failure of such customers to pay us promptly and in full under the credit terms we extend to them could have a material adverse impact on our operating cash flows.

 

We are dependent upon certain of our management personnel

 

The success of our operations is influenced to a significant degree by our ability to attract and retain senior management with relevant industry experience. Successful implementation of our business strategy is dependent on our ability to attract and retain our executive officers and management team. The unexpected loss of services of any key management personnel or the inability to recruit and retain qualified personnel in the future could have an adverse effect on our business and financial results.

 

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Consumer boycotts or increases in costs due to chain-of-custody programs may adversely affect demand for our products

 

Some of our customers are sensitive to issues associated with harvesting of old growth forests and require us to supply products that are not produced from these forests. A growing number of customers want to purchase products that originate from sustainable managed forests as validated by certification programs. We have implemented The Forest Stewardship Council chain-of-custody system to verify that selected paper products at our Crofton, Port Alberni and Powell River mills contain 100% certified wood fibre, but we may be required to implement additional or more stringent chain-of-custody certification programs with increased costs to meet our customers’ demands. Demand for our products may be adversely affected if we don’t implement such programs or if we become subject to organized boycotts or similar actions by environmental or other groups.

 

Our insurance has limitations and exclusions

 

We maintain insurance coverage that we believe would ordinarily be maintained by an operator of facilities similar to our own. The insurance policies are subject to limits and exclusions. Damage to or destruction of our facilities could accordingly exceed the limits of our policies or be subject to policy exclusions.

 

Our mills are located in seismically active areas

 

Our three operating mills are situated adjacent to the ocean on the south coast of B.C. This is a seismically active area and these mills and the surrounding transportation infrastructure are accordingly susceptible to risk of damage or destruction caused by earthquakes and tsunamis. Our insurance may not cover the total losses associated with damage or destruction caused by an earthquake or tsunami, and this insurance is subject to limits and deductibles in respect of such damage that may limit the amount recoverable.

 

Post-retirement plan obligations may affect our financial condition

 

We maintain defined benefit pension plans and other post-retirement benefit plans for certain retired employees. As at December 31, 2012, the underfunded liability associated with the defined benefit pension plans was $53.5 million and the underfunded liability associated with the other post-retirement benefit plans was $149.2 million. Funding requirements for these plans are dependent on various factors, including interest rates, asset returns, regulatory requirements for funding purposes, and changes to plan benefits. In 2013, we are required to contribute $4.5 million towards the underfunded liability of the defined benefit pension plan. Although we expect to continue to make contributions to fund post-retirement plan obligations and to meet legal funding obligations for the defined benefit pension plan, no assurance can be made that the underfunded liability under these plans will not be materially adverse to us in the future.

 

A change in our legal control could be materially adverse

 

We have outstanding US$250 million of 2017 Notes and US$35million of Exit Notes. If a Change of Control (as such term is defined in the indenture governing these notes) occurs, we are required to make an offer to purchase all outstanding notes at a price equal to 101% of their principal amount, plus accrued and unpaid interest to the date of payment, in accordance with the procedures set out in the indenture. We may not have sufficient financial resources to fund any such repurchase.

 

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ITEM 4.INFORMATION ON THE CORPORATION

 

A.History and Development of the Corporation

 

Incorporation

 

We were formed on September 1, 2001 by the amalgamation under the Canada Business Corporations Act of Norske Skog Canada Limited and Pacifica Papers Inc. On October 3, 2005 we changed our name to Catalyst Paper Corporation.

 

Catalyst’s principal predecessor was British Columbia Forest Products Limited, which was a company formed by the amalgamation under the laws of the Province of British Columbia on December 30, 1971 of its predecessor company, incorporated by certificate of incorporation, with memorandum and articles, under the laws of the Province of British Columbia on January 31, 1946, and 24 of its wholly owned subsidiaries. On September 2, 1988, British Columbia Forest Products Limited changed its name to Fletcher Challenge Canada Limited. Prior to July 2000, 50.76% of Fletcher Challenge Canada Limited was owned by Fletcher Challenge Limited of New Zealand (“Fletcher Challenge New Zealand”). In July 2000, Norske Skogindustrier ASA completed a transaction with Fletcher Challenge New Zealand whereby all of the business and assets of Fletcher Challenge New Zealand’s paper division worldwide were acquired by Norske Skogindustrier ASA. As part of this transaction, Norske Skogindustrier ASA acquired Fletcher Challenge New Zealand’s 50.76% interest in Fletcher Challenge Canada Limited. On December 15, 2000, Fletcher Challenge Canada Limited changed its name to Norske Skog Canada Limited.

 

As a result of the amalgamation with Pacifica Papers Inc. and subsequent equity issues, Norske Skogindustrier ASA’s interest in Catalyst decreased to 29.4%. On February 16, 2006 Norske Skogindustrier ASA sold its remaining 29.4% interest in Catalyst by way of a secondary offering.

 

Pacifica Papers Inc.’s predecessor was Pacifica Papers Limited Partnership. On June 8, 1998 Pacifica Papers Limited Partnership, through its indirect wholly owned subsidiary, Pacifica Papers Acquisition Company Ltd., acquired all the shares of MB Paper Limited from MacMillan Bloedel Limited. On March 12, 1999 the unitholders of Pacifica Papers Limited Partnership approved a reorganization pursuant to which Pacifica Papers Limited Partnership changed its corporate form from a partnership to a corporation. As part of this reorganization, 28,750,000 common shares of Pacifica Papers Inc. were distributed to all the unitholders of Pacifica Paper Limited Partnership in exchange for their partnership units on a one for one basis.

 

14,400,000 new common shares were issued from the treasury of the company to the holders of the 2016 Notes (as hereinafter defined) on September 13, 2012, in accordance with the company’s plan of arrangement under the Companies’ Creditors Arrangement Act (the “Plan”) and a further 127,571 new common shares were issued from treasury on December 19, 2012 to certain unsecured creditors of the company who elected to receive their pro rata share of up to 600,000 common shares pursuant to the terms of the Plan. Under the terms of the Plan all former securities of the company issued and outstanding on September 13, 2012 were deemed automatically cancelled. See “Creditor Protection and Restructuring Process - Implementation of Plan”.

 

Our head and registered office is located at 2nd Floor, 3600 Lysander Lane, Richmond, British Columbia, V7B 1C3.

 

Creditor Protection and Restructuring Process

 

Proceedings under the CCAA

 

Following extensive discussions and negotiations in 2011 and early 2012 with certain holders of our 7.375% senior unsecured notes due 2014 (2014 Notes) and our 11.0% senior secured notes due 2016 (2016 Notes) in an effort to implement a recapitalization transaction that would reduce our indebtedness and improve the company’s capital structure, the Board of directors and management determined it was necessary to pursue a restructuring under court supervision.

 

On January 31, 2012 the company obtained an order from the Supreme Court of British Columbia under the CCAA and subsequently received a recognition order from the United States court under Chapter 15 of the US Bankruptcy Code. The company arranged debtor-in-possession financing (“DIP Facility”) of approximately $175 million to provide funding during the restructuring process under the CCAA for ongoing working capital, capital expenditure requirements and general corporate purposes. The company’s operating revenue combined with the DIP Facility provided sufficient liquidity to meet ongoing obligations to employees and suppliers and enabled normal operations to continue during the restructuring process. The DIP Facility was paid out on September 13, 2012.

 

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The company’s secured and unsecured creditors approved the Plan at meetings held on June 25, 2012. The Plan was approved by the Canadian Court on June 28, 2012 under the CCAA process and by the United States Court on July 27, 2012 under the Chapter 15 process. The Plan became effective on September 12, 2012 and restructuring under the Plan completed on September 13, 2012.

 

Implementation of Plan

 

As a result of the reorganization under the Plan:

 

·Holders of 2016 Notes exchanged their US$390.4 million aggregate principal amount of 2016 Notes plus accrued and unpaid interest for:
-US$250.0 million aggregate principal amount of senior secured notes due in 2017 (“2017 Notes”) that bear interest, at the option of the company, at a rate of 11% per annum in cash or 13% per annum payable 7.5% cash and 5.5% payment-in-kind (PIK); and
-14.4 million new common shares which represented 100% of the company’s issued and outstanding common shares subject to dilution for (i) the issuance of common shares to unsecured creditors who made an equity election pursuant to the terms of the Plan, and (ii) common shares that may be issued under a new management incentive plan should such a plan be adopted in the future.

 

·Holders of 2014 Notes exchanged their US$250.0 million aggregate principal amount of 2014 Notes plus accrued and unpaid interest for:

-Their pro rata share (calculated by reference to the aggregate amount of all claims of unsecured creditors allowed under the Plan) of 50% of the net proceeds (the “PREI Proceeds Pool”) following the sale of Catalyst Paper’s interest in Powell River Energy Inc. and Powell River Energy Limited Partnership (collectively “Powell River Energy”), or

 

-If an equity election was made, their pro rata share of 600,000 new common shares (the “Unsecured Creditor Share Pool”).

 

·General creditors exchanged their general unsecured claims for:

-Their pro rata share of the PREI Proceeds Pool; or

 

-If an equity election was made, their pro rata share of the Unsecured Creditor Share Pool; or

 

-If the general unsecured claim was equal to or less than $10,000 (unless an equity election was made), or if a valid cash election were made and such creditor elected to reduce their claim to $10,000, cash in an amount equal to 50% of the creditor’s allowed claim (the “Cash Convenience Pool”).

 

·On September 13, 2012 all previously outstanding common shares of the company were cancelled for no consideration and holders of such common shares did not, and will not, receive any distribution under the Plan.

 

We distributed $1.0 million to unsecured creditors in November, 2012 as full and final settlement of claims under the Cash Convenience Pool. We issued 14,400,000 new common shares to holders of 2016 Notes on September 13, 2012 and issued a further 127,571 common shares on December 19, 2012 to unsecured creditors who elected to receive common shares in lieu of participating in the PREI Proceeds Pool, as full and final settlement of their claims. We entered into an agreement on February 13, 2013 to sell our interest in Powell River Energy for $33 million and following completion of such sale will pay out approximately $13 million from the PREI Proceeds Pool to applicable unsecured creditors. We are required under the terms of the Exit Facility (defined below) to offer to purchase Exit Notes (defined below) at par from our portion of the proceeds from the sale of Powell River Energy.

 

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Exit financing arrangements

 

On September 13, 2012, we entered into a new $175.0 million ABL Facility, which was a pre-condition for the Corporation to implement the Plan and exit from protection under the CCAA. The ABL Facility provided financing for general corporate purposes, and for the repayment on exit of the debtor-possession asset based lending facility (“DIP Facility”) that was in place throughout the CCAA proceedings. The Corporation also completed a US$35 million secured exit financing facility (“Exit Facility”) on September 13, 2012 and issued US$35 million of notes (“Exit Notes”) under that facility on its exit from protection under the CCAA. The Exit Facility provided the company with backstop financing to pay costs and expenses and manage other contingencies on exit from protection under CCAA.

 

Appointment of new board of directors

 

A new Board was appointed effective upon completion of the restructuring under the Plan on September 13, 2012, comprised of John Brecker, Giorgio Caputo, John Charles, Kevin J. Clarke, Todd Dillabough, Walter Jones, and Leslie Lederer. Mr. Clarke, the CEO of the Corporation, continued from the previous board. Mr. Lederer is the Chair of the Board.

 

Asset Sales

 

Closure and Sale of Snowflake Mill

 

The company permanently closed the Snowflake mill on September 30, 2012. The decision to close the Snowflake mill was driven by continued financial losses resulting from intense supply input and market pressures. Snowflake had generated negative adjusted EBITDA since 2009. The Snowflake mill and associated assets, including our shares in The Apache Railway Company, were sold to a third party on January 30, 2013. See - Impairment of Snowflake Assets and Canadian Operations.

 

Sale of Powell River Energy

 

We entered into an agreement on February 13, 2013 to sell our interest in Powell River Energy for $33 million. The sale is expected to complete in the first quarter of 2013 and is subject to various closing conditions. Electricity generated by Powell River Energy Inc. will continue to be sold to the company under the existing power purchase agreement which expires in 2016 with possible extension to 2021 in one year renewal term increments at the option of the company.

 

Sale of Elk Falls Mill

 

On August 16, 2012, the company and its subsidiaries, Catalyst Pulp Operations Limited and Elk Falls Pulp and Paper Limited entered into an agreement to sell the Elk Falls millsite and remaining plant and equipment and adjacent properties to a third party. This sale did not complete and the company is pursuing other sale opportunities for this site.

 

Other Asset Sales

 

We have reached an agreement-in-principle to sell our 13.4 hectare wastewater treatment facility located at our Port Alberni mill along with 3.9 hectares of land combined with a road dedication for proceeds of $5.8 million. The company has agreed to settle the mortgage receivable due from PRSC Limited Partnership and sell its interest in PRSC Land Developments Ltd. for proceeds of approximately $3.0 million. We continue to actively market our remaining poplar plantation land.

 

Executive Changes

 

Kevin J. Clarke was appointed President and Chief Executive Officer on June 21, 2010. Richard Garneau tendered his resignation as President and Chief Executive Officer in January 2010 and left the company on May 31, 2010. Denis Jean, a director of the company who held this position on an interim basis until Mr. Clarke’s appointment, continued as a member of the Board of directors until his resignation from the board on February 2, 2012. A new Board was appointed on September 13, 2012 in connection with the restructuring under the Plan.

 

Note Exchange Transaction and Financing

 

In March, 2010, we issued US$280.4 million of new 11.0% senior secured notes, due December 2016 in exchange for US$318.7 million of our 8.625% senior unsecured notes due June 2011 (“2011 Notes”) and in May, 2010 issued US$110 million of Class B 2016 Notes. We purchased US$9.5 million of our 2011 Notes for US$8.9 million in September, 2010 and redeemed all of the remaining outstanding 2011 Notes in February, 2011. All of the 2016 Notes were cancelled on the effective date of the Plan. See “Creditor Protection and Restructuring Process.”

 

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Permanent Closure of the Elk Falls Paper Mill and the Coquitlam Paper Recycling Facility

 

We permanently closed our Elk Falls paper mill in Campbell River, B.C., and our Coquitlam paper recycling facility during the third quarter of 2010 in light of weak markets for commodity paper grades combined with uncompetitive manufacturing costs, including labour, municipal taxes, fibre, and other input costs. Closure of our Elk Falls mill reduced our combined annual paper production capacity by 526,000 tonnes. We have incurred total severance costs to date of $9.7 million as a result of the closure of the Elk Falls mill and paper recycling facility. Asset-impairment and closure costs were $294.5 million. We disclaimed the operating lease for the paper recycling facility effective March 23, 2012 under the CCAA process.

 

Production Curtailment

 

The following table summarizes pulp and paper production curtailment in 2012:

 

2012 Production Curtailment
(000 tonnes)
 

Specialty Printing

Papers(1)

   Newsprint(2)   Pulp   Total 
Q1   0    35    0    35 
Q2   0    35    0    35 
Q3   0    35    0    35 
Q4   12    35    0    47 
Total   12    140    0    152 

 

(1)The specialty printing papers curtailment relates to the three paper machines at the Powell River mill which were curtailed for eight days during the last half of December, 2012.

(2)The newsprint production curtailment relates to the Crofton C1 paper machine which was curtailed throughout 2012. This machine has been indefinitely curtailed since January 21, 2010 as a result of reduced customer demand and high operating costs.

 

Cogen Arbitration Settlement

 

In January, 2011 pursuant to settlement of an arbitration proceeding in 2009, we transferred to Island Cogeneration No. 2. Inc. (“Cogen”) the land that had been leased by Cogen upon which its energy facility is located. We have also granted certain easements and access rights to Cogen to facilitate the independent operation of the energy facility. In addition, Cogen has agreed to take steps to eliminate its reliance on us for certain services and we have agreed to cooperate with Cogen in that regard.

 

Green Transformation Program Credits

 

In February, 2011, we received funding approval under the Canadian federal government’s “Green Transformation Program” for two capital projects to improve energy efficiency, a $5 million project at our Port Alberni mill to improve combustion efficiency and environmental performance of its biomass boiler and a $13 million project at our Powell River mill to increase the electrical generation of the existing generator by approximately 18 megawatts. Funding was applied as capital expenditures were incurred towards approved projects with program payments released quarterly based on costs incurred during each quarterly period and all the costs associated with these projects have been paid.

 

Defined Benefit Pension Plans Funding

 

Funding Relief

 

In December, 2011, the B.C. Superintendent of Pensions granted us an extension of time for payment of the solvency deficits under certain of our defined benefit pension plans. This extension provided for payments necessary to amortize the solvency deficits over the seven year period ending December 2017, including annual payments of $10.6 million for 2011, 2012 and 2013. As part of our CCAA proceedings we paid an additional $1.1 million in respect of the solvency deficiencies in 2012. During our CCAA proceedings, we obtained government approval (i) to offer a special portability election option in respect of our defined benefit pension plan for salaried employees and (ii) for further funding relief in respect of our obligation to make payment to the solvency deficit for that pension plan. The funding relief provides for fixed annual contributions to the solvency deficit over a 15-year period ending in 2027 and a final payment of the remaining deficit in 2028. This change results in estimated annual cash savings of approximately $7 million per year commencing in 2013.

 

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Special Portability Option

 

Under the special portability election option, we offered members of our defined benefit pension plan for salaried employees a one-time reduced lump-sum payment option as full settlement of their entitlements under the plan. Members had to make their elections by no later than December 15, 2012, and have until June 30, 2013 to revoke such elections in favour of continuing to receive monthly pension payments. As of March 5, 2013, 42% of the total membership of the pension plan, representing 48% of the total pension liability elected to take this option.

 

Members who exercise the election will receive a reduced lump-sum payment, calculated as the commuted value of future pension payments multiplied by the solvency ratio of the plan on December 31, 2012, plus additional top-up payments over the next four years totaling 8% of commuted value. Commuted value is defined as the amount a plan member needed to invest on December 31, 2012 to provide for future pension benefits, incorporating an interest rate based on Government of Canada bonds.

