PART I


ITEM 1.	BUSINESS

~~ITEM 1. BUSINESS~~

In this document, please note the following:


	•	references to “we”, “our”, “us”, the “Company” or “Mercer” mean Mercer International Inc. and its subsidiaries, unless the context clearly suggests ~~otherwise;~~otherwise, and references to “Mercer Inc.” mean Mercer International Inc. excluding its subsidiaries;


	•	references to “ADMTs” mean air-dried metric tonnes;

	•	information is provided as of December 31, ~~2006,~~2007, unless otherwise stated or the context clearly suggests otherwise;

	•	all references to monetary amounts are to “Euros”, the lawful currency adopted by most members of the European Union, unless otherwise stated; and

	•	“‘‘€” refers to Euros; “$” refers to U.S. dollars; and “C$” refers to Canadian dollars.

The Company


	*~~General~~*

General

Mercer Inc. ~~was initially organized as~~is a Washington business trust in 1968 and, effective March 1, 2006, converted, referred to as the “Conversion”, to a Washington corporation. The Conversion effected a change in legal form, but did not result in any change in business, management, fiscal year, accounting practices, assets or liabilities (except to the extent of legal and other costs of effecting the Conversion and maintaining ongoing corporate status) or location of offices and facilities. We continue to operate under the name “Mercer International Inc.” following consummation of the Conversion and continue to be engaged in the same business that we were engaged in previouslycorporation and our shares of common stock ~~continue to be~~are quoted and listed for trading on the NASDAQ Global Market (MERC) and the Toronto Stock ~~Exchange.~~Exchange (MRI.U). We converted our corporate form from a Washington business trust to a corporation effective March 1, 2006 without effecting any change in our business, management, accounting practices, assets or liabilities.

We operate in the pulp business and are ~~one of~~ the second largest ~~producers~~producer of market northern bleached softwood kraft, or “NBSK”, pulp in the world. We are the sole kraft pulp producer, and the only producer of pulp for resale, known as “market pulp”, in Germany, which is the largest pulp import market in Europe. We also have significant sales to Asia, including China, which is the region with the fastest rate of growth in demand. Our operations are currently located in eastern Germany and western Canada. We currently employ approximately ~~1,052~~1,076 people at our German operations, ~~401~~396 people at our Celgar mill in western Canada and 1618 people at our office in Vancouver, British Columbia, Canada. We operate three NBSK pulp mills with a consolidated annual production capacity of approximately 1.4 million ADMTs:


	•	*Rosenthal mill.* Our wholly-owned subsidiary, Rosenthal, owns and operates a modern, efficient ISO 9002 certified NBSK pulp mill that has ana current annual production capacity of approximately ~~310,000~~325,000 ADMTs. ~~Located~~The Rosenthal mill is located near the town of Blankenstein, ~~Germany, the Rosenthal mill is currently one of only two producers of market NBSK pulp in Germany, the other being our Stendal mill.~~Germany.

	•	*Stendal mill.* Our 70.6% owned subsidiary, Stendal, completed construction of a new,~~state-of-the-art,~~ state-of-the-art, single-line NBSK pulp mill in September 2004, which had an initial annual production capacity of approximately 552,000 ADMTs. The addition of two new digesters in December 2005, along with other measures, increased its current annual production capacity to approximately ~~600,000~~620,000 ADMTs. ~~The Stendal mill is one of the largest NBSK pulp mills in Europe. The aggregate cost of the Stendal mill was approximately~~€~~1.0 billion. The Stendal project was financed through a combination of government grants totaling approximately~~€~~274.5 million, low-cost, long-term project debt which is largely severally guaranteed by the federal government of Germany and the state government of Sachsen-Anhalt, and equity contributions.~~ The Stendal mill is situated near the town of Stendal, Germany, approximately 300 kilometers north of the Rosenthal mill.

	•	*Celgar mill.* ~~In February 2005, we acquired, referred to as the “Acquisition”,~~Our wholly owned subsidiary, Celgar, owns and operates the Celgar mill, a modern, efficient ISO 9001 certified NBSK pulp mill that ~~at the time~~ had an annual production capacity of approximately 430,000 ~~ADMTs.~~ADMTs when it was acquired in February 2005. A ~~C$28.0 million~~ capital project ~~initiated~~completed in ~~2006 has~~2007 and other measures have increased ~~its~~the mill’s current annual production capacity to approximately ~~470,000~~480,000 ADMTs. ~~The Celgar mill was completely rebuilt in~~

~~the early 1990s through an C$850.0 million modernization and expansion project, which transformed it into a low-cost producer.~~ The Celgar mill is located near the city of Castlegar, British Columbia, Canada, approximately 600 kilometers east of the port city of Vancouver, British ~~Columbia.~~Columbia, Canada.

We ~~also~~have a global sales and marketing team that handles sales to over 140 customers. As a result of the close proximity of our mills to customers and our global platform, we can service our customers on a worldwide basis.

History and Development of Business

We originally invested in various real estate assets with the intention of becoming a real estate investment trust, but in 1985 changed our operational direction to acquiring controlling interests in operating companies. We acquired our initial pulp and paper operations in 1993.

In late 1999, we completed a major capital project which, among other things, converted the Rosenthal mill to the production of kraft pulp from sulphite pulp, increased its annual production capacity from approximately 160,000 ADMTs to approximately 280,000 ADMTs, reduced costs and improved efficiencies. The aggregate cost of this conversion project was approximately €361.0 million, of which approximately €102.0 million was financed through government grants. Subsequent minor capital investments and efficiency improvements have reduced emissions and energy costs and increased the Rosenthal mill’s annual production capacity to approximately 325,000 ADMTs.

In September 2004, we completed construction of the Stendal mill at an aggregate cost of approximately €1.0 billion. The Stendal mill is one of the largest NBSK pulp mills in Europe. The Stendal mill was financed through a combination of government grants totaling approximately €275 million, low-cost, long-term project debt which is largely severally guaranteed by the federal government and a state government in Germany, and equity contributions. We initially had a 63.6% ownership interest in Stendal and, in October 2006, increased our interest to 70.6% by acquiring a 7% minority interest therein for €8.1 million. We may in the future seek to acquire all of the remaining 29.4% minority interest in the Stendal mill.

The Stendal mill was constructed under a €716.0 million fixed-price turn-key engineering, procurement and construction, or “EPC”, contract between Stendal and the EPC contractor. Under the contract, the EPC contractor was responsible for all planning, design, engineering, procurement, construction and testing in connection with the build-out andstart-up of the mill. Pursuant to the EPC contract, construction of the Stendal mill was completed substantially on its planned schedule and budget in September 2004. Such completion meant that the construction and installation of all equipment and works were essentially finished and final checks occurred so that continuous production from the mill could commence. The mill then underwent extensive testing and evaluation to determine whether certain performance requirements had been met. Although the tests were generally successful, the EPC contractor agreed in the first quarter of 2005 to implement certain remedial measures at the mill, including the installation of two additional digesters and related equipment, improvements to the non-condensable gas, or “NCG”, boiler and water treatment plant. These digesters enhanced the reliability and overall operating performance of the Stendal mill and, along with other measures, increased its annual production capacity to approximately 620,000 ADMTs. The two additional digesters had a capital cost of approximately €8.0 million, of which we paid €2.0 million and the balance was paid by the EPC contractor and certain suppliers.

Subsequently, each department of the mill was tested on a stand-alone basis for compliance with its design specifications. Based upon such testing, Stendal made a number of warranty claims. In September 2007, Stendal concluded a final settlement of substantially all outstanding matters with its contractors under the EPC contract while still maintaining existing warranties. Pursuant to the settlement, Stendal received a payment of approximately €11.0 million.

We, Stendal and its minority shareholder are parties to a shareholders’ agreement dated August 26, 2002, as amended, to govern our respective interests in Stendal. The agreement contains terms and conditions customary for these types of agreements, including restrictions on transfers of share capital and shareholder loans other than to affiliates, rights of first refusal on share and shareholder loan transfers, pre-emptive rights and piggyback rights on dispositions of our interest. The shareholders are not obligated to fund any further equity capital contributions to the project. The shareholders’ agreement provides that Stendal’s managing directors may be appointed by holders of a simple majority of its share capital. Further, shareholder decisions, other than those mandated by law or for the provision of financial assistance to a shareholder, are determined by a simple majority of Stendal’s share capital.

A significant portion of the capital investments at our German pulp mills, including the construction of the Stendal mill, were financed through government grants. Since 1999, our German pulp mills have benefited from an aggregate €383.0 million in government grants. These grants are not reported in our income. These grants reduce the cost basis of the assets purchased when the grants are received. See “— Capital Expenditures”.

In February 2005, we acquired the Celgar mill for $210.0 million, of which $170.0 million was paid in cash and $40.0 million was paid in our shares, plus $16.0 million for the defined working capital at the mill on closing. The Celgar mill was completely rebuilt in the early 1990s through a C$850.0 million modernization and expansion project, which transformed it into a low-cost producer.

In 2007, we completed a C$28.0 million capital project commenced in 2005 which improved efficiencies and reliability and, with other measures, increased the Celgar mill’s annual production capacity to 480,000 ADMTs.

We previously operated two paper mills in Germany that had an aggregate annual production capacity of approximately 70,000 ADMTs. We viewed these as non-core operations and divested them in 2006 and ~~no longer operate in this business. Pursuant to SFAS 144, we~~ account for this business as discontinued operations. As a result, certain previously reported amounts and the financial statements and related notes herein have been reclassified to conform to the current presentation. In 2006, we also divested our equity interest in a non-consolidated specialty paper mill in Switzerland. ~~All of these~~These divestitures were effected so that we could focus on our core pulp business.


	~~History and Development of Business~~ *Organizational Chart*

In late 1999, we completed a major capital project which, among other things, converted the Rosenthal mill to the production of kraft pulp from sulphite pulp, increased its annual production capacity from approximately 160,000 ADMTs to approximately 280,000 ADMTs, reduced costs and improved efficiencies. Subsequent minor capital investments and efficiency improvements increased the Rosenthal mill’s annual production capacity to approximately 310,000 ADMTs, and reduced emissions and energy costs. The aggregate cost of the project was approximately€~~361.0 million.~~

~~In September 2004, we completed construction of the Stendal mill substantially on its planned schedule and budget at an aggregate cost of approximately~~€~~1.0 billion. We initially had a 63.6% ownership interest in Stendal and, in October 2006, increased our interest to 70.6% by acquiring a 7% minority interest therein for~~€~~8.1 million, of which~~€~~6.7 million was paid by a note that, at our election, we can satisfy in shares of our common stock.~~

The Stendal mill is located near the town of Stendal, in the German State of Sachsen-Anhalt, approximately 300 kilometers north of the Rosenthal mill. As a result of the proximity of the Stendal mill to the Rosenthal mill and the use of similar equipment at both mills, we believe we realize operating synergies between the two operations, particularly in the areas of raw materials and supplies procurement, production engineering, maintenance and marketing.

The Stendal mill is the largest market kraft pulp mill in Germany, the only other being our Rosenthal mill. The addition of production from the Stendal mill has allowed us to expand our customer base, as our two pulp mills produce slightly different grades of softwood kraft pulp suitable for different end uses.

A significant portion of the capital investments at our German pulp mills, including the construction of the Stendal mill, were financed in large part through government guaranteed term financing and government grants. See “— Government Financing”.

In February 2005, we completed the Acquisition of the Celgar mill for $210.0 million, of which $170.0 million was paid in cash and $40.0 million was paid in our shares, plus $16.0 million for the defined working capital at the mill on closing.

The Acquisition of the Celgar mill reflects our strategy of acquiring world-class market NBSK pulp production capacity on terms below comparable replacement cost where we can use our management focus to enhance operations, improve profitability and create value for our stakeholders. The Acquisition makes us one of the largest producers of market NBSK pulp in the world. We now have a consolidated annual production capacity of approximately 1.4 million ADMTs of high quality NBSK pulp from three modern NBSK pulp mills located in Europe and North America. This has improved our service to those larger paper and tissue producing customers who wish to develop purchasing arrangements with pulp suppliers that can service them on a worldwide basis. The Celgar mill also diversified our revenue and cost base. Prior to the Acquisition, substantially all of our revenues resulted from sales in Europe. Approximately 81% and 69% of the Celgar mill’s sales in 2006 and 2005, respectively, were in Asia, which is currently the fastest growing market for

~~NBSK pulp imports. The Celgar mill’s costs are largely in Canadian dollars, which has reduced our relative exposure to the exchange rate between the U.S. dollar and Euro.~~

In conjunction with the Acquisition, we sold $310.0 million in principal amount of 9.25% senior notes maturing in 2013 and an aggregate of approximately $91.0 million of our shares by way of separate public offerings. The net proceeds from the offering of the senior notes, our shares and cash on hand were utilized to pay the cash portion of the purchase price of the Acquisition, including defined working capital, transaction costs and to refinance all of the bank indebtedness of our Rosenthal mill and for working capital.

~~In 2006, we divested our paper operations and interests to focus exclusively on our core pulp business.~~


	*~~Organizational Chart~~*

The following chart sets out our directly and indirectly owned principal operating subsidiaries, their jurisdictions of organization and their principal activities:

Competitive Strengths

Our competitive strengths include the following:


	•	*Modern ~~Low Cost NBSK Pulp~~Low-Cost Mills.* We operate three large, modern, ~~low cost~~low-cost NBSK pulp ~~mills. The significant capital investments at the Rosenthal mill have resulted in a facility which ranks in the lowest cost quartile for~~mills that produce high-quality NBSK pulp ~~delivered to Europe. As a result of itsstate-of-the-art facilities and larger production capacity, the Stendal mill is designed to have lower production costs than the Rosenthal mill. The Celgar mill~~which is a ~~low cost producer~~premium grade of NBSK pulp and we are in the process of completing a capital improvement project for the Celgar mill that we believe will improve price realizations, increase production, improve reliability and lower production costs.kraft pulp. The relative age and production capacity of our NBSK pulp mills provide us with certain manufacturing cost advantages over many of our competitors including lower maintenance capital expenditures. Through focused capital expenditures and other measures, we have increased the aggregate production capacity of our mills by over 133,000 ADMTs over the last two years.

	•	*~~High Quality NBSK Pulp Products.~~* Our mills produce high quality NBSK pulp which is a premium grade of kraft pulp. Our Rosenthal mill continues to increase the proportion of its sales of reinforcement NBSK pulp, which is used to produce stronger papersCustomer Proximity and generally obtains the highest price. The Stendal mill produces a very high quality NBSK pulp product, although from a slightly different species mix, resulting in a complementary product more suitable for different end uses. The pulp produced at our Celgar mill also has excellent product characteristics.

	•	*~~Close Proximity to Customers.~~Service.* We are ~~the sole kraft pulp producer and~~ the only producer of market pulp in Germany, which is the largest pulp import market in Europe. Due to the proximity of ~~the Rosenthal and Stendal~~our German mills to most of our European customers, ~~and the new member countries of the European Union,~~ we benefit from lower transportation costs relative to our major competitors. Our Celgar mill, ~~which is~~ located in western Canada, is well situated to serve Asian and North American customers. We primarily work directly with customers to capitalize on our geographic diversity, coordinate sales and enhance customer relationships. We believe our ability to deliver high quality pulp on a timely basis ~~enhances~~and our customer ~~satisfaction and has made~~service makes us a preferred supplier for many customers.

	•	*Advantageous Capital Investments and Financing.* Our German mills are eligible to receive government grants in respect of qualifying capital investments. Over the last eight years, our German mills have benefited from approximately €383.0 million of such government grants. These grants are not reported in our income but reduce the cost basis of the assets purchased when the grants are received. During the last


		eight years, capital investments at our German mills have reduced the amount of overall wastewater fees that would otherwise be payable by over €37 million. Further, our Stendal mill benefits from German governmental guarantees of its project financing which permitted it to obtain better terms and lower costs than would otherwise be available. The project debt of Stendal has fixed its interest cost, including fees and margin, at a rate of approximately 5.3% per annum plus applicable margins, a15-year term and matures in 2017. Such debt of Stendal is non-recourse to our other operations and Mercer Inc.


	•	*~~Stable~~Renewable and ~~Abundant~~Surplus Energy.* Our modern mills generate electricity and steam in their boilers and are generally energy self-sufficient. Such energy is primarily produced from wood residuals which are a renewable carbon neutral source. This has permitted our German mills to benefit from the sales of emission allowances. All of our mills also generate surplus energy which we sell to third parties to reduce our operating costs. We believe our generation of renewable “green” energy, high energy prices and surplus power provides us with a competitive energy advantage.

	•	*Competitive Fiber Supply.* ~~There~~Although fiber is cyclical in both price and supply, there is a significant amount of high-quality fiber within a close radius of each of our mills. This fiber supply, combined with our purchasing power, ~~lets~~enables us to enter into contracts and arrangements which have generally provided us with a ~~satisfactory~~competitive fiber supply.

Corporate Strategy

Our corporate strategy is to create shareholder value by focusing on the expansion of our asset and earnings base through organic growth and acquisitions primarily in Europe and North America. We pursue organic growth through active management and targeted capital expenditures designed to produce a high return by increasing production, reducing costs and improving quality. We seek to acquire interests in companies and assets in the pulp industry and related businesses where we can leverage our experience and expertise in adding value through a focused management approach.base. Key features of our strategy include:


	•	*Focusing on NBSK Market Pulp.* We focus on NBSK pulp because it is a premium grade kraft pulp ~~known for its strength~~ and generally obtains the highest price relative to other kraft pulps. Although demand is cyclical, worldwide demand for kraft market pulp has grown at an average of approximately 3% per annum over the last ten years with higher growth rates in certain markets such as Asia, in particular China, and eastern Europe and Asia. We do not believe there are any significant new NBSK pulp production capacity increases coming online in the next several years due in part to fiber supply constraints and high capital costs.Europe.

	•	*Operating Modern, ~~World-Class NBSK Pulp Production Facilities.~~World Class Mills.* In order to keep our operating costs as low as possible, with a goal of operating profitably in all market conditions, we operate large, modern NBSK pulp ~~production facilities.~~mills. We believe such production facilities provide us with the best platform to be an efficient, ~~low cost~~low-cost producer of ~~high quality~~high-quality NBSK pulp without the need for significant sustaining capital. We believe that this, coupled with announced and predicted potential pulp mill closures, assists us in becoming a preferred supplier to customers seeking a reliable, stable, long-term provider of high quality NBSK pulp.

	•	*Improving Efficiency and Reducing Operating Costs.* We continually focus on increasing ~~the~~ productivity and ~~operating~~ efficiency ~~of our production facilities~~ through cost reduction initiatives ~~including~~and targeted capital investments. We seek to make high return capital investments that increase ~~the~~ production and ~~operating~~ efficiency, ~~at our production facilities,~~ reduce costs and improve product quality. At our German mills, certain of these capital investments qualify for government grants and some offset wastewater fees that would otherwise be payable. We also seek to reduce operating costs by better managing certain operating activities ~~at our facilities~~ such as fiber procurement, ~~and~~ sales and marketing ~~activities.~~and customer service. We coordinate these activities at our ~~pulp facilities~~mills to realize on potential synergies among them. ~~In particular, we are completing a number of initiatives to realize upon opportunities to reduce the operating costs, increase production and improve the financial results of the Celgar mill.~~

	•	*~~Enhancing Customer Relationships.~~Maximizing Energy Realizations.* In 2007, our mills generated over 50 megawatts of surplus energy, primarily from a renewable carbon-neutral source. We are pursuing several initiatives to increase our overall energy generation and the amount of and price for our surplus power sales. Such initiatives include targeted high return capital projects to increase generation and connectivity to the electric grid. They also include working with stakeholders to have our surplus energy recognized as “green” energy and enhancing the supply of wood residuals.

	•	*Pursuing Growth.* We ~~focus on continually~~pursue growth through organic growth and acquisitions primarily in Europe and North America. We pursue organic growth through active management and targeted capital expenditures designed to produce a high return by increasing production, reducing costs and improving ~~our marketing and distribution capabilities to enhance our customer relationships and capitalize on our geographic diversification.~~quality. We seek to ~~differentiate ourselves from~~acquire interests in companies and assets in the pulp industry and related businesses where we can leverage our ~~competitors by consistently delivering high quality products~~experience and expertise in adding value through a focused management approach and our global production, maintenance, procurement and sales expertise. We view these types of acquisitions, which can occur at significant discounts to ~~our customers on a global basis. We coordinate~~replacement costs, as having the ~~marketing and distribution activities at our pulp mills~~ability to ~~better service our customers.~~generate strong value.

The Pulp Industry


	*~~General~~*

General

Pulp is used in the production of paper, tissues and paper related products. Pulp is generally classified according to fiber type, the process used in its production and the degree to which it is bleached. Kraft pulp is produced through a sulphate chemical process in which lignin, the component of wood which binds individual fibers, is dissolved in a chemical reaction. Chemically prepared pulp allows the wood’s fiber to retain its length and flexibility, resulting in stronger paper products. Kraft pulp can be bleached to increase its brightness. Kraft pulp is noted for its strength, brightness and absorption properties and is used to produce a variety of products, including lightweight publication grades of paper, tissues and paper related products.

The market value of kraft pulp depends in part on the fiber used in the production process. There are two primary species of wood used as fiber: softwood and hardwood. Softwood species generally have long, flexible

fibers which add strength to paper while fibers from species of hardwood contain shorter fibers which lend bulk and opacity. ~~Prices~~Generally, prices for softwood pulp are ~~generally much~~ higher than for hardwood pulp. Currently, the kraft pulp market is roughly evenly split between softwood and hardwood grades. Most uses of market kraft pulp, including fine printing papers, coated and uncoated magazine papers and various tissue products, utilize a mix of softwood and hardwood grades to optimize production and product qualities. In recent years, production of hardwood pulp, based on fast growing plantation fiber primarily from Asia and South America, has increased much more rapidly than that of softwood grades that have longer growth cycles. As a result of the growth in supply and lower costs, kraft pulp customers in recent years have substituted some of the pulp content in their products to hardwood pulp. Counteracting customers’ increased proportionate usage of hardwood pulp has been the requirement for strength characteristics in finished ~~goods and paper~~goods. Paper and tissue makers focus on higher machine speeds and lower basis weights for publishing papers which also require the strength characteristics of softwood pulp. We believe that the ability of kraft pulp users to further substitute hardwood for softwood pulp is limited by such requirements.

NBSK pulp, which is a bleached kraft pulp manufactured using species of northern softwood, is considered a premium grade because of its strength. It generally obtains the highest price relative to other kraft pulps. Southern bleached softwood kraft pulp is kraft pulp manufactured using southern softwood species and does not possess the strength found in NBSK pulp. NBSK pulp is the sole product of our mills.

Kraft pulp can be made in different grades, with varying technical specifications, for different end uses. ~~High quality~~High-quality kraft pulp is valued for its reinforcing role in mechanical printing papers, while other grades of kraft pulp are used to produce lower priced grades of paper, including tissues and paper related products.


	*~~Markets~~*

Markets

~~Producers ranging from small independent manufacturers to large integrated companies produce pulp worldwide. In 2005, more than 130~~

We believe that over 125 million ADMTs of kraft pulp ~~were~~are converted annually into printing and writing papers, tissues, cartonboards and other white grades of paper and paperboard around the world. Approximately 70% of this pulp ~~was~~is produced for internal purposes by integrated paper and paperboard manufacturers, and approximately 30% ~~was~~is produced for sale on the open market.

Although demand is cyclical, worldwide demand for kraft market pulp has grown at an average rate of approximately 3% annually over the last ten years. The growth rate for NBSK pulp reflects this continuing ~~demand, with growth rates higher than the general softwood kraft group.~~demand.

Western Europe accounts for approximately 35% of global market pulp demand with a growth rate of approximately 2%1% annually over the past ten years. Within Europe, Germany, with its large economy and sizable paper industry, has historically been the largest pulp market ~~historically~~ relying largely on imports from North America and Scandinavia.

Demand for market pulp in Asia ~~(excluding Japan)~~ has been growing at approximately ~~24%~~5% annually over the past 1510 years and currently accounts for approximately ~~30%~~34% of global demand. This demand growth has primarily been driven by increasing per capita ~~consumption combined with~~consumption. Demand for NBSK market pulp in China has grown at a rate of approximately 15% per year over the ~~mandated closure~~last ten years. China, which accounted for 4% of ~~numerous small, often non-wood based,~~world market kraft pulp ~~facilities~~demand in ~~China.~~1996 now accounts for 14% of world demand. Canada is the largest exporter to this region.

We expect Europe and Asia to continue to be significant net importers of pulp in the foreseeable future. The markets for kraft pulp are cyclical in nature and demand for kraft pulp is related to global and regional levels of economic activity. A measure of demand for kraft pulp is the ratio obtained by dividing the worldwide ~~consumption~~demand of kraft pulp by the worldwide capacity for the production of kraft pulp, or the ~~“consumption/~~“demand/capacity ratio”. An increase in this ratio generally occurs when there is an increase in global and regional levels of economic ~~activity and low inventories of kraft pulp.~~activity. An increase in this ratio generally indicates greater demand as consumption increases, which generally results in rising kraft pulp prices, ~~and~~ abuild-up of inventories by buyers and a reduction by producers. As prices continue to rise, producers continue to run at higher operating rates. However, an adverse change in global and regional levels of economic activity generally negatively affects demand for kraft pulp, often leading to a high level of inventorybuild-up by buyers. AsFalling demand ~~falls,~~is precipitated by buyers generally ~~reduce~~reducing their purchases and ~~rely~~relying on inventories of kraft pulp, and, in turn, many producers will run at lower operating rates by taking downtime to limit thebuild-up of their own inventories.

The ~~consumption/~~demand/capacity ratio ~~excluding Indonesian and eastern European pulp producers,~~ was approximately 96% in ~~2004,~~2006 and approximately 93% in ~~2005 and approximately 95% in 2006.~~ 2005.

We ~~expect the long lead time and~~do not believe there are any significant ~~capital investment required to bring~~ new NBSK pulp ~~mills on stream to limit growth in industry~~production capacity increases coming online in the next ~~few years.~~several years due in part to fiber supply constraints and high capital costs.


	*~~NBSK Pulp Pricing~~*

Competition

Pulp markets are large and highly competitive. Producers ranging from small independent manufacturers to large integrated companies produce pulp worldwide. Our pulp and customer services compete with similar products manufactured and distributed by others. Many factors influence our competitive position. These factors include price, service, quality and convenience of location. Some of our competitors are larger than we are in certain markets and have greater financial resources. These resources may afford those competitors more purchasing power, increased financial flexibility, more capital resources for expansion and improvement and enable them to compete more effectively.

Our key NBSK pulp competitors are principally located in northern Europe and Canada. In 2007, our largest competitors included Södra Cell International, Canfor Pulp Income Trust and Pope & Talbot, Inc.

NBSK Pulp Pricing

Global economic conditions, changes in production capacity, inventory levels, and currency exchange rates are the primary factors affecting NBSK pulp list prices. ~~The~~Prices are cyclical and the average annual European list prices for NBSK pulp ~~between~~since 1990 ~~and 2006~~have ranged from a low of approximately $444 per ADMT in 1993 to a high of approximately ~~$875~~$985 per ADMT in 1995.

