**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington,D.C.  20549**

 

**FORM 10-Q**

 

**x****     ****Quarterly Report Pursuant to Section 13 or 15(d) of theSecurities Exchange Act of 1934.**

 

**o****        ****Transition Report Pursuant to Section 13or 15(d) of the Securities Exchange Act of 1934.**

 

**For Quarter Ended March 31, 2009**

** **

**Commission File Number 1-3439**

 

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

(Exact name ofregistrant as specified in its charter)

 

| **Delaware**                                           | ** ** | **36-2041256**                     |
|--------------------------------------------------------|------------|------------------------------------|
| (State or other  jurisdiction of                       |       | (IRS Employer  Identification No.) |
| incorporation or  organization)                        |       |                               |
|                                                   |       |                               |
| **150  North Michigan Avenue, Chicago, Illinois** | ** ** | **60601**                          |
| (Address of  principal executive offices)              |       | (Zip Code)                         |

 

**(312)346-6600**

(Registrant’stelephone number, including area code)

 

###### **Not Applicable**

(Former name,former address and former fiscal year, ifchanged since last report)

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.   Yes xNo o

 

Indicate by check markwhether the registrant has submitted electronically and posted on its corporateWeb site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T during the preceding 12months (or for such shorter period that the registrant was required to submitand post such files).    Yes o No o

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, or a smaller reporting company.  See the definitions of “large acceleratedfiler,” “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.

 

| Large  accelerated filer o                |   | Accelerated  filer o         |
|------------------------------------------------|--------|-----------------------------------|
|                                           |   |                              |
| Non-accelerated  filer x                  |   | Smaller  Reporting Company o |
| (Do not check if  a smaller reporting company) |   |                              |

 

Indicateby check mark if the registrant is a shell company (as defined in Rule 12b-2of the Act).   Yes o  No x

 

APPLICABLE ONLY TOCORPORATE ISSUERS:

 

As of May 6, 2009,the registrant had outstanding 770 shares of common stock, $.01 par value pershare, all of which are owned by Smurfit-Stone Container Corporation.

 

 

 

----

 

**PART I -FINANCIAL INFORMATION**

 

**Item 1.    Financial Statements**

 

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

**(DEBTOR-IN-POSSESSION)**

**CONSOLIDATEDSTATEMENTS OF OPERATIONS**

**(Unaudited)**

** **
| **Three Months Ended March 31, (In millions)**                                              | ** ** | **2009**  | ** ** | **2008** | ** ** |
|--------------------------------------------------------------------------------------------------|------------|-----------|------------|----------|------------|
| Net sales                                                                                        |       | **$**     | **1,371**  |     | $          | 1,795 |   |
| Costs and  expenses                                                                              |       |      |       |     |       |
| Cost of goods  sold                                                                              | ** ** | **1,217** |       | 1,583    |       |
| Selling and  administrative expenses                                                             | ** ** | **145**   |       | 191      |       |
| Restructuring  expenses                                                                          | ** ** | **13**    |       | 4        |       |
| (Gain) loss on  disposal of assets                                                               | ** ** | **2**     |       | (3       | )          |
| Operating income  (loss)                                                                         | ** ** | **(6**    | **)**      | 20       |       |
| Other income  (expense)                                                                          |       |      |       |     |       |
| Interest  expense, net (including $48 million in 2009 that is stayed and subject to  compromise) | ** ** | **(71**   | **)**      | (63      | )          |
| Debtor-in-possession  debt issuance costs                                                        | ** ** | **(63**   | **)**      |     |       |
| Loss on early  extinguishment of debt                                                            | ** ** | **(20**   | **)**      |     |       |
| Foreign currency  exchange gains                                                                 | ** ** | **3**     |       | 15       |       |
| Other, net                                                                                       | ** ** | **(2**    | **)**      | (3       | )          |
| Loss before  reorganization items and income taxes                                               | ** ** | **(159**  | **)**      | (31      | )          |
| Reorganization  items                                                                            | ** ** | **(54**   | **)**      |     |       |
| Loss before  income taxes                                                                        | ** ** | **(213**  | **)**      | (31      | )          |
| (Provision for)  benefit from income taxes                                                       | ** ** | **(1**    | **)**      | 18       |       |
| Net loss                                                                                         | ** ** | **$**     | **(214**   | **)**    | $          | (13 | ) |

 

See notes toconsolidated financial statements.

 

1

----

 

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

**(DEBTOR-IN-POSSESSION)**

**CONSOLIDATEDBALANCE SHEETS**

 
| ** **                                                                                                     | ** ** | **March 31,** | ** **      | **December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|--------------------|-----------------|-----------------------|------------|
| **(In millions, except share data)**                                                                           | ** ** | **2009**           | ** **      | **2008**              | ** ** |
| ** **                                                                                                     |       | **(Unaudited)**    | ** **      | ** **            | ** ** |
| **Assets**                                                                                                     |       | ** **         | ** **      |                  |       |
|                                                                                                           |       | ** **         | ** **      |                  |       |
| Current assets                                                                                                 |       | ** **         | ** **      |                  |       |
| Cash and cash  equivalents                                                                                     | ** ** | **$**              | **248**         | ** **            | $          | 126 |   |
| Receivables,  less allowances of $25 in 2009 and $7 in 2008                                                    | ** ** | **668**            | ** **      | 96                    |       |
| Retained  interest in receivables sold                                                                         |       | ** **         | ** **      | 120                   |       |
| Inventories                                                                                                    |       | ** **         | ** **      |                  |       |
| Work-in-process  and finished goods                                                                            | ** ** | **130**            | ** **      | 112                   |       |
| Materials and  supplies                                                                                        | ** ** | **396**            | ** **      | 400                   |       |
| ** **                                                                                                     |       | **526**            |            | 512                   | ** ** |
| Prepaid expenses  and other current assets                                                                     | ** ** | **32**             | ** **      | 27                    |       |
| Total current  assets                                                                                          | ** ** | **1,474**          | ** **      | 881                   |       |
| Net property,  plant and equipment                                                                             | ** ** | **3,468**          | ** **      | 3,509                 |       |
| Timberland, less  timber depletion                                                                             | ** ** | **32**             | ** **      | 32                    |       |
| Other assets                                                                                                   | ** ** | **69**             | ** **      | 117                   |       |
| ** **                                                                                                     |       | **$**              | ** 5,043** |                  | $          | 4,539 | ** ** |
| **Liabilities  and Stockholder’s Equity (Deficit)**                                                       |       | ** **         | ** **      |                  |       |
|                                                                                                           |       | ** **         | ** **      |                  |       |
| Liabilities not  subject to compromise                                                                         |       | ** **         | ** **      |                  |       |
| Current  liabilities                                                                                           |       | ** **         | ** **      |                  |       |
| Current  maturities of long-term debt                                                                          | ** ** | **$**              | **1,795**       | ** **            | $          | 3,718 |   |
| Accounts payable                                                                                               | ** ** | **264**            | ** **      | 506                   |       |
| Accrued  compensation and payroll taxes                                                                        | ** ** | **135**            | ** **      | 164                   |       |
| Interest payable                                                                                               | ** ** | **8**              | ** **      | 66                    |       |
| Income taxes  payable                                                                                          | ** ** | **8**              | ** **      | 9                     |       |
| Current deferred  income taxes                                                                                 | ** ** | **21**             | ** **      | 21                    |       |
| Other current  liabilities                                                                                     | ** ** | **126**            | ** **      | 194                   |       |
| Total current  liabilities                                                                                     | ** ** | **2,357**          | ** **      | 4,678                 |       |
| Other long-term  liabilities                                                                                   | ** ** | **123**            | ** **      | 1,320                 |       |
| Deferred income  taxes                                                                                         | ** ** | **106**            | ** **      | 89                    |       |
| Total liabilities  not subject to compromise                                                                   | ** ** | **2,586**          | ** **      | 6,087                 |       |
|                                                                                                           |       | ** **         | ** **      |                  |       |
| Liabilities  subject to compromise                                                                             | ** ** | **4,192**          | ** **      |                  |       |
| Total  liabilities                                                                                             | ** ** | **6,778**          | ** **      | 6,087                 |       |
|                                                                                                           |       | ** **         | ** **      |                  |       |
| Stockholder’s  equity                                                                                     |       | ** **         | ** **      |                  |       |
| Common stock,  par value $.01 per share; 1,000 shares authorized; 770 issued and outstanding  in 2009 and 2008 |       | ** **         | ** **      |                  |       |
| Additional  paid-in capital                                                                                    | ** ** | **3,671**          | ** **      | 3,668                 |       |
| Retained  earnings (deficit)                                                                                   | ** ** | **(4,736**         | **)**           | (4,522                | )          |
| Accumulated  other comprehensive income (loss)                                                                 | ** ** | **(670**           | **)**           | (694                  | )          |
| Total  stockholder’s equity (deficit)                                                                     | ** ** | **(1,735**         | **)**           | (1,548                | )          |
| ** **                                                                                                     |       | **$**              | ** 5,043** |                  | $          | 4,539 | ** ** |

 

See notes toconsolidated financial statements.

 

2

----

 

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

**(DEBTOR-IN-POSSESSION)**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

**(Unaudited)**

 
| **Three Months Ended March 31, (In millions)**                                           | ** ** | **2009** | ** ** | **2008** | ** ** |
|-----------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
| **Cash  flows from operating activities**                                                     |       |     |       |     |       |
| Net loss                                                                                      | ** ** | **$**    | **(214**   | **)**    | $          | (13 | ) |
| Adjustments to  reconcile net loss to net cash provided by (used for) operating activities    |       |     |       |     |       |
| Loss on early  extinguishment of debt                                                         | ** ** | **20**   |       |     |       |
| Depreciation,  depletion and amortization                                                     | ** ** | **90**   |       | 87       |       |
| Debtor-in-possession  debt issuance costs                                                     | ** ** | **63**   |       |     |       |
| Amortization of  deferred debt issuance costs                                                 | ** ** | **2**    |       | 2        |       |
| Deferred income  taxes                                                                        | ** ** | **(1**   | **)**      | (27      | )          |
| Pension and  postretirement benefits                                                          | ** ** | **(7**   | **)**      | (9       | )          |
| (Gain) loss on  disposal of assets                                                            | ** ** | **2**    |       | (3       | )          |
| Non-cash  restructuring expenses                                                              | ** ** | **1**    |       |     |       |
| Non-cash  stock-based compensation                                                            | ** ** | **2**    |       | 5        |       |
| Non-cash foreign  currency exchange gains                                                     | ** ** | **(3**   | **)**      | (15      | )          |
| Non-cash  reorganization items                                                                | ** ** | **38**   |       |     |       |
| Change in  current assets and liabilities, net of effects from acquisitions and  dispositions |       |     |       |     |       |
| Receivables and  retained interest in receivables sold                                        | ** ** | **(61**  | **)**      | (1       | )          |
| Inventories                                                                                   | ** ** | **(15**  | **)**      | (35      | )          |
| Prepaid expenses  and other current assets                                                    | ** ** | **(3**   | **)**      | (12      | )          |
| Accounts payable  and accrued liabilities                                                     | ** ** | **159**  |       | (6       | )          |
| Interest payable                                                                              | ** ** | **26**   |       | (5       | )          |
| Other, net                                                                                    | ** ** | **12**   |       | 5        |       |
| Net cash  provided by (used for) operating activities                                         | ** ** | **111**  |       | (27      | )          |
| **Cash  flows from investing activities**                                                     |       |     |       |     |       |
| Expenditures for  property, plant and equipment                                               | ** ** | **(39**  | **)**      | (94      | )          |
| Proceeds from  property disposals                                                             | ** ** | **1**    |       | 4        |       |
| Advances to  affiliates, net                                                                  | ** ** | **(15**  | **)**      |     |       |
| Net cash used  for investing activities                                                       | ** ** | **(53**  | **)**      | (90      | )          |
| **Cash  flows from financing activities**                                                     |       |     |       |     |       |
| Proceeds from  debtor-in-possession debt                                                      | ** ** | **440**  |       |     |       |
| Net borrowings  of long-term debt                                                             | ** ** | **72**   |       | 122      |       |
| Repurchase of  receivables                                                                    | ** ** | **(385** | **)**      |     |       |
| Debtor-in-possession  debt issuance costs                                                     | ** ** | **(63**  | **)**      |     |       |
| Dividends paid                                                                                |       |     |       | (2       | )          |
| Net cash provided  by financing activities                                                    | ** ** | **64**   |       | 120      |       |
|                                                                                          |       |     |       |     |       |
| **Increase  in cash and cash equivalents**                                                    | ** ** | **122**  |       | 3        |       |
| Cash and cash  equivalents                                                                    |       |     |       |     |       |
| Beginning of  period                                                                          | ** ** | **126**  |       | 7        |       |
| End of period                                                                                 | ** ** | **$**    | **248**    |     | $          | 10 |   |

 

See notes toconsolidated financial statements.

 

3

----

** **

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

**(DEBTOR-IN-POSSESSION)**

**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS**

(Tabular amountsin millions)

** **

**1.****             ****Bankruptcy Proceedings**

 

**Chapter 11 Bankruptcy Filings**

On January 26, 2009 (the “Petition Date”), Smurfit-StoneContainer Corporation (“SSCC”), Smurfit-Stone Container Enterprises, Inc.(“SSCE” or the “Company”) and its U.S. and Canadian subsidiaries (collectively,the “Debtors”) filed a voluntary petition (the “Chapter 11 Petition”) forrelief under Chapter 11 of the United States Bankruptcy Code (the “BankruptcyCode”) in the United States Bankruptcy Court in Wilmington, Delaware (the “U.S.Court”). On the same day, the Company’s Canadian subsidiaries also filed toreorganize (the “Canadian Petition”) under the Companies’ Creditors ArrangementAct (“CCAA”) in the Ontario Superior Court of Justice in Canada (the “CanadianCourt”). The Company’soperations in Mexico and Asia and certain U.S. and Canadian legal entities (the“Non-Debtor Subsidiaries”) were not included in the filing and will continue tooperate outside of the Chapter 11 process.

