**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

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**FORM10-Q**

**(Mark One)**
|       |       |                                                                                          |
|------------|------------|-----------------------------------------------------------------------------------------------|
| ** ** | **ý** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)  OF THE SECURITIES EXCHANGE ACT OF 1934**  |
| ** ** | ** ** | **For the Quarterly Period  Ended May 26, 2005**                                              |
| ** ** | ** ** | **or**                                                                                        |
| ** ** | **o**      | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |

 

**For the transition periodfrom               to               .**

** **

**Commission file number 333-118829**

** **

**Cellu Tissue Holdings, Inc.**

(Exact name of registrant as specified in its charter)

 
| **Delaware**                                           | ** ** | **06-1346495**                     |
|--------------------------------------------------------|------------|------------------------------------|
| (State of incorporation)                               |       | (IRS Employer  Identification No.) |
|                                                   |       |                               |
| **3442 Francis Road Suite  220, Alpharetta , Georgia** | ** ** | **30004**                          |
| (Address of principal  executive offices)              |       | (zip code)                         |

 

**(678)393-2651**

(Registrant’stelephone number, including area code)

** **

**NotApplicable**

 (Former name, former address and former fiscalyear, if changed since last report)

 

Indicate by check mark whether the registrant: (1) has filed allreports required to be filed by Section 13 or 15(d) of the Securities ExchangeAct of 1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports) and (2) has been subject to suchfiling requirements for the past 90 days.     Yes ý No o

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act).   YesoNoý

The number ofshares outstanding of each of the registrant’s classes of common stock as ofJuly 8, 2005:

 
| **Title of Class**            | ** ** | **Shares Outstanding** |
|-------------------------------|------------|------------------------|
| Common  Stock, $.01 par value |       | 100                    |

 

 

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CELLUTISSUE HOLDINGS, INC.

FORM10-Q

QUARTERENDED MAY 26, 2005

 

INDEX

 
| PART I - FINANCIAL INFORMATION |   |                                                                                        |
|--------------------------------|--------|---------------------------------------------------------------------------------------------|
|                           |   |                                                                                        |   |   |
| Item 1.                        |   | Consolidated  Financial Statements                                                          |   |   |
|                           |   |                                                                                        |   |   |
| Item  2.                       |   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |   |   |
|                           |   |                                                                                        |   |   |
| Item  3.                       |   | Quantitative  and Qualitative Disclosures About Market Risk                                 |   |   |
|                           |   |                                                                                        |   |   |
| Item 4.                        |   | Controls and  Procedures                                                                    |   |   |
|                           |   |                                                                                        |
| PART II - OTHER INFORMATION    |   |                                                                                        |
|                           |   |                                                                                        |
| Item 6.  Exhibits              |   |                                                                                        |
|                           |   |                                                                                        |
| SIGNATURES                     |   |                                                                                        |

 

2

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PART I - FINANCIAL INFORMATION

 

**Item 1. Consolidated Financial Statements**

 

**CELLU TISSUE HOLDINGS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)**

 
| ** **                                                 | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                 | ** ** | **May 26**             | ** ** | **May 27** | ** ** |
| ** **                                                 | ** ** | **2005**               | ** ** | **2004** | ** ** |
|                                                       |       |                   |       |   |   |
| Net sales                                                  |       | $                      | 77,643,998 |   | $ | 78,784,184 |   |
| Cost of goods sold                                         |       | 70,749,438             |       | 69,830,515 |   |
| Gross profit                                               |       | 6,894,560              |       | 8,953,669 |   |
|                                                       |       |                   |       |   |   |
| Selling, general and administrative  expenses              |       | 3,026,202              |       | 3,622,998 |   |
| Compensation from redemption of stock  options             |       |                   |       | 3,414,441 |   |
| Accelerated vesting of stock options - non  cash           |       |                   |       | 240,775 |   |
| Amortization of intangibles                                |       | 339,273                |       | 356,487 |   |
| Income from operations                                     |       | 3,529,085              |       | 1,318,968 |   |
|                                                       |       |                   |       |   |   |
| Write-off of debt issuance costs and  prepayment penalties |       |                   |       | 3,318,495 |   |
| Interest expense, net                                      |       | 3,793,840              |       | 3,889,753 |   |
| Foreign currency gain                                      |       | (99,619                | )          | (16,057 | ) |
| Other (income) expense                                     |       | 4,386                  |       | (600 | ) |
| Loss before income tax                                     |       | (169,522               | )          | (5,872,623 | ) |
|                                                       |       |                   |       |   |   |
| Income tax benefit                                         |       | (59,350                | )          | (4,874,277 | ) |
| Net loss                                                   |       | $                      | (110,172   | ) | $ | (998,346 | ) |

 

See accompanying notes to consolidatedfinancial statements.

 