The 1995 price peak was followed by a steep decline as inventory levels for North American and Scandinavian, or “Norscan”, producers grew to over 2.5 million ADMTs by early 1996. Norscan producers currently produce a majority of the market NBSK pulp sold in North America and Europe and inventory levels held by Norscan producers are considered an industry benchmark in determining industry inventory levels. Between 1996 and 1999, list pulp prices remained relatively low due in part to the Asian financial crisis which began in late 1997.

Prices started to recover in 1999 due to a combination of factors including a recovery in the Asian economy, the shutdown of unprofitable mills or older mills in need of environmental upgrades and a decline in capacity expansion. This contributed to tightening inventory levels among Norscan producers, resulting in list prices increasing to an average of approximately $710 per ADMT in the fourth quarter of 2000. However, the decline of the American and major European economies in 2001 caused a sharp reduction in paper demand. As a result, Norscan pulp inventories increased materially and list price levels eroded to an average of approximately $460 per ADMT in late 2001. Inventory levels ranged between approximately 1.3 million and 1.9 million ADMTs in 2002, and list prices averaged approximately $463 per ADMT in 2002. The weakening of the U.S. dollar against the Euro and other major currencies and an increase in demand resulting from improving American and major European economies in 2003 resulted in list prices for kraft pulp in Europe increasing to approximately $560 per ADMT in December 2003 despite relatively high inventory levels. List prices for kraft pulp in Europe continued to strengthen in 2004 due to the relatively weak U.S. dollar and improving world economies, and were approximately $625 per ADMT in December 2004. However,In 2005, list prices for NBSK pulp started the year at approximately $625 per ADMT but declined ~~in 2005~~ primarily due to the strengthening of the U.S. dollar ~~and were approximately~~to $600 per ADMT in Europe at the end of ~~2005.~~the year. Pulp prices increased steadily in 2006 and 2007 primarily as a result of the closure of several pulp mills, particularly in North America, which reduced NBSK capacity by approximately 1.2 million ADMTs, better demand and the general weakness of the U.S. dollar against the Euro and the Canadian dollar. At the end of ~~2006,~~2007, list prices for NBSK pulp in ~~Northern~~ Europe had increased to ~~$730~~$870 per ADMT.

~~The following chart sets out European list prices for NBSK pulp for the periods indicated:~~

A producer’s sales realizations will reflect customer discounts, commissions and other items and prices will continue to fluctuate in the future. While there are differences between NBSK list prices in Europe, North America and Asia, European prices are generally regarded as the global benchmark and pricing in other regions tends to follow European trends. The nature of the pricing structure in Asia is different in that, while quoted list prices tend to be lower than Europe, customer discounts and commissions tend to be lower resulting in net sales realizations that are generally similar to other markets.

The majority of market NBSK pulp is produced and sold by North American and Scandinavian, or “Norscan”, producers, while the price of NBSK pulp is generally quoted in U.S. dollars. As a result, NBSK pricing is affected by fluctuations in the currency exchange rates for the U.S. dollar versus the Canadian dollar and the Euro. NBSK pulp price increases over the last two years have in large part been offset by the weakening of the U.S. dollar.


	*~~The Manufacturing Process~~*

The following chart sets out the changes in list prices for NBSK pulp in Europe and the value of the U.S. dollar to the Euro and the Canadian dollar for the periods indicated.

Price Delivered to N. Europe (C$ and € equivalent indexed to 2000)

Source: RISI, Federal Reserve Bank of New York and Bank of Canada

The Manufacturing Process

The following diagram provides a simplified description of the kraft pulp manufacturing process at our pulp mills:

In order to transform wood chips into kraft pulp, wood chips undergo a multi-step process involving the following principal stages: chip screening, digesting, pulp washing, screening, bleaching and drying.

In the initial processing stage, wood chips are screened to remove oversized chips and sawdust and are conveyed to a pressurized digester where they are heated and cooked with chemicals. This occurs in a continuous process at the Celgar and Rosenthal mills and in a batch process at the Stendal mill. This process softens and eventually dissolves the phenolic material called lignin that binds the fibers to each other in the wood.

Cooked pulp flows out of the digester and is washed and screened to remove most of the residual spent chemicals, called black liquor, and partially cooked wood chips. The pulp then undergoes a series of bleaching stages where the brightness of the pulp is gradually increased. Finally, the bleached pulp is sent to the pulp machine where it is dried to achieve a dryness level of more than 90%. The pulp is then ready to be baled for shipment to customers.

A significant feature of kraft pulping technology is the recovery system, whereby chemicals used in the cooking process are captured and extracted for re-use, which reduces chemical costs and improves environmental performance. During the cooking stage, dissolved organic wood materials and black liquor are extracted from the digester. After undergoing an evaporation process, black liquor is burned in a recovery boiler. The chemical compounds of the black liquor are collected from the recovery boiler and are reconstituted into cooking chemicals used in the digesting stage through additional processing in the recausticizing plant.

The heat produced by the recovery boiler is used to generate high-pressure steam. Additional steam is generated by a power boiler through the combustion of biomass consisting of bark and other wood residues from sawmills and our woodrooms and residue generated by the effluent treatment ~~system and natural gas. The~~system. Additionally, during times of

upset, we may use natural gas to generate steam. The steam produced by the recovery and power boilers is used to power a turbogenerator to generate electricity, as well as to provide heat for the digesting and pulp drying processes.

~~Raw Materials~~Our Product

Our mills are situated in regions which generally provide a relatively stable supply of fiber. The fiber consumed by our mills consists of wood chips produced by sawmills and pulp logs, which are cyclical in both price and supply. Wood chips are small pieces of wood used to make pulp and are a product of either wood waste from sawmills or pulp logs processed, or chipped, especially for this purpose. Pulp logs consist of lower quality logs not used in the production of lumber. The costs of wood chips and pulp logs are primarily affected by the supply and demand for lumber.

In 2006 in Germany, the price of wood chips was also affected by increased demand from alternative or renewable energy producers and imbalances in supply because of low harvest levels resulting from severe winter conditions in late 2005 and early 2006. These low harvest levels were not made up during the course of 2006. These factors contributed to upward pressure on our fiber prices in the latter part of 2006 and for deliveries going into the first half of 2007. Severe winter storms in central Europe, including Germany in January 2007, resulted in very significant damage to the forests. We believe the damage to forests in Germany may be in excess of 20.0 million cubic meters of wood. We expect these damaged forests will be harvested by stakeholders as rapidly as practicable to preserve the value of the wood. We currently expect the harvesting and availability of this damaged wood to temper and moderate fiber prices in the second half of 2007.

The wood chips for the Rosenthal mill are sourced from approximately 24 sawmills located in the States of Bavaria and Thuringia within a 150 kilometer radius of the Rosenthal mill. Within this radius, the Rosenthal mill is the largest consumer of wood chips. Given its location and size, the Rosenthal mill is often the best economic outlet for the sale of wood chips in the area. In 2006, the Rosenthal mill consumed approximately 1.7 million cubic meters of fiber. Approximately 68%, or approximately 1.1 million cubic meters, of such consumption was in the form of sawmill wood chips. The balance of approximately 32%, or approximately 0.5 million cubic meters, was in the form of pulp logs. Approximately 85% to 90% of the fiber consumed by the Rosenthal mill is spruce and the remainder is pine. We believe the Rosenthal mill’s fiber costs have historically been among the lowest for European pulp producers. The Rosenthal mill’s transportation division handled approximately 53% of our wood chip deliveries to the mill in 2006. While fiber costs and supply are subject to cyclical changes largely in the sawmill industry, we expect that we will be able to continue to obtain an adequate supply of fiber on reasonably satisfactory terms for the Rosenthal mill due to its location and our long-term relationships with suppliers. We have not historically experienced any material fiber supply interruptions at the Rosenthal mill.

Wood chips for the Rosenthal mill are normally sourced from sawmills under one year or quarterly supply contracts with fixed volumes, which provide for price adjustments. More than 90% of our chip supply is sourced from suppliers with which we have a long standing relationship. At the end of March 2007, a three-year agreement for the supply of approximately 600,000 cubic meters of wood chips annually will conclude. We are currently negotiating a new agreement with this supplier, which we expect will have similar characteristics except for the term which will likely be shorter. Pulp logs are partly sourced from the state forest agencies in Thuringia, Saxony and Bavaria on a contract basis and partly from private holders, on the same basis as wood chips. Like the wood chip supply arrangements, these contracts tend to be of less than one year terms with quarterly adjustments for market pricing. We organize the harvesting of pulp logs sourced from the state forest agencies in Thuringia, Saxony and Bavaria after discussions with the agencies regarding the quantities of pulp logs that we require.

Our own internal wood procurement department handles and sources the fiber requirements for the Rosenthal mill. Five people are employed in the department currently. We coordinate the fiber procurement for the Rosenthal and Stendal mills.

The fiber consumed by the Stendal mill consists of wood chips and pulp logs. In 2006, the Stendal mill consumed approximately 2.8 million cubic meters of fiber. The core wood supply region for the Stendal mill includes most of the northern part of Germany within an approximate 240 kilometer radius of the mill. The wood supply potential in this core region is not yet fully utilized and we expect that it should be able to supply all of the fiber needed by the mill. We also purchase wood chips from southwestern and southern Germany.

The fiber base in the planned wood supply area for the Stendal mill consisted of approximately 55% pine and 45% spruce and fir in 2006. Approximately 20% of the fiber consumed by the Stendal mill in 2006 was in the form of sawmill wood chips and approximately 80% in the form of pulp logs. The Stendal mill has sufficient chipping capacity to fully operate using solely pulp logs, if required. We source wood chips from sawmills within an approximate 600 kilometer radius of the Stendal mill. We source pulp logs partly from private forest holders and partly from state forest agencies in Thuringia, Sachsen-Anhalt, Mecklenburg-Vorpommern, Sachsen, Niedersachsen, Nordrhein-Westfalen, Hessen and Brandenburg.

Stendal has its own wood procurement organization to handle the fiber requirements. Currently, there are approximately 113 people employed in this division. This division focuses on three principal activities, being wood procurement and sales, harvesting and transportation. The procurement and sales main activity is to procure the required wood chip and pulp log assortments for the mill’s annual production. In conjunction with this activity, it may also procure higher quality sawlogs, either through harvesting or through purchases that it can sell or trade with others for wood chips in order to optimize the fiber mix. These trading activities employ two people. The harvesting activities in 2007 will focus on acquiring up to approximately 500,000 cubic meters per annum of harvestable timber, of which approximately 65% is expected to be pulp logs and the balance likely to be higher quality logs to be sold or traded to third parties for wood chips. We currently expect that approximately 62% of this volume may be harvested directly by us and the balance contracted out to third parties. Approximately 48 employees will be engaged in such harvesting activities. Transportation activities focus on managing, controlling and optimizing shipping and flows of pulp logs to the mill and employ up to 33 people.

We believe we are the largest consumer of wood chips and pulp logs in Germany and often provide the best, long-term economic outlet for the sale of wood chips in eastern Germany. We coordinate the wood procurement activities for the Rosenthal and Stendal mills to reduce overall personnel and administrative costs, provide greater purchasing power and coordinate buying and trading activities. This coordination and integration of fiber flows also allows us to optimize transportation costs, and the species and fiber mix for both mills.

The Celgar mill has a secure supply of high quality fiber that it purchases from a number of Canadian and U.S. suppliers. The supply of fiber at the mill is characterized by a mix of a variety of species (whitewoods and cedar). In 2006, the Celgar mill consumed approximately 3.0 million cubic meters of fiber. Two sources of fiber are used to meet this demand: chips purchased from nearby sawmills and chipping facilities, and pulp logs purchased from local logging contractors. All of the Celgar mill’s fiber is sourced externally with approximately 90% covered under chip contracts and the remaining 10% coming from the pulp logs processed through its woodroom.

The Celgar mill has entered into long and short-term chip supply agreements with approximately 30 different suppliers from British Columbia, Canada and the U.S. for a total of approximately 2.8 million cubic meters (excluding chips from its own woodroom). This represents approximately 90% of total annual fiber requirements at the mill. The woodroom supplies the remaining chips to meet the mill’s annual fiber requirements. Chips are purchased in Canada and the U.S. in accordance with chip purchase agreements. Generally, pricing is reviewed and adjusted to reflect market prices on a regular basis. The majority of the agreements are for periods ranging between two and five years. Several of the longer-term contracts are so-called “evergreen” agreements, where the contract remains in effect until one of the parties elects to terminate. Termination requires a minimum of two, and in some cases, five years written notice. Certain non-evergreen long-term agreements provide for renewal negotiations prior to expiry. The Celgar mill has contracts with two sawmills, which are both owned by the same parent. These sawmills comprise approximately 25% of the Celgar mill’s total fiber supply. One of these chip agreements remains in effect until December 31, 2008 and thereafter, if not extended, continues, subject to volume reductions, indefinitely, subject to termination by either party upon two years’ prior notice. The other agreement is an evergreen agreement that remains in effect until terminated upon five years’ prior notice. The chip agreements each contain provisions that may vary chip volume delivery commitments based on certain criteria.

Except for occasional minor purchases from smaller suppliers, the balance of the Celgar mill’s fiber requirements is met by the production of chips from its own woodroom. Currently the woodroom is operating on a one shift basis. To secure the volume of pulp logs required to meet its requirements, the Celgar mill has

entered into annual pulp log supply agreements with a number of different suppliers, many of whom are also contract chip suppliers to the mill. The woodroom is capable of running a second shift and additional pulp logs could be purchased to support the ramp up of the woodroom. All of the pulp log agreements can be terminated by either party for any reason, upon seven days’ written notice.

~~Pulp Cash Production Costs~~

~~Cash production costs for our pulp mills for 2006 and 2005 and our Rosenthal mill for 2004 are as follows:~~

Years Ended December 31,

Costs 2006 2005(1)(2) 2004(2)

(per ADMT)
Fiber € 192 € 171 € 171
Labor 46 46 52
Chemicals 42 42 43
Energy(3) 7 8 (1 )
Other 41 40 33

Total cash production costs(4) € 328 € 307 € 298


~~(1)~~	The amounts presented are from the time of the Acquisition of the Celgar mill in February 2005. Amounts in respect of the Celgar mill are included in Euros and have been converted at the average rate of exchange in 2006 and 2005, respectively, for the conversion of Canadian dollars to Euros.

~~(2)~~	The Stendal mill was completed and started up in September 2004. During the balance of 2004, the Stendal mill underwent extensive testing and evaluation. As a result, cash production costs for the Stendal mill for 2004 are not included as they are not meaningful. In 2005, the Stendal mill was ramping up production and cash production costs are not necessarily indicative of its operating capability.

~~(3)~~	~~Net of energy revenues.~~

~~(4)~~	~~Cost of production per ADMT produced excluding depreciation.~~

~~Our Product~~

We manufacture and sell NBSK pulp produced from wood chips and pulp logs.

The kraft pulp produced at the Rosenthal mill is a long-fibered softwood pulp produced by a sulphate cooking process and manufactured primarily from wood chips and pulp logs. A number of factors beyond economic supply and demand have an impact on the market for chemical pulp, including requirements for pulp bleached without any chlorine compounds or without the use of chlorine gas. The Rosenthal mill has the capability of producing both “totally chlorine free” and “elemental chlorine free” pulp. Totally chlorine free pulp is bleached to a high brightness using oxygen, ozone and hydrogen peroxide as bleaching agents, whereas elemental chlorine free pulp is produced by substituting chlorine dioxide for chlorine gas in the bleaching process. This substitution virtually eliminates complex chloro-organic compounds from mill effluent.

Kraft pulp is valued for its reinforcing role in mechanical printing papers and is sought after by producers of paper for the publishing industry, primarily for magazines and advertising materials. Kraft pulp produced for reinforcement fibers is considered the highest grade of kraft pulp and generally obtains the highest price. Through a focused technical and marketing effort, we have changed the mix of the kraft pulp that we produce at the Rosenthal mill to substantially increase our relative amount of reinforcement fibers from approximately 16% at the beginning of 2000 to approximately ~~50%~~59% at the end of ~~2006.~~

2007. The Rosenthal mill produces pulp for reinforcement fibers to the specifications of certain of our customers. We believe that a number of our customers consider us their supplier of choice. For more information about the facilities at the Rosenthal mill, see “Item 2 — Properties”.

The kraft pulp produced at the Stendal mill is of a slightly different grade than the pulp produced at the Rosenthal mill as the mix of softwood fiber used is slightly different. This results in a complementary product more suitable for different end uses. The Stendal mill is capable of producing both totally chlorine free and elemental chlorine free pulp. For more information about the facilities at the Stendal mill, see “Item 2 — Properties”.

The Celgar mill produces high quality kraft pulp that is made from a unique blend of slow growing/long-fiber western Canadian tree species. It is used in the manufacture of ~~high quality~~high-quality paper and tissue products. We believe the Celgar mill’s pulp is known for its excellent product characteristics, including tensile strength, wet strength and brightness. The Celgar mill is a long-established supplier to paper producers in Asia. For more information about the facilities at the Celgar mill, see “Item 2 — Properties”.

Operating Costs

Our major costs of production are labor, fiber, energy and chemicals. Fiber comprised of wood chips and pulp logs is our most significant operating expense. Given the significance of fiber to our total operating expenses and our limited ability to control its costs, compared with our other operating costs, volatility in fiber costs can materially affect our margins.

Labor

Our labor costs tend to be generally steady, with small overall increases due to inflation in wages and health care costs. Over the last three years, we have been able to generally offset such increases by increasing our efficiencies and production and streamlining operations.

Fiber

Our mills are situated in regions which generally provide a relatively stable supply of fiber. The fiber consumed by our mills consist of wood chips produced by sawmills and pulp logs, which are cyclical in both price and supply. Wood chips are small pieces of wood used to make pulp and are a by-product of either wood residuals from sawmills or logs or pulp logs chipped especially for this purpose. Pulp logs consist of lower quality logs not used in the production of lumber.

Generally, the cost of wood chips and pulp logs are primarily affected by the supply and demand for lumber. Additionally, regional factors can also have a material effect on both the supply, demand and price for fiber.

In Germany, since 2006, the price and supply of wood chips has been affected by increasing demand from alternative or renewable energy producers, changes in supply resulting from weather conditions and government initiatives and a move to increase harvesting levels. High energy prices, along with initiatives by European governments to promote the use of wood as a carbon neutral energy, have increased demand for wood usage for energy production and for wood fiber. This non-traditional demand for fiber is expected to continue and has, and will continue to, put upward pressure on fiber prices.

Weather patterns have also had a significant effect on short-term fiber supply and pricing. Severe winter storms in central Europe, including Germany, in January 2007 resulted in significant damage to the forests. We believe the damage to forests in Germany was in excess of 25 million solid cubic meters of wood. As the damaged forests were harvested as rapidly as possible to preserve the value of the wood, its availability tempered and moderated fiber prices in the second half of 2007.

Effective July 1, 2007, the Russian government raised tariffs on the export of sawmill and pulp wood to 20% and has announced that it will be implementing additional increases to 25% in April 2008. Russia has also announced it will be seeking further increases in 2009. This is expected to reduce the export of Russian wood to Europe, in particular to Scandinavian producers who import a significant amount of their wood from Russia, and is expected to put upward pressure on pricing as such producers try to replace these volumes from other regions.

Offsetting some of the increases in demand for wood fiber have been initiatives in which we and other producers are participating to increase harvest levels in Germany, particularly from small private forest owners. We believe that Germany has the highest availability of softwood forests suitable for harvesting and manufacturing. Private ownership of such forests is approximately 50%. Many of these forest ownership stakes are very small and have been harvested at rates much lower than their rate of growth.

In British Columbia, in 2007, the supply of wood fiber was materially affected by the weakness in the U.S. housing market which resulted in a significant reduction in lumber production in the Province. On the fiber demand side, although it is not nearly as advanced as Europe, there is growing interest in British Columbia for renewable or “green” energy. These initiatives, which are likely to increase over time, are expected to create additional competition for fiber.

We believe we are the largest consumer of wood chips and pulp logs in Germany and often provide the best, long-term economic outlet for the sale of wood chips in eastern Germany. We coordinate the wood procurement activities for our German mills to reduce overall personnel and administrative costs, provide greater purchasing power and coordinate buying and trading activities. This coordination and integration of fiber flows also allows us to optimize transportation costs, and the species and fiber mix for both mills.

In 2007, the Rosenthal mill consumed approximately 1.8 million cubic meters of fiber. Approximately 63%, or approximately 1.1 million cubic meters, of such consumption was in the form of sawmill wood chips. The balance of approximately 37%, or approximately 0.7 million cubic meters, was in the form of pulp logs. The wood chips for the Rosenthal mill are sourced from approximately 21 sawmills located in the states of Bavaria, Saxony and Thüringia and are within a 150 kilometer radius of the Rosenthal mill. Within this radius, the Rosenthal mill is the largest consumer of wood chips. Given its location and size, the Rosenthal mill is often the best economic outlet for the sale of wood chips in the area. Approximately 95% of the fiber consumed by the Rosenthal mill is spruce and the remainder is pine. While fiber costs and supply are subject to cyclical changes largely in the sawmill industry, we expect that we will be able to continue to obtain an adequate supply of fiber on reasonably satisfactory terms for the Rosenthal mill due to its location and our long-term relationships with suppliers. We have not historically experienced any significant fiber supply interruptions at the Rosenthal mill.

contracts tend to be of less than one-year terms with quarterly adjustments for market pricing. We organize the harvesting of pulp logs sourced from the state agencies in Thüringia, Saxony and Bavaria after discussions with the agencies regarding the quantities of pulp logs that we require.

In 2007, the Stendal mill consumed approximately 3.0 million cubic meters of fiber. Approximately 30% of such fiber was in the form of sawmill wood chips and approximately 70% in the form of pulp logs. The core wood supply region for the Stendal mill includes most of the northern part of Germany within an approximate 300 kilometer radius of the mill. We also purchase wood chips from southwestern and southern Germany. The fiber base in the wood supply area for the Stendal mill consisted of approximately 40% pine and 60% spruce and other species in 2007. The Stendal mill has sufficient chipping capacity to fully operate solely using pulp logs, if required. We source wood chips from sawmills within an approximate 300 kilometer radius of the Stendal mill. We source pulp logs partly from private forest holders and partly from state forest agencies in Thüringia, Saxony-Anhalt, Mecklenburg-Western Pomerania, Saxony, Lower Saxony, North Rhine-Westphalia, Hesse and Brandenburg.

Stendal has its own wood procurement division to handle its fiber requirements. This division focuses on three principal activities, being wood procurement and sales, harvesting and transportation. The procurement and sales main activity is to procure the required wood chip and pulp log assortments for the mill’s annual production. In conjunction with this activity, it may also procure higher quality sawlogs, either through harvesting or through purchases that it can sell or trade with others for wood chips in order to optimize the mill’s fiber mix. The harvesting activities in 2008 will focus on acquiring up to approximately 500,000 cubic meters per annum of harvestable timber, of which approximately 65% is expected to be pulp logs and the balance likely to be higher quality logs that could be sold or traded to third parties for wood chips. We currently expect that approximately 65% of this volume may be harvested directly by us and the other 35% would be contracted out to third parties.

In 2007, the Celgar mill consumed approximately 2.6 million cubic meters of fiber. Approximately 90% of such fiber was in the form of sawmill wood chips and the remaining 10% came from pulp logs processed through its woodroom. The source of fiber at the mill is characterized by a mixture of species (whitewoods and cedar) and the mill sources fiber from a number of Canadian and U.S. suppliers.

The Celgar mill has long and short-term chip supply agreements with over 30 different suppliers from Canada and the U.S., representing over 90% of its total annual fiber requirements. The woodroom supplies the remaining chips to meet the Celgar mill’s fiber requirements. Chips are purchased in Canada and the U.S. in accordance with chip purchase agreements. Generally, pricing is reviewed and adjusted periodically to reflect market prices. The majority of the agreements are for periods ranging between two and five years. Several of the longer-term contracts are so-called “evergreen” agreements, where the contract remains in effect until one of the parties elects to terminate. Termination requires a minimum of two, and in some cases, five years’ written notice. Certain non-evergreen long-term agreements provide for renewal negotiations prior to expiry.

The Celgar mill has contracts with two sawmills owned by the same parent, Pope & Talbot, Inc., that, in 2007, supplied approximately 20% of its annual fiber requirements. One of these sawmills is directly adjacent to the Celgar mill. In the fourth quarter of 2007, Pope & Talbot sought and obtained creditor protection in Canada and the U.S.. As part of such creditor protection, in December 2007, Pope & Talbot announced the sale of the two sawmills to another sawmilling company, subject to customary conditions. The sale is expected to close in the first half of 2008. We cannot currently predict the new purchaser’s plans for the two sawmills, including if there will be temporary or permanent closures and the effect the sale will have on our supply and cost of fiber from this source. Should operations at these sawmills be curtailed for an extended period of time or permanently, or if our fiber supply arrangements are materially altered, fiber costs and supply for our Celgar mill could be adversely impacted. However, given the proximity of the Celgar mill to these two sawmills, there is a logistical advantage to their supplying chips to the Celgar mill.

In 2007, as a result of the cyclical decline in sawmill chip availability resulting from lower lumber production in British Columbia and the weakness in the U.S. currency, the Celgar mill increased its U.S. purchases of fiber, diversified its suppliers and increased its production of chips from pulp logs processed through its woodroom by 25% compared to 2006. The woodroom at our Celgar mill can process approximately 33% of the mill’s chip requirements, and alternative offsite chipping plants have been sourced. With the continuing weakness in the U.S. housing market, we currently expect to increase the amount of pulp log chipping at our Celgar mill in 2008.

To secure the volume of pulp logs required by the woodroom, the Celgar mill has entered into annual pulp log supply agreements with a number of different suppliers, many of whom are also contract chip suppliers to the mill. All of the pulp log agreements can be terminated by either party for any reason, upon seven days’ written notice.

Energy

Steam and electrical power are the primary forms of energy used in pulp production. Processed steam is produced in boilers using mostly renewable fuels. Our mills produce all of our steam requirements and generally generate excess energy which we sell to third party utilities. In 2007, we sold 430,437 megawatt hours of excess energy. Sales of excess energy are recorded as a reduction to production costs. These sales of surplus energy have allowed us to continually reduce our energy production costs over the last three years.

Our energy is primarily generated from renewable carbon neutral sources, such as wood waste. As a result, our German mills have benefited from the sales of emission allowances. In Europe, green energy receives a premium price compared to carbon-based energy. This recognition is also expected to develop in North America. We are pursuing a number of initiatives, including working with government to have the energy produced at our pulp mills recognized as “green” energy so that we may improve price realizations from surplus energy sales.

The following table sets out our electricity generation and surplus energy sales for the last three years:

Mercer Electricity Generation and Exports

Chemicals

Our pulp mills use certain chemicals which are generally available from several suppliers and sourcing is primarily based upon pricing and location. Although chemical prices have risen slightly over the last three years, we have been able to reduce our costs through improved efficiencies and capital expenditures.