 

The filing of theChapter 11 Petition and the Canadian Petition constituted an event ofdefault under the Company’s debt obligations, and those debt obligations becameautomatically and immediately due and payable, although any actions to enforcesuch payment obligations are stayed as a result of the filing of the Chapter 11Petition and the Canadian Petition. As previously disclosed in the SSCE AnnualReport on Form 10-K for the year ended December 31, 2008 (“2008 Form 10-K”)filed March 17, 2009, with the Securities and Exchange Commission, theaccompanying consolidated balance sheet as of December 31, 2008 includes areclassification of $3,032 million to current maturities of long-term debt fromlong-term debt. Due to the filing of the bankruptcy petitions, the Company’sunsecured long-term debt of $2,439 million is included in liabilities subjectto compromise at March 31, 2009 (See Note 5).

 

SSCC, the Company and its U.S. and Canadiansubsidiaries are currently operating as “debtors in possession” under thejurisdiction of the U.S. Court and Canadian Court (the “Bankruptcy Courts”) andin accordance with the applicable provisions of the Bankruptcy Code and theCCAA. In general, SSCE and the Company’s subsidiaries are authorized tocontinue to operate as ongoing businesses, but may not engage in transactionsoutside the ordinary course of business without the approval of the BankruptcyCourts.

 

**Debtor-In-Possession (“DIP”) Financing**

In connection with filing the Chapter 11 Petitionand the Canadian Petition on January 26, 2009, the Company and certain ofits affiliates filed a motion with the Bankruptcy Courts seeking approval toenter into a Post-Petition Credit Agreement (the “DIP Credit Agreement”).

 

On January 27, 2009, the Bankruptcy Courtsgranted interim approval of the DIP Credit Agreement. Based on such interimapproval, on January 28, 2009, the Company entered into the DIP CreditAgreement, subject to final approval of the Bankruptcy Courts. Final approvalof the DIP Credit Agreement was granted by the U.S. Court on February 23,2009 and by the Canadian Court on February 24, 2009. Amendments to the DIPCredit Agreement were entered into on February 25 and 27, 2009.

 

The DIP Credit Agreement, as amended, provides forborrowings up to an aggregate committed amount of $750 million, consisting of a$400 million U.S. term loan for borrowings by the Company; a $35 millionCanadian term loan for borrowings by Smurfit-Stone Container Canada Inc. (“SSCCanada”); a $250 million U.S. revolving loan for borrowings by the Companyand/or SSC Canada; and a $65 million Canadian revolving loan (“DIP CanadianRevolver”) for borrowings by the Company and/or SSC Canada.

 

The outstanding principal amount of the loans underthe DIP Credit Agreement, plus interest accrued and unpaid, will be due andpayable in full at maturity, which is January 28, 2010; provided, that thematurity

 

4

----

 

date may be extended through April 28, 2010,and subsequently through July 28, 2010 upon the satisfaction of certainconditions precedent (including the payment of specified fees).

 

For additionalinformation on the DIP Credit Agreement, see Note 10.

 

**Reorganization Process**

The Bankruptcy Courtshave approved payment of certain of the Company’s pre-petition obligations,including employee wages, salaries and benefits, and the payment of vendors andother providers in the ordinary course for goods and services received afterthe filing of the Chapter 11 Petition and Canadian Petition and otherbusiness-related payments necessary to maintain the operation of theCompany’s business. The Company has retained legal and financial professionalsto advise it on the bankruptcy proceedings. From time to time, the Company mayseek the U.S. Court’s approval for the retention of additional professionals.

 

Immediately after filingthe Chapter 11 Petition and Canadian Petition, the Company began notifying allknown current or potential creditors of the bankruptcy filings. Subject tocertain exceptions under the Bankruptcy Code and the CCAA, the Company’sbankruptcy filings automatically enjoined, or stayed, the continuation of anyjudicial or administrative proceedings or other actions against the Company orits property to recover, collect or secure a claim arising prior to the filingof the Chapter 11 Petition and Canadian Petition. Thus, for example, mostcreditor actions to obtain possession of property from the Company, or tocreate, perfect or enforce any lien against its property, or to collect onmonies owed or otherwise exercise rights or remedies with respect to apre-petition claim are enjoined unless and until the Bankruptcy Courts lift theautomatic stay.

 

As required by the BankruptcyCode, the United States Trustee for the District of Delaware appointed anofficial committee of unsecured creditors (the “Creditors’ Committee”). TheCreditors’ Committee and its legal representatives have a right to be heard onall matters that come before the U.S. Court with respect to the Company. Amonitor has been appointed by the Canadian Court with respect to proceedingsbefore the Canadian Court.

 

Under the Bankruptcy Code, the Debtors generally mustassume or reject pre-petition executory contracts, including but not limited toreal property leases, subject to the approval of the Bankruptcy Courts andcertain other conditions. In this context, “assumption” means that the Companyagrees to perform its obligations and cure all existing defaults under thecontract or lease, and “rejection” means that it is relieved from itsobligations to perform further under the contract or lease, but is subject to apre-petition claim for damages for the breach thereof subject to certainlimitations. Any damages resulting from rejection of executory contracts thatare permitted to be recovered under the Bankruptcy Code will be treated asliabilities subject to compromise unless such claims were secured prior to thePetition Date.

 

Since the Petition Date,the Company has received approval from the Bankruptcy Courts to reject a numberof leases and other executory contracts of various types. The Company isreviewing all of its executory contracts and unexpired leases to determinewhich additional contracts and leases it will reject. The Company expects thatadditional liabilities subject to compromise will arise due to rejection of executorycontracts, including leases, and from the determination of the U.S. Court (oragreement by parties in interest) of allowed claims for contingencies and otherdisputed amounts. The Company also expects that the assumption of additionalexecutory contracts and unexpired leases will convert certain of theliabilities shown on the accompanying consolidated balance sheet as liabilitiessubject to compromise to liabilities not subject to compromise. Due to theuncertain nature of many of the potential claims, the Company cannot projectthe magnitude of such claims with certainty.

 

In order to successfullyemerge from bankruptcy, the Company will need to propose and obtainconfirmation by the Bankruptcy Courts of a plan of reorganization thatsatisfies the requirements of the Bankruptcy Code and the CCAA. A plan ofreorganization would resolve the Company’s pre-petition

 

5

----

 

obligations, set forththe revised capital structure of the newly reorganized entity and provide forcorporate governance subsequent to the Company’s exit from bankruptcy.

 

The Company has theexclusive right for 120 days after the filing of the Chapter 11 Petition andCanadian Petition to file a plan of reorganization. The Company will likelyfile one or more motions to request extensions of this exclusivity period,which are routinely granted up to 18 months in bankruptcy cases of this sizeand complexity. If the Company’s exclusivity period lapsed, any party ininterest would be able to file a plan of reorganization. In addition to beingvoted on by holders of impaired claims and equity interests, a plan ofreorganization must satisfy certain requirements of the Bankruptcy Code and theCCAA and must be approved, or confirmed, by the Bankruptcy Courts in order tobecome effective.

 

The timing of filing aplan of reorganization by the Company will depend on the timing and outcome ofnumerous other ongoing matters in the bankruptcy proceedings. There can be noassurance at this time that a plan of reorganization will be confirmed by theBankruptcy Courts or that any such plan will be implemented successfully.

 

Under the priority schemeestablished by the Bankruptcy Code and the CCAA, unless creditors agreeotherwise, pre-petition liabilities and post-petition liabilities must besatisfied in full before SSCC’s stockholders are entitled to receive anydistribution or retain any property under a plan of reorganization. Theultimate recovery to creditors and/or stockholders, if any, will not bedetermined until confirmation of a plan or plans of reorganization. Noassurance can be given as to what values, if any, will be ascribed to each ofthese constituencies or what types or amounts of distributions, if any, theywould receive. A plan of reorganization could result in holders of the Company’sliabilities and/or securities receiving no distribution on account of theirinterests and cancellation of their holdings. Because of such possibilities,the value of the Company’s liabilities and securities is highly speculative. Appropriatecaution should be exercised with respect to existing and future investments inany of the Company’s liabilities and/or securities. At this time there is noassurance the Company will be able to restructure as a going concern orsuccessfully propose or implement a plan of reorganization.

 

For periods subsequent tothe bankruptcy filings, the Company has applied the American Institute ofCertified Public Accountants’ Statement of Position (“SOP”) 90-7, “Financial Reporting by Entities inReorganization under the Bankruptcy Code” (“SOP 90-7”), in preparing theconsolidated financial statements. SOP 90-7 requires that the financialstatements distinguish transactions and events that are directly associatedwith the reorganization from the ongoing operations of the business. Accordingly,certain revenues, expenses (including professional fees), realized gains andlosses and provisions for losses that are realized or incurred in thebankruptcy proceedings have been recorded in reorganization items in theconsolidated statement of operations (See Note 4). In addition, pre-petitionobligations that may be impacted by the bankruptcy reorganization process havebeen classified on the consolidated balance sheet in liabilities subject tocompromise (See Note 5). These liabilities are reported at the amounts expectedto be allowed by the Bankruptcy Courts, even if they may be settled for lesseramounts.

 

6

----

 

**GoingConcern Matters**

The consolidatedfinancial statements and related notes have been prepared assuming that theCompany will continue as a going concern, although its bankruptcy filings raisesubstantial doubt about its ability to continue as a going concern. Theconsolidated financial statements do not include any adjustments related to therecoverability and classification of recorded assets or to the amounts and classificationof liabilities or any other adjustments that might be necessary should theCompany be unable to continue as a going concern. The Company’s ability tocontinue as a going concern is dependent on market conditions and its abilityto improve profitability, obtain alternative financing to replace the DIPCredit Agreement and pre-petition Credit Agreement and restructure itsobligations in a manner that allows it to obtain confirmation of a plan ofreorganization by the Bankruptcy Courts.

 

In order to improve profitability, management istaking actions to further reduce corporate and operational expenses and iscontinuing to align manufacturing capacity to meet market demands andstandardize manufacturing processes throughout all operations. These actionswill result in the closure of additional manufacturing facilities andreductions in headcount during 2009.

 

**Debtor Financial Statements**

The following unauditedcondensed combined financial statements represent the financial statements for the Debtorsonly. The Company’s Non-Debtor Subsidiaries are accounted for asnon-consolidated subsidiaries in these financial statements and, as such, theirnet loss is included in “Equity in losses of Non-Debtor Subsidiaries,” in theconsolidated statement of operations and their net assets are included as “Investmentsin and advances to Non-Debtor Subsidiaries” in the consolidated balance sheet. TheDebtor’s financial statements have been prepared in accordance with theguidance in SOP 90-7.

 

Intercompany transactions between the Debtors havebeen eliminated in the financial statements. Intercompany transactions betweenthe Debtors and Non-Debtor Subsidiaries have not been eliminated in the Debtors’financial statements.

 

7

----

** **

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

**CONDENSEDCOMBINED STATEMENT OF OPERATIONS — DEBTORS**

**(Unaudited)**

** **
| **Three Months Ended March 31, (In millions)**                                     | ** ** | **2009**  | ** ** |
|-----------------------------------------------------------------------------------------|------------|-----------|------------|
| Net sales                                                                               | ** ** | **$**     | **1,338**  | ** ** |
| Costs and  expenses                                                                     |       |      |       |
| Cost of goods  sold                                                                     | ** ** | **1,186** | ** ** |
| Selling and  administrative expenses                                                    | ** ** | **141**   | ** ** |
| Restructuring  expenses                                                                 | ** ** | **12**    | ** ** |
| Loss on disposal  of assets                                                             | ** ** | **2**     | ** ** |
| Operating loss                                                                          | ** ** | **(3**    | **)**      |
| Other income  (expense)                                                                 |       |      |       |
| Interest  expense, net (including $48 million that is stayed and subject to compromise) | ** ** | **(71**   | **)**      |
| Debtor-in-possession  debt issuance costs                                               | ** ** | **(63**   | **)**      |
| Loss on early  extinguishment of debt                                                   | ** ** | **(20**   | **)**      |
| Foreign currency  exchange gains                                                        | ** ** | **3**     | ** ** |
| Equity in losses  of non-debtor subsidiaries                                            | ** ** | **(4**    | **)**      |
| Other, net                                                                              | ** ** | **(1**    | **)**      |
| Loss before  reorganization items and income taxes                                      | ** ** | **(159**  | **)**      |
| Reorganization  items                                                                   | ** ** | **(54**   | **)**      |
| Loss before  income taxes                                                               | ** ** | **(213**  | **)**      |
| Provision for  income taxes                                                             | ** ** | **(1**    | **)**      |
| Net loss                                                                                | ** ** | **$**     | **(214**   | **)** |

 

8

----

 

**SMURFIT-STONECONTAINER ENTERPRISES, INC.**

**CONDENSEDCOMBINED BALANCE SHEET — DEBTORS**

**(Unaudited)**

 
| ** **                                               | ** ** | **March 31,** | ** **      |
|----------------------------------------------------------|------------|--------------------|-----------------|
| **(In  millions)**                                       | ** ** | **2009**           | ** **      |
| **Assets**                                               |       |               |            |
| ** **                                               | ** ** | ** **         | ** **      |
| Current assets                                           | ** ** | ** **         | ** **      |
| Cash and cash  equivalents                               | ** ** | **$**              | **226**         | ** ** |
| Receivables                                              | ** ** | **634**            | ** **      |
| Inventories                                              | ** ** | **509**            | ** **      |
| Prepaid expenses  and other current assets               | ** ** | **29**             | ** **      |
| Total current  assets                                    | ** ** | **1,398**          | ** **      |
| Net property,  plant and equipment                       | ** ** | **3,436**          | ** **      |
| Timberland, less  timber depletion                       | ** ** | **32**             | ** **      |
| Investments in  and advances to non-debtor subsidiaries  | ** ** | **84**             | ** **      |
| Other assets                                             | ** ** | **70**             | ** **      |
| ** **                                               | ** ** | **$**              | ** 5,020** | ** ** |
| **Liabilities  and Stockholder’s Equity (Deficit)** | ** ** | ** **         | ** **      |
| ** **                                               | ** ** | ** **         | ** **      |
| Liabilities not  subject to compromise                   | ** ** | ** **         | ** **      |
| Current  liabilities                                     | ** ** | ** **         | ** **      |
| Current  maturities of long-term debt                    | ** ** | **$**              | **1,790**       | ** ** |
| Accounts payable                                         | ** ** | **248**            | ** **      |
| Accrued  compensation and payroll taxes                  | ** ** | **133**            | ** **      |
| Interest payable                                         | ** ** | **7**              | ** **      |
| Income taxes  payable                                    | ** ** | **8**              | ** **      |
| Current deferred  income taxes                           | ** ** | **21**             | ** **      |
| Other current  liabilities                               | ** ** | **123**            | ** **      |
| Total current  liabilities                               | ** ** | **2,330**          | ** **      |
| Deferred income  taxes                                   | ** ** | **109**            | ** **      |
| Other long-term  liabilities                             | ** ** | **124**            | ** **      |
| Total  liabilities not subject to compromise             | ** ** | **2,563**          | ** **      |
| ** **                                               | ** ** | ** **         | ** **      |
| Liabilities  subject to compromise                       | ** ** | **4,192**          | ** **      |
| Total  liabilities                                       | ** ** | **6,755**          | ** **      |
| ** **                                               | ** ** | ** **         | ** **      |
| Total equity  (deficit)                                  | ** ** | **(1,735**         | **)**           |
| ** **                                               | ** ** | **$**              | ** 5,020** | ** ** |