3

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**CELLU TISSUE HOLDINGS, INC. AND SUBSIDIARIES**

**CONSOLIDATED BALANCE SHEETS**

 
| ** **                                                                                | ** ** | **May 26**      | ** **  | **February 28** | ** ** |
|-------------------------------------------------------------------------------------------|------------|-----------------|-------------|-----------------|------------|
| ** **                                                                                | ** ** | **2005**        | ** **  | **2005**        | ** ** |
| ** **                                                                                | ** ** | **(Unaudited)** | ** **  | ** **      | ** ** |
| **ASSETS**                                                                                |       |            |        |            |       |
| CURRENT ASSETS:                                                                           |       |            |        |            |       |
| Cash and cash equivalents                                                                 |       | $               | 16,886,386  |            | $          | 26,959,029 |   |
| Receivables, net                                                                          |       | 36,070,689      |        | 35,786,666      |       |
| Inventories                                                                               |       | 30,225,958      |        | 24,601,068      |       |
| Prepaid expenses and other current assets                                                 |       | 3,180,170       |        | 3,499,414       |       |
| Deferred income taxes                                                                     |       | 1,024,084       |        | 1,294,851       |       |
| TOTAL CURRENT ASSETS                                                                      |       | 87,387,287      |        | 92,141,028      |       |
| PROPERTY, PLANT AND EQUIPMENT, NET                                                        |       | 97,308,533      |        | 97,314,590      |       |
| DEBT ISSUANCE COSTS                                                                       |       | 6,830,098       |        | 7,167,718       |       |
| GOODWILL                                                                                  |       | 13,723,935      |        | 13,723,935      |       |
| OTHER ASSETS                                                                              |       | 196,562         |        | 190,220         |       |
| TOTAL ASSETS                                                                              |       | $               | 205,446,415 |            | $          | 210,537,491 |   |
|                                                                                      |       |            |        |            |       |
| **LIABILITIES AND STOCKHOLDERS’  EQUITY(DEFICIENCY)**                                |       |            |        |            |       |
| CURRENT LIABILITIES:                                                                      |       |            |        |            |       |
| Accounts payable                                                                          |       | $               | 21,325,273  |            | $          | 18,974,022 |   |
| Accrued expenses                                                                          |       | 12,807,619      |        | 15,156,693      |       |
| Accrued interest                                                                          |       | 3,271,549       |        | 7,416,122       |       |
| Current portion of long-term debt                                                         |       | 290,000         |        | 270,000         |       |
| TOTAL CURRENT LIABILITIES                                                                 |       | 37,694,441      |        | 41,816,837      |       |
| LONG-TERM DEBT, LESS CURRENT PORTION                                                      |       | 160,561,788     |        | 160,790,288     |       |
| DEFERRED INCOME TAXES                                                                     |       | 14,818,599      |        | 15,280,376      |       |
| OTHER LIABILITIES                                                                         |       | 229,658         |        | 235,780         |       |
| STOCKHOLDERS’ EQUITY (DEFICIENCY):                                                   |       |            |        |            |       |
| Common stock, $.01 par value, 1,000 shares authorized,  100 shares issued and outstanding |       | 1               |        | 1               |       |
| Capital in excess of par value                                                            |       | 533,551         |        | 533,551         |       |
| Accumulated earnings (deficit)                                                            |       | (9,166,577      | )           | (9,056,405      | )          |
| Accumulated other comprehensive income                                                    |       | 774,954         |        | 937,063         |       |
| TOTAL STOCKHOLDERS’ EQUITY(DEFICIENCY)                                               |       | (7,858,071      | )           | (7,585,790      | )          |
| TOTAL LIABILITIES AND STOCKHOLDERS’  EQUITY(DEFICIENCY)                              |       | $               | 205,446,415 |            | $          | 210,537,491 |   |

 

Seeaccompanying notes to consolidated financial statements.

 

4

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**CELLU TISSUE HOLDINGS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)**

 
| ** **                                                                                 | ** ** | **Three Months Ended** | ** ** |
|--------------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                                 | ** ** | **May 26**             | ** ** | **May 27** | ** ** |
| ** **                                                                                 | ** ** | **2005**               | ** ** | **2004** | ** ** |
| **Cash flows from operating activities**                                                   |       |                   |       |   |   |
| Net loss                                                                                   |       | $                      | (110,172   | ) | $ | (998,346 | ) |
| Adjustments to reconcile net loss to net  cash (used in) provided by operating activities: |       |                   |       |   |   |
| Write-off of debt issuance costs-noncash                                                   |       |                   |       | 2,894,868 |   |
| Accelerated vesting of stock  options-noncash                                              |       |                   |       | 240,775 |   |
| Deferred income taxes                                                                      |       | (191,010               | )          |   |   |
| Accretion of debt discount                                                                 |       | 71,500                 |       | 72,322 |   |
| Amortization of intangibles                                                                |       | 339,273                |       | 356,487 |   |
| Depreciation                                                                               |       | 4,009,424              |       | 3,619,670 |   |
| Stock-based compensation                                                                   |       |                   |       | 146,248 |   |
| Changes in operating assets and  liabilities:                                              |       |                   |       |   |   |
| Receivables                                                                                |       | (284,023               | )          | 1,509,495 |   |
| Inventories                                                                                |       | (5,624,890             | )          | 1,484,003 |   |
| Prepaid expenses and other current assets                                                  |       | 319,244                |       | (4,670,910 | ) |
| Other                                                                                      |       | (12,464                | )          | 829 |   |
| Accounts payable, accrued expenses and  accrued interest                                   |       | (4,142,396             | )          | (2,709,666 | ) |
| Total adjustments                                                                          |       | (5,515,342             | )          | 2,944,121 |   |
| *Net cash (used in) provided by operating  activities*                                     |       | (5,625,514             | )          | 1,945,775 |   |
|                                                                                       |       |                   |       |   |   |
| **Cash flows from investing activities**                                                   |       |                   |       |   |   |
| Capital expenditures,net                                                                   |       | (4,003,367             | )          | (1,060,228 | ) |
| *Net cash used in investing activities*                                                    |       | (4,003,367             | )          | (1,060,228 | ) |
|                                                                                       |       |                   |       |   |   |
| **Cash flows from financing activities**                                                   |       |                   |       |   |   |
| Payments of long-term debt                                                                 |       | (280,000               | )          | (43,863,541 | ) |
| Proceeds from note offering                                                                |       |                   |       | 160,200,180 |   |
| Payments on revolving line of credit, net                                                  |       |                   |       | (10,953,999 | ) |
| Cash dividends                                                                             |       |                   |       | (96,788,801 | ) |
| Prepayment penalties                                                                       |       |                   |       | (423,627 | ) |
| Debt issuance costs                                                                        |       | (1,653                 | )          | (6,230,653 | ) |
| *Net cash (used in) provided by financing  activities*                                     |       | (281,653               | )          | 1,939,559 |   |
|                                                                                       |       |                   |       |   |   |
| Effect of foreign currency                                                                 |       | (162,109               | )          | (82,558 | ) |
|                                                                                       |       |                   |       |   |   |
| *Net (decrease) increase in cash and cash equivalents*                                     |       | (10,072,643            | )          | 2,742,548 |   |
| *Cash and cash equivalents at beginning of year*                                           |       | 26,959,029             |       | — |   |
| *Cash and cash equivalents at end of period*                                               |       | $                      | 16,886,386 |   | $ | 2,742,548 |   |

 

*See accompanying notes to consolidatedfinancial statements.*

 

5

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**Cellu Tissue Holdings, Inc. and Subsidiaries**

**Notes to Consolidated Financial Statements (Unaudited)**

**May 26, 2005**

** **

**Note 1 Basis of Presentation andSignificant Accounting Policies**

 

The accompanying unaudited interimconsolidated financial statements include the accounts of Cellu TissueHoldings, Inc. and its wholly-owned subsidiaries (the “Company”).  The Company is a wholly-owned subsidiary ofCellu Paper Holdings, Inc. (the “Parent”). These statements have been prepared in accordance with United Statesgenerally accepted accounting principles for interim financial information andwith the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of theinformation and footnotes required by United States generally acceptedaccounting principles for complete financial statements.  In the opinion of management, all adjustments(consisting of normal recurring accruals) considered necessary for a fairpresentation have been included. Operating results for the three-month period ended May 26, 2005 are notnecessarily indicative of the results that may be expected for the fiscal yearending February 28, 2006.  For furtherinformation, refer to the Company’s Annual Report on Form 10-K for the fiscalyear ended February 28, 2005 and the consolidated financial statements andfootnotes thereto as of February 28, 2005 and for the year then ended, fromwhich the consolidated balance sheet at February 28, 2005 has been derived.