 

Property Tax Dispute

 

We paid $22.4 million of property taxes in 2011. This payment included $18.3 million in municipal and provincial property taxes levied by our B.C. municipalities for 2011 as well as $4.1 million to North Cowichan for 2010 property taxes and interest. Pursuant to statutory requirements, the payment to North Cowichan was applied firstly to pay outstanding 2010 property taxes, penalties and interest in full and secondly to pay 2011 property taxes. As a result, as at December 31, 2011, there were unpaid property taxes owing to North Cowichan for 2011, together with the 10% penalty for late payment, of $0.4 million.

 

Our appeal to the Supreme Court of Canada regarding North Cowichan’s 2009 property taxes was dismissed on January 20, 2012. Shortly after that ruling we discontinued our proceedings disputing the 2010 and 2011 property taxes assessed by North Cowichan and paid all of our unpaid property taxes owing to North Cowichan. We also discontinued our appeal of the decision of the Supreme Court of British Columbia in respect of the Strathcona Regional District portion of the property taxes levied by the City of Campbell River for 2010.

 

We continue to press for a fair and sustainable level of municipal property taxes for major industry in the B.C. communities in which we operate. We paid the full amount of our 2012 property taxes of $12.2 million when due in July, 2012. North Cowichan reduced the property taxes payable by the Corporation in respect of the Crofton facility substantially in 2012.

 

We have also pursued arrangements outside of the courts and on April 9, 2010 entered into an agreement in principle with the City of Powell River to reduce the annual major industry property taxes we pay to $2.25 million per year for the next five years and to jointly pursue arrangements that would enable a 20-year service agreement valued at $3.5 million over five years, under which we would treat the City’s liquid waste using the Powell River mill’s effluent system and burn the City’s bio-solids in the mill’s wood waste boiler.

 

We entered into an agreement in principle with the City of Port Alberni in July 2012 to transfer certain infrastructure surplus to our needs in return for a cash payment and property tax certainty over the next five year period.

 

Manning and Cost Reductions

 

During the first quarter of 2010, the Corporation incurred $14.1 million in severance costs for approximately 300 employees including employees who were impacted by the extended curtailment of our Elk Falls paper operations in 2008 and 2009 and indefinite closure of Crofton C1 paper machine and the paper recycling facility in 2009.

 

During 2010, we implemented previously announced changes to salaried employee and retiree pension and benefit plans, including the cessation of benefits related to future service under the defined benefit pension plans and a reduction in the Corporation-provided contribution rate under the defined contribution pension plans from 7% to 5%. We also changed the design of our extended health and other benefits plan to include core coverage paid by the Corporation with optional enhanced coverage, deductibles and dispensing fees paid by employees and introduced a 50/50 cost-sharing arrangement for provincial medical services plan premiums. In addition, annual vacation entitlements were limited to 5 weeks per employee and supplemental vacation benefits were eliminated on a prospective basis. 

 

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Collective Agreements

 

Our collective agreements with the CEP locals at our Crofton and Powell River and the PPWC local at our Crofton mills were to expire April 30, 2012 and our collective agreements with the CEP locals at Port Alberni were to expire April 30, 2013. On March 19, 2012, new labour agreements were ratified by the CEP and PPWC effective May 1, 2012 and will expire on April 30, 2017. The new labour agreements include a 10% reduction in hourly rates along with various adjustments to vacation, health benefits and work rules necessary to provide Catalyst with a more competitive labour cost structure. We also completed a new collective agreement at our Surrey Distribution Centre with the Christian Labour Association of Canada (“CLAC”) in early March 2012 which expires in 2015.

 

Revolving Credit Facility

 

On May 30, 2011, we amended our $330 million revolving asset based loan facility (the “ABL Facility”) by, reducing the amount of the facility to $175 million, extending the maturity date from August, 2013 to May 31, 2016 and removing the fixed assets of the Snowflake mill from the borrowing base under the ABL Facility. The ABL Facility provided for ongoing working capital, capital expenditure requirements as well as for general corporate purposes. Collateral consisted of accounts receivable, inventories and cash and a second charge on the property, plant and equipment of our mills. The ABL Facility was essentially replaced by the DIP Facility as part of our proceedings under the CCAA. The DIP Facility was replaced by a new $175 million syndicated asset based loan facility (the “new ABL Facility”) on September 13, 2012, when the restructuring under the Plan completed. The new ABL Facility matures on the earlier of September 13, 2017 and 90 days prior to maturity of any significant debt.

 

British Columbia Carbon Tax

 

Our operations in British Columbia are subject to a broad-based carbon tax on fossil fuels of $20 per tonne in 2010, $25 per tonne in 2011 and $30 per tonne in 2012. The tax applies to gasoline, diesel fuel, natural gas and other fossil fuels. We are a significant consumer of fossil fuels, both directly in our operations and through our reliance on fossil fuel powered transportation for the delivery of products and supplies. Although the intention is that the carbon tax will be, in the aggregate, revenue neutral, we are unable, in the short term, to take advantage in a material way of other tax initiatives designed to offset the carbon tax. The tax increased our operating costs by $2.6 million in 2010, $4.1 million in 2011 and $6.5 million in 2012

 

Maintenance Outages and Fires

 

Our results in 2011 were negatively impacted by fires and extended maintenance outages in the second quarter. At the Snowflake mill, a recovered paper storage yard fire, a market curtailment, and a five-day extension to a planned annual mill maintenance outage resulted in production downtime of 15 days or 8,400 tonnes of lost production. The fire at the Snowflake mill destroyed approximately 11,000 tonnes of recovered old newsprint (“ONP”) and resulted in losses of $4.4 million. At the Powell River mill, a five-day planned mill maintenance outage was extended to 10 days to address unexpected findings in the mill’s steam supply system, resulting in 14,000 tonnes of lost production. Also in the quarter at Powell River, an electrical cable equipment fire idled the mill’s No. 9 paper machine for five days and the No. 10 paper machine for 14 days and resulted in losses of $2.4 million to date and 8,700 tonnes of lost production. The bulk of the losses incurred on the fires were below our deductibles and thus not covered by insurance.

 

Impairment of Snowflake Assets and Canadian Operations

 

We impaired the assets of our Snowflake mill by $161.8 million (US$155.9 million). In Q3 2011, the net book value of building, machinery and equipment of US$135.6 million and maintenance supplies and spare parts inventory of US$9.7 million were written off. In the fourth quarter, land was impaired by US$10.6 million. These impairment charges included the assets of The Apache Railway Company, a subsidiary of Catalyst Paper (Snowflake) Inc. (“Snowflake”). The third quarter impairment was triggered by consistently poor operating results and cash flow losses at our Snowflake mill that management projected would continue in the future. These losses were mostly attributable to deteriorating newsprint pricing and demand as well as tight market conditions for ONP resulting in higher input costs. Up to the date of closing the Snowflake mill we owned and used the impaired assets in our operations. The fourth quarter impairment of land was based on an appraisal obtained from an independent third party real estate appraiser, dated January 3, 2012, that valued the Snowflake land at US$6.6 million.

 

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We recorded an impairment charge of $660.2 million in Q4 2011 on the buildings, plant and equipment of our Canadian operations after a comprehensive impairment analysis of the Corporation’s Canadian operations triggered by (i) continuing declines in demand for newsprint and directory, economic slowdown in the United States and globally, and the strengthening of the Canadian dollar for most of 2011; (ii) a reduction in pulp prices in the fourth quarter of 2011; and (iii) the release in February 2012 by a leading information provider for the global pulp and paper industry of their latest 5-year forecast for pulp and paper prices and future exchange rates reflecting significantly lower future price estimates for pulp and paper than what had been previously forecasted. The impairment reduced the carrying value of our pulp assets by $83.5 million and our paper assets by $576.7 million. We continue to own and use the impaired assets in our Canadian operations. After giving effect to these impairment charges, the Corporation’s liabilities exceeded the book value of its assets by $617.3 million as at December 31, 2011.

 

The Corporation permanently closed its Snowflake mill on September 30, 2012. The decision to close the Snowflake mill was driven by continued financial losses resulting from intense supply input and market pressures. Snowflake has generated negative adjusted EBITDA since 2009.

 

In August 2012, the Corporation obtained both Canadian and U.S. Court approval of a sale process for the Snowflake mill and associated assets. The Snowflake mill and associated assets, including the Corporation’s shares in The Apache Railway Company, were sold to a third party for US $13,460,000 in a sale that completed on January 30, 2013.

 

The Snowflake mill closure resulted in closure costs of approximately US$18.6 million, including a withdrawal liability of approximately US 11.7 million in connection with the PACE Industry Union-Management Pension Fund, a multi-employer pension plan which we contributed to for hourly employees at the Snowflake mill. The company is in the process of verifying this estimated liability. It is typical for withdrawal liabilities of this nature to be paid over 20 years although confirmation of the payment schedule has not been received at this point. Closure costs were mitigated from the sale of the Snowflake assets and realization of working capital. The sale is expected to result in the elimination of future operating losses associated with the Snowflake mill and savings of annualized selling, general and administrative expenses.

 

Capital Expenditures

 

Over the past five years our capital expenditures on manufacturing operations have totalled approximately $108 million. In the year ended December 31, 2012, approximately $0.6 million was spent on various environmental, maintenance of business and discretionary projects. As in 2011, capital expenditures were lower in 2012 than the years preceding 2010 as a result of a concerted effort to preserve cash. We expect to increase our capital spending to approximately $25 million in 2012. We also incurred capital spending of approximately $18 million in 2011 related to two projects that are focused on energy efficiency, environmental improvement and cost reduction and funded those projects by utilizing $18 million of available Green Transformation Program credits.

 

The following table summarizes capital expenditures on continuing operations over the past five years:

 

$ Millions  2012   2011   2010   2009   2008   Total 
Paper(1)   18    15    11    11    39    94 
Pulp   5    5    0    1    3    14 
Continuing Operations   23    20    11    12    42    108 
(1) The paper segment includes capital expenditures related to PREI. We consolidate 100% of PREI.

 

B.Business Overview

 

We are the largest producer of mechanical printing papers in western North America. We also produce northern bleached softwood kraft (“NBSK”) pulp. Our business is comprised of three business segments: specialty printing papers, newsprint and pulp. Specialty printing papers include coated mechanical, uncoated mechanical and directory paper. We are the only producer of coated mechanical paper and soft-calendared mechanical paper in western North America.

 

Our three pulp and paper operations are located at Crofton on the east coast of Vancouver Island, British Columbia, Port Alberni on central Vancouver Island and Powell River on the west coast of the British Columbia mainland.

 

Our Snowflake recycle mill, located in Snowflake, Arizona, which produced 100% recycled-content paper, ceased production and was permanently closed on September 30, 2012. The Snowflake mill was sold to a third party on January 30, 2013.

 

The chart below represents our expectation as to mill capacity in 2013, in thousands of tonnes, among the different product lines that can be produced at each mill. Capacity per product can vary as some of our paper machines are capable of producing more than one product line.

 

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2013 CAPACITY BY MILL LOCATION AND PRODUCT LINE 1
       Specialty printing papers 1   Newsprint 1   Market
Pulp
   Total 
Mill location  Number of
paper
machines
   Uncoated
mechanical
   Coated
Mechanical
   Directory   Newsprint   NBSK
pulp
     
Crofton, B.C. 3   2    -    -    57,000    270,000    350,0002   677,000 
Port Alberni, B.C.   2    -    224,000    116,000    -    -    340,000 
Powell River, B.C.   3    469,000    -    -    -    -    469,000 
Total capacity4 (tonnes)   7    469,000    224,000    173,000    270,000    350,000    1,486,000 
% of total capacity        32%   15%   12%   18%   23%   100%

 

1Capacities expressed in the above table can vary as we are able to switch production between products, particularly newsprint, directory and machine-finished uncoated grades. Although newsprint can be produced at Powell River, we are not currently producing newsprint at that location.

 

2Total pulp capacity at Crofton is 393,000 tonnes, of which 350,000 tonnes are designated as market pulp with the remainder 43,000 tonnes being consumed internally.

 

3The No. 1 paper machine at Crofton (with a capacity of, approximately 140,000 tonnes of newsprint production on an annualized basis) remains indefinitely curtailed and is not included in the table.

 

4The Snowflake mill’s production has been removed from total capacity due to the mill’s permanent closure on September 30, 2012.

 

Specialty Papers

 

Our specialty printing papers can be manufactured on all of our paper machines. The specialty paper business segment has a total annual production capacity of 929,000 tonnes in 2013.

 

Specialty printing paper products represent our largest business segment, generating 64% of our 2012 consolidated sales revenue. Our customer base consists primarily of retailers, magazine and catalogue publishers, commercial printers and telephone directory publishers. Specialty printing paper products are sold primarily through our sales and marketing personnel in North America, and through distributors and agents in other geographic markets. In 2012, 86% of our specialty paper sales volumes were with customers in North America.

 

Newsprint

 

Newsprint can be manufactured on three paper machines in British Columbia at Crofton and Powell River. The newsprint business segment has a current total annual production capacity of 270,000 tonnes in 2013.

 

Newsprint sales generated 17% of our 2012 consolidated sales revenue. The newsprint customer base consists primarily of newspaper publishers located in western and central North America, Asia and Latin America. In 2012, 43% of our newsprint sales volumes were with customers in North America.

 

Pulp

 

Our pulp segment consists of NBSK pulp manufactured on two production lines at the Crofton mill, which has a total annual production capacity of 393,000 tonnes, of which approximately 43,000 tonnes represent capacity being consumed internally. The pulp business segment has a total annual NBSK market production capacity of 350,000 tonnes in 2013.

 

Pulp sales generated 19% of our 2012 consolidated sales revenue. In 2012, 99% of our pulp sales volumes were with customers in Asia.

 

The pulp customer base includes producers of tissue, magazine papers, woodfree printing and writing papers and certain specialty paper products. Pulp is sold primarily by sales and marketing personnel based in Canada, and through a network of agents in locations throughout the world.

 

The following tables set out our total revenues by product and geographic market for each of the last three financial years:

 

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Paper Sales 1
(In millions of dollars)  Year Ended December 31 
   2010   2011   2012 
United States  $520.7   $511.6   $515.8 
Canada   138.1    156.6    147.8 
Latin America   99.3    88.3    87.7 
Asia and Australia   65.5    73.5    102.0 
Europe and Other   2.8    1.7    0.4 
   $826.4   $831.7   $853.7 

 

Pulp Sales
(In millions of dollars)  Year Ended December 31 
   2010   2011   2012 
United States  $0.9   $   $ 
Canada   0.2    4.6      
Latin America            
Asia and Australia   222.1    243.3    201.9 
Europe and Other   1.8    0.1    2.6 
   $225.0   $248.0   $204.5 

 

1Excludes Snowflake sales; the Snowflake operation was classified as a discontinued operation in 2012 and comparative numbers were restated accordingly.

 

Paper Marketing

 

The principal customers for our specialty printing papers and newsprint are retailers, magazine, book and catalogue publishers, commercial printers, telephone directory publishers and newspaper publishers. These customers are located primarily in western and central North America, Asia and Latin America. Specialty printing paper and newsprint customers are served primarily by our sales and marketing personnel in North America and distributors and agents in other geographic markets. Historically, approximately two-thirds of our paper sales revenue has been generated from sales to customers in the United States. The United States is still the world's largest consumer of coated and uncoated mechanical paper and newsprint, representing 27% of the world’s consumption for coated mechanical paper, 32% for uncoated mechanical paper and 22% for newsprint. Specialty printing paper and newsprint markets are not subject to significant seasonal fluctuations.

 

The Crofton mill is located on tidewater and has deep-sea vessel loading facilities. Specialty printing paper and newsprint is shipped overseas utilizing both by deep-sea vessels and containers, and by a combination of barge, rail and truck for destinations in North America. We use the services of independent warehouses for distribution to our customers in other parts of the world.

 

Pulp Marketing

 

Our Crofton pulp mill is well situated for export shipments to Asia and western Europe. Our strategy is to maintain a diversified range of freight-logical customers, including producers of tissue, magazine papers, woodfree printing and writing papers and certain specialty paper products.

 

Pulp customers are served by sales and marketing personnel in Canada and a network of agents in locations throughout the world. The Crofton pulp mill is located on tidewater and has deep-sea vessel loading facilities. Pulp is shipped to offshore locations primarily by break bulk on deep-sea vessels. Pulp markets are not subject to significant seasonal fluctuations.

 

Competition

 

The markets for our products are highly competitive on a global basis. The pulp and paper industry is essentially a commodity market in which producers compete primarily on the basis of price. In addition, since an important percentage of our production is directed to export markets, we compete on a worldwide basis against many producers of approximately the same or larger capacity. In export markets, Canadian producers generally compete with American, European and Asian producers.

 

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Fibre Supply

 

Our pulp and paper operations consume wood fibre which is purchased from more than 25 independent sawmills and more than 25 pulp log suppliers. Our fibre supply comes primarily from residual wood chips and sawdust from sawmill operations located on the coast or in the southern interior of British Columbia and secondarily from the chipping of pulp logs originating from locations throughout the region.

 

In 2012 our fibre supply for our B.C. pulp and paper operations was comprised of sawmill wood chips and pulp logs. Approximately 70% of our fibre is provided by five suppliers.

 

Approximately 69% of our fibre is sourced under indefinite (evergreen) term fibre agreements with third party suppliers (some of which were put in place when we sold our timber and timber processing assets in the 1990s) with pricing based on market prices or at prices determined under market-based formulas and including an evergreen contract with a coastal log producer under which additional wood chips can be obtained from regional sawmills in exchange for sawlogs.

 

The remainder of the fibre requirements for our B.C. pulp and paper operations is sourced from independent suppliers, many under long-term contracts. Fibre is purchased from these suppliers at market prices or at prices determined under market based formulas. From time to time we sell fibre to outside customers. We also engage in fibre trading activities to ensure optimum allocation of different fibre grades to the appropriate product.

 

Our operations are subject to a wide range of issues that can impact the availability and price of fibre supply, including suppliers’ lumber market demand, sawlog supply, coastal solid wood industry restructuring, strikes, and regional market prices. The diversity of supply from over 50 independent suppliers located in three geographical regions helps to mitigate the risk of interruptions to fibre deliveries to our operations. Our production levels in 2010, 2011 and 2012 were not impacted by fibre shortages.