 

9

----

 

**SMURFIT-STONE CONTAINER ENTERPRISES,INC.**

**CONDENSED COMBINED STATEMENT OF CASHFLOWS — DEBTORS**

**(Unaudited)**

 
| **Three Months Ended March 31, (In millions)**                                           | ** ** | **2009**   | ** ** |
|-----------------------------------------------------------------------------------------------|------------|------------|------------|
| **Cash  flows from operating activities**                                                     | ** ** | ** ** | ** ** |
| Net loss                                                                                      | ** ** | **$**      | **(214**   | **)** |
| Adjustments to  reconcile net loss to net cash provided by operating activities               |       |       |       |
| Loss on early  extinguishment of debt                                                         | ** ** | **20**     | ** ** |
| Depreciation,  depletion and amortization                                                     | ** ** | **89**     | ** ** |
| Debtor-in-possession  debt issuance costs                                                     | ** ** | **63**     | ** ** |
| Amortization of  deferred debt issuance costs                                                 | ** ** | **2**      | ** ** |
| Pension and  postretirement benefits                                                          | ** ** | **(7**     | **)**      |
| Loss on disposal  of assets                                                                   | ** ** | **2**      | ** ** |
| Non-cash  restructuring expenses                                                              | ** ** | **1**      | ** ** |
| Non-cash  stock-based compensation                                                            | ** ** | **2**      | ** ** |
| Non-cash foreign  currency exchange gains                                                     | ** ** | **(3**     | **)**      |
| Non-cash  reorganization items                                                                | ** ** | **38**     | ** ** |
| Change in  current assets and liabilities, net of effects from acquisitions and  dispositions |       |       |       |
| Receivables                                                                                   | ** ** | **(65**    | **)**      |
| Inventories                                                                                   | ** ** | **(12**    | **)**      |
| Prepaid expenses  and other current assets                                                    | ** ** | **(5**     | **)**      |
| Accounts payable  and accrued liabilities                                                     | ** ** | **166**    | ** ** |
| Intercompany receivable  with non-debtors                                                     | ** ** | **(21**    | **)**      |
| Interest payable                                                                              | ** ** | **26**     | ** ** |
| Other, net                                                                                    | ** ** | **15**     | ** ** |
| Net cash  provided by operating activities                                                    | ** ** | **97**     | ** ** |
| **Cash  flows from investing activities**                                                     | ** ** | ** ** | ** ** |
| Expenditures for  property, plant and equipment                                               | ** ** | **(38**    | **)**      |
| Proceeds from  property disposals                                                             | ** ** | **1**      | ** ** |
| Advances to  affiliates, net                                                                  | ** ** | **(18**    | **)**      |
| Net cash used  for investing activities                                                       | ** ** | **(55**    | **)**      |
| **Cash  flows from financing activities**                                                     | ** ** | ** ** | ** ** |
| Proceeds from  debtor-in-possession debt                                                      | ** ** | **440**    | ** ** |
| Net borrowings  of long-term debt                                                             | ** ** | **72**     | ** ** |
| Repurchase of  receivables                                                                    | ** ** | **(385**   | **)**      |
| Debtor-in-possession  debt issuance costs                                                     | ** ** | **(63**    | **)**      |
| Net cash  provided by financing activities                                                    | ** ** | **64**     | ** ** |
|                                                                                          |       |       |       |
| **Increase  in cash and cash equivalents**                                                    | ** ** | **106**    | ** ** |
| Cash and cash  equivalents                                                                    |       |       |       |
| Beginning of  period                                                                          | ** ** | **120**    | ** ** |
| End of period                                                                                 | ** ** | **$**      | **226**    | ** ** |

 

10

----

 

**2.     SignificantAccounting Policies**

 

**Basisof Presentation:** The accompanyingconsolidated financial statements and notes of the Company have been preparedin accordance with the instructions to Form 10-Q and reflect alladjustments which management believes necessary (which include only normalrecurring accruals) to present fairly the Company’s financial position, resultsof operations and cash flows. These statements, however, do not include allinformation and notes necessary for a complete presentation of financialposition, results of operations and cash flows in conformity with U.S.generally accepted accounting principles. Interim results may not necessarilybe indicative of results that may be expected for any other interim period orfor the year as a whole. These financial statements should be read inconjunction with the audited consolidated financial statements and notesincluded in the 2008 Form 10-K.

 

TheCompany is a wholly-owned subsidiary of SSCC. The Company has domestic andinternational operations.

 

**Recently Adopted AccountingStandards:** EffectiveJanuary 1, 2009, the Company adopted the provisions of Statement ofFinancial Accounting Standards (“SFAS”) No. 160 “Non-controlling Interestin Consolidated Financial Statements — An Amendment of ARB No. 51” (“SFAS No. 160”).SFAS No. 160 changes the accounting for non-controlling (minority)interests in consolidated financial statements, requires non-controllinginterests to be reported as part of equity and changes the income statement presentationof income or losses attributable to non-controlling interests. SFAS No. 160did not have a material impact on the Company’s consolidated financialstatements.

 

**3.     Reclassifications**

 

Certainprior year amounts have been reclassified to conform to the current yearpresentation.

 

**4.     ReorganizationItems and Other Bankruptcy Related Costs**

 

**Reorganization Items**

SOP 90-7 requiresseparate disclosure of reorganization items such as realized gains and lossesfrom the settlement of pre-petition liabilities, provisions for lossesresulting from the reorganization of the business, as well as professional feesdirectly related to the process of reorganizing the Company under Chapter 11and the CCAA. The Company’s reorganization items for the three months ended March 31,2009 consist of the following:

 
| ** **                                             | ** ** | **Three months ended  March 31, 2009** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------|------------|
|                                                   |       |                                        |       |
| Provision for  rejected executory contracts and leases |       | $                                           | 39         |   |
| Professional  fees                                     |       | 16                                          |       |
| Accounts payable  settlement gains                     |       | (1                                          | )          |
| Total  reorganization items                            |       | $                                           | 54         |   |

 

Professional feesdirectly related to the reorganization include fees associated with advisors tothe Company, the Creditors’ Committee and certain secured creditors.

 

Net cash paid forreorganization items for the three months ended March 31, 2009 totaled $6 million,related to professional fees.

 

Reorganization itemsexclude employee severance and other restructuring charges recorded during thethree months ended March 31, 2009.

 

11

----

 

**Other Bankruptcy Related Costs**

Debtor-in-possession debtissuance costs of $63 million were incurred and paid during the first quarterof 2009 in connection with entering into the DIP Credit Agreement, and areseparately disclosed in the consolidated statement of operations.

 

**5.  Liabilities Subject to Compromise**

 

Liabilities subject tocompromise represent unsecured obligations that will be accounted for under aplan of reorganization. Generally, actions to enforce or otherwise effectpayment of pre-Chapter 11 or CCAA liabilities are stayed. SOP 90-7 requirespre-petition liabilities that are subject to compromise to be reported at theamounts expected to be allowed, even if they may be settled for lesseramounts.  These liabilities represent theamounts expected to be allowed on known or potential claims to be resolvedthrough the Chapter 11 and CCAA process, and remain subject to futureadjustments arising from negotiated settlements, actions of the BankruptcyCourts, rejection of executory contracts and unexpired leases, thedetermination as to the value of collateral securing the claims, proofs ofclaim, or other events.  Liabilitiessubject to compromise also include certain items that may be assumed under theplan of reorganization, and as such, may be subsequently reclassified toliabilities not subject to compromise.

 

The Bankruptcy Courtshave approved payment of certain pre-petition obligations, including employeewages, salaries and benefits, and the payment of vendors and other providers inthe ordinary course for goods and services received after the filing of theChapter 11 Petition and the Canadian Petition and other business-relatedpayments necessary to maintain the operation of the Company’s business.Obligations associated with these matters are not classified as liabilitiessubject to compromise.

 

In accordance with SOP90-7, deferred debt issuance costs (“DDIC”) should be viewed as valuations ofthe related debt. DDIC associated with unsecured debt is included as avaluation adjustment within the liabilities subject to compromise.

 

The Company has rejectedcertain pre-petition executory contracts and unexpired leases with respect tothe Company’s operations with the approval of the Bankruptcy Courts and mayreject additional ones in the future. Damages resulting from rejection of executory contracts and unexpiredleases are generally treated as general unsecured claims and are classified asliabilities subject to compromise. Holders of pre-petition claims are requiredto file proofs of claims by the “bar date”, which will be established laterwith approval of the Bankruptcy Courts. A bar date is the date by which certain claims against the Company mustbe filed if the claimants wish to receive any distribution in the bankruptcycases.  Once a bar date is established,creditors will be notified of the bar date and the requirement to file a proofof claim with the Bankruptcy Courts. Differences between liability amountsestimated by the Company and claims filed by creditors will be investigatedand, if necessary, the Bankruptcy Courts will make a final determination of theallowable claim.  The determination ofhow liabilities will ultimately be treated cannot be made until the BankruptcyCourts approve a plan of reorganization. Accordingly, the ultimate amount or treatment of such liabilities is notdeterminable at this time.

 

12

----

 

Liabilities subject tocompromise consisted of the following:

 
| ** **                         | ** ** | **March 31, 2009** | ** ** |
|------------------------------------|------------|-------------------------|------------|
|                               |       |                    |       |
| Unsecured debt                     |       | $                       | 2,439      |   |
| DDIC for  unsecured debt           |       | (16                     | )          |
| Accounts payable                   |       | 432                     |       |
| Interest payable                   |       | 82                      |       |
| Retiree medical                    |       | 161                     |       |
| Pension                            |       | 985                     |       |
| Unrecognized tax  benefits         |       | 34                      |       |
| Executory  contracts and leases    |       | 43                      |       |
| Other                              |       | 32                      |       |
| Liabilities  subject to compromise |       | $                       | 4,192      |   |

 

**6.  CalpineCorrugated LLC**

 

In the firstquarter of 2008, the Company recorded a charge of $22 million to fully reserveall amounts due from Calpine Corrugated LLC (“Calpine Corrugated”).  Calpine Corrugated, formerly an independentcorrugated container producer in Fresno, California for which the Company wasthe primary containerboard supplier, experienced start-up losses since it beganoperations in 2006.

 

On July 29,2008, the Company acquired a 90 percent ownership interest in CalpineCorrugated.  In conjunction with theacquisition, the Company guaranteed approximately $45 million of CalpineCorrugated’s third party outstanding debt. There was no cash consideration paid. The transaction was accounted for as a purchase business combination andresults of operations of Calpine Corrugated are included in the consolidatedstatements of operations beginning July 29, 2008.  The purchase price allocation completed inthe fourth quarter of 2008 resulted in assets and liabilities of approximately$50 million, including approximately $45 million of debt.  No goodwill was recorded for thetransaction.  The acquisition of CalpineCorrugated’s operations enables the Company to accelerate the optimization ofits Northern California business unit and improve its position in the agriculturalmarket segment.

 

**7.  RestructuringActivities**

 

During the first quarterof 2009, the Company closed three converting facilities and announced theclosure of five additional converting facilities.  As a result of the closures in the firstquarter of 2009 and other ongoing initiatives, the Company reduced itsheadcount by approximately 1,000 employees. The Company recorded restructuring charges of $13 million, includingnon-cash charges of $1 million related to the acceleration of depreciation forconverting equipment expected to be abandoned or taken out of service. Theremaining charges of $12 million were primarily for severance andbenefits.  The net sales of the announcedand closed converting facilities in 2009 prior to closure and for the yearended December 31, 2008 were $20 million and $138 million,respectively.  The majority of these netsales are expected to be transferred to other operating facilities.  Additional charges of up to $11 million willbe recorded in future periods for severance and benefits related to the closureof these and previously closed facilities.

 

The Company continues toreview and evaluate various restructuring and other alternatives to streamlineoperations, improve efficiencies and reduce costs.  Such initiatives may include selling assets,idling facilities, consolidating operations and functions, relocating orreducing production and voluntary and involuntary employee separationprograms.  In addition, such actions willsubject the Company to additional short-term costs, which may include facilityshutdown costs, asset impairment charges, lease commitment costs, employeeretention and severance costs and other closing costs.

 

13

----

 

During the first quarterof 2008, the Company recorded restructuring charges of $4 million related tothe closure of one converting facility and the announced closure of anadditional converting facility. Restructuring charges, net of a gain of $2 million from the sale of apreviously closed facility, included non-cash charges of $2 million related tothe write-down of assets, primarily property, plant and equipment, to estimatednet realizable value and the acceleration of depreciation for equipmentexpected to be abandoned or taken out of service.  The remaining charges of $4 million wereprimarily for severance and benefits.

 

At December 31,2008, the Company had $33 million of accrued exit liabilities related to therestructuring of operations.  For thethree months ended March 31, 2009, the Company incurred $8 million of cashdisbursements, primarily severance and benefits, related to these exitliabilities.  In addition, exitliabilities have been decreased by $5 million due to receiving approval fromthe Bankruptcy Courts to reject leases related to previously closed facilitiesin connection with the filing of the Chapter 11 Petition and the CanadianPetition.  During the three months ended March 31,2009, the Company incurred $7 million of cash disbursements, primarilyseverance and benefits, related to exit liabilities established during 2009.