 

Reclassification

 

Certain prior year amounts have beenreclassified to conform to the current fiscal year 2006 presentation.

 

Stock Based Compensation

 

The Company accounts for stock options usingthe intrinsic value method under Accounting Principles Board (APB) Opinion No.25, “*Accounting for Stock Issued to Employees”*(“APB No. 25”).  As such, it does not recognize compensationexpense associated with stock options to purchase the Parent’s common stockgranted under the Parent’s stock option plan, if the exercise price is at leastequal to the fair market value of the Parent’s common stock, as determined bythe Board of Directors, at the date granted. If applicable, stock-based compensation costs for stock awards arereflected in operating results over the awards’ vesting period.  If compensation expense for the Parent’sstock options had been determined using the fair value methodology consistentwith the method prescribed by Statement of Financial Standards (SFAS) No. 123,“*Accounting for Stock-Based Compensation”*(“FAS No. 123”), the Company’s netloss would have been adjusted to the pro forma amounts indicated below.

 

6

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| ** **                                                                                                      | ** ** | **For the three months ended** | ** ** |
|-----------------------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                                      | ** ** | **May 26, 2005**               | ** ** | **May 27, 2004** | ** ** |
| ** **                                                                                                      | ** ** | ** **                     | ** ** | ** ** | ** ** |
| Net loss, as reported                                                                                           |       | $                              | (110,172   | ) | $ | (998,346 | ) |
| Add: stock-based employee compensation  expense included in reported net loss, net of related tax effects       |       |                           |       | 621,387 |   |
| Less: stock-based employee compensation  expense determined under fair value method, net of related tax effects |       | (25,829                        | )          | (113,775 | ) |
| Pro forma net loss, fair value method                                                                           |       | $                              | (136,001   | ) | $ | (490,734 | ) |

 

Pro forma compensation expense related to thestock options is generally recognized over the vesting period.  The vesting period used for all periods presentedis three years.  The fair value of eachoption grant was estimated on the date of grant using the Black-Scholes optionpricing model with the following weighted average assumptions:  risk-free interest rate of 4.16%, expectedlives of 4 years, zero dividend payments and no volatility.

 

In connection with the Company’s debttransaction (Note 4) in the three-month period ended May 27, 2004, the Companyaccelerated vesting of all unvested employee stock options.  As a result thereof, the APB No. 25 expensefor the three months ended May 27, 2004 recognized in the table above is largerthan the expense calculated under FAS No. 123 as the expense associated withthe accelerated vesting and cash paid for redemption of stock options wouldhave been previously recognized if FAS No. 123 had been applied from the dateof grant.

 

The Company may need to recognize additionalcompensation expense should management’s estimate of the number of employeesthat will actually benefit from the accelerated vesting of the options need tobe adjusted.  The Company has estimatedand recognized $.2 million of expense in the three-month period ended May 27,2004, associated with employees that actually benefited from the acceleratedvesting of the stock options.  TheCompany will update its estimate each reporting period and adjust the totalexpense recognized until the original vesting period associated with the stockoptions has expired.

 

7

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Recent Accounting Pronouncements

 

In November 2004, the FASB issued SFAS No.151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4 “(SFAS 151).  SFAS 151 clarifies the accounting forabnormal amounts of idle facility expense, freight, handling costs andspoilage.  In addition, SFAS 151 requiresthat allocation of fixed production overhead to the costs of conversion bebased on normal capacity of the production facilities.  The provisions of SFAS 151 are effective forinventory costs incurred during fiscal years beginning after June 15, 2005.  The Company expects the adoption of SFAS 151will not have a material impact on its results of operations and financialposition.

 

In December 2004, the FASB issued SFAS No.153, “Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29” (SFAS153).  SFAS 153 amends the guidance inAPB Opinion No. 29, “Accounting for Nonmonetary Transactions” by replacing theexception from fair value measurement for nonmonetary exchanges of similarproductive assets with an exception for exchanges that do not have commercialsubstance.  SFAS 153 specifies that anonmonetary exchange has commercial substance if the future cash flows of theentity are expected to change significantly as a result of the exchange.  The provisions of SFAS 153 are effective fornonmonetary asset exchanges occurring in fiscal years beginning after June 15,2005.  The Company expects the adoptionof SFAS 153 will not have a material impact on its results of operations andfinancial position.

 

In December 2004, the FASB issued StatementNo. 123 (revised), “Share-Based Payment” (SFAS 123R), which is a revision ofFASB Statement No. 123, “Accounting for Stock-Based Compensation.”  SFAS 123R supersedes Accounting PrinciplesBoard Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25) andamends FASB Statement No. 95, “Statement of Cash Flows.”  Although the approach to quantifyingstock-based compensation expense in SFAS 123R is similar to SFAS 123, therevised statement requires all share-based payments to employees, including grantsof employee stock options, to be recognized as an expense in the consolidatedstatements of operations based on their fair values as they are earned by theemployees under the vesting terms.  Proforma disclosure of stock-based compensation expense, as is the Company’spractice under SFAS 123, will not be permitted commencing with fiscal year2007, since SFAS 123R must be adopted by the Company at the beginning of thefirst annual period beginning after December 15, 2005.    The Company is still evaluating whether itwill follow the “modified prospective” method of adoption of SFAS 123R, wherebyearnings for prior periods will not be restated as though stock-based

 

8

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compensation had been expensed, or the“modified retrospective” method of adoption, which would entail restatements ofpreviously published earnings.

 

As permitted by SFAS 123, the Companycurrently accounts for stock-based compensation to employees under the APB 25intrinsic value method and generally recognizes no compensation cost foremployee stock options.  Accordingly, theadoption of the SFAS 123R fair value method will impact the Company’s resultsof operations.  The impact of adoption ofSFAS 123R will depend on levels of share-based compensation granted in thefuture and the fair value assigned thereto.  As permitted by SFAS 123, the Company uses the actual forfeituresmethod, whereby pro forma compensation expense is reduced only when options areforfeited.  Under SFAS 123R, the estimatedforfeiture method is required, such that expected future forfeitures will bereflected as a reduction of stock-based compensation expense.  However, under SFAS 123R, reduction ofcompensation expense is not permitted if a vested share-based payment is laterforfeited, as would occur when an out-of-the money stock option is surrenderedby a resigning employee.