Cash Production Costs

Cash production costs per tonne for our pulp mills are as follows:


	Years Ended December 31,
Costs	2007		2006		2005(1)(2)
	(per ADMT)

Fiber	€	247	€	192	€	171
Labor		43		46		46
Chemicals		39		42		42
Energy(3)		1		7		8
Other		46		41		40

Total cash production costs(4)	€	376	€	328	€	307


(1)		The amounts presented are from the time of the acquisition of the Celgar mill in February 2005. Amounts in respect of the Celgar mill are included in Euros and have been converted at the average rate of exchange in 2007, 2006 and 2005, respectively, for the conversion of Canadian dollars to Euros.

(2)		In 2005, the Stendal mill was ramping up production and cash production costs are not necessarily indicative of its operating capability.

(3)		Net of energy revenues.

(4)		Cost of production per ADMT produced excluding depreciation.

Sales, Marketing and Distribution

The distribution of our pulp sales ~~volume and~~ revenues by geographic area are set out in the following table for the periods indicated:

Years Ended December 31,(1)

2006 2005 2004

Revenues by Geographic Area

Germany € 154,388 € 91,460 € 56,526
China 141,296 82,356 8,463
Italy 60,057 71,742 51,504
Other European Union countries(2) 117,016 91,308 48,890
Other Asia 75,522 56,953 4,362
North America 39,761 37,643 —
Other countries 28,586 16,191 8,767

Total(3) € 616,626 € 447,653 € 178,512


	Years Ended December 31,(1)
	2007		2006		2005
	(in thousands)

Revenues by Geographic Area
Germany	€	198,575	€	154,388	€	91,460
China		159,553		141,296		82,356
Italy		50,177		60,057		71,742
Other European Union countries(2)		136,434		117,016		91,308
Other Asia		58,242		75,522		56,953
North America		66,229		39,761		37,643
Other countries		26,639		28,586		16,191

Total(3)	€	695,849	€	616,626	€	447,653


(1)		The data presented also includes results from the Celgar mill from the time we acquired the mill in February 2005.

(2)		Not including Germany or Italy; includes new entrant countries to the European Union from their time of admission.

(3)		Excluding intercompany sales volumes of nil, 13,234 and 14,289 tonnes of pulp and intercompany net sales revenues of €nil, €6.4 million and €6.3 million in 2007, 2006 and 2005, respectively.

(1) We completed construction of and started up our Stendal mill in the third quarter of 2004. As a result, the data for 2004 includes results from the Stendal mill from the time of its start up in mid-September 2004. The data presented also includes results from the Celgar mill from the time we acquired the mill in February 2005.

~~(2) Not including Germany or Italy; includes new entrant countries to the European Union from their time of admission.~~

~~(3) Excluding intercompany sales volumes of 13,234, 14,289 and 6,576 of pulp and intercompany net sales revenues of approximately~~€~~6.4 million,~~€~~6.3 million and~~€~~2.8 million in 2006, 2005 and 2004, respectively.~~

The following charts illustrate the geographic distribution of our revenues for the periods indicated:


(1)		Includes new entrant countries to the European Union from their time of admission.

~~(1) Includes new entrant countries to the European Union from their time of admission.~~

Our global sales and marketing group has been responsible for conducting all sales and marketing of the pulp produced at our three pulp mills since 2005. This has resulted in reduced agents’ commissions and fees, increased contract sales and improved pulp sales realizations. About 19 employees are currently engaged full time in such activities. We ~~co-ordinate~~coordinate and integrate the sales and marketing activities ~~at the Rosenthal mill and the Stendal mill~~of our German mills to realize on a number of synergies between them. These include reduced overall administrative and personnel costs and ~~co-ordinated~~coordinated selling, marketing and transportation activities. We also coordinate sales from the Celgar mill with our German mills on a global basis, thereby providing our larger customers with

seamless service across all major geographies. ~~Coordinating overall~~In marketing our pulp, we seek to establish long-term relationships by providing a competitively priced, high quality, consistent product and excellent service. In accordance with customary practice, we do not have long-term sales contracts with our customers. Instead, we maintain long-standing relationships with our customers pursuant to which we periodically reach agreements on specific volumes and prices.

Our pulp sales ~~from~~are on customary industry terms. At December 31, 2007, we had no material payment delinquencies. In 2007, 2006 and 2005, no single customer accounted for more than 10% of our ~~three~~ pulp ~~mills also allows us to focus our~~sales. Our pulp sales ~~on our most transport logical customers.~~are not dependent upon the activities of any single customer.

~~The Rosenthal and Stendal~~

Our German mills are currently the only market kraft pulp producers in Germany, which is the ~~leading~~largest import market for kraft pulp in Europe. We therefore have a ~~material~~ competitive transportation cost advantage compared to Norscan pulp producers when shipping to customers in Europe. Due to the location of our German mills, we are able to deliver pulp to many of our customers primarily by truck. Most trucks that deliver goods into eastern Germany generally do not also haul goods out of the region as eastern Germany is primarily an importer of goods. We are therefore able to obtain relatively low back haul freight rates for the delivery of our products to many of our customers. Since many of our customers are located within a 500 kilometer radius of our ~~Rosenthal and Stendal~~German mills, we can generally supply pulp to customers of these mills faster than our competitors because of the short distances between the mills and our customers. ~~For our customers in western Europe, we can, if requested, often supply them with pulp within one day of it being ordered.~~

Historically, the Celgar mill sold all of its pulp through sales agents. In 2005, our sales force took over responsibility for supervising and managing all of Celgar’s sales agents and performing some of its sales functions directly. Such changes have resulted in reduced agents’ commissions and fees, increased contract sales and improved pulp price realizations. We are also focusing sales from the Celgar mill to our most transport logical customers, including expanding sales from the mill to the U.S. midwest.

The Celgar mill’s pulp production is transported to customers by rail, truck and ocean carrier using strategically located third party warehouses to ensure timely delivery. ~~All overseas exports are shipped through warehouse facilities in the Vancouver, British Columbia area.~~ The majority of Celgar’s pulp for overseas markets is initially delivered primarily by rail to the port of Vancouver for shipment overseas by ocean carrier. As a western Canada based pulp mill, the Celgar mill ~~enjoys a transportation advantage in sales~~is well positioned to service Asian ~~customers, in comparison to certain other NBSK pulp producers.~~

customers. The majority of the Celgar mill’s pulp for domestic markets is shipped by rail to third party warehouses in the U.S. ~~midwest~~ or directly to the customer.

Our pulp sales are on customary industry terms. At December 31, 2006, we had no material payment delinquencies. In 2006 and 2005, no single customer accounted for more than 10% of our pulp sales. In 2004, one customer accounted for approximately 10% of our pulp sales. Our pulp sales are not dependent upon the activities of any single customer or upon a concentrated group of major customers.

Capital Expenditures

In ~~2006,~~2007, we continued with our capital investment programs designed to increase production capacity, improve efficiency and reduce effluent discharges and emissions at our manufacturing facilities. The improvements made at

our mills over the past five years have reduced operating costs and increased the competitive position of our facilities.

Total capital expenditures at the Rosenthal mill in 2007, 2006 and 2005 were €5.2 million, €13.4 million and €7.1 million, respectively. Capital investments at the Rosenthal mill in ~~2006~~2007 related mainly to the installation of a ~~wash press in~~new white liquor tank, and additional capacity to store sawmill chips and roundwood to better buffer against the ~~bleach plant and the surface improvements to the chip yard at an aggregate cost~~market fluctuations of ~~approximately~~€~~13.4 million and other projects relating to maintaining the quality and efficiency of the mill.~~our raw materials. We estimate capital expenditures at the Rosenthal mill to be approximately€~~5.2~~ €5.0 million for ~~2007~~2008 relating primarily to a dust filter for the lime kiln, afinal work on the new white liquor tank, noise reduction for the cooling towers and other smaller projects relating to maintaining the quality and efficiency of the mill.

~~Construction~~ In addition, we will initiate a washer project that, among other things, is expected to offset three years of ~~the Stendal mill was completed in the third quarter of 2004. Total capital costs incurred in respect~~wastewater fees that would otherwise be payable. The aggregate value of the project ~~in 2004 were~~is approximately€~~396.6~~ €10 million but, after giving effect to government grants and offsetting wastewater fees, we estimate our net costs to be approximately €2.1 million.

Total capital expenditures at the Stendal mill in 2007, 2006 and 2005 were€~~2.5~~ €4.9 million, €2.5 million and€~~8.3~~ €8.3 million, respectively. Capital ~~expenditures~~investments at the Stendal mill in ~~2006 and~~ 2007 related ~~primarily~~mainly to ~~replacement investment and smaller optimization items.~~digester capacity increases. We estimate capital expenditures for the Stendal mill for ~~2007~~2008 to be approximately€~~6.0 million.~~

~~Qualifying capital investments at industrial facilities in Germany~~ €10.0 million relating primarily to ~~reduce effluent discharges offset wastewater fees that would otherwise be required~~fiber handling optimization projects and equipment to ~~be paid. For more information about our environmental capital expenditures, see “— Environmental”.~~

~~Total capital expenditures at~~increase the ~~Celgar mill in 2006 and since its acquisition in February 2005 were~~€~~16.0 million and~~€21.3 million, respectively. In 2005, we commenced the C$28.0 million capital improvement project at the Celgar mill. The objective of this project was to reduce operating costs, increase production capacity and enhance the operating efficiency and ~~reliability~~capacity of the ~~mill.~~mill’s black liquor production. The ~~major components of the capital~~black liquor project consisted of the installation of two new Compact Wash Presses and the expansion of one of the pulp machine dryers at an aggregate cost of approximately C$28.0 million. The project commenced in 2005 and is expected to ~~be completed in 2007. In 2006,~~increase the ~~most significant~~mill’s ability to produce steam and energy. Stendal’s 2008 capital expenditures ~~related to a capital improvement project in~~include approximately €6.0 million of reliability improvements identified and funded from the ~~amount of approximately~~€~~13.0 million. We estimate capital expenditures for~~€11.0 million Stendal received upon the ~~Celgar mill for 2007 to be approximately~~€~~9.3 million and to primarily relate to finalization~~settlement of the ~~aforesaid capital project, specifically the installation~~EPC contract in September 2007.

Certain of ~~dryer decks on the #2 pulp machine.~~

~~Government Financing~~


	*~~Grants~~*

~~Our~~our capital investment programs in Germany ~~are~~were partially financed through government grants made available by German federal and state governments. Under legislation adopted by the federal and certain state governments of Germany, government grants are provided to qualifying businesses operating in eastern Germany to finance capital investments. The grants are made to encourage investment and job creation. ~~Pursuant~~Currently, grants are available for up to 15% of the ~~current terms~~cost of ~~these~~qualified investments. Previously, the government grants ~~federal and state governments will provide funding~~were available for up to 35% of the cost of qualified ~~investments. The terms~~investments such as for the construction of ~~such government~~our Stendal pulp mill. These grants ~~also require~~with 35% of cost level required that at least one permanent job be created for each€~~500,000~~ €500,000 of capital investment eligible for such grants and that such jobs be maintained for a period of five years from the completion of the capital investment project. ~~Such~~Generally, government grants are not repayable by a recipient unless it fails to complete the proposed capital investment or, if applicable, fails to create or maintain the requisite amount of jobs. In the case of such failure, the government is entitled to revoke the grants and seek repayment unless such failure resulted from material unforeseen market developments beyond the control of the recipient, wherein the government may refrain from reclaiming previous grants. Pursuant to such ~~grants being provided~~legislation in ~~respect of~~effect at the time, the Stendal mill ~~we have agreed to maintain stipulated job levels at the Stendal mill for the specified five-year period.~~received approximately €275 million of government grants. We believe that we are in compliance in all material respects with all of the terms and conditions governing the government grants we have received in Germany. ~~Our commitment to maintain the stipulated number of jobs at the Rosenthal mill for the required five-year period expired in 2005. For more information, see “— Human Resources”.~~

~~Such government grants are not reported in our income. These grants reduce the cost basis of the assets purchased when the grants are received.~~

~~The following table sets out the capital expenditures and government grants recorded by Mercer for the periods indicated:~~

Years Ended December 31,

2006 2005 2004 Total

(in thousands)
Capital expenditures, gross € 31,958 € 20,761 € 400,516 € 453,235 (1)

Government grants € 9,101 € 84,694 € 103,574 € 197,369


~~(1)~~	~~The total cost of the conversion of the Rosenthal mill to produce kraft pulp was approximately~~€~~361.0 million. We also received government grants totaling approximately~~€~~101.7 million in connection with such capital investments.~~

~~In addition, the Stendal mill qualified for approximately~~€~~274.5 million of government grants, all of which have been received as at December 31, 2006. For more information about the Stendal mill, see “— Stendal Pulp Mill”.~~

The following table sets out for the periods indicated the effect of these government grants on the recorded value of such assets in our consolidated balance sheets:

As at December 31,

2006 2005 2004

(in thousands)
Properties, net (as shown on consolidated balance sheets) € 972,143 € 1,015,363 € 927,055
Add back: government grants less amortization, deducted from properties 341,710 327,723 259,133

Properties, gross amount including government grants less amortization € 1,313,853 € 1,343,086 € 1,186,188


	As at December 31,
	2007		2006		2005
	(in thousands)

Properties, net (as shown on consolidated balance sheets)	€	933,258	€	972,143	€	1,015,363
Add back: government grants less amortization, deducted
from properties		304,366		341,710		327,723

Properties, gross amount including government grants less amortization	€	1,237,624	€	1,313,853	€	1,343,086

Qualifying capital investments at industrial facilities in Germany to reduce effluent discharges offset wastewater fees that would otherwise be required to be paid. For more information about our environmental capital expenditures, see “— Environmental”.

Total capital expenditures at the Celgar mill in 2007, 2006 and 2005 were €7.9 million, €16.0 million and €5.3 million, respectively. In 2007, we completed the C$28.0 million capital improvement project at the Celgar mill that commenced in 2005. The objective of this project was to reduce operating costs, increase production capacity and enhance the operating efficiency and reliability of the mill. The major components of the capital project consisted of the installation of two new compact wash presses and the expansion of one of the pulp machine dryers at an aggregate cost of approximately C$28.0 million. We estimate capital expenditures for the Celgar mill for 2008 to be approximately €5.7 million which is primarily related to reliability initiatives and environmental improvement projects.

~~Loan Guarantees~~Environmental

~~Loan guarantees~~

Our operations are subject to a wide range of environmental laws and regulations, dealing primarily with water, air and land pollution control. We devote significant management and financial resources to comply with all applicable environmental laws and regulations. Our total capital expenditures on environmental projects at our mills were approximately €0.2 million in 2007 (2006 — €2.0 million) and are expected to be approximately €1.6 million in 2008.

We believe we have obtained all required environmental permits, authorizations and approvals for our operations. We believe our operations are currently in substantial compliance with the requirements of all applicable environmental laws and regulations and our respective operating permits.

Under German state environmental rules relating to effluent discharges, industrial users are required to pay wastewater fees based upon the amount of their effluent discharge. These rules also provide that an industrial user which undertakes environmental capital expenditures and lowers certain effluent discharges to prescribed levels may offset the amount of these expenditures against the wastewater fees that they would otherwise be required to pay. We estimate that the aggregate wastewater fees we saved in 2007 as a result of environmental capital expenditures and initiatives to reduce allowable emissions and discharges at our Stendal pulp mill were approximately €4.1 million. In 2006, the Stendal and Rosenthal mills saved aggregate wastewater fees of approximately €7.7 million. We expect that capital investment programs and other environmental initiatives at our German mills will mostly offset the wastewater fees that may be payable for 2008 and 2009 and will ensure that our operations continue in substantial compliance with prescribed standards.

Beginning in 2005, our German operations became subject to the European Union Emissions Trading Scheme pursuant to which our German mills were granted emission allowances. Emission allowances are granted based upon production volumes and the types of fuels consumed by manufacturing facilities in Germany. Excess allowances, which are the result of variations in production volumes and the overall consumption of fuels, are available for sale.

Environmental compliance is a priority for our operations. To ensure compliance with environmental laws and regulations, we regularly monitor emissions at our mills and periodically perform environmental audits of operational sites and procedures both with our internal personnel and outside consultants. These audits identify opportunities for improvement and allow us to take proactive measures at the mills as considered appropriate.

The Rosenthal mill has a relatively modern biological wastewater treatment and oxygen bleaching facility. We have significantly reduced our levels of adsorbable organic halogen discharge at the Rosenthal mill and we believe the Rosenthal mill’s adsorbable organic halogen and chemical oxygen demand discharges are in compliance with the standards currently mandated by the German government. In 2003 we completed a strategic capital project to reconstruct the landfill at the Rosenthal mill so that it will be useable for an additional 15 years.

The Stendal mill, which commenced operations in September 2004, has been in substantial compliance with applicable environmental laws, regulations and permits, but experienced certain minor exceedances during itsramp-up stage which is typical for a mill in this phase of its operations. Management believes that, as the Stendal mill is a state-of-the-art facility, it will operate in compliance with the applicable environmental requirements.

The Celgar mill has a number of permits regulating air and effluent emissions. In March 2007, its air permit was amended to include a single limit for SO₂from ~~German federal~~the mill. The mill has been in substantial compliance with this limit. Air permit compliance issues are achieving substantial compliance with particulate emissions from the power boiler, smelt dissolving tank and ~~state governments~~the recovery boiler. The budget for up2008 includes modifications to the electrostatic

precipitator on the recovery boiler. Upgrade plans to the power boiler have been proposed for 2009. Odor control remains a priority in 2008. Spill pond dredging is necessary to remove a considerable stockpile of solids that is responsible for generating odor. This odor will at times cause compliance issues with the air permit. Dredging of this spill pond is scheduled for the first quarter of 2008.

The Celgar mill operates two landfills, a newly commissioned site and an ~~aggregate~~older site. The Celgar mill intends to decommission the old landfill and is developing a closure plan and reviewing such plan with the Ministry of ~~80%~~Environment, or “MOE”. However, the MOE, in conjunction with the provincial pulp and paper industry, is in the process of ~~the borrowed amount~~developing a standard for ~~qualifying capital investments made in certain parts of Germany. The federal and state governments are each severally committed to a~~landfill closures. In addition, the portion of the ~~guaranteed amount. These guarantees are provided~~landfill owned by ~~German federal and state governments~~an adjacent sawmill continues to ~~assist any qualifying businesses~~be active. Accordingly, the mill has not been able to move forward with ~~financing capital investments. The guarantees permit qualifying businesses to obtain term loans~~the closure. We currently believe we may receive regulatory approval for such ~~capital investments~~closure plan in 2008 and commence closure activities thereafter. We currently estimate the cost of closing the landfill at approximately €1.5 million but since the closure program for the old landfill has not been finalized or approved, there can be no assurance that the decommissioning of the old landfill will not exceed such cost estimate.

Future regulations or permits may place lower limits on ~~terms~~allowable types of emissions, including air, water, waste and ~~at interest rates~~hazardous materials, and may increase the financial consequences of maintaining compliance with environmental laws and regulations or conducting remediation. Our ongoing monitoring and policies have enabled us to develop and implement effective measures to maintain emissions in substantial compliance with environmental laws and regulations to date in a cost-effective manner. However, there can be no assurances that ~~are more favorable than available~~this will be the case in the ~~general market.~~future.

Human Resources

We currently employ or hold positions for approximately 1,490 people. We have approximately 1,076 employees working in our German pulp operations, including our transportation subsidiaries. In addition, ~~subsidized interest rate loans~~there are ~~available from public financial institutions~~approximately 18 people working at the office we maintain in ~~Germany,~~Vancouver, British Columbia, Canada. The Celgar mill currently employs approximately 396 people in its operations, the vast majority of which ~~provide loans~~are unionized.

Rosenthal is bound by collective agreements negotiated with Industriegewerkschaft Bergbau Chemie, Energie, or “IGBCE”, a national union that represents pulp and paper workers. During the second quarter of 2007, Rosenthal concluded a new labor contract with IGBCE which represents the majority of its employees. The agreement lengthened the work week to standard industry practice which indirectly lowered wage costs by about 4% and was largely offset by a 3% wage increase in the second half of 2008. The new labor contract is set to expire at ~~below market interest rates for qualified investments.~~the end of 2008.

Our Stendal Project Facility is guaranteed up to 80% pursuant to such governmental guarantees. As a result, such facility benefits from lower interest costs and other credit terms than would otherwise be available.

~~Stendal Pulp Mill~~

We are a 70.6% owner in Stendal, which operates the Stendal mill. The other shareholder of Stendal is E&Z Industrie-Lösungen GmbH, formerly called RWE Industrie-Lösungen GmbH, or “RWE”, as to a 29.4% interest. We initially had a 63.6% interest in Stendal and ~~acquired an additional 7% interest in October 2006 for~~€~~8.1 million. Construction of~~its subsidiaries employ approximately 612 people. Pursuant to the ~~Stendal mill was completed in September 2004. The aggregate cost of the Stendal mill was approximately~~€~~1.0 billion.~~

~~The summaries of certain material provisions of agreements entered into~~government grants and financing arranged in connection with the Stendal mill, ~~set forth herein are~~we have agreed with German state authorities to maintain this number of jobs until September 2010. Stendal has not ~~complete~~yet entered into any collective agreements with IGBCE, although it may do so in the future.

We consider the relationships with our employees to be good. We have implemented profit sharing plans, training programs and ~~such summaries, including definitions of certain terms, are qualified in their entirety by reference to such agreements on file with~~early retirement schemes for the ~~SEC.~~


	*~~Control and Management~~*

We, Stendal and its other current shareholder, RWE, are parties to a shareholders’ agreement dated August 26, 2002, as amended, to govern our respective interests in Stendal. The agreement contains terms and conditions customary for these types of agreements, including restrictions on transfers of share capital and shareholder loans other than to affiliates, rights of first refusal on share and shareholder loan transfers, pre-emptive rights and piggyback rights on dispositionsbenefit of our ~~interest. The shareholders are~~German employees. Although no assurances can be provided, we have not ~~obligated to fund~~had any ~~further equity capital contributions to the project. Pursuant to the shareholders’ agreement, we are entitled to transfer up to 12.5%~~significant work stoppages at any of our ~~interest~~German operations and we would therefore expect to enter into labor agreements with our pulp workers in ~~Stendal~~Germany without any significant work stoppages at our German mills.

A five-year collective agreement with our union hourly workers at the ~~prior consent of~~Celgar mill is scheduled to expire on April 30, 2008. Generally, in British Columbia, the ~~other shareholders. The shareholders’~~union representing hourly pulp mill workers seeks to settle a pattern agreement ~~provides~~with a designated employer. Other than for local issues, this pattern agreement is usually then adopted by all pulp mill producers in the province. However, due to changing conditions in the industry, employers are moving towards customized agreements for specific mills. Although we consider our relationship with our Celgar hourly employees to be good, we can provide no assurance that ~~Stendal’s managing directors may~~a new collective agreement will be ~~appointed by holders of a simple majority of its share capital. Further, shareholder decisions, other than those mandated by law or~~settled for the ~~provision of financial assistance to a shareholder, are determined by a simple majority of Stendal’s share capital. If a shareholder is in default under the shareholders’ agreement~~Celgar mill without significant work stoppages or commits certain acts of insolvency or bankruptcy, it shall be considered to be a defaulting shareholder and must offer to sell its share capital and shareholder loans to the remaining shareholders on a pro rata basis, to a third party nominated by the other shareholders or permit them to be redeemed by Stendal. Other than in circumstances where a shareholder is considered to be a defaulting shareholder, the shareholders’ agreement does not provide for any mandatory or forced purchases and sales of a shareholder’s interest in Stendal.disruptions.

We coordinate and integrate various activities at the Rosenthal and Stendal mills to realize efficiencies and optimize the cost structure of each mill. Such activities include wood procurement, a sales organization that coordinates and handles the sales and marketing of the pulp produced by both mills, purchases of supplies and stores, maintenance activities, workforce and management training and transportation. We are also coordinating sales from the Celgar mill with our Rosenthal and Stendal mills on a global basis, thereby providing our larger customers with seamless service across all major geographies.


	*~~EPC Contract/ Acceptance of the Stendal Mill~~*

~~The Stendal mill was constructed under a~~€716.0 million fixed-price turn-key engineering, procurement and construction, or “EPC”, contract between Stendal and RWE, referred to as the “principal” or “EPC contractor”. RWE’s obligations under the EPC contract are guaranteed by its parent company.

~~The contract price for the completion of the project was fixed. Payments under the EPC contract were made periodically against milestones as and when achieved by RWE.~~

~~Under the EPC contract, RWE was responsible for all planning, design, engineering, procurement, construction and testing in connection with the build-out andstart-up~~ of the mill. We were responsible for obtaining legal title and possession of the site and providing the site and certain equipment, materials and services, as well as personnel, raw materials and other items in connection with the~~start-up~~ ~~of the mill. RWE was also primarily responsible for obtaining construction and operating permits. We constructed approximately~~€23.5 million of the site infrastructure and additional general site infrastructure connections were constructed by the local government. The costs of such infrastructure construction were 90% subsidized and co-financed by us, among others. Our co-financing obligations amounted to approximately€~~3.0 million and were funded out of the project loan facility.~~

Pursuant to the EPC contract, construction of the Stendal mill was completed substantially on its planned schedule and budget in September 2004. Such completion meant that the construction and installation of all equipment and works were essentially finished and final checks occurred so that continuous production from the mill could commence. The mill underwent extensive testing and evaluation in December 2004 to determine whether certain performance requirements had been met, referred to as the “Acceptance Test”. The Acceptance Test required, among other things, that the mill continuously produce pulp for a~~72-hour~~ period in compliance with specified operational, quality and environmental requirements. The Acceptance Test was generally successful. We reviewed the results of the Acceptance Test with the lenders under the project finance facility related to the Stendal mill and certain suppliers. RWE and certain suppliers entered into a definitive agreement with us in the first quarter of 2005 pursuant to which they implemented certain remedial measures at the mill. These included the installation of two additional digesters and related equipment, improvements to the non-condensable gas, or “NCG”, boiler and water treatment plant, reimbursement to Stendal of certain costs and the provision of certain warranties.

The installation of the two additional digesters was completed in the fourth quarter of 2005 and increased the number of digesters at the Stendal mill from eight to ten. These additional digesters, along with other measures, have increased the annual production capacity of the Stendal mill to approximately 600,000 ADMTs. These digesters have enhanced the reliability and overall operating performance of the Stendal mill. The two additional digesters had a capital cost of approximately€~~8.0 million, of which we paid~~€~~2.0 million and the balance was paid by RWE and certain suppliers.~~

~~In the first quarter of 2005, we delivered the acceptance certificate to RWE and assumed responsibility for the operation of the mill, subject to RWE’s warranty obligations.~~

The EPC contract provides for reciprocal indemnities between us and RWE pursuant to which we each agree to indemnify the other in respect of losses or claims arising from negligent, illegal or other wrongful acts in connection with the agreement or arising out of any violation of applicable laws or permits.