 

During the past five years, we have implemented a chain of custody system to certify our wood fibre supply. Approximately 70% of our total fibre basket is certified to either the Programme for the Endorsement of Forest Certification (“PEFC”) or Forest Stewardship Council (“FSC”) standard. PEFC is an independent non-profit organization that assesses and mutually recognizes national forest certification programs developed through multi-stakeholder processes. The PEFC standard is a third party audited system that identifies the source of wood fibre and whether or not it is derived from a forest independently certified as being managed in accordance with a recognized sustainable forest certification system. About 20% of our total fibre basket comes from recycled sources such as old newspapers and magazines. In 2011 we also implemented the FSC chain of custody system at all three of our mills in British Columbia.

 

Competitive Strengths

 

We believe that we have the following competitive strengths:

 

Cost-Competitive Manufacturing. Our financial results are driven by our manufacturing costs, particularly with respect to furnish costs, energy prices and usage and labour costs. We are focused on reducing these costs and improving margins, while maintaining or improving the quality of our products. There is a particular focus on finding ways to improve controllable operating costs and on developing more flexible and efficient work practices at the mills that will reduce manufacturing costs in the aggregate and create a shift in the proportion of fixed to variable costs. We have reduced our labour costs through our new labour agreements in 2012 and have made significant capital expenditures over the past six years to shift production towards higher-margin printing papers, reducing unit production costs, increasing machine productivity, improving product quality, and meeting or exceeding environmental regulations.

 

Strong Market Position. We are the largest producer and marketer of printing papers (newsprint and specialty printing papers) in western North America with production capacity of approximately 1.48 million tonnes of paper and pulp. We are the only producer of coated mechanical and supercalendered papers in western North America and the largest producer of glossy paper in the region. Our Crofton operation is a tidewater mill giving it reliable, low-cost access to international pulp and paper markets via breakbulk vessels.

 

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Diversified Product Mix and Product Development. We are focused on optimizing our product mix by developing higher value grades and introducing new product lines, which allow us to explore niche opportunities in the marketplace. The most recent addition to our extensive lineup is Marathon Lite, an ultra-light newsprint grade that offers publishers and printers environmental and economic benefits of a lighter sheet without sacrificing print quality or runnability. In 2010 we introduced PacificoteTM , a high brightness and high gloss paper with superior printability ideal for magazine, catalogue, insert and direct mail advertising applications. We also launched ElectrabriteTM Book, a range of caliper-controlled grades for book publishers, Electrabrite 100% recycled hi-bright grade papers produced at Snowflake and E-Star Max, an 84-bright uncoated mechanical grade for commercial printing. These are our most recent additions to our expansive range of Electra-paper grades that include Electraprime™ (a soft-calendered, high-brightness paper designed to compete as an alternative to traditional supercalendered grades and used primarily for advertising inserts and flyers), Electrastar™ (a super high-brightness grade designed for applications in which brightness is a desirable characteristic such as inserts and specialty newspapers), Electrabrite Lite (a lighter basis weight, high-brightness product that is used by newspapers and retailers) and Electracote Brite (a brighter, heavier-coated paper ideal for magazines, catalogue or retail insert applications as an attractive alternative to more expensive coated grades). We also introduced our Sage line of specialty printing papers in 2010 which allows us to offer the Pacificote and Electra grades as being manufactured carbon-neutral from certified wood fibre from sustainably managed forests with documented verification. These more specialized products generally provide higher margins and improved demand prospects than standard commodity grades. We manage fluctuations in demand for our products through our ability to switch production between products and machines, particularly newsprint, directory, and machine-finished uncoated mechanical grades.

 

Efficient Supply Chain Management Practices. Distribution costs have a significant impact on net sales realizations. Our strong and flexible distribution network optimizes all transportation modes available to us, such as barge, truck, rail and break bulk and container shipping. Controlling key elements of our supply chain has allowed us to control costs while achieving a high on time delivery performance and low damage levels especially to west coast print sites where our strategic importance to customers is highest. Our Crofton mill site directly ships break bulk to offshore customers via regularly scheduled vessels. We operate a central distribution centre in Surrey, B.C. which continuously receives volumes from our three British Columbia manufacturing sites and then ships via rail, truck and container to our customers. This allows us to choose the most cost effective transportation mode in conjunction with customer requirements. We also lease or otherwise have available 635 rail cars to ensure adequate supply and weight loads are maximized with the use of organization software. We lease five paper barges which we use in conjunction with third party providers to transport our products to the Surrey distribution centre.

 

Business Strategy

 

Our objective is to return to profitability and maximize cash flows by focusing on reducing manufacturing costs and optimizing our brands and customer base in a socially responsible manner. In 2013, the focus will be on objectives and initiatives in four areas:

 

·Financial. Complete outstanding restructuring items and use proceeds of assets sales to pay down debt, focus on reducing operating costs and generating positive free cash flow and completing implementation of special portability option in respect of our salaried defined benefit pension plan.

 

·Corporate Social Responsibility. Significantly improve our overall safety performance and , continue to seek competitive business conditions in British Columbia, including in respect of electricity and taxation rates, and work with municipalities to achieve joint cost-saving service and infrastructure agreements.

 

·Commercial. Continue to expand geographic reach of the Corporation into emerging world markets of Latin America and Asia, gain market share and expand sales reach into new markets with new products and increase breadth of product range and solidify position as the most flexible and diverse producer and marketer of paper in the west.

 

·Environmental. Work with community stakeholders to identify and implement sustainable watershed management solutions, adhere to high international stands for transparency and reporting of performance on social, governance and environmental factors and take steps to achieve increased access to Forest Stewardship Council certified fibre supply.

 

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C.Organizational Structure

 

We own all of the issued and outstanding shares of the following principal subsidiaries as of December 31, 2012:

 

Subsidiaries Jurisdiction
Elk Falls Pulp and Paper Limited British Columbia
Catalyst Pulp Operations Limited British Columbia
Catalyst Pulp Sales Inc. British Columbia
Catalyst Pulp and Paper Sales Inc. British Columbia
Catalyst Paper Energy Holdings Ltd. Canada
Catalyst Paper (USA) Inc. California
Catalyst Paper Holdings Inc. Delaware
Catalyst Paper (Snowflake) Inc. Delaware
Catalyst Paper Recycling Inc. Delaware
Pacifica Papers Sales Inc. Delaware
Pacifica Poplars Ltd. British Columbia
Pacifica Poplars Inc. Delaware
Pacifica Papers U.S. Inc. Delaware
The Apache Railway Company (1) Arizona

 

(1)The Apache Railway Company ceased to be a subsidiary of the company on January 30, 2013 on completion of the sale of the Snowflake assets.

 

We are a partner of the British Columbia general partnership Catalyst Paper. We hold a 71.3% interest in the partnership and our subsidiary, Catalyst Pulp Operations Limited, holds the remainder. We also own 50.001% of Powell River Energy Inc., a Canadian corporation, which owns hydroelectric assets that provide power to our Powell River mill. We have agreed to sell our interest in Powell River Energy Inc. See “Information on the Corporation, . History and Development of the Corporation – Asset Sales”.

 

D.Property, Plant and Equipment

 

Paper

 

Paper Operations

 

Our specialty printing paper and newsprint can be manufactured on 8 paper machines at four mill locations. Our paper machines consist of the following:

 

Crofton   Product
Paper Machine No. 1 (“C1”)   Specialty/Newsprint
Paper Machine No. 2 (“C2”)   Specialty
Paper Machine No. 3 (“C3”)   Specialty/Newsprint
     
Port Alberni   Product
Paper Machine No. 4 (“A4”)   Specialty
Paper Machine No. 5 (“A5”)   Specialty
     
Powell River   Product
Paper Machine No. 9 (“P9”)   Specialty
Paper Machine No. 10 (“P10”)   Specialty
Paper Machine No. 11 (“P11”)   Specialty/Newsprint
     
Two paper machines at Snowflake were shut down permanently on September 30, 2012.

  

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Our 2013 capacity to produce specialty printing papers and newsprint, in thousands of tonnes, as compared to our production for each of the last two years is as follows:

 

       Net Production 
       Year ended December 31 
Mill  Annual Capacity
2013 (tonnes)
   2012   2011 
Crofton(1)   327,000    317,500    311,000 
Port Alberni   340,000    324,000    311,000 
Powell River   469,000    436,500    431,000 
Snowflake(2)   0    231,000    288,000 
    1,136,000    1,309,000    1,341,000 

 

(1)We have indefinitely curtailed our No.1 paper machine at Crofton, displacing the equivalent of 140,000 tonnes of annual newsprint production from Crofton. The capacity noted above does not include the capacity of that paper machine.

 

(2)The Snowflake mill permanently closed on September 30, 2012.

 

Crofton

 

Crofton's capacity is 327,000 tonnes of newsprint and directory paper. C1 at Crofton was curtailed from February 1, 2009 to May 25, 2009 and indefinitely curtailed since January 21, 2010.

 

The Crofton paper mill’s three paper machines commenced operation in 1964, 1968 and 1982. C1 and C3 are capable of producing either newsprint or directory paper as market conditions warrant and C2 is dedicated to producing lightweight directory paper. All machines were installed with, or have been converted to, twin-wire sheet formation, which provides a more uniform quality of sheet for both printing surfaces. C2 produces directory paper at the lowest industry basis weight. Crofton also makes directory paper on C3 and has the capability to make it on C1. Pulp furnish for the paper mill is supplied by a three-line TMP mill.

 

Port Alberni

 

Port Alberni's annual capacity is 340,000 tonnes of directory paper and lightweight coated paper.

 

The Port Alberni paper mill has two paper machines, one was put into operation in 1957 and the other in 1968. A5 was upgraded in 1995 to produce lightweight coated paper and is the only lightweight coated paper machine in western North America. Its on-line technology allows for the coating of paper on both sides simultaneously, reduces the amount of kraft pulp required to produce conventional lightweight coated paper and produces the desired product quality in terms of runability, printability and bulk.

 

Pulp furnish for the paper mill is supplied primarily from the mill's TMP plant. An $8,000,000 upgrade to the mill’s TMP plant was completed in May, 2009 which increased the TMP facility’s capacity and displaced higher cost pulp. Equipment at the Port Alberni mill allows us to use crumb kraft pulp from the Crofton mill in our lightweight coated paper.

 

Powell River

 

Powell River's annual capacity is 469,000 tonnes of uncoated specialty papers. The Powell River mill has three paper machines, which were put into operation in 1957, 1967 and 1981. These machines produce machine finished super-brights and hi-brights, soft calendered hi-bright papers and newsprint. In 2004, we upgraded P10 and the peroxide bleach plant to support the production of higher value specialty printing papers, including Electracal™ and Electraprime™ grades. We have dedicated P9 to produce Electrastar™ and Electrabrite™ grades, our super-bright and hi-bright grades, respectively. We continue our effort to push towards the development of high-brightness products at our Powell River mill, and in 2005 we completed a further upgrade of the peroxide bleach plant to expand the mill’s production capacity for higher brightness uncoated specialty printing grades.

 

Pulp furnish for the paper mill comes primarily from a TMP plant. The Powell River mill also has the capability to use recycled de-inked pulp on a limited scale.

 

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We own, through our wholly owned subsidiary Catalyst Paper Energy Holdings Inc., 50.001% of Powell River Energy Inc. (“PREI”), which owns two hydroelectric dams near the Powell River mill with a combined generating capacity of 83 megawatts. Pursuant to a power purchase agreement between us and PREI, PREI provided the power generated by its facilities to us at a fixed rate approximating current British Columbia Hydro and Power Authority (“BC Hydro”) rates until January 31, 2011. PREI’s hydroelectric facilities supply approximately 40% of the annual power needs of the Powell River mill, although this amount varies depending on hydrological conditions. We have entered into a replacement power purchase agreement with PREI commencing on February 1, 2011 on substantially the same terms as the previous agreement for a five year term (with renewal options totaling an additional five years.) under which PREI will provide the power generated by its facilities to us at a rate essentially equivalent to the BC Hydro rate from time to time.

 

Pursuant to the terms of the Plan, the company is required to use its commercially reasonable efforts to market and sell its interest in Powell River Energy and to distribute up to 50% of the net proceeds received on account of the sale, depending on the number of equity elections received, to certain of the Corporation’s unsecured creditors, all as more particularly described in the Plan. See “Proceedings Under the Companies’ Creditors Arrangement Act”. We entered into an agreement on February 13, 2013 to sell our interest in Powell River Energy. We have agreed to sell our interest in Powell River Energy Inc. See “Information on the Corporation, . History and Development of the Corporation – Asset Sales”.

 

Snowflake

 

The assets of the Snowflake mill consisted of two paper machines and associated assets, including The Apache Railway Company (“Apache”). Apache is a short-line railway operating freight service from Snowflake, Arizona to Holbrook, Arizona. Snowflake used Apache to transport coal for one of its boilers and to transport a portion of its finished goods.

 

In 2011, we impaired the assets of the Snowflake mill by $161.8 million (US$155.9 million). In the third quarter, the net book value of building, machinery and equipment of US$135.6 million and maintenance supplies and spare parts inventory of US$9.7 million were written off. In the fourth quarter, land was impaired by US$10.6 million. These impairment charges included the assets of Apache.

 

The company permanently closed the Snowflake mill on September 30, 2012. The decision to close the Snowflake mill was driven by continued financial losses resulting from intense supply input and market pressures. In August 2012, the Corporation obtained both Canadian and U.S. Court approval of a sale process for the Snowflake mill and associated assets. The Snowflake mill and associated assets, including the company’s shares in Apache, were sold to a third party for US$13,460,000 in a sale that completed on January 30, 2013.

 

The Snowflake mill closure resulted in closure costs of approximately US$18.6 million, including a withdrawal liability of approximately US 11.7 million in connection with the PACE Industry Union-Management Pension Fund, a multi-employer pension plan which we contributed to for hourly employees at the Snowflake mill. The company is in the process of verifying this estimated liability. It is typical for withdrawal liabilities of this nature to be paid over 20 years although confirmation of the payment schedule has not been received at this point. Closure costs were mitigated from the sale of the Snowflake assets and realization of working capital. The sale is expected to result in the elimination of future operating losses associated with the Snowflake mill and savings of annualized selling, general and administrative expenses.

 

Elk Falls

 

All three paper machines at Elk Falls were permanently closed in September, 2010 resulting in the removal of 526,000 tonnes of annual newsprint and uncoated mechanical paper capacity.

 

Pulp

 

Pulp Operations

 

We manufacture market pulp on two lines of pulp production at our Crofton mill. Our annual pulp production capacity for 2013 is 393,000 tonnes. Our annual market pulp capacity is 350,000 tonnes (which excludes pulp consumed internally) as compared to market pulp production for the years ending December 31, 2012 and December 31, 2011 of 317,900 tonnes and 316,000 tonnes, respectively.

 

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The first pulp line at Crofton began operating in 1957 and the second in 1965. This mill is equipped with one continuous digester and eight batch digesters, which provide the flexibility to cook different species of chips independently. Crofton's batch digesters utilize a rapid displacement heating cooking system. This system allows for quick turnaround in the batch cooking process, because it rapidly extracts and replaces the cooking liquor in the cooking vessel for each batch without a significant loss in temperature. This technology improves the overall quality of Crofton pulps and provides a stronger and more uniform pulp than conventional batch cooking.

 

The Crofton kraft pulp mill produces Northern bleached softwood kraft, or NBSK pulp grades. One grade is a low coarseness fine fibre pulp is marketed as CKBC. This pulp is consumed internally at our Port Alberni and Powell River operations and sold to market customers. CKBC is a high tensile strength grade which is ideally suited for the manufacture of lightweight papers and tissue. The other pulp grade produced is made from spruce, pine and fir (SPF), coastal hemlock and Douglas fir species and marketed as CKHFi. This grade has high intrinsic strength and bulk, and is used in a variety of printing and writing papers and a range of specialty papers.

 

Paper Recycling Division

 

Our paper recycling operation was indefinitely curtailed in February, 2010 and permanently closed in September, 2010. Prior to curtailment of its operations, this operation recycled old newspapers, magazines and other waste paper into pulp suitable for the manufacture of newsprint, telephone directory paper and similar grades of paper. Its production capacity was 175,000 air-dried metric tonnes (“ADMT”) of pulp per year. Production in the 2010 fiscal year prior to curtailment of operations was 4,000 ADMT and average annual production in the preceding last three fiscal years was approximately 132,000 ADMT per year.

 

Properties

 

Our head office is located in leased premises in Richmond, British Columbia. The lease covers an aggregate of 39,275 square feet and expires March 31, 2018.

 

We leased the land and buildings where our paper recycling facility was located. We disclaimed this lease effective March 23, 2012 as part of our proceedings under the CCAA.

 

We also sub-lease the land and buildings for our distribution warehouse and facility in Surrey, British Columbia, which expires in June 2014, subject to further options to renew. We lease the premises for our Nanaimo office pursuant to a lease which expires February 28, 2013. We lease the premises for our sales office in Seattle, Washington pursuant to a lease which expires in November, 2016.

 

Each of our Crofton, Powell River and Port Alberni manufacturing facilities and the closed Elk Falls mill are situated on land we own. The Crofton mill is located on a 107 hectare site, , the Powell River mill is located on a 94 hectare site, the Port Alberni mill is located on a 44 hectare site and the Elk Falls mill is located near the town of Campbell River, British Columbia on a 78 hectare site. The Snowflake mill site lands were sold as part of the sale of the Snowflake assets and shares of The Apache Railway Company in January, 2013.

 

Our Crofton, Powell River and Port Alberni properties are subject to a first lien in favour of the holders of Exit Notes, a second lien in favour of the holders of 2017 Notes and a third lien in favour of the lenders under our ABL Facility.

 

Environment

 

Our operations are subject to a wide range of general and industry specific environmental laws and regulations including those related to waste management, air emissions, water discharges and remediation of environmental contamination. There has been significant upgrading of our facilities during the decade to comply with solid and hazardous wastes, effluent and air regulations. Environmental performance is monitored regularly by us, third party consultants and government regulatory bodies. We believe that our facilities are operating in substantial compliance with applicable environmental laws and regulations.

 

In addition to regular monitoring of emission points and reporting to regulatory authorities, we manage our environmental performance through an environmental management system. This system is registered to the ISO 14001:2004 standard at all four of our operating facilities. The environmental management system utilizes annual internal surveillance audits and bi-annual external compliance audits of our manufacturing facilities. Action plans are developed to address any deficiencies and updates are regularly communicated to management and a committee of the board of directors. Compliance audits at the active B.C. operations and the Snowflake operation were completed during 2010. No new material issues were uncovered during those audits.