 

**8.  Accounts Receivable Securitization Programs**

 

The Company, under twoseparate accounts receivable securitization programs, sold without recourse, onan ongoing basis, certain of its accounts receivable to non-consolidatedfinancing entities.  The Company’sretained interest in these non-consolidated entities was carried at fair valueand included in retained interest in receivables sold in the accompanying December 31,2008 consolidated balance sheet.  On January 28,2009, in conjunction with the filing of the Chapter 11 Petition and theCanadian Petition, the accounts receivable securitization programs wereterminated and all outstanding receivables previously sold to thenon-consolidated financing entities were repurchased with proceeds fromborrowings under the DIP Credit Agreement (See Note 10).  The repurchase of receivables of $385 millionhas been included in the cash flows from financing activities in theconsolidated statement of cash flows.

 

**9.  Guarantees and Commitments**

 

The Company has certainwood chip processing contracts extending from 2012 through 2018 with minimumpurchase commitments.  As part of theagreements, the Company guarantees the third party contractors’ debt outstandingand has a security interest in the chipping equipment.  At March 31, 2009, the maximum potentialamount of future payments related to these guarantees was approximately $27million, which decreases ratably over the life of the contracts.  In the event the guarantees on thesecontracts are called, proceeds from the liquidation of the chipping equipmentwould be based on current market conditions and the Company may not recover infull the guarantee payments made.

 

The Company wascontingently liable for $18 million under a one year letter of credit, due toexpire in April 2009, which supported the borrowings of a previouslynon-consolidated affiliate.  On March 4,2009, this letter of credit was drawn on, which increased borrowings under theCompany’s Credit Agreement by $18 million (See Note 10).  As a result of providing substantialfinancial support for the affiliate, in accordance with Financial AccountingStandards Board Interpretation No. 46 (R), “Consolidation of VariableInterest Entities,” the Company consolidated the affiliate’s balance sheet andresults of operations into its consolidated financial statements in March 2009.

 

**10.  Long-Term Debt**

 

The filing of theChapter 11 Petition and the Canadian Petition constituted an event ofdefault under the Company’s debt obligations, and those debt obligations becameautomatically and immediately due and 

 

14

----

 

payable.  Any efforts to enforce such paymentobligations are stayed as a result of the filing of the Chapter 11 Petition andthe Canadian Petition.  As previouslydisclosed in the Company’s 2008 Form 10-K, the accompanying consolidatedbalance sheet as of December 31, 2008 includes a reclassification of$3,032 million to current maturities of long-term debt from long-termdebt.  Due to the filing of thebankruptcy petitions, the Company’s unsecured long-term debt of $2,439 millionis included in liabilities subject to compromise at March 31, 2009 (SeeNote 5).  Since January 26, 2009,the Petition Date, the Company discontinued interest payments on its unsecuredsenior notes and certain other unsecured debt. Interest expense ($48 million in the three months ended March 31,2009) continues to be accrued on the unsecured debt until a determination ismade that it will not be an allowed claim in the bankruptcy proceedings.

 

**DIP Credit Agreement**

In connection with filing the Chapter 11 Petitionand the Canadian Petition, on January 26, 2009, the Company and certain ofits affiliates filed a motion with the Bankruptcy Courts seeking approval toenter into a DIP Credit Agreement.  On January 27,2009, the Bankruptcy Courts granted interim approval of the DIP CreditAgreement.  Based on such interimapproval, on January 28, 2009, the Company entered into the DIP CreditAgreement, subject to final approval of the Bankruptcy Courts.  Final approval of the DIP Credit Agreementwas granted by the U.S. Court on February 23, 2009 and by the CanadianCourt on February 24, 2009. Amendments to the DIP Credit Agreement were entered into on February 25and 27, 2009.

 

The DIP Credit Agreement, as amended, provides forborrowings up to an aggregate committed amount of $750 million, consisting of a$400 million U.S. term loan for borrowings by the Company; a $35 million Canadianterm loan for borrowings by SSC Canada; a $250 million U.S. revolving loan forborrowings by the Company and/or SSC Canada; and a $65 million DIP CanadianRevolver for borrowings by the Company and/or SSC Canada.

 

The use of proceeds under the DIP Credit Agreementis limited to (i) working capital, letters of credit and capitalexpenditures; (ii) other general corporate purposes of the Company andcertain of its subsidiaries (including certain intercompany loans); (iii) therefinancing in full of indebtedness outstanding under the receivablessecuritization programs; (iv) payment of any related transaction costs,fees and expenses; and (v) the costs of administration of the casesarising out of the Chapter 11 Petition and the Canadian Petition.

 

In accordance with the terms of the DIP CreditAgreement, on January 28, 2009, the Company used U.S. term loan proceedsof $360 million, net of lenders fees of $40 million, and Canadian term loanproceeds of $30 million, net of lenders fees of $5 million, to terminate thereceivables securitization programs and repay all indebtedness outstanding of$385 million and to pay other expenses of $1 million.  In addition, other fees and expenses of $17million related to the DIP Credit Agreement were paid for with proceeds of $5million from the DIP Canadian Revolver and available cash.

 

The Company has the option to borrow under the DIPCredit Agreement at a rate of: (i) Alternate Base Rate (“ABR”) Loans bearinterest at a rate per annum equal to the applicable margin (“Applicable Margin”)plus the ABR; (ii) Eurodollar loans bear interest at a rate per annumequal to the Applicable Margin plus the Adjusted LIBO Rate; (iii) Canadianprime rate loans bear interest at a rate per annum equal to the ApplicableMargin plus the Canadian prime rate; and (iv) discount rate loans bearinterest at a rate per annum equal to the Applicable Margin plus the discount rate.  The DIP Credit Agreement provides that theApplicable Margin adjusts upon extensions of the maturity date.** **Asof March 31, 2009, the weighted average interest rate on outstandingborrowings under the DIP Credit Agreement was 10%.

 

Under the DIP Credit Agreement,****interest and fees are payable in arrearson each interest payment date as defined in the DIP Credit Agreement.  If the Company defaults on its obligationsunder the DIP Credit Agreement, the default rate of interest in most cases willbe the rate otherwise in effect plus 2.0% per annum.  In addition to interest, a commitment fee of1.0% per annum is required in respect of the 

 

15

----

 

unutilized commitments under the DIP CreditAgreement. The DIP Credit Agreement also imposes letter of credit fees.

 

The outstanding principal amount of the loans underthe DIP Credit Agreement, plus interest accrued and unpaid, will be due andpayable in full at maturity, which is January 28, 2010 (subject to anearlier maturity date under certain circumstances); provided, that the maturitydate may be extended by the Company through April 28, 2010 andsubsequently through July 28, 2010, upon the satisfaction of certainconditions precedent (including the payment of specified fees) by the Company.

 

U.S. and Canadian borrowings are each subject to aborrowing base derived from a formula based on certain eligible accountsreceivable and inventory, and an amount attributable to real property andequipment, less certain reserves.  As of March 31,2009, the applicable borrowing base was $732 million and the amount availablefor borrowings under the DIP Credit Agreement was $292 million.

 

Borrowings under the DIP Credit Agreement areguaranteed by the Company and certain of its affiliates, and are secured byfirst priority liens on the collateral and all presently owned and hereafteracquired assets of the Company and each of its subsidiaries party to the DIPCredit Agreement, subject to certain permitted prior liens.  Subject to certain exceptions, the DIP CreditAgreement requires certain mandatory prepayments of borrowings from the netproceeds of certain asset dispositions, and casualty or condemnationpayments.  The only Canadian entity thatguarantees U.S. obligations is SSC Canada.

 

The DIP Credit Agreement includes affirmative,negative and financial covenants that impose substantial restrictions on thefinancial and business operations of the Company and those of certain of itssubsidiaries, including their ability to incur or secure debt, makeinvestments, sell assets, pay dividends or make acquisitions.  The DIP Credit Agreement contains events ofdefault customary for debtor-in-possession financings of this type.

 

**Bank Credit Facilities**

The Company’s CreditAgreement provided for a deposit funded letter of credit facility, related tothe variable rate industrial revenue bonds, for approximately $122 million thatwas due to mature on November 1, 2010. In February 2009, due to an event of default under the bondindentures, this credit facility was drawn on to fully repay the industrialrevenue bonds in the aggregate principal amount of $120 million.  A loss on the early extinguishment of debt of$20 million was recorded to write-off the unamortized deferred debt issuancecosts related to the industrial revenue bonds.

 

During the three monthsended March 31, 2009, letters of credit in the amount of $68 million weredrawn on to fund obligations principally related to nonqualified pension plans,commodity derivative instruments and a guarantee for a previouslynon-consolidated affiliate, which increased borrowings under the Company’sCredit Agreement.

 

**11.  Employee Benefit Plans**

 

The Company sponsorsnoncontributory defined benefit pension plans for its U.S. employees and alsosponsors noncontributory and contributory defined benefit pension plans for itsCanadian employees.  The Company’sdefined benefit pension plans cover substantially all hourly employees, as wellas salaried employees hired prior to January 1, 2006.  The U.S. and Canadian defined benefit pensionplans for salaried employees were frozen effective January 1, 2009 and March 1,2009, respectively.

 

The Company’spostretirement plans provide certain health care and life insurance benefitsfor all retired salaried and certain retired hourly employees, and for salariedand certain hourly employees who have reached the age of 60 with ten years ofservice as of January 1, 2007.

 

16

----

 

The components ofnet periodic benefit costs for the defined benefit plans and the components ofthe postretirement benefit costs are as follows:

 
| ** **                                    | ** ** | **Three months ended March 31,** | ** ** |
|-----------------------------------------------|------------|---------------------------------------|------------|
| ** **                                    | ** ** | **Defined  Benefit Plans**            | ** ** | **Postretirement  Plans** | ** ** |
| ** **                                    | ** ** | **2009**                              | ** ** | **2008** | ** ** | **2009** | ** ** | **2008** | ** ** |
| Service cost                                  |       | $                                     | 6          |   | $ | 13 |   | $ | 1 |   | $ | 1 |   |
| Interest cost                                 |       | 50                                    |       | 51 |   | 3 |   | 3 |   |
| Expected return  on plan assets               |       | (50                                   | )          | (63 | ) |   |   |   |   |
| Amortization of  prior service cost (benefit) |       | 1                                     |       | 1 |   | (1 | ) | (1 | ) |
| Amortization of  net (gain) loss              |       | 20                                    |       | 10 |   | (1 | ) | (1 | ) |
| Multi-employer  plans                         |       | 1                                     |       | 1 |   |   |   |   |   |
| Net periodic  benefit cost                    |       | $                                     | 28         |   | $ | 13 |   | $ | 2 |   | $ | 2 |   |

 

**12.  Derivative Instruments and Hedging Activities**

 

OnJanuary 26, 2009, the Chapter 11 Petition and the Canadian Petitioneffectively terminated all existing derivative instruments.  Termination fair values were calculated basedon the potential settlement value. During the three months ended March 31, 2009, a letter of credit inthe amount of $18 million was drawn on related to the settlement of certaincommodity derivative instruments (See Note 10). Excluding these settled liabilities, the Company’s termination valuerelated to its remaining derivative liabilities was approximately $60 million,recorded in other current liabilities in the consolidated balance sheet.  These derivative liabilities were stayed dueto the filing of the Chapter 11 Petition and the Canadian Petition.  These derivative liabilities were adjustedthrough other comprehensive income (loss) (“OCI”) for derivative instrumentsqualifying for hedge accounting and cost of goods sold for derivativeinstruments not qualifying for hedge accounting.  The remaining amount in OCI will be recordedthrough earnings during the period the underlying transaction is recognized orwhen the underlying transaction is no longer expected to occur.

 

TheCompany’s derivative instruments previously used for its hedging activitieswere designed as cash flow hedges and related to minimizing exposures tofluctuations in the price of commodities used in its operations, the movementin foreign currency exchange rates and the fluctuations in the interest rate onvariable rate debt.  All cash flowsassociated with the Company’s derivative instruments were classified asoperating activities in the consolidated statements of cash flows.

 

#### **Commodity Derivative Instruments**

The Company usedderivative instruments, including fixed price swaps, to manage fluctuations incash flows resulting from commodity price risk in the procurement of naturalgas and other commodities, including fuel oil and diesel fuel.  The objective was to fix the price of aportion of the Company’s purchases of these commodities used in themanufacturing process.  The changes inthe market value of such derivative instruments historically offset the changesin the price of the hedged item.

 

For the threemonths ended March 31, 2009, the Company reclassified an $11 million loss(net of tax) from OCI to cost of goods sold when the hedged items were recognized.  For the three months ended March 31,2008, the Company reclassified a $1 million loss (net of tax), from OCI to costof goods sold when the hedged items were recognized.

 

For the threemonths ended March 31, 2009, the Company recorded a $3 million gain (netof tax) in cost of goods sold related to the change in fair value, prior to thePetition Date, of certain commodity derivative instruments not qualifying forhedge accounting.  For the three monthsended March 31, 2008, the 

 

17

----

 

Company recordedan immaterial amount in cost of goods sold related to the change in fair valueof certain commodity derivative instruments not qualifying for hedgeaccounting.

 

For the threemonths ended March 31, 2009, the Company recorded a $3 million loss (netof tax) in cost of goods sold, prior to the Petition Date, on settled commodityderivative instruments not qualifying for hedge accounting.  For the three months ended March 31,2008, the Company recorded an immaterial amount in cost of goods sold onsettled commodity derivative instruments not qualifying for hedge accounting.

 

#### **Foreign Currency DerivativeInstruments**

The Company’s principal foreign exchangeexposure is the Canadian dollar.  TheCompany used foreign currency derivative instruments, including forwardcontracts and options, primarily to protect against Canadian currency exchangerisk associated with expected future cash flows.

 

For the three months ended March 31,2009, the Company reclassified a $2 million loss (net of tax) from OCI to costof goods sold when the hedged items were recognized.  For the three months ended March 31,2008, the Company reclassified a $2 million gain (net of tax) from OCI to costof goods sold when the hedged items were recognized.

 

#### **Interest Rate Swap Contracts**

The Company used interestrate swap contracts to manage interest rate exposure on $300 million of thecurrent Tranche B and Tranche C floating rate bank term debt.  The accounting for the cash flow impact ofthe swap contracts is recorded as an adjustment to interest expense eachperiod.

 

For the three monthsended March 31, 2009, the Company reclassified a $1 million loss (net oftax) from OCI to interest expense when the hedged items were recognized.  For the three months ended March 31,2008, the Company reclassified an immaterial amount from OCI to interestexpense when the hedged items were recognized.