Notwithstanding the Acceptance Test, pursuant to the EPC contract, each department of the mill is also tested on a stand-alone basis for compliance with its design specifications. Under the EPC contract, RWE warrants conformity to specifications, compliance with permits and laws, suitability for intended use, compliance with performance requirements and against defects in construction for a stipulated period, subject to extension in certain circumstances. The testing and warranty are highly technical and include detailed

design and performance specifications. Some of the prescribed testing was unsatisfactory to Stendal. As is common in large greenfield projects like the Stendal mill, Stendal made a significant number of claims, including rights to penalties and/or liquidated damages against the contractor under the EPC contract prior to the expiry of the applicable warranty claim period in 2006. Many claims are highly technical and relate to, among other things, design and performance specifications and reliability, as well as penalties in regards to delays. During the last quarter of 2006, Stendal and the contractor agreed to try to work to resolve such outstanding claims without either party seeking recourse to arbitration or other similar legal remedies under the EPC contract.

The most significant performance claim by Stendal pursuant to the EPC contract related to the mill’s steam turbine. Stendal believed that the turbine equipment had design limitations that prevented it from realizing its full capacity and achieving the stipulated power generation targets. In late 2006, the contractor and Stendal agreed in principal to correct the turbine deficiency, which is expected to be completed during Stendal’s annual planned maintenance shut down in the second quarter of 2007. Pursuant to the agreement in principal, the contractor will design, engineer, manufacture, procure and construct stipulated repair and refurbishment works to ancillary equipment at the turbine. The cost of such refurbishment work, along with lost power generation revenues during the refurbishment period, shall be at the cost of the contractor and its subcontractors. Except as otherwise agreed, the agreement in principal will not amend or alter the warranties or performance specifications of the EPC contract. The agreement in principal is subject to the parties reaching a formal binding agreement which is expected to be completed in the first quarter of 2007.

Currently, we cannot predict with any certainty which claims of Stendal the contractor may accept, the amount, if any, of any recoveries associated therewith, whether the agreement in principal for the turbine refurbishment will be implemented or the final determination of such claims, whether through further work and retesting by the contractor, legal proceedings, negotiation or other settlement.

Under the EPC contract, RWE has provided irrevocable bank guarantees in our favor, in agreed upon amounts, as security for an initial advance payment and for any deficiencies arising during the warranty period. In July 2006, RWE was required to provide an additional guarantee in the same form, in respect of the same matters, in an amount not less than 5% of the contract price which shall remain in effect until January 1, 2009.


	*~~Stendal Mill Financing~~*

~~Total investment costs in connection with the project are approximately~~€1.0 billion, the majority of which was provided under a senior project finance facility, referred to as the “Stendal Loan Facility”, arranged by Bayerische Hypo-und Vereinsbank AG, referred to as “HVB”, pursuant to a project finance loan agreement, referred to as the “Project Finance Loan Agreement”, entered into between Stendal and HVB. See “— Description of Certain Indebtedness ~~— Stendal Loan Facility”.~~

~~As the site of the Stendal mill is located in eastern Germany, it qualified for approximately~~€274.5 million of government grants, which are applied to reduce the cost basis of the assets acquired with such grants. In accordance with our accounting policies, these grants are not recorded by us until they are received.

Under European Union rules, the Commission of the European Communities, referred to as the “Commission”, was formally notified in March 2002 by Germany of plans to provide support to the Stendal mill through grants and guarantees. The Commission considered these plans and, on June 19, 2002, decided not to raise any objection against such support being provided by the German federal and state governments in respect of the Stendal mill. In its decision, the Commission was not called upon to determine whether the governmental aid schemes, on which the support is based, were acceptable, but was limited to a determination as to whether a reduction of the pre-approved aid level for investment in the German State of Sachsen-Anhalt under the previously approved schemes was required under European Union law in the case of the Stendal mill. In coming to its decision, the Commission generally has a wide margin of discretion in its assessment of facts and data. Under European Union law, member states, competitors or trade associations directly affected by a decision of the Commission may appeal such decision within a period of two months and twenty-four days after publication of the Commission decision. On December 23, 2002, Kronoply and Kronotex, two related manufacturers of, among other things, OSB and MDF boards that do not compete with the Stendal mill by selling pulp or paper, filed an appeal with the Court of First Instance of the European Communities (Luxembourg), referred to as the “Court”, against the Commission decision of June 19, 2002. Generally to be

~~successful, an appeal must show that the Commission failed to comply with procedural requirements or committed a manifest error in assessing facts and data in adopting its decision.~~

In late 2004, the Court in an unrelated case determined that the Commission committed a procedural error in determining the amount of state aid that could be granted by Germany to a recipient in a different business. The Court found the Commission erred when reviewing the effect of state aid on competition by only considering capacity utilization and not also considering product demand trends prior to providing its approval. As a result, in that case the Court set aside the Commission approval and remanded the matter back to the Commission to redetermine. The Court’s decision is being appealed by the aid recipient and the government of Germany. If such appeal is unsuccessful, the Commission will have to redetermine the matter based upon its mandated criteria and may come to the same determination as before. The procedure followed by the Commission in this remanded decision was similar to that it used in determining not to reduce the amount of state aid available to the Stendal mill.

Although no assurance can be provided, we continue to believe that the appellant does not have any standing to bring the appeal as it is not a competitor of Stendal and, in any event, that the appeal is without merit. Further, the procedural error found by the Court in the remanded case was not raised in the Stendal appeal and we do not believe the Court should permit the appellant to amend its appeal at this stage.

Subject to the Court’s schedule, we believe a hearing as to whether the appellant has standing to bring the appeal may be heard in 2007. If the Court determined the appellant had standing, such decision was upheld on appeal and the matter is not otherwise settled, we believe that a hearing on the merits of the appeal would occur in late 2007 or 2008. In the event the appellant was then successful on the merits and such decision was again upheld on appeal, the issue of whether the amount of state aid granted to the Stendal mill should be reduced would be remanded back to the Commission for reconsideration. Although we cannot assure you as to the outcome of any such redetermination, we believe that, given the Commission’s criteria and the factual circumstances related to the Stendal mill including demand trends in the pulp business, there would be no basis for the Commission to reduce the level of state aid. If the Commission determined to reduce the level of state aid available to the Stendal mill and such decision was upheld on appeal, Stendal would be required to repay a portion of the previously received state aid back to the German government. While we do not expect an adverse outcome, litigation is inherently uncertain and there can be no assurance of the final outcome.

~~Description of Certain Indebtedness~~

The following summaries of certain material provisions of: (i) ~~the Rosenthal working capital facility;~~our senior notes; (ii) our convertible notes; (iii) the Stendal Loan Facility; ~~(iii) our convertible notes;~~ (iv) ~~our senior notes;~~the Rosenthal Loan Facility; and (v) the Celgar ~~working capital facility,~~Working Capital Facility, as such terms are referred to below, are not complete and these provisions, including definitions of certain terms, are qualified by reference to the applicable documents and the applicable amendments to such documents on file with the ~~SEC.~~Securities and Exchange Commission, or “SEC”.


	*~~Stendal Loan Facility~~*

Senior Notes

In conjunction with the acquisition of the Celgar mill and the repayment of Rosenthal’s then project loan facility, in February 2005, we issued $310.0 million in principal amount of senior notes. The senior notes bear interest at the rate of 9.25% per annum and mature on February 15, 2013. Interest on such notes is payable in arrears on February 15 and August 15 of each year the notes are outstanding. The notes are our senior unsecured obligations and, accordingly, will rank junior in right of payment to all existing and future secured indebtedness and all indebtedness and liabilities of our subsidiaries, equal in right of payment with all existing and future unsecured senior indebtedness and senior in right of payment to the 8.5% convertible senior subordinated notes due 2010 and any future subordinated indebtedness. We may redeem the notes on or after February 15, 2009, in whole or in part, at the applicable redemption prices plus accrued and unpaid interest, if any, to the redemption date. In certain circumstances, we may also redeem up to 35% of the aggregate principal amount of the notes at a redemption price of 109.35% of the principal amount, plus accrued and unpaid interest, if any, to the redemption date with the net cash proceeds of certain equity offerings. The notes were issued under an indenture which, among other things, restricts our ability and the ability of our restricted subsidiaries under the indenture to: (i) incur additional indebtedness or issue preferred stock; (ii) pay dividends or make other distributions to our stockholders; (iii) purchase or redeem capital stock or subordinated indebtedness (unless there is no default and such purchase or redemption involves our convertible notes and the daily closing sale price per share of our common stock on the Nasdaq Global Market for a period of at least ten consecutive trading days exceeds 120% of the then applicable conversion price of such convertible notes); (iv) make investments; (v) create liens and enter into sale and lease back transactions; (vi) incur restrictions on the ability of our restricted subsidiaries to pay dividends or make other payments to us; (vii) sell assets; (viii) consolidate or merge with or into other companies or transfer all or substantially all of our assets; and (ix) engage in transactions with affiliates. These limitations are subject to other important qualifications and exceptions.

In order to take into account the nature of the non-recourse “project financing” of the loan facility for our Stendal mill and to enhance our financing flexibility the indenture governing our senior notes provides for a “restricted group” and an “unrestricted group”. The terms of the indenture are applicable to the restricted group and generally not applicable to the unrestricted group. Currently the restricted group is comprised of Mercer Inc., certain holding subsidiaries, and the Rosenthal and the Celgar mills. The restricted group excludes our Stendal mill. The working capital facilities at our Rosenthal and Celgar mills and our convertible and senior notes are obligations of the restricted group. The loan facility for our Stendal mill is an obligation of our unrestricted group.

Convertible Notes

In October 2003, we issued $82.5 million in aggregate principal amount of 8.5% convertible senior subordinated notes due 2010, referred to as the “convertible notes”. In December 2006, we purchased and cancelled an aggregate of approximately $15.2 million principal amount of such notes in exchange for approximately 2.2 million shares of our common stock.

We pay interest semi-annually on the convertible notes on April 15 and October 15 of each year, beginning on April 15, 2004. The convertible notes mature on October 15, 2010. The convertible notes are redeemable on and after October 15, 2008, at any time in whole or in part, at our option on not less than 20 and not more than 60 days’ prior notice at a redemption price equal to 100% of the principal amount thereof plus accrued and unpaid interest, if any, to, but not including, the date of redemption, subject to the restrictions in the indenture governing the notes.

The convertible notes are convertible, at the option of the holder, unless previously redeemed, at any time on or prior to maturity into our common shares at a conversion price of $7.75 per share, which is equal to a conversion rate of approximately 129 shares per $1,000 principal amount of convertible notes, subject to adjustment.

Holders of the convertible notes have the right to require us to purchase all or any part of the convertible notes 30 business days after the occurrence of a change of control with respect to us at a purchase price equal to the principal amount thereof plus accrued and unpaid interest, if any, to the date of purchase.

The convertible notes are unsecured obligations of Mercer Inc. and are subordinated in right of payment to existing and future senior indebtedness (including our 9.25% senior notes described below) and are effectively subordinated to all of the indebtedness and liabilities of our subsidiaries. The indenture governing the convertible notes limits the incurrence by us, but not our subsidiaries, of senior indebtedness.

Stendal Loan Facility

In August 2002, we entered into a senior project finance facility, referred to as the “Stendal Loan Facility”, arranged by Bayerische Hypo-und Vereinsbank AG, or “HVB”, pursuant to a project finance loan agreement, referred to as the “Project Finance Loan Agreement”, entered into between Stendal and HVB. The Stendal Loan Facility iswas initially established in the aggregate amount of€~~828.0~~ €828.0 million and is divided into tranches which cover, among other things, project construction and development costs, financing andstart-up costs and working capital, as well as the financing of a debt service reserve account, approved cost overruns and a revolving loan facility ~~to cover any~~that covered time ~~lag~~lags for receipt of grant funding and value-added tax refunds in the amount of€~~160.0~~ €160.0 million, ~~referred to as “Tranche E”.~~which has been repaid. Other than the revolving working capital tranche, no further advances are currently available under the Stendal Loan Facility. ~~Further, Stendal has repaid and discharged Tranche E with the proceeds from grant funding and value added tax refunds.~~

Pursuant to the Project Finance Loan Agreement, interest on the credit facilities was to accrue at variable rates between Euribor plus 0.60% and Euribor plus 1.55% per year. The Project Finance Loan Agreement provides for facilities to allow us to manage our risk exposure to interest rate risk, currency risk and pulp price risk by way of interest rate swaps, Euro and U.S. dollar swaps and pulp hedging transactions, subject to certain controls, including certain maximum notional and at-risk amounts. Pursuant to the terms of the Project Finance Loan Agreement, in 2002 Stendal entered into interest rate swap agreements in respect of borrowings under the Stendal Loan Facility to fix most of the interest costs under the Stendal Loan Facility at a rate of 3.795% per year until April 2004 and ~~at a rate of~~ 5.28% commencing May 2004, plus margin, until final

payment in October 2017. For more information, see “Item 7A — Quantitative and Qualitative Disclosures about Market Risk”. ~~In March 2003, as part~~

Pursuant to the terms of ~~its loan syndication, HVB exercised its right under~~ the Stendal Loan Facility, ~~to increase its up-front arrangement fee by 20 basis points and the rate of interest under the facility by 30 basis points.~~

~~As required,~~ Stendal reduced the aggregate advances outstanding ~~under the Stendal Loan Facility~~ to€~~599.0~~ €565.1 million at the end of ~~2006~~2007 from a maximum original amount of€~~638.0 million (assuming no draws for approved cost overruns).~~ €638.0 million. The tranches are generally repayable in installments and mature between the fifth and 15th anniversary of the first advance under the Stendal Loan Facility for project ~~construction and development costs.~~construction. Subject to various conditions, including a minimum debt service coverage test, Stendal may make distributions, in the form of interest and capital payments on shareholder debt or dividends on equity invested, to its shareholders, including us.

The tranches under the Stendal Loan Facility for project construction and development costs, financing costs,start-up costs and working capital are severally guaranteed by German federal and state governments in respect of an aggregate of 80% of the principal amount of these tranches, but the tranche under the Stendal Loan Facility for financing andstart-up costs, working capital and certain of the project construction and development costs benefiting from these guarantees will be reduced semi-annually by 12.5% per year beginning on the first repayment date following the fourth anniversary of the first advance under the Stendal Loan Facility for each of these costs. Under the guarantees, the German federal and state governments that provide the guarantees are responsible for the performance of our payment obligations for the guaranteed amounts. As our Stendal Project Facility is guaranteed up to 80% pursuant to such governmental guarantees, this facility benefits from lower interest costs and other credit terms than would otherwise be available.

The Stendal Loan Facility is secured by all of the assets of Stendal. ~~In addition, the Project Finance Loan Agreement provides for the establishment of an equity reserve account into which excessstart-up~~ cash flows may be deposited. The account will be used to secure claims and amounts owing to the lenders in priority to the funding of the debt service reserve account under the Stendal Loan Facility. The Project Finance Loan Agreement also provides that revenues held by Stendal after certain payments may be paid to a shareholders’ account.

In connection with the Stendal Loan Facility, we entered into a shareholders’ undertaking agreement, referred to as the “Undertaking”, dated August 26, 2002, as amended, with RWE AG and HVB in order to finance the shareholders’ contribution to the Stendal mill. Pursuant to the terms of the Undertaking, on the Stendal ~~Financing Closing Date~~financing closing date the shareholders of Stendal, on a pro rata basis, subscribed for€~~15.0~~ €15.0 million of share capital of Stendal and advanced to it€~~55.0~~ €55.0 million in subordinated loans. In addition, on a pro rata basis, the shareholders of Stendal

advanced to it€~~30.0~~ €30.0 million of stand-by equity to, among other things, cover approved cost overruns, fund the equity reserve account and partially fund the debt service reserve account under the Stendal Loan Facility. On the closing of the Stendal Loan Facility, we provided HVB with a cash deposit for our pro rata portion of such equity reserve account. Our total funding commitment under the Undertaking was€~~63.5~~ €63.5 million, all of which was effected in August 2002. In 2006, when we acquired an additional 7% minority interest in Stendal, we also acquired the holder’s pro rata interest in the outstanding shareholder loans and standby equity of Stendal. Pursuant to the Undertaking, we have agreed, for as long as Stendal has any liability under the Stendal Loan Facility to HVB, to retain control over at least 51% of the voting shares of Stendal. We have no further capital commitments with relation to the Stendal mill.


	*~~Rosenthal Loan Facility~~*

Rosenthal Loan Facility

In ~~conjunction with the Acquisition and the repayment of Rosenthal’s prior bank indebtedness, in~~ February 2005, we established a ~~new~~ revolving working capital facility for the Rosenthal mill, referred to as the “Rosenthal Loan Facility”., to replace its prior project financing facility. The€~~40.0~~ €40.0 million revolving working capital facility for the Rosenthal mill, arranged by HVB, consists of a revolving credit facility which may be utilized by way of cash advances or advances by way of letter of credit or bank guarantees. The facility matures in February 2010. The interest payable on cash advances is LIBOR or EURIBOR plus 1.55%, plus certain other costs incurred by the lenders in connection with the facility. Each cash advance is to be repaid on the last day of the respective interest period and in full on the termination date and each advance by way of a letter of credit or bank guarantee shall be repaid on the applicable expiry date of such letter of credit or bank guarantee. An interest period for cash advances shall be three, six or 12 months or any other period as Rosenthal and the lenders may determine.

There is also a 0.35% per annum commitment fee on the unused and uncancelled amount of the revolving facility which is payable quarterly in arrears. This facility is secured by a first fixed charge on the inventories, receivables and accounts of Rosenthal. It also provides Rosenthal with a hedging facility relating to the hedging of the interest, currency and pulp prices as they affect Rosenthal pursuant to a strategy agreed to by Rosenthal and HVB from time to time.


	*~~Celgar Working Capital Facility~~*

Celgar Working Capital Facility

In May 2006, we ~~replaced our $30.0~~established a C$40.0 million working capital facility for ~~the~~our Celgar mill, ~~with a new C$40.0 million~~referred to as the “Celgar Working Capital Facility”, to replace an existing facility. ~~The replacement~~This facility consists of a three-year revolving working capital credit facility maturing in May 2009. The borrower under the facility is Zellstoff Celgar Limited Partnership, which is our wholly owned subsidiary that owns the Celgar mill. Availability of drawdowns under the facility is subject to a borrowing base limit that is based upon the Celgar mill’s eligible accounts receivable and inventory levels from time to time. The revolving facility is available by way of: (i) Canadian and U.S. denominated advances which bear interest at a designated prime rate plus 0.50% for Canadian advances and at a designated base rate plus 0.50% per annum for U.S. advances; (ii) banker’s acceptance equivalent loans which bear interest at the applicable Canadian dollar bankers’ acceptance rate plus 2.25% per annum;and/or (iii) LIBOR advances which bear interest at the applicable ~~LIBO rate~~LIBOR plus 2.25% per annum. The facility incorporates two sub lines, a $2.0 million letter of credit sub line and a $3.0 million foreign exchange contract sub line. Under these sub lines the lender will provide letters of credit guarantees and foreign exchange contract guarantees up to a maximum of $2.0 million and $3.0 million, respectively, subject, in each case, to the facility limit and payment of applicable fees. The borrower is also required to pay a 0.25% per annum standby fee monthly in arrears on any unutilized portion of the revolving facility. This facility is secured by, among other things, a first fixed charge on the current assets of the borrower.


	*~~Convertible Notes~~*


	*~~Senior Notes~~*

In conjunction with the Acquisition of the Celgar mill and the repayment of Rosenthal’s bank indebtedness, in February 2005, we issued $310.0 million in principal amount of senior notes. The senior notes bear interest at the rate of 9.25% per annum and mature on February 15, 2013. Interest on such notes is

payable in arrears on February 15 and August 15 of each year the notes are outstanding. The notes are our senior unsecured obligations and, accordingly, will rank junior in right of payment to all existing and future secured indebtedness and all indebtedness and liabilities of our subsidiaries, equal in right of payment with all existing and future unsecured senior indebtedness and senior in right of payment to the 8.5% convertible senior subordinated notes due 2010 and any future subordinated indebtedness. We may redeem the notes on or after February 15, 2009, in whole or in part, at the applicable redemption prices plus accrued and unpaid interest, if any, to the redemption date. In certain circumstances, we may also redeem up to 35% of the aggregate principal amount of the notes at any time prior to February 15, 2008 at a redemption price of 109.35% of the principal amount, plus accrued and unpaid interest, if any, to the redemption date with the net cash proceeds of certain equity offerings. The notes were issued under an indenture which, among other things, restricts our ability and the ability of our restricted subsidiaries under the indenture to: (i) incur additional indebtedness or issue preferred stock; (ii) pay dividends or make other distributions to our stockholders; (iii) purchase or redeem capital stock or subordinated indebtedness; (iv) make investments; (v) create liens and enter into sale and lease back transactions; (vi) incur restrictions on the ability of our restricted subsidiaries to pay dividends or make other payments to us; (vii) sell assets; (viii) consolidate or merge with or into other companies or transfer all or substantially all of our assets; and (ix) engage in transactions with affiliates. These limitations are subject to other important qualifications and exceptions.

~~Environmental~~Discontinued Operations

Our operations are subject to a wide range of environmental laws and regulations, dealing primarily with water, air and land pollution control. In recent years, we have devoted significant financial and management resources to comply with all applicable environmental laws and regulations. Our total capital expenditures on environmental projects at our production facilities were approximately€~~2.0 million in 2006 and are expected to be approximately~~€~~3.2 million in 2007.~~

We believe we have all required environmental permits, authorizations and approvals for our operations. We believe our operations are currently in substantial compliance with the requirements of all applicable environmental laws and regulations and our respective operating permits.

Under German state environmental rules relating to effluent discharges, industrial users are required to pay wastewater fees based upon the amount of their effluent discharge. These rules also provide that an industrial user which undertakes environmental capital expenditures and lowers certain effluent discharges to prescribed levels may offset the amount of these expenditures against the wastewater fees that they would otherwise be required to pay. In 2006, we received confirmation from German environmental authorities that certain environmental initiatives and capital expenditures undertaken by us would qualify to offset approximately€14.0 million of accrued wastewater fees for the period of mid-2004 to the end of 2006. As a result, in 2006, we reversed such accruals. We estimate that the aggregate wastewater fees we saved in 2006 as a result of environmental capital expenditures and initiatives to reduce allowable emissions and discharges at our German pulp mills were approximately€7.7 million. We expect that capital investment programs and other environmental initiatives at our German pulp mills will mostly offset the wastewater fees that may be payable for 2007 and 2008 and will ensure that our operations continue in substantial compliance with prescribed standards.

The Rosenthal mill has a relatively modern biological wastewater treatment and oxygen bleaching facility. We have significantly reduced our levels of Adsorbable Organic Halogen discharge at the Rosenthal

mill and we believe the Rosenthal mill’s Adsorbable Organic Halogen and Chemical Oxygen Demand discharges are in compliance with the standards currently mandated by the German government. In 2003 we completed a strategic capital project to reconstruct the landfill at the Rosenthal mill so that it will be useable for an additional 15 years.

The Stendal mill, which commenced operations in September 2004, has been in substantial compliance with applicable environmental laws, regulations and permits, but has experienced certain minor exceedances from time to time which are typical for a mill in the ramp up phase of its operations. Management believes that, as the Stendal mill is a~~state-of~~-the-art facility, once the ramp up phase has been completed and all necessary adjustments have been made the mill will operate in compliance with the applicable environmental requirements. Under the terms of the EPC contract, the contractor has provided various representations and warranties as to compliance with permits and laws and is responsible for ensuring such compliance for a period of 18 months from acceptance.

~~The Celgar mill has a number of permits regulating air emissions, including those with respect to sulphur dioxide, referred to as “SO~~₂~~”. While the mill’s overall SO~~₂ ~~emissions are generally well below the total SO~~₂ ~~emissions permitted to be discharged under its air permits, the mill’s lime kiln SO~~₂ ~~emissions periodically exceed emissions allowed under its individual SO~~₂ ~~air permit. The Ministry of Water, Land and Air Protection in British Columbia, referred to as MWLAP, has been advised of the level of SO~~₂ ~~emissions at the lime kiln and apprised of the mill’s efforts to correct the same. The mill is monitoring the level of SO~~₂ ~~emissions from the lime kiln and has submitted an application to the MWLAP to amend its air permits to lower overall SO~~₂ ~~emissions for the mill while increasing the SO~~₂ emission discharge limit on its lime kiln permit. The requested amendments to the mill’s air permits are classified as minor and have not been opposed by any third party. Although no assurances can be provided, we currently expect the MWLAP to approve the amendments of the mill’s air permits in 2007. In the event that such permit amendments are not available, our consulting engineers have preliminarily estimated the capital cost to correct the SO₂ emissions at the lime kiln to be in the range of C$1.5 million to C$2.0 million. Although the MWLAP has not taken actions or imposed any fines to date, there can be no assurance that any permit amendment will be successful, that MWLAP may not take action in the future or that the capital requirements to address the same will not exceed the preliminary estimates.

The Celgar mill operates two landfills, a newly commissioned site and an older site. The Celgar mill intends to decommission the old landfill and is developing a closure plan and reviewing such plan with the MWLAP. However, the MWLAP, in conjunction with the provincial pulp and paper industry, is in the process of developing a standard for landfill closures. In addition, the portion of the landfill owned by an adjacent sawmill continues to be active. Accordingly, the mill has not been able to move forward with the closure. The Celgar mill currently believes it may receive regulatory approval for such closure plan in 2008 and would commence closure activities thereafter. At the time of the Acquisition, our consulting engineers estimated that the closure program would cost up to C$3.0 million. As the closure program for the old landfill has not been finalized or approved, there can be no assurance that the decommissioning of the old landfill will not exceed such cost estimate.

Future regulations or permits may place lower limits on allowable types of emissions, including air, water, waste and hazardous materials, and may increase the financial consequences of maintaining compliance with environmental laws and regulations or conducting remediation. Our ongoing monitoring and policies have enabled us to develop and implement effective measures to maintain emissions in material compliance with environmental laws and regulations to date in a cost-effective manner. However, there can be no assurances that this will be the case in the future.

~~Human Resources~~

We currently employ or hold positions for approximately 1,469 people. Our German operations have approximately 1,052 employees working in our pulp operations, including our transportation subsidiaries. In addition, there are approximately 16 people working at the office we maintain in Vancouver, British Columbia, Canada. The Celgar mill currently employs approximately 401 people in its operations, the vast majority of which are unionized.

Stendal and its subsidiaries employ approximately 590 people. Pursuant to the government grants and financing arranged in connection with the Stendal mill, we have agreed with German state authorities to maintain this number of jobs until 2010.

Rosenthal is bound by collective agreements negotiated with Bergbau-Chemie Energie, or “IG-BCE”, a national union that represents pulp and paper workers. In 2005, we entered into a new labor agreement with IG-BCE for our pulp workers which provides for a 2.5% wage increase for a two year period effective July 1, 2005.

~~Stendal has not yet entered into any collective agreements withIG-BCE,~~ although it may do so in the future. In January 2007, Stendal’s wage levels approximated 90% of the lowest eastern German wage level for a 40 hour work week for similar industrial companies. We expect that, over time, as the Stendal mill ramps up production and subject to general economic conditions, wage levels at the Stendal mill will correspond with those for similarly situated producers in Germany.

We consider the relationships with our employees to be good. We have implemented profit sharing plans, training programs and early retirement schemes for the benefit of our German employees. Although no assurances can be provided, we have not had any significant work stoppages at any of our German operations and we would therefore expect to enter into labor agreements with our pulp workers in Germany without any significant work stoppages at our German mills.