 

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Numerous federal, state and provincial environmental initiatives are underway which could translate into more vigorous regulatory standards and permits in the next decade, especially with respect to air emissions. Substances that have been targeted include particulates, sulphur dioxide and greenhouse gases. A number of those initiatives are described below.

 

Solid Waste

 

An ongoing environmental issue faced by our operations is the disposal of solid waste. Most non-recyclable waste is disposed of at on-site landfills. Based on current practice we have at least five years’ capacity in the landfills at Port Alberni and Crofton and approximately one year at Powell River (which will increase to 20-30 years after completion of the planned expansion in 2013). We continue to work to reduce volumes sent to landfill by increasing recycling efforts and investigating alternative uses for all waste.

 

Effluent

 

In 2003 we began an initiative to reduce water use at all facilities. These reductions resulted in lower waste water volumes being discharged and greater opportunities to improve the performance of the systems and reduce energy costs. We delivered total reductions in water use of 22% between 2003 and 2008 on an absolute basis (17% on an intensity basis). Since 2008 our absolute water use decreased by approximately 21% due to closure of the Elk Falls and Paper Recycling Divisions. Water use intensity increased by 12% for the same period due to increased production rates particularly kraft pulp production, which is a higher intensity process.

 

Air Emissions

 

Over the past twenty years, substantial capital has been spent at all facilities upgrading air emissions controls and infrastructure. This includes odour collection and treatment systems and new precipitators at Crofton, a fluidized bed boiler conversion at Port Alberni, a fluidized bed boiler at Powell River and scrubber/precipitator upgrades at Snowflake. Our facilities are well positioned to be compliant with future air emissions standards, which will likely focus on fine particulates, sulphur oxides and other criteria air contaminants.

 

The federal government of Canada has indicated its intent to regulate priority air pollutants under the Clean Air Act. The priority air pollutants include particulate matter and sulphur oxides (“SOx”). Under proposed targets Crofton will have to reduce SOx emission reductions at an estimated cost of $4-8 million. The new air quality standards are still being determined with compliance required within three to five years.

 

Climate Change

 

We have long recognized the importance of greenhouse gases (“GHG”) reductions, from the perspective of both stakeholder expectations and expanding regulatory requirements. Our overall carbon footprint increased in 2008 with the acquisition of the Snowflake recycled newsprint mill (which is located in a heavily fossil fuel dependent jurisdiction and whose primary energy source was coal) . At our Canadian operations, however, direct GHG emissions were at 21% of 1990 levels on an absolute basis.

 

We were recognized through the Carbon Disclosure Project for the quality and financial relevance of our climate change disclosure in 2008, 2009 and 2010, and we introduced our carbon neutral Sage line of products in 2010 and continue to offer Catalyst Cooled™ manufactured carbon neutral products. By virtue of early response and rigorous carbon accounting, we believe we are well positioned relative to developments like the implementation of a carbon tax and potential carbon related monetization opportunities. The B.C. government imposed a broad based carbon tax on fossil fuels commencing July 1, 2008. On July 1, 2012, the tax rate increased from $25/tonne to $30/tonne.

 

The federal government of Canada has indicated its intent to regulate GHG and sulphur oxides (SOx) on a sector by sector basis in order to achieve their targeted 17% reduction by 2020 from 2005 levels. The pulp and paper sector is one of the sectors scheduled for development of regulations beginning in 2013.

 

British Columbia is a signatory to the Western Climate Initiative (“WCI”), a collaboration of four provinces and currently one U.S. state, whose mandate is to obtain a 15% reduction in GHG below 2005 levels among member entities by 2020. In addition, the B.C. government has announced a goal of reducing the provincial release of GHG by 33% by 2020 based on 2007 levels with interim reduction targets of 6% by 2012 and 18% by 2016. In connection with the WCI, Quebec and California governments have initiated their regulatory processes in connection with implementation of a cap and trade system

 

B.C. has not issued regulations for its cap and trade program for GHGs and at this time is reviewing its climate change and energy policies. It is too early to determine its impact on the Corporation without knowing the details of any such cap and trade scheme.

 

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In 2012, we spent approximately $0.5 million on environmental capital projects. We estimate that capital expenditures relating to known environmental matters, including compliance issues and the assessment and remediation of the environmental condition of our properties, will total approximately $1.0 million in 2013.

 

Contaminated Sites

 

British Columbia contaminated sites legislation specifies the circumstances in which a “site profile” must be prepared in respect of any property that has been used for certain industrial or commercial purposes. If a site is determined to be contaminated, remediation will normally be required under government supervision. As current and past owners of mill sites, all forest products companies in British Columbia may face remediation costs particularly as a result of historical operations and disposal practices. Compliance with this legislation has not resulted in any material cost to us but there can be no guarantee that such costs will not be incurred in the future as a consequence, for example, of the discovery of unknown conditions or changes in enforcement policies. We are not aware that any of our sites or land parcels are considered by the Province to be contaminated under the Province’s contaminated sites legislation other than the closed Elk Falls millsite.

 

Similarly, with respect to the closed Snowflake millsite in Arizona, we are not aware of any soil or groundwater contamination at the site that is required to be remediated under current State or Federal law. In Arizona, sites that have become contaminated due to a current or historical release of a regulated substance are subject to evaluation for possible reporting and remediation under a variety of State and Federal regulatory programs. As with all current and past owners of industrial facilities, future remediation costs may be incurred due to the discovery of presently unknown environmental conditions or to changes in environmental laws or enforcement policies.

 

Social Responsibility

 

Fibre Certification Chain of Custody

 

We have implemented the Programme for the Endorsement of Forest Certification (PEFC) chain of custody system to verify that select paper products made at our Crofton, Port Alberni and Powell River mills contain 100% certified wood fibre. A Forest Stewardship Council (FSC) chain of custody system was implemented in Snowflake in April 2009 and implemented at all three of our British Columbia mills in 2011. In December 2009 FSC awarded a five year group certificate to the Coast Forest Conservation Initiative (of which Catalyst is a member). This enables an additional FSC certified fibre source in British Columbia for use in our fibre stream. We annually disclose our fibre pedigree to the Forest Footprint Disclosure Project, enhancing transparency and public access to accurate data.

 

Aboriginal Relations and Business Development

 

We continue to maintain cordial relationships with numerous First Nations bands in proximity of our mills, and to develop aboriginal business initiatives at a pace and scope suitable to the capacity of each band. The most extensive initiative is a limited partnership with the Tla’amin (“Sliammon”) Nation and the City of Powell River which was formed in 2006. We have entered into an agreement in principle with the Sliammon and the City of Powell River to transfer our interest in this limited partnership to them. In Port Alberni, we continue to discuss opportunities with Hupacasath Nation, one of 14 nations that make up the Nuu chah nulth Tribal Council.

 

Carbon Emission Reduction Reporting

 

We continue to participate in the Carbon Disclosure Project, a study backed by institutional investors worldwide. We consider this an important global reporting initiative that reinforces the need for risk-return analysis by companies and their investors of the potential impact of environmental factors such as climate change on business and industry operations.

 

This complements our voluntary initiative with World Wildlife Fund Inc. (WWF) and the Center for Energy and Climate Solutions, a division of Global Environment & Technology Foundation (GETF) to reduce CO2 emissions at our British Columbia based facilities to 70% below our 1990 emissions by the year 2010 primarily through energy conservation measures. Our 2012 absolute greenhouse gas emissions were 21% of 1990 levels.

 

Clean Production Initiative

 

As consumer and regulatory focus on toxic substances of concern continues to grow, we have relied on our work with WWF Canada to transition to direct measurement of priority emissions. Under this clean production initiative, testing of actual emissions has frequently been found to be less than previous estimates based on data derived from emission factors. Preliminary work has also extended to procurement of chemicals and reductions of substances of concern. The annual review of mill-specific top twenty substances of concern, using a methodology adapted by WWF, continued to drive expanded testing and inform the prioritization of our reduction efforts.

 

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ITEM 4A.UNRESOLVED STAFF COMMENTS

 

None.

 

ITEM 5.OPERATING AND FINANCIAL REVIEW AND PROSPECTS

 

A.Operating Results

 

The following operating and financial review and prospects provides information that we believe is useful in understanding our operating results, cash flows and financial condition for the three years ended December 31, 2012.

 

Business overview

 

Operating earnings for the year were negatively impacted by a significant decline in pulp prices in China due to excess inventory and weak market conditions, as well as a decrease in average transaction prices for paper. This was partially offset by lower maintenance, labour, fibre, property taxes and selling, general and administrative (SG&A) cost.

 

Our net earnings reflect significant reorganization credits resulting from the forgiveness of pre-petition debt and accounts payable on emergence from creditor protection and fair value adjustments to our assets and liabilities in accordance with the requirements of fresh start accounting. This was partly offset by reorganization costs consisting of legal and consulting fees incurred under the creditor protection proceedings and one-time closure costs related to the Snowflake mill.

 

In accordance with U.S. GAAP, an enterprise value was established for the company as of September 30, 2012 (the end of the quarter following our emergence from protection under the CCAA) under fresh start accounting. This enterprise value was determined with the assistance of an independent financial advisor. For a discussion of the valuation methods used to determine enterprise value and additional information on fresh start accounting, see note 6, Creditor protection proceedings related disclosures in our annual consolidated financial statements for the year ended December 31, 2012.

 

Financial performance

 

We recorded a net gain attributable to the company of $583.2 million and a net loss attributable to the company before specific items of $37.8 million in 2012. This compared to losses of $974.0 million and $126.3 million, respectively, in 2011.

 

Significant specific items in 2012 included reorganization credits related to the forgiveness of pre-petition debt and accounts payable and fair value adjustments from the implementation of fresh start accounting, reorganization expenses related to legal and consulting fees, restructuring fees incurred prior to entering creditor protection, closure costs related to the discontinued Snowflake mill, and a foreign exchange gain on the translation of U.S. dollar denominated debt.

 

Significant specific items in the prior year included an impairment charge on the pulp and paper assets of our Canadian operations, an impairment charge on certain assets of the Snowflake mill, losses sustained due to fires at the Snowflake and Powell River mills, restructuring costs incurred on capital structure negotiations and a foreign exchange loss on the translation of U.S. dollar denominated debt.

 

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Selected annual financial information

(In millions of dollars, except where otherwise stated)  2012 ³   2011   2010 
Sales 2  $1,058.2   $1,079.7   $1,051.4 
Operating earnings (loss) 2   19.1    (704.5)   (351.6)
Depreciation and amortization 2   36.3    105.5    109.7 
Adjusted EBITDA 1 2   55.4    62.8    52.6 
– before restructuring costs 1 2   60.7    68.7    77.9 
Net earnings (loss) attributable to the company   583.2    (974.0)   (396.9)
– before specific items 1   (37.8)   (126.3)   (87.0)
Total assets   978.8    737.6    1,696.2 
Total long-term liabilities   720.6    713.6    1,094.2 
Adjusted EBITDA margin 1 2   5.2%   5.8%   5.0%
– before restructuring costs 1 2   5.7%   6.4%   7.4%
Net earnings (loss) per share attributable to the company’s common shareholders (in dollars)               
– basic and diluted from continuing operations  $41.654  $(2.04)  $(0.99)
– basic and diluted from discontinued operations   (1.15)4   (0.51)   (0.05)
– before specific items   (2.62)4   (0.33)   (0.23)
                
(In thousands of tonnes)               
Sales 2   1,401.4    1,351.2    1,343.2 
Production  2   1,388.6    1,365.1    1,333.8 
Common shares (millions)               
At period-end   14.54   381.9    381.8 
Weighted average   14.44   381.9    381.8 

1

 

Refer to Non-GAAP measures.
2Numbers exclude the Snowflake mill’s results from operations which have been reclassified as discontinued operations; losses from discontinued operations, net of tax, are shown separately from continuing operations in the consolidated statements of earnings (loss) in our annual consolidated financial statements for the year ended December 31, 2012.

 

3We completed our restructuring under the CCAA proceedings on September 13, 2012, and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Selected financial information for 2012 therefore includes results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption. Reported sales and adjusted EBITDA were relatively unaffected, as the company’s physical operations were not impacted by the financial recapitalization.

 

4All earnings per share data and weighted average common shares for 2012 are based on the new common shares issued to the company’s secured and unsecured creditors under the Plan. Earnings per share data in this MD&A is based on weighted average common shares calculated as if the 14.4 million common shares issued to the company’s secured creditors on September 13, 2012 were issued on January 1, 2012, and the former 381.9 million common shares cancelled on September 12, 2012 were cancelled on January 1, 2012. The 0.1 million common shares issued to the company’s unsecured creditors in December were included in weighted average common shares based on the number of days the shares were issued and outstanding divided by the number of days in the year.

 

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Market Overview

 

 

North American demand for paper decreased in 2012 compared to the prior year. Inventory levels for paper decreased due to recent mill curtailments and closures that more than offset the lower demand. North American demand for uncoated mechanical and directory paper declined significantly in the year while newsprint and lightweight coated (LWC) demand declined slightly. Benchmark prices increased for directory, remained flat for uncoated mechanical, and decreased for LWC and newsprint.

 

The global market for NBSK pulp increased due to increased demand in China. NBSK pulp benchmark prices declined significantly for most of the year due to excess inventory and weak market conditions in China due to an oversupply of pulp. Pulp prices improved moderately in the fourth quarter.

 

Completion of CCAA Process

 

On September 13, 2012 we completed our restructuring under the CCAA and emerged from creditor protection with significantly reduced debt and a more competitive cost structure. See Creditor Protection and Restructuring Process.

 

Impairment of Snowflake Assets and Canadian Operations

 

We impaired the assets of our Snowflake mill by $161.8 million (US$155.9 million) in Q3 2011. At that time, the net book value of building, machinery and equipment of US$135.6 million and maintenance supplies and spare parts inventory of US$9.7 million were written off. In Q4 2011, land was impaired by US$10.6 million. These impairment charges included the assets of The Apache Railway Company, a subsidiary of Catalyst Paper (Snowflake) Inc. (“Snowflake”). The Q3 2011 impairment was triggered by consistently poor operating results and cash flow losses at our Snowflake mill that management projected would continue in the future. These losses were mostly attributable to deteriorating newsprint pricing and demand as well as tight market conditions for ONP resulting in higher input costs. Up to the date of closing the Snowflake mill we owned and used the impaired assets in our operations. The Q4 2011 impairment of land was based on an appraisal obtained from an independent third party real estate appraiser, dated January 3, 2012, that valued the Snowflake land at US$6.6 million.

 

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The Corporation permanently closed its Snowflake mill on September 30, 2012. The decision to close the Snowflake mill was driven by continued financial losses resulting from intense supply input and market pressures. Snowflake has generated negative EBITDA since 2009. In August 2012, the Corporation obtained both Canadian and U.S. Court approval of a sale process for the Snowflake mill and associated assets. The Snowflake mill and associated assets, including the Corporation’s shares in The Apache Railway Company, were sold to a third party for US $13,460,000 in a sale that completed on January 30, 2013.

 

The Snowflake mill closure resulted in closure costs of approximately US $8.6 million including a withdrawal liability of approximately US$11.7 million in connection with the PACE Industry Union-Management Pension Fund, a multi-employer pension plan which we contributed to for hourly employees at the Snowflake mill. The company is in the process of verifying this estimated liability. It is typical for withdrawal liabilities of this nature to be paid over 20 years although confirmation of the payment schedule has not been received at this point. Closing costs were mitigated from the sale of the Snowflake assets and realization of working capital. The sale is expected to result in the elimination of future operating losses associated with the Snowflake mill and savings of annualized selling, general and administrative expenses.

 

The Snowflake mill was treated as a discontinued operation in our annual consolidated financial statements for year ended December 31, 2012 and comparative periods were restated accordingly. Where so indicated, Snowflake’s results were removed from sales and production volumes, operating earnings, and non-GAAP measures, both for the current period and for all comparative periods presented.

 

We recorded an impairment charge of $660.2 million in Q4 2011 on the buildings, plant and equipment of our Canadian operations after a comprehensive impairment analysis of the Corporation’s Canadian operations triggered by (i) continuing declines in demand for newsprint and directory, economic slowdown in the United States and globally, and the strengthening of the Canadian dollar for most of 2011; (ii) a reduction in pulp prices in the fourth quarter of 2011; and (iii) the release in February 2012 by a leading information provider for the global pulp and paper industry of their latest 5-year forecast for pulp and paper prices and future exchange rates reflecting significantly lower future price estimates for pulp and paper than what had been previously forecasted. The impairment reduced the carrying value of our pulp assets by $83.5 million and our paper assets by $576.7 million. We continue to own and use the impaired assets in our Canadian operations. After giving effect to these impairment charges, the Corporation’s liabilities exceeded the book value of its assets by $617.3 million as at December 31, 2011.

 

Fresh Start Accounting

 

In accordance with U.S. GAAP, an enterprise value was established for the company as of September 30, 2012 (the end of the quarter following our emergence from protection under the CCAA) under fresh start accounting. This enterprise value was determined with the assistance of an independent financial advisor. For a discussion of the valuation methods used to determine enterprise value and additional information on fresh start accounting, see note 6, Creditor protection proceedings related disclosures in our annual consolidated financial statements for the year ended December 31, 2012.

 

New Labour Agreements

 

Our collective agreements with the CEP locals at our Crofton and Powell River and the PPWC local at our Crofton mills were to expire April 30, 2012 and our collective agreements with the CEP locals at Port Alberni were to expire April 30, 2013. On March 19, 2012, new labour agreements were ratified by the CEP and PPWC effective May 1, 2012 and will expire on April 30, 2017. The new labour agreements include a 10% reduction in hourly rates along with various adjustments to vacation, health benefits and work rules necessary to provide Catalyst with a more competitive labour cost structure. We also completed a new collective agreement at our Surrey Distribution Centre with the Christian Labour Association of Canada (“CLAC”) in early March 2012 which expires in 2015 and maintains existing rates and benefits.

 

British Columbia Harmonized Sales Tax Extinguished

 

On April 1, 2013, the Province will revert back to provincial sales tax regime. We estimate that the additional annualized cost to our business from that date onward will be approximately $12 million, based on actual 2012 expenditures.

