##### 



UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
 FORM 10-Q (Mark One) x
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended June 30, 2004 OR o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from            to Commission file number 1-8712 BOWATER INCORPORATED 
 Delaware
    
    62-0721803(State or other jurisdiction of
incorporation or organization)
    
    (I.R.S. Employer
Identification No.)55 East Camperdown Way, P.O. Box 1028, Greenville, SC 29602(Address of principal executive offices)
    
    (Zip Code)
 (864) 271-7733 
 (Former name, former address and former fiscal year, if changed since last report.) Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes x    No o Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes x    No o Indicate the number of shares outstanding of each of the issuers classes
of common stock, as of August 2, 2004. Class
    
    Outstanding at August 2, 2004Common Stock, $1.00 Par Value
    
    55,648,709 Shares




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##### 



BOWATER INCORPORATED
I N D E X PageNumberPART I FINANCIAL INFORMATION1. Financial Statements:Consolidated Statement of Operations for the Three and Six Months Ended June 30, 2004, and 2003
    
    
    3Consolidated Balance Sheet at June 30, 2004, and December 31, 2003
    
    
    4Consolidated Statement of Capital Accounts for the Six Months Ended June 30, 2004
    
    
    5Consolidated Statement of Cash Flows for the Six Months Ended June 30, 2004 and 2003
    
    
    6Notes to Consolidated Financial Statements
    
    
    7  182. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    19363. Quantitative and Qualitative Disclosures About Market Risk
    
    
    374. Controls and Procedures
    
    
    37PART II OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    38Item 2. Changes in Securities, Use of Proceeds and Issuer Repurchase of Equity Securities
    
    
    38Item 6. Exhibits and Reports on Form 8 K
    
    
    38SIGNATURES
    
    
    39




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##### 



BOWATER INCORPORATED
CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited, in millions of US dollars except per-share amounts) Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,
    
    June 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Sales
    
    $
    788.0
    
    
    $
    664.1
    
    
    $
    1,533.3
    
    
    $
    1,294.6Cost of sales, excluding depreciation, amortization
and cost of timber harvested
    
    
    577.3
    
    
    
    554.1
    
    
    
    1,144.8
    
    
    
    1,070.6Depreciation, amortization and cost of timber harvested
    
    
    84.9
    
    
    
    86.0
    
    
    
    171.1
    
    
    
    168.5Distribution costs
    
    
    79.4
    
    
    
    62.4
    
    
    
    156.4
    
    
    
    124.5Selling and administrative expense
    
    
    31.8
    
    
    
    34.0
    
    
    
    68.8
    
    
    
    70.8Net gain on sale of assets
    
    
    5.1
    
    
    
    104.0
    
    
    
    4.2
    
    
    
    115.1Operating income (loss)
    
    
    19.7
    
    
    
    31.6
    
    
    
    (3.6
    )
    
    
    (24.7
    )Other expense (income)Interest income
    
    
    (1.1
    )
    
    
    (1.4
    )
    
    
    (2.1
    )
    
    
    (2.4
    )Interest expense, net of capitalized interest
    
    
    49.9
    
    
    
    42.2
    
    
    
    98.1
    
    
    
    82.1Other, net
    
    
    (3.9
    )
    
    
    2.5
    
    
    
    (5.1
    )
    
    
    10.844.9
    
    
    
    43.3
    
    
    
    90.9
    
    
    
    90.5Loss before income taxes, minority interests
and cumulative effect of accounting change
    
    
    (25.2
    )
    
    
    (11.7
    )
    
    
    (94.5
    )
    
    
    (115.2
    )Provision for income tax expense (benefit)
    
    
    (22.9
    )
    
    
    17.6
    
    
    
    (56.7
    )
    
    
    (12.7
    )Minority interests in net loss of subsidiaries
    
    
    (1.0
    )
    
    
    (3.6
    )
    
    
    (4.0
    )
    
    
    (7.2
    )Loss before cumulative effect of accounting change
    
    
    (1.3
    )
    
    
    (25.7
    )
    
    
    (33.8
    )
    
    
    (95.3
    )Cumulative effect of accounting change
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2.1
    )Net loss
    
    
    (1.3
    )
    
    
    (25.7
    )
    
    
    (33.8
    )
    
    
    (97.4
    )Other comprehensive income (loss), net of taxForeign currency translation adjustments
    
    
    (1.8
    )
    
    
    5.7
    
    
    
    (2.6
    )
    
    
    10.4Minimum pension liability adjustments
    
    
    1.8
    
    
    
    (4.8
    )
    
    
    2.0
    
    
    
    (7.3
    )Unrealized (loss) gain on hedged transactions
    
    
    (34.7
    )
    
    
    58.8
    
    
    
    (53.0
    )
    
    
    98.7Comprehensive income (loss)
    
    $
    (36.0
    )
    
    $
    34.0
    
    
    $
    (87.4
    )
    
    $
    4.4Basic earnings (loss) per common shareIncome (loss) before cumulative effect of accounting change
    
    
    (0.02
    )
    
    
    (0.45
    )
    
    
    (0.59
    )
    
    
    (1.67
    )Cumulative effect of accounting change
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (0.04
    )Net income (loss)
    
    $
    (0.02
    )
    
    $
    (0.45
    )
    
    $
    (0.59
    )
    
    $
    (1.71
    )Diluted earnings (loss) per common shareIncome (loss) before cumulative effect of accounting change
    
    
    (0.02
    )
    
    
    (0.45
    )
    
    
    (0.59
    )
    
    
    (1.67
    )Cumulative effect of accounting change
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (0.04
    )Net income (loss)
    
    $
    (0.02
    )
    
    $
    (0.45
    )
    
    $
    (0.59
    )
    
    $
    (1.71
    )Dividends declared per common share
    
    $
    0.20
    
    
    $
    0.20
    
    
    $
    0.40
    
    
    $
    0.40
 See accompanying notes to consolidated financial statements 3




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##### 



BOWATER INCORPORATED
CONSOLIDATED BALANCE SHEET
(Unaudited, in millions of US dollars) June 30,
    
    December 31,2004
    
    2003ASSETSCurrent assets:Cash and cash equivalents
    
    $
    34.2
    
    
    $
    19.4Accounts receivable, net
    
    
    397.0
    
    
    
    360.9Inventories
    
    
    286.9
    
    
    
    293.1Unrealized gain on hedged transactions
    
    
    80.9
    
    
    
    126.7Other current assets
    
    
    48.6
    
    
    
    42.9Total current assets
    
    
    847.6
    
    
    
    843.0Timber and timberlands
    
    
    183.0
    
    
    
    184.1Fixed assets, net
    
    
    3,412.4
    
    
    
    3,557.3Goodwill
    
    
    828.2
    
    
    
    828.2Other assets
    
    
    181.5
    
    
    
    203.2Total assets
    
    $
    5,452.7
    
    
    $
    5,615.8LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Current installments of long-term debt
    
    $
    13.1
    
    
    $
    13.4Short-term bank debt
    
    
    115.8
    
    
    
    200.5Accounts payable and accrued liabilities
    
    
    420.1
    
    
    
    434.1Dividends payable
    
    
    11.4
    
    
    
    11.7Total current liabilities
    
    
    560.4
    
    
    
    659.7Long-term debt, net of current installments
    
    
    2,421.6
    
    
    
    2,292.4Pension, other post-retirement benefits and other long-term liabilities
    
    
    494.3
    
    
    
    481.4Deferred income taxes
    
    
    402.3
    
    
    
    500.3Minority interests in subsidiaries
    
    
    64.4
    
    
    
    69.3Commitments and contingencies
    
    
    
    
    
    
    Shareholders equity:Common stock, $1 par value. Authorized 100,000,000 shares; issued
67,267,251 and 67,048,804 shares at June 30, 2004 and December 31,
2003, respectively
    
    
    67.2
    
    
    
    67.0Exchangeable shares, no par value. Unlimited shares authorized;
1,597,365 and 1,641,312 outstanding at June 30, 2004 and December 31,
2003, respectively
    
    
    76.0
    
    
    
    78.2Additional paid-in capital
    
    
    1,611.3
    
    
    
    1,602.6Retained earnings
    
    
    342.4
    
    
    
    399.1Unearned compensation
    
    
    (0.5
    )
    
    
    (1.0
    )Accumulated other comprehensive loss
    
    
    (100.7
    )
    
    
    (47.1
    )Treasury stock, at cost, 11,609,217 and 11,611,203 shares at June 30, 2004
and December 31, 2003, respectively
    
    
    (486.0
    )
    
    
    (486.1
    )Total shareholders equity
    
    
    1,509.7
    
    
    
    1,612.7Total liabilities and shareholders equity
    
    $
    5,452.7
    
    
    $
    5,615.8
 See accompanying notes to consolidated financial statements 4




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##### 



BOWATER INCORPORATED
CONSOLIDATED STATEMENT OF CAPITAL ACCOUNTS
For The Six Months Ended June 30, 2004
(Unaudited, in millions of US dollars except per-share amounts) AccumulatedAdditional
    
    
    
    
    
    
    
    
    
    OtherCommon
    
    Exchangeable
    
    Paid-in
    
    Retained
    
    Unearned
    
    Comprehensive
    
    TreasuryStock
    
    Shares
    
    Capital
    
    Earnings
    
    Compensation
    
    Loss
    
    StockBalance at December 31, 2003
    
    $
    67.0
    
    
    $
    78.2
    
    
    $
    1,602.6
    
    
    $
    399.1
    
    
    $
    (1.0
    )
    
    $
    (47.1
    )
    
    $
    (486.1
    )Retraction of exchangeable shares (43,947 shares issued
and exchangeable shares retracted)
    
    
    
    
    
    
    (2.2
    )
    
    
    2.2
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (33.8
    )
    
    
    
    
    
    
    
    
    
    
    Dividends ($0.40 per share)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (22.9
    )
    
    
    
    
    
    
    
    
    
    
    Foreign currency translation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2.6
    )
    
    
    Stock options exercised (174,500 shares)
    
    
    0.2
    
    
    
    
    
    
    
    5.0
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Tax benefit on exercise of stock options
    
    
    
    
    
    
    
    
    
    
    1.8
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Pension plan additional minimum liability,
net of tax provision of $1.2
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2.0
    
    
    
    Treasury stock used for dividend reinvestment plans and
to pay employee and director benefits (1,986 shares)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    0.1Amortization of unearned compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    0.5
    
    
    
    
    
    
    
    Other
    
    
    
    
    
    
    
    
    
    
    (0.3
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Unrealized loss on hedged transactions,
net of tax benefit of $32.5
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (53.0
    )
    
    
    Balance at June 30, 2004
    
    $
    67.2
    
    
    $
    76.0
    
    
    $
    1,611.3
    
    
    $
    342.4
    
    
    $
    (0.5
    )
    
    $
    (100.7
    )
    
    $
    (486.0
    )
 See accompanying notes to consolidated financial statements 5




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##### 



BOWATER INCORPORATED
CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited, in millions of US Dollars) Six Months EndedJune 30,
    
    June 30,2004
    
    2003Cash flows from operating activities:Net loss
    
    $
    (33.8
    )
    
    $
    (97.4
    )Adjustments to reconcile net loss to net cash
from operating activities:Cumulative effect of accounting change
    
    
    
    
    
    
    2.1Depreciation, amortization and cost of
timber harvested
    
    
    171.1
    
    
    
    168.5Deferred income taxes
    
    
    (61.8
    )
    
    
    (16.8
    )Amortization of unearned compensation
    
    
    0.5
    
    
    
    1.0Minority interests in net loss of subsidiaries
    
    
    (4.0
    )
    
    
    (7.2
    )Net gain on fixed assets and land sales
    
    
    (4.2
    )
    
    
    (115.1
    )Changes in working capital:Accounts receivable, net
    
    
    (36.1
    )
    
    
    (7.8
    )Inventories
    
    
    6.2
    
    
    
    (33.4
    )Income taxes receivable
    
    
    
    
    
    
    75.6Accounts payable and accrued liabilities
    
    
    12.3
    
    
    
    11.8Income taxes payable
    
    
    (27.2
    )
    
    
    29.6Other, net
    
    
    (1.3
    )
    
    
    30.2Net cash from operating activities
    
    
    21.7
    
    
    
    41.1Cash flows from investing activities:Cash invested in fixed assets, timber and timberlands
    
    
    (38.9
    )
    
    
    (150.0
    )Disposition of assets, including timber and timberlands
    
    
    7.3
    
    
    
    140.3Net cash used for investing activities
    
    
    (31.6
    )
    
    
    (9.7
    )Cash flows from financing activities:Cash dividends, including minority interests
    
    
    (23.2
    )
    
    
    (22.8
    )Short-term financing
    
    
    389.8
    
    
    
    558.2Short-term financing repayments
    
    
    (474.5
    )
    
    
    (695.4
    )Long-term financing
    
    
    245.9
    
    
    
    394.9Payments of long-term debt
    
    
    (113.8
    )
    
    
    (220.1
    )Stock options exercised
    
    
    5.2
    
    
    
    0.2Other
    
    
    (4.7
    )
    
    
    0.4Net cash from financing activities
    
    
    24.7
    
    
    
    15.4Net increase in cash and cash equivalents
    
    
    14.8
    
    
    
    46.8Cash and cash equivalents at beginning of year
    
    
    19.4
    
    
    
    35.9Cash and cash equivalents at end of period
    
    $
    34.2
    
    
    $
    82.7SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:Cash paid during the period for:Interest, including capitalized interest of $0 and $5.7
    
    $
    98.3
    
    
    $
    91.5Income taxes
    
    $
    30.5
    
    
    $
    2.4
 See accompanying notes to consolidated financial statements 6




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  1.
    