A collective agreement was reached with the union hourly workers at the Celgar mill in January 2003 which has a term of five years. The agreement provides for wage increases effective May 2003 of 2.5% in each of 2003 and 2004, and 2% in each of the following three years.

~~Discontinued Operations~~

In August 2006, we divested our equity interest in the Heidenau paper mill and Landqart AG for cash proceeds of€~~5.0~~ €5.0 million and a secured note of€~~5.0~~ €5.0 million. In November 2006, we sold substantially all of the assets comprising the Fährbrücke paper mill. We recorded an aggregate net loss of€~~6.0~~ €6.0 million on the disposal of these assets which included an accrual of€~~1.9~~ €1.9 million for net costs expected in connection with funding and other commitments related to the Fährbrücke sale.

Additional Information

We make available free of charge on or through our website atwww.mercerint.com annual reports onForm 10-K, quarterly reports onForm 10-Q and current reports onForm 8-K, and all amendments to these reports, as soon as reasonably practicable after we file these materials with the SEC. The public may read and copy any material we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may also obtain information on the operation of the Public Reference Room by calling the SEC at1-800-SEC-0330. The SEC maintains an internet site atwww.sec.gov that also contains our current and periodic reports, including our proxy and information ~~statements, and other information regarding us.~~statements.


ITEM 1A.	RISK FACTORS

~~ITEM 1A. RISK FACTORS~~

This annual report onForm 10-K contains forward looking statements. Statements that are not historical or current facts, including statements about our expectations, anticipated financial results, projected capital expenditures and future business prospects, are forward looking statements. You can identify these statements by our use of words such as “may”, “will”, “expect”, “believe”, “should”, “plan”, “anticipate” and other similar expressions. You can find examples of these statements throughout this annual report, including the description of business in “Item 1. Business” and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations”. We cannot guarantee that our actual results will be consistent with the forward looking statements we make in this annual report. You should review carefully the risk factors listed below, as well as those factors listed in other documents we file with the SEC. You are cautioned not to place undue reliance on forward looking statements. We note that additional risks not presently known to us or that we may currently deem immaterial may also impair our business and operations. WeUnless required by applicable law, we do not assume an obligation to update any forward looking statement.


	*~~Our level of indebtedness could negatively impact our financial condition and results of operations.~~*

~~As of December 31, 2006, we had approximately~~

€~~907.8 million of indebtedness outstanding, of which~~€~~599.0 million~~Our business is ~~project debt of Stendal. We may also incur additional indebtedness~~highly cyclical in ~~the future. Our high debt levels may have important consequences for us, including, but not limited to the following:~~nature.


	•	~~our ability to obtain additional financing to fund future operations or meet our working capital needs or any such financing may not be available on terms favorable to us or at all;~~

	•	a certain amount of our operating cash flow is dedicated to the payment of principal and interest on our indebtedness, thereby diminishing funds that would otherwise be available for our operations and for other purposes;

	•	a substantial decrease in net operating cash flows or increase in our expenses could make it more difficult for us to meet our debt service requirements, which could force us to modify our operations; and

	•	our leveraged capital structure may place us at a competitive disadvantage by hindering our ability to adjust rapidly to changing market conditions or by making us vulnerable to a downturn in our business or the economy in general.

Our ability to repay or refinance our indebtedness will depend on our future financial and operating performance. Our performance, in turn, will be subject to prevailing economic and competitive conditions, as well as financial, business, legislative, regulatory, industry and other factors, many of which are beyond our control. Our ability to meet our future debt service and other obligations may depend in significant part on the success of the Stendal mill and the extent to which we can implement successfully our business and growth strategy. We cannot assure you that the Stendal mill will be successful or that we will be able to implement our strategy fully or that the anticipated results of our strategy will be realized.


	*~~Our business is highly cyclical in nature.~~*

The pulp business is cyclical in nature and markets for our principal products are characterized by periods of supply and demand imbalance, which in turn affects product prices. Pulp markets are highly competitive and are sensitive to cyclical changes in the global economy, industry capacity and foreign exchange rates, all of which can have a significant influence on selling prices and our earnings. The length and magnitude of industry cycles have varied over time but generally reflect changes in ~~macroeconomic~~macro economic conditions and levels of industry capacity.

Industry capacity can fluctuate as changing industry conditions can influence producers to idle production or permanently close machines or entire mills. In addition, to avoid substantial cash costs in idling or closing a mill, some producers will choose to operate at a loss, sometimes even a cash loss, which can prolong weak pricing environments due to oversupply. Oversupply of our products can also result from producers introducing new capacity in response to favorable pricing trends.

Demand for pulp has historically been determined by the level of economic growth and has been closely tied to overall business activity. Although pulp prices have improved ~~commencing in~~over the ~~latter part of 2005 and through 2006,~~last two years, we cannot predict the impact of future economic weakness in certain world markets or the impact of war, terrorist activity or other events on our markets.

Prices for pulp are driven by many factors outside our control, and we have little influence over the timing and extent of price changes, which are often volatile. Because market conditions beyond our control determine the ~~prices for our products, the~~ price for pulp, such price may fall below our cash production costs, requiring us to either incur short-term losses on product sales or cease production at one or more of our manufacturing facilities. Therefore, our profitability ~~with respect to pulp~~ depends on managing our cost structure, particularly raw materials which represent a significant component of our operating costs and can fluctuate based upon factors beyond our control. If the prices of our products decline, or if raw materials increase, or both, demand for our products may decline and our sales and profitability could be materially adversely affected.

Fiber costs are primarily affected by the supply of, and demand for, lumber which is highly cyclical in nature and can vary

significantly by location. Production costs also depend on the total volume of production. Lower operating rates and production efficiencies during periods of cyclically low demand result in higher average production costs and lower margins.


	*~~Cyclical Fluctuations in the price and supply of our raw materials could adversely affect our business.~~*

Cyclical fluctuations in the price and supply of our raw materials could adversely affect our business.

~~We rely heavily on fiber in our pulp manufacturing process.~~

Wood chips and pulp logs comprise the fiber used by our pulp mills. Such fiber is cyclical in terms of both price and supply. The cost of wood chips and pulp logs is primarily affected by the supply and demand for lumber. Demand for these raw materials is generally determined by the volume of pulp and paper products produced globally and regionally. Recently, continued high energy prices, a focus on “green” or renewable energy and governmental initiatives have led to an increase in renewable energy projects in Europe, including Germany. Demand for wood residuals from such energy producers has put upward pressure on prices for wood residuals such as wood chips in Germany and its neighboring countries. This has resulted in higher fiber costs for our German pulp mills and such trend could continue to put further upward pressure on wood chip prices. ~~The markets~~Similarly, North American energy producers are exploring the viability of renewable energy initiatives which could increase the demand for ~~pulp are highly variable and are characterized by periods of excess product supply due to many factors,~~sawmill residual fiber, including ~~periods of insufficient demand due to weak general economic activity or other causes.~~chips. The cyclical nature of pricing for these raw materials represents a potential risk to our profit margins if pulp producers are unable to pass along price increases to their customers.

We do not own any timberlands or have any long-term governmental timber concessions nor do we have any long-term fiber contracts at our German operations. ~~Although raw~~Raw materials are available from a number of suppliers and we have not historically experienced material supply interruptions or substantial sustained price increases, however our requirements have increased ~~as the Stendal mill is operating at full production capacity~~ and may continue to increase as we increase ~~the production~~ capacity ofthrough capital projects or other efficiency measures at our ~~Celgar mill, and~~mills. As a result, we may not be able to purchase sufficient quantities of these raw materials to meet our production requirements at prices acceptable to us during times of tight supply. In addition, the quality of fiber we receive could be reduced as a result of industrial disputes, material curtailments or shut-down of operations by suppliers, government orders and legislation, weather conditions, ~~transportation disruptions,~~ acts of god and other events beyond our control. An insufficient supply of fiber or reduction in the quality of fiber we receive would materially adversely affect our business, financial condition, results of operations and cash flow. In addition to the supply of wood fiber, we are dependent on the supply of certain chemicals and other inputs used in our production facilities. Any disruption in the supply of these chemicals or other inputs could affect our ability to meet customer demand in a timely manner and ~~would~~could harm our reputation. Any material increase in the cost of these chemicals or other inputs could have a material adverse effect on our business, results of operations, financial condition and cash flows.

Our level of indebtedness could negatively impact our financial condition and results of operations.

As of December 31, 2007, we had approximately €849.9 million of indebtedness outstanding, of which €565.1 million is project debt of Stendal. We may also incur additional indebtedness in the future. Our high debt levels may have important consequences for us, including, but not limited to the following:


	*~~We operate~~•*	our ability to obtain additional financing to fund future operations or meet our working capital needs or any such financing may not be available on terms favorable to us or at all;

	•	a certain amount of our operating cash flow is dedicated to the payment of principal and interest on our indebtedness, thereby diminishing funds that would otherwise be available for our operations and for other purposes;

	•	a substantial decrease in ~~highly~~net operating cash flows or increase in our expenses could make it more difficult for us to meet our debt service requirements, which could force us to modify our operations; and

	•	our leveraged capital structure may place us at a competitive ~~markets.~~disadvantage by hindering our ability to adjust rapidly to changing market conditions or by making us vulnerable to a downturn in our business or the economy in general.

in significant part on the success of the Stendal mill and the extent to which we can implement successfully our business and growth strategy. We cannot assure you that we will be able to implement our strategy fully or that the anticipated results of our strategy will be realized.

We operate in highly competitive markets.

We sell our pulp globally, with a large percentage sold in Europe, North America and Asia. The markets for pulp are highly competitive. A number of other global companies compete in each of these markets and no company holds a dominant position. For pulp, many companies produce products that are largely standardized. As a result, the primary basis for competition in our markets has been price. Many of our competitors have greater resources and lower leverage than we do and may be able to adapt more quickly to industry or market changes or devote greater resources to the sale of products than we can. There can be no assurance that we will continue to be competitive in the future. The global pulp market has historically been characterized by considerable swings in prices which have and will result in variability in our earnings. Prices are typically denominated in U.S. dollars.


	*~~Our Stendal mill is subject to risks commonly associated with a new large complex mill.~~*

We are exposed to currency exchange rate and interest rate fluctuations.

~~The Stendal mill has been constructed near~~

In 2007, the ~~town~~majority of ~~Stendal, Germany. The aggregate cost~~our sales were in products quoted in U.S. dollars while most of our operating costs and expenses, other than those of the Celgar mill, ~~was approximately~~€~~1.0 billion. The performance~~were incurred in Euros. In addition, all of the ~~Stendal~~products sold by the Celgar mill ~~has had a material impact on our~~are quoted in U.S. dollars and the Celgar mill costs are primarily incurred in Canadian dollars. Our results of operations and financial condition ~~and operating performance. The Stendal mill was completed~~are reported in September 2004 and thereafter commenced ramping up production. As the Stendal mill was completed relatively recently, it is subject to risks commonly associated with new, large, complex industrial projects which could result in it experiencing operating difficulties or delays.Euros. As a result, our revenues have been adversely affected by the ~~Stendal mill may not achieve~~decrease in the value of the U.S. dollar relative to the Euro and to the Canadian dollar. Such shifts in currencies relative to the Euro and the Canadian dollar reduce our ~~planned production, timing, quality, environmental or cost projections, which~~operating margins and the cash flow available to fund our operations and to service our debt. This could have a material adverse effect on our business, financial condition, results of operations ~~financial condition~~ and cash flows.

In 2002, Stendal entered into variable-to-fixed interest rate swaps to fix interest payments under the Stendal mill financing facility, which has kept Stendal from benefiting from the general decline in interest rates that ensued. These ~~risks include, without limitation, equipment failures~~derivatives are marked to market at the end of each reporting period and all unrealized gains and losses are recognized in earnings for the relevant reporting periods.

Increases in our capital expenditures or ~~damage, errors or miscalculations in engineering, design specifications or equipment manufacturing,~~

~~faulty construction or workmanship, defective equipment or installation, human error, industrial accidents, weather conditions, failure~~maintenance costs could have a material adverse effect on our cash flow and our ability to ~~comply with environmental and other permits, and complex integration of processes and equipment.~~satisfy our debt obligations.


	*~~Increases in our capital expenditures or maintenance costs could have a material adverse effect on our cash flow and our ability to satisfy our debt obligations.~~*

Our business is capital intensive. Our annual capital expenditures may vary due to fluctuations in requirements for maintenance, business capital, expansion and as a result of changes to environmental regulations that require capital expenditures to bring our operations into compliance with such regulations. In addition, our senior management and board of directors may approve projects in the future that will require significant capital expenditures. Increased capital expenditures could have a material adverse effect on our cash flow and our ability to satisfy our debt obligations. Further, while we regularly perform maintenance on our manufacturing equipment, key pieces of equipment in our various production processes may still need to be repaired or replaced. If we do not have sufficient funds or such repairs or replacements are delayed, the costs of repairing or replacing such equipment and the associated downtime of the affected production line could have a material adverse effect on our business, financial condition, results of operations and cash flows.


	*~~Any failure by us to efficiently and effectively manage our growth could adversely affect our business.~~*

~~Expansion of our business, including increasing the production of the Stendal and Celgar mills, may place strains on our personnel, financial and other resources. In order~~We use derivatives to ~~successfully~~ manage our growth we must identify, attract, motivate, train and retain skilled managerial, financial, engineering, business development, sales and marketing and other personnel. Competition for these types of personnel is intense. If we fail to efficiently manage our growth and compete for these types of personnel, it could adversely affect the quality of our services and,certain risk which has caused significant fluctuations in ~~turn, materially adversely affect our business and the price of our shares.~~


	*~~We are exposed to currency exchange rate and interest rate fluctuations.~~*

~~In 2006, a large majority of our sales were in products quoted in U.S. dollars while most of~~ our operating costs and expenses, other than those of the Celgar mill, were incurred in Euros. In addition, all of the products sold by the Celgar mill are quoted in U.S. dollars and the costs of the Celgar mill are primarily incurred in Canadian dollars. Our results of operations and financial condition are reported in Euros. As a result, our revenues have been adversely affected by the decrease in the value of the U.S. dollar relative to the Euro and to the Canadian dollar. Such shifts in currencies relative to the Euro and the Canadian dollar reduce our operating margins and the cash flow available to fund our operations and to service our debt. This could have a material adverse effect on our business, financial condition, results of operations and cash flows.results.

~~In 2002, Stendal entered intovariable-to~~-fixed interest rate swaps to fix interest payments under the Stendal mill financing facility, which had kept Stendal from benefiting from the general decline in interest rates that ensued. These derivatives are marked to market at the end of each reporting period and all unrealized gains and losses are recognized in earnings for the relevant reporting periods.


	*~~We use derivatives to manage certain risk which has caused significant fluctuations in our operating results.~~*

A significant amount of our sales revenue is based on pulp sales quoted in U.S. dollars while our reporting currency is Euros and our costs are predominantly in Euros and ~~since the Acquisition of the Celgar pulp mill,~~ in Canadian dollars. ~~We therefore~~From time to time, we use foreign currency derivative instruments primarily to try to manage against depreciation of the U.S. dollar against the Euro.

We also use derivative instruments to limit our exposure to interest rate fluctuations. Concurrently with entering into the Stendal financing, Stendal entered into~~variable-to-fixed~~ variable-to-fixed rate interest swaps for the full term of the ~~facility~~Stendal Facility to manage its interest rate risk exposure with respect to ~~a maximum aggregate amount of approximately $612.6 million of~~ the full principal amount of ~~such~~this facility.

We record unrealized gains or losses on our derivative instruments when they are marked to market at the end of each reporting period and realized gains or losses on them when they are settled. These unrealized and

realized gains and losses can materially impact our operating results for any reporting period. For example, our operating results for ~~2006~~2007 included realized and unrealized net gains of€~~105.8~~ €20.4 million on our currency and interest rate derivatives. ~~Conversely, our~~Our operating results for ~~2005~~2006 included realized and unrealized ~~losses~~net gains of€~~71.8~~ €105.8 million on currency and interest rate derivatives. ~~In 2004, we recorded a net realized gain of~~€~~44.5 million on our currency derivatives and a net unrealized loss of~~€~~32.3 million on our interest rate derivatives.~~

If any of the variety of instruments and strategies we utilize are not effective, we may incur losses which may have a materially adverse effect on our business, financial condition, results of operations and cash flow. Further, we may in the future use derivative instruments to manage pulp price risks. The purpose of our derivative activity may also be considered speculative in nature; we do not use these instruments with respect to any pre-set percentage of revenues or other formula, but either to augment our potential gains or reduce our potential losses depending on our perception of future economic events and developments.


	*~~We are subject to extensive environmental regulation and we could have environmental liabilities at our facilities.~~*

We are subject to extensive environmental regulation and we could have environmental liabilities at our facilities.

Our operations are subject to numerous environmental laws as well as permits, guidelines and policies. These laws, permits, guidelines and policies govern, among other things:


	•	unlawful discharges to land, air, water and sewers;

	•	waste collection, storage, transportation and disposal;

	•	hazardous waste;

	•	dangerous goods and hazardous materials and the collection, storage, transportation and disposal of such substances;

	•	theclean-up of unlawful discharges;

	•	land use planning;

	•	municipal zoning; and

	•	employee health and safety.

In addition, as a result of our operations, we may be subject to remediation, clean up or other administrative orders or amendments to our operating permits, and we may be involved from time to time in administrative and judicial proceedings or inquiries. Future orders, proceedings or inquiries could have a material adverse effect on our business, financial condition and results of operations. Environmental laws and land use laws and regulations are constantly changing. New regulations or the increased enforcement of existing laws could have a material adverse effect on our business and financial condition. In addition, compliance with regulatory requirements is expensive, at times requiring the replacement, enhancement or modification of equipment, facilities or operations. There can be no assurance that we will be able to maintain our profitability by offsetting any increased costs of complying with future regulatory requirements.

We are subject to liability for environmental damage at the facilities that we own or operate, including damage to neighboring landowners, residents or employees, particularly as a result of the contamination of soil, groundwater or surface water and especially drinking water. The costs of such liabilities can be substantial. Our potential liability may include damages resulting from conditions existing before we purchased or operated these facilities. We may also be subject to liability for any ~~off-site~~offsite environmental contamination caused by pollutants or hazardous substances that we or our predecessors arranged to transport, treat or dispose of at other locations. In addition, we may be held legally responsible for liabilities as a successor owner of businesses that we acquire or have acquired. Except for Stendal, our facilities have been operating for decades and we have not done invasive testing to determine whether or to what extent environmental contamination exists. As a result, these businesses may have liabilities for conditions that we discover or that become apparent, including liabilities arising from non-compliance with environmental laws by prior owners. Because of the limited availability of insurance coverage for

environmental liability, any substantial liability for environmental damage could materially adversely affect our results of operations and financial condition.

Enactment of new environmental laws or regulations or changes in existing laws or regulations might require significant capital expenditures. We may be unable to generate sufficient funds or access other sources of capital to fund unforeseen environmental liabilities or expenditures.


	*~~We are subject to risks related to our employees.~~*

We are subject to risks related to our employees.

The majority of our employees are unionized. ~~The collective agreement relating to our pulp workers at the Rosenthal mill expires in the third quarter of 2007.~~ In ~~addition, in~~ the future we may enter into a collective agreement with our pulp workers at the Stendal mill. The collective ~~agreement~~agreements relating to ~~our~~ hourly workers at ~~the~~both our Rosenthal and Celgar ~~mill expires~~mills expire in 2008. Although we have not experienced any work stoppages in the past, there can be no assurance that we will be able to negotiate acceptable collective agreements or other satisfactory arrangements with our employees upon the expiration of our collective agreements or in conjunction with the establishment of a new agreement or arrangement with our pulp workers at the Stendal mill. This could result in a strike or work stoppage by the affected workers. The registration or renewal of the collective agreements or the outcome of our wage negotiations could result in higher wages or benefits paid to union members. Accordingly, we could experience a significant disruption of our operations or higher on-going labor costs, which could have a material adverse effect on our business, financial condition, results of operations and cash flow.


	*~~We rely on German federal and state government grants and guarantees.~~*

We rely on German federal and state government grants and guarantees.

We currently benefit from a subsidized capital expenditure program and lower cost of financing as a result of German federal and state government grants and guarantees at our Stendal mill. Should either the German federal or state governments be prohibited from honoring legislative grants and guarantees at Stendal, or should we be required to repay any such legislative grants, this may have a material adverse effect on our business, financial condition, results of operations and cash flow.


	*~~The sale of emission allowances is relatively new and volatile and subject to governmental amendment.~~*

The sale of emission allowances is relatively new and volatile and subject to governmental amendment.

Commencing in 2005, our German operations became subject to the European Emissions Trading Scheme. Over the last ~~two~~three years, we have benefited from the sales of emission allowances. The market for emission allowances is relatively new and volatile. Further, the allocation of emission allowances, which is currently based upon production volumes and the types of fuels consumed by manufacturing facilities in Germany, is subject to governmental review and potential changes in 2008. Additionally, we expect that, over time, the amount of emission allowances granted to manufacturing facilities in Germany will be reduced although we cannot predict the timing or the amount of any such reduction. As a result, we cannot predict with any certainty either the amount of future sales of emission allowances or the amount of emission allowances we may be granted.


	*~~We are dependent on key personnel.~~*

We are dependent on key personnel.

Our future success depends, to a large extent, on the efforts and abilities of our executive and senior mill operating officers. Such officers are industry professionals many of whom have operated through multiple business cycles. Our officers play an integral role in, among other things:


	•	sales and marketing;

	•	reducing operating costs;

	•	identifying capital projects which provide a high rate of return; and

	•	prioritizing expenditures and maintaining employee relations.

The loss of one or more of our officers could make us less competitive in these areas which could materially adversely affect our business, financial condition, results of operations and cash flows. We do not maintain any key person life insurance onfor any of our executive or senior mill operating officers.

We may experience material disruptions to our production.


	*~~We may experience material disruptions to our production.~~*

A material disruption at one of our manufacturing facilities could prevent us from meeting customer demand, reduce our salesand/or negatively impact our results of operations. Any of our pulp manufacturing facilities could cease operations unexpectedly due to a number of events, including:


	•	unscheduled maintenance outages;

	•	prolonged power failures;

	•	an equipment failure;

	•	design error or operator error;

	•	chemical spill or release;

	•	explosion of a boiler;

	•	disruptions in the transportation infrastructure, including roads, bridges, railway tracks and tunnels;

	•	fires, floods, earthquakes or other natural catastrophes;

	•	~~labour~~labor difficulties; and

	•	other operational problems.

Any such downtime or facility damage could prevent us from meeting customer demand for our productsand/or require us to make unplanned capital expenditures. If any of our facilities were to incur significant downtime, our ability to meet our production capacity targets and satisfy customer requirements would be impaired and could have a material adverse effect on our business, financial condition, results of operations and cash flows.

Our insurance coverage may not be adequate.

We have obtained insurance coverage that we believe would ordinarily be maintained by an operator of facilities similar to our pulp mills. Our insurance is subject to various limits and exclusions. Damage or destruction to our facilities could result in claims that are excluded by, or exceed the limits of, our insurance coverage.

We rely on third parties for transportation services.

Our business primarily relies upon third parties for the transportation of pulp to our customers, as well as for the delivery of our raw materials to our mills. Our pulp and raw materials are principally transported by truck, barge, rail and sea-going vessels, all of which are highly regulated. Increases in transportation rates can also materially adversely affect our results of ~~operation.~~operations.

Further, if our transportation providers fail to deliver our pulp in a timely manner, it could negatively impact our customer relationships and we may be unable to sell it at full value. If our transportation providers fail to deliver our raw materials in a timely fashion, we may be unable to manufacture pulp in response to customer orders. Also, if any of our transportation providers were to cease operations, we may be unable to replace them at a reasonable cost. The occurrence of any of the foregoing events could materially adversely affect our results of operations.


	~~Our insurance coverage~~ *Washington State law and our Articles of Incorporation may ~~not be adequate.~~*

We have ~~obtained insurance coverage that we believe would ordinarily be maintained by~~anti-takeover effects which will make an operator of facilities similar to our pulp mills. Our insurance is subject to various limits and exclusions. Damage or destruction to our facilities could result in claims that are excluded by, or exceed the limitsacquisition of our ~~insurance coverage.~~Company by another company more difficult.


	*~~Washington State law and our Articles of Incorporation may have anti-takeover effects which will make an acquisition of our Company by another company more difficult.~~*

We are subject to the provisions of the Revised Code of Washington, Chapter 23B.19, which prohibits a Washington corporation, including our Company, from engaging in any business combination with an “acquiring person” for a period of five years after the date of the transaction in which the person became an acquiring person, unless the business combination is approved in a prescribed manner. A business combination includes mergers, asset sales as well as certain transactions resulting in a financial benefit to the acquiring person. Subject to certain exceptions, an “acquiring person” is a person who, together with affiliates and associates, owns, or within five years did own, 10% or more of the corporation’s voting stock. We may in the

future adopt certain measures that may have the effect of delaying, deferring or preventing a change in control of our Company. ~~Certain~~Under Washington State law, we

have the ability to adopt certain of ~~such~~these measures, including, without limitation, a shareholder rights plan, ~~may be adopted~~ without any further vote or action by the holders of our shares. These measures may have anti-takeover effects, which may delay, defer or prevent a takeover attempt that a holder of our shares might consider in its best interest.


ITEM 1B.	UNRESOLVED STAFF COMMENTS.

~~ITEM 1B. UNRESOLVED STAFF COMMENTS.~~

None.

~~None.~~


ITEM 2.	PROPERTIES

We lease offices in Seattle, Washington, Vancouver, British Columbia, and in Berlin, Germany. We own the Rosenthal and Celgar mills and the underlying property. The Stendal mill is situated on property owned by Stendal, our 70.6% owned subsidiary.

The Rosenthal mill is situated on a 220 acre site near the town of Blankenstein in the ~~State~~state of ~~Thuringia,~~Thüringia, approximately 300 kilometers south of the Stendal mill. The Saale river flows through the site of the mill. In late 1999, we completed a major capital project which converted the Rosenthal mill to the production of kraft pulp. It is a single line mill with ana current annual production capacity of approximately ~~310,000~~325,000 ADMTs of kraft pulp. The mill is self-sufficient in steam and electrical power. Some excess electrical power which is constantly generated is sold to the regional power grid. The facilities at the mill include:


	•	an approximately 723,000 square feet fiber storage area;

	•	barking and chipping facilities for pulp logs;

	•	an approximately 366,000 square feet roundwood yard;

	•	a fiber line, which includes a Kamyr continuous digester and bleaching facilities;

	•	a pulp machine, which includes a dryer, a cutter and a bailing line;

	•	an approximately 63,000 square feet finished goods storage area;

	•	a chemical recovery system, which includes a recovery boiler, evaporation plant and recausticizing plant;

	•	a fresh water plant;

	•	a wastewater treatment plant; and

	•	a power station with a turbine capable of producing 45 megawatts of electric power from steam produced by the recovery boiler.