 

**DeferredHedge Gain (Loss)**

The cumulative deferredhedge loss in OCI on all derivative instruments was $24 million (net of tax) atMarch 31, 2009, including a $16 million loss (net of tax) on commodityderivative instruments, a $4 million loss (net of tax) on foreign currencyderivative instruments and a $4 million loss (net of tax) on interest rate swapcontracts.  The Company expects toreclassify the remaining $24 million loss (net of tax) into cost of goods soldand interest expense within the next 12 months.

 

**13.  Income Taxes**

 

Duringthe first quarter of 2009, the Company recorded a $1 million income taxprovision for Canadian withholding taxes and interest on unrecognized taxbenefits.  Because it is more likely thannot that substantially all of the deferred tax assets that are generated in2009 may not be realized, the Company has recorded a full valuation allowance,and has not recorded any additional tax benefit for the three months ended March 31,2009.

 

As previously disclosed,the Canada Revenue Agency (“CRA”) is examining the Company’s income tax returnsfor tax years 1999 through 2005. Certain matters, including transfer prices ofinventory sold by the Company’s Canadian subsidiaries to its U.S. subsidiaries,are currently under review.  With respectto the transfer price issue, the CRA issued assessments of additional incometaxes, interest and penalties.   TheCompany appealed the assessments.  Inorder to appeal the assessment, the Company made payments of $25 million to theCRA in 2008.

 

The remaining matters maybe resolved at the examination level or subsequently upon appeal within thenext twelve months.  While the finaloutcome of the remaining CRA examination matters, including an estimate of therange of the reasonably possible changes to unrecognized tax benefits, is notyet

 

18

----

 

determinable, the Companybelieves that the examination or subsequent appeals will not have a materialadverse effect on its consolidated financial condition or results ofoperations.

 

**14.  Comprehensive Income (Loss)**

 

Comprehensive income (loss) is asfollows:

 
| ** **                                                             | ** ** | **Three months ended  March 31,** | ** ** |
|------------------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                             | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Net loss                                                               |       | $                                      | (214       | ) | $ | (13 | ) |
| Other  comprehensive income (loss), net of tax:                        |       |                                   |       |   |   |
| Net changes in  fair value of hedging instruments                      |       | (1                                     | )          | (3 | ) |
| Net hedging  (gain) loss reclassified into earnings                    |       | 14                                     |       | (1 | ) |
| Net deferred  employee benefit plan expense reclassified into earnings |       | 11                                     |       | 6 |   |
| Comprehensive  loss                                                    |       | $                                      | (190       | ) | $ | (11 | ) |

 

**15.  FairValue Measurements**

 

Certain financial assetsand liabilities are recorded at fair value on a recurring basis, includingderivative instruments prior to termination (See Note 12), the Company’sretained interest in receivables sold to the accounts receivable programs (SeeNote 8) prior to the termination of these programs on January 28, 2009 andthe Company’s residual interest in the Timber Note Holdings (“TNH”) investment.

 

Fair value is defined asthe price that would be received to sell an asset or paid to transfer aliability in an orderly transaction between market participants at themeasurement date.  In determining fairvalue, the Company uses various valuation approaches, including market, incomeand/or cost approaches.  SFAS No. 157establishes a hierarchy for inputs used in measuring fair value that maximizesthe use of observable inputs and minimizes the use of unobservable inputs byrequiring that the most observable inputs be used when available.  Observable inputs are inputs that marketparticipants would use in pricing the asset or liability based on market dataobtained from sources independent of the Company.  Unobservable inputs are inputs that reflectthe Company’s assumptions about the assumptions market participants would usein pricing the asset or liability developed based on the best informationavailable in the circumstances.  Thehierarchy for inputs is broken down into three levels based on theirreliability as follows:

 

*Level 1*– Valuations based on quoted prices in active markets for identical assets orliabilities that the Company has the ability to access.  The Company has no assets or liabilitiesmeasured at fair value on a recurring basis utilizing Level 1 inputs.

 

*Level 2*– Valuations based on quoted prices in markets that are not active or for whichall significant inputs are observable, either directly or indirectly.  The Company has no assets or liabilitiesmeasured at fair value on a recurring basis utilizing Level 2 inputs.

 

*Level 3*– Valuations based on inputs that are unobservable and significant to theoverall fair value measurement.  TheCompany’s asset utilizing Level 3 inputs at March 31, 2009 is the residualinterest in the TNH investment.  The fairvalue of the residual interest in the TNH investment is estimated usingdiscounted residual cash flows.

 

19

----

 

**Fair value on a recurring basis**

Assets and liabilitiesmeasured at fair value on a recurring basis are categorized in the table belowbased upon the level of input to the valuations.

 
| ** **                           | ** ** | **March 31, 2009** | ** ** |
|--------------------------------------|------------|-------------------------|------------|
| ** **                           | ** ** | **Level 1**             | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
|                                 |       |                    |       |   |   |   |   |   |   |
| Residual  interest in TNH investment |       | $                       |       |   | $ |   |   | $ | 35 |   | $ | 35 |   |
|                                      |            |                         |            |  |  |  |  |  |  |  |  |  |  |

 

The following tablepresents the changes in Level 3 assets (liabilities) measured at fair value ona recurring basis for the three months ended March 31, 2009:

 
| ** **                             | ** ** | **Retained  Interest in  Receivables  Sold** | ** ** | **Residual  Interest in  TNH  Investment** | ** ** | **Derivative  Instruments** | ** ** | **Total** | ** ** |
|----------------------------------------|------------|----------------------------------------------|------------|--------------------------------------------|------------|-----------------------------|------------|-----------|------------|
| Balance at  January 1, 2009       |       | $                                            | 120        |                                       | $          | 34                          |       | $         | (87        | ) | $ | 67 |   |
| Net payments,  sales and settlements   |       | (119                                         | )          |                                       |       | 30                          |       | (89       | )          |
| Realized  gains/(losses)               |       | (1                                           | )          | 1                                          |       |                        |       |      |       |
| Unrealized  gains/(losses)             |       |                                         |       |                                       |       | (3                          | )          | (3        | )          |
| Termination of  derivative instruments |       |                                         |       |                                       |       | 60                          |       | 60        |       |
| Balance at  March 31, 2009        |       | $                                            |       |                                       | $          | 35                          |       | $         |       |   | $ | 35 |   |

 

Unrealizedgains (losses) associated with derivative instruments represent the change infair value included in other comprehensive income for derivative instrumentsqualifying for hedge accounting and cost of goods sold for derivativeinstruments not qualifying for hedge accounting prior to termination (See Note12).

 

The netsettlements associated with retained interest in receivables sold are due tothe termination of the securitization programs (See Note 8).  The net payments associated with derivativeinstruments relate to pre-bankruptcy filing contract settlements and thesettlement of contracts at termination, which were supported by letters ofcredit (See Note 10).

 

Due to terminationof all existing derivative instruments, these liabilities are no longermeasured at fair value on a recurring basis (See Note 12).

 

**16.Contingencies**

 

The Company’s past andpresent operations include activities which are subject to federal, state andlocal environmental requirements, particularly relating to air and waterquality.  The Company faces potentialenvironmental liability as a result of violations of these environmentalrequirements, environmental permit terms and similar authorizations that haveoccurred from time to time at its facilities. In addition, the Company faces potential liability for remediation atcertain owned and formerly owned facilities, as well as response costs atvarious sites for which it has received notice as being a potentiallyresponsible party (“PRP”) concerning hazardous substance contamination.  In estimating its reserves for environmentalremediation and future costs at sites where it is a PRP, the Company’sestimated liability of $5 million reflects the Company’s expected share ofcosts after consideration for the relative percentage of waste deposited ateach site, the number of other PRPs, the identity and financial condition ofsuch parties and experience regarding similar matters.  As of March 31, 2009, the Company hadapproximately $18 million reserved for environmental liabilities includedprimarily in other long-term liabilities in the consolidated balancesheets.  The Company believes theliability for these matters was adequately reserved at March 31, 2009.

 

20

----

 

If all or most of theother PRPs are unable to satisfy their portion of the clean-up costs at one ormore of the significant sites in which the Company is involved or the Company’sexpected share increases, the resulting liability could have a material adverseeffect on the Company’s consolidated financial condition, results of operationsor cash flows.

 

The Company settled twoputative class action cases filed in California state court on behalf ofcurrent and former hourly employees at the Company’s California corrugatedcontainer facilities.  These casesalleged violations of the California on-duty meal break and rest periodstatutes.  The court approved asettlement for a total of $9 million for both cases on January 21,2009.  The cases were automaticallystayed due to the filing of the Chapter 11 Petition on January 26, 2009(See Note 1).  The Company establishedreserves of $9 million during 2008 related to these matters, which wereincluded in selling and administrative expenses in the accompanyingconsolidated statement of operations.

 

21

----

 

**ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS**

###  

**FORWARD-LOOKING STATEMENTS**

 

Some information includedin this report may contain forward-looking statements within the meaning of Section 21Eof the Securities Exchange Act of 1934, as amended.  Although we believe that, in making any suchstatements, our expectations are based on reasonable assumptions, any suchstatement may be influenced by factors that could cause actual outcomes andresults to be materially different from those projected.  When used in this document, the words “anticipates,”“believes,” “expects,” “intends” and similar expressions as they relate toSmurfit-Stone Container Enterprises, Inc. or its management, are intendedto identify such forward-looking statements. These forward-looking statements are subject to numerous risks anduncertainties.  There are importantfactors that could cause actual results to differ materially from those inforward-looking statements, certain of which are beyond our control.  These factors, risks and uncertainties arediscussed in our Annual Report on Form 10-K for the year ended December 31,2008 (2008 Form 10-K) filed with the Securities and Exchange Commission.

 

Our actual results,performance or achievements could differ materially from those expressed in, orimplied by, these forward-looking statements. Accordingly, we can give no assurances that any of the eventsanticipated by the forward-looking statements will occur, or if any of them do,what impact they will have on our results of operations or financial condition.  We expressly decline any obligation topublicly revise any forward-looking statements that have been made to reflectthe occurrence of events after the date hereof.

#  

# **GENERAL**

 

We are a wholly-ownedsubsidiary of Smurfit-Stone Container Corporation (Smurfit-Stone), a holdingcompany with no business operations of its own. Smurfit-Stone conducts its business operations through us.

 

**BANKRUPTCYPROCEEDINGS**

 

**Chapter11 Bankruptcy Filings**

 

On January 26, 2009 (the Petition Date), we,Smurfit-Stone and our U.S. and Canadian subsidiaries filed a voluntary petition(the Chapter 11 Petition) for relief under Chapter 11 of the United StatesBankruptcy Code (the Bankruptcy Code) in the United States Bankruptcy Court inWilmington, Delaware (the U.S. Court). On the same day, our Canadian subsidiaries also filed to reorganize (theCanadian Petition) under the Companies’ Creditors Arrangement Act (CCAA) in theOntario Superior Court of Justice in Canada (the Canadian Court).  Our operations in Mexico and Asia werenot included in the filing and will continue to operate outside of the Chapter11 process.

 

The filing of the Chapter 11 Petition and theCanadian Petition constituted an event of default under our debt obligations,and those debt obligations became automatically and immediately due andpayable, although any actions to enforce such payment obligations are stayed asa result of the filing of the Chapter 11 Petition and the CanadianPetition.  As previously disclosed in our2008 Form 10-K, our consolidated balance sheet as of December 31,2008 included a reclassification of $3,032 million to current maturities oflong-term debt from long-term debt.  Dueto the filing of the bankruptcy petitions, our unsecured long-term debt of$2,439 million is included in liabilities subject to compromise at March 31,2009.

 

We, Smurfit-Stone and our U.S. and Canadiansubsidiaries are currently operating as “debtors in possession” under thejurisdiction of the U.S. Court and Canadian Court (the Bankruptcy Courts) andin accordance with the applicable provisions of the Bankruptcy Code and theCCAA.  In general, we and our 

 

22

----

 

subsidiaries are authorized to continue to operateas ongoing businesses, but may not engage in transactions outside the ordinarycourse of business without the approval of the Bankruptcy Courts.

 

**Debtor-In-Possession (DIP) Financing**

 

In connection with filing the Chapter 11 Petitionand the Canadian Petition on January 26, 2009, we and certain of ouraffiliates filed a motion with the Bankruptcy Courts seeking approval to enterinto a Post-Petition Credit Agreement (the DIP Credit Agreement).  On January 27, 2009, the BankruptcyCourts granted interim approval of the DIP Credit Agreement.  Based on such interim approval, on January 28,2009, we entered into the DIP Credit Agreement, subject to final approval ofthe Bankruptcy Courts.  Final approval ofthe DIP Credit Agreement was granted by the U.S. Court on February 23,2009 and by the Canadian Court on February 24, 2009.  Amendments to the DIP Credit Agreement wereentered into on February 25 and 27, 2009.

 

The DIP Credit Agreement, as amended, provides forborrowings up to an aggregate amount of $750 million, consisting of a $400million U.S. term loan for borrowings by us; a $35 million Canadian term loanfor borrowings by Smurfit-Stone Container Canada Inc. (SSC Canada); a $250million U.S. revolving loan for borrowings by us and/or SSC Canada; and a $65million Canadian revolving loan (DIP Canadian Revolver) for borrowings by usand/or SSC Canada.

 

The outstanding principal amount of the loans underthe DIP Credit Agreement, plus interest accrued and unpaid, will be due andpayable in full at maturity, which is January 28, 2010 (subject to anearlier maturity date under certain circumstances); provided, that the maturitydate may be extended through April 28, 2010, and subsequently through July 28,2010 upon the satisfaction of certain conditions (including the payment ofspecified fees).

 

For additional informationon the DIP Credit Agreement, as amended, see Part I, Item 2, “Management’sDiscussion and Analysis of Financial Condition and Results of Operations –Liquidity and Capital Resources - DIP Credit Agreement.”

 

**Reorganization Process**

 

The Bankruptcy Courtshave approved payment of certain of our pre-petition obligations, includingemployee wages, salaries and benefits, and the payment of vendors and otherproviders in the ordinary course for goods and services received after thefiling of the Chapter 11 Petition and Canadian Petition and otherbusiness-related payments necessary to maintain the operation of theCompany’s business.  We have retainedlegal and financial professionals to advise us on the bankruptcyproceedings.  From time to time, we mayseek the U.S. Court’s approval for the retention of additional professionals.