 

In December 2004, the FASB issued FASB StaffPosition No. FAS 109-1 (“FAS 109-1”), “Application of FASB Statement No. 109,“Accounting for Income Taxes, to the Tax Deduction on Qualified ProductionActivities provided by the American Jobs Creation Act of 2004.”  The American Jobs Creation Act, or AJCA,introduces a special 9% tax deduction when fully phased in on qualifiedproduction activities. FAS 109-1 clarifies that this tax deduction should beaccounted for as a special tax deduction in accordance with Statement 109.  The Company has determined that the amount ofthe special deduction for fiscal year 2006 will not have a significant impact onthe effective tax rate for the fiscal year.

 

9

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**Note 2 Inventories**

 

Components of inventories are as follows:

 
| ** **                       | ** ** | **May 26, 2005** | ** ** | **February 28, 2005** | ** ** |
|----------------------------------|------------|------------------|------------|-----------------------|------------|
|                             |       |             |       |                  |       |
| Finished goods                   |       | $                | 18,255,350 |                  | $          | 14,028,875 |   |
| Raw materials                    |       | 4,419,956        |       | 3,910,698             |       |
| Packaging materials and supplies |       | 7,654,486        |       | 6,740,649             |       |
|                             |       | 30,329,792       |       | 24,680,222            |       |
| Inventory reserves               |       | (103,834         | )          | (79,154               | )          |
|                             |       | $                | 30,225,958 |                  | $          | 24,601,068 |   |

 

**Note 3 Debt Issuance Costs**

 

Debt issuance costs consist of the following:

 
| ** **                    | ** ** | **May 26, 2005** | ** ** | **February 28, 2005** | ** ** |
|-------------------------------|------------|------------------|------------|-----------------------|------------|
|                          |       |             |       |                  |       |
| Debt issuance costs           |       | $                | 8,541,986  |                  | $          | 8,540,333 |   |
| Less accumulated amortization |       | (1,711,888       | )          | (1,372,615            | )          |
|                          |       | $                | 6,830,098  |                  | $          | 7,167,718 |   |

 

**Note 4 Long-Term Debt**

 

Long-term debt consists of the following:

 
| ** **                                                                                                      | ** ** | **May 26, 2005** | ** **  | **February 28, 2005** | ** ** |
|-----------------------------------------------------------------------------------------------------------------|------------|------------------|-------------|-----------------------|------------|
| 9 3/4 % senior  secured notes due 2010                                                                          |       | $                | 162,000,000 |                  | $          | 162,000,000 |   |
| Less discount                                                                                                   |       | (1,438,212       | )           | (1,509,712            | )          |
|                                                                                                            |       | 160,561,788      |        | 160,490,288           |       |
| Industrial revenue bond payable, in annual  installments, plus interest ranging from 4.8% to 6.65%, due in 2006 |       | 290,000          |        | 570,000               |       |
|                                                                                                            |       | 160,851,788      |        | 161,060,288           |       |
| Less current portion of debt                                                                                    |       | 290,000          |        | 270,000               |       |
|                                                                                                            |       | $                | 160,561,788 |                  | $          | 160,790,288 |   |

 

10

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In March 2004, the Company completed a Rule144A offering of $162.0 million principal amount of 9 3⁄4% senior secured notesdue 2010 (the “Notes”).  The Companyraised $152.2 million, net of debt issuance costs of $8.0 million and originalissuance discount of $1.8 million.  Atthe same time, the Company entered into a new $30.0 million revolving workingcapital facility with CIT Group/Business Credit Inc.  A portion of the proceeds, along with adrawdown from the new working capital facility, were used to pay-off existingdebt of approximately $56.0 million. Furthermore, the Company used approximately $100.2 million of theproceeds to fund a stockholder dividend to its Parent to repurchase a portionof its common stock and warrants and compensation from the redemption of stockoptions ($3.4 million).  As a result ofthe extinguishment of debt, approximately $2.9 million of debt issuance costspreviously capitalized were written-off and the Company incurred approximately$.4 million in prepayment penalties.  Thetotal amount of $3.3 million is reflected as write-off of debt issuance costsand prepayment penalties on the fiscal year 2004 statement of operations.

 

The Notes mature on March 15, 2010 andrequire semi-annual interest payments on March 15 and September 15, which commencedon September 15, 2004.   The Notes arecollateralized by a senior secured interest in substantially all of theCompany’s assets.  Terms of the indentureunder which the Notes have been issued contain certain covenants, includinglimitations on certain restricted payments and the incurrence of additionalindebtedness.  The Notes areunconditionally guaranteed by all of the Company’s subsidiaries.

 

As of May 26, 2005, there were no outstandingborrowings under the working capital facility.

 

**Note 5 Stockholders’ Equity(Deficiency)**

 

The Company used approximately $96.8 millionof the proceeds from the offering of the Notes to fund a stockholder dividendto the Parent to purchase shares of the Parent’s common stock andwarrants.  Approximately $66.2 millionwas charged to capital in excess of par value, reducing this balance to zeroand the remaining $30.6 million was charged to accumulated earnings, resultingin a deficiency.

 

11

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**Note 6Comprehensive Loss**

 

The components of comprehensive loss for thethree months ended May 26, 2005 and May 27, 2004 are as follows:

 
| ** **                               | ** ** | **Three months ended** | ** ** |
|------------------------------------------|------------|------------------------|------------|
| ** **                               | ** ** | **May 26, 2005**       | ** ** | **May 27, 2004** | ** ** |
| Net loss                                 |       | $                      | (110,172   | ) | $ | (998,346 | ) |
| Foreign currency translation adjustments |       | (162,109               | )          | (82,558 | ) |
| Comprehensive loss                       |       | $                      | (272,281   | ) | $ | (1,080,904 | ) |

 

**Note 7 Business Segments**

 

The Company operates in two reportablebusiness segments:  tissue andmachine-glazed paper.  The Companyassesses the performance of its reportable business segments using income fromoperations.  Income from operationsexcludes interest income, interest expense, income tax expense (benefit),write-off of debt issuance costs and prepayment penalties and the impact offoreign currency gains and losses.   Aportion of corporate and shared expenses is allocated to each segment.  There are no sales between segments.