The Stendal mill is situated on a 200 acre site owned by Stendal that is part of a larger 1,250 acre industrial park near the town of Stendal in the ~~State~~state of ~~Sachsen-Anhalt,~~Saxony-Anhalt, approximately 300 kilometers north of the Rosenthal mill and 130 kilometers from the city of Berlin. The mill is adjacent to the Elbe river and has access to harbor facilities for water transportation. ~~Construction of the Stendal mill was completed in the third quarter of 2004.~~ The mill is a single line mill with ~~an initial~~a current annual design production capacity of approximately ~~552,000~~620,000 ADMTs of kraft pulp. ~~In December 2005, two additional digesters were added to the Stendal mill which, along with other measures, increased its annual production capacity to approximately 600,000 ADMTs.~~ The Stendal mill is self-sufficient in steam and electrical power. Some excess electrical power which is constantly being generated is sold to the regional power grid. The facilities at the mill include:


	•	an approximately 920,000 square feet fiber storage area;

	•	barking and chipping facilities for pulp logs;

	•	a fiber line, which includes ten Superbatch digester and bleaching facilities;

	•	a pulp machine, which includes a dryer, a cutter and a bailing line;

	•	an approximately 108,000 square feet finished goods storage area;


	•	a recovery line, which includes a recovery boiler, evaporation plant, recausticizing plant and lime kiln;

	•	a fresh water plant;


	•	a wastewater treatment plant; and

	•	a power station with a turbine capable of producing approximately 100 megawatts of electric power from steam produced by the recovery boiler and a power boiler.

The Celgar mill is situated on a 400 acre site near the city of Castlegar, British ~~Columbia in Canada.~~Columbia. The mill is located on the south bank of the Columbia River, approximately 600 kilometers east of the port city of Vancouver, British Columbia, and approximately 32 kilometers north of the ~~Canada-United States~~Canada-U.S. border. The city of Seattle, Washington is approximately 650 kilometers southwest of Castlegar. It is a single line mill with a current annual production capacity of approximately ~~470,000~~480,000 ADMTs of NBSK pulp. Internal power generating capacity could, with certain capital improvements, enable the Celgar mill to be self-sufficient in electrical power and at times to sell surplus electricity. The facilities at the Celgar mill include:


	•	~~fiber~~chip storage facilities consisting of four vertical silos and an asphalt surfaced yard with a capacity of 200,000 m³cubic meters of chips;

	•	a woodroom containing debarking and chipping equipment for pulp logs;

	•	a fiber line, which includes a dual vessel hydraulic digester, pressure knotting and screening, single stage oxygen delignification and ~~bleaching facilities;~~a four stage bleach plant;

	•	two pulp machines, which each include a dryer, a cutter and a bailing line;

	•	a chemical recovery system, which includes a recovery boiler, evaporation plant, recausticizing area and effluent treatment system; and

	•	a turbine and generator capable of producing approximately 52 megawatts of electric power from steam produced by a recovery boiler and power ~~boiler.~~boiler fueled by natural gas.

~~The following table sets out our pulp production capacity and actual production sales volumes and revenues by mill for the periods indicated:~~

Annual Years Ended December 31,
Production
Capacity(2) 2006 2005 2004

(ADMTs)
Pulp Production by Mill(1):

Rosenthal 310,000 306,188 316,600 314,016
Celgar 470,000 438,855 388,956 —
Stendal 600,000 557,217 479,063 132,694

Total pulp production 1,380,000 1,302,260 1,184,619 446,710


~~(1)~~	As the Stendal mill was started up in mid-September 2004, the actual production for 2004 includes production from the Stendal mill from the time of its start up. In addition, as we acquired the Celgar mill in February 2005, the actual production for 2005 includes production from the Celgar mill from the time of its Acquisition.

~~(2)~~	Capacity is the rated capacity of the plants for the year ended December 31, 2006, which is based upon production for 365 days a year. Targeted production is generally based upon 353 days per year for the Rosenthal and Stendal mills and 350 days per year for the Celgar mill.

At the end of ~~2006,~~2007, substantially all of ~~our pulp related~~the assets relating to the Stendal mill were pledged to secure the Stendal Loan Facility. The working capital loan facilities established for the Rosenthal and Celgar mills are secured by first charges against the inventories and receivables at the respective mills.

The following table sets out our pulp production capacity and actual production sales volumes and revenues by mill for the periods indicated:


	Annual
	Production		Years Ended December 31,
	Capacity(2)		2007		2006		2005
			(ADMTs)

Pulp Production by Mill(1):
Rosenthal		325,000		326,838		306,188		316,600
Celgar		480,000		476,243		438,855		388,956
Stendal		620,000		601,592		557,217		479,063

Total pulp production		1,425,000		1,404,673		1,302,260		1,184,619


(1)		As we acquired the Celgar mill in February 2005, the actual production for 2005 includes production from the Celgar mill from the time of its acquisition.

(2)		Capacity is the rated capacity of the plants for the year ended December 31, 2007, which is based upon production for 365 days a year. Targeted production is generally based upon 355 days per year.


ITEM 3.	LEGAL PROCEEDINGS

In October 2005, our wholly owned subsidiary, Zellstoff Celgar Limited, received a re-assessment for real property transfer tax payable in British Columbia, Canada, in the amount of approximately€~~3.5~~ €3.3 million (C$4.7 million) in connection with the transfer of the land where the Celgar mill is situated. ~~The Company is~~We are contesting the assessment and the amount, if any, that may be payable in connection therewith is not yet determinable.

As our Stendal mill is located in eastern Germany, it received approximately €275 million of government grants, which are applied to reduce the cost basis of the assets acquired with such grants. Under European Union

rules, the Commission of the European Communities, referred to as the “Commission”, was formally notified in March 2002 by Germany of plans to provide support to the Stendal mill through grants and guarantees. The Commission considered these plans and, on June 19, 2002, decided not to raise any objection against such support being provided by the German federal and state governments in respect of the Stendal mill. In its decision, the Commission was not called upon to determine whether the governmental aid schemes, on which the support is based, were acceptable, but was limited to a determination as to whether a reduction of the pre-approved aid level for investment in the German state of Saxony-Anhalt under the previously approved schemes was required under European Union law in the case of the Stendal mill. In coming to its decision, the Commission generally has a wide margin of discretion in its assessment of facts and data. Under European Union law, member states, competitors or trade associations directly affected by a decision of the Commission may appeal such decision within a period of two months and 24 days after publication of the Commission decision. On December 23, 2002, Kronoply GmbH and Kronotex GmbH & Co., two related manufacturers of, among other things, oriented strand board, or “OSB”, and medium-density fiber boards, or “MDF”, boards that do not compete with the Stendal mill by selling pulp or paper, filed an appeal with the Court of First Instance of the European Communities (Luxembourg), referred to as the “Court”, against the Commission decision of June 19, 2002. Generally, to be successful, an appeal must show that the Commission failed to comply with procedural requirements or committed a manifest error in assessing facts and data in adopting its decision.

In late 2004, the Court in an unrelated case determined that the Commission committed a procedural error in determining the amount of state aid that could be granted by Germany to a recipient in a different business. The Court found the Commission erred when reviewing the effect of state aid on competition by only considering capacity utilization and not also considering product demand trends prior to providing its approval. As a result, in that case the Court set aside the Commission approval and remanded the matter back to the Commission to redetermine. The Court’s decision is being appealed by the aid recipient and the government of Germany. If such appeal is unsuccessful, the Commission will have to redetermine the matter in such unrelated case based upon its mandated criteria and may come to the same determination as before. The procedure followed by the Commission in this remanded decision was similar to that it used in determining not to reduce the amount of state aid available to the Stendal mill.

Subject to the Court’s schedule, we believe a hearing, in which the Court would consider both the standing of the applicant and the merits of the appeal is likely to occur in the course of 2008. In the event the appellant was then successful both on the issue of standing and as regards the merits and such decision was upheld on appeal, the issue of whether the amount of state aid granted to the Stendal mill should be reduced would be remanded back to the Commission for reconsideration. Although we cannot assure you as to the outcome of any such redetermination, we believe that, given the Commission’s criteria and the factual circumstances related to the Stendal mill including demand trends in the pulp business, there would be no basis for the Commission to reduce the level of state aid. If the Commission determined to reduce the level of state aid available to the Stendal mill and such decision was upheld on appeal, Stendal would be required to repay a portion of the previously received state aid back to the German government. While we do not expect an adverse outcome, litigation is inherently uncertain and there can be no assurance of the final outcome.

We are subject to routine litigation incidental to our business. We do not believe that the outcome of such litigation will have a material adverse effect on our business or financial condition.


ITEM 4.	SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not applicable.

PART II


ITEM 5.	MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

(a) Market Information. Our shares are quoted for trading on the NASDAQ Global Market under the symbol “MERC” and listed in U.S. dollars on the Toronto Stock Exchange under the symbol “MRI.U”. The following table sets forth the high and low ~~reported sale~~sales prices of our shares on the NASDAQ Global Market for each quarter in the two year period ended December 31, ~~2006,~~2007, and for the period ended ~~March 1, 2007:~~February 21, 2008:

Fiscal Quarter Ended High Low

2005

March 31 $ 11.40 $ 8.50
June 30 9.21 6.89
September 30 8.95 6.86
December 31 8.39 6.78

2006

March 31 9.31 7.74
June 30 9.68 8.15
September 30 9.76 8.36
December 31 12.00 9.20

2007

Period ended March 1 13.68 11.88


Fiscal Quarter Ended	High		Low

2006
March 31	$	9.45	$	7.46
June 30		9.75		8.01
September 30		9.90		8.22
December 31		12.36		9.00

2007
March 31		13.74		11.19
June 30		13.39		9.51
September 30		10.94		7.56
December 31		10.10		6.99

2008
Period ended February 21		9.02		6.91

(b) Shareholder Information. As at ~~March 1, 2007,~~February 21, 2008, there were approximately ~~473~~462 holders of record of our shares and a total of ~~35,465,176~~36,285,027 shares were outstanding.

(c) Dividend Information. The declaration and payment of dividends is at the discretion of our board of directors. Our board of directors has not declared or paid any dividends on our shares in the past two years and does not anticipate declaring or paying dividends in the foreseeable future.

(d) Equity Compensation Plans. The following table sets forth information as at December 31, ~~2006~~2007 regarding: (i) our 1992 amended and restated stock option plan under which options to acquire an aggregate of 3,600,000 of our shares may be granted; and (ii) our 2004 Stock Incentive Plan pursuant to which 1,000,000 of our shares may be issued pursuant to options, stock appreciation rights and restricted shares:

Number of Shares
Number of Shares to be Weighted-average Available for Future
Issued Upon Exercise Exercise Price of Issuance Under
of Outstanding Options Outstanding Options Plan

1992 Amended Stock Option Plan 1,095,000 $ 6.71 130,500
2004 Stock Incentive Plan 30,000 $ 7.30 814,315 (1)


	Number of Shares to be		Weighted-average		Number of Shares
	Issued Upon Exercise		Exercise Price of		Available for Future
	of Outstanding Options		Outstanding Options		Issuance Under Plan

1992 Amended Stock Option Plan		898,334	$	6.41		370,000
2004 Stock Incentive Plan		30,000	$	7.30		758,314	(1)


(1)		An aggregate of ~~190,686~~211,685 restricted shares are issued and outstanding under the plan.

(e) Private Placements. In February 2005, pursuant to the ~~Acquisition~~acquisition of the Celgar mill, we issued 4,210,526 of our shares at a price of $9.50 per share to the vendor of the Celgar mill for gross proceeds of $40.0 million in reliance on Regulation S under theSecurities ~~Act.~~Act of 1933, as amended, referred to as the “Securities Act”. In connection with the issuance of these shares, we filed a shelf registration statement onForm S-3 with the SEC in 2005 to register these shares for resale. The shelf registration statement was withdrawn in February 2007.

In December 2006, we purchased and cancelled an aggregate of $15,245,000 principal amount of our convertible notes in exchange for 2,201,035 shares of our common stock. The shares were issued pursuant to Section 3(a)(9) of the Securities Act of 1933, as amended.


ITEM 6.	SELECTED FINANCIAL DATA

~~ITEM 6. SELECTED FINANCIAL DATA~~

The following table sets forth selected historical financial and operating data as at and for the periods indicated. The following selected financial data is qualified in its entirety by, and should be read in conjunction with, our consolidated financial statements and related notes contained in this annual report and ~~“Management’s~~“Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations”. The following selected financial data:


	•	includes the operating results of the Stendal mill from its start up in September 2004 and the results of operations and financial condition of the Celgar mill from the time of its ~~Acquisition~~acquisition in February 2005; and

	•	excludes the results of operations of our paper operations which were sold in 2006 and ~~pursuant to SFAS 144,~~ are accounted for as discontinued operations. Previously reported data and the financial statements and related notes included herein have been reclassified to conform to the current presentation.

Years Ended December 31,

2006 2005 2004 2003 2002

(Euro in thousands, other than per share and per ADMT amounts)
Statement of Operations Data

Revenues € 623,977 € 452,437 € 182,242 € 129,282 € 170,805
Costs and expenses € 518,377 € 426,568 € 168,055 € 118,769 € 149,230
Operating income (loss) from continuing operations € 92,504 € 18,650 € (8,201 ) € (4,683 ) € 5,254
Unrealized gains (losses) on derivative financial instruments € 109,358 € (69,308 ) € (32,331 ) € (13,153 ) € (32,411 )
Realized gains (losses) on derivative financial instruments € (3,510 ) € (2,455 ) € 44,467 € 29,321 € 25,732
Interest expense(1) € 91,931 € 86,326 € 23,185 € 12,576 € 12,522
Investment income € 6,090 € 2,422 € 2,772 € 5,912 € 1,501
Net income (loss) from continuing operations € 69,242 € (112,058 ) € 30,139 € 5,409 € (4,190 )
Net income (loss) (including discontinued operations) € 63,210 € (117,146 ) € 19,980 € (3,593 ) € (6,321 )
Net income (loss) per share from continuing operations,
Basic € 2.08 € (3.59 ) € 1.73 € 0.32 € (0.25 )
Diluted € 1.72 € (3.59 ) € 1.25 € 0.32 € (0.25 )
Net income (loss) per share (including discontinued operations) € 1.90 € (3.75 ) € 1.15 € (0.21 ) € (0.38 )
Weighted average shares outstanding (in thousands),
Basic 33,336 31,218 17,426 16,941 16,775
Diluted 43,084 31,218 28,525 16,941 16,775
Balance Sheet Data

Current assets € 221,800 € 251,522 € 207,409 € 128,401 € 96,217
Current liabilities € 120,002 € 140,327 € 229,068 € 177,348 € 89,889
Working capital € 101,798 (2) € 111,195 (2) € (21,659 )(2) € (48,947 ) € 6,328
Total assets(3) € 1,302,594 € 1,393,816 € 1,255,649 € 935,905 € 599,750
Long-term liabilities € 963,791 € 1,104,746 € 863,840 € 625,702 € 384,892
Shareholders’ equity € 218,801 € 148,743 € 162,741 € 132,855 € 124,969
Other Pulp Data(4)

Sales volume (ADMTs) 1,326,355 1,101,304 421,716 303,655 293,607
Production 1,302,260 1,184,619 446,710 310,244 304,854
Average price realized (per ADMT) € 465 € 407 € 423 € 417 € 443


	Years Ended December 31,
	2007		2006			2005			2004			2003
	(Euro in thousands, other than per share and per ADMT amounts)

Statement of Operations Data
Revenues	€	704,391	€	623,977		€	452,437		€	182,242		€	129,282
Costs and expenses	€	634,805	€	531,473		€	433,787		€	168,055		€	118,769
Operating income (loss) from continuing operations	€	69,586	€	92,504		€	18,650		€	(8,201	)	€	(4,683	)
Unrealized gains (losses) on derivative financial instruments	€	13,537	€	109,358		€	(69,308	)	€	(32,331	)	€	(13,153	)
Realized gains (losses) on derivative financial instruments	€	6,820	€	(3,510	)	€	(2,455	)	€	44,467		€	29,321
Interest expense(1)	€	71,400	€	91,931		€	86,326		€	23,185		€	12,576
Investment income	€	4,453	€	6,090		€	2,422		€	2,772		€	5,912
Net income (loss) from continuing operations	€	22,389	€	69,242		€	(112,058	)	€	30,139		€	5,409
Net income (loss) (including discontinued operations)	€	22,179	€	63,210		€	(117,146	)	€	19,980		€	(3,593	)
Net income (loss) per share from continuing operations,
Basic	€	0.62	€	2.08		€	(3.59	)	€	1.73		€	0.32
Diluted	€	0.58	€	1.72		€	(3.59	)	€	1.25		€	0.32
Net income (loss) per share (including discontinued operations)	€	0.61	€	1.90		€	(3.75	)	€	1.15		€	(0.21	)
Weighted average shares outstanding (in thousands),
Basic		36,081		33,336			31,218			17,426			16,941
Diluted		45,303		43,084			31,218			28,525			16,941
Balance Sheet Data
Current assets	€	290,259	€	221,800		€	251,522		€	207,409		€	128,401
Current liabilities	€	121,516	€	120,002		€	140,327		€	229,068		€	177,348
Working capital	€	168,743	€	101,798	(2)	€	111,195	(2)	€	(21,659	)(2)	€	(48,947	)
Total assets(3)	€	1,283,517	€	1,302,594		€	1,393,816		€	1,255,649		€	935,905
Long-term liabilities	€	885,339	€	963,791		€	1,104,746		€	863,840		€	625,702
Shareholders’ equity	€	276,662	€	218,801		€	148,743		€	162,741		€	132,855
Other Pulp Data(4)
Sales volume (ADMTs)		1,352,590		1,326,355			1,101,304			421,716			303,655
Production		1,404,673		1,302,260			1,184,619			446,710			310,244
Average price realized (per ADMT)	€	516	€	465		€	407		€	423		€	417


(1)		We capitalized most of the interest related to the Stendal mill prior to September 18, 2004.

(2)		We have applied for investment grants from the federal and state governments of Germany and had claims of approximately€~~1.8~~ €1.6 million outstanding at December 31, 2006, all of which ~~we expect to receive~~was received in 2007 and approximately€~~7.0~~ €7.0 million outstanding at December 31, 2005, all of which was received in 2006. However, in accordance with our accounting policies, we do not record these grants until they are received.

(3)		We do not report the effect of government grants relating to our assets in our income. These grants reduce the cost basis of the assets purchased when the grants are received. See ~~“Business~~“Item 1 — ~~Government Financing”~~Business — Capital Expenditures”.

(4)		Excluding intercompany sales.


ITEM 7.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations as at and for the three years ended December 31, ~~2006~~2007 is based upon and should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this annual report. The following Management’s Discussion and Analysis of Financial Condition and Results of Operations reflects:


	•	~~the results of operations of our Stendal mill since it commenced production in September 2004 and~~ the results of operations and financial condition of ~~the~~our Celgar mill from the time of its ~~Acquisition~~acquisition in February 2005;

	•	the disposition of our paper operations in 2006. In accordance with SFAS No. 144, ~~“Accounting~~Accounting for the Impairment or Disposal of Long-Lived ~~Assets”,~~Assets, the results of this business have been classified as discontinued operations and their financial results are reported separately as discontinued operations for all periods presented. Previously reported financial statements for all periods and certain amounts in our financial statements and related notes included herein have been reclassified to conform to the current presentation; and

	•	only our continuing operations except as otherwise expressly noted.

Results of Operations

We operate in the pulp business and our operations are located in Germany and ~~Western~~western Canada. Our pulp mills are comprised of: (a) an NBSK pulp mill operated by our wholly-owned subsidiary, Rosenthal, near Blankenstein, Germany, which has ana current annual production capacity of approximately ~~310,000~~325,000 ADMTs; (b) a ~~new,state-of-the-art~~state-of-the-art NBSK pulp mill, with a current production capacity of approximately ~~600,000~~620,000 ADMTs per year, near Stendal, Germany owned and operated by our 70.6% owned subsidiary, Stendal; and (c) the Celgar NBSK pulp mill operated by our wholly-owned subsidiary, Celgar, with ana current annual production capacity of approximately ~~470,000~~480,000 ADMTs located near Castlegar, British Columbia, Canada.

The Stendal mill was completed and commenced production in mid-September 2004. Prior to such date, most of the costs associated with the Stendal mill, including interest, were capitalized. Total investment costs in respect of the Stendal mill were approximately€1.0 billion. The Stendal mill underwent extensive testing and evaluation in December 2004 and, in the first quarter of 2005, we delivered an acceptance certificate and assumed responsibility for the operation of the mill.

~~In February 2005, we acquired the Celgar pulp mill for approximately $210.0 million (~~€162.0 million), excluding defined working capital. Since its Acquisition, we have integrated the mill with our operations and expect to complete an approximately C$28.0 million capital improvement project at the mill in mid-2007.

~~In 2006, we disposed of our paper operations and are no longer in such business. These operations are reported separately as discontinued operations.~~

Our financial performance depends on a number of variables that impact sales and production costs. Sales and production results are influenced largely by the market price for products and raw materials, the mix of products produced and foreign currency exchange rates. Kraft pulp markets are highly cyclical, with prices determined by supply and demand. Demand for kraft pulp is influenced to a significant degree by global levels of economic activity and supply is driven by industry capacity and utilization rates. Our product mix is important because premium grades of NBSK pulp generally achieve higher prices and profit margins.

Our production costs are influenced by the availability and cost of raw materials, energy and labor, and our plant efficiencies and productivity. Our main raw material is fiber in the form of wood chips and pulp logs. Wood chip and pulp log costs are primarily affected by the supply of, and demand for, lumber and pulp, which are both highly cyclical. Production costs also depend on the total volume of production. High operating rates and production efficiencies permit us to lower our average cost by spreading fixed costs over more units.

Global economic conditions, changes in production capacity and inventory levels are the primary factors affecting kraft pulp prices. Historically, kraft pulp prices have been cyclical in nature. The average ~~annual~~

European list prices for NBSK pulp between ~~1990~~2000 and ~~2006~~2007 ranged from a low of ~~$444~~$477 per ADMT in ~~1993~~2002 to a high of ~~$875~~$870 per ADMT in ~~1995.~~2007.

List prices for NBSK pulp in Europe increased overall in 2004 from approximately $560 per ADMT at the start of the year to $625 per ADMT at the end. Prices increased primarily due to the relatively weak U.S. dollar and improving world economies.

List prices for NBSK pulp weakened in 2005 primarily due to the strengthening of the U.S. dollar and were approximately $600 per ADMT in Europe in December 2005. Pulp prices increased steadily in 2006 primarily as a result of the closure of several pulp mills, particularly in North America, which reduced NBSK pulp capacity by approximately 1.2 million ADMTs, better demand and the general weakness of the U.S. dollar. At the end of ~~2006,~~2007, list prices for NBSK pulp in ~~Northern~~ Europe had increased to approximately ~~$730~~$870 per ADMT.

A producer’s sales realizations will reflect customer discounts, commissions and other items and NBSK pulp prices will continue to fluctuate in the future.

Our financial performance for any reporting period is also impacted by changes in the U.S. dollar to Euro and Canadian dollar exchange rate and in interest rates. Changes in currency rates affect our operating results because the price for our principal product, NBSK pulp, is generally based on a global industry benchmark that is quoted in U.S. dollars, even though a significant portion of the sales from our German mills is invoiced in Euros. Therefore, a weakening of the U.S. dollar against the Euro and the Canadian dollar will generally reduce the amount of revenues of our pulp operations. Most of our operating costs at our German mills, including our debt obligations under the Stendal Loan Facility and Rosenthal ~~working capital facility,~~Loan Facility, are incurred in Euros. Most of our operating costs at the Celgar mill, including under its working capital facility, are in Canadian dollars. These costs do not fluctuate with the U.S. dollar to Euro or Canadian dollar exchange rates. Thus, a weakening of the U.S. dollar against the Euro and the Canadian dollar tends to reduce our sales revenue, gross profit and income from operations. WeFrom time to time, we seek to mitigate the effect of such weakening against the Euro through foreign currency derivatives we put into place from time to time to protect against such currency movements.

Changes in interest rates can impact our operating results because the credit facilities established for our pulp mills provide for floating rates of interest.

Changes in currency exchange and interest rates also impact certain foreign currency and interest rate derivatives used by Stendal and Rosenthal from time to time to partially protect against the effect of such changes. Gains or losses on such derivatives are included in our earnings, either as they are settled or as they are marked to market for each reporting period. See ~~“Quantitative~~“Item 7A — Quantitative and Qualitative Disclosures about Market Risk”.

In 2005, Stendal entered into currency swaps in the aggregate principal amount of€~~612.6~~ €612.6 million to convert all of its long-term indebtedness under the Stendal Loan Facility from Euros into U.S. dollars, as well as certain currency forwards, such swaps and forwards being collectively referred to as the “Currency Derivatives”. In 2007, we recorded a net realized gain of €6.8 million before minority interests on the settlement of such swaps and a net unrealized non-cash loss of €5.9 million before minority interests on the balance of the Currency Derivatives. In 2006, we recorded a net realized loss of€~~3.5~~ €3.5 million before minority interests on the settlement of such swaps and a net unrealized non-cash gain of€~~72.1~~ €72.1 million before minority interests on ~~the balance of~~ the Currency Derivatives. In 2005, we recorded a net realized loss of €2.2 million before minority interests on the Currency Derivatives that were settled and a net unrealized non-cash holding loss of€~~66.1~~ €66.1 million before minority interests in respect of ~~outstanding~~the Currency ~~Derivatives and a net realized loss of~~€~~2.2 million before minority interests on Currency Derivatives that were settled. In 2004, we recorded a realized gain of approximately~~€~~44.5 million upon the settlement of Currency~~ Derivatives. ~~See “Quantitative and Qualitative Disclosures About Market Risk” for more information.~~

Stendal, as required under its project financing, entered into~~variable-to-fixed~~ variable-to-fixed rate interest swaps, referred to as the “Stendal Interest Rate ~~Swaps”~~Contracts”, in August 2002 to fix the interest rate on approximately€~~612.6~~ €612.6 million of indebtedness for the full term of the Stendal Loan Facility. Rosenthal had also entered into forward interest rate and interest cap contracts, referred to as the “Rosenthal Interest Rate Contracts” and, together with the Stendal Interest Rate Swaps, the “Interest Rate Contracts”, in respect of a portion of its long-term indebtedness under its previous project loan facility. The Rosenthal Interest Rate Contracts were settled in February 2005 in connection with the repayment of such loan facility.

In 2007 and 2006, we recorded a net unrealized non-cash holding ~~gain~~gains of€~~37.3~~ €19.5 million and €37.3 million, respectively, before minority interests on the marked to market valuation of the Stendal Interest Rate Contracts. These gains resulted primarily from improving world economies and increases in long-term European interest rates. In 2005, we recorded ~~a realized loss of~~

€~~0.3 million upon the settlement of the Rosenthal Interest Rate Contracts and~~ a net unrealized non-cash holding loss of€~~3.2~~ €3.2 million before minority interests on the Stendal Interest Rate Contracts. ~~In 2004, we recorded a negligible realized loss upon the settlement of the Rosenthal Interest Rate Contracts and a net unrealized non-cash holding loss of~~€~~32.3 million before minority interests on the Stendal Interest Rate Contracts.~~

~~Improving~~Slowing world economies resulted in an increase in long-term interest rates in 2006. If world economies continue to strengthen, we would expect interest rates to continue to rise. Higher interest rates could result in our recording marked to market non-cash holding gains on the Stendal Interest Rate Contracts in future periods. However,and a fall in interest rates could result in our recording non-cash holding losses on the Stendal Interest Rate Contracts in future periods when they are marked to market.