    Basis of PresentationThe accompanying consolidated financial statements include the accounts of
Bowater Incorporated and subsidiaries (Bowater). The consolidated balance
sheet as of June 30, 2004 and the related statements of operations, capital
accounts and cash flows for the periods ended June 30, 2004 and 2003 are
unaudited. In our opinion, all adjustments (consisting of normal recurring
adjustments) necessary for fair presentation of the interim financial
statements have been made. The results of the interim period ended June 30,
2004 are not necessarily indicative of the results to be expected for the
full year. These financial statements should be read in conjunction with the
consolidated financial statements, critical accounting policies, significant
accounting policies and the notes to the consolidated financial statements
included in our most recent Annual Report on Form 10-K. Certain prior-year
amounts in the financial statements and the notes have been reclassified to
conform to the 2004 presentation. The reclassifications had no effect on
total shareholders equity or net loss.2.
    
    Asset Retirement ObligationsEffective January 1, 2003, Bowater adopted Statement of Financial Accounting
Standards (SFAS) No. 143, Accounting for Asset Retirement Obligations.
This Statement requires entities to record the fair value of a liability for
an asset retirement obligation in the period in which it is incurred and for
which a reasonable estimate of a fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
related long-lived asset. Subsequently, the asset retirement costs are to be
allocated to expense using a systematic and rational method and the liability
is to be accreted to its face amount.In connection with the adoption of SFAS No. 143, we recorded a cumulative
effect charge, net of taxes, of $2.1 million (or $0.04 per share) to our
consolidated statement of operations for the first quarter of 2003. The
adoption adjustment also included a net increase to fixed assets of $0.9
million, long-term obligations of $4.3 million and deferred tax assets of
$1.3 million. Asset retirement obligations were recorded for those
obligations where a legally enforceable obligation exists, the life is
determinable and a reasonable estimate of fair value can be made. Asset
retirement obligations recorded in connection with the adoption of SFAS No.
143 were primarily for industrial waste landfills, bark piles and sludge
basins where we have a legally enforceable obligation to perform capping and
post closure monitoring procedures upon closing of these assets. Prior to
SFAS No. 143, Bowater had not recorded an obligation for these asset
retirement obligations. Bowater has not had to legally restrict these assets
for purposes of settling its asset retirement obligations.Additionally, we have certain asset retirement obligations that have
indeterminate useful lives and thereby have an indeterminate settlement date
for the related asset retirement obligation. As a result, no asset
retirement obligation has been recorded for these assets. These assets
include, for example, wastewater and effluent ponds that will be required to
be drained once the related operating facility is closed and removal of
chemicals and other related materials from storage sites on owned facilities
once the related operating facility is closed. Once the life of these assets
becomes determinable and an estimate of fair value can be made, an asset
retirement obligation will be recorded. 7




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  The following table describes changes to Bowaters asset retirement
obligation liability for the periods ended June 30, 2004 and 2003: Three months ended
    
    Six months endedJune 30,
    
    June 30,(Unaudited, in millions)
    
    2004
    
    2003
    
    2004
    
    2003Asset retirement obligation at the beginning of
period
    
    $
    4.7
    
    
    $
    4.4
    
    
    $
    4.6
    
    
    $
    Cumulative effect adjustment of adoption of
SFAS No. 143
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4.3Accretion expense
    
    
    
    
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.2Asset retirement obligation at the end of period
    
    $
    4.7
    
    
    $
    4.5
    
    
    $
    4.7
    
    
    $
    4.5
  3.
    
    Off-Balance Sheet Arrangement  FIN 46, Consolidation of Variable
Interest EntitiesIn January 2003, the Financial Accounting Standards Board (FASB) issued
Financial Interpretation (FIN) No. 46, Consolidation of Variable Interest
Entities. Many variable interest entities (VIEs) have commonly been
referred to as special-purpose entities or off-balance sheet structures. In
general, a VIE is a corporation, partnership, trust, or any other legal
structure used for business purposes that either (a) does not have equity
investors with voting rights or (b) has equity investors that do not provide
sufficient financial resources for the entity to support its activities. FIN
46 requires a VIE to be consolidated by a company if that company is subject
to a majority of the risk of loss from the VIEs activities or entitled to
receive a majority of the entitys residual returns or both. The
consolidation requirements of FIN 46 apply immediately to VIEs created after
January 31, 2003. The consolidation requirements apply to older entities in
the first fiscal year or interim period beginning after June 15, 2003.
Certain of the disclosure requirements apply in all financial statements
issued after January 31, 2003, regardless of when the VIE was established.In October 2003, the FASB issued FASB Staff Position FIN 46-6 which (i)
deferred the implementation of FIN 46 for VIEs created before February 1,
2003, for periods ending after December 15, 2003, and (ii) permitted early
adoption of FIN 46 before the end of the deferral period for some or all VIEs
in which an entity holds an interest. Effective July 1, 2003, Bowater early
adopted FIN 46 specific to the Covington, Tennessee paper coating facility
(referred to as Nuway) which had been financed through a special purpose
entity (SPE). This SPE was determined to be a VIE and required to be
consolidated by Bowater in accordance with FIN 46. As such, in the third
quarter of 2003, Bowater consolidated assets of approximately $49.4 million
and debt of approximately $51.8 million and recorded a non-cash, after tax
cumulative effect charge, of $2.4 million (or $0.04 per share). On August
11, 2003, Bowater terminated the lease agreement with the SPE and paid
approximately $51.8 million to pay off the debt.The pro forma effects of the application of FIN 46, as if the statement had
been adopted on January 1, 2003 (rather than July 1, 2003) are presented
below: Three months ended
    
    Six months ended(In millions, except per-share
amounts)
    
    June 30, 2003
    
    June 30, 2003Net loss
    
    $
    (26.1
    )
    
    $
    (98.2
    )Basic loss per common share
    
    
    (0.46
    )
    
    
    (1.73
    )Diluted loss per common share
    
    
    (0.46
    )
    
    
    (1.73
    )
  In December 2003, the FASB issued a revision to FIN 46 (FIN 46R). Under the
new FIN 46R guidance, application of FIN 46R is required in financial
statements of entities that have interests in structures that are commonly
referred to as special-purpose entities for periods ending after December 15,
2003. Application for all other types of variable interest entities is
required in financial statements for periods ending after March 15, 2004. 8




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  Bowater completed its adoption of FIN 46R in the first quarter of 2004.
Adoption of FIN 46R had no impact on Bowaters Consolidated Financial
Statements.4.
    
    Stock Based CompensationBowater accounts for stock-based compensation utilizing the intrinsic value
method in accordance with Accounting Principles Board (APB) Opinion No. 25,
Accounting for Stock Issued to Employees. Under APB No. 25, compensation
expense for employee stock options is generally not recognized if the
exercise price of the option equals or exceeds the fair value of the
underlying stock on the date of grant.The following table represents the pro forma effect on net loss and loss per
share if we had applied the fair value-based method and recognition
provisions of SFAS No. 123 Accounting for Stock-Based Compensation. The
estimated fair value of the option is amortized to expense over the vesting
period of the option award, in accordance with the provisions of SFAS No.
123. Three months ended
    
    Six months endedJune 30,
    
    June 30,(Unaudited, in millions, except per-share amounts)
    
    2004
    
    2003
    
    2004
    
    2003Net loss as reported:
    
    $
    (1.3
    )
    
    $
    (25.7
    )
    
    $
    (33.8
    )
    
    $
    (97.4
    )Add: Stock-based compensation expense included in
net loss, net of related tax effects
    
    
    0.1
    
    
    
    0.4
    
    
    
    0.3
    
    
    
    0.8Deduct: Stock-based compensation expense
determined under fair value based methods, net of
related tax effects
    
    
    (1.8
    )
    
    
    (1.8
    )
    
    
    (3.6
    )
    
    
    (3.7
    )Pro forma net loss
    
    $
    (3.0
    )
    
    $
    (27.1
    )
    
    $
    (37.1
    )
    
    $
    (100.3
    )Loss per share:Basic, as reported
    
    $
    (0.02
    )
    
    $
    (0.45
    )
    
    $
    (0.59
    )
    
    $
    (1.71
    )Basic, pro forma
    
    
    (0.05
    )
    
    
    (0.48
    )
    
    
    (0.65
    )
    
    
    (1.76
    )Diluted, as reported
    
    $
    (0.02
    )
    
    $
    (0.45
    )
    
    $
    (0.59
    )
    
    $
    (1.71
    )Diluted, pro forma
    
    
    (0.05
    )
    
    
    (0.48
    )
    
    
    (0.65
    )
    
    
    (1.76
    )
  The fair value of each option granted in the three and six months ended June
30, 2004 and 2003, was estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted average assumptions: Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Assumptions:Dividend yield
    
    
    
    %
    
    
    2.1
    %
    
    
    1.8
    %
    
    
    2.0
    %Expected volatility
    
    
    
    %
    
    
    31.4
    %
    
    
    30.6
    %
    
    
    31.8
    %Risk-free interest rate
    
    
    
    %
    
    
    3.0
    %
    
    
    3.4
    %
    
    
    3.4
    %Expected option lives in years
    
    
    
    
    
    
    6.2
    
    
    
    6.8
    
    
    
    6.2Weighted average fair value of each option
    
    $
    
    
    
    $
    10.80
    
    
    $
    13.88
    
    
    $
    12.19
  In January 2004, Bowater granted 862,000 options pursuant to its 2002 stock
option plan at an exercise price of approximately $45 per share. The options
generally become exercisable over a period of two years and expire 10 years
from date of grant.On January 28, 2003, Bowater granted 82,510 restricted stock awards to
certain officers under the 2002 stock option plan. In accordance with APB
No. 25, Bowater is recognizing a compensation charge over the vesting periods
equal to the fair market value of these shares on the date of the grant. The
expense measured under SFAS 9




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  No. 123 does not differ from that under APB No. 25. Shares of restricted
stock awarded under the 2002 plan vest over a two-year period and are subject
to forfeiture in the event of termination of employment prior to the vesting
dates. Prior to vesting, the participants may vote and receive dividends.
The market value of the restricted shares granted on January 28, 2003 was
approximately $3.3 million and was recorded in the first quarter of 2003 as
unearned compensation, which is a separate component of shareholders equity.
Bowater recorded compensation expense related to the amortization of
unearned compensation of approximately $0.2 million and $0.5 million for the
three and six-month periods ended June 30, 2004, respectively, and approximately $0.6
million and $1.0 million for the three and six-month periods ended June 30,
2003, respectively.5.
    
    Net Gain (Loss) on Fixed Assets and Land SalesDuring the three and six months ended June 30, 2004, Bowater recorded a net
pre-tax gain of $5.1 million, or $0.06 per diluted share after tax and $4.2
million, or $0.05 per diluted share after tax, respectively, related to land
sales and gains or losses on fixed assets.During the three and six months ended June 30, 2003, Bowater recorded a net
pre-tax gain of $104.0 million, or $1.13 per diluted share after tax, and
$115.1 million, or $1.25 per diluted share after tax, respectively, related
to land sales and gains or losses on fixed assets. In the second quarter of
2003, Bowater completed the sale of 81,768 acres of owned and leased
timberlands for aggregate consideration of $121.8 million. This transaction
resulted in a pre-tax gain of approximately $97.5 million.6.
    
    Other (Income) ExpenseOther, net in the Consolidated Statement of Operations includes the
following: Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,(Unaudited, in millions)
    
    2004
    
    2003
    
    2004
    
    2003Foreign exchange (gain) loss
    
    $
    (1.7
    )
    
    $
    5.6
    
    
    $
    (1.3
    )
    
    $
    13.8(Income) loss from joint venture
    
    
    (1.4
    )
    
    
    (0.6
    )
    
    
    (1.5
    )
    
    
    0.2Miscellaneous income
    
    
    (0.8
    )
    
    
    (2.5
    )
    
    
    (2.3
    )
    
    
    (3.2
    )$
    (3.9
    )
    
    $
    2.5
    
    
    $
    (5.1
    )
    
    $
    10.8
  7.
    
    Accumulated Other Comprehensive Income (Loss)The components of Accumulated other comprehensive loss in the Consolidated
Balance Sheet are as follows: June 30,
    
    December 31,(Unaudited, in millions)
    
    2004
    
    2003Pension plan additional minimum liabilities (1)
    
    $
    (154.9
    )
    
    $
    (156.9
    )Foreign currency translation (2)
    
    
    0.3
    
    
    
    2.9Unrealized gain (loss) on hedging transactions (3)
    
    
    53.9
    
    
    
    106.9$
    (100.7
    )
    
    $
    (47.1
    )
 (1)
    
    Net of deferred tax benefit of $87.0 million and $88.2 million,
respectively.(2)
    
    No tax effect is recorded for foreign currency translation since the
foreign net assets translated are deemed permanently invested.(3)
    
    Net of deferred tax expense of $33.0 million and $65.5 million,
respectively. 10




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  8.
    
    Loss Per ShareBasic and diluted loss per share are based on net loss and do not include any
impact from Other comprehensive loss. The calculation of basic and diluted
loss per share after cumulative effect of accounting change is as follows: Three months ended
    
    Six months endedJune 30,
    
    June 30,(Unaudited, in millions, except per-share amounts)
    
    2004
    
    2003
    
    2004
    
    2003Basic computation:Basic loss available to common shareholders
    
    $
    (1.3
    )
    
    $
    (25.7
    )
    
    $
    (33.8
    )
    
    $
    (97.4
    )Basic weighted average shares outstanding
    
    
    57.2
    
    
    
    56.9
    
    
    
    57.1
    
    
    
    56.9Basic loss per common share
    
    $
    (0.02
    )
    
    $
    (0.45
    )
    
    $
    (0.59
    )
    
    $
    (1.71
    )Diluted computation:Diluted loss available to common shareholders
    
    $
    (1.3
    )
    
    $
    (25.7
    )
    
    $
    (33.8
    )
    
    $
    (97.4
    )Basic weighted average shares outstanding
    
    
    57.2
    
    
    
    56.9
    
    
    
    57.1
    
    
    
    56.9Effect of dilutive securities:Options
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Diluted weighted average shares outstanding
    
    
    57.2
    
    
    
    56.9
    
    
    
    57.1
    
    
    
    56.9Diluted loss per common share
    
    $
    (0.02
    )
    
    $
    (0.45
    )
    
    $
    (0.59
    )
    
    $
    (1.71
    )
  The dilutive effect of options outstanding is calculated using the treasury
stock method. Options for approximately 4.7 million shares outstanding at
June 30, 2004, and 4.2 million shares outstanding at June 30, 2003 were
excluded from the calculation of diluted loss per share as the impact would
have been antidilutive.9.
    