 

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Maintenance Outages and Fires

 

Our results in 2011 were negatively impacted by fires and extended maintenance outages in the second quarter. At the Snowflake mill, a recovered paper storage yard fire, a market curtailment, and a five-day extension to a planned annual mill maintenance outage resulted in production downtime of 15 days or 8,400 tonnes of lost production. The fire at Snowflake destroyed approximately 11,000 tonnes of recovered ONP and resulted in losses of $4.4 million. At the Powell River mill, a five-day planned mill maintenance outage was extended to 10 days to address unexpected findings in the mill’s steam supply system, resulting in 14,000 tonnes of lost production. Also in the quarter at Powell River, an electrical cable equipment fire idled the mill’s No. 9 paper machine for five days and the No. 10 paper machine for 14 days and resulted in losses of $2.4 million and 8,700 tonnes of lost production.

 

The losses incurred on the fires were not covered by insurance as the losses were below our policy deductible of $2 million per occurrence and our annual aggregate of $6 million with a per occurrence contribution not to exceed $3 million.

 

Property Tax Dispute

 

We paid $22.2 million of property taxes in 2011. This payment included $18.1 million municipal and provincial property taxes levied by our B.C. municipalities for 2011 as well as $4.1 million to North Cowichan for 2010 property taxes and interest.  Pursuant to statutory requirements, the payment to North Cowichan was applied firstly to pay outstanding 2010 property taxes, penalties and interest in full and secondly to 2011 property taxes.  As a result there are unpaid property taxes owing to North Cowichan for 2011, together with the 10% penalty for late payment, of $0.4 million at December 31, 2011. Our property tax expense and liability has been recorded based on the full amount of property taxes levied for 2011.

 

Our appeal to the Supreme Court of Canada regarding North Cowichan’s 2009 property taxes was dismissed on January 20, 2012. Shortly after that ruling we discontinued our proceedings disputing the 2010 and 2011 property taxes assessed by North Cowichan and as at February 29, 2012 have paid all of our unpaid property taxes and penalties owing to North Cowichan for 2011. We also discontinued our appeal in respect of the Strathcona Regional District portion of the property taxes levied by the City of Campbell River for 2010. We continue to press for a fair and sustainable level of municipal property taxes for major industry in the B.C. communities in which we operate.

 

Financing arrangements

 

On September 13, 2012 we entered into a new $175.0 million ABL Facility, which was a pre-condition for the company to implement the Plan and exit from protection under the CCAA. The ABL Facility provided financing for general corporate purposes, and for the repayment on exit of the DIP Facility that was in place throughout the CCAA proceedings.

 

The company also completed a US$35 million secured exit financing facility (Exit Facility) on September 13, 2012 and issued US$35 million of notes (Exit Notes) under the Exit Facility on its exit from protection under the CCAA. The Exit Facility provided the company with backstop financing to pay costs and expenses and manage other contingencies on exit from protection under CCAA.

 

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Canadian dollar

 

The chart below illustrates the movement of the US$/CDN$ average spot rate over the past three years:

 

 

US$/CDN$ Exchange
   2010   2011   2012 
   Q1   Q2   Q3   Q4   Q1   Q2   Q3   Q4   Q1   Q2   Q3   Q4 
Average spot rate   0.961    0.973    0.962    0.987    1.015    1.033    1.020    0.977    0.999    0.990    1.005    1.009 
Average effective rate   0.938    0.949    0.948    0.982    1.011    1.032    1.020    0.977    0.999    0.990    1.005    1.009 
Period-end spot rate   0.985    0.943    0.971    1.005    1.029    1.037    0.963    0.983    1.001    0.981    1.017    1.005 

 

The majority of our sales are denominated in U.S. dollars. The Canadian dollar traded mostly below par for the first half of 2012 before strengthening to above par against the U.S. dollar for the remainder of the year. There was no difference between our average effective exchange rate and the average spot rate in 2012. The US$/CDN$ exchange rate movement in 2012 compared to 2011 resulted in a positive variance of $7.8 million on revenue and a positive variance of $5.7 million on adjusted EBITDA. Year-end spot rate movement resulted in an after-tax foreign exchange gain of $20.8 million on the translation of U.S. dollar denominated debt in 2012, compared to an after-tax foreign exchange loss of $11.8 million in 2011. We have a program in place to hedge a portion of our anticipated U.S. dollar sales, although, effective April 1, 2010, we no longer designate the positions as hedges for accounting purposes. At December 31, 2012 we did not have any foreign currency options or forward contracts outstanding. Refer to our annual consolidated financial statements for the year ended December 31, 2012 note 30, Financial instruments, for additional details.

 

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CONSOLIDATED RESULTS - ANNUAL

 

Consolidated results of operations

 

Year ended December 31, 2012 compared to year ended December 31, 2011

 

Sales

 

Sales decreased by $21.5 million in 2012 as the unfavourable impact of lower transaction prices for pulp and paper and reduced sales volumes for specialty paper were partially offset by increased sales volumes for pulp and newsprint and the favourable impact of the weaker Canadian dollar

 

Adjusted EBITDA and Adjusted EBITDA before restructuring costs

 

The following table provides variances between periods for adjusted EBITDA and adjusted EBITDA before restructuring costs:

 

(In millions of dollars) 

Adjusted

EBITDA 1 2

  

Adjusted EBITDA

before restructuring

costs1 2

 
2011  $62.8   $68.7 
Paper prices   (3.4)   (3.4)
Pulp prices   (58.9)   (58.9)
Impact of Canadian dollar   4.8    4.8 
Volume and mix    (1.2)   (1.2)
Furnish mix and costs   22.7    22.7 
Power and fuel costs   (5.2)   (5.2)
Labour costs   14.3    14.3 
Maintenance costs   8.9    8.9 
Lower of cost or market impact on inventory, net of inventory change   10.1    10.1 
Selling, general and administrative costs   6.4    6.4 
Restructuring costs   0.6    - 
Other, net   (6.5)   (6.5)
2012  $55.4   $60.7 
1Refer to section 13, Non-GAAP measures, for further details.

2Numbers exclude the Snowflake mill’s results which have been reclassified as discontinued operations in the consolidated statements of earnings (loss) in the annual consolidated financial statements for the year ended December 31, 2012.

 

Operating earnings (loss)

Operating earnings increased by $723.6 million due to impairment and other closure costs incurred in 2011 of $661.8 million and lower depreciation of $69.2 million, partially offset by a reduction in adjusted EBITDA of $7.4 million. Impairment and other closure costs in the prior year consisted mostly of an impairment charge on the pulp and paper assets of our Canadian operations in Q4 2011.

 

Net earnings (loss) attributable to the company

Net loss attributable to the company increased by 1,557.2 million. This was primarily due to higher after-tax operating earnings of $723.0 million, a net reorganization credit after tax of $663.7 million, a decrease in after-tax loss from discontinued operations of $179.0 million and an after-tax foreign exchange gain on the translation of our U.S. dollar denominated debt of $20.8 million compared to an after-tax loss of $11.8 million in the previous year, partially offset by an after-tax increase in net earnings attributable to non-controlling interest of $33.0 million.

 

- 38 -
 

 

The following table reconciles 2012 net earnings (loss) attributable to the company to 2011:

 

(In millions of dollars)  Pre-tax   After-tax 
2011 net earnings (loss) attributable to the company  $(981.4)  $(974.0)
Lower adjusted EBITDA before restructuring costs   (8.0)   (8.6)
Lower restructuring costs   0.6    0.6 
Lower depreciation and amortization expense   69.2    69.2 
Lower impairment charge in 2012   661.8    661.8 
Change in foreign exchange gain (loss) on long-term debt   30.5    32.6 
Powell River fire   2.4    3.0 
Net gain related to reorganization in 2012   663.7    663.7 
Higher other expense, net   (2.8)   (3.1)
Change in interest expense   1.3    (7.0)
Change in discontinued operations earnings (loss)   178.0    179.0 
Change in net earnings (loss) attributable to non-controlling interest   (33.0)   (33.0)
2012 net earnings (loss) attributable to the company  $582.3   $583.2 

SEGMENTED RESULTS - ANNUAL

 

Specialty printing papers

 

(In millions of dollars, except where otherwise stated)
   2012 2 3   2011 2   2010 2 
Sales  $675.6   $690.4   $674.0 
Operating earnings (loss)    20.5    (565.1)   (149.7)
Depreciation and amortization   30.1    81.3    78.8 
Adjusted EBITDA 1   50.6    23.4    33.5 
–    before restructuring costs 1   53.5    27.4    41.7 
Adjusted EBITDA margin 1   7.5%   3.4%   5.0%
–    before restructuring costs 1   7.9%   4.0%   6.2%
                
(In thousands of tonnes)               
Sales   812.6    837.5    829.9 
Production   805.5    842.0    835.9 

 

1.Refer to section 13, Non-GAAP measures.
2.Numbers exclude the Snowflake mill’s results from operations which have been reclassified as discontinued operations in the consolidated statements of earnings (loss) in the annual consolidated financial statements for the year ended December 31, 2012.
3.We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Segmented results for 2012 include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption. Reported sales and adjusted EBITDA were relatively unaffected, as the company’s physical operations were not impacted by the financial recapitalization.

 

- 39 -
 

 

 

Segment Overview

 

North American demand for coated mechanical decreased 2.3% for the year due to reduced advertising pages in magazines and a decrease in catalogues being mailed out. LWC inventories decreased significantly in 2012 as capacity reductions due to closures and curtailments more than offset the reduction in demand. The average benchmark price for LWC decreased to US$869 per short ton from US$900 per short ton in 2011. The LWC benchmark price declined in the first half of 2012 before recovering to US$898 per short ton in Q4.

 

North American uncoated mechanical demand (high-gloss and standard grades) decreased 15.3% due to declines in print advertising and lower circulation and page counts for retail inserts. Average benchmark prices for super-calendered A grade (SC-A) remained flat compared to the prior year at US$835 per short ton for 2012. Continuing reduction in capacity kept the uncoated mechanical market tight despite declining demand. The market weakened near the end of Q4 with the restart of a formerly idled mill which added significant capacity to the market, and the end of the seasonally busy retail advertising period.

 

For LWC, we implemented a US$40 per short ton price increase on August 1, 2012 and announced another US$60 per short ton increase effective October 1, 2012. For our uncoated paper, we announced a US$40 per short ton price increase on our soft-calendered paper effective October 1, 2012. The increases to LWC were partially implemented while the soft-calendered price increase was not implemented due to the restart of formerly idle capacity in early Q4.

 

North American directory demand decreased 18.4% in 2012 from the prior year due to reduced publication of white pages, smaller book sizes, lower circulation, and the continued migration from printed directory books to the Internet. At US$770 per short ton, the average directory benchmark price for the current year increased by 4.8% compared to the prior year reflecting higher 2012 contract prices. The majority of our directory pricing was largely fixed for the year based on 2012 contract pricing.

 

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Operational performance

 

The following chart summarizes the operating performance of our specialty printing papers segment:

 

 

*Average delivered cash costs per tonne consist of cost of sales, excluding depreciation and amortization, and including the impact of SG&A and restructuring costs. Average delivered cash costs per tonne before specific items consist of cost of sales, excluding depreciation and amortization, and including the impact of SG&A, but excluding the impact of restructuring costs.

 

The 2012 specialty printing papers product-grade distribution, based on sales volume, is depicted in the chart below:

 

 

- 41 -
 

 

The 2012 specialty printing papers geographic sales distribution, based on sales volume, is depicted in the chart below.

 

 

·Sales volume decreased by 24,900 tonnes due to lower directory and uncoated sales volumes for the year, partially offset by higher coated sales volumes.
·Average sales revenue increased $7 per tonne, reflecting higher average transaction prices for directory and uncoated mechanical paper, and the positive impact of a weaker Canadian dollar, partially offset by lower average transaction prices for LWC.
·Average delivered cash costs decreased $27 per tonne due to lower maintenance, labour and kraft costs, as well as reduced SG&A costs, partially offset by higher cost of chemicals and electric power. The lower labour cost was mostly due to the positive impact of the new labour deal that went into effect on May 1, 2012.

 

Newsprint

 

(In millions of dollars, except where otherwise stated)
   2012 2 3   2011 2   2010 2 
Sales  $178.1   $141.3   $152.4 
Operating earnings (loss)    14.1    (69.2)   (224.3)
Depreciation and amortization   4.1    9.1    16.6 
Adjusted EBITDA 1   18.2    11.0    (17.6)
–    before restructuring costs 1   19.0    11.8    (1.5)
Adjusted EBITDA margin 1   10.2%   7.8%   (11.5%)
–    before restructuring costs 1   10.7%   8.4%   (1.0%)
(In thousands of tonnes)               
Sales   264.0    205.2    236.7 
Production   265.1    208.1    224.5 

 

1Refer to section 13, Non-GAAP Measures.
2Numbers exclude the Snowflake mill’s results from operations which have been reclassified as discontinued operations in the consolidated statements of earnings (loss) in the annual consolidated financial statements for the year ended December 31, 2012.
3We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Segmented results for 2012 include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption. Reported sales and adjusted EBITDA were relatively unaffected, as the company’s physical operations were not impacted by the financial recapitalization.

 

- 42 -
 

 

 

Segment Overview

 

North American newsprint shipments were down by 1.2% in 2012. Operating rates remained similar to the prior year as North American newsprint capacity was shut at a rate to compensate for declining demand. Newsprint inventories increased in the current year compared to 2011 levels.

 

The average North American Newsprint benchmark price decreased to US$615 per metric tonne or 1.1% compared to the previous year. We announced a US$30 per tonne price increase effective October 1, 2012. The increase was partially implemented in the US; however, these gains were offset by lower prices in our international markets.

 

The Crofton No. 1 paper machine, originally curtailed in January 2010, remained indefinitely curtailed throughout 2012, resulting in 140,000 tonnes of curtailment on an annualized basis.

 

Operational performance

 

The following chart summarizes the operating performance of our newsprint segment:

 

 

*Average delivered cash costs per tonne consist of cost of sales, excluding depreciation and amortization, and including the impact of SG&A and restructuring costs. Average delivered cash costs per tonne before specific items consist of cost of sales, excluding depreciation and amortization, and including the impact of SG&A, but excluding the impact of restructuring costs.

 

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The 2012 newsprint geographic sales distribution, based on sales volume, is depicted in the chart below:

 

 

·Sales volume increased by 58,800 tonnes due to increased newsprint production which offset lower directory production in 2012.

 

·Average sales revenue declined $14 per tonne due to lower transaction prices, partially offset by the positive impact of the weaker Canadian dollar.

 

·Average delivered cash costs decreased $29 per tonne due to reduced cost of maintenance, labour, fibre, SG&A and property taxes, partially offset by higher electric power costs.

 

Pulp

 

(In millions of dollars, except where otherwise stated)
   2012 2 3   2011 2   2010 2 
Sales  $204.5   $248.0   $225.0 
Operating earnings (loss)    (15.5)   (70.2)   22.4 
Depreciation and amortization   2.1    15.1    14.3 
Adjusted EBITDA 1   (13.4)   28.4    36.7 
–    before restructuring costs 1   (11.8)   29.5    37.7 
Adjusted EBITDA margin 1   (6.6)%   11.5%   16.3%
–    before restructuring costs 1   (5.8)%   11.9%   16.8%
                
(In thousands of tonnes)               
Sales   324.8    308.5    276.6 
Production   318.0    315.0    273.3 

 

1Refer to section 13, Non-GAAP measures.

 

2Numbers exclude the Snowflake mill’s results from operations which have been reclassified as discontinued operations in the consolidated statements of earnings (loss) in the annual consolidated financial statements for the year ended December 31, 2012.

 

3We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Segmented results for 2012 include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption. Reported sales and adjusted EBITDA were relatively unaffected, as the company’s physical operations were not impacted by the financial recapitalization

 

- 44 -
 

 

 

Global shipments of NBSK pulp increased by 3.0% in 2012 compared to prior year shipments. There was a rapid decline in pulp prices in 2012 due to excess inventory and weak market conditions in China. The average NBSK benchmark price for China declined to US$630 per tonne in the third quarter before recovering moderately to US$662 per tonne in Q4. The average benchmark price for the year of US$667 per tonne was 20.0% lower than 2011.

 

Operational performance

 

The following chart summarizes the operating performance of our pulp segment:

 

 

*Average delivered cash costs per tonne consist of cost of sales, excluding depreciation and amortization, and including the impact of SG&A and restructuring costs. Average delivered cash costs per tonne before specific items consist of cost of sales, excluding depreciation and amortization, and including the impact of SG&A, but excluding the impact of restructuring costs.

 

- 45 -
 

 

The primary market for our market pulp is Asia. The 2012 pulp geographic sales distribution, based on sales volume, is depicted in the chart below:

 

 

·Sales volume increased by 16,300 tonnes due to the inclusion of an 8,000 tonne shipment in current year sales that was delayed in December 2011 and slightly higher production in 2012.
·Average sales revenue decreased by $174 per tonne due to lower average transaction prices, partially offset by the positive impact of a weaker Canadian dollar. Weak pulp prices in 2012 reflect soft demand and excess inventory in China.
·Average delivered cash costs decreased by $42 per tonne due to lower fibre, SG&A and labour costs, partially offset by increased cost of chemicals.

 

FINANCIAL CONDITION

 

The following table highlights the significant changes between the consolidated balance sheets as at December 31, 2012, and December 31, 2011:

 

The following table highlights the significant changes between the consolidated balance sheets as at December 31, 2012 and December 31, 2011:

 

(In millions of dollars)  2012   2011   Variance   Comments
Working capital  $151.4   $152.4   $(1.0)  Decrease in cash and cash equivalents of $8.5 million, accounts receivable of $20.9 million, inventories of $21.9 million, and prepaids of $11.1 million were offset by restricted cash of $0.7 million in 2012 and a decrease in accounts payable and accrued liabilities of $60.7 million.  Working capital requirements have generally been reduced by the closure of the Snowflake mill.  The curtailment at the Powell River mill in December resulted in reduced inventories, and trade accounts payable.  Trade accounts receivable decreased due to improved collections and the impact of the Powell River curtailment on sales.  The reduction in accounts payable and accrued liabilities reflects the forgiveness of pre-petition payables and accrued interest on pre-petition debt pursuant to our reorganization under the Plan.
Assets held for sale   34.3        34.3   Assets classified as held for sale in 2012 included the assets of Elk Falls, Snowflake, Poplars land, the Port Alberni wastewater lagoon, the mortgage receivable from PRSC Limited Partnership and our interest in PRSC Land Development Ltd..
Property, plant and equipment   611.6    386.3    225.3   Increase mainly due to the adjustment of property, plant and equipment to fair value in accordance with the requirements of fresh start accounting on the valuation date of September 30, 2012.