Selected production, sales and exchange rate data for each of our last three years is as follows:

Years Ended December 31,

2006 2005 2004

(ADMTs)
Pulp Production
1,302,260 1,184,619 446,710

Pulp Sales By Volume(1)
1,326,355 1,101,304 421,716

Revenues(1)
€ 623,977 € 452,437 € 182,242
NBSK list prices in Europe ($/ADMT) $ 680 $ 610 $ 616
Average pulp price realizations (€/ ADMT)
€ 465 € 407 € 423
Average Spot Currency Exchange Rates

€/$
0.7962 0.8033 0.8040
C$/$ 1.1344 1.2116 1.3017

C$/€
1.4244 1.5095 1.6169


	Years Ended December 31,
	2007		2006		2005
	(ADMTs)

Pulp Production		1,404,673		1,302,260		1,184,619

Pulp Sales(1)		1,352,590		1,326,355		1,101,304

Revenues(1)	€	704,391	€	623,977	€	452,437

NBSK pulp list prices in Europe ($/ADMT)	$	800	$	680	$	610
Average pulp sales realizations (€/ADMT)	€	516	€	465	€	407
Average Spot Currency Exchange Rates
€/$		0.7294		0.7962		0.8033
C$/$		1.0740		1.1344		1.2116
C$/€		1.4690		1.4244		1.5095


(1)		Excluding intercompany sales volumes of nil, 13,234 ~~14,289~~ and ~~6,756~~14,289 ADMTs of pulp and intercompany net sales revenues of ~~approximately~~€~~6.4 million,~~€~~6.3~~nil, €6.4 million and€~~2.8~~ €6.3 million in 2007, 2006 ~~2005~~ and ~~2004,~~2005, respectively.

Year Ended December 31, ~~2006~~2007 Compared to Year Ended December 31, ~~2005~~2006

In the year ended December 31, ~~2006,~~2007, revenues increased by approximately ~~38%~~13% to€~~624.0~~ €704.4 million from€~~452.4~~ €624.0 million in ~~2005,~~2006, primarily due to higher prices which were partially offset by an 8% and 5% weakening of the U.S. dollar versus the Euro and the Canadian dollar, respectively. Pulp prices increased steadily in 2007 primarily as a result of higher pulp prices and higher sales volumes at our Stendal and Celgar mills. Pulp prices increased steadily in 2006 primarily as a result of the closure of several pulp mills, particularly in North America, which reduced NBSK capacity by approximately 1.2 million ADMTs, betterstronger demand and the ~~general weakness~~weakening of the U.S. ~~dollar against the Euro and the Canadian~~ dollar. List prices for NBSK pulp in Europe were approximately $800 (€584) per ADMT in 2007, compared to approximately $680 (€(€542) per ADMT in ~~2006, compared to approximately $610 (~~€~~490) per ADMT in 2005.~~2006. At the end of ~~2006,~~2007, list prices increased to approximately ~~$730 (~~€~~553)~~$870 (€596) per ADMT in Europe and ~~between $700 (~~€~~530) and $730 (~~€~~553)~~$760 (€520) per ADMT in Asia, depending upon the country of delivery. At December 31, ~~2006,~~2007, Norscan producers’ inventories for softwood kraft ~~were at 24~~declined to 27 days supply, compared to 3025 days at the end of ~~2005.~~2006.

~~Pulp~~

Average pulp sales realizations increased to€~~465 per ADMT on average in 2006 from~~€~~407~~ €516 per ADMT in ~~2005, primarily as a result of higher pulp prices.~~2007 from €465 per ADMT in 2006.

~~Cost of sales~~

Operating costs and selling, general, administrative and other expenses increased to€~~531.5~~ €634.8 million in the year ended December 31, ~~2006~~2007 from€~~433.8~~ €531.5 million in ~~2005,~~2006, primarily as a result of increased fiber costs and higher sales ~~volume, partially offset~~volume. In 2006, we benefited from, and costs were reduced by, a reversal of ~~accruals~~an accrual for wastewater fees of€~~13.0~~ €13.0 million. ~~In 2006, German environmental authorities confirmed that certain initiatives and capital expenditures undertaken by us qualified to offset such fees.~~

~~Beginning~~

Weak markets for emission allowances in ~~2005, our German operations became subject to~~2007 resulted in the ~~European Union Emissions Trading Scheme, pursuant to which our German mills have been granted emission allowances. We recorded a~~ contribution to income from ~~the sale of emission allowances of~~€~~15.6~~such sales decreasing to €4.6 million, ~~and~~€~~17.3~~compared to €15.6 million in ~~2006 and 2005, respectively.~~2006. Partially offsetting this was a 9% increase in sales of surplus energy in 2007 compared to 2006.

~~On average, our~~

Overall, in 2007, fiber costs ~~for our German mills~~ increased by approximately ~~12%~~29% compared to ~~2005~~2006 as a result of both a supply imbalance and increased demand. ~~The~~In Germany, the supply imbalance resulted ~~primarily~~ from low ~~harvest~~harvesting levels ~~during the severe winter conditions~~ in late 2005 and ~~early~~ 2006 ~~in central Europe. Such low harvest levels~~which were not made up ~~over~~during the course of the year. ~~The increase~~Increased demand in ~~demand~~Germany resulted from ~~demand for~~higher consumption of wood residuals ~~from alternative or~~by renewable energy ~~producers. These factors contributed to upward pressure on fiber prices~~suppliers. A strong European lumber market at the beginning of 2007 provided some marginal price relief in the ~~latter half~~middle of ~~2006 and for fiber deliveries into~~ the start of 2007. Severe winter storms in central Europe in January 2007 reportedly caused the downfall of over 40 million cubic meters of wood. This wood will need to be harvested and processed in a timely manner and we expect this to increase the fiber supply to our German mills and to temper and moderate fiber prices in the second half of 2007. In 2006, fiberyear. Fiber costs ~~for~~at our Celgar mill ~~increased by approximately 10% over the prior year, primarily because of fluctuations in regional wood chip availability caused by slumping North American lumber markets.~~

~~Depreciation for the pulp operations increased to~~€~~55.5 million~~were also higher in the current period ~~from~~€~~50.9 million in 2005, primarily~~compared to the comparative period of 2006 due to reduced North American sawmill activity as a result of ~~the inclusion of a full year of depreciation~~weakness in U.S. housing construction. Fiber costs at our Celgar ~~mill.~~mill were relatively stable over the last half of 2007, due to supply optimization and the currency impact on the mill’s U.S. sourced fiber. Overall, continued weakness in lumber markets may put upward pressure on prices in the first half of 2008.

Operating depreciation and amortization increased marginally to €56.4 million in 2007 from €55.8 million in 2006.

For the year ended December 31, ~~2006,~~2007, operating income ~~increased almost fourfold~~decreased to€~~92.5~~ €69.6 million from€~~18.7~~ €92.5 million in the prior year ~~primarily~~ as ~~a result of overall~~ higher pulp prices, productivity and energy sales ~~volumes~~were more than offset by higher fiber costs, the weakening of the U.S. dollar and ~~improved productivity at our Stendal and Celgar mills.~~the reduction in sales of emission allowances.

Interest expense in ~~the year ended December 31, 2006 increased~~2007 decreased by 22% to€~~91.9~~ €71.4 million from€~~86.3~~ €91.9 million in 2006 primarily due to a ~~year ago because~~lower level of borrowing by Stendal as it repaid €33.9 million in principal, the settlement of the cross-currency swaps in the first quarter of 2007 and the inclusion in 2006 of ~~a full year’s interest on our senior notes issued in February 2005 and~~€~~2.1~~€2.1 million of interest expense ~~recorded on the~~related to our repurchase of ~~approximately $15.2 million principal amount of our~~ convertible notes.

~~In 2006, due~~

Stendal previously entered into the Stendal Interest Rate Contracts to fix the ~~strengthening of~~interest rate on its outstanding bank indebtedness and we also entered into the ~~Euro versus the U.S. dollar, we recorded a net unrealized non-cash holding gain of~~€~~72.1 million before minority interests upon the marked to market valuation of our outstanding~~ Currency Derivatives. ~~In 2006, we also recorded a net realized loss of~~€~~3.5 million before minority interests in respect of Currency Derivatives that we settled during the period. In 2005, due~~Due primarily to the ~~strengthening of the U.S. dollar versus the Euro, we recorded a net unrealized non-cash holding loss of~~€~~66.1 million before minority interests upon the marked to market valuation of outstanding Currency Derivatives. In 2005, we also recorded a net realized loss of~~€~~2.2 million before minority interests in respect of such derivatives that were settled during the period.~~

~~In 2006, as a result of an~~ increase in long-term European interest rates, we ~~also~~ recorded an unrealized ~~non-cash holding~~ gain of€~~37.3~~ €20.4 million before minority interests on our outstanding derivatives in 2007, compared to an unrealized net gain of €105.8 million before minority interests on our outstanding derivatives in 2006 which included a realized loss of €3.5 million from the ~~marked to market valuation~~settlement of ~~the Stendal Interest Rate Contracts.~~currency forwards.

A portion of our long-term debt is denominated and repayable in foreign currencies, principally U.S. dollars. In ~~2005,~~2007, we recorded an unrealized ~~non-cash loss~~gain of €11.0 million on ~~the Stendal Interest Rate Contracts of~~€~~3.2 million and~~our foreign currency denominated debt as a ~~realized loss of~~€~~0.3 million upon the settlement~~result of the ~~Rosenthal Interest Rate Contracts. We also recorded an unrealized non-cash foreign exchange gain on our long-term debt of~~€~~15.2 million in 2006 due to the strengthening~~weakening of the ~~Euro versus~~U.S. dollar during the ~~U.S. dollar,~~period, compared to an unrealized ~~loss~~gain of€~~4.2~~ €15.2 million thereon in ~~2005.~~2006.

In ~~the year ended December 31, 2006,~~2007 we decreased our provision for deferred income tax by approximately €48.7 million, primarily due to lower unrealized gains on our derivative instruments.

In 2007, minority interest, representing the minority shareholder’s proportionate interest in the Stendal mill, was€~~1.1~~ €1.3 million, compared to€~~17.7~~ €1.1 million in ~~2005. In 2005, we recorded an adjustment of~~€~~1.7 million for the non-cash impact of other-than-temporary impairment losses on our available-for-sale securities and a loan.~~2006.

We reported net income for ~~2006~~2007 of€~~69.2~~ €22.4 million, or€~~2.08~~ €0.62 per basic and€~~1.72~~ €0.58 per diluted share, which included an aggregate net gain of €31.3 million on our outstanding derivatives and a foreign exchange gain on our long-term debt. In 2006, we reported net income of €69.2 million, or €2.08 per basic and €1.72 per diluted share, which reflected ~~higher pulp prices and generally stronger pulp markets and the~~a net ~~gains~~unrealized gain of €121.1 million on our ~~currency~~outstanding derivatives and ~~interest rate derivatives of~~€~~68.6~~a foreign exchange gain on our debt.

In 2007, net income including discontinued operations was €22.2 million, ~~and~~€~~37.3 million. In 2005, we reported a net loss of~~€~~112.1 million,~~ or€~~3.59~~ €0.61 per basic and €0.58 per diluted ~~share, which reflected generally weak pulp markets, the realized and unrealized net losses on our currency and interest rate derivatives of~~€~~71.8 million, interest expense relating to our Stendal mill of~~€~~56.8 million, the unrealized non-cash foreign exchange loss on our long-term debt of~~€~~4.2 million and the non-cash impairment charge of~~€~~1.7 million relating to investments, partially offset by a non-cash benefit for income taxes of~~€~~13.1 million.~~

share. In 2006, net income including discontinued operations was€~~63.2~~ €63.2 million, or€~~1.90~~ €1.90 per basic and€~~1.58~~ €1.58 per diluted share.

In ~~2005, the net loss including discontinued operations was~~€~~117.1 million, or~~€~~3.75 per basic and diluted share.~~

~~In 2006,~~2007, “Operating EBITDA” ~~increased~~decreased to€~~148.3~~ €126.2 million from€~~69.8~~ €148.3 million in ~~2005.~~2006. Operating EBITDA is defined as operating income (loss) from continuing operations plus depreciation and amortization and non-recurring capital asset impairment charges. Operating EBITDA is calculated by adding depreciation and amortization and non-recurring capital asset impairment charges of€~~55.8~~ €56.7 million and€~~51.2~~ €55.8 million to the operating income from continuing operations of€~~92.5~~ €69.6 million and€~~18.7~~ €92.5 million for the years ended December 31, ~~2006~~2007 and ~~2005,~~2006, respectively.

Management uses Operating EBITDA as a benchmark measurement of its own operating results, and as a benchmark relative to its competitors. Management considers it to be a meaningful supplement to operating income as a performance measure primarily because depreciation expense and non-recurring capital asset impairment charges are not an actual cash cost, and depreciation expense varies widely from company to company in a manner that management considers largely independent of the underlying cost efficiency of their operating facilities. In addition, we believe Operating EBITDA is commonly used by securities analysts, investors and other interested parties to evaluate our financial performance.

Operating EBITDA does not reflect the impact of a number of items that affect our net income (loss), including financing costs and the effect of derivative instruments. Operating EBITDA is not a measure of financial performance under GAAP, and should not be considered as an alternative to net income (loss) or income (loss) from operations as a measure of performance, nor as an alternative to net cash from operating activities as a measure of liquidity.

Operating EBITDA has significant limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are that Operating EBITDA does not reflect: (i) our cash expenditures, or future requirements, for capital expenditures or contractual commitments; (ii) changes in, or cash requirements for, working capital needs; (iii) the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our outstanding debt; (iv) minority

interests on our Stendal NBSK pulp mill operations; (v) the impact of realized or marked to market changes in our derivative positions, which can be substantial; and (vi) Operating EBITDA does not reflect the impact of impairment charges against our investments or assets. Because of these limitations, Operating EBITDA should only be considered as a supplemental performance measure and should not be considered as a measure of liquidity or cash available to us to invest in the growth of our business. See the Statement of Cash Flows set out in our consolidated financial statements included herein. Because all companies do not calculate Operating EBITDA in the same manner, Operating EBITDA as calculated by us may differ from Operating EBITDA or EBITDA as calculated by other companies. We compensate for these limitations by using Operating EBITDA as a supplemental measure of our performance and relying primarily on our GAAP financial statements.

The following table provides a reconciliation of net income ~~(loss)~~ from continuing operations to operating income from continuing operations and Operating EBITDA for the periods indicated:

Years Ended December 31,

2006 2005

(in thousands)
Net income (loss) from continuing operations € 69,242 € (112,058 )
Minority interest 1,071 (17,674 )
Income taxes provision (benefit) 57,443 (13,140 )
Interest expense 91,931 86,326
Investment income (6,090 ) (2,422 )
Derivative financial instruments, net (105,848 ) 71,763
Foreign exchange (gain) loss on debt (15,245 ) 4,156
Impairment of investments — 1,699

Operating income from continuing operations 92,504 18,650
Add: Depreciation and amortization 55,834 51,160

Operating EBITDA € 148,338 € 69,810


	Years Ended December 31,
	2007			2006
	(in thousands)

Net income from continuing operations	€	22,389		€	69,242
Minority interest		1,251			1,071
Income taxes provision		10,314			57,443
Interest expense		71,400			91,931
Investment income		(4,453	)		(6,090	)
Derivative financial instruments, net		(20,357	)		(105,848	)
Foreign exchange gain on debt		(10,958	)		(15,245	)

Operating income from continuing operations		69,586			92,504
Add: Depreciation and amortization		56,658			55,834

Operating EBITDA	€	126,244		€	148,338

Year Ended December 31, ~~2005~~2006 Compared to Year Ended December 31, ~~2004~~2005

In the year ended December 31, ~~2005,~~2006, revenues increased by approximately ~~148%~~38% to€~~452.4~~ €624.0 million from€~~182.2~~ €452.4 million in ~~2004,~~2005, primarily as a result of higher pulp prices and higher sales volumes at our Stendal and Celgar mills. Pulp prices increased steadily in 2006 primarily as a result of the ~~inclusion~~closure of ~~a full year~~several pulp mills, particularly in North America, which reduced NBSK capacity by approximately 1.2 million ADMTs, better demand and the general weakness of ~~sales at our Stendal mill~~the U.S. dollar against the Euro and ~~sales from our Celgar mill from February 2005. Pulp sales by volume increased to 1,101,304 ADMTs in 2005 from 421,716 ADMTs in 2004. In~~ the ~~year ended December 31, 2005, the Stendal and Celgar mills sold 783,133 ADMTs of NBSK pulp and had sales of~~€~~315.2 million.~~Canadian dollar. List prices for NBSK pulp in Europe were approximately€~~490 ($610)~~ $680 (€542) per ADMT in 2006, compared to approximately $610 (€490) per ADMT in 2005. At the end of 2006, list prices increased to approximately $730 (€553) per ADMT in Europe and between $700 (€530) and $730 (€553) per ADMT in Asia, depending upon the country of delivery. At December 31, 2006, Norscan producers’ inventories for softwood kraft were at 24 days supply, compared to 30 days at the end of 2005.

Average pulp sales realizations increased to €465 per ADMT on average in 2006 from €407 per ADMT in 2005, ~~compared to approximately~~€~~496 ($616) per ADMT in 2004. The decrease in NBSK~~primarily as a result of higher pulp prices was partially offset by the strengthening of the U.S. dollar versus the Euro in 2005. Norscan producers’ inventories at the end of 2005 remained largely unchanged from 2004 at about 30 days’ supply.prices.

~~Cost of sales~~

Operating costs and selling, general, administrative and other expenses increased to €531.5 million in the year ended December 31, ~~2005 increased to~~€~~433.8 million~~2006 from€~~190.4~~ €433.8 million in ~~the comparative period of 2004,~~2005, primarily as a result of ~~the inclusion~~higher sales volume, partially offset by a reversal of ~~a full year’s results~~accruals for wastewater fees of ~~our Stendal mill~~€13.0 million. In 2006, German environmental authorities confirmed that certain initiatives and ~~the results of our Celgar mill. We commenced expensing all of the costs, including interest, relating~~capital expenditures undertaken by us qualified to ~~the Stendal mill effective September 2004 when the mill was started up, prior to which most of the costs, including interest, relating to the Stendal mill were capitalized during its construction.~~offset such fees.

~~Pulp sales realizations decreased to~~€~~407 per ADMT on average in the year ended December 31, 2005 from~~€423 per ADMT in 2004, primarily as a result of lower price realizations of the Stendal and Celgar mills. The Stendal mill sold pulp at a discounted price as a result of its ramp up and the Celgar mill sold a large portion of its production in Asian markets which had lower prices than European markets.

Beginning in 2005, our German operations became subject to the European Union Emissions Trading Scheme, pursuant to which our German mills have been granted emission allowances. ~~In 2005, we sold some of these emission allowances for~~We recorded a ~~gain of~~€~~17.3 million, which contributed~~contribution to income from ~~operations.~~the sale of emission allowances of €15.6 million and €17.3 million in 2006 and 2005, respectively.

On average, our fiber costs for ~~pulp production at the Rosenthal mill decreased marginally~~our German mills increased by approximately 12% compared to ~~last~~2005 as a result of both a supply imbalance and increased demand. The supply imbalance resulted primarily from low harvest levels during the severe winter conditions in late 2005 and early 2006 in central Europe. Such low harvest levels were not made up over the course of the year. The increase in demand resulted from demand for wood residuals from alternative or renewable energy producers. These factors contributed to upward pressure on fiber prices in the latter

half of 2006 and for fiber deliveries into the start of 2007. Severe winter storms in central Europe in January 2007 reportedly caused the downfall of over 40 million cubic meters of wood. This wood will need to be harvested and processed in a timely manner and we expect this to increase the fiber supply to our German mills and to temper and moderate fiber prices in the second half of 2007. In 2006, fiber costs for our Celgar mill increased by approximately 10% over the prior year, primarily because of fluctuations in regional wood chip availability caused by slumping North American lumber markets.

~~Depreciation~~

Operating depreciation and amortization for the pulp operations increased to€~~51.2~~ €55.8 million in the current period, from€~~26.8~~ €50.9 million in ~~2004,~~2005, primarily as a result of€~~37.8 million~~ the inclusion of a full year of depreciation ~~from the Stendal and~~at our Celgar ~~mills.~~mill.

For the year ended December 31, ~~2005, we generated~~2006, operating income of€~~18.7~~increased almost fourfold to €92.5 million ~~versus an operating loss of~~€~~8.2~~from €18.7 million in ~~2004,~~the prior year, primarily as a result of overall higher ~~operating income~~pulp prices and sales volumes and improved productivity at our ~~German pulp mills including income from operations of~~€~~8.3 million from our~~ Stendal ~~mill, partially offset by an operating loss at our~~and Celgar ~~mill. The overall strength of the Canadian dollar versus the U.S. dollar in 2005 negatively impacted the results of our Celgar mill.~~mills.

Interest expense in the year ended December 31, ~~2005~~2006 increased to€~~86.3~~ €91.9 million from€~~23.2~~ €86.3 million a year ago ~~due to~~because of the inclusion of a full year’s interest ~~associated with~~on our ~~$310 million~~ senior ~~note issue completed~~notes issued in February 2005 and ~~higher borrowings relating to~~€2.1 million of interest expense recorded on the ~~Stendal mill. We capitalized most~~repurchase of ~~the interest relating to the Stendal mill prior to its start up in mid-September 2004.~~approximately $15.2 million principal amount of our convertible notes.

In ~~2005, Stendal entered into certain foreign currency derivatives to swap all of its long-term bank indebtedness from Euros to U.S. dollars and certain currency forwards. Due~~2006, due to the strengthening of the ~~U.S. dollar~~Euro versus the ~~Euro in 2005,~~U.S. dollar, we recorded a net unrealized non-cash holding ~~loss~~gain of€~~66.1~~ €72.1 million before minority interests upon the marked to market valuation of ~~the~~our outstanding Currency ~~Derivatives that were outstanding at the end of the 2005 period and~~Derivatives. In 2006, we also recorded a net realized loss of€~~2.2~~ €3.5 million before minority interests in respect of Currency Derivatives that we settled during the period. In 2005, due to the strengthening of the U.S. dollar versus the Euro, we recorded a net unrealized non-cash holding loss of €66.1 million before minority interests upon the marked to market valuation of outstanding Currency Derivatives. In 2005, we also recorded a net realized loss of €2.2 million before minority interests in respect of such derivatives that ~~matured~~were settled during the period.

In ~~2004, we recorded a realized gain of~~€44.5 million before minority interests upon the settlement of the currency derivatives relating to the Stendal and Rosenthal mills due to the weakening of the U.S. dollar versus the Euro in 2004. In 2005,2006, as a result of ~~a decrease~~an increase in long-term European interest rates, we also recorded an unrealized non-cash holding ~~loss~~gain of€~~3.2~~ €37.3 million before minority interests on the marked to market valuation of the Stendal Interest Rate Contracts. In 2005, we recorded an unrealized non-cash loss on the Stendal Interest Rate Contracts of €3.2 million and a ~~net~~ realized loss of€~~0.3~~ €0.3 million ~~before minority interests~~ upon the settlement of the Rosenthal forward interest rate and interest cap contracts, or the “Rosenthal Interest Rate ~~Contracts. In 2004, we recorded~~Contracts”, in respect of a ~~net unrealized non-cash holding loss~~portion of€32.3 million before minority interests on the marked to market valuation of the Rosenthal and Stendal Interest Rate Contracts. See “Quantitative and Qualitative Disclosures About Market Risk” for more information about our derivatives. its long-term indebtedness under its previous project loan facility. We also recorded an unrealized

non-cash foreign exchange ~~loss~~gain on our long-term debt of€~~4.2~~ €15.2 million in ~~2005~~2006 due to the ~~weakening~~strengthening of the Euro versus the U.S. ~~dollar.~~dollar, compared to an unrealized loss of €4.2 million thereon in 2005.

In the year ended December 31, ~~2005,~~2006, minority interest, representing the minority shareholder’s proportionate interest in the Stendal mill, was€~~17.7~~ €1.1 million, compared to€~~2.5~~ €17.7 million in ~~2004.~~

~~On May 6,~~2005. In 2005, ~~our management determined to record, and our Audit Committee approved,~~we recorded an adjustment of€~~1.7~~ €1.7 million for the non-cash impact of other-than-temporary impairment losses on our available-for-sale securities and a ~~loan receivable that relate to an investment in a venture company,~~loan.

We reported net income for 2006 of €69.2 million, or €2.08 per basic and €1.72 per diluted share, which was a legacy investment that we had held since approximately 1996. In April 2005, the venture company proposed to place itself into liquidation. As a result, management determined to record impairment charges sufficient to reduce its investment toreflected higher pulp prices and generally stronger pulp markets and the net ~~amount estimated to be recovered. We do not currently expect the impairment charge to result in any future cash expenditures.~~

Wegains on our currency and interest rate derivatives of €68.6 million and €37.3 million. In 2005, we reported a net loss ~~for the year ended December 31, 2005~~ of€~~112.1~~ €112.1 million, or€~~3.59~~ €3.59 per basic and diluted share, which reflected generally weak pulp markets, the realized and unrealized net losses on our currency and interest rate derivatives of€~~71.8~~ €71.8 million, interest expense relating to our Stendal mill of€~~56.8~~ €56.8 million, the unrealized non-cash foreign exchange loss on our long-term debt of€~~4.2~~ €4.2 million and the non-cash impairment charge of€~~1.7~~ €1.7 million relating to investments, partially offset by a non-cash benefit for income taxes of€~~13.1~~ €13.1 million.

In ~~2004, we reported~~2006, net income of€~~30.1~~including discontinued operations was €63.2 million, or€~~1.73~~ €1.90 per basic ~~share~~ and€~~1.25~~ €1.58 per diluted ~~share, which included an income tax benefit of~~€~~44.2~~share. In 2005, the net loss including discontinued operations was €117.1 million, ~~relating~~or €3.75 per basic and diluted share.

In 2006, Operating EBITDA increased to ~~a reorganization of certain of our subsidiary companies.~~

~~We generated “Operating EBITDA” of~~€~~69.8~~€148.3 million ~~and~~€~~18.6~~from €69.8 million in ~~the years ended December 31, 2005 and 2004, respectively.~~2005. Operating EBITDA is defined as operating income (loss) from continuing operations plus depreciation and amortization and ~~non-recurring~~non-

recurring capital asset impairment charges. Operating EBITDA is calculated by adding depreciation and amortization and non-recurring capital asset impairment charges of€~~51.2~~ €55.8 million and€~~26.8~~ €51.2 million to the operating income from continuing operations of€~~18.7~~ €92.5 million and ~~operating loss from continuing operations of~~€~~8.2~~€18.7 million for the years ended December 31, ~~2005~~2006 and ~~2004,~~2005, respectively.

Operating EBITDA has significant limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. See the discussion of our results for the year ended December 31, ~~2006~~2007 for additional information relating to such limitations and Operating EBITDA.