    Severance Related LiabilitiesCOST REDUCTION PROGRAM:In connection with a multifaceted cost reduction initiative announced in the
fourth quarter of 2002 and completed in the fourth quarter of 2003, Bowater
reduced its salaried and hourly workforce at certain locations by
approximately 600 people. The majority of the 600 terminations were part of
either a voluntary or involuntary workforce reduction that included
termination charges for severance, medical, pension, and other benefits.
Total costs associated with the initiative were $47.9 million ($34.5 million
in 2003 and $13.4 million in 2002), including $11.8 million of pension
related costs ($5.3 million for pension and other postretirement plan
curtailments and $6.5 million of other pension plan benefits related to
accelerated pension years of service). The termination costs are classified
as either cost of sales (manufacturing personnel) or selling and
administrative expense (administrative personnel) in the Consolidated
Statement of Operations. Termination costs under the above initiative for
the three and six-month periods ended June 30, 2003, totaled approximately
$18.2 million and $24.9 million, respectively, and related to the termination
of 334 people. Included in the employee termination costs of $18.2 million
for the second quarter of 2003 are pension related charges for a pension plan
curtailment of approximately $2.7 million and other pension plan benefits of
approximately $4.6 million related to accelerated pension years of service in
connection with certain of the voluntary workforce reduction programs (See
Note 11, Pension and Postretirement Expense). There were no termination
costs for the three and six-month periods ended June 30, 2004, as the cost
reduction plan was completed in the fourth quarter of 2003. Payments
relating to the cost reduction initiative for the six-months ended June 30,
2004 totaled approximately $7.5 million. The remaining accrual at June 30,
2004, of $1.5 million, which excludes the pension related charges, is
expected to be paid over the remainder of 2004 and is included in Accounts
payable and accrued liabilities in the Consolidated Balance Sheet. 11




---



##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  The following table summarizes the activity of our cost reduction initiative,
by reportable segment, expensed to our Consolidated Statement of Operations: Expense For Three
    
    Expense For SixMonths Ended
    
    Months Ended(Unaudited, in Millions)
    
    June 30, 2003
    
    June 30, 2003Employee termination costs by segment:Newsprint Division
    
    $
    12.6
    
    
    $
    17.3Coated and Specialty Papers Division
    
    
    3.7
    
    
    
    4.3Canadian Forest Products Division
    
    
    1.9
    
    
    
    2.3Forest Products Division
    
    
    
    
    
    
    1.0Corporate/Other
    
    
    
    
    
    
    $
    18.2
    
    
    $
    24.9
 The following table summarizes the activity for the liabilities described
above, excluding the pension related costs: Write-offs &December 31,
    
    Payments Against
    
    Increase (Decrease)(Unaudited, in millions)
    
    2003
    
    Reserve
    
    Reserve
    
    Foreign Exchange
    
    June 30, 2004Employee termination costs
    
    $
    9.0
    
    
    $
    7.5
    
    
    $
    
    
    
    $
    
    
    
    $
    1.5
  10.
    
    Long-Term and Short-Term Debt and Off-Balance Sheet Debt GuaranteesOn March 17, 2004, Bowater sold, in a registered offering, $250 million notes
due March 15, 2010. Interest on the notes accrue at a rate based on LIBOR
plus 3% and is payable quarterly beginning on June 15, 2004. On or after
March 15, 2006, Bowater may redeem all or a portion of the notes at any time.
The redemption price will be 102% of the principal amount if redeemed from
March 15, 2006 to March 14, 2007; 101% if redeemed from March 15, 2007 to
March 14, 2008; and 100% if redeemed on or after March 15, 2008. We received
net proceeds from the sale of the notes of $246.2 million, which were net of
underwriting fees of $3.8 million. These fees are being amortized over the
life of the notes. The proceeds were used to pay amounts outstanding under
the short-term bank debt credit facilities ($146.2 million) and the
associated term loan ($100.0 million).On April 22, 2004, Bowater closed on a new three-year revolving credit
facility due April 2007. The new facility provides $400 million of revolving
credit in the United States and $35 million in Canada. This new facility
replaces the previous $500 million three-year credit facility in the United
States and the $100 million 364-day credit facility in Canada. Borrowings
under the new facility incur interest based, at our option, on specified
market interest rates plus a margin tied to the credit rating of our
long-term debt. The facility contains various covenants, including
requirements to maintain a minimum consolidated net worth (generally defined
as common shareholders equity, plus any outstanding preferred stock plus
minimum pension liability amounts) of $1.5 billion, a maximum 62.5% ratio of
total debt to total capital (defined as total debt less revaluation of debt
assumed through acquisitions, plus net worth including minority interest,
plus minimum pension liability amounts), and to maintain an annual minimum
EBITDA (generally defined as net income, excluding extraordinary,
non-recurring or non-cash items, plus income taxes plus depreciation plus net
interest expense) of $250.0 million measured quarterly, beginning March 31,
2005, through December 31, 2005, and $400.0 million at the end of each
quarter thereafter. If Bowater generates net income, the minimum net worth
requirement increases by half of Bowaters consolidated net income for each
fiscal quarter (excluding gains from cash flow hedges in place as of December
31, 2003).As of June 30, 2004 there was an outstanding amount of $30.0 million on the
revolving credit facility in the United States and no outstanding amounts on
the Canadian revolving credit facility. 12




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  Bowater has off-balance sheet debt guarantees of approximately $45.0 million
at June 30, 2004, with $35.0 million related to Ponderay Newsprint Company
(Ponderay) and $10.0 million related to Timber Note Holdings LLC, a
Qualified Special Purpose Entity.Bowater has a 40% interest in Ponderay, an unconsolidated partnership.
Ponderay has a credit facility with several banks that is made up of two
separate tranches. The first tranche is a $25.0 million revolving credit
facility and the second tranche is a $87.5 million term loan. Bowater and
the other partners serve as guarantors on the term loan. Ponderays
outstanding balance under the term loan at June 30, 2004 was $87.5 million.
The revolving credit facility has $10 million reserved for letters of credit.
There are no other balances outstanding under the revolving credit facility.
Ponderays term loan outstanding balance is reduced annually by its excess
cash flows as defined in the credit facility and the final balance is due at
maturity on April 12, 2006. Bowater guarantees 40% of the outstanding
balance under the Ponderay term loan (a guarantee of $35.0 million at June
30, 2004). Bowaters guarantee is reduced as the outstanding balance of the
term loan is reduced. Bowater would be required to perform on the guarantee
if Ponderay were to default on its credit facility and Ponderays assets,
which collateralize the debt, were insufficient to pay off the credit
facility.In connection with Bowaters 1999 land sale and note monetization, we
guarantee 25% of the outstanding investor notes principal balance of Timber
Note Holdings LLC. Bowater currently guarantees approximately $10.0 million
of the investor notes principal balance. This guarantee is proportionately
reduced by annual principal repayments on the investor notes (annual minimum
repayments of $2.0 million) through 2008. The remaining investor notes
principal amount is to be repaid in 2009. Bowater would be required to
perform on the guarantee if Timber Note Holdings LLC were to default on the
investor notes or if there were a default on the notes receivable.11.
    
    Pension and Postretirement ExpenseThe components of net periodic benefit costs relating to Bowaters pension
and other postretirement plans are as follows for the three and six-months
ended June 30, 2004 and 2003:Pension Plans: Three months ended
    
    Six months endedJune 30,
    
    June 30,(In millions)
    
    2004
    
    2003
    
    2004
    
    2003Components of net periodic benefit cost:Service cost
    
    $
    9.6
    
    
    $
    8.0
    
    
    $
    19.1
    
    
    $
    16.0Interest cost
    
    
    27.3
    
    
    
    25.5
    
    
    
    54.6
    
    
    
    51.0Expected return on plan assets
    
    
    (27.1
    )
    
    
    (26.0
    )
    
    
    (54.2
    )
    
    
    (52.0
    )Amortization of transition amount
    
    
    
    
    
    
    (0.1
    )
    
    
    
    
    
    
    (0.2
    )Amortization of prior service cost
    
    
    0.5
    
    
    
    0.2
    
    
    
    1.0
    
    
    
    0.4Recognized net actuarial loss
    
    
    3.2
    
    
    
    1.1
    
    
    
    6.4
    
    
    
    2.2Amount of curtailment (gain)/loss
recognized (See Note 9)
    
    
    
    
    
    
    2.7
    
    
    
    
    
    
    
    2.7Amount of settlement (gain)/loss
recognized
    
    
    
    
    
    
    2.6
    
    
    
    
    
    
    
    2.6Cost of special or contractual
termination benefits recognized (See
Note 9)
    
    
    
    
    
    
    4.6
    
    
    
    
    
    
    
    4.6Net periodic benefit cost
    
    $
    13.5
    
    
    $
    18.6
    
    
    $
    26.9
    
    
    $
    27.3
 13




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited Other Postretirement Plans: Three months ended
    
    Six months endedJune 30,
    
    June 30,(In millions)
    
    2004
    
    2003
    
    2004
    
    2003Components of net periodic benefit cost:Service cost
    
    $
    1.2
    
    
    $
    1.0
    
    
    $
    2.4
    
    
    $
    2.0Interest cost
    
    
    4.4
    
    
    
    3.6
    
    
    
    8.9
    
    
    
    7.2Amortization of prior service cost
    
    
    (1.6
    )
    
    
    (1.6
    )
    
    
    (3.1
    )
    
    
    (3.2
    )Recognized net actuarial loss
    
    
    2.7
    
    
    
    2.0
    
    
    
    5.3
    
    
    
    4.0Net periodic benefit cost
    
    $
    6.7
    
    
    $
    5.0
    
    
    $
    13.5
    
    
    $
    10.0
  12.
    
    Commitments and Contingencies  a.
    
    Bowater is involved in various legal proceedings relating to
contracts, commercial disputes, taxes, environmental issues, employment
and workers compensation claims and other matters. We periodically
review the status of these proceedings with both inside and outside
counsel. We believe that the ultimate disposition of these matters will
not have a material adverse effect on our financial condition, but it
could have a material adverse effect on the results of operations in a
given quarter or the year.b.
    
    There have been no material developments to the legal proceedings
described in our annual report on Form 10-K filed on March 10, 2004.  13.
    
    Financial InstrumentsBowater utilizes certain derivative instruments to enhance its ability to
manage risk relating to cash flow exposure. Derivative instruments are
entered into for periods consistent with related underlying cash flow
exposures and do not constitute positions independent of those positions. We
do not enter into contracts for speculative purposes; however, we do, from
time to time enter into commodity and certain forward contracts that are not
accounted for as accounting hedges. On the earlier of the date into which
the derivative contract is entered or the date of transition, we designate
the derivative as a cash flow hedge.We pay a significant portion of the operating expenses of our Canadian mill
sites in Canadian dollars. To reduce our exposure to United States and
Canadian dollar exchange rate fluctuations, we enter into and designate
Canadian dollar forward contracts to hedge certain of our forecasted Canadian
dollar cash outflows at the Canadian mill operations. 14




---



##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  The components of the net gain (loss) related to cash flow hedges and
included in Accumulated other comprehensive loss for the three and
six-months ended June 30, 2004 and 2003 are as follows: Three months ended
    
    Six months endedJune 30,
    
    June 30,(In millions)
    
    2004
    
    2003
    
    2004
    
    2003Gains resulting from
reclassification to
earnings from Accumulated
other comprehensive loss
    
    $
    (26.4
    )
    
    $
    (10.5
    )
    
    $
    (58.3
    )
    
    $
    (13.8
    )Unrealized gain (loss) for
change in value of cash
flow hedges
    
    
    (29.5
    )
    
    
    105.4
    
    
    
    (27.2
    )
    
    
    173.0(55.9
    )
    
    
    94.9
    
    
    
    (85.5
    )
    
    
    159.2Income tax (expense) benefit
    
    
    21.2
    
    
    
    (36.1
    )
    
    
    32.5
    
    
    
    (60.5
    )Net gain (loss) in
Accumulated other
comprehensive loss
    
    $
    (34.7
    )
    
    $
    58.8
    
    
    $
    (53.0
    )
    
    $
    98.7
  We formally document all relationships between hedging instruments and hedged
items, as well as our risk-management objectives and strategies for
undertaking various hedge transactions. We link all hedges that are
designated as cash flow hedges to forecasted transactions. The maximum time
period we have hedged transactions is two years. We also assess, both at the
inception of the hedge and on an on-going basis, whether the derivatives that
are used in hedging transactions are highly effective in offsetting changes
in cash flows of hedged items. When it is determined that a derivative is
not highly effective as a hedge, we discontinue hedge accounting
prospectively.Information regarding our Canadian dollar contracts notional amount,
carrying value, fair market value, and range of exchange rates of the
contracts is summarized in the table below. The notional amount of these
contracts represents the amount of foreign currencies to be purchased or sold
at maturity and does not represent our exposure on these contracts. Net Asset (Liability)Range OfNotional Amount
    
    Carrying
    
    Fair
    
    U.S.$/CDN$June 30, 2004 (in millions)
    
    of Derivatives
    
    Amount
    
    Market Value
    
    Exchange RatesForeign Currency Exchange AgreementsBuy Currency:Canadian dollarDue in 2004
    
    $
    271.0
    
    
    $
    52.0
    
    
    $
    52.0
    
    
    
    .6476-.6124Due in 2005
    
    
    507.0
    
    
    
    34.9
    
    
    
    34.9
    
    
    
    .7489-.6316Due in 2006
    
    
    153.0
    
    
    
    0.1
    
    
    
    0.1
    
    
    
    .7609-.7124$
    931.0
    
    
    $
    87.0
    
    
    $
    87.0
  In order to reduce our exposure to exchange rate fluctuations on our Canadian
dollar denominated long-term debt, we enter into Canadian dollar forward
contracts with notional amounts of approximately $100 million. These
economic hedge contracts are marked to market through earnings. The
contracts are settled quarterly and gains or losses are included in Other,
net in our Consolidated Statement of Operations. At June 30, 2004, our
outstanding Canadian dollar forward contracts had notional amounts of $100
million due on September 29, 2004. The fair value of the Canadian dollar
forward contracts outstanding at June 30, 2004 was a liability of $0.1
million. We recorded a loss of $2.6 million for the three and six-months
ended June 30, 2004 and gains of $9.3 million and $17.2 million for the three
and six-months ended June 30, 2003 in the Consolidated Statement of
Operations as a result of these economic hedge contracts. 15




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  The counterparties to our derivative financial instruments are substantial
and creditworthy multi-national financial institutions and no one financial
institution has more than 16% of our derivative financial instruments.
Therefore, the risk of counterparty nonperformance is considered to be
remote.14.
    