 
| ** **           | ** ** | **Three months ended** | ** ** |
|----------------------|------------|------------------------|------------|
| ** **           | ** ** | **May 26, 2005**       | ** ** | **May 27, 2004** | ** ** |
| **Net Sales**        |       |                   |       |   |   |
| Tissue               |       | $                      | 56,071,692 |   | $ | 55,012,605 |   |
| Machine-glazed paper |       | 21,572,306             |       | 23,771,579 |   |
| Consolidated         |       | $                      | 77,643,998 |   | $ | 78,784,184 |   |

 

12

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| ** **                                                 | ** ** | **Three months ended** | ** ** |
|------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                 | ** ** | **May 26, 2005**       | ** ** | **May 27, 2004** | ** ** |
| **Income from operations**                                 |       |                   |       |   |   |
| Tissue                                                     |       | $                      | 2,578,713  |   | $ | 1,372,401 |   |
| Machine-Glazed Paper                                       |       | 1,289,645              |       | 303,054 |   |
| Corporate amortization of intangibles                      |       | (339,273               | )          | (356,487 | ) |
| Consolidated                                               |       | 3,529,085              |       | 1,318,968 |   |
| Write-off of debt issuance costs and  prepayment penalties |       |                   |       | (3,318,495 | ) |
| Interest expense                                           |       | (3,846,587             | )          | (3,892,401 | ) |
| Net foreign currency transaction gain                      |       | 99,619                 |       | 16,057 |   |
| Interest income                                            |       | 52,747                 |       | 2,648 |   |
| Other (expense) income                                     |       | (4,386                 | )          | 600 |   |
| Pretax loss                                                |       | $                      | (169,522   | ) | $ | (5,872,623 | ) |
|                                                       |       |                   |       |   |   |
| **Capital Expenditures**                                   |       |                   |       |   |   |
| Tissue                                                     |       | $                      | (3,412,250 | ) | $ | (938,931 | ) |
| Machine-Glazed Paper                                       |       | (191,606               | )          | (53,788 | ) |
| Corporate                                                  |       | (399,511               | )          | (67,509 | ) |
| Consolidated                                               |       | $                      | (4,003,367 | ) | $ | (1,060,228 | ) |
| ** **                                                 |       |                   |       |   |   |
| **Depreciation**                                           |       |                   |       |   |   |
| Tissue                                                     |       | $                      | 2,584,309  |   | $ | 2,250,594 |   |
| Machine-Glazed Paper                                       |       | 1,425,115              |       | 1,369,076 |   |
|                                                       |       | $                      | 4,009,424  |   | $ | 3,619,670 |   |

 

**Note 8 Income Taxes**

 

The effective income tax benefit for thethree months ended May 26, 2005 was 35% compared to an 83% tax benefit for thethree months ended May 27, 2004.  The 83%tax benefit in the prior year primarily related to book to tax permanentdifferences generated due to the offering of the Notes, which occurred in thefirst quarter of the prior year.

 

In October 2004, the American Jobs CreationAct of 2004 (the “Act”) was signed into law. The Act creates a temporary incentive for U.S. corporations torepatriate foreign

 

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earnings by providing an 85 percent dividendsreceived deduction for certain dividends from controlled foreigncorporations.  The deduction is subjectto a number of limitations and, at present, significant uncertainty remainswith respect to interpretation of numerous provisions in the Act.  As such, the Company is awaiting the issuanceof further regulatory guidance and passage of statutory technical corrections withrespect to certain provisions in the Act prior to determining the amounts, ifany, it will repatriate and expects to be in a position to finalize itsassessment during fiscal year 2006.

 

**Note 9 Subsequent Events**

 

On June 14, 2005, the Parent entered into anAgreement and Plan of Merger with an affiliate of Kohlberg & Company, a Mt.Kisco, New York-based private equity firm (“Kohlberg”), pursuant to whichKohlberg will acquire the Parent for total consideration (including assumptionof debt) of approximately $276 million, subject to certain adjustments.  Kohlberg plans to effect the acquisition bycombining the operation of the Company with Thilmany, LLC (“Thilmany”), thenewly named business which Kohlberg recently purchased from International PaperCompany and which will become a wholly owned subsidiary of the Company.  Thilmany manufactures and convertslightweight packaging, pressure-sensitive and industrial papers, such aslaminations, grease-resistant packaging, interleaving applications,pressure-sensitive and medical products.  As part of the financing of the acquisition, Kohlberg intends to leavethe Company’s existing $162 million of Notes outstanding, subject to the rightof noteholders to put the Notes to the Company at a price of 101%.  In addition, Kohlberg and other investorswill contribute approximately $120 million of equity to support the acquisitionsof Thilmany and the Company.

 

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**Item2.  MANAGEMENT’S DISCUSSION AND ANALYSISOF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

**OVERVIEW**

Certain statements contained in thisQuarterly Report on Form 10-Q may contain forward-looking statements within themeaning of Section 27A of the Securities Act of 1933, as amended, and Section21E of the Securities and Exchange Act of 1934, as amended, and as such, mayinvolve known or unknown risks, uncertainties and other factors which may causeour actual results, performance or achievements to be materially different fromfuture results, performance or achievements expressed or implied by suchforward-looking statements. Forward-looking statements, which are based on certain assumptions anddescribe our future plans, strategies and expectations are generallyidentifiable by use of the words “may,” “will,” “should,” “expect,”“anticipate,” “estimate”, “believe”, “intend”, “project”, or comparableterminology.  Factors which could have amaterial adverse effect on our operations and future prospects include, but arenot limited to, those set forth in Forward-Looking Statements in our AnnualReport on Form 10-K for our fiscal year ended February 28, 2005.  These risks and uncertainties should beconsidered in evaluating any forward-looking statements contained herein.

 

We manufacture and market a variety ofspecialty tissue hard rolls and machine-glazed paper used in the manufacture ofvarious end products, including diapers, facial and bath tissue, assorted papertowels and food wraps.  In addition, weproduce a variety of converted tissue products.

 

We operate in two reportable businesssegments:  tissue and machine-glazedpaper.  We assess the performance of ourreportable business segments using income from operations.  Income from operations excludes interestincome, interest expense, income tax expense (benefit), write-off of debtissuance costs and prepayment penalties, and the impact of foreign currencygains and losses.