 

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(In millions of dollars)  2012   2011   Variance   Comments
Goodwill   56.7        56.7   Goodwill recognized in accordance with the requirements of fresh start accounting at the amount that our enterprise value exceeded the fair value of identified assets and liabilities on the valuation date of September 30, 2012.
Other assets   11.0    24.4    (13.4)  Decrease mainly due to the reclassification of the mortgage receivable from PRSC Limited Partnership of $2.8 million and Snowflake’s long-term receivables of $1.5 million to assets held for sale, amortization of deferred financing costs of $2.2 million, a reduction in derivative financial instruments of $2.5 million, a decrease to deferred mill-related charges of $2.3 million, and the accelerated recognition of deferred financing costs on our pre-petition debt of $10.2 million, partially offset by the capitalization of debt issuance cost related to our new debt of $9.3 million
Liabilities associated with assets held for sale   15.2        15.2   Accounts payable and other liabilities of the Snowflake mill which was classified as held for sale in 2012.
Total debt   428.6    842.3    (413.7)  Our debt was reduced by approximately US$390 million pursuant to our reorganization under the Plan, and the withdrawn balance $24.0 million on our new ABL Facility as of December 31, 2012 is significantly lower than the $48.0 million withdrawn on the former ABL Facility in 2011
Employee future benefits   289.7    305.7    (16.0)  Decrease reflects the elimination of extended health benefits of retirees pursuant to the reorganization under the CCAA and elimination of the company’s projected benefit obligation under the Snowflake Salaried Retiree Medical and Life Insurance Plan subsequent to the closure of the Snowflake mill.
Other long-term obligations   8.9    19.2    (10.3)  Decrease due primarily to the repudiation of the contractual lease obligation at PRD which was closed in 2010, and the de-recognition of a landfill rehabilitation obligation at our Elk Falls site in accordance with the requirements of fresh start accounting.
Deferred income taxes and deferred credits       13.2    (13.2)  In accordance with the requirements of fresh start accounting, we concluded that our deferred credits had negligible fair value as of the valuation date of September 30, 2012.

 

Outlook

 

Economy

 

The global economies struggled in 2012 due to a host of factors including the sovereign debt issues affecting Europe and North America, slow growth in the U.S. economy, and reduced economic growth in China. The U.S. economy is expected to improve in 2013 led by an employment recovery as well as a recovering housing market. Volatility is expected to continue due to ongoing fiscal issues in Europe and North America. The Canadian economy is expected to weaken due to a slowing housing market and generally slow economic growth. A mix of a strengthening US economy and a weakening Canadian economy could result in some weakness in the Canadian dollar. The continued volatility of the Canadian dollar may significantly impact our operating and net earnings, cash flow and liquidity.

 

Markets

 

Specialty printing paper markets are expected to remain challenging in 2013 with the continued migration to electronic media. Demand for coated mechanical is expected to drop in 2013 while demand for uncoated mechanical is expected to increase slightly due to the restart of additional uncoated mechanical capacity in Q4, 2012. This additional capacity will lead to some grade switching from coated to uncoated mechanical. Operating rates for coated and uncoated mechanical are expected to decline unless the drop in demand is offset by additional mill closures and capacity reductions. Prices for coated and uncoated mechanical grades will be under pressure in the seasonally slower first of the year as a result of these lower operating rates. Demand for directory paper will continue to decline albeit at a slower rate than 2012 due to paper conservation moves by publishers and migration to electronic media. Poor demand conditions and weaker operating rates for directory paper are expected to lead to slightly lower prices for 2013 compared to 2012.

 

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Newsprint demand in 2013 is expected to contract further due to declining circulation, page count reductions, conservation measures by publishers, and continued migration of information and advertising to the Internet. After a significant drop in exports from North America in 2012, exports may increase modestly as North American producers seek to find markets for their excess capacity. The restart of additional newsprint capacity in the 2nd half of 2012 resulted in the first signs of price weakness in quite some time. This price weakness is expected to continue through the first quarter of 2013. Newsprint prices for the remainder of the year will depend on the supply and demand balance.

 

The NBSK market improved slightly in the fourth quarter and this trend is expected to continue for the first half of 2013 as the Chinese economy rebounds from slower economic growth in 2012. Improved demand for pulp for woodfree paper and tissue are expected to increase demand and support higher prices for NBSK in 2013. Hardwood pulp capacity increases in 2013 may lead to more switching between softwood and hardwood. Chinese buying patterns and requirements are expected to continue to drive the market in 2013.

 

Operations and capital spending

 

Price pressure for key inputs is expected to be marginal with the exception of power where we are expecting to see rate increases from BC Hydro as well as the return of the PST. Labour, fibre, fossil fuel, and chemicals are expected to be similar to 2012. We expect maintenance costs for 2013 to be higher than 2012 levels primarily due to the impact of total mill outages at Alberni in Q1 and Crofton in Q2. Crofton Pulp outages in 2013 are expected in Q2 and Q4, while mandatory annual boiler annual outages will take place throughout the year at all of our mills similar to 2012.

 

We anticipate that the Crofton No. 1 machine will remain indefinitely curtailed due to weak markets and high costs, removing approximately 140,000 tonnes on an annualized basis. We will continue to match production to our orders for all grades.

 

Capital spending is expected to be approximately $25 million in 2013; however, capital will be managed to balance cash flow.

 

Q1, 2013 costs are expected to be higher than Q1 2012 in part due to lower production and higher maintenance costs as a result of a number of reliability issues at the mills in Q1, 2013.

 

Liquidity, debt maturities and covenants

 

We do not currently anticipate any significant uses of cash in 2013 other than for our operations, working capital fluctuations, interest payments, pension funding of the Salaried DB Plan and the PACE Industry Union-Management multi-employer pension plan.

 

The company expects to close on the sale of PREI at the end of the first quarter subject to various closing conditions. The company is required under the terms of the Plan of Arrangement to distribute to unsecured creditors of the company who did not elect to receive shares in settlement of their claims, their pro rata share of 50% of the net proceeds of the sale (which, given that many creditors elected to instead receive shares, will result in a distribution of approximately 40% of the net proceeds of the sale). The company will offer to purchase a portion of its Exit Notes with the balance of the net proceeds.

 

2013 key objectives:

 

In 2013, we will focus on objectives and initiatives in four areas:

 

Social

 

·Significantly improve safety results reducing medical incidents by 50% and lost time injuries by 41% to achieve 2nd quartile or better industry ranking

 

·Continue to seek competitive business conditions in B.C. including in hydro and taxation rates and work with municipalities to achieve joint cost-saving service and infrastructure agreements

 

Financial

 

·Complete outstanding restructuring items and use proceeds of asset sales to pay down debt.

 

·Reduce operating costs, and focus on generating positive free cash flow.

 

·Complete special portability option program developed to deal with the salaried pension deficit.

 

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Commercial

 

·Expand geographic reach of Catalyst Paper into emerging world markets of Latin America and Asia.

 

·Gain market share and expand sales reach into new markets with new products.

 

·Increase breadth of product range and solidify position as the most flexible and diverse producer and marketer of paper in the west. 

 

Environmental

 

·Work with community stakeholders to identify and implement sustainable watershed management solutions

 

·Adhere to high international standards for transparency and reporting of performance on social, governance and environmental factors

 

·Support revision of the BC Forest Stewardship Council standard to achieve increased access to FSC fibre supply

 

NON-GAAP MEASURES

 

Management uses certain measures that are not defined by U.S. GAAP to evaluate our performance and, as a result, the measures as employed by management may not be comparable to similarly titled measures reported by other entities. These non-GAAP measures should not be considered by an investor as an alternative to their nearest respective GAAP measure. Our non-GAAP measures include operating earnings (loss), adjusted EBITDA (earnings before interest, taxes, depreciation and amortization, impairment and other closure costs, and before other non-operating income and expenses), adjusted EBITDA before restructuring costs, adjusted EBITDA margin, adjusted EBITDA margin before restructuring costs, average delivered cash costs per tonne before specific items, net earnings (loss) attributable to the company before specific items, net earnings (loss) per share attributable to the company’s common shareholders before specific items, and free cash flow.

 

Specific items are items that do not arise from the company’s day-to-day operating, investing and financing activities, or items that are subject to material volatility based on factors outside of management’s control. Specific items include: foreign exchange gain or loss on long-term debt, gain or loss on cancellation of long-term debt, asset impairment and other closure costs, restructuring costs, unusual non-recurring items, and certain income tax adjustments.

 

Adjusted EBITDA and Adjusted EBITDA before Restructuring Costs

 

Adjusted EBITDA as defined equates to operating earnings (loss) plus depreciation and amortization and impairment and other closure costs. Adjusted EBITDA margin and adjusted EBITDA margin before restructuring costs are defined as adjusted EBITDA and adjusted EBITDA before restructuring costs as a percentage of sales.

 

These measures enable comparison of consolidated and segment operating results between periods without regard to debt service, income taxes, capital expenditure requirements, and specific items. These measures are provided to improve comparability between periods by eliminating the impact of financing (interest) and accounting (depreciation) items on our results.

 

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Reconciliation of net earnings (loss) attributable to the company by year

 

(In millions of dollars)  2012 2   2011   2010 
Net earnings (loss) attributable to the company as reported  $583.2   $(974.0)  $(396.9)
Net earnings (loss) attributable to non-controlling interest   30.4    (2.6)   (1.3)
Net earnings (loss)   613.6    (976.6)   (398.2)
Depreciation and amortization 1   36.3    105.5    109.7 
Impairment 1       661.8    294.5 
(Gain) loss on cancellation of long-term debt 1           (0.6)
Foreign exchange (gain) loss on long-term debt 1   (20.8)   9.7    (27.6)
Loss on Powell River fire       2.4     
Other (income) expense, net 1   2.5    (0.3)   3.2 
Interest expense, net 1   71.9    73.2    71.9 
Income tax recovery 1   (0.9)   (8.4)   (19.8)
Reorganization items, net 1   (663.7)        
(Earnings) loss from discontinued operations net of tax   16.5    195.5    19.5 
Adjusted EBITDA  $55.4   $62.8   $52.6 
Restructuring costs   5.3    5.9    25.3 
Adjusted EBITDA before restructuring costs  $60.7   $68.7   $77.9 

 

1Numbers exclude the Snowflake mill’s results from operations which have been reclassified as discontinued operations in the consolidated statements of earnings (loss) in the annual consolidated financial statements for the year ended December 31, 2012.

2We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Numbers for 2012 therefore include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption.

 

Net Earnings (Loss) Attributable to the Company before Specific Items

 

Specific items are defined previously, and the exclusion of such items from net earnings (loss) attributable to the company facilitates the comparison of financial results between periods.

 

Reconciliation to Net Earnings (Loss) Attributable to the Company by year:

 

(In millions of dollars and after-taxes,
except where otherwise stated)
  2012 2   2011   2010 
Net earnings (loss) attributable to the company as reported  $583.2   $(974.0)  $(396.9)
Specific items:               
(Gain) loss on cancellation of long-term debt           (0.5)
Foreign exchange loss (gain) on long-term debt   (20.8)   11.8    (24.2)
Loss on Snowflake fire 1       4.4     
Loss on Powell River fire       2.0     
Impairment and other closure costs 2   19.7    823.6    291.4 
Restructuring and change-of-control costs 1   6.4    5.9    21.3 
Reorganization items, net 1   (667.5)        
Fair market adjustment to non-controlling interest   41.2         
Note exchange costs           5.9 
Income tax adjustments           16.0 
Net earnings (loss) attributable to the company
before specific items
  $(37.8)  $(126.3)  $(87.0)
Net earnings (loss) per share attributable to the company’s common shareholders in dollars:               
As reported (continuing operations)  $41.65   $(2.04)  $(0.99)
Before specific items   (2.62)   (0.33)   (0.23)

 

1Includes amount related to Snowflake which was included in discontinued operations, net of tax in the consolidated statements of earnings (loss) in the annual consolidated financial statements for the year ended December 31, 2012.

2We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Numbers for 2012 therefore include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption.

 

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Free Cash Flow

 

Free cash flow excludes working capital and certain other sources and uses of cash, which are disclosed in the consolidated statements of cash flows. This measure allows us to assess our ability to generate funds to repay debt and assists in cash flow forecasting.

 

Reconciliation to Cash Provided by Operating Activities less Cash Used by Investing Activities by year:

 

(In millions of dollars)  2012 1   2011   2010 
Cash provided (used) by operating activities  $8.1   $(71.5)  $(44.1)
Cash used by investing activities   (9.6)   (17.7)   (4.5)
Proceeds from the sale of property, plant and equipment and other assets   (12.3)   (1.2)   (7.9)
Other investing activities   (3.7)   (0.8)   1.2 
Non-cash working capital changes except changes in taxes and interest   (31.8)   42.0    12.9 
Other   2.1    (9.6)   2.0 
Free cash flow  $(47.2)  $(58.8)  $(40.4)

 

1We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Numbers for 2012 therefore include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption.

 

Management’s Calculation of Free Cash Flow by Year:

 

(In millions of dollars)  2012 2   2011   2010 
Adjusted EBITDA  $55.4   $62.8   $52.6 
Interest expense, excluding amortization   (22.7)   (72.6)   (72.7)
Capital expenditures   (22.6)   (19.7)   (11.2)
Reorganization costs   (37.5)        
Income taxes paid   0.2    (0.1)   (0.4)
Employee future benefits, expense over (under) cash contributions 1   (11.8)   (8.0)   (2.4)
Net operating cash flow from discontinued operations   (8.2)   (21.2)   (6.3)
Free cash flow  $(47.2)  $(58.8)  $(40.4)

 

1Free cash flow is adjusted to reflect the cash impact of employee future benefits rather than the accounting expense which is included in Adjusted EBITDA.

 

2We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Numbers for 2012 therefore include results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption.

 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

The preparation of financial statements in conformity with U.S. GAAP requires companies to establish accounting policies and to make estimates that affect both the amount and timing of recording of assets, liabilities, revenues and expenses. Some of these estimates require judgments about matters that are inherently uncertain.

 

Note 3, Summary of significant accounting policies, in the December 31, 2012 consolidated financial statements includes a summary of the significant accounting policies used in their preparation. While all of the significant accounting policies are important to the annual consolidated financial statements, some of these policies may be viewed as involving a high degree of judgment. On an ongoing basis using currently available information, management reviews its estimates, including those related to environmental and legal liabilities, impairment of long-lived assets, pension and post-retirement benefits, provision for bad and doubtful accounts, fair value measurement, and income taxes. Actual results could differ from these estimates.

 

The following accounting policies require management’s most difficult, subjective and complex judgments, and are subject to measurement uncertainty

 

Environmental and legal liabilities

 

Environmental and legal liabilities are recorded when it is considered probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Liabilities for environmental matters require evaluation of applicable environmental regulations and estimates of remediation alternatives and the costs thereof. Provisions for liabilities relating to legal actions and claims require judgments about projected outcomes and the range of loss, based on such factors as historical experience and recommendations of legal counsel.

 

As at December 31, 2012 we had a provision of $17.4 million for environmental, remedial and other obligations. This amount included the US$11.7 million withdrawal liability from the PACE Industry Union-Management Pension Fund. We expect capital expenditures relating to known environmental matters, including compliance issues and the assessment and remediation of the environmental condition of the company’s properties, will total approximately $1.0 million in 2013.

 

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Impairment of long-lived assets

 

We recognized goodwill on September 30, 2012 in accordance with fresh start accounting. Goodwill does not get amortised in subsequent periods, but will be tested annually for impairment using a two-step impairment test at the reporting unit level. An assessment may first be performed based on certain prescribed qualitative factors to determine whether it is necessary to perform the two-step goodwill impairment test.

 

We review other long-lived assets, primarily plant and equipment, for impairment when events or changes in circumstances indicate that the carrying value of these assets may not be recoverable. We test for impairment using a two-step methodology as follows:

 

(i)Determine whether the projected undiscounted future cash flows from operations exceed the net carrying amount of the assets as of the assessment date; and

 

(ii)If assets are determined to be impaired in step (i), then such impaired assets are written down to their fair value, determined principally by using discounted future cash flows expected from their use and eventual disposition.

 

Estimates of future cash flows and fair value require judgments, assumptions and estimates and may change over time. Due to the variables associated with judgments and assumptions used in these tests, the precision and accuracy of estimates of impairment charges are subject to significant uncertainties and may change significantly as additional information becomes known. The carrying values of long-lived assets and goodwill represented approximately 62.5% and 5.8% of total assets respectively as at December 31, 2012. If future developments were to differ adversely from management’s best estimate of key assumptions and associated cash flows, we could potentially experience future material impairment charges.

 

Assets held for Sale and Discontinued Operations

 

Assets and liabilities that meet the held for sale criteria are reported separately from continued operations in the consolidated balance sheet. Assets held for sale and liabilities associated with assets held for sale are reported separately under current assets and current liabilities and are not offset and reported as a single amount in the consolidated balance sheet. Assets and liabilities are classified prospectively in the consolidated balance sheet as held for sale.

 

Assets classified as held for sale in 2012 included:

·assets and liabilities of the Snowflake mill which were closed on September 30, 2012 and subsequently sold to Hackman Capital and its affiliates,

 

·13.4 hectare wastewater treatment facility located at Port Alberni,

 

·land, buildings and equipment, and other assets of the Elk Falls site,

 

·mortgage receivable from PRSC Limited Partnership and interest in PRSC Land Developments Ltd.

 

The results of discontinued operations, net of tax, are presented separately from the results of continuing operations in the consolidated statements of earnings (loss). Per share information and changes to other comprehensive income (loss) related to discontinued operations are presented separately from continuing operations. Cash flows from discontinued operations are not presented separately from cash flows from continuing operations in the consolidated statements of cash flows. All comparative periods are restated in the period that a component is classified as a discontinued operation. The discontinued Snowflake mill met the definition of a discontinued operation in 2012 as a component of the company that was held for sale.