    Segment InformationBelow is a description of the types of products and services from which each
reportable segment derives its revenues:Bowater is organized into five divisions: the Newsprint Division, the Coated
and Specialty Papers Division, the Pulp Division, the Forest Products
Division and the Canadian Forest Products Division. Except for the Pulp
Division, each division is responsible for the sales and marketing of
distinct product lines and the operation of certain manufacturing sites. The
Pulp Division is primarily a marketing and distribution division whose
administrative expenses are included in Corporate & Other Eliminations.
Therefore, the other four divisions are our reportable segments. Certain
segment information for the three and six-month periods ended June 30, 2003
has been reclassified to conform to the June 30, 2004 presentation.NEWSPRINT DIVISIONThe Newsprint Division operates seven manufacturing sites (including Ponderay
Newsprint Company, an unconsolidated partnership) in the United States,
Canada and South Korea. The principal product at these manufacturing sites
is newsprint, but several of the sites also produce market pulp and uncoated
specialty papers. This division has primary responsibility for the domestic
and international marketing and sales of newsprint.COATED AND SPECIALTY PAPERS DIVISIONThe Coated and Specialty Papers Division operates a manufacturing site that
produces coated paper, newsprint (through January 2003), market pulp and
uncoated specialty papers, and two Nuway coating facilities, both located in
the United States. This division is responsible for the marketing and sales
of the full spectrum of coated and uncoated specialty papers manufactured by
Bowater.CANADIAN FOREST PRODUCTS DIVISIONThe Canadian Forest Products Division operates four paper manufacturing sites
in Canada. The division manages 0.4 million acres of owned or leased
timberland and over 23.5 million acres of Crown-owned land in the Canadian
provinces of Quebec and New Brunswick on which we have cutting rights. The
division also operates eight sawmills and one wood treatment plant, supplies
wood to four paper mills and eight sawmills, and is responsible for the
marketing and sales of its timber and lumber production.FOREST PRODUCTS DIVISIONThe Forest Products Division manages 1.0 million acres of timberland owned or
leased in the United States and the Canadian provinces of Ontario and Nova
Scotia and over 8.3 million acres of Crown-owned land in the province of
Ontario on which we have cutting rights. The division also operates five
softwood sawmills, supplies wood fiber to our pulp and paper production sites
and markets and sells timber and southern yellow pine lumber in North
America.PULP DIVISIONThe Pulp Division markets and distributes market pulp produced by other
divisions. Financial results for the production and sale of market pulp are
included in the Newsprint Division or the Coated and Specialty Papers
Division, depending upon which site manufactures the product. The Pulp
Divisions selling and administrative expenses are included in Corporate and
Other Eliminations. Accordingly, no separate results are reported for this
division. 16




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited  Factors management used to identify our segments:Bowaters reportable segments are business units responsible for the
marketing and sales of different products. They are managed separately
because of the different products they are responsible for manufacturing and
distributing.The line entitled Segment income (loss) in the following tables is equal to
Operating income (loss) as presented in our Consolidated Statement of
Operations. In addition, none of the income or loss items following
Operating income (loss) in our Consolidated Statement of Operations are
allocated to our segments, since they are reviewed separately by Bowaters
management.The following tables summarize information about segment profit and loss for
the three and six-month periods ended June 30, 2004 and 2003 and segment
assets as of June 30, 2004 and 2003: Coated and
    
    CanadianThree Months Ended
    
    
    
    
    
    Specialty
    
    Forest
    
    Forest
    
    Net Gain (Loss) onJune 30, 2004
    
    Newsprint
    
    Papers
    
    Products
    
    Products
    
    Fixed Assets and
    
    Corporate/ Other(Unaudited, in millions)
    
    Division
    
    Division
    
    Division
    
    Division
    
    Land Sales
    
    Eliminations
    
    TotalSales  including internal sales
    
    $
    400.8
    
    
    $
    152.2
    
    
    $
    201.3
    
    
    $
    44.2
    
    
    $
    
    
    
    $
    
    
    
    $
    798.5Elimination of intersegment
sales
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (10.5
    )
    
    
    (10.5
    )Sales  external customers
    
    
    400.8
    
    
    
    152.2
    
    
    
    201.3
    
    
    
    44.2
    
    
    
    
    
    
    
    (10.5
    )
    
    
    788.0Segment income (loss)
    
    
    (7.9
    )
    
    
    7.4
    
    
    
    1.2
    
    
    
    2.8
    
    
    
    5.1
    
    
    
    11.1
    
    
    
    19.7Total assets at 6/30/04
    
    $
    2,596.8
    
    
    $
    779.5
    
    
    $
    1,273.0
    
    
    $
    241.5
    
    
    $
    
    
    
    $
    561.9
    
    
    $
    5,452.7Coated and
    
    CanadianThree Months Ended
    
    
    
    
    
    Specialty
    
    Forest
    
    Forest
    
    Net Gain (Loss) onJune 30, 2003
    
    Newsprint
    
    Papers
    
    Products
    
    Products
    
    Fixed Assets and
    
    Corporate/ Other(Unaudited, in millions)
    
    Division
    
    Division
    
    Division
    
    Division
    
    Land Sales
    
    Eliminations
    
    TotalSales  including internal sales
    
    $
    359.6
    
    
    $
    117.3
    
    
    $
    183.7
    
    
    $
    24.3
    
    
    $
    
    
    
    $
    
    
    
    $
    684.9Elimination of intersegment
sales
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (20.8
    )
    
    
    (20.8
    )Sales  external customers
    
    
    359.6
    
    
    
    117.3
    
    
    
    183.7
    
    
    
    24.3
    
    
    
    
    
    
    
    (20.8
    )
    
    
    664.1Segment income (loss)
    
    
    (30.8
    )
    
    
    (13.8
    )
    
    
    (15.1
    )
    
    
    (3.1
    )
    
    
    104.0
    
    
    
    (9.6
    )
    
    
    31.6Total assets at 6/30/03
    
    $
    2,811.8
    
    
    $
    777.2
    
    
    $
    1,312.4
    
    
    $
    241.0
    
    
    $
    
    
    
    $
    528.0
    
    
    $
    5,670.4Coated and
    
    CanadianSix-Months Ended
    
    
    
    
    
    Specialty
    
    Forest
    
    Forest
    
    Net Gain (Loss) onJune 30, 2004
    
    Newsprint
    
    Papers
    
    Products
    
    Products
    
    Fixed Assets and
    
    Corporate/ Other(Unaudited, in millions)
    
    Division
    
    Division
    
    Division
    
    Division
    
    Land Sales
    
    Eliminations
    
    TotalSales  including internal sales
    
    $
    795.6
    
    
    $
    293.5
    
    
    $
    381.1
    
    
    $
    83.9
    
    
    $
    
    
    
    $
    
    
    
    $
    1,554.1Elimination of intersegment
sales
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (20.8
    )
    
    
    (20.8
    )Sales  external customers
    
    
    795.6
    
    
    
    293.5
    
    
    
    381.1
    
    
    
    83.9
    
    
    
    
    
    
    
    (20.8
    )
    
    
    1,533.3Segment income (loss)
    
    
    (23.4
    )
    
    
    5.9
    
    
    
    (18.4
    )
    
    
    2.2
    
    
    
    4.2
    
    
    
    25.9
    
    
    
    (3.6
    )
 17




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##### 



BOWATER INCORPORATED
Notes to Consolidated Financial Statements  Unaudited Coated and
    
    CanadianSix-Months Ended
    
    
    
    
    
    Specialty
    
    Forest
    
    Forest
    
    Net Gain (Loss) onJune 30, 2003
    
    Newsprint
    
    Papers
    
    Products
    
    Products
    
    Fixed Assets and
    
    Corporate/ Other(Unaudited, in millions)
    
    Division
    
    Division
    
    Division
    
    Division
    
    Land Sales
    
    Eliminations
    
    TotalSales  including internal sales
    
    $
    710.4
    
    
    $
    223.5
    
    
    $
    355.0
    
    
    $
    46.6
    
    
    $
    
    
    
    $
    
    
    
    $
    1,335.5Elimination of intersegment
sales
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (40.9
    )
    
    
    (40.9
    )Sales  external customers
    
    
    710.4
    
    
    
    223.5
    
    
    
    355.0
    
    
    
    46.6
    
    
    
    
    
    
    
    (40.9
    )
    
    
    1,294.6Segment income (loss)
    
    
    (51.8
    )
    
    
    (34.1
    )
    
    
    (27.1
    )
    
    
    (4.9
    )
    
    
    115.1
    
    
    
    (21.9
    )
    
    
    (24.7
    )
 18




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES 
 Managementss Discussion and Analysis of Financial Condition and Results of Operations Organization Bowater is organized into five divisions: the Newsprint Division, the Coated
and Specialty Papers Division, the Canadian Forest Products Division, the
Forest Products Division and the Pulp Division. Except for the Pulp Division,
each division is responsible for the sales and marketing of distinct product
lines and the operation of certain manufacturing sites. The Pulp Division is
primarily a marketing and distribution division. Therefore, Bowaters
financial results are collected, analyzed and reported through the other four
divisions. Cautionary Statement Regarding Forward-Looking Information Statements that are not reported financial results or other historical
information are forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements include,
for example, statements about our business outlook, assessment of market
conditions, strategies, future plans, future sales, prices for our major
products, inventory levels, capital spending and tax and exchange rates. These
forward-looking statements are not guarantees of future performance. These
statements are based on managements expectations that involve a number of
business risks and uncertainties, any of which could cause actual results to
differ materially from those expressed in or implied by the forward-looking
statements. In addition to specific factors described in connection with any
particular forward-looking statement, factors that could cause actual results
to differ materially include, but are not limited to, those described under the
caption Cautionary Statement Regarding Forward-Looking Information in
Bowaters annual report on Form 10-K for the year ended December 31, 2003, and
from time to time, in Bowaters other filings with the Securities and Exchange
Commission. In addition, other risks could adversely affect us, as it is not
possible for us to predict or assess all risks. We disclaim any obligation to
publicly update or revise any forward-looking statements even if our situation
changes in the future. Information about industry or general economic conditions contained in this
report are derived from third party sources (e.g. trade publications) that
Bowater believes are widely accepted and accurate; however, Bowater has not
independently verified this information and cannot provide assurances of its
accuracy. Accounting Policies and Estimates The following discussion and analysis provides information that we believe is
useful in understanding our operating results, cash flows and financial
condition on our unaudited Consolidated Financial Statements included in this
quarterly report. Our significant accounting policies are described in Note 1
to the Consolidated Financial Statements in Bowaters annual report on Form
10-K for the year ended December 31, 2003. Bowaters critical accounting
policies and estimates are described under the caption Critical Accounting
Policies and Estimates in Item 7 of Bowaters annual report on Form 10-K for
the year ended December 31, 2003. The preparation of financial statements in conformity with generally accepted
accounting principles requires us to make estimates, assumptions and judgments
and rely on projections of future results of operations and cash flows. We
base our estimates and assumptions on historical data and other assumptions
that we believe are reasonable under the circumstances. These estimates and
assumptions affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities in our financial statements.
In addition, they affect the reported amounts of revenues and expenses during
the reporting period. Our judgments are based on our assessment as to the effect certain estimates,
assumptions of future trends or events may have on the financial condition and
results of operations reported in our Consolidated Financial Statements. Our
projections of future results of operations and cash flows are utilized by an
independent valuation firm to determine fair value for selected assets. These
values are important assumptions in certain of our critical accounting
policies. It is important that the reader of our financial statements
understand that actual results could differ materially from these estimates,
assumptions, projections and judgments. 19