 

**RESULTS OF OPERATIONS**

 

**Results of Operations for theThree Months Ended May 26, 2005 (the fiscal 2006 three-month period) comparedto the Three Months Ended May 27, 2004 (the fiscal 2005 three-month period)**

 

**Net sales** for the fiscal 2006 three-month perioddecreased $1.1 million, or 1.4%, to****$77.6****million from $78.7 million for the comparable period in theprior year. The decrease in net sales is attributable to one less selling dayin the fiscal 2006 three-month period and a decrease in volume sold from theprior year. ** **Forthe fiscal 2006 three-month period, we sold 61,802 tons of tissue hard rolls,machine-glazed paper hard rolls and converted paper products.  This is a decrease of 5,036 tons, or 7.5%,from the comparable period in the prior year. Volume sold for our machine-glazed business decreased due to ourconscious effort to shift production from machine-glazed products to tissueproducts and delayed timing of expectedsales resulting from trial work with a major customer.  Additionally, our deep color napkin businessbenefited in the fiscal

 

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2005three-month period from a major competitive mill being shut down.  In the fiscal 2006 three-month period, thiscompetitor returned to the market and our deep color napkin volumes were backto more traditional first quarter levels. Partially offsetting the decrease in volume sold for the fiscal 2006three-month period over the prior year, is an increase in net sale price perton from $1,179 for the fiscal 2005 three-month period to $1,256 for the fiscal2006 three-month period.  This increaseis due to both favorable mix (more converted product sales) and priceincreases.

 

Net sales for our tissue segment for thefiscal 2006 three-month period were $56.1 million, an increase of $1.1 million,or 1.9%, from the comparable period in the****prioryear.  Net sales for our machine-glazedsegment for the 2006 three-month period were****$21.5million, a decrease of $2.2 million, or 9.3%,****fromthe comparable period in the prior year.

 

**Gross profit** for the fiscal 2006 three-month perioddecreased to $6.9 million from $9.0 million, a decrease of $2.1 million, or23.0%, from the comparable period in the prior****year. As a percentage of net sales, grossprofit decreased to 8.9% in the fiscal 2006 three-month period from 11.4% inthe fiscal 2005 three-month period. ** **The decrease in gross profit in thefiscal 2006 three-month period was primarily attributable to the unfavorablemix caused by the decrease in deep color napkins, the decrease inmachine-glazed volume sold and a 30% increase per ton in energy costs over thecomparable period in the prior year.

 

Gross profit for our tissue segment for thefiscal 2006 three-month period was $4.6 million, a decrease of $1.6 million, or25.8%, from the comparable period in the prior year.  Gross profit for our machine-glazed segmentfor the fiscal 2006 three-month period was $2.3 million, a decrease of $.5million, or 17.9%, from the comparable period in the prior year.  As a percentage of net sales, gross profitfor the tissue segment decreased to 8.2% in the fiscal 2006 three-month periodfrom 11.2 % in the fiscal 2005 three-month period.  As a percentage of net sales, gross profitfor the machine-glazed segment decreased to 10.7% in the fiscal 2006three-month period from 11.8% in the fiscal 2005 three-month period.  The decrease in gross profit for the tissuesegment was due to the decrease in deep color napkin tons sold, in addition toan increase in utilities costs from the prior year.  The decrease in gross profit for themachine-glazed segment was due to the decrease in tons sold, in addition to anincrease in pulp and utilities costs from the prior year.

 

**Selling, general andadministrative expenses**inthe fiscal 2006 three-month period decreased $.6 million, or 16.5%, to $3.0million from $3.6 million in the fiscal 2005 three-month period.  As a percentage of net sales, selling,general and administrative expenses decreased to****3.9%in the fiscal 2006 three-month period from 4.6% in the fiscal 2005 three-monthperiod.  Included in the fiscal 2005three-month period is the accrual of team bonuses and non-cash compensationexpense related to the vesting of a restricted common stock award to our chiefexecutive officer.  There were no accrualof bonuses in the fiscal 2006 three-month period and no compensation expenserelated to the restricted common stock award as it was fully vested at the endof fiscal year 2005.  Additionally,

 

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we incurred $.2 million in transactionexpenses in the fiscal 2006 three-month period associated with the June 14,2005 announced plan of merger with an affiliate of Kohlberg & Company.

 

**Compensation from the redemptionof stock options and accelerated vesting of stock options**included in the fiscal 2005 three-monthperiod income from operations is $3.7 million; $3.4 million related tocompensation from the redemption of stock options and $.3 million related toaccelerated vesting of certain stock options, both triggered by the offering ofthe Notes completed in March 2004.  Wemay need to recognize additional expense should management’s estimate of thenumber of employees that will actually benefit from the accelerated vesting ofthe options need to be adjusted. Management will update its estimate each reporting period and adjust thetotal expense recognized until the original vesting period associated with theoptions has expired. No such expense was recognized in the fiscal 2006three-month period.

 

**Write-off of debt issuance costsand prepayment penalties**of $3.3 million included in the fiscal 2005 three-month period incomefrom operations was an expense incurred primarily related to the write-off ofdebt issuance costs (non-cash) previously capitalized and associated with debtthat was extinguished in March 2004 with proceeds from the note offering.  No such expense was recognized in the fiscal2006 three-month period.

 

**Income tax benefit** for the fiscal 2006 three-month period was a35% benefit compared to an 83% benefit for the fiscal 2005 three-monthperiod.  The 83% tax benefit in the prioryear primarily related to book to tax permanent differences generated due tothe offering of the Notes, which occurred in the prior year.  While we incurred a loss in the fiscal 2006three-month period and therefore recognized a tax benefit, we expect to havetaxable income for the year ending February 28, 2006 and, accordingly, expectto recognize tax expense for the year.

 

**Net loss**for the fiscal 2006 three-month period was anet loss of $.1 million, compared to net loss of $1.0 million for thecomparable period in the prior year.

 

**FINANCIAL CONDITION**

 

**Liquidity and Capital Resources**

 

**Net cash used in operations** was $5.6 million for the fiscal 2006three-month period, compared to net cash provided by operations of $1.9 millionfor the fiscal 2005 three-month period.  Significantnon-cash items included in the comparable period in the prior fiscal year are$2.9 million for the write-off of debt issuance costs and $.2 million relatedto accelerated vesting of stock options, which are related to the $162.0million Notes offering completed in the fiscal 2005 three-month period.  Net of these items, non-cash items for thefiscal 2005 three-month period totaled $4.1 million compared to $4.2 millionfor the 2006 fiscal three-month period.  Cashflows used by changes in working capital totaled $9.7 million for the fiscal2006 three-month period, compared to $4.4

 

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million in the fiscal 2005 three-monthperiod. ** **Withrespect to the changes in accounts receivable and inventory, cash used by theseitems was $5.9 million for the current fiscal three-month period compared tocash provided by these items of $3.0 million for the comparable period in theprior fiscal year.  This shift isprimarily attributable to increased inventory levels in the fiscal 2006three-month period.  This inventorygrowth is comprised of $4.2 million in finished goods as inventory levelsincreased 5 days to 22 days of inventory and a work-in process inventoryincrease of $.9 million to support a major customer’s request for greater salesin the second and third quarter of fiscal 2006. Cash****providedby changes in prepaid expenses and other current assets was $.3 million for thefiscal 2006 three-month period compared to cash used of $4.7 million for thecomparable period in the prior fiscal year. The fluctuation is primarily the result of the significant tax benefitgenerated in the fiscal 2005 three-month period. ** **Cash used by changes in accountpayable, accrued expenses and accrued interest for the fiscal 2006 three-monthperiod was $4.1 million compared to cash used of $2.7 million for thecomparable period in the prior year.  Thefluctuation is primarily due to the payment of bonuses and interest paymentsrelative to the Notes in the fiscal 2006 three-month period.