 

Enterprise Valuation

 

In accordance with the requirements of fresh start accounting, we determined a preliminary enterprise value for the company with the assistance of an independent financial advisor. The preliminary enterprise value established as of the valuation date of September 30, 2012 incorporated numerous major assumptions including management’s best estimate of future operating performance, forecasts of future exchange rates and product prices, and a discount rate based on the estimated blended rate of return required by our debt and equity investors.

 

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Pension and post-retirement benefits

 

We maintain various employee future benefit plans, which include defined benefit pension and post-retirement benefit plans. The company retains independent actuarial firms to perform actuarial valuations of the fair value of our defined benefit pension and post-retirement benefit plan assets and benefit obligations, and to advise on the amounts to be recorded in our financial statements. This information is determined using certain assumptions, based on historical and market data that have a direct impact on the fair value of the assets and obligations and on the charges disclosed in our financial statements. These assumptions include:

 

·The discount rate, which is used to estimate the actuarial present value of the various plan obligations. The company, assisted by independent actuarial advisors, sets the discount rate assumption annually to reflect the rates available on high-quality debt instruments, with cash flows that are expected to match the timing and amount of expected benefit payments. As at December 31, 2012 a discount rate of 4.0% per year was determined by us in consultation with our independent actuarial advisors.

 

·The long-term return on assets used to estimate the growth in the value of invested assets available to satisfy certain obligations. The company, with the assistance of independent actuarial firms, sets the expected rate of return on plan assets annually to reflect the current view of long-term investment returns. For 2012, a rate of return of 6.5% per year was determined by management in consultation with our independent actuarial advisors.

 

·Salary increases used to estimate the impact that future compensation increases would have on pension and other post-retirement obligations. As at December 31, 2012 a rate of compensation increase of 2.0% per year was determined by management in consultation with our independent actuarial advisors.

 

·Health care trend rates and mortality rates used to estimate the impact that future health care costs would have on pension and post-retirement obligations. As at December 31, 2012 a health care trend rate of 6.0% per year was determined by management in consultation with our independent actuarial advisors. The health care trend rate is assumed to decline by 0.5% annually, and the ultimate health care trend rate is assumed to be 4.5%.

 

Actual experience can vary significantly from estimates and could have a material impact on the estimated cost of employee benefit plans and future cash requirements.

 

The following table provides a sensitivity analysis of the assumed overall health care cost trend rate used in measuring the net pension benefit obligation, and the net obligation for other employee future benefits and related net periodic benefit cost for 2012. This sensitivity analysis should be used with caution as it is hypothetical and changes in the health care cost trend rate may not be linear.

 

   Pension benefit plans  Other benefit plans 
(In millions of dollars)  Net benefit
obligation
  Net 2012
expense
  Net benefit
obligation
   Net 2012
Expense
 
Assumed overall health care cost trend                
Impact of:                
1% increase  N/A  N/A   19.6    1.4 
1% decrease  N/A  N/A   (16.7)   (2.2)

 

Provision for bad debts and allowance for doubtful accounts

 

We regularly review the collectability of our accounts receivable. We record our allowance for doubtful accounts based on our best estimate of any potentially uncollectible accounts by highlighting those that are specifically high risk and applying judgment to arrive at an estimate. Consideration is given to current economic conditions and specific customer circumstances to determine the amount of any bad debt expense to be recorded. Accounts receivable balances for individual customers could potentially be material at any given time. We manage our credit risk principally through credit policies, which include the analysis of the financial position of our customers and the regular review of their credit limits and payment terms. We also subscribe to credit insurance for a majority of our receivables, periodically purchase accounts receivable puts on certain customers, and obtain bank letters of credit for some export markets and customers. Our estimate of the required allowance is a matter of judgment and the actual loss eventually sustained may be more or less than estimated.

 

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As at December 31, 2012 Accounts receivable comprised 11.6% of total assets. Included in this balance was a provision of $2.2 million for doubtful accounts, or 1.9% of accounts receivable (as at December 31, 2011 - $2.0 million for doubtful accounts, or 1.5% of accounts receivable). We believe our allowance for doubtful accounts as at December 31, 2012 is adequate to provide for probable losses existing in accounts receivable.

 

Fair value measurement

 

We measure our derivative and non-derivative financial instruments at fair value, defined as the price that would be received from selling an asset or that would be paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining fair value measurements, we consider the principal or most advantageous market in which it would transact and consider assumptions that market participants would use when pricing the asset or liability, such as inherent risk, transfer restrictions and risk of non-performance.

 

An established fair value hierarchy requires the company to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is both available and significant to the fair value measurement. Three levels of inputs may be used to measure fair value:

 

Level 1 – Quoted prices in active markets for identical assets or liabilities.

 

Level 2 – Observable inputs other than quoted prices in active markets for identical assets and liabilities, such as quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3 – Inputs that are generally unobservable and are supported by little or no market activity and that are significant to the fair value determination of the assets or liabilities.

 

The determination of fair value requires judgments, assumptions and estimates and may change over time.

 

The following table presents information about the fair value of our derivative and non-derivative financial instruments not designated as hedging instruments and measured on a recurring basis at December 31:

 

   2012   2011   Fair value
hierarchy
   Balance sheet classification
Assets                  
Currency contracts  $   $2.0    21  Prepaids and other
Currency contracts       2.5    21  Other assets
Commodity contracts       0.5    22  Prepaids and other
   $   $5.0         
Liabilities                  
Commodity contracts  $   $0.4    22  Accounts payable and accrued liabilities
Commodity contracts      $0.2    22  Other long-term obligations
   $   $0.6         

 

Fair values of our derivatives are classified under Level 2 as they are measured as follows:

 

1The fair value of forward currency contracts is measured using the discounted difference between contractual rates and market future rates. Interest rates, forward market rates, and volatility are used as inputs for such valuation techniques. We incorporate credit valuation adjustments to appropriately reflect both our own non-performance risk and the counterparty’s non-performance risk in the fair value measurements.

 

2The fair value of commodity swap contracts is measured using the discounted difference between contractual rates and market rates. The fair value of natural gas commodity options is measured using techniques derived from the Black-Scholes pricing model. We incorporate credit valuation adjustments to appropriately reflect both our own non-performance risk and the counterparty’s non-performance risk in the fair value measurements.

 

We no longer designate U.S. dollar revenue risk management instruments as cash flow hedges for accounting purposes effective April 1, 2010. For cash flow hedges that were in place as at March 31, 2010, the effective portion of changes in the fair value accumulated as at March 31, 2010 were deferred and recorded in Accumulated other comprehensive loss. When the hedge item was recorded in earnings, the corresponding gain or loss on the hedge was reclassified from Accumulated other comprehensive loss to Sales. As of December 31, 2012 all deferred amounts on these cash flow hedges had been recognized in Sales and circulated out of Accumulated other comprehensive loss.

 

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Income taxes

 

The amounts recorded for deferred income tax assets and liabilities are based on various judgments, assumptions and estimates. Deferred tax assets and liabilities are measured using enacted tax rates for the years in which assets and liabilities are expected to be recovered or settled. A projection of taxable income and estimates of the ultimate recovery or settlement of temporary differences are made for these years. The projection of future taxable income is based on management’s best estimate and may vary from actual.

 

At December 31, 2012 the company provided a full valuation allowance against its deferred tax assets. As a result, no net deferred tax asset was recorded. A one-percentage-point change in our reported effective income tax rate would have minimal effect on our income tax expense or recovery.

 

In addition, we record provisions for federal, provincial and foreign taxes based on the respective tax laws of the jurisdictions in which we operate and on our judgment as to the appropriate allocation of income and deductions to these jurisdictions. Canadian, U.S. and international tax laws are subject to interpretation, and our judgment may be challenged by taxation authorities. In such circumstances, the final resolution can result in settlements that differ from our estimated amounts.

 

CHANGES IN ACCOUNTING POLICIES

 

There were no recent amendments by the FASB to the Accounting Standards Codification that materially impacted the company’s consolidated financial statements or disclosures in 2012.

 

We adopted FASB ASC 852, Reorganizations for the duration of the CCAA proceedings. This standard requires that financial statements distinguish transactions and events that are directly associated with the reorganization from the ongoing operations of the business. Pre-petition obligations potentially impaired by the CCAA proceedings were classified as Liabilities subject to compromise.

 

We applied fresh start accounting in accordance with FASB ASC 852 as of the convenience date of September 30, 2012 whereby an enterprise value was established for the company, identified assets and liabilities were adjusted to fair value, goodwill was recognized at the amount that the enterprise value exceeded the fair value of identified assets and liabilities, and historical balances for the company’s equity accounts were eliminated. Consolidated financial statements prepared prior to the application of fresh start accounting are not comparable to our consolidated financial statements for the year ended December 31, 2012.

 

IMPACT OF ACCOUNTING PRONOUNCEMENTS AFFECTING FUTURE PERIODS

 

There were no new pronouncements issued by the FASB that may materially impact our consolidated financial statements for future periods.

 

B. Liquidity and Capital Resources

 

Selected annual financial information

 

(In millions of dollars, except where otherwise stated)  2012 2   2011   2010 
Cash flows provided (used) by operations before changes in non-cash working capital  $(32.0)  $(51.5)  $(31.6)
Changes in non-cash working capital   40.1    (20.0)   (12.5)
Cash flows provided (used) by               
Operations   8.1    (71.5)   (44.1)
Investing activities   (9.6)   (17.7)   (4.5)
Financing activities   (5.1)   18.9    60.9 
Capital spending   22.6    19.7    11.2 
Depreciation and amortization   36.3    112.4    119.3 
Impairment and other closure costs   11.5    823.6    294.5 
Capital spending as % of depreciation and amortization   62%   18%   9%
Net debt to net capitalization at period-end1   78%   366%   63%

 

1Net debt ratio equals net debt (total debt less cash) divided by net capitalization (shareholder’s equity attributable to the company and total debt less cash).

2We completed our restructuring under the CCAA proceedings on September 13, 2012 and adopted fresh start accounting in accordance with FASB ASC 852 on September 30, 2012. Cash flow information for 2012 therefore includes results for nine months preceding the adoption of fresh start accounting and three months subsequent to adoption.

 

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Our principal cash requirements are for ongoing operating costs, working capital fluctuations, and capital expenditures as well as interest and principal payments on debt. We anticipate that future operating cash requirements can be funded through internally generated cash flows from operations and advances under our ABL Facility. Additional details are provided in “Capital resources” and in “Debt” below and in section 3D, Risk Factors, in the discussion on “Subsequent to our restructuring under the CCAA proceedings, we may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful”.

 

Operating activities

 

Cash flows from operating activities in 2012 increased $79.6 million compared to 2011 due to a decrease in working capital requirements, interest paid, and net operating cash used by discontinued operations, partially offset by a decrease in adjusted EBITDA and reorganization costs paid under the CCAA proceedings. The $40.1 million change in non-cash working capital in the current year consisted of a decrease in accounts receivable of $18.2 million, a decrease in inventories of $20.3 million, and a decrease in prepaids of $4.0 million, partially offset by a reduction in accounts payable and accrued liabilities of $2.4 million.

 

Investing activities

 

Cash used by investing activities decreased by $8.1 million compared to the previous year. The decrease was largely due to increased proceeds from the sale of property, plant and equipment of $11.1 million, partially offset by increased fixed asset additions of $2.9 million. Asset sales in 2012 included Poplars land, assets of PRD, and scrap metal and equipment components of the Elk Falls site. Fixed asset additions in the current year related primarily to maintenance of the business.

 

Capital spending in 2012 was significantly higher than 2011 levels. especially as it related to maintenance of the business. The components are provided below:

 

(In millions of dollars)  2012   2011 
Safety  $1.2   $0.6 
Environment   3.1    2.5 
Maintenance of business   16.1    12.9 
Profit adding   2.2    3.7 
Total 1  $22.6   $19.7 

 

1Included $5.8 million related to PREI (2011 - $0.9 million)

 

Financing activities

 

Cash used by financing activities in 2012 increased by $24.0 million compared to 2011. This was primarily due to a net repayment on the new ABL Facility of $24 million compared to a net draw on the former ABL Facility of $48.0 million in 2011, and an increase in financing costs paid of $10.7 million compared to the prior year, partially offset by the issuance of Exit Notes for net proceeds of $33.1 million, and the redemption of US$26.0 million 8.625% notes in the prior year.

 

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Capital resources

 

Our capital resources include cash on hand and availability on our ABL Facility, with total liquidity at period-end summarized in the following table.

 

   ABL Facility   DIP Facility   ABL Facility 
   2012   2012   2011 
(In millions of dollars)  Q4   Q3   Q2   Q1   Q4   Q3   Q2   Q1 
Borrowing base1  $125.2   $164.0   $159.6   $142.1   $151.8   $167.3   $134.3   $174.1 
Letters of credit   (22.3)   (17.8)   (19.6)   (17.8)   (32.2)   (27.7)   (28.1)   (25.5)
Amount drawn, net   (24.0)   (64.0)   (70.5)   (77.8)   (48.0)   (31.5)        
Minimum excess availability           (21.9)3                   (35.0)
Available to be drawn 2   78.9    82.2    47.6    46.5    71.6    108.1    106.2    113.6 
Cash on hand 4   18.5    12.6    17.8    19.3    25.1    17.8    30.2    53.8 
Restricted cash 5   0.5    2.0    6.4    2.1                 
Total liquidity  $97.9   $96.8   $71.8   $67.9   $96.7   $125.9   $136.4   $167.4 

 

1The borrowing base at December 31, 2012 includes a reserve of $1.1 million for pension, $2.0 million for creditor insurance deductibles, $2.3 million for landlord waivers, $1.3 million for employee source deductions, $0.3 million related to WCB, and $0.2 million for purchasing card reserve.

 

2Our ABL Facility is subject to certain financial covenants as disclosed in our annual consolidated financial statements for the year ended December 31, 2012 in note 18, Long-term debt.

 

3The DIP Facility was subject to an excess availability condition as disclosed in our annual consolidated financial statements for the year ended December 31, 2012 in note 18, Long-term debt.

 

4Cash on hand consists of $16.6 million per our consolidated balance sheet and $1.9 million included in assets held for sale.

 

5Restricted cash consists of $0.5 million of cash held in trust.

 

Our total liquidity increased by $1.2 million in 2012 from 2011 due to a reduction in the amount drawn on our ABL Facility and a reduction in letters of credit, partially offset by a reduced borrowing base on the ABL Facility and reduced cash on hand. The borrowing base decreased primarily due to a reduction in accounts receivable as of December 31, 2012. The reduction in cash on hand was due primarily to the payment of restructuring costs of $5.3 million, reorganization costs of $37.5 million incurred during the CCAA proceedings, and the payment of debt issuance cost of $9.3 million in the third quarter, partially offset by a net reduction in non-cash working capital of $40.1 million. The reduction in working capital was due primary to a reduction in inventory resulting from the closure of the Snowflake mill and curtailment at the Powell River mill in December, and a reduction in accounts receivable due to the Snowflake closure, improved collections and reduced sales in the second half of December.

 

For information related to the computation of our borrowing base and availability on the ABL Facility, refer to our annual consolidated financial statements for the year ended December 31, 2012 note 18, Long-term debt.

 

At March 15, 2013 we had 14,527,571 common shares issued and outstanding. All of the company’s former common shares and stock options were cancelled on September 13, 2012. The company’s new common shares have no par value and an unlimited number of shares are authorized for future issuance.

 

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Debt

 

The following table illustrates the changes in our long-term debt for the year ended December 31, 2012:

 

(In millions of dollars)  January 1,
2012
   Net increase
(decrease)
   Foreign
exchange
   December 31,
2012
 
Recourse                    
Floating rate senior secured notes, due September 2016 (US$35.0 million)  $   $33.1   $0.8   $33.9 
Senior secured notes, 11.0% due October 2017 (US$250.0 million)       243.8    4.9    248.7 
Senior notes, 7.375% due March 2014 (US$250.0 million; December 31, 2010– US$250.0 million)   256.4    (246.1)   (10.3)    
Senior secured notes, 11.0% due December 2016 (US$280.4 million)   285.2    (273.5)   (11.7)    
Modification – difference in carrying value of 8.625% and 11.0% senior secured notes (US$38.3 million) on exchange   31.2    (31.2)        
Class B senior secured notes, 11.0% due December 2016 (US$110.0 million)   98.5    (94.0)   (4.5)    
Revolving asset-based loan facility of up to $175.0 million due July 2017       24.0        24.0 
Revolving asset-based loan facility of up to $175.0 million due May 2016   48.0    (48.0)        
Capital lease obligations   9.2    (1.0)       8.2 
Non-recourse (PREI)                    
First mortgage  bonds, 6.447% due July 2016   95.0            95.0 
Subordinated promissory notes   18.8            18.8 
Total debt  $842.3   $(392.9)  $(20.8)  $428.6 
Less: current portion   466.8    (460.2)       6.6 
Total long-term debt  $375.5   $67.3   $(20.8)  $422.0 

 

On September 13, 2012 as part of the implementation of the Plan and emergence from creditor protection, we issued US$250.0 million of new senior secured notes (2017 Notes). The 2017 Notes, issued in a debt exchange transaction with holders of our former 2016 Notes, have a maturity date of October 30, 2017, and bear interest, payable quarterly, at a rate of 11% per annum in cash or, at the option of the company, 13% per annum payable 7.5% cash and 5.5% payment-in-kind (PIK).

 

On September 13, 2012 we entered into a new $175.0 million ABL Facility, which effectively replaced the DIP Credit Facility on exit from protection under the CCAA. The collateral for the ABL Facility consists primarily of all present and future working capital assets of the company with a borrowing base calculated on the balance of eligible accounts receivable and inventory, less certain reserves. The ABL Facility matures on the earlier of July 31, 2017, and 90 days prior to maturity of any significant debt.

 

We also completed a US$35 million Exit Facility on September 13, 2012 and issued US$35 million of Exit Notes under that facility. The Exit Facility was provided by certain holders of the 2016 Notes and is secured by a charge on certain assets of the company and its subsidiaries ranking senior to the lien securing the US$250 million of 2017 Notes to be issued under the Plan. The Exit Facility matures on September 13, 2016, and can be prepaid in whole or in part at any time for a premium initially of 3% and declining annually thereafter.