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Overview of Financial Performance The operating environment improved in the second quarter of 2004 as we reported
positive operating income results. However, we still had a net loss for the
quarter of $1.3 million ($0.02 per diluted share) with operating income of
$19.7 million. These results compare favorably to both the second quarter of
2003, when our net loss was $25.7 million ($0.45 per diluted share) with
operating income of $31.6 million (which includes a $104.0 million gain on
asset sales), and to the first quarter of 2004, when our net loss was $32.5
million ($0.57 per diluted share) with an operating loss of $23.3 million. The
principal reason for these improved results was higher product pricing across
our product grades, the weakening of the Canadian dollar since the first
quarter of 2004 and a higher tax benefit. However, our pricing improvements in
the second quarter of 2004 compared to the first quarter of 2004 were slightly
offset by higher fiber costs and repair costs for two major cold outages at two
of our largest facilities. In the second quarter our capital spending was approximately $20.0 million.
Our debt, net of cash, decreased approximately $17.0 million in the second
quarter compared to the first quarter due to an increase in cash provided by
operations of $42.7 million, resulting from lower working capital needs,
partially offset by approximately $20.0 million of capital spending and $11.7
million in dividend payments. We improved our liquidity by completing the sale of $250 million in registered
floating rate notes due in 2010, using the proceeds to repay bank debt. In
April 2004, we entered a new three year $435 million credit facility. Outlook We believe that demand for our products will improve with the recovery in the
U.S. economy. In June, newspaper ad linage increased year over year for the
sixth consecutive month and is up 2.1% year-to-date. Demand for coated and
specialty papers in the U.S. generally increased in the second quarter by 4.2%
for coated mechanical and by 5.8% for uncoated mechanical compared to the first
quarter of 2004. First quarter industry shipments of market pulp were a record
9.5 million tons. Continued strong housing starts and railcar shortages have
tightened the lumber markets. We therefore enter the third quarter with higher
pricing in newsprint, market pulp, specialty papers, and lumber compared to the
average of the first quarter, continued implementation of our June coated paper
price increase, and with price increases announced for September in our
newsprint, coated paper and specialty grades. Wood and energy costs are
expected to return to more normal levels but we may incur higher costs for
recycled fiber. Despite the favorable indicators of demand and price increases, our challenges
and risks continue. Prices realized during the quarter were insufficient to
return us to profitability. Our ability to fully implement all product pricing
announced thus far in 2004 may be influenced by the recovery of demand for
those products. The Canadian dollar weakened in the second quarter of 2004 to
end the quarter at an exchange rate of .74 compared to an exchange rate of .76
at the end of March 2004. This weakening of the Canadian dollar eased cost
pressures caused by its strengthening during 2003, but we cannot predict
whether this trend will continue. In fact, the Canadian dollar has
significantly strengthened in July 2004. Other economic factors may shorten or
weaken the apparent economic recovery, which could negatively impact demand for
our products. 20




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Consolidated Results of Operations Three Months Ended June 30,
    
    Six Months Ended June 30,(In millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeSales
    
    $
    788.0
    
    
    $
    664.1
    
    
    $
    123.9
    
    
    $
    1,533.3
    
    
    $
    1,294.6
    
    
    $
    238.7Operating income (loss)
    
    
    19.7
    
    
    
    31.6
    
    
    
    (11.9
    )
    
    
    (3.6
    )
    
    
    (24.7
    )
    
    
    21.1Significant items that increased
(decreased) operating income:Net gain on fixed assets and land
sales
    
    
    
    
    
    
    
    
    
    $
    (98.9
    )
    
    
    
    
    
    
    
    
    
    $
    (110.9
    )Product pricing
    
    
    
    
    
    
    
    
    
    
    71.0
    
    
    
    
    
    
    
    
    
    
    
    130.7Distribution costs
    
    
    
    
    
    
    
    
    
    
    (10.1
    )
    
    
    
    
    
    
    
    
    
    
    (19.0
    )Manufacturing costs
    
    
    
    
    
    
    
    
    
    
    6.1
    
    
    
    
    
    
    
    
    
    
    
    (5.2
    )Employee termination costs
    
    
    
    
    
    
    
    
    
    
    17.8
    
    
    
    
    
    
    
    
    
    
    
    24.5Selling and administrative expenses
    
    
    
    
    
    
    
    
    
    
    2.2
    
    
    
    
    
    
    
    
    
    
    
    1.0$
    (11.9
    )
    
    
    
    
    
    
    
    
    
    $
    21.1
 Three months ended June 30, 2004, versus June 30, 2003 Salesincreased in the second quarter of 2004 as compared to the second quarter
of 2003 due to higher transaction prices for all products and due to increased
shipments of coated and specialty papers, pulp and lumber as further discussed
in the Product Line Information section. Operating incomedecreased in the second quarter of 2004 as compared to the
second quarter of 2003. The above table analyzes the major items that caused
the decrease in operating income. A brief explanation of these major items
follows:  Net gain on fixed assets and land salesrelates primarily to land sales and
the disposition or write-off of fixed assets. The decrease is due to lower
land sales in the second quarter of 2004 compared to the second quarter of
2003. In the second quarter of 2003, Bowater completed the sale of 81,768
acres of owned and leased timberlands for aggregate consideration of $121.8
million. This transaction resulted in a pre-tax gain of approximately $97.5
million.Product pricingfor all of our major product groups was higher in the second
quarter of 2004 as compared to the second quarter of 2003. Please refer to
the discussion of Product Line Information for a more detailed analysis of
product pricing and shipments.Distribution costswere higher in the second quarter of 2004 as compared to
the second quarter of 2003 as a result of higher shipments and lumber duties
on increased lumber shipments.Manufacturing costswere lower in the second quarter of 2004 as compared to
the second quarter of 2003 as a result of improved production volumes ($6.7
million), lower chemical costs and depreciation. These improvements were
partially offset by a stronger Canadian dollar ($9.7 million) and increased
costs for fiber, wood, labor and repair materials. The negative impact on
manufacturing costs of a strong Canadian dollar was partially offset by
gains on hedged transactions that were recorded against manufacturing costs
during the period.Employee termination costswere lower in the second quarter of 2004 as
compared to the second quarter of 2003, as we completed our cost reduction
program in the fourth quarter of 2003. 21




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Six months ended June 30, 2004, versus June 30, 2003 Salesincreased in the first six months of 2004 as compared to first six months
of 2003 due to higher transaction prices for all products and due to increased
shipments of coated and specialty papers, pulp and lumber as further discussed
in the Product Line Information section. Operating lossdecreased in the first six months of 2004 as compared to the
first six months of 2003. The above table analyzes the major items that caused
the decrease in operating loss. A brief explanation of these major items
follows:  Net gain on fixed assets and land salesrelates primarily to land sales and
the disposition or write-off of fixed assets. The decrease is primarily due
to lower land sales in the first six months of 2004 compared to the first
six months of 2003. In the second quarter of 2003, Bowater completed the
sale of 81,768 acres of owned and leased timberlands for aggregate
consideration of $121.8 million. This transaction resulted in a pre-tax
gain of approximately $97.5 million.Product pricingfor all of our major product groups was higher in the first
six months of 2004 as compared to the first six months of 2003. Please
refer to the discussion of Product Line Information for a more detailed
analysis of product pricing and shipments.Distribution costswere higher in the first six months of 2004 as compared
to the first six months of 2003 as a result of higher shipments and lumber
duties on increased lumber shipments.Manufacturing costswere higher in the first six months of 2004 as compared
to the first six months of 2003 as a result of a stronger Canadian dollar
($52.1 million), increased fiber and wood costs ($26.3 million) and higher
labor and repair materials. These higher costs were partially offset by
improved production volumes ($28.1 million) and lower chemical costs. The
negative impact on manufacturing costs of a strong Canadian dollar was
partially offset by gains on hedged transactions that were recorded against
manufacturing costs during the period.Employee termination costswere lower in the first six months of 2004 as
compared to the first six months of 2003, as we completed our cost reduction
program in the fourth quarter of 2003. Product Line Information Presented below is a discussion of each significant product line followed by a
discussion of the results of each of the reported divisions. In general, our products are globally-traded commodities. Pricing and the
level of shipments of these products will continue to be influenced by the
balance between supply and demand as affected by global economic conditions,
changes in consumption and capacity, the level of customer and producer
inventories and fluctuations in exchange rates. 22




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Newsprint Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003Sales (in millions)
    
    $
    323.8
    
    
    $
    307.2
    
    
    $
    650.3
    
    
    $
    598.0Average prices (per metric ton)
    
    $
    524
    
    
    $
    478
    
    
    $
    514
    
    
    $
    469Shipments (thousands of metric tons)
    
    
    618.0
    
    
    
    642.6
    
    
    
    1,266.3
    
    
    
    1,274.8Downtime (thousands of metric tons)
    
    
    53.4
    
    
    
    52.9
    
    
    
    92.1
    
    
    
    101.5Inventory at end of period
(thousands of metric tons)
    
    
    82.0
    
    
    
    91.7
    
    
    
    82.0
    
    
    
    91.7
 Three months ended June 30, 2004, versus June 30, 2003 Our average newsprint transaction price for all markets was 9.6% higher in the
second quarter of 2004 compared to the second quarter of 2003. The increase
reflects the realization of price increases in the North American and
International markets. Newsprint shipments decreased by 3.8% in the second
quarter of 2004 primarily due to the shift of production by our newsprint
machines to meet the higher demand for specialty papers during the quarter. We
plan to take 39,000 metric tons of market and maintenance downtime in the third
quarter of 2004. The market downtime is primarily from an idled paper machine
at our Thunder Bay mill (since late June 2003). We expect this market downtime
to continue until market conditions improve. We will continue to match
production to orders. We announced a $50 per metric ton price increase for the domestic market and a
$65 per metric ton Canadian dollar price increase for the Canadian market,
effective September 1, 2004. We also expect third quarter price increases in
Asia and Latin America. Market conditions will determine whether we fully
realize these increases. Newsprint Third Party Data:In the second quarter of 2004, total U.S. newsprint
demand and consumption of newsprint decreased 1.2% and 1.4%, respectively as
compared to the same periods of the prior year. North American net exports of
newsprint decreased 21.7% from the second quarter 2003 level. Total
inventories (North American mills and users) at June 30, 2004 were 1.5 million
metric tons, approximately 33,000 metric tons, or 2.2%, lower than the previous
quarter and 97,000 metric tons, or 7%, higher than the end of the second
quarter 2003. Newspaper advertising linage improved 1.0% in June 2004 compared
to June 2003. Six months ended June 30, 2004, versus June 30, 2003 Our average newsprint transaction price for all markets was 9.6% higher in the
first six months of 2004 compared to the first six months of 2003. The
increase reflects the realization of price increases in the North American and
International markets. Newsprint shipments decreased by 0.7% in the first six
months of 2004 primarily due to higher specialties shipments. Newsprint Third Party Data:In the first six months of 2004, total United
States demand for newsprint increased 0.1% while consumption decreased 2.0%
compared to the same period a year ago. North American net exports of
newsprint decreased 8.8% from the first six months of 2003. Newspaper
advertising linage improved 2.1% in the first six months of 2004 compared to
the first six months of 2003. 23




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Coated and Specialty Papers Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003Sales (in millions)
    
    $
    224.3
    
    
    $
    184.3
    
    
    $
    420.2
    
    
    $
    338.0Average prices (per short ton)
    
    $
    594
    
    
    $
    568
    
    
    $
    588
    
    
    $
    560Shipments (thousands of short tons)
    
    
    377.3
    
    
    
    324.4
    
    
    
    715.1
    
    
    
    603.4Downtime (thousands of short tons)
    
    
    23.3
    
    
    
    4.6
    
    
    
    54.9
    
    
    
    35.6Inventory at end of period
(thousands of short tons)
    
    
    55.8
    
    
    
    58.3
    
    
    
    55.8
    
    
    
    58.3
 Three months ended June 30, 2004, versus June 30, 2003 Our average transaction price for coated paper was 3.8% higher in the second
quarter of 2004 compared to the second quarter of 2003 due to the
implementation of announced price increases effective March 1 and June 1, 2004.
Our coated groundwood papers shipments increased 18.9% in the second quarter
of 2004 as compared to the second quarter of 2003, as a result of the
conversion of a paper machine at our Catawba facility from newsprint to coated
paper. Our average transaction price for specialty papers was 5.2% higher in
the second quarter of 2004 compared to the second quarter of 2003 due to the
price increases noted above. Our specialty papers shipments increased 14.0% in
the second quarter of 2004 compared to the second quarter of 2003 due to a
shift of advertisers towards flyers and inserts rather than newspaper
advertising and our ability to shift production at our newsprint machines to
meet this higher demand for specialty papers. Coated and Specialty Papers Third Party Data:U.S. magazine advertising pages
increased 2.5% compared to the second quarter of 2003 and catalog mailings
(measured by standard mail pieces) increased 7.9% in the first quarter of 2004
compared to the same period last year. North American demand for coated
mechanical papers was up 12.9% in the second quarter of 2004 compared to the
second quarter of 2003. North American demand for supercalendered high gloss
papers and other uncoated mechanical papers was down 7.8% and up 14.9%,
respectively, in the second quarter of 2004 compared to the second quarter of
2003. Six months ended June 30, 2004, versus June 30, 2003 Our average transaction price for coated paper was 3.8% higher in the first six
months of 2004 compared to the first six months of 2003 due to realization of
price increases during 2003 and 2004. Our coated papers shipments increased
29.7% in the first six months of 2004, compared to the first six months of
2003, as a result of the conversion of a paper machine at Catawba from
newsprint to coated papers. Our average transaction price for specialty papers
was 4.5% higher in the first six months of 2004, compared to the first six
months of 2003, due to the price increases noted above. Our specialty papers
shipments increased 8.8% in the first six months of 2004, compared to the first
six months of 2003, due to increased demand. Coated and Specialty Papers Third Party Data:U.S. magazine advertising pages
increased 0.5% compared to the first six months of 2003 and catalog mailings
(measured by standard mail pieces) increased 7.9% in the first quarter of 2004
compared to the same period last year. North American demand for coated
mechanical papers was up 9.4% through June 2004, compared to the first six
months of 2003. North American demand for supercalendered high gloss papers
and other uncoated mechanical papers was down 4.1% and up 12.9%, respectively,
through June 2004, compared to the first six months of 2003. 24