 

Immediately after filingthe Chapter 11 Petition and Canadian Petition, we began notifying all knowncurrent or potential creditors of the bankruptcy filings.  Subject to certain exceptions under theBankruptcy Code and the CCAA, our bankruptcy filings automatically enjoined, orstayed, the continuation of any judicial or administrative proceedings or otheractions against the Company or our property to recover, collect or secure a claimarising prior to the filing of the Chapter 11 Petition and CanadianPetition.  Thus, for example, mostcreditor actions to obtain possession of property from us, or to create,perfect or enforce any lien against our property, or to collect on monies owedor otherwise exercise rights or remedies with respect to a pre-petition claimare enjoined unless and until the Bankruptcy Courts lift the automatic stay.

 

As required by theBankruptcy Code, the United States Trustee for the District of Delaware appointedan official committee of unsecured creditors (the Creditors’ Committee).  The Creditors’ Committee and its legalrepresentatives have a right to be heard on all matters that come before theU.S. Court with respect to us.  A monitorhas been appointed by the Canadian Court with respect to proceedings before theCanadian Court.

 

23

----

 

Under the BankruptcyCode, the Debtors generally must assume or reject pre-petition executorycontracts, including but not limited to real property leases, subject to theapproval of the Bankruptcy Courts and certain other conditions.  In this context, “assumption” means that theCompany agrees to perform its obligations and cure all existing defaults underthe contract or lease, and “rejection” means that it is relieved from itsobligations to perform further under the contract or lease, but is subject to apre-petition claim for damages for the breach thereof subject to certainlimitations.  Any damages resulting fromrejection of executory contracts that are permitted to be recovered under theBankruptcy Code will be treated as liabilities subject to compromise unlesssuch claims were secured prior to the Petition Date.

 

In order to successfullyemerge from bankruptcy, we will need to propose and obtain confirmation by theBankruptcy Courts of a plan of reorganization that satisfies the requirementsof the Bankruptcy Code and the CCAA.  Aplan of reorganization would resolve our pre-petition obligations, set forththe revised capital structure of the newly reorganized entity and provide forcorporate governance subsequent to our exit from bankruptcy.

 

We have the exclusiveright for 120 days after the filing of the Chapter 11 Petition and CanadianPetition to file a plan of reorganization. We will likely file one or more motions to request extensions of thisexclusivity period, which are routinely granted up to 18 months in bankruptcycases of this size and complexity.  Ifour exclusivity period lapsed, any party in interest would be able to file aplan of reorganization.  In addition tobeing voted on by holders of impaired claims and equity interests, a plan ofreorganization must satisfy certain requirements of the Bankruptcy Code and theCCAA and must be approved, or confirmed, by the Bankruptcy Courts in order tobecome effective.

 

The timing of filing aplan of reorganization by us will depend on the timing and outcome of numerousother ongoing matters in the bankruptcy proceedings.  There can be no assurance at this time that aplan of reorganization will be confirmed by the Bankruptcy Courts or that anysuch plan will be implemented successfully.

 

Under the priority schemeestablished by the Bankruptcy Code and the CCAA, unless creditors agreeotherwise, pre-petition liabilities and post-petition liabilities must besatisfied in full before SSCC’s stockholders are entitled to receive anydistribution or retain any property under a plan of reorganization.  The ultimate recovery to creditors and/orstockholders, if any, will not be determined until confirmation of a plan orplans of reorganization.  No assurancecan be given as to what values, if any, will be ascribed to each of theseconstituencies or what types or amounts of distributions, if any, they wouldreceive.  A plan of reorganization couldresult in holders of our liabilities and/or securities receiving nodistribution on account of their interests and cancellation of theirholdings.  Because of such possibilities,the value of our liabilities and securities is highly speculative.  Appropriate caution should be exercised withrespect to existing and future investments in any of our liabilities and/orsecurities.  At this time there is noassurance we will be able to restructure as a going concern or successfullypropose or implement a plan of reorganization.

 

For periods subsequent tothe bankruptcy filings, we have applied the American Institute of CertifiedPublic Accountants’ Statement of Position (SOP) 90-7, “Financial Reportingby Entities in Reorganization under the Bankruptcy Code” (SOP 90-7), inpreparing the consolidated financial statements.  SOP 90-7 requires that the financialstatements distinguish transactions and events that are directly associatedwith the reorganization from the ongoing operations of the business.  Accordingly, certain revenues, expenses(including professional fees), realized gains and losses and provisions forlosses that are realized or incurred in the bankruptcy proceedings have beenrecorded in reorganization items in the consolidated statements ofoperations.  In addition, pre-petitionobligations that may be impacted by the bankruptcy reorganization process havebeen classified on the consolidated balance sheet in liabilities subject tocompromise.  These liabilities arereported at the amounts expected to be allowed by the Bankruptcy Courts, evenif they may be settled for lesser amounts.

 

**LiabilitiesSubject to Compromise**

 

Liabilities subject tocompromise represent unsecured obligations that will be accounted for under aplan of reorganization. Generally, actions to enforce or otherwise effectpayment of pre-Chapter 11 or CCAA liabilities are stayed. SOP 90-7 requirespre-petition liabilities that are subject to compromise to be reported at theamounts expected to be allowed, even if they may be settled for lesseramounts.  These liabilities represent theamounts expected to be allowed on known or potential claims to be resolvedthrough the Chapter 11 and CCAA process, and remain subject to futureadjustments arising from negotiated settlements, actions of the BankruptcyCourts, rejection of executory contracts and unexpired leases, thedetermination as to the value of collateral securing the claims, proofs ofclaim, or other events.  Liabilitiessubject to compromise also include certain items that may be assumed under theplan of reorganization, and as such, may be subsequently reclassified toliabilities not subject to compromise.

 

The Bankruptcy Courtshave approved payment of certain pre-petition obligations, including employeewages, salaries and benefits, and the payment of vendors and other providers inthe ordinary course for goods and services received after the filing of theChapter 11 Petition and the Canadian Petition and other business-relatedpayments necessary to maintain the operation of our business. Obligationsassociated with these matters are not classified as liabilities subject tocompromise.

 

Holders of pre-petition claims are required to file proofs of claims bythe “bar date”, which will be established later with approval of the BankruptcyCourts.  A bar date is the date by whichcertain claims against us must be filed if the claimants wish to receive anydistribution in the bankruptcy cases. Once a bar date is established, creditors will be notified of the bar dateand the requirement to file a proof of claim with the Bankruptcy Courts.Differences between liability amounts estimated by us and claims filed bycreditors will be investigated and, if necessary, the Bankruptcy Courts willmake a final determination of the allowable claim.  The determination of how liabilities willultimately be treated cannot be made until the Bankruptcy Courts approve a planof reorganization.  Accordingly, theultimate amount or treatment of such liabilities is not determinable at thistime.  See Note 5 of the Notes toConsolidated Financial Statements.

 

24

----

 

**GoingConcern Matters**

 

The consolidatedfinancial statements and related notes have been prepared assuming that we willcontinue as a going concern, although our bankruptcy filings raise substantialdoubt about our ability to continue as a going concern.  The consolidated financial statements do notinclude any adjustments related to the recoverability and classification ofrecorded assets or to the amounts and classification of liabilities or anyother adjustments that might be necessary should we be unable to continue as agoing concern.  Our ability to continueas a going concern is dependent on market conditions and our ability to improveprofitability, obtain alternative financing to replace the DIP Credit Agreementand prepetition Credit Agreement and restructure our obligations in a mannerthat allows us to obtain confirmation of a plan of reorganization by theBankruptcy Courts.

 

In order to improveprofitability, management is taking actions to further reduce corporate andoperational expenses and is continuing to align manufacturing capacity to meetmarket demands and standardize manufacturing processes throughout all operations.These actions will result in the closure of additional manufacturing facilitiesand further headcount reductions during 2009.

 

25

----

 

**RESULTS OF OPERATIONS**

 

# **Overview**

 

We had a net loss of $214million for the first quarter of 2009 compared to a net loss of $13 million forthe first quarter of 2008.  The 2009results were negatively impacted by debtor-in-possession debt issuance costs of$63 million, reorganization items of $54 million, lower segment operatingprofits of $42 million, loss on early extinguishment of debt of $20 million andhigher restructuring charges.  The 2008results benefited from higher non-cash foreign currency exchange gains, butwere negatively impacted by a charge of $22 million to fully reserve for allamounts due from Calpine Corrugated, LLC and litigation charges of $8 million. The segment operating results for 2009 werenegatively impacted by lower sales volume for containerboard and corrugatedcontainers and higher costs for energy, wood fiber and chemicals compared tolast year. The 2009 results benefited from lower reclaimed fiber costcompared to 2008.

 

26

----

 

For the second quarter of2009, we anticipate our financial performance will continue to be negativelyimpacted by weak economic conditions.  Weexpect our operating results for our containerboard, corrugated containers andreclamation operations to be comparable to the first quarter of 2009, exceptthat second quarter results will include the recognition of any benefit of thealternative fuel tax credit (as discussed under Liquidity and CapitalResources, “Future Cash Flows”) from January 1 through June 30, 2009.  We expect higher containerboard productionand increased shipments of corrugated containers.  We also anticipate lower cost for energy andwood fiber and additional benefits as a result of converting plant closures andother ongoing reorganization initiatives. The higher volumes and lower costsare expected to be offset by lower sales prices.  We have incurred and will continue to incursignificant costs associated with our bankruptcy proceedings.

 

**Reorganization Items and OtherBankruptcy Related Costs**

 

**ReorganizationItems**

SOP 90-7 requiresseparate disclosure of reorganization items such as realized gains and lossesfrom the settlement of pre-petition liabilities, provisions for lossesresulting from the reorganization of the business, as well as professional feesdirectly related to the process of reorganizing the Company under Chapter 11and the CCAA. Our reorganization items for the three months ended March 31,2009 consist of the following:

 
| ** **                                             | ** ** | **Three months ended  March 31, 2009** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------|------------|
|                                                   |       |                                        |       |
| Provision for  rejected executory contracts and leases |       | $                                           | 39         |   |
| Professional  fees                                     |       | 16                                          |       |
| Accounts payable  settlement gains                     |       | (1                                          | )          |
| Total  reorganization items                            |       | $                                           | 54         |   |

 

Since the Petition Date, we have received approvalfrom the Bankruptcy Courts to reject a number of leases and other executorycontracts of various types.  We arereviewing all of our executory contracts and unexpired leases to determinewhich additional contracts and leases we will reject.  We expect that additional liabilities subjectto compromise will arise due to rejection of executory contracts, includingleases, and from the determination of the U.S. Court (or agreement by partiesin interest) of allowed claims for contingencies and other disputedamounts.  We also expect that theassumption of additional executory contracts and unexpired leases will convertcertain of the liabilities shown on the accompanying consolidated balance sheetas liabilities subject to compromise to liabilities not subject tocompromise.  Due to the uncertain natureof many of the potential claims, we cannot project the magnitude of such claimswith certainty.

 

Professional feesdirectly related to the reorganization include fees associated with advisors tous, the Creditors’ Committee and certain secured creditors.

 

Reorganization itemsexclude employee severance and other restructuring charges recorded during thethree months ended March 31, 2009.

 

**Other Bankruptcy Related Costs**

Debtor-in-possession debtissuance costs of $63 million were incurred and paid during the first quarterof 2009 in connection with entering into the DIP Credit Agreement.

 

27

----

 

# **Restructuring Activities**

 

During the first quarterof 2009, we closed three converting facilities and announced the closure offive additional converting facilities. As a result of the closures in the first quarter of 2009 and otherongoing initiatives, we reduced our headcount by approximately 1,000employees.  We recorded restructuringcharges of $13 million, including non-cash charges of $1 million related to theacceleration of depreciation for converting equipment expected to be abandonedor taken out of service. The remaining charges of $12 million were primarilyfor severance and benefits.  The netsales of the announced and closed converting facilities as of March 31,2009 prior to closure and for the year ended December 31, 2008 were $20million and $138 million, respectively. The majority of these net sales are expected to be transferred to otheroperating facilities.  Additional chargesof up to $11 million are expected to be recorded in future periods forseverance and benefits related to the closure of these and previously closedfacilities.

 

We continue to review andevaluate various restructuring and other alternatives to streamline ouroperations, improve efficiencies and reduce cost.  Such initiatives may include selling assets,idling facilities, consolidating operations and functions, relocating orreducing production and voluntary and involuntary employee separationprograms.  In addition, such actions willsubject us to additional short-term costs, which may include facility shutdowncosts, asset impairment charges, lease commitment costs, employee retention andseverance costs and other closing costs.

 

**FirstQuarter 2009 Compared to First Quarter 2008**

** **
| ** **                                                        | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                        | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| **(In millions)**                                                 | ** ** | **Net  Sales**                        | ** ** | **Profit/  (Loss)** | ** ** | **Net  Sales** | ** ** | **Profit/  (Loss)** | ** ** |
|                                                              |       |                                  |       |   |   |   |   |   |   |
| Containerboard,  corrugated containers and reclamation operations |       | $                                     | 1,371      |   | $ | 66 |   | $ | 1,795 |   | $ | 108 |   |
|                                                              |       |                                  |       |   |   |   |   |   |   |
| Restructuring  charges                                            |       |                                  |       | (13 | ) |   |   | (4 | ) |
| Gain (loss) on sale  of assets                                    |       |                                  |       | (2 | ) |   |   | 3 |   |
| Interest  expense, net                                            |       |                                  |       | (71 | ) |   |   | (63 | ) |
| Loss on early  extinguishment of debt                             |       |                                  |       | (20 | ) |   |   |   |   |
| Non-cash foreign  currency exchange gains (losses)                |       |                                  |       | 3 |   |   |   | 15 |   |
| Debtor-in-possession  debt issuance costs                         |       |                                  |       | (63 | ) |   |   |   |   |
| Reorganization  items                                             |       |                                  |       | (54 | ) |   |   |   |   |
| Corporate  expenses and other (Note 1)                            |       |                                  |       | (59 | ) |   |   | (90 | ) |
| Loss before  income taxes                                         |       |                                  |       | $ | (213 | ) |   |   | $ | (31 | ) |
|                                                                   |            |                                       |            |  |  |  |  |  |  |  |  |  |  |

 

Note 1: Amounts includecorporate expenses and other expenses not allocated to operations, includingCalpine Corrugated charges and litigation charges for 2008.