 

We secured a DIP Credit Facility during the creditor protection proceedings which replaced the former ABL Facility. The DIP Credit Facility had an 18-month maturity and a maximum draw of approximately $175 million.

 

See note 18, Long-term debt in our annual consolidated financial statements for the year ended December 31, 2012 for additional information on changes to our debt.

From time to time, we may purchase our debt securities in the open market.

 

Financial Instruments

 

Our financial instruments consist primarily of cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities, long-term debt, and derivatives. Derivatives are used primarily to reduce exposure to currency risk on revenues, or occasionally debt, as well as price risk associated with revenue and energy costs. In accordance with our financial risk management program, we manage our exposure to risks through the use of financial instruments with counterparties that are of strong credit quality, normally being major financial institutions. We do not enter into financial instruments for speculative purposes.

 

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At December 31, 2012 we did not have any foreign currency or commodity contracts outstanding.

 

For a description of the nature and extent of risk to the company from our financial instruments, as well as our respective accounting treatment of financial instruments, refer to our annual consolidated financial statements for the year ended December 31, 2012 note 30, Financial instruments. For the methods and assumptions we use to determine the fair value of financial instruments, refer to note 29, Fair value measurement, of those statements.

 

The following table reconciles the average spot exchange rate to our effective exchange rate for sales and operating expenses including the impact from cash flow hedges that were in place as at March 31, 2010 and were designated as hedging instruments at that time:

 

US$/CDN$ FOREIGN EXCHANGE

 

   2012   2011 
   YTD   Q4   Q3   Q2   Q1   YTD   Q4   Q3   Q2   Q1 
Average Bank of Canada noon spot rate   1.001    1.009    1.005    0.990    0.999    1.011    0.977    1.020    1.033    1.015 
(Favourable)/unfavourable impact of derivatives designated as effective hedges for accounting purposes1                       (0.001)           (0.001)   (0.004)
Average effective rate included in adjusted EBITDA   1.001    1.009    1.005    0.990    0.999    1.010    0.977    1.020    1.032    1.011 
(Favourable)/unfavourable impact of derivatives, other than those designated as effective hedges for accounting purposes, included in other expenses2   0.001            0.001    0.004    0.002    (0.004)   0.023    (0.002)   (0.011)
Foreign exchange (gain)/loss, on working capital balances, included in other expenses3   0.010    (0.002)   0.035    (0.017)   0.017    (0.003)   0.020    (0.043)   0.006    0.007 
Average effective rate in net earnings/(loss) before income taxes4   1.012    1.007    1.040    0.974    1.020    1.009    0.993    1.000    1.036    1.007 
                                                   
(In millions of dollars)                                                  
1  Favourable/(unfavourable) impact of derivatives designated as effective hedges for accounting purposes included in adjusted EBITDA  $   $   $   $   $   $1.5   $0.1   $0.2   $0.3   $0.9 
2  Favourable/(unfavourable) impact of derivatives other than those designated as effective hedges for accounting purposes included in other expenses   (1.2)           (0.2)   (1.0)   (2.1)   0.9    (5.8)   0.3    2.5 
3  Foreign exchange gain/(loss) on working capital balances included in other expenses   (7.5)   0.4    (7.8)   3.9    (4.0)   3.2    (4.9)   10.9    (1.2)   (1.6)
4  Excludes foreign exchange gain/(loss) on long term debt and $US interest expense                                                  

 

C.Research and Development, Patents and Licences, etc.

 

Research required to meet our specific needs is conducted at private laboratories under the direction of our technical experts and at the mill laboratories. Business unit technical staff provide scientific and technological expertise in support of operations and product development efforts. Our internal product development team carried out the bulk of our product development efforts in the last three years. We did not make significant research and development expenditures to outside contractors in the last three years due to our cash conservation focus.

 

D.Trend Information

 

See information provided in Item 5A.

 

E.Off Balance Sheet Arrangements

 

Guarantees

 

Loans

 

We entered into a building lease agreement in 2001 under which we would continue to make the prescribed lease payments directly to the financial institution holding the mortgage on the building in the event the lessor was no longer able to meet its contractual obligations. At December 31, 2012 the principal amount of the mortgage was $3.0 million. The agreement does not increase our liability beyond the obligations under the building lease.

 

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Paper recycling plant acquisition

 

In connection with our acquisition of the paper recycling plant in Coquitlam, B.C. in December 2003, we provided indemnities with respect to environmental matters (other than pre-existing environmental conditions) under our lease of the land and buildings for all costs, claims and damages if we release any hazardous substances on the property or breach any of the environmental covenants under the lease or any environmental laws and an indemnity with respect to shares that were issued to the vendors as part of the purchase price. We do not expect any claims under these indemnities given that we disclaimed our liabilities under the lease under the CCAA process and that all of our outstanding shares as at September 13, 2012 were cancelled under the CCAA process.

 

F.Tabular Disclosure of Contractual Obligations

 

The following table presents the aggregate amount of future cash outflows for contractual obligations as of December 31, 2012:

 

(In millions of dollars)  2013   2014   2015   2016   2017   Thereafter 
Total debt, excluding capital lease obligations  $   $   $   $129.8   $272.7   $18.8 
Capital lease obligations   6.6    1.6                 
Operating leases   6.0    4.3    1.7    1.7    1.6    0.7 
Interest payments on long-term debt 1   38.3    38.2    38.2    37.6    27.5     
Other commitments                        
Total  $50.9   $44.1   $39.9   $169.1   $301.8   $19.5 

 

1 Based on 11% cash interest on the 2017 Notes and no drawings on the ABL facility

 

ITEM 6.DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

 

A.Directors and Senior Management

 

Directors

 

Our directors are as indicated in the following table. Under the terms of an order of the Supreme Court of British Columbia made on August 28, 2012 in connection with the company’s proceedings under the Companies’ Creditors Arrangement Act (“CCAA”), the term of the directors of the Corporation appointed pursuant to the company’s plan of arrangement under the CCAA will continue until the annual meeting of Shareholders that occurs after September, 12, 2013 (the first anniversary of the date the plan of arrangement became effective). Accordingly each director indicated below will serve as a director of the Corporation until the annual meeting of the Shareholders of the Corporation in 2014 or until his successor is elected or appointed, or unless his office is earlier vacated under any of the relevant provisions of our by-laws or the Canada Business Corporation Act.

 

Name and Municipality of
Residence
  Age   Principal Occupation   Director Since

John Brecker

Whiteplains, New York

  49   Director of Bowery Management; previously, Co-founder and Partner of Longacre Fund Management, LLC.   September 13, 2012

Giorgio Caputo

New York, New York

  39   Portfolio Manager at First Eagle; previously an Investment Analyst with Jana Partners   September 13, 2012

John Charles

Toronto, Ontario

  64   Managing Director of Leblanc and Royle, Vice- chair and Lead Director of Prism Medical Ltd.   September 13, 2012
Kevin J. Clarke
Vancouver, BC

  61   President and Chief Executive Officer, Catalyst Paper Corporation. Previously Group President, World Color   June 21, 2010
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Name and Municipality of
Residence
  Age   Principal Occupation   Director Since

Todd Dillabough

Calgary, Alberta

  51   Chief Executive Officer and Chief Operating Officer of Trident Resources Corporation. Previously with Pioneer Natural Resources Canada Inc.     September 13, 2012

Walter Jones

Summit, New Jersey

  59   Managing Director of CoMetrics Partners LLC; Previously a Partner at J.H. Cohn LLP.   September 13, 2012

Leslie Lederer(1)

Chicago, Illinois

  64   Attorney in Private Practice; Previously a consultant   September 13, 2012

 

(1)Chair of the Board.

 

Messrs. Jones, Brecker and Charles are members of the Corporation’s Audit Committee.

 

Messrs. Clarke, Dillabough and Lederer are members of the Corporation’s Environmental, Health and Safety Committee.

 

Messrs. Caputo, Dillabough and Lederer are members of the Corporation’s Governance and Human Resources and Compensation Committee.

 

Officers

 

Officers are appointed to serve at the pleasure of the Board of directors.

 

Name   Age   Title

Brian Baarda

Surrey, BC

  46   Vice President, Finance and Chief Financial Officer.  Previously Vice President, Operations –Newsprint, ONP Procurement, Recycling.

David L. Adderley

Vancouver, BC

  58   Vice President and General Counsel.  

Lyn Brown

Vancouver, BC

  56   Vice President, Marketing and Corporate Responsibility.  Previously, Vice President, Corporate Affairs and Social Responsibility; Vice President, Customer Relations and Vice President, Communications and Government Affairs, Aquila Networks Canada.

Stephen Boniferro

Delta, BC

  57   Senior Vice President, Human Resources.  Previously, Vice President, Algoma Steel.

L. Thomas Crowley

Bainbridge Island, WA

  52   Senior Vice President, Sales and Marketing.  Previously Vice President and General Manager, Specialty Papers.

Kevin J. Clarke

Vancouver, BC

  61   President and Chief Executive Officer.  Previously Group President, World Color.

Robert H. Lindstrom

Burnaby, BC

  59   Vice President, Supply Chain, Energy and IT.  Previously, Vice President Supply Chain and IT, Vice President, Strategy, Vice President, Supply and Utilities, Pulp Operations.

Alistair MacCallum

West Vancouver, BC

  45   Vice President, Treasurer and Controller.  Previously Corporate Controller.  

Robert Stepusin

Vancouver, BC

  59   Senior Vice President, Business Improvement. Previously Executive Vice President, Finance and Administration, World Color.

 

Other than 2,894,937 of our common shares that are held by First Eagle Investment Management, LLC, for which Mr. Caputo is a Portfolio Manager, our directors and officers as a group beneficially own, directly or indirectly, or exercise control or direction over less than 1% of our issued and outstanding common shares.

 

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Mr. Clarke was the President, Chief Executive Officer and a director of the company and each of the officers of the company named above were officers of the company when it filed for protection under the Companies’ Creditors Arrangement Act and subsequently implemented a plan of arrangement under the Companies’ Creditors Arrangement Act.

 

Mr. Dillabough was the Chief Executive Officer of Trident Exploration Corp. when it filed a voluntary petition for relief under the CCAA and under Chapter 11 of the United States Bankruptcy Code in September 2009. Mr. Dillabough was a director of Aveos Fleet Performance Inc. when the company filed a voluntary petition for relief under the CCAA on March 19, 2012. Mr. Dillabough resigned from Aveos Fleet Performance Inc. immediately following the CCAA filing.

 

B.Compensation

 

Compensation of Directors

 

The Governance, Human Resources and Compensation Committee of the Board of directors is responsible for annually reviewing directors’ compensation and making recommendations to the Board. Directors may receive their compensation in the form of cash or deferred share units, or a combination of both.

 

Under the directors’ compensation policy, directors are paid an annual cash retainer, meeting fees and equity compensation through stock options. The company does not currently have a stock option plan in effect and stock options were not issued in 2012. Any issuance of stock options going forward would be subject to approval by the shareholders and the Toronto Stock Exchange (“TSX”).

 

The following table shows the director compensation policy for the year ended December 31, 2012:

 

    Item   Amount
1.   Chair of the Board    
    ·       Cash retainer   $160,000/annum
    ·       Annual stock option grant (options are granted with an exercise price set 25% above the Common Share weighted average price over the five days prior to the date of grant and vest one third on the first, second and third anniversary of the date of grant)   36,000 options(1)
2.   Member of the Board    
    ·       Cash retainer   $60,000/annum
    ·       Annual stock option grant (options are granted with an exercise price set 25% above the Common Share weighted average market price over the five days prior to the date of grant and vest one third on the first, second and third anniversary of the date of grant)   24,000 options(2)
     Member (attending)   $2,000/meeting
     Member (by telephone)   $1,000/meeting
3.   Audit Committee of the Board    
     Chair – Annual fee   $20,000/annum
     Member – Annual fee   $5,000/annum
     Member (attending)   $2,000/meeting
     Member (by telephone)   $1,000/meeting
4.   Committees of the Board (other than Audit Committee)    
     Chair – Annual fee   $10,000/annum
     Member – Annual fee   $5,000/annum
     Member (attending)   $1,500/meeting
     Member (by telephone)   $750/meeting
5.   Special Committees of the Board    
     Chair – Annual fee   $10,000/annum
     Member – Annual fee   $5,000/annum
     Member (attending)   $1,500/meeting
     Member (by telephone)   $750/meeting
6.   Travel   $1,000 per round trip for non-business class travel over 3 hours

 

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(1)On March 9, 2012 the directors elected to reduce their cash retainer and meeting fees by 10% during the Corporation’s proceedings under the CCAA.

 

(2)Stock options were not issued in fiscal 2012. The Corporation’s stock option plan ceased to be in effect after the Corporation filed under the CCAA and its shares were delisted by the TSX. Issuance of any stock options going forward will be subject to approval of a new stock option plan by the Corporation’s shareholders and the TSX.

 

Directors may choose to convert all or part of their cash compensation into DSUs. The number of DSUs granted to a director is equal to the elected amount of the compensation divided by the weighted average price of the Common Shares on the TSX over the ten days prior to the calculation date. The value of the DSUs is payable by the company only after the director’s departure from the Board and is equal to the number of DSUs held by the director multiplied by the weighted average price of the Common Shares on the TSX over the ten days prior to the relevant redemption date. Directors may elect to redeem their DSUs at any time prior to December 15th of the year following the year they ceased to be a director. All amounts are paid in cash, subject to statutory withholdings. A director may change his or her DSU election prior to the commencement of each calendar year.

 

All DSUs that were outstanding on September 13, 2012 were cancelled for no consideration pursuant to the Corporation’s Plan of Arrangement under the CCAA. As at December 31, 2012 there were no DSUs outstanding.

 

The following table shows the value and components of the cash compensation elements paid to the company’s directors in 2012:

 

Director  Annual
Board
Retainer
($)
   Annual
Committee
Retainer
($)
   Annual
Committee
Chair
Retainer
($)
   Special
Committee
Retainer
($)
   Special
Committee
Chair
Retainer
($)
   Meeting
Fees
($)
   Total Fees
(Cash)
($)
 
Thomas Chambers(4)   39,095    3,258    13,032            40,400    95,785 
William Dickson(4)   39,095        6,516            39,125    84,736 
Benjamin Duster(2)   26,227                    19,750    45,977 
Doug Hayhurst(4)   39,095    6,516                40,150    85,761 
Denis Jean(1)   5,345        891            12,000    18,236 
Jeffrey Marshall(3)(4)   91,035    1,667    1,667            29,975    124,344 
Alan Miller(4)   39,095    6,516                38,075    83,686 
Geoff Plant(4)   39,095    1,667    4,849            34,800    80,411 
Dallas Ross(4)   39,095    6,516            77,667(7)   50,775    174,053 
John Brecker(5)   20,000    1,667                14,000    35,667 
Giorgio Caputo(5)(8)                            
John Charles(5)   20,000    1,667                11,000    32,667 
Todd Dillabough(5)   20,000    1,667    2,500            13,000    37,167 
Walter Jones(5)   20,000        6,667            13,000    39,667 
Les Lederer(5)(6)   53,333    417                13,000    66,750 

 

(1)Mr. Jean resigned as a director of the company as of February 2, 2012.
(2)Mr. Duster resigned as Board Chairman as of February 17, 2012 and as a director of the company as of March 15, 2012.
(3)Mr. Marshall became Board Chairman as of February 17, 2012.

 

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(4)Messrs. Chambers, Dickson, Hayhurst, Marshall, Miller, Plant and Ross ceased to be directors of the company as of September 13, 2012 pursuant to the company’s Plan of Arrangement under the CCAA.
(5)Messrs. Brecker, Caputo, Charles, Dillabough, Jones and Lederer became directors of the Corporation as of September 13, 2012 pursuant to the company’s’s Plan of Arrangement under the CCAA.
(6)Mr. Lederer became Board Chairman as of September 13, 2012.
(7)Includes $10,000 per month additional retainer paid to Mr. Ross as Chairman of the Strategic Alternatives Committee.

(8)Mr. Caputo, an employee of First Eagle which exercise voting control over approximately 19.93% of the Common Shares, has wavied all director compensation (other than reimbursement of expenses) for the time being.

 

In 2012 Towers Watson was retained to provide advice to the Governance, Human Resources and Compensation Committee on the market competitiveness of the Corporation’s director compensation. Towers Watson was paid an aggregate amount of $25,000 in respect of such services in early 2013.

 

The following table shows all compensation provided to the directors for the company’s most recently completed financial year other than Mr. Clarke who, as Chief Executive Officer of the company, does not receive compensation in his capacity as a director.

 

Name  Fees
earned
($)
   Share based awards
($)
   Option
based
awards
($)(1)
   Non-equity
incentive plan
compensation
($)
   Pension
value
($)
   All other
compensation
($)
   Total
($)
 
Thomas Chambers   95,785                        95,785 
William Dickson   84,736                        84,736 
Benjamin Duster   45,977                        45,977 
Doug Hayhurst   85,761                        85,761 
Denis Jean   18,236                        18,236 
Jeffrey Marshall   124,344                        124,344 
Alan Miller   83,686                        83,686 
Geoff Plant   80,411                        80,411 
Dallas Ross   174,053                        174,053 
John Brecker   35,667                        35,667 
Giorgio Caputo                            
John Charles   32,667                        32,667 
Todd Dillabough   37,167                        37,167 
Walter Jones   39,667                        39,667 
Les Lederer   66,750                        66,750 

 

(1)No options or other share based awards were granted to directors in 2012.

 

Outstanding Share based and Option based Awards

As at December 31, 2012, there were no outstanding option-based or share-based awards held by directors. All option-based and share-based awards that were outstanding at September 13, 2012 were cancelled on that date for no consideration pursuant to the Corporation’s Plan of Arrangement under the CCAA. As at December 31, 2012 there were no securities authorized for issuance under any stock option plan or restricted share unit plan.

 

There was no value vested in respect of option-based or share-based awards during 2012 given the Corporation was in a restructuring process under the CCAA from January 30, 2012 to September 13, 2012. All option-based and share-based awards that were outstanding on September 13, 2012 were cancelled for no consideration on that date pursuant to the Corporation’s Plan of Arrangement under the CCAA. None of the vested options held by directors prior to their cancellation were in-the-money during 2012.

 

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