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Market Pulp Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003Sales (in millions)
    
    $
    139.0
    
    
    $
    111.2
    
    
    $
    276.2
    
    
    $
    240.1Average prices (per metric ton)
    
    $
    534
    
    
    $
    499
    
    
    $
    509
    
    
    $
    473Shipments (thousands of metric tons)
    
    
    260.2
    
    
    
    222.9
    
    
    
    542.7
    
    
    
    507.9Downtime (thousands of metric tons)
    
    
    18.6
    
    
    
    25.0
    
    
    
    23.6
    
    
    
    26.3Inventory at end of period
(thousands of metric tons)
    
    
    46.7
    
    
    
    80.2
    
    
    
    46.7
    
    
    
    80.2
 Three months ended June 30, 2004, versus June 30, 2003 Our average transaction price for market pulp was 7.0% higher in the second
quarter of 2004 compared to the second quarter of 2003. The increase reflects
the realization of price increases in the latter half of 2003 and first six
months of 2004 brought about by improved world supply and demand. Our
shipments increased 16.7% in the second quarter of 2004 compared to the same
period of 2003, primarily as a result of improved demand in our core markets
and reduced downtime in the second quarter of 2004 at our Thunder Bay facility,
which had a nine-day shut in the second quarter of 2003, due to temporary wood
shortages. Our market pulp inventories ended the second quarter of 2004 at 13
days supply, 20 days below the industry average. Market Pulp Third Party Data:Demand for market pulp increased in the second
quarter of 2004 compared to the same period last year. World shipments were up
6.7% in April and May of 2004 compared to the same period in 2003. World
producers operated at 95% of capacity but shipped at 93.6% of capacity.
Consequently, inventories have increased over the quarter by 150,000 metric
tons, to end June 2004 at 3.4 million metric tons, or 34 days supply.
Inventories are 156,000 metric tons higher but 3 days supply lower than the
corresponding period of 2003. Six months ended June 30, 2004, versus June 30, 2003 Our average price for market pulp was 7.6% higher in the first six months of
2004 compared to the first six months of 2003. The increase reflects the
realization of price increases in the latter half of 2003 and first six months
of 2004 brought about by improved world supply and demand. Our shipments
increased 6.9% in the first six months of 2004 primarily as a result of
improved demand from our core markets and reduced downtime at our Thunder Bay
facility as discussed previously. Market Pulp Third Party Data:Demand for market pulp increased in the first six
months of 2004 compared to the same period last year. World shipments were up
7% for the first half of 2004 compared to the same period in 2003. World
producers operated and shipped at 96% of capacity. Consequently, inventories
have remained flat during the time period and ended May at 3.4 million metric
tons, or 34 days supply. 25




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Lumber Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003Sales (in millions)
    
    $
    96.5
    
    
    $
    57.5
    
    
    $
    173.5
    
    
    $
    106.8Average prices
    
    $
    365
    
    
    $
    259
    
    
    $
    341
    
    
    $
    254Shipments (million board feet)
    
    
    264.3
    
    
    
    221.6
    
    
    
    509.2
    
    
    
    420.7Downtime (million board feet)
    
    
    82.9
    
    
    
    95.8
    
    
    
    150.0
    
    
    
    167.7Inventory at end of period
(million board feet)
    
    
    60.7
    
    
    
    49.0
    
    
    
    60.7
    
    
    
    49.0
 Three months ended June 30, 2004, versus June 30, 2003 Lumber prices increased in the second quarter of 2004 as compared to the second
quarter of 2003 as a result of strong demand over the latter half of 2003 and
beginning of 2004 and lower overall inventories. Our lumber shipments
increased 19.3% in the second quarter of 2004 due primarily to the increased
production from our Thunder Bay sawmill, which was in start-up mode during the
second quarter of 2003. During May 2004, we idled our Thunder Bay sawmill for
six weeks due to wood supply shortages. We reopened the Thunder Bay sawmill in
July, however, the sawmill is currently running on a 4-day schedule. Also, on
July 7, 2004, we temporarily idled our Ignace sawmill due to these wood supply
shortages. We expect to restart the Ignace sawmill and resume full operations
at our Thunder Bay sawmill once wood supply conditions improve. Third party data:The U.S. housing starts decreased 2.6% in the second quarter
of 2004 as compared to the same period last year. Six months ended June 30, 2004, versus June 30, 2003 Lumber prices increased in the first six months of 2004 as compared to the
first six months of 2003 as a result of continued strong demand associated with
record high housing starts and lower overall inventories. Our lumber shipments
increased 21.0% in the first six months of 2004 as compared to the first six
months of 2003 due to start up of both the Thunder Bay & Ignace sawmills as
discussed previously. Third party data:The U.S. housing starts increased 11.2 % in the first six
months of 2004 as compared to the same period last year. The U.S. Commerce Department (DOC) has imposed antidumping (AD) duties of 8.43%
on all of Bowaters Canadian softwood lumber imports and countervailing (CV)
duties of 18.79% on softwood lumber imported from all provinces except New
Brunswick and Nova Scotia. The duties became effective for lumber shipments
beginning May 22, 2002 and are payable in cash. Lumber duties are included as
a component of distribution costs on our consolidated statement of operations.
To date we have paid AD and CV duties of approximately $49.0 million. The Canadian government has appealed the duties to the World Trade Organization
(WTO) and under the terms of the North American Free Trade Agreement (NAFTA),
requesting that the duties be refunded. The final amount of CV and AD duties
that may be assessed on Canadian softwood lumber imports into the U.S. will
depend upon negotiations among the governments involved in the dispute, annual
administrative reviews by the DOC, and upon determinations made by the NAFTA,
WTO or other adjudicatory panels to which the duties may be appealed. Until
the dispute is resolved, we will continue to pay the duties as assessed by the
DOC. The DOC is currently conducting AD and CV administrative reviews to establish
the ultimate duty rates and liabilities for imports since May 22, 2002. In
June and July the DOC issued three determinations regarding the CV and AD rates
that may become applicable to us. While these determinations contained rates
that were less than 50% 26




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations of those we are currently paying, these rates are not final or effective.
Therefore, we do not anticipate adjusting our AD/CV duty rates until a final
determination is made as a result of the applicable NAFTA or DOC process. Divisional Performance Newsprint Division Three Months Ended June 30,
    
    Six Months Ended June 30,(In millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeSales
    
    $
    400.8
    
    
    $
    359.6
    
    
    $
    41.2
    
    
    $
    795.6
    
    
    $
    710.4
    
    
    $
    85.2Segment loss
    
    
    (7.9
    )
    
    
    (30.8
    )
    
    
    22.9
    
    
    
    (23.4
    )
    
    
    (51.8
    )
    
    
    28.4Significant items that (increased)
decreased segment loss:Product pricing
    
    
    
    
    
    
    
    
    
    $
    28.9
    
    
    
    
    
    
    
    
    
    
    $
    59.5Distribution costs
    
    
    
    
    
    
    
    
    
    
    (2.8
    )
    
    
    
    
    
    
    
    
    
    
    (6.1
    )Manufacturing costs
    
    
    
    
    
    
    
    
    
    
    (15.5
    )
    
    
    
    
    
    
    
    
    
    
    (42.2
    )Employee termination costs
    
    
    
    
    
    
    
    
    
    
    12.2
    
    
    
    
    
    
    
    
    
    
    
    16.9Selling and administrative expenses
    
    
    
    
    
    
    
    
    
    
    0.1
    
    
    
    
    
    
    
    
    
    
    
    0.3$
    22.9
    
    
    
    
    
    
    
    
    
    
    $
    28.4
 Three months ended June 30, 2004, versus June 30, 2003 Sales increased in the second quarter of 2004 as compared to the second quarter
of 2003 primarily as a result of higher product pricing for newsprint ($20.0
million), market pulp ($7.2 million) and specialty papers ($1.7 million). See
the previous discussion of product line results. Segment loss decreased in the second quarter of 2004 primarily as a result of
higher product pricing noted above and lower employee termination costs as we
completed our cost reduction program in the fourth quarter of 2003. These
product pricing improvements were partially offset by higher manufacturing
costs. Manufacturing costs were higher primarily from a stronger Canadian
dollar ($4.9 million) and higher prices for recycled fiber, energy, and repairs
($15.3 million), offset by improved production volumes and lower depreciation
expense. Six months ended June 30, 2004, versus June 30, 2003 Sales increased in the first six months of 2004 as compared to the first six
months of 2003 primarily as a result of higher product prices for newsprint
($40.1 million), market pulp ($15.1 million), and specialty papers ($4.3
million). See the previous discussion of product line results. Segment loss decreased in the first six months of 2004 primarily as a result of
higher product pricing noted above and lower employee termination costs
referred to above. These product pricing improvements were partially offset by
higher manufacturing costs. Manufacturing costs were higher primarily from a
stronger Canadian dollar ($24.2 million) and higher prices for recycled fiber,
energy, and repairs ($28.7 million), offset by improved production volumes and
lower depreciation expense. 27




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Coated and Specialty Papers Division Three Months Ended June 30,
    
    Six Months Ended June 30,(In millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeSales
    
    $
    152.2
    
    
    $
    117.3
    
    
    $
    34.9
    
    
    $
    293.5
    
    
    $
    223.5
    
    
    $
    70.0Segment income (loss)
    
    
    7.4
    
    
    
    (13.8
    )
    
    
    21.2
    
    
    
    5.9
    
    
    
    (34.1
    )
    
    
    40.0Significant items that increased
(decreased) segment income:Product pricing
    
    
    
    
    
    
    
    
    
    $
    7.2
    
    
    
    
    
    
    
    
    
    
    $
    11.8Distribution costs
    
    
    
    
    
    
    
    
    
    
    (1.3
    )
    
    
    
    
    
    
    
    
    
    
    (2.2
    )Manufacturing costs
    
    
    
    
    
    
    
    
    
    
    12.8
    
    
    
    
    
    
    
    
    
    
    
    28.3Employee termination costs
    
    
    
    
    
    
    
    
    
    
    3.6
    
    
    
    
    
    
    
    
    
    
    
    4.3Selling and administrative expenses
    
    
    
    
    
    
    
    
    
    
    (1.1
    )
    
    
    
    
    
    
    
    
    
    
    (2.2
    )$
    21.2
    
    
    
    
    
    
    
    
    
    
    $
    40.0
 Three months ended June 30, 2004, versus June 30, 2003 Sales increased in the second quarter of 2004 as compared to the second quarter
of 2003 primarily as a result of increased shipments ($27.7 million), due
primarily to the conversion of the No. 3 paper machine at the Catawba facility
in early 2003 from newsprint to coated paper, and higher product pricing in
coated and specialty papers and pulp ($7.2 million). See the previous
discussion of product line results. Segment income increased in the second quarter of 2004 as compared to the
second quarter of 2003 primarily as a result of higher product pricing in
coated and specialty papers and pulp, lower manufacturing costs associated with
improved production volumes for coated papers, and lower employee termination
costs. Six months ended June 30, 2004, versus June 30, 2003 Sales increased in the first six months of 2004 as compared to the first six
months of 2003 primarily as a result of increased shipments ($58.2 million),
due primarily to the conversion of the No. 3 paper machine at the Catawba
facility in early 2003 from newsprint to coated paper, and higher product
pricing in coated and specialty papers and pulp. See the previous discussion
of product line results. Segment income increased in the first six months of 2004 as compared to the
first six months of 2003 primarily as a result of higher product pricing in
coated and specialty papers and pulp, lower manufacturing costs associated with
improved production volumes for coated papers, and lower employee termination
costs.  28




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managementss Discussion and Analysis of Financial Condition and Results of Operations Canadian Forest Products Division Three Months Ended June 30,
    
    Six Months Ended June 30,(In millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeSales
    
    $
    201.3
    
    
    $
    183.7
    
    
    $
    17.6
    
    
    $
    381.1
    
    
    $
    355.0
    
    
    $
    26.1Segment income (loss)
    
    
    1.2
    
    
    
    (15.1
    )
    
    
    16.3
    
    
    
    (18.4
    )
    
    
    (27.1
    )
    
    
    8.7Significant items that (increased)
decreased segment loss:Product pricing
    
    
    
    
    
    
    
    
    
    $
    26.9
    
    
    
    
    
    
    
    
    
    
    $
    46.2Distribution costs
    
    
    
    
    
    
    
    
    
    
    (4.8
    )
    
    
    
    
    
    
    
    
    
    
    (8.7
    )Manufacturing costs
    
    
    
    
    
    
    
    
    
    
    (7.3
    )
    
    
    
    
    
    
    
    
    
    
    (34.0
    )Employee termination costs
    
    
    
    
    
    
    
    
    
    
    1.9
    
    
    
    
    
    
    
    
    
    
    
    2.3Selling and administrative expenses
    
    
    
    
    
    
    
    
    
    
    (0.4
    )
    
    
    
    
    
    
    
    
    
    
    2.9$
    16.3
    
    
    
    
    
    
    
    
    