 

Net salesdecreased 23.6% in the first quarter of 2009 compared to last year.  Net sales were negatively impacted by $320million in 2009 as a result of lower third-party sales of containerboard andlower corrugated container sales volume. Third party shipments of containerboard were lower due primarily toweaker demand in the export market. North American shipments of corrugatedcontainers in 2009 were negatively impacted by weaker market conditions,container plant closures and actions to improve margins by exiting unprofitableaccounts.  Net sales were also negativelyimpacted by lower average selling prices ($104 million) primarily for reclaimedmaterial and containerboard. The average price for old corrugated containers(OCC) decreased approximately $80 per ton compared to last year.

 

28

----

 

Our containerboard millsoperated at 82.4% of capacity in the first quarter of 2009.  Containerboard production was 19.6% lowercompared to last year due primarily to the market related downtime taken by ourmills as a result of lower demand. Production of market pulp decreased by 46.3% compared to last year dueprimarily to the closure of the Pontiac pulp mill in October 2008.  Production of kraft paper decreased 55.8%compared to last year due primarily to lower demand, which resulted in marketrelated downtime in the first quarter of 2009.** **Total tons of fiber reclaimed andbrokered decreased 27.7% compared to last year due to weaker demand.

 

Cost of goods soldas a percent of net sales in the first quarter of 2009 was 88.8%, compared to88.2% last year.  Cost of goods solddecreased from $1,583 million in 2008 to $1,217 million in 2009 due primarilyto the market related downtime taken at our mills in the first quarter of 2009,and lower costs of reclaimed material ($110 million), which was offset byhigher costs of energy ($16 million), wood fiber ($15 million), and chemicals($9 million).

 

Selling andadministrative expense decreased $46 million in the first quarter of 2009compared to the first quarter of 2008 due primarily to cost reductions from ongoing and prior-year initiatives and the impacts of the Calpine Corrugatedcharges and litigation charges recorded in 2008 totaling $30 million.

 

Interest expense, net was$71 million in the first quarter of 2009. The $8 million increase compared to the first quarter of 2008 wasimpacted by higher average borrowings ($12 million) and lower average interestrates ($4 million).  Our overall averageeffective interest rate in the first quarter of 2009 was lower than 2008 by0.36%.  Since January 26, 2009, thePetition Date, we discontinued interest payments on our unsecured notes andcertain other unsecured debt.  Interestexpense ($48 million in the three months ended March 31, 2009) continuesto be accrued on the unsecured debt until a determination is made that it willnot be an allowed claim in the bankruptcy proceedings.

 

In the first quarter of2009, we recorded a loss on early extinguishment of debt of $20 million for thenon-cash write-off of deferred debt issuance cost related to the Stevenson,Alabama mill industrial revenue bonds, which were repaid.

 

In the first quarter of2009, we recorded non-cash foreign currency exchange gains of $3 millioncompared to gains of $15 million for the same period in 2008.

 

Inthe first quarter of 2009, we recorded a $1 million income tax provision forCanadian withholding taxes and interest on unrecognized tax benefits.  Because it is more likely than not thatsubstantially all of the deferred tax assets that are generated in 2009 may notbe realized, we have recorded a full valuation allowance, and have not recordedany additional tax benefit related to the three months ended March, 31 2009.

 

29

----

 

#### **Statistical Data**

 
| ** **                                                   | ** ** | **Three months ended  March 31,** | ** ** |
|--------------------------------------------------------------|------------|----------------------------------------|------------|
| **(In thousands of tons, except as noted)**                  | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Mill production                                              |       |                                   |       |   |   |
| Containerboard  (1)                                          |       | 1,435                                  |       | 1,784 |   |
| Kraft paper                                                  |       | 19                                     |       | 43 |   |
| Market pulp                                                  |       | 66                                     |       | 123 |   |
| SBL                                                          |       | 33                                     |       | 33 |   |
| North American  corrugated containers sold (billion sq. ft.) |       | 16.6                                   |       | 17.6 |   |
| Fiber reclaimed  and brokered                                |       | 1,241                                  |       | 1,716 |   |

 

----

(1) Forthe three months ended March 31, 2009 and 2008, our corrugated containerplants consumed 1,135,000 tons and 1,171,000 tons of containerboard,respectively.

 

#### **LIQUIDITYAND CAPITAL RESOURCES**

 

Liquidity improved significantly during the firstquarter of 2009.  At March 31, 2009,we had cash and cash equivalents of $248 million and the amount available forborrowings under the DIP Credit Agreement was $292 million.  Working capital and our cash flows fromoperations were favorably impacted by the stay of payment of liabilitiessubject to compromise resulting from the bankruptcy filings.  The improvement in liquidity was positivelyimpacted by the additional availability resulting from the DIP Credit Agreemententered into on January 28, 2009.

 

The following tablesummarizes our cash flows for the three months ended March 31:

 
| **(In millions)**                 | ** ** | **2009** | ** ** | **2008** | ** ** |
|-----------------------------------|------------|----------|------------|----------|------------|
| Net cash  provided by (used for): |       |     |       |     |       |
| Operating  activities             |       | $        | 111        |     | $          | (27 | ) |
| Investing  activities             |       | (53      | )          | (90      | )          |
| Financing  activities             |       | 64       |       | 120      |       |
| Net increase in  cash             |       | $        | 122        |     | $          | 3 |   |

 

**Net Cash Provided By (Used For)Operating Activities**

The net cash provided by(used for) operating activities for the three months ended March 31, 2009improved compared to the same period in 2008 due primarily to lower workingcapital.  Working capital, principallyaccounts payable and interest payable, was favorably impacted by the stay ofpayment of liabilities subject to compromise resulting from the bankruptcyfilings.  Since January 26, 2009,the Petition Date, we discontinued interest payments on our unsecured seniornotes and certain other unsecured debt. Interest expense ($48 million in thethree months ended March 31, 2009) will continue to be accrued on theunsecured debt until a determination is made that it will not be an allowedclaim in the bankruptcy proceedings.

 

**Net Cash Provided By (Used For)Investing Activities**

Net cash used forinvesting activities was $53 million for the three months ended March 31,2009.  Expenditures for property, plantand equipment were $39 million for the first three months of 2009, compared to$94 million for the same period last year. The amount expended for property, plant and equipment in the first threemonths of 2009 was principally for projects related to upgrades, costreductions and ongoing initiatives. Advances to affiliates, net in 2009 of $15 million is principallyrelated to funding an obligation pertaining to a guarantee for a previously non-consolidatedaffiliate.  See Note 9 

 

30

----

 

of the Notes toConsolidated Financial Statements.  Forthe three months ended March 31, 2008, we received proceeds of $4 millionfrom the sale of properties primarily related to previously closed facilities.

 

**Net Cash Provided By (Used For)Financing Activities**

Net cash provided byfinancing activities for the three months ended March 31, 2009 of $64million included proceeds from the DIP Credit Agreement of $440 million whichwere used to terminate our receivables securitization programs and repay allindebtedness outstanding under the programs of $385 million.  In addition, debt issuance cost of $63million was incurred and paid with the proceeds and available cash.  We paid dividends to Smurfit-Stone in theaggregate amount of approximately $2 million in the first quarter of 2008 tofund the dividend obligations of Smurfit-Stone to the holders of its 7% Series ACumulative Exchangeable Redeemable Convertible Preferred Stock.  We are restricted from paying futuredividends under the DIP Credit Agreement.

 

**DIP Credit Agreement**

In connection with filing the Chapter 11 Petitionand the Canadian Petition on January 26, 2009, we and certain of ouraffiliates filed a motion with the Bankruptcy Courts seeking approval to enterinto a DIP Credit Agreement.  On January 27,2009, the Bankruptcy Courts granted interim approval of the DIP CreditAgreement.  Based on such interimapproval, on January 28, 2009 we entered into the DIP Credit Agreement,subject to final approval of the Bankruptcy Courts.  Final approval of the DIP Credit Agreementwas granted by the U.S. Court on February 23, 2009 and by the CanadianCourt on February 24, 2009. Amendments to the DIP Credit Agreement were entered into on February 25and 27, 2009.

 

The DIP Credit Agreement, as amended, provides forborrowings up to an aggregate committed amount of $750 million, consisting of a$400 million U.S. term loan for borrowings by us; a $35 million Canadian termloan for borrowings by SSC Canada; a $250 million U.S. revolving loan forborrowings by us and/or SSC Canada; and a $65 million Canadian revolving loanfor borrowings by us and/or SSC Canada.

 

The use of proceeds under the DIP Credit Agreementis limited to (i) working capital, letters of credit and capitalexpenditures; (ii) other general corporate purposes of ours and certain ofour subsidiaries (including certain intercompany loans); (iii) therefinancing in full of indebtedness outstanding under our receivablessecuritization programs; (iv) payment of any related transaction costs,fees and expenses; and (v) the costs of administration of the casesarising out of the Chapter 11 Petition and the Canadian Petition.

 

In accordance with the terms of the DIP CreditAgreement, on January 28, 2009, we used U.S. term loan proceeds of $360million, net of lenders fees of $40 million, and Canadian term loan proceeds of$30 million, net of lenders fees of $5 million, to terminate the receivablessecuritization programs and repay all indebtedness outstanding of $385 millionand to pay other expenses of $1 million. In addition, other fees and expenses of $17 million related to the DIPCredit Agreement were paid for with proceeds of $5 million from the DIP CanadianRevolver and available cash.

 

We have the option to borrow under the DIP CreditAgreement at a rate of: (i) Alternate Base Rate (ABR) Loans bear interestat a rate per annum equal to the applicable margin (Applicable Margin) plus theABR; (ii) Eurodollar loans bear interest at a rate per annum equal to theApplicable Margin plus the Adjusted LIBO Rate; (iii) Canadian prime rateloans bear interest at a rate per annum equal to the Applicable Margin plus theCanadian prime rate; and (iv) discount rate loans bear interest at a rateper annum equal to the Applicable Margin plus the discount rate. The DIP Credit Agreement provides that the Applicable Margin adjustsupon extensions of the maturity date.** **As of March 31, 2009, theweighted average interest rate on outstanding borrowings under the DIP CreditAgreement was 10%.

 

Under the DIP Credit Agreement,****interest and fees are payable in arrearson each interest payment date as defined in the DIP Credit Agreement.  If we default on our obligations under the DIPCredit Agreement, the default rate of interest in most cases will be the rateotherwise in effect plus 2.0% per annum. In addition to interest, a commitment fee of 1.0% per annum is requiredin respect of the unutilized 

 

31

----

 

commitments under the DIP Credit Agreement.  The DIP Credit Agreement also imposes letterof credit fees.

 

The outstanding principal amount of the loans underthe DIP Credit Agreement, plus interest accrued and unpaid, will be due andpayable in full at maturity, which is January 28, 2010 (subject to anearlier maturity date under certain circumstances); provided, that the maturitydate may be extended through April 28, 2010, and subsequently through July 28,2010 upon the satisfaction of certain conditions precedent (including thepayment of specified fees).

 

U.S. and Canadian borrowings are each subject to aborrowing base derived from a formula based on certain eligible accountsreceivable and inventory, and an amount attributable to real property andequipment, less certain reserves.  As of March 31,2009, the applicable borrowing base was $732 million and the amount availablefor borrowings under the DIP Credit Agreement was $292 million.  In addition, as of March 31, 2009, wehad cash and cash equivalents of $248 million.

 

Borrowingsunder the DIP Credit Agreement are guaranteed by us and certain of ouraffiliates, and are secured by first priority liens in the collateral accountsand all presently owned and hereafter acquired assets of ours and each of oursubsidiaries party to the DIP Credit Agreement, subject to certain permittedprior liens.  Subject to certainexceptions, the DIP Credit Agreement requires certain mandatory prepayments of borrowingsfrom the net proceeds of certain asset dispositions, and casualty orcondemnation payments.  The only Canadianentity that guarantees U.S. obligations is SSC Canada.  The DIP Credit Agreement includes affirmative,negative and financial covenants that impose substantial restrictions on ourfinancial and business operations and those of certain of our subsidiaries,including their ability to incur or secure debt, make investments, sell assets,pay dividends or make acquisitions. The DIP Credit Agreement contains events ofdefault customary for debtor-in-possession financings of this type.

 

**Bank Credit Facilities**

Our obligations under theCredit Agreement are unconditionally guaranteed by Smurfit-Stone and ourmaterial U.S. subsidiaries.  Theobligations of SSC Canada under the Credit Agreement are unconditionallyguaranteed by Smurfit-Stone, we, our material U.S. subsidiaries and thematerial Canadian subsidiaries of SSC Canada. Our obligations under the Credit Agreement are secured by a security interestin substantially all of our assets and properties, and those of our materialU.S. subsidiaries, by a pledge of all of our capital stock and the material ourU.S. subsidiaries and by a pledge of 65% of the capital stock of SSC Canadathat is directly owned by us.  Thesecurity interests securing our obligation under the Credit Agreement excludecash, cash equivalents, certain trade receivables, three paper mills and theland and buildings of certain corrugated container facilities.  The obligations of SSC Canada under theCredit Agreement are secured by a security interest in substantially all of theassets and properties of SSC Canada and the material Canadian subsidiaries ofSSC Canada, by a pledge of all of the capital stock of the material Canadiansubsidiaries of SSC Canada and by the same U.S. assets, properties and capitalstock that secures our obligations under the Credit Agreement.  The security interests securing SSC Canada’sobligation under the Credit Agreement exclude three mills and property relatedthereto and certain other real property located in New Brunswick and Quebec.

 

The Credit Agreementcontains various covenants and restrictions including (i) limitations ondividends, redemptions and repurchases of capital stock, (ii) limitationson the incurrence of indebtedness, liens, leases and sale-leasebacktransactions, (iii) limitations on capital expenditures and (iv) maintenanceof certain financial covenants.  TheCredit Agreement also requires prepayments if we have excess cash flows, asdefined therein, or receive proceeds from certain asset sales, insurance orincurrence of certain indebtedness.

 

On January 15, 2009our credit ratings were lowered, increasing the Applicable Rate by 0.25%.  We have the option to borrow at a rate equalto LIBOR plus 2.25% or alternate base rate (ABR) plus 1.00% for the term loanfacilities and LIBOR plus 2.50% or ABR plus 1.25% for the revolving creditfacilities (the Applicable Rate).