 

**Net cash used in investingactivities** for thefiscal 2006 three-month period was $4.0****millioncompared to $1.1 million for the fiscal 2005 three-month period.  The change relates to the level of capitalspending period over period.

 

**Net cash used in financingactivities** for thefiscal 2006 three-month period was $.3****million comparedto net cash provided by financing activities of $1.9 million for the fiscal2005 three-month period.  Net cash usedin the fiscal 2006 three-month period relates primarily to payments on ourindustrial revenue bond. In the comparable period in the prior fiscal year,proceeds, net of $2.0 million of original issue discount, from the Noteoffering (see discussion below) of $160.2 million were offset by net paymentson long-term debt and the revolving line of credit of $43.8 million and $11.0million, respectively, $96.8 million to fund dividends to our parent topurchase shares of our parent’s common stock and warrants, prepayment penaltiesof $.4 million and debt issuance costs of $6.2 million.

 

In March 2004, we completed a Rule 144Aoffering of $162.0 million aggregate principle amount of Notes due 2010.  We raised $152 million, net of debt issuancecosts of $8.0 million and original issuance discount of $2.0 million.  At the same time, we entered into a new $30.0million revolving working capital facility with CIT Group/Business Credit Inc.A portion of the proceeds, along with a drawdown from the new working capitalfacility, were used to pay-off existing debt of approximately $56.0million.  As a result of theextinguishment of debt, approximately $2.9 million of debt issuance costspreviously capitalized were written-off and we incurred approximately $.4million in prepayment penalties.  Thetotal amount of $3.3 million is reflected as write-off of debt issuance costsand prepayment penalties on the fiscal year 2005 statement of operations.

 

The Notes mature on March 15, 2010 andrequire semi-annual interest payments on March 15 and September 15, whichcommenced on September 15, 2004.

 

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As of May 26, 2005, there were no outstandingborrowings under the working capital facility.

 

As a result of the Notes offering describedabove, the vesting of certain stock options was accelerated and certain stockoptions were redeemed.  Accordingly, weincurred approximately $3.7 million of compensation expense.  Furthermore, we used approximately $100.2million of the proceeds of the Rule 144A offering of the Notes to fund astockholder dividend to our parent to purchase shares of our parent’s commonstock and warrants and fund compensation from the redemption of employee stockoptions.

 

**Cash**as of May 26, 2005 decreased to $16.9 millionfrom $27.0 million as of the end of the fiscal year ended February 28, 2005, orfiscal year 2005.  The decrease in ourcash position was primarily due to the semi-annual interest payment on theNotes and the cash used by operations in the fiscal 2006 three-month period.

 

**Inventory**as of May 26, 2005 increased to $30.2 millionfrom $24.6 million as of the end of fiscal year 2005 for reasons previouslydiscussed.

 

**Accounts payable**as of May 26, 2005 increased to $21.3 millionfrom $19.0 million as of the end of fiscal year 2005.  The increase was attributable to the timingof payments.

 

**Accrued expenses**as of May 26, 2005 decreased to $12.8 millionfrom $15.2 million as of the end of fiscal year 2006 due primarily to thepayment of bonuses in the fiscal 2006 three-month period that were earned infiscal year 2005.

 

**Accrued interest**as of May 26, 2005 decreased to $3.3 millionfrom $7.4 million as of the end of fiscal year 2005 due to the timing(semi-annual) of interest payments on the Notes.

 

**Stockholders’ deficiency**as of May 26, 2005 increased to $7.9 millioncompared to $7.6 million as of the end of fiscal year 2005.   The increase was a result of the net lossgenerated for the fiscal 2006 three-month period and the decrease inaccumulated other comprehensive income due to the decrease in Canadian exchangerates for the fiscal 2006 three-month period.

 

Critical Accounting Policies

 

Our critical accounting policies arediscussed in Management’s Discussion and Analysis of Financial Condition andResults of Operations in our Annual Report on Form 10-K for the fiscal yearended February 28, 2005.  The preparationof our financial statements requires us to make estimates that affect thereported amounts of assets, liabilities, revenue and expenses and relateddisclosures of contingent assets and liabilities.  We base our accounting estimates on historicalexperience and other factors that we believe to be reasonable under thecircumstances.  However, actual resultsmay vary from these estimates under different assumptions or conditions.

 

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New Accounting Pronouncements

 

In November 2004, the FASB issued SFAS No.151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4 “(SFAS 151).  SFAS 151 clarifies the accounting forabnormal amounts of idle facility expense, freight, handling costs andspoilage.  In addition, SFAS 151 requiresthat allocation of fixed production overhead to the costs of conversion bebased on normal capacity of the production facilities.  The provisions of SFAS 151 are effective forinventory costs incurred during fiscal years beginning after June 15, 2005. Weexpect the adoption of SFAS 151 will not have a material impact on our resultsof operations and financial position.

 

In December 2004, the FASB issued SFAS No.153, “Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29”(SFAS 153).  SFAS 153 amends the guidancein APB Opinion No. 29, “Accounting for Nonmonetary Transactions” by replacingthe exception from fair value measurement for nonmonetary exchanges of similarproductive assets with an exception for exchanges that do not have commercialsubstance.  SFAS 153 specifies that anonmonetary exchange has commercial substance if the future cash flows of theentity are expected to change significantly as a result of the exchange.  The provisions of SFAS 153 are effective fornonmonetary asset exchanges occurring in fiscal years beginning after June 15,2005.  We expect the adoption of SFAS 153will not have a material impact on our results of operations and financialposition.