    
    $
    8.7
 Three months ended June 30, 2004, versus June 30, 2003 Sales increased in the second quarter of 2004 as compared to the second quarter
of 2003 primarily as a result of higher product pricing for newsprint ($8.2
million), coated and specialty papers ($3.7 million), lumber ($14.9 million),
and timber ($0.1 million), offset by lower shipments ($9.3 million). See the
previous discussion of product line results. Segment income increased in the second quarter of 2004 as compared to the
second quarter of 2003 primarily as a result of higher product pricing as
discussed above and improved production volumes ($1.1 million). These
improvements were offset by higher manufacturing and distribution costs. The
higher manufacturing costs are due to a stronger Canadian dollar ($4.3
million), higher fiber and wood costs ($3.4 million) and higher repair costs
($1.7 million). Six months ended June 30, 2004, versus June 30, 2003 Sales increased in the first six months of 2004 as compared to the first six
months of 2003 primarily as a result of higher product pricing for newsprint
($17.7 million), coated and specialty papers ($4.5 million), lumber ($23.3
million), and timber ($0.8 million), offset by lower shipments ($20.1 million).
See the previous discussion of product line results. Segment loss decreased in the first six months of 2004 as compared to the first
six months of 2003, primarily as a result of higher product pricing and lower
selling and administrative expenses. These improvements were offset by higher
manufacturing and distribution costs. The higher manufacturing costs are due
to a stronger Canadian dollar ($24.3 million), higher fiber and wood costs
($4.9 million), higher repair cost (2.3 million) and lower production volumes
($4.9 million). 29




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations Forest Products Division Three Months Ended June 30,
    
    Six Months Ended June 30,(In millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeSales
    
    $
    44.2
    
    
    $
    24.3
    
    
    $
    19.9
    
    
    $
    83.9
    
    
    $
    46.6
    
    
    $
    37.3Segment income (loss)
    
    
    2.8
    
    
    
    (3.1
    )
    
    
    5.9
    
    
    
    2.2
    
    
    
    (4.9
    )
    
    
    7.1Significant items that (increased) decreased segment loss:Product pricing
    
    
    
    
    
    
    
    
    
    $
    8.0
    
    
    
    
    
    
    
    
    
    
    $
    13.9Distribution costs
    
    
    
    
    
    
    
    
    
    
    (1.1
    )
    
    
    
    
    
    
    
    
    
    
    (2.0
    )Manufacturing costs
    
    
    
    
    
    
    
    
    
    
    (1.0
    )
    
    
    
    
    
    
    
    
    
    
    (5.7
    )Selling and administrative expenses
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    0.9$
    5.9
    
    
    
    
    
    
    
    
    
    
    $
    7.1
 Three months ended June 30, 2004, versus June 30, 2003 Sales increased in the second quarter of 2004 as compared to the second quarter
of 2003 as a result of increased lumber transaction prices and increased lumber
shipments. The increase in lumber shipments was primarily the result of the
new sawmill in Thunder Bay Ontario, which had shipments in the second quarter
of 2004 but none in the second quarter of 2003. See the previous discussion
of product line results. Segment income increased in the second quarter of 2004 primarily as a result of
increased lumber transaction pricing. Higher lumber transaction prices were
partially offset by higher distribution and manufacturing costs. Manufacturing
costs increased primarily as a result of higher wood costs. Six months ended June 30, 2004, versus June 30, 2003 Sales increased in the first six months of 2004 as compared to the first six
months of 2003 as a result of increased lumber transaction prices and increased
lumber shipments. The increase in lumber shipments was primarily the result of
the new sawmill in Thunder Bay Ontario, which had shipments in the first half
of 2004 but none in the first half of 2003. See the previous discussion of
product line results. Segment income increased in the first six months of 2004 as compared to the
first six months of 2003 primarily as a result of increased lumber transaction
pricing. Higher lumber transaction prices were partially offset by higher
distribution and manufacturing costs. Manufacturing costs increased primarily
as a result of higher wood costs and the stronger Canadian dollar. Net Gain (Loss) on Fixed Assets and Land Sales and Corporate & Other
Eliminations Net gain (loss) on fixed assets and land sales and corporate and other
eliminations are included in order to reconcile division sales and segment
income (loss) to our total sales and operating income (loss) on our
Consolidated Statement of Operations. Three Months Ended June 30,
    
    Six Months Ended June 30,(In millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeNet gain (loss) on fixed
assets and land sales
    
    $
    5.1
    
    
    $
    104.0
    
    
    $
    (98.9
    )
    
    $
    4.2
    
    
    $
    115.1
    
    
    $
    (110.9
    )Corporate & other eliminations:Sales
    
    
    (10.5
    )
    
    
    (20.8
    )
    
    
    10.3
    
    
    
    (20.8
    )
    
    
    (40.9
    )
    
    
    20.1Segment income (loss)
    
    
    11.1
    
    
    
    (9.6
    )
    
    
    20.7
    
    
    
    25.9
    
    
    
    (21.9
    )
    
    
    47.8
 30




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations Net gain (loss) on fixed assets and land sales:During the three and six months
ended June 30, 2004, Bowater recorded a net pre-tax gain of $5.1 million and
$4.2 million, respectively, related to land sales and gains or losses on fixed
assets. During the three and six months ended June 30, 2003, Bowater recorded
a net pre-tax gain of $104.0 million and $115.1 million, respectively, related
to land sales and gains or losses on fixed assets. These decreases are
primarily due to lower land sales in the 2004 periods compared to the 2003
periods. In the second quarter of 2003, Bowater completed the sale of 81,768
acres of owned and leased timberlands for aggregate consideration of $121.8
million. This transaction resulted in a pre-tax gain of approximately $97.5
million. Corporate & other eliminations: The elimination of intersegment sales decreased
$10.3 million in the second quarter of 2004 versus the same period in 2003.
Corporate income increased $20.7 million in the second quarter of 2004 over the
same period in 2003 due primarily to increased gains on foreign currency
hedges. The elimination of intersegment sales decreased $20.1 million in the
first six months of 2004 versus the same period in 2003. Corporate income
increased $47.8 million in the first six months of 2004 due primarily to
increased gains on foreign currency hedges. Interest and Other Income and Expenses Interest expense increased $7.7 million from $42.2 million for the three months
ended June 30, 2003 to $49.9 million for the three months ended June 30, 2004.
Interest expense increased $16.0 million from $82.1 million for the six-months
ended June 30, 2003 to $98.1 million for the six-months ended June 30, 2004.
This increase in both periods is primarily attributable to higher average debt
balances, higher interest rates and less capitalized interest. Additionally,
during the three and six-months ended June 30, 2004, we wrote-off deferred
financing fees of approximately $0.9 million and $0.6 million, respectively, in
connection with our replacement of the $500 million three-year credit facility
in April 2004 and the repayment of our $100 million term loan in March 2004. Based on the current debt balances at June 30, 2004, we expect interest expense
for the balance of 2004 to be at levels similar to the first six months of
2004. Other income increased $6.4 million (income of $3.9 million during the three
months ended June 30, 2004 versus an expense of $2.5 million during the three
months ended June 30, 2003) primarily as a result of a decrease in foreign
currency exchange losses of $7.3 million during the period. Bowater recorded a
foreign exchange gain of $1.7 million during the three months ended June 30,
2004 compared to a loss of $5.6 million for the same period of
2003. Other income increased $15.9 million (income of $5.1 million
for the six-months ended June 30, 2004 versus an expense of
$10.8 million for the six-months ended June 30, 2003) primarily
as a result of a decrease in foreign currency exchange losses of
$15.1 million during the period. Bowater recorded a foreign exchange
gain of $1.3 million during the six-months ended June 30, 2004
compared to a loss of $13.8 million for the same period of 2003. The
majority of our exchange gain/loss amounts are attributable to the revaluation
of unhedged foreign denominated assets and liabilities into United States
dollars. For a further discussion of the effect of fluctuations in the
Canadian  U.S. Dollar exchange rates, see Canadian  U.S. Dollar Exchange
Rate Fluctuation Effect on Earnings. Income Taxes Bowaters effective tax rate for the second quarter of 2004 was 90.8% versus
(150.4)% for the second quarter of 2003. Bowaters effective tax rate for the
first six months of 2004 was 60.0% versus 11.0% for the first six months of
2003. The rates in 2004 were impacted primarily by certain foreign currency
exchange gains on which the company provides no tax expense. The rates in 2003
were impacted primarily by certain foreign currency exchange losses on which
the company receives no tax benefit. The rates in both 2004 and 2003 were also
influenced by permanent tax differences that are not dependent on pre-tax
income or loss. Our effective tax rate varies frequently and substantially from the
weighted-average effect of both domestic and foreign statutory tax rates
primarily as a result of special tax treatment on foreign currency gains and
losses. We have a number of Canadian subsidiaries whose unconsolidated income
and gains are taxed in Canada. On consolidation, such income and gains are
eliminated but we are still liable for the Canadian taxes. Due to the
variability and volatility of foreign exchange rates we are unable to estimate
the impact of future changes in exchange rates on our effective tax rate. 31




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations Liquidity and Capital Resources The primary components of our cash flows are as follows: Six Months Ended June 30,(In millions)
    
    2004
    
    2003Increase in cash and cash equivalents
    
    $
    14.8
    
    
    $
    46.8Cash from operations
    
    
    21.7
    
    
    
    41.1Changes in working capital needs
    
    
    (44.8
    )
    
    
    75.8Cash used for investing activities
    
    
    (31.6
    )
    
    
    (9.7
    )Cash invested in fixed assets, timber and timberlands
    
    
    (38.9
    )
    
    
    (150.0
    )Disposition of fixed assets, timber, and timberlands
    
    
    7.3
    
    
    
    140.3Cash from financing activities
    
    
    24.7
    
    
    
    15.4Short-term financing, net
    
    
    (84.7
    )
    
    
    (137.2
    )Long-term financing, net
    
    
    132.1
    
    
    
    174.8Dividends
    
    
    (23.2
    )
    
    
    (22.8
    )
 Cash from Operating Activities:During the six months of 2004 and 2003, Bowater
had net losses of $33.8 million and $97.4 million, respectively. Cash provided
by operating activities totaled $21.7 million in the first six months of 2004
compared to $41.1 million during the same period of 2003. During the first
quarter of 2003, Bowater received income tax refunds of $75.6 million, which
are included in working capital needs of $75.8 million. Excluding such income
tax refunds, Bowaters working capital needs for the first six months of 2003
would have been approximately $0.2 million. Cash used for Investing Activities:Cash used for investing activities totaled
$31.6 million and $9.7 million for the first six months of 2004 and 2003,
respectively. For 2004, capital expenditures primarily have been, and will
continue to be, for compliance and maintenance requirements, while 2003 capital
expenditures related to the completion of two significant projects at our
Catawba mill as well as compliance and maintenance matters. We expect capital
expenditures to be approximately $100 million in 2004 and approximately $150
million in 2005. Cash from Financing Activities:Cash generated from financing activities
totaled $24.7 million and $15.4 million for the first six months of 2004 and
2003, respectively. Cash from financing activities for the first six months of
2004 includes the sale of $250.0 million of registered notes that are due March
15, 2010 (See Note 10 of the Notes to Consolidated Financial Statements). We
received net proceeds from the sale of the notes of $246.2 million, which were
net of underwriting fees of $3.8 million. The proceeds from the sale of the
notes were used to pay amounts outstanding under the short-term bank debt
credit facilities ($146.2 million) and the three-year term loan ($100.0
million). Bowater had net of payments of $84.7 million and $137.2 million on
our short-term credit facilities during the first six months of 2004 and 2003,
respectively. 32




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations Credit Arrangements: Bowater had available
borrowings on our short-term bank debt  credit
facilities as follows: CommitmentShort-Term Bank Debt
    
    Commitment
    
    Amount Outstanding
    
    Available (2)
    
    Termination Date(in millions)Revolving credit facility
    
    $
    435.0
    
    
    $
    30.0
    
    
    $
    317.4
    
    
    
    04/07364-day Accounts Receivable
Securitization Arrangement (1)
    
    
    200.0
    
    
    
    84.0
    
    
    
    78.9
    
    
    
    12/04Cash management line of credit
    
    
    
    
    
    
    1.8
    
    
    
    
    
    
    
    $
    635.0
    
    
    $
    115.8
    
    
    $
    396.3
  (1)
    
    The amount that can be borrowed at any time under our 364-day accounts
receivables securitization arrangement depends on the amount and nature of
the accounts receivable. The interest rate is based on commercial paper
issued by the lenders plus a margin.(2)
    
    The commitment available under the 364-day Accounts Receivable
Securitization Arrangement is based on qualified trade accounts
receivable. The commitments available under the Revolving credit facility
is subject to covenant restrictions described below and is reduced by
outstanding letters of credit, which were $87.6 million at June 30, 2004. On April 22, 2004, we replaced our expiring revolving credit facilities with a
new three-year revolving credit facility due April 2007. The new facility
provides $400 million of revolving credit in the United States and $35 million
in Canada. Borrowings under the new facility incur interest based, at our
option, on specified market interest rates plus a margin tied to the credit
rating of our long-term debt. The facility contains various covenants,
including requirements to maintain a minimum consolidated net worth (generally
defined as common shareholders equity, excluding hedging gains in place as of
December 31, 2003, plus any outstanding preferred stock plus minimum pension
liability amounts) of $1.5 billion, a maximum 62.5% ratio of total debt to
total capital (defined as total debt less revaluation of debt assumed through
acquisitions, plus net worth including minority interest, plus minimum pension
liability amounts), and to maintain an annual minimum EBITDA (generally defined
as net income, excluding extraordinary, non-recurring or non-cash items, plus
income taxes plus depreciation plus net interest expense) of $250.0 million
measured quarterly beginning March 31, 2005, through December 31, 2005 and
$400.0 million at the end of each quarter thereafter. If we generate net
income, the minimum net worth requirement increases by half of our consolidated
net income for each fiscal quarter, excluding gains from cash flow hedges in
place as of December 31, 2003. At June 30, 2004, our consolidated net worth
was approximately $1,664.6 billion, and our ratio of total debt to total
capital was 58.8%, calculated according to our credit facilities guidelines. 33




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations Total debt as a percentage of total capitalization is the most directly
comparable measure using GAAP. A reconciliation of the GAAP items to the
calculation of total debt as a percentage of total capitalization, in
accordance with our credit facilities, is as follows: (in millions, except ratios)
    