 

32

----

 

The filing of theChapter 11 Petition and the Canadian Petition constituted an event ofdefault under our debt obligations, and those debt obligations becameautomatically and immediately due and payable, although any actions to enforcesuch payment obligations are stayed as a result of the filing of the Chapter 11Petition and the Canadian Petition.  Aspreviously disclosed in our 2008 Form 10-K, our consolidated balance sheet asof December 31, 2008 included a reclassification of $3,032 million tocurrent maturities of long-term debt from long-term debt. Since January 26,2009, the date of the bankruptcy filings, we discontinued interest payments onour unsecured senior notes and certain other unsecured debt.

 

We had a deposit funded letter of credit facility,related to our variable rate industrial revenue bonds, for approximately$122 million that was due to mature on November 1, 2010. In February 2009,due to an event of default under the bond indentures, this credit facility wasdrawn on to fully repay the industrial revenue bonds in the principal amount of$120 million.

 

During the three monthsended March 31, 2009, letters of credit in the amount of $68 million weredrawn on to fund obligations principally related to nonqualified pension plans,commodity derivative instruments and a guarantee for a previouslynon-consolidated affiliate, which increased borrowings under our creditagreement.

 

**FutureCash Flows**

 

The U.S Internal RevenueCode allows an excise tax credit for alternative fuel mixtures produced by ataxpayer for sale, or for use as a fuel in a taxpayer’s trade or business.  The credit is scheduled to expire on December 31,2009.  On May 6, 2009, we werenotified that our registration as an alternative fuel mixer was approved by theInternal Revenue Service.  Subsequently,we submitted refund claims of approximately $183 million for the period January 1,2009 through April 30, 2009, related to production at eight of our U.S.mills. We expect to receive these refunds in the second quarter of 2009.  Our financial results for the three monthsended March 31, 2009, do not reflect the recognition of any benefitrelated to this matter because our registration as an alternative fuel mixerhad not yet been approved.  We expect tosubmit monthly refund claims of approximately $45 million for the remainder of2009.

 

Under the DIP CreditAgreement, capital expenditures for the 11-month period ending December 31,2009 are not allowed to exceed $205 million. In the first quarter of 2009, capital spending of $39 million included$18 million for the two months ended March 31, 2009.

 

We recorded restructuringcharges of $13 million during the first quarter of 2009, including $12 millionfor exit liabilities, which were principally for severance and benefits.  During the three months ended March 31,2009, we incurred cash expenditures of $7 million for these exitliabilities.  The remaining exitliabilities are expected to be paid principally in the second quarter of 2009.

 

At December 31,2008, we had $34 million of exit liabilities related principally to restructuringactivities.  During the three monthsended March 31, 2009, we incurred cash expenditures of $8 million forthese exit liabilities.  In addition,exit liabilities have been decreased by $5 million due to receiving approvalfrom the Bankruptcy Courts to reject leases related to previously closedfacilities.  The remaining cashexpenditures in connection with our restructuring activities will continue tobe funded through operations as originally planned.

 

In the first quarter of 2009, letters of credit weredrawn on in the amount of $27 million related to funding certain of ournonqualified pension plan obligations. Excluding the impact of these letters ofcredit, we contributed approximately $6 million to our defined benefit plans inthe first quarter of 2009.

 

**Canadian Income Taxes**

 

Duringthe first quarter of 2009, we recorded a $1 million income tax provision forCanadian withholding taxes and interest on unrecognized tax benefits.  Because it is more likely than not thatsubstantially all of 

 

33

----

 

thedeferred tax assets that are generated in 2009 may not be realized, we haverecorded a full valuation allowance, and have not recorded any additional taxbenefit for the three months ended March 31, 2009.

 

As previously disclosed,the Canada Revenue Agency (“CRA”) is examining our income tax returns for taxyears 1999 through 2005. Certain matters, including transfer prices ofinventory sold by the Company’s Canadian subsidiaries to its U.S. subsidiaries,are currently under review.  With respectto the transfer price issue, the CRA has issued assessments of additionalincome taxes, interest and penalties.  We have appealed the assessments. In order to appeal the assessment, we made payments of $25 million to theCRA in 2008.

 

The remaining matters maybe resolved at the examination level or subsequently upon appeal within thenext twelve months.  While the finaloutcome of the remaining CRA examination matters, including an estimate of therange of the reasonably possible changes to unrecognized tax benefits, is notyet determinable, we believe that the examination or subsequent appeals willnot have a material adverse effect on our consolidated financial condition orresults of operations.

 

**Off-Balance Sheet Arrangements**

 

We, under two separateaccounts receivable securitization programs, sold without recourse, on anongoing basis, certain of our accounts receivable to non-consolidated financingentities.  Our retained interest in thesenon-consolidated entities was carried at fair value and included in retainedinterest in receivables sold in the accompanying December 31, 2008consolidated balance sheet.  On January 28,2009, in conjunction with the filing of the Chapter 11 Petition and theCanadian Petition, the accounts receivable securitization programs wereterminated and all outstanding receivables previously sold to thenon-consolidated financing entities were repurchased with proceeds fromborrowings under the DIP Credit Agreement. The repurchase of receivables of $385 million has been included in thecash flows from financing activities on the consolidated statement of cashflows.

 

34

----

 

**ITEM 3.**                             **QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUTMARKET RISK**

###### ** **

###### **Weare exposed to various market risks, including commodity price risk, foreigncurrency risk and interest rate risk.  Tomanage the volatility related to these risks, we have historically entered intovarious derivative contracts.  Themajority of these contracts are settled in cash.  However, such settlements have not had asignificant effect on our liquidity in the past, nor are they expected to besignificant in the future.  We do not usederivatives for speculative or trading purposes.**

 

On January 26, 2009,the Chapter 11 Petition and the Canadian Petition effectively terminated allexisting derivative instruments. Termination fair values were calculated based on the potentialsettlement value. During the first quarter of 2009, letters of credit of $18million were drawn on related to the settlement of certain of our derivativeinstruments.  Excluding these settledliabilities, the termination value related to the remaining derivativeliabilities was approximately $60 million, which were stayed due to the filingof the Chapter 11 Petition and the Canadian Petition.  These derivative liabilities were adjustedthrough other comprehensive income (loss) (OCI) for derivative instrumentsqualifying for hedge accounting and cost of goods sold for derivative instrumentsnot qualifying for hedge accounting.  Theremaining amount in OCI will be recorded through earnings during the period theunderlying transaction is recorded or when the underlying transaction is nolonger expected to occur.

 

**Commodity Price Risk**

We used derivativeinstruments, including fixed price swaps, to manage fluctuations in cash flowsresulting from commodity price risk in the procurement of natural gas and othercommodities, including fuel oil and diesel fuel.  The objective was to fix the price of aportion of our purchases of these commodities used in the manufacturingprocess.  The changes in the market valueof such derivative instruments historically offset the changes in the price ofthe hedged item.  The changes in energycost discussed in Item 2, “Management’s Discussion and Analysis of FinancialCondition and Results of Operations”, include the impact of the natural gasderivative instruments.  See Note 12 ofthe Notes to Consolidated Financial Statements.

 

**Foreign Currency Risk**

Our principal foreignexchange exposure is the Canadian dollar. Assets and liabilities outside the United States are primarily locatedin Canada. The functional currency for our Canadian operations is the U.S.dollar.  Our investments in foreignsubsidiaries with a functional currency other than the U.S. dollar are nothedged.

 

We used financialderivative instruments, including forward contracts and options, primarily toprotect against Canadian currency exchange risk associated with expected futurecash flows.  The Canadian dollar as of March 31,2009, compared to December 31, 2008, weakened 2.91% against the U.S.dollar.  We recognized non-cash foreigncurrency exchange gains of $3 million for the three month period ended March 31,2009 compared to gains of $15 million for the same period in 2008.

 

**InterestRate Risk**

Ourearnings and cash flow are significantly affected by the amount of interest onour indebtedness.  Our financingarrangements include both fixed and variable rate debt in which changes ininterest rates will impact the fixed and variable rate debt differently.  A change in the market interest rate of fixedrate debt will impact the fair value of the debt, whereas a change in theinterest rate on the variable rate debt will impact interest expense and cashflows.  Our objective is to mitigateinterest rate volatility and reduce or cap interest expense within acceptablelevels of market risk.  We periodicallyenter into interest rate swaps, caps or options to hedge interest rate exposureand manage risk within Company policy. Any derivative would be specific to the debt instrument, contract ortransaction, which would determine the specifics of the hedge.

 

We used interest rateswap contracts to manage interest rate exposure on $300 million of the currentTranche B and Tranche C floating rate bank term debt.  The accounting for the cash flow impact ofthe swap contracts is recorded as an adjustment to interest expense eachperiod.

 

35

----

 

**ITEM 4.          CONTROLS AND PROCEDURES**

 

**Evaluation of Disclosure Controlsand Procedures**

Our management, with theparticipation of our principal executive officer and our principal financialofficer, evaluated the effectiveness of our disclosure controls and procedures(as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of theend of the period covered by this report and concluded that, as of such date,our disclosure controls and procedures were adequate and effective.

 

**Changes in Internal Control**

There have not been any changesin our internal control over financial reporting during the most recent quarterthat have materially affected, or are reasonably likely to materially affect,our internal control over financial reporting.

 

**PART II - OTHER INFORMATION**

 

**ITEM 1.          LEGAL PROCEEDINGS**

 

On January 26, 2009, we, Smurfit-Stone and ourU.S. and Canadian subsidiaries filed the Chapter 11 Petition for relief underChapter 11 of the Bankruptcy Code in the U.S. Court.  On the same day, our Canadian subsidiariesalso filed the Canadian Petition under the CCAA in the Canadian Court.  Our operations in Mexico and Asia werenot included in the filing and will continue to operate outside of the Chapter11 process.  See Item 2. “Management’sDiscussion and Analysis of Financial Condition and Results of Operations —Bankruptcy Proceedings.”

 

We settled twoputative class action cases filed in California state court on behalf ofcurrent and former hourly employees at our California corrugated containerfacilities.  These cases alleged violations of the California on-duty mealbreak and rest period statutes.  The court approved a settlement for atotal of approximately $9 million for both cases on January 21,2009.  The cases were automatically stayed due to the filing of theChapter 11 Petition on January 26, 2009.  We had established reservesof $9 million during 2008 related to these matters.

 

**ITEM 1A.       RISK FACTORS**

 

There are no materialchanges to the risk factors as disclosed in our 2008 Form 10-K.

 

**ITEM 2.          UNREGISTERED SALES OF EQUITY SECURITIESAND USE OF PROCEEDS**

 

None

 

**ITEM 3.          DEFAULTS UPON SENIOR SECURITIES**

 

The filing of theChapter 11 Petition and the Canadian Petition constituted an event ofdefault under our debt obligations, and those debt obligations becameautomatically and immediately due and payable. See Part I, Item 2. “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — Liquidity and CapitalResources.”

 

36

----

 
| **ITEM 4.** | ** ** | **SUBMISSION OF MATTERS TO A VOTE  OF SECURITY HOLDERS**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|-------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| None        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **ITEM 5.** | ** ** | **OTHER INFORMATION**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| (a)         |       | There have been no  material changes to the procedures by which security holders may recommend  nominees to the Company’s Board of Directors implemented since the filing of  our 2008 Form 10-K.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **ITEM 6.** | ** ** | **EXHIBITS**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        |       | The following exhibits  are included in this Form 10-Q:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 10.1        |       | Credit Agreement, dated  as of January 28, 2009 among Smurfit-Stone Container Corporation, as the  parent and guarantor, Smurfit-Stone Container Enterprises, Inc. and  Smurfit-Stone Container Canada Inc., as borrowers, JPMorgan Chase Bank, N.A.,  as administrative agent and collateral agent, JPMorgan Chase Bank, N.A.,  Toronto Branch, as Canadian administrative agent and Canadian collateral agent,  and the other financial institutions party thereto, as lenders (incorporated  by reference to Exhibit 10.1 to SSCC’s Current Report on Form 8-K/A  filed April 17, 2009, amending SSCC’s Current Report on Form 8-K  filed January 26, 2009 (File No. 0-23876)).                                                                |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 10.2        |       | First Amendment to  Credit Agreement and to Security and Pledge Agreement, dated as of  February 25, 2009, by and among Smurfit-Stone Container Corporation, as  the parent and guarantor, Smurfit-Stone Container Enterprises, Inc. and  Smurfit-Stone Container Canada Inc., as borrowers, JPMorgan Chase Bank, N.A.,  as administrative agent and collateral agent, JPMorgan Chase Bank, N.A.,  Toronto Branch, as Canadian administrative agent and Canadian collateral  agent, and the other financial institutions party thereto, as lenders  (incorporated by reference to Exhibit 10.1 to SSCC’s Current Report on  Form 8-K/A filed April 17, 2009, amending SSCC’s Current Report on  Form 8-K filed March 2, 2009 (File No. 0-23876)). |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 10.3        |       | First Amendment to  Amended and Restated Credit Agreement, dated as of February 27, 2009, by  and among Smurfit-Stone Container Corporation, as the parent and guarantor,  Smurfit-Stone Container Enterprises, Inc. and Smurfit-Stone Container  Canada Inc., as borrowers, JPMorgan Chase Bank, N.A., as administrative agent  and collateral agent, JPMorgan Chase Bank, N.A., Toronto Branch, as Canadian  administrative agent and Canadian collateral agent, and the other financial  institutions party thereto, as lenders (incorporated by reference to Exhibit 10.2  to SSCC’s Current Report on Form 8-K/A filed April 17, 2009,  amending SSCC’s Current Report on Form 8-K filed March 2, 2009  (File No. 0-23876)).                 |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 31.1        |       | Certification pursuant  to Rules 13a—14(a) and 15d—14(a) under the Securities Exchange  Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 31.2        |       | Certification pursuant  to Rules 13a—14(a) and 15d—14(a) under the Securities Exchange  Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 32.1        |       | Certification pursuant  to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|        |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 32.2        |       | Certification pursuant  to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |

 

37

----

 

Signature

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the Registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

 
|                    | SMURFIT-STONE  CONTAINER ENTERPRISES, INC.      |
|-------------------------|-------------------------------------------------|
|                    | (Registrant)                                    |
|                    |                                            |
|                    |                                            |
| Date: May 11, 2009 | /s/ Paul K.  Kaufmann                           |
|                    | Paul K. Kaufmann                                |
|                    | Senior Vice  President and Corporate Controller |
|                    | (Principal  Accounting Officer)                 |

 

38

----