 

In December 2004, the FASB issued StatementNo. 123 (revised), “Share-Based Payment” (SFAS 123R), which is a revision ofFASB Statement No. 123, “Accounting for Stock-Based Compensation.”  SFAS 123R supersedes Accounting PrinciplesBoard Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25), andamends FASB Statement No. 95, “Statement of Cash Flows.”  The approach to quantifying stock-basedcompensation expense in SFAS 123R is similar to SFAS 123.  However, the revised statement requires allshare-based payments to employees, including grants of employee stock options,to be recognized as an expense in the consolidated statements of operationsbased on their fair values as they are earned by the employees under thevesting terms.  Pro forma disclosure ofstock-based compensation expense, as is our practice under SFAS 123, will notbe permitted commencing with fiscal year 2007, since SFAS 123R must be adoptedby us at the beginning of the first annual period beginning after December 15,2005.  We are still evaluating whether wewill follow the “modified prospective” method of adoption of SFAS 123R wherebyearnings for prior periods will not be restated as though stock-basedcompensation had been expensed, or the “modified retrospective” method ofadoption, which would entail restatements of previously published earnings.

 

As permitted by SFAS 123, we currentlyaccount for stock-based compensation to employees under the APB 25 intrinsicvalue method and generally recognize no compensation cost for employee stockoptions.  Accordingly, the adoption ofthe SFAS 123R fair value method will impact our results of operations.  The impact of adoption of SFAS 123R willdepend on levels of share-based compensation granted in the future and

 

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the fair value assigned thereto.  As permitted by SFAS 123, we use the actualforfeitures method whereby pro forma compensation expense is reduced only whenoptions are forfeited.  Under SFAS 123R,the estimated forfeiture method is required such that expected futureforfeitures will be reflected as a reduction of stock-based compensationexpense.  However, under SFAS 123R,reduction of compensation expense is not permitted if a vested share-basedpayment is later forfeited, as would occur when an out-of-the money stockoption is surrendered by a resigning employee.

 

In December 2004, the FASB issued FASB StaffPosition No. FAS 109-1 (“FAS 109-1”), “Application of FASB Statement No. 109,“Accounting for Income Taxes, to the Tax Deduction on Qualified ProductionActivities provided by the American Jobs Creation Act of 2004.”  The American Jobs Creation Act, or AJCA,introduces a special 9% tax deduction when fully phased in on qualifiedproduction activities. FAS 109-1 clarifies that this tax deduction should beaccounted for as a special tax deduction in accordance with Statement 109.  We have determined that the amount of thespecial deduction for fiscal year 2006 will not have a significant impact onthe effective tax rate for the fiscal year.

 

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**Item 3. Quantitative and Qualitative Disclosuresabout Market Risk**

 

In March 2004, the Company completed a Rule144A offering of $162 million aggregate principle amount of 9 3⁄4% senior securednotes due 2010.  At the same time, theCompany entered into a new $30 million revolving working capital facility.  The Company raised approximately $152million, net of debt issuance costs and original discount on the notes.  The proceeds, along with a drawdown from thenew revolver, were used to pay off existing debt of approximately $56 millionand to fund a stockholder dividend to the Company’s parent to purchase sharesof its common stock and warrants and fund compensation from the redemption ofemployee stock options of $100.2 million. As a result of these transactions, the Company is highly leveraged.  As of May 26, 2005, there were no borrowingson the new working capital facility, but the Company has the ability to borrowfunds under this facility up to an aggregate of $30 million and could beadversely affected by a significant increase in interest rates.  The Company also has obligations under anindustrial revenue bond (balance as of May 26, 2005 of $.3 million) that ispayable in annual installments with interest ranging from 4.8% to 6.65%.

 

The Company has minimal foreign currencytranslation risk.  All internationalsales other than sales originating from its Canadian subsidiary are denominatedin U. S. dollars.  Due to the Company’sCanadian operations however, the Company could be adversely affected byunfavorable fluctuations in foreign currency exchange rates.

 

**Item 4.  Controls and Procedures**

 

(a)    Disclosure Controls and Procedures.  The Company’s management, with theparticipation of the Company’s Chief Executive Officer and Chief FinancialOfficer, has evaluated the effectiveness of the Company’s disclosure controlsand procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) underthe Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of theend of the period covered by this report. Based on such evaluation, the Company’s Chief Executive Officer andChief Financial Officer have concluded that, as of the end of such period, theCompany’s disclosure controls and procedures are effective in recording,processing, summarizing and reporting, on a timely basis, information requiredto be disclosed by the Company in the reports that it files or submits underthe Securities and Exchange Commission’s rules and forms.

 

(b)   Changes in Internal Control Over FinancialReporting.  There have not been anychanges in the Company’s internal control over financial reporting (as suchterm is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) duringthe fiscal quarter to which this report relates that have materially affected,or are reasonably likely to materially affect, the Company’s internal controlover financial reporting.

 

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PART II – OTHER INFORMATION

 

Item 6. Exhibits

 
|   | (a)  Exhibits |
|--------|--------------------|
|   |               |
|   | 10.9               |   | Agreement and Plan of  Merger between Kohlberg & Company and Cellu Paper Holdings, Inc., dated  as of June 14, 2005 |
|   |               |   |   |
|   | 31.1               |   | Certification by President  and Chief Executive Officer pursuant to Rule 13a-14(a) |
|   |               |   |   |
|   | 31.2               |   | Certification by Senior  Vice President, Finance and Chief Financial Officer pursuant to Rule  13a-14(a) |
|   |               |   |   |
|   | 32.1               |   | Certification by President  and Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
|   |               |   |   |
|   | 32.2               |   | Certification by Senior  Vice President, Finance and Chief Financial Officer pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of  2002 |

 

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SIGNATURES

 

Pursuant to the requirements of theSecurities Exchange Act of 1934, as amended, the Registrant has duly causedthis report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
|   |          | Cellu Tissue Holdings,  Inc.             |
|--------|---------------|------------------------------------------|
|   |          |                                     |
|   |          |                                     |
| Date:  | July 11, 2005 |                                     |   | /s/ Russell C. Taylor |   |   |
|   |          | Mr. Russell C. Taylor                    |   |
|   |          | President and Chief Executive Officer    |   |
|   |          |                                     |   |
| Date:  | July 11, 2005 |                                     |   | /s/ Dianne M. Scheu |   |   |
|   |          | Ms. Dianne M. Scheu                      |   |
|   |          | Senior Vice President, Finance and Chief |   |
|   |          | Financial Officer                        |   |
|        |               |                                          |  |  |  |  |  |

 

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