    June 30, 2004Total debt
    
    $
    2,550.5Less: Revaluation of debt
    
    
    (81.3
    )Total debt, per credit facilities
    
    $
    2,469.2Capitalization:Total shareholders equity
    
    $
    1,509.7Total debt
    
    
    2,550.5Minority interest
    
    
    64.4Less: Revaluation of debt
    
    
    (81.3
    )Plus: Additional minimum pension liability
    
    
    154.9Total capitalization, per credit facilities
    
    $
    4,198.2Total debt as a percentage of total capitalization in accordance with credit facilities
    
    
    58.8
    %Total debt as a percentage of total capitalization, in accordance with GAAP
    
    
    61.8
    %
 We believe we are in compliance with all of our covenants and other
requirements set forth in our credit facilities. We believe that cash generated from operations and access to our credit
facilities will be sufficient to provide for our anticipated requirements for
working capital, contractual obligations and capital expenditures for the next
12 months. In addition, we periodically review timberland holdings and sell
timberlands. In February 2004, Moodys downgraded our credit rating to Ba2 with a negative
outlook. In March 2004, S&P downgraded our credit ratings to BB with a stable
outlook. There is no way to predict with certainty any future rating actions
by these two agencies. The interest rates associated with the bank lines of
credit described above are based on our lowest credit rating. Each reduction in
our lowest rating will increase our cost of borrowing under this facility.
Although further downgrades would have no material impact on availability under
our present debt and credit agreements, a reduction in our credit ratings could
impact our access to and cost of capital and financial flexibility in the
future. Employees As of June 30, 2004, Bowater employed 8,200 people, of whom 5,800 were
represented by bargaining units. Labor agreements covering approximately 2,200
employees at five of our six Canadian paper mills expired on April 30, 2004.
These employees are represented predominantly by the Communications, Energy and
Paper Union (CEP). The CEP negotiated with Abitibi Consolidated Inc. as the
target company for the region and they reached a five-year collective
bargaining agreement, which was ratified on July 6, 2004. Traditionally,
agreements reached with the target company have been the basis for other
agreements in the region. We are currently in negotiations with the CEP at the
mill level and unable at this time to determine the impact of these
negotiations on our labor costs. While we consider relations with our
employees to be good and we do not expect a work stoppage to occur at any of
our paper mills in 2004, the outcomes of the negotiations regarding the expired
labor agreements are not entirely within our control and therefore we can
provide no assurance regarding these outcomes or the timing of these
negotiations or their effect on our operations. We successfully negotiated a labor agreement covering approximately 150 of our
employees at our Mokpo, Korea paper mill, which expires in July 2006. The wage
portion of the labor agreement is for a one-year period and will be
renegotiated in July 2005. 34




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations Canadian-U.S. Dollar Exchange Rate Fluctuation Effect on Earnings Nearly half of our manufacturing costs and certain financial liabilities are
denominated in Canadian dollars. Sales are denominated in the currency of the
country in which they occur. Accordingly, changes in the Canadian-U.S. dollar
exchange rate may significantly impact our revenues and costs. The magnitude
and direction of this impact primarily depends on our production and sales
volume, the proportion of our production and sales that occur in Canada, the
proportion of our tax and other financial liabilities denominated in Canadian
dollars, our hedging levels, and the magnitude, direction and duration of
changes in the Canadian-U.S. dollar exchange rate. Increases in the value of
the Canadian dollar versus the U.S. dollar reduce our earnings, which are
reported in U.S. dollar terms. We attempt to partially limit our exposure to Canadian-U.S. dollar exchange
rate fluctuations through hedging transactions. Under the exchange rates,
hedging levels and operating conditions that existed during the three months
ended June 30, 2004, for every one-cent change in the Canadian-U.S. dollar
exchange rate, our operating income, net of hedging, for the three months ended
June 30, 2004 would have been reduced by approximately $1.25 million, or
approximately $5.0 million on an annualized basis. For a description of our
hedging activities, see Note 13 to the Notes to Consolidated Financial
Statements included in this quarterly report. Canadian Dollar Hedging Program At June 30, 2004, we had approximately $87.0 million of unrealized gains
recorded on our Canadian dollar hedging program compared to approximately
$172.4 million of unrealized gains at December 31, 2003. These unrealized
gains are classified in Other current assets or Other assets in our
Consolidated Balance Sheet depending on the maturity date of the hedging
contract. Recent Accounting Pronouncements In January 2003, the Financial Accounting Standards Board (FASB) issued FIN
46, Consolidation of Variable Interest Entities. Many variable interest
entities (VIE) have commonly been referred to as special-purpose entities or
off-balance sheet structures. In general, a VIE is a corporation, partnership,
trust, or any other legal structure used for business purposes that either (a)
does not have equity investors with voting rights or (b) has equity investors
that do not provide sufficient financial resources for the entity to support
its activities. FIN 46 requires a VIE to be consolidated by a company if that
company is subject to a majority of the risk of loss from the VIEs activities
or entitled to receive a majority of the entitys residual returns or both.
The consolidation requirements of FIN 46 apply immediately to VIEs created
after January 31, 2003. The consolidation requirements apply to older entities
in the first fiscal year or interim period beginning after June 15, 2003.
Certain of the disclosure requirements apply in all financial statements issued
after January 31, 2003, regardless of when the VIE was established. In October 2003, the FASB issued FASB Staff Position FIN 46-6 which (i)
deferred the implementation of FIN 46 for VIEs created before February 1, 2003,
for periods ending after December 15, 2003, and (ii) permitted early adoption
of FIN 46 before the end of the deferral period for some or all VIEs in which
an entity holds an interest. Effective July 1, 2003, Bowater early adopted FIN 46 specific to the Covington
paper coating facility (referred to as Nuway) which had been financed through
a special purpose entity (SPE). This SPE was determined to be a VIE and
required to be consolidated by Bowater in accordance with FIN 46. As such, in
the third quarter of 2003, Bowater consolidated assets of approximately $49.4
million and debt of approximately $51.8 million and recorded a non-cash, after
tax cumulative effect charge, of $2.4 million (or $0.04 per share). On August
11, 2003, Bowater terminated the lease agreement with the SPE and paid
approximately $51.8 million to pay off the debt. In December 2003, the FASB issued a revision to FIN 46 (FIN 46R). Under the
new FIN 46R guidance, application of FIN 46R is required in financial
statements of entities that have interests in structures that are commonly
referred to as special-purpose entities for periods ending after December 15,
2003. Application for all other types of variable interest entities is
required in financial statements for periods ending after March 15, 2004.
Bowater adopted the remaining provisions of FIN 46R in the first quarter of
2004. Adoption of FIN 46R had no impact on Bowaters Consolidated Financial
Statements. 35




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations In December 2003, the Medicare Prescription Drug, Improvement and Modernization
Act of 2003 (the Act) was passed. The Act introduced a prescription drug
benefit under Medicare Part D as well as a federal subsidy to sponsors of
retiree health care benefit plans that provide a benefit that is at least
actuarially equivalent to Medicare Part D. Our postretirement benefits include
prescription drug benefits for Medicare-eligible retirees. In March 2004, the
FASB issued FASB Staff Position (FSP) 106-2, Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and
Modernization Act of 2003 (the Act) that provides guidance on the accounting
for the effects of the Act for employers that sponsor postretirement health
care plans that provide drug benefits. This FSP also requires those employers
to provide certain disclosures regarding the effect of the federal subsidy
provided by the Act. The FSP is effective for the first interim or annual period beginning after
June 15, 2004 (July 1, 2004 for Bowater). When the new guidance is initially
applied, a remeasurement of the plans assets and accumulated postretirement
benefit obligation, including the effects of the subsidy, if applicable, as
well as the other effects of the Act, should be made as of the earlier of (a)
the plans measurement date that normally would have followed enactment of the
Act or (b) the end of the employers interim or annual period that includes the
date of the Acts enactment. For Bowater, the results for the quarter ending
September 30, 2004 will reflect the new legislation and the proposed accounting
guidance. While not yet measurable, we believe the Act will likely result in
postretirement benefit liabilities that are lower than they would be without
the effects of the Act. 36




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES
Managements Discussion and Analysis of Financial Condition and Results of Operations 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk Foreign Exchange Risk We have updated the disclosure concerning our Canadian dollar forward
contracts, which is included in Note 13 to the Notes to Consolidated Financial
Statements included in this quarterly report. For information about the effect
of Canadian-U.S. dollar exchange rate fluctuations on our manufacturing costs
and Canadian dollar denominated liabilities, see the section entitled
Canadian-U.S. Dollar Exchange Rate Fluctuation Effect on Earnings. Interest Rate Risk We are exposed to interest rate risk on our fixed-rate long-term debt and our
short-term variable rate bank and long-term debt. Our objective is to manage
the impact of interest rate changes on earnings and cash flows and on the
market value of our borrowings. We maintain a mix of fixed rate and variable
rate borrowings. At June 30, 2004 we had $2,151.2 million of fixed rate
long-term debt and $399.3 million of short and long-term variable rate debt.
The fixed rate long-term debt is exposed to fluctuations in fair value
resulting from changes in market interest rates, but not earnings or cash
flows. Our variable rate debt approximates fair value as it bears interest
rates that approximate market, but changes in interest rates do affect future
earnings and cash flows. Based on our short and long-term variable rate bank
debt at June 30, 2004 of $399.3 million, a 100 basis point increase in interest
rates would increase our quarterly interest expense by approximately $1.0 million. Commodity Price Risk We purchase significant amounts of energy, chemicals, wood fiber and recovered
paper to supply our manufacturing facilities. These raw materials are
market-priced commodities and, as such, are subject to fluctuations in market
prices. Increases in the prices of these commodities will tend to reduce our
reported earnings and decreases will tend to increase our reported earnings.
From time to time, we may enter into contracts aimed at securing a stable
source of supply for commodities such as timber, wood fiber, energy, chemicals
and recovered paper. These contracts typically require us to pay the market
price at the time of purchase. Thus under these contracts we generally remain
subject to market fluctuations in commodity prices. 
 Item 4. Controls and Procedures. (a) Evaluation of Disclosure Controls and Procedures: We have evaluated the effectiveness of the design and operation of our
disclosure controls and procedures as of June 30, 2004. Based on that
evaluation, the Chairman, President and Chief Executive Officer and the Chief
Financial Officer concluded that our disclosure controls and procedures are
effective in recording, processing, summarizing, and timely reporting
information required to be disclosed in our reports to the Securities and
Exchange Commission. (b) Changes in Internal Controls: In connection with the evaluation of internal controls, there were no changes
that materially affect our internal controls over financial reporting during
the period covered by this report. 37




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES 
 PART II
OTHER INFORMATION 
 Item 1. Legal Proceedings.  a.
    
    Bowater is involved in various legal proceedings relating to contracts,
commercial disputes, taxes, environmental issues, employment and workers
compensation claims and other matters. We periodically review the status
of these proceedings with both inside and outside counsel. We believe
that the ultimate disposition of these matters will not have a material
adverse effect on our financial condition, but it could have a material
adverse effect on the results of operations in a given quarter or the
year.b.
    
    There have been no material developments to the legal proceedings
described in our annual report on Form 10-K filed on March 10, 2004. Item 4. Submission of Matters to a Vote of Security Holders. On May 12, 2004, at the Companys Annual Meeting of Shareholders, the following
matters were submitted to a vote of the shareholders: A resolution electing the following class of directors for a term of three
year: Gordon D. Giffin (43,470,035 votes in favor; 6,954,934 votes withheld);
Arnold M. Nemirow (49,234,530 votes in favor; 1,190,439 votes withheld);
Douglas A. Pertz (49,310,919 votes in favor; 1,114,050 votes withheld); Arthur
R. Sawchuk (48,690,575 votes in favor; 1,734,394 votes withheld). The names of
each other director whose term of office as a director continued after the
meeting are: Francis J. Aguilar, Richard B. Evans, Charles J. Howard, L.
Jacques Ménard, John A. Rolls and Togo D. West, Jr. 
 Item 6. Exhibits and Reports on Form 8-K.  (a)
    
    Exhibits (numbered in accordance with Item 601 of Regulation
S-K): Exhibit No.
    
    Description10.1
    
    Modification of Employment Agreement and Cancellation of
Change in Control Agreement dated as of May 31, 2004, by and between
Bowater Incorporated and E. Patrick Duffy.10.2
    
    2004 Non-Employee Director Stock Unit Plan, effective May 1, 200412.1
    
    Statement regarding Computation of Ratio of Earnings to Fixed Charges.31.1
    
    Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of CEO Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    Certification of CFO Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
  (b)
    
    Reports on Form 8-K: On April 28, 2004, the Company furnished a report on Form 8-K announcing
its earnings for the first quarter of 2004 and for the quarter ended
March 31, 2004, under items 7 and 12. 38




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##### 



BOWATER INCORPORATED AND SUBSIDIARIES 
 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized. BOWATER INCORPORATEDBy
    
    /s/ David G. MaffucciDavid G. Maffucci
Executive Vice President and
Chief Financial OfficerBy
    
    /s/ Michael F. NocitoMichael F. Nocito
Vice President and Controller
 Dated: August 6, 2004 39




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##### 



INDEX TO EXHIBITS Exhibit No.
    
    Description10.1
    
    Modification of Employment Agreement and Cancellation of
Change in Control Agreement dated as of May 31, 2004, by and between
Bowater Incorporated and E. Patrick Duffy.10.2
    
    2004 Non-Employee Director Stock Unit Plan, effective May 1, 200412.1
    
    Statement regarding Computation of Ratio of Earnings to Fixed Charges.31.1
    
    Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of CEO Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    Certification of CFO Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.