The following table provides a reconciliation of net income (loss) ~~income~~ from continuing operations to operating income ~~(loss)~~ from continuing operations and Operating EBITDA for the periods indicated:

Years Ended
December 31,

2005 2004

(in thousands)
Net (loss) income from continuing operations € (112,058 ) € 30,139
Minority interest (17,674 ) (2,454 )
Income taxes benefit (13,140 ) (44,163 )
Interest expense 86,326 23,185
Investment income (2,422 ) (2,772 )
Derivative financial instruments, net 71,763 (12,136 )
Foreign exchange loss on debt 4,156 —
Impairment of investments 1,699 —

Operating income (loss) from continuing operations 18,650 (8,201 )
Add: Depreciation and amortization 51,160 26,788

Operating EBITDA € 69,810 € 18,587


	Years Ended December 31,
	2006			2005
	(in thousands)

Net income (loss) from continuing operations	€	69,242		€	(112,058	)
Minority interest		1,071			(17,674	)
Income taxes provision (benefit)		57,443			(13,140	)
Interest expense		91,931			86,326
Investment income		(6,090	)		(2,422	)
Derivative financial instruments, net		(105,848	)		71,763
Foreign exchange (gain) loss on debt		(15,245	)		4,156
Impairment of investments		—			1,699

Operating income from continuing operations		92,504			18,650
Add: Depreciation and amortization		55,834			51,160

Operating EBITDA	€	148,338		€	69,810

Sensitivities

Our earnings are sensitive to, among other things, fluctuations in:

NBSK Pulp Price. NBSK pulp is a global commodity that is priced in U.S. dollars, whose markets are highly competitive and cyclical in nature. As a result, our earnings are sensitive to NBSK pulp price changes. Based upon our 2007 sales volume (and assuming all other factors remained constant), each $10.00 per tonne change in NBSK pulp prices yields a change in Operating EBITDA of approximately €10.0 million.

Foreign Exchange. As NBSK pulp is principally quoted in U.S. dollars, the amount of revenues we generate fluctuates with changes in the value of the U.S. dollar to the Euro. Based upon our 2007 revenues, each €0.01 change in the value of the U.S. dollar yields a change in annual gross sales revenue of approximately €10.0 million.

Liquidity and Capital Resources

The following table is a summary of selected financial information for the periods indicated:

Years Ended December 31,

2006 2005

(in thousands)
Financial Position

Cash and cash equivalents € 69,367 € 82,775
Working capital(1) 101,630 113,078
Property, plant and equipment 972,143 1,015,363
Total assets(1) 1,300,500 1,371,908
Long-term liabilities 963,791 1,104,746
Shareholders’ equity 218,801 148,743


	Years Ended December 31,
	2007		2006
	(in thousands)

Financial Position
Cash and cash equivalents	€	84,848	€	69,367
Working capital		168,743		101,630	(1)
Property, plant and equipment		933,258		972,143
Total assets		1,283,517		1,300,500	(1)
Long-term liabilities		885,339		963,791
Shareholders’ equity		276,662		218,801


(1)		Excluding assets and liabilities of discontinued operations.

At December 31, ~~2006,~~2007, our cash and cash equivalents were€~~69.4~~ €84.8 million, compared to€~~82.8~~ €69.4 million at the end of ~~2005.~~2006. We also had€~~57.0~~ €33.0 million of cash restricted in a debt service account related to the financing for the Stendal mill, compared to€~~31.6~~ €57.0 million as at the end of ~~2005.~~2006.

We expect to meet our interest and debt service expenses and the working and maintenance capital requirements for our operations from cash flow from operations, cash on hand and the revolving working capital loan facilities for our mills.

Operating Activities

We operate in a cyclical industry and our operating cash flows vary accordingly. Our principal operating cash expenditures are for ~~compensation,~~labor, fiber, chemicals and debt service.

Operating activities in ~~2006~~2007 provided cash of€~~49.2~~ €19.1 million, compared to€~~11.3~~ €49.2 million in ~~2005.~~2006. An increase in receivables due primarily to higher pulp sales used cash of€~~7.4~~ €11.9 million in ~~2006,~~2007, compared to€~~18.8~~ €7.4 million in ~~2005. A~~2006. An increase in inventories used cash of €38.7 million in 2007, primarily due to the build up of fiber supply at our three mills, compared to a reduction in inventories ~~provided~~providing cash of€~~7.4~~ €7.4 million in ~~2006, compared to an~~2006. An increase ~~using cash of~~€~~4.2 million in 2005. A decrease~~ in accounts payable and accrued expenses ~~primarily due to the reversal~~provided cash of ~~accrued wastewater fees used cash of~~€~~9.3~~€3.3 million in ~~2006,~~2007, compared to ~~an increase therein providing~~a reduction thereof using cash of€~~50.6~~ €9.3 million in ~~2005.~~2006.

Working capital is subject to cyclical operating needs, the timing of collection of receivables and the payment of payables and expenses.

Investing Activities

Investing activities in 2007 provided cash of €25.0 million, primarily due to a drawdown of €24.0 million from our debt service reserve account under the Stendal Loan Facility to repay principal. The repayment of notes receivable provided cash of €5.0 million. Investing activities in 2006 used cash of€~~62.2~~ €62.2 million, primarily related to the purchase of property, plant and equipment at our pulp mills of€~~32.9~~ €32.9 million and a build up in our Stendal mill’s debt service reserve account of€~~25.4 million. Investing activities in 2005 used cash of~~€~~108.2 million primarily related to the Acquisition of the Celgar mill which used cash of~~€~~146.6 million and the purchase of property, plant and equipment primarily attributable to the Stendal mill which used cash of~~€~~22.0 million and the purchase of available for sale securities, partially offset by a decrease in restricted cash which provided cash of~~€~~61.2~~ €25.4 million.

We expect capital expenditures in ~~2007~~2008 to total approximately€~~20.5~~ €20.8 million. This level of capital expenditures could increase or decrease as a result of a number of factors, including our financial results and future economic conditions. Our planned capital spending in ~~2007~~2008 will be for efficiency and quality improvement projects, replacement projects and ~~on-going~~ongoing environmental compliance.

Financing Activities

Financing activities ~~provided cash of~~€~~1.0 million in the year ended December 31, 2006, compared to~~€~~126.9 million in 2005. In 2006, net repayment of debt~~ used cash of€~~9.8~~ €30.7 million in 2007 primarily due to the principal repayments of the Stendal Loan Facility of €33.9 million, of which €24.0 million was funded from the restricted cash Stendal debt service account and the repayment of capital ~~leases used cash~~lease obligations of€~~4.1~~ €5.6 million. In 2006, ~~we received~~financing activities provided cash of €1.0 million primarily due to the receipt of the last ~~of the~~ outstanding ~~government grants related to~~

~~the Stendal mill of~~€9.1 million. Under our accounting policies, we do not record these grants until they are received. The grants are not reported in our income and reduce the cost basis of the assets purchased when they are received. In 2005, the issuance of shares primarily in connection with the Acquisition of the Celgar mill provided cash of€~~66.6 million. In 2005, we fully repaid our project loan facility and indebtedness relating to a landfill for our Rosenthal mill in the aggregate amount of~~€~~150.7 million from the proceeds of the share and senior note offerings in connection with the Acquisition. In 2005, we received~~ government grants related to the Stendal mill of€~~84.7~~ €9.1 million which were offset by the net repayment of debt of €9.8 million and the repayment of capital lease obligations of €4.1 million.

As at December 31, ~~2006,~~2007, we had drawn down none of the€~~40.0~~ €40.0 million revolving term credit facility relating to the Rosenthal mill and C$~~12.2~~22.0 million under the C$40.0 million revolving credit facility relating to the Celgar mill.

We have no material commitments to acquire assets or operating businesses. We anticipate that there will be acquisitions of businesses or commitments to projects in the future. To achieve our long-term goals of expanding our asset and earnings base through the acquisition of interests in companies and assets in the pulp and related businesses, and organically through high return capital expenditures at our operating facilities, we will require substantial capital resources. The required necessary resources for such long-term goals will be generated from cash flow from operations, cash on hand, the sale of securitiesand/or assets, and borrowing against our assets. ~~In addition, we have amounts available under a revolving tranche of the Stendal Loan Facility, and the two revolving working capital facilities established for the Rosenthal and Celgar mills.~~

Discontinued Operations

Our discontinued operations consist of two paper mills in Germany that had an aggregate annual production capacity of approximately 70,000 ADMTs. Since we viewed these paper mills as non-core operations, we successfully divested them in 2006 and now account for them as discontinued operations.

The following represents the results of our discontinued operations for the periods indicated:

Years Ended December 31,

2006 2005 2004

(in thousands)
Revenues € 46,351 € 61,471 € 54,970
Gain (loss) from discontinued operations 394 (2,306 ) (9,771 )
Net loss on sale of discontinued operations (5,957 ) — —
Net loss (6,032 ) (5,088 ) (10,159 )


	Years Ended December 31,
	2007			2006			2005
	(in thousands)

Revenues	€	128		€	46,351		€	61,471
Operating income (loss) from discontinued operations		(210	)		394			(2,306	)
Net loss on disposal of discontinued operations		—			(5,957	)		—
Net loss		(210	)		(6,032	)		(5,088	)

The following represents the statement of cash flows of our discontinued operations for the periods indicated:

Years Ended
December 31,

2006 2005

(in thousands)
Cash flow from operating activities € (2,121 ) € (347 )
Cash flow from investing activities 5,944 (1,200 )
Cash flow from financing activities (4,158 ) (700 )


	Years Ended December 31,
	2007			2006
	(in thousands)

Cash flows used in operating activities	€	(1,519	)	€	(2,121	)
Cash flows from investing activities		1,260			5,944
Cash flows used in financing activities		—			(4,158	)

See Note 18, Discontinued Operations, of the consolidated financial statements and related notes contained in this annual report for additional information relating to the discontinued operations.

Contractual Obligations and Commitments

The following table sets out our contractual obligations and commitments as at December 31, ~~2006~~2007 in connection with our long-term liabilities.

Payments Due By Period

Contractual Obligations 2007 2008-2009 2010-2011 Beyond 2011 Total

(in thousands)
Long-term debt(1) € — € 14,660 € 50,962 € 243,209 € 308,831
Debt, Stendal(2) 33,903 70,622 83,801 410,674 599,000
Capital lease obligations(3) 5,392 5,022 1,661 — 12,075
Operating lease obligations(4) 905 696 138 — 1,739
Purchase obligations(5) 83,203 4,124 4,112 8,590 100,029
Other long-term liabilities(6) 376 427 16 13 832

Total € 123,779 € 95,551 € 140,690 € 662,486 € 1,022,506


	Payments Due By Period
Contractual Obligations	2008		2009-2010		2011-2012		Beyond 2012		Total
	(in thousands)

Long-term debt(1)	€	—	€	61,304	€	—	€	212,285	€	273,589
Debt, Stendal(2)		34,023		76,433		91,587		374,224		576,267
Capital lease obligations(3)		3,680		3,223		1,579		1,815		10,297
Operating lease obligations(4)		731		839		140		1		1,675
Purchase obligations(5)		39,152		6,348		1,707		5,905		53,112
Other long-term liabilities(6)		2,273		4,123		4,487		13,455		24,338

Total(7)	€	79,859	€	152,270	€	99,464	€	607,685	€	939,278


(1)		This reflects principal only relating primarily to indebtedness under credit facilities relating to the pulp mills, but does not reflect indebtedness relating to the Stendal mill. See ~~“Business~~“Item 1 — Business — Description of Certain Indebtedness”, footnote 2 below and Note 8 to our annual financial statements included herein for a description of such indebtedness. See ~~“Quantitative~~“Item 7A — Quantitative and Qualitative Disclosure about Market Risk” for information about our derivatives.

(2)		This reflects principal only in connection with indebtedness relating to the Stendal mill, including under the Stendal Loan Facility and convertible notes. See ~~“Business~~“Item 1 — Business — Description of Certain Indebtedness” and Note 8 to our annual financial statements included herein for a description of such indebtedness. ~~Does~~This does not include amounts associated with derivatives entered into in connection with the Stendal Loan Facility. See ~~“Quantitative~~“Item 7A — Quantitative and Qualitative Disclosure about Market Risk” for information about our derivatives.

(3)		Capital lease obligations relate to transportation vehicles and production equipment. These amounts reflect principal and interest.

(4)		Operating lease obligations relate to transportation vehicles and other production and office equipment.

(5)		Purchase obligations relate primarily to take-or-pay contracts, including for purchases of raw materials, made in the ordinary course of business.

(6)		Other long-term liabilities relate primarily to pension liability. Does not include obligations under employment agreements.
(7)		We have identified approximately €4.0 million of potential tax liabilities that are more likely than not to be paid. However, due to the uncertain timing related to the potential liabilities, we are unable to allocate the payments in the contractual obligations table.

Capital Resources

In addition to ~~the~~our current revolving credit facilities for the Rosenthal and Celgar mills, ~~and the revolving working capital tranche of the Stendal Loan Facility, respectively,~~ we may seek to raise future funding in the debt markets if our indenture relating to our 9.25% senior notes permits, and subject to compliance with the indenture. The indenture governing the senior notes contains various restrictive covenants, including several that are based on a formulation of the financial measure EBITDA, which is net income (loss) adjusted to exclude interest, taxes, depreciation and amortization, certain non-cash charges and extraordinary or otherwise unusual gains or losses, and certain other items. We refer to this formulation of EBITDA as “Indenture EBITDA” which is defined in the senior note indenture as Consolidated EBITDA.

terms thereunder. The indenture governing the senior notes provides that, in order for Mercer Inc. and its restricted subsidiaries (as defined in the ~~indenture)~~indenture and which excludes the Stendal mill and, up to December 31, 2006, our discontinued operations) to enter into certain types of transactions, including the incurrence of additional indebtedness, the making of restricted payments and the completion of mergers and consolidations (other than, in each case, those specifically permitted by our senior note indenture), we must meet a minimum ratio of Indenture EBITDA to Fixed Charges, as defined in the senior note indenture, of 2.0 to 1.0 on a pro forma basis for the most recently ended four full fiscal quarters. ~~This ratio is referred to and defined as the Fixed Charge Coverage Ratio in the senior note indenture.~~

For a description of our senior notes and credit facilities, see “Item 1.1 — Business — Description of Certain Indebtedness”.

Foreign Currency

Our reporting currency is the Euro as a ~~significant~~ majority of our business transactions are ~~originally~~ denominated in Euros. ~~By using the Euro, most cumulative foreign currency translation losses are eliminated.~~ However, we hold certain assets and liabilities in U.S. dollars and Canadian ~~dollars and, to a lesser extent, Swiss~~

~~francs.~~dollars. Accordingly, our consolidated financial results are subject to foreign currency exchange rate fluctuations.

We translate foreign denominated assets and liabilities into Euros at the rate of exchange on the balance sheet date. Unrealized gains or losses from these translations are recorded in our consolidated statement of comprehensive income and impact on shareholders’ equity on the balance sheet but do not affect our net earnings.

In the year ended December 31, ~~2006,~~2007, we reported a net€~~11.3~~ €29.2 million foreign exchange translation ~~loss~~income and, as a result, the cumulative foreign exchange translation gain reported within comprehensive income ~~decreased~~increased to€~~4.3~~ €41.1 million at December 31, ~~2006~~2007 from€~~15.6~~ €11.9 million at December 31, ~~2005.~~2006.

Based upon the exchange rate at December 31, ~~2006,~~2007, the U.S. dollar has decreased by approximately 11% in value against the Euro since December 31, ~~2005.~~2006. See “Item ~~7A.~~7A — Quantitative and Qualitative Disclosures about Market Risk”.

Results of Operations of the Restricted Group Under Our Senior Note Indenture

The indenture governing our 9.25% senior notes requires that we also provide a discussion in annual and quarterly reports we file with the SEC under ~~“Management’s~~Management’s Discussion and Analysis of Financial Condition and Results of ~~Operations”~~Operations of the results of operations and financial condition of Mercer Inc. and our restricted subsidiaries under the indenture, referred to as the “Restricted Group”. ~~As at and during the year ended December 31, 2006, the~~The Restricted Group ~~was~~is comprised of Mercer Inc., certain holding subsidiaries, ~~and~~ Rosenthal and the Celgar mill from the time of its Acquisition in February 2005. As at and during the years ended December 31, 2005 and 2004, the Restricted Group was comprised of Mercer Inc., certain holding subsidiaries and Rosenthal, which was the only member of the Restricted Group with material operations during such periods. The results of the Celgar pulp mill are included since the date of its acquisition in February 2005 and are not included in the discussion relating to the Restricted Group for 2004.mill. The Restricted Group excludes our Stendal mill and, up to December 31, 2006, our discontinued operations.

The following is a discussion of the results of operations and financial condition of the Restricted Group. For further information regarding the Restricted Group including, without limitation, a reconciliation to our consolidated results of operations, see Note 20 of our annual financial statements included ~~elsewhere~~ herein.

Restricted Group Results — Year Ended December 31, 2007 Compared to Year Ended December 31, 2006

Revenues for the Restricted Group in 2007 increased to €401.3 million from €361.0 million in 2006, primarily because of higher prices and sales volumes. Average pulp sales realizations for the Restricted Group increased to €524 per ADMT on average in the year ended December 31, 2007 from €472 per ADMT in 2006. The increase in pulp prices was partially offset by the weakening of the U.S. dollar which decreased in value by approximately 8% and 5% against the Euro and the Canadian dollar, respectively, during the period.

Operating costs and selling, general, administrative and other expenses for the Restricted Group in 2007 increased to €364.6 million from €326.6 million in the comparative period of 2006, primarily as a result of increased fiber costs and higher sales volume.

Operating depreciation and amortization for the Restricted Group in 2007 increased marginally to €28.7 million from €27.8 million in 2006.

During 2007, we took an aggregate of 21 days scheduled annual maintenance downtime at our Rosenthal and Celgar mills. During 2006, our Rosenthal and Celgar mills took approximately 34 days of scheduled maintenance and strategic capital expenditure downtime, during which Rosenthal completed the installation of a new brownstock washer.

During the scheduled maintenance downtime at Celgar, we implemented the final phase of our Blue Goose capital project consisting of the dryer capacity expansion. These changes have shown improvements in production capacity and operational efficiencies, as evidenced by Celgar achieving daily, monthly and quarterly production records during the year.

The markets and prices for emission allowances continue to be weak, and as a result our contribution to income from the sale of such emission allowances by our Rosenthal pulp mill in 2007 was €1.6 million, compared to €4.9 million in 2006.

Overall, fiber costs of the Restricted Group increased by approximately 33% in 2007 versus the same period of 2006 as a result of both a supply imbalance and increased demand. In Germany, the supply imbalance resulted from low harvesting levels in late 2005 and 2006 which were not made up during the course of the year. Increased demand in Germany resulted from higher consumption of wood residuals by renewable energy suppliers. A strong European lumber market at the beginning of 2007 provided some price relief in the middle of the year. Overall, we currently expect fiber prices to be generally level for the balance of the year but continued weakness in lumber markets may put upward pressure on prices in early 2008.

In 2007, income from operations of the Restricted Group increased to €36.7 million from €34.4 million last year, primarily as a result of higher pulp prices, partially offset by higher fiber prices and a weakening U.S. dollar.

Interest expense for the Restricted Group in 2007 decreased to €28.5 million from €34.4 million a year ago as a result of lower borrowings and the inclusion in 2006 of €2.1 million of interest expense recorded on the repurchase of convertible notes.

The Restricted Group did not have any currency derivatives outstanding during 2006 that materially affected its results. In 2007, the Restricted Group recorded an unrealized non-cash foreign exchange gain on debt and distributions of €10.6 million, compared to €15.2 million in 2006.

The net income for the Restricted Group for the year ended December 31, 2007 was €17.7 million, which reflected improved markets and an unrealized non-cash foreign exchange gain on debt of €10.6 million. In 2006, the Restricted Group reported net income of €9.4 million, which reflected improved markets and an unrealized non-cash foreign exchange gain on debt of €15.2 million.

The Restricted Group generated “Operating EBITDA” of €65.6 million and €62.2 million in the years ended December 31, 2007 and 2006, respectively. Operating EBITDA is defined as operating income (loss) from continuing operations plus depreciation and amortization and non-recurring capital asset impairment charges. Operating EBITDA for the Restricted Group is calculated by adding depreciation and amortization and non-recurring capital asset impairment charges of €28.9 million and €27.8 million to the income from operations of €36.7 million and €34.4 million for the years ended December 31, 2007 and 2006, respectively.

Operating EBITDA has significant limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. See the discussion of our results for the year ended December 31, 2007 for additional information relating to such limitations and Operating EBITDA.

The following table provides a reconciliation of net income from continuing operations to operating income from continuing operations and Operating EBITDA for the Restricted Group for the periods indicated:


	Years Ended December 31,
	2007			2006
	(in thousands)

Restricted Group(1)
Net income from continuing operations	€	17,702		€	9,351
Income taxes benefit		6,428			11,258
Interest expense		28,472			34,354
Investment and other income		(5,303	)		(5,316	)
Foreign exchange gain on debt		(10,629	)		(15,245	)

Operating income from continuing operations		36,670			34,402
Add: Depreciation and amortization		28,919			27,819

Operating EBITDA	€	65,589		€	62,221


(1)		See Note 20 of the financial statements included elsewhere herein for a reconciliation to our consolidated results.

Restricted Group Results — Year Ended December 31, 2006 Compared to Year Ended December 31, 2005

Total revenues for the Restricted Group for the year ended December 31, 2006 increased to€~~361.0~~ €361.0 million from€~~276.4~~ €276.4 million in the comparative period of 2005, primarily because of higher pulp sales and the inclusion of a full year of sales for the Celgar mill. ~~Pulp~~Average pulp sales realizations for the Restricted Group increased to€~~472~~ €472 per ADMT on average in the year ended December 31, 2006 from€~~413~~ €413 per ADMT in 2005, primarily as a result of higher sales prices.

~~Costs of sales~~

Operating costs and selling, general, administrative and other expenses for the Restricted Group in the year ended December 31, 2006 increased to€~~326.6~~ €326.6 million from€~~265.7~~ €265.7 million in the comparative period of 2005, primarily as a result of higher sales volumes.

Depreciation for the Restricted Group was€~~27.8~~ €27.8 million in the current period, versus€~~23.9~~ €23.9 million in 2005, primarily as a result of the inclusion of a full year of depreciation for the Celgar mill.

In the year ended December 31, 2006, income from operations of the Restricted Group increased to€~~34.4~~ €34.4 million from€~~10.7~~ €10.7 million last year, primarily as a result of higher prices and improved results at our Celgar mill. Interest expense for the Restricted Group in 2006 increased to€~~34.4~~ €34.4 million from€~~32.4~~ €32.4 million a year ago, primarily due to the inclusion of a full year’s interest on outstanding senior notes issued in February 2005 and€~~2.1~~ €2.1 million of interest expense recorded on the repurchase of approximately $15.2 million principal amount of our convertible notes.

In 2005, the Restricted Group recorded a non-cash impairment charge of€~~1.7~~ €1.7 million related to a legacy investment in a venture company.

In 2005, the Restricted Group had a marginal unrealized non-cash holding loss on the marked to market valuation of the interest rate derivatives related to the Rosenthal mill. The Restricted Group did not have any currency derivatives outstanding during 2006 that materially affected its results. In addition, the Restricted Group recorded an unrealized non-cash foreign exchange gain on debt of€~~15.2~~ €15.2 million in 2006.

The net income for the Restricted Group for the year ended December 31, 2006 was€~~9.4~~ €9.4 million, which reflected improved markets and an unrealized non-cash foreign exchange gain on debt of€~~15.2~~ €15.2 million. In 2005, the Restricted Group reported a net loss of€~~25.2~~ €25.2 million, which reflected generally weak markets, higher interest expense of€~~32.4~~ €32.4 million, the unrealized non-cash foreign exchange loss on debt of€~~4.2~~ €4.2 million and the non-cash impairment charge of€~~1.7~~ €1.7 million on investments.

The Restricted Group generated “Operating EBITDA” of€~~62.2~~ €62.2 million and€~~34.6~~ €34.6 million in the years ended December 31, 2006 and 2005, respectively. Operating EBITDA is defined as operating income (loss) from continuing operations plus depreciation and amortization and non-recurring capital asset impairment charges.

Operating EBITDA for the Restricted Group is calculated by adding depreciation and amortization and non-recurring capital asset impairment charges of€~~27.8~~ €27.8 million and€~~23.8~~ €23.8 million to the income from operations of€~~34.4~~ €34.4 million and€~~10.7~~ €10.7 million for the years ended December 31, 2006 and 2005, respectively.

Operating EBITDA has significant limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. See the discussion of our results for the year ended December 31, ~~2006~~2007 for additional information relating to such limitations and Operating EBITDA.

The following table provides a reconciliation of net income (loss) from continuing operations to operating income from continuing operations and Operating EBITDA for the Restricted Group for the periods indicated:

Year Ended
December 31,

2006 2005

(in thousands)
Restricted Group(1)(2)

Net income (loss) from continuing operations(3) € 9,351 € (25,206 )
Income taxes benefit 11,258 1,161
Interest expense 34,354 32,352
Investment and other income (5,316 ) (3,742 )
Derivative financial instruments, net — 295
Foreign exchange (gain) loss on debt (15,245 ) 4,156
Impairment of investments — 1,699

Operating income from continuing operations 34,402 10,715
Add: Depreciation and amortization 27,819 23,898

Operating EBITDA € 62,221 € 34,613


	Years Ended December 31,
	2006			2005
	(in thousands)

Restricted Group(1)(2)
Net income (loss) from continuing operations(3)	€	9,351		€	(25,206	)
Income taxes benefit		11,258			1,161
Interest expense		34,354			32,352
Investment and other income		(5,316	)		(3,742	)
Derivative financial instruments, net		—			295
Foreign exchange (gain) loss on debt		(15,245	)		4,156
Impairment of investments		—			1,699

Operating income from continuing operations		34,402			10,715
Add: Depreciation and amortization		27,819			23,898

Operating EBITDA	€	62,221		€	34,613


(1)		The results of the Celgar mill are included from the date of its acquisition in February 2005.

(2)	~~See Note 20 of the financial statements included elsewhere herein for a reconciliation to our consolidated results.~~

~~(3)~~	~~For the Restricted Group net income (loss) from continuing operations and net income (loss) are the same.~~

~~Restricted Group Results — Year Ended December 31, 2005 Compared to Year Ended December 31, 2004~~

~~Total revenues for the Restricted Group for the year ended December 31, 2005 increased to~~€~~276.4 million from~~€~~142.2 million in the comparative period of 2004, primarily because of the inclusion of pulp sales from the Celgar mill. Pulp sales realizations for the Restricted Group decreased to~~€~~413 per ADMT on average in the year ended December 31, 2005 from~~€446 per ADMT in 2004, primarily as a result of lower sales prices realized by the Celgar mill, which sells a large portion of its production in Asian markets which had lower sales prices than European markets. The decrease in NBSK pulp prices was partially offset by the strengthening of the U.S. dollar versus the Euro in 2005.

~~Costs of sales and general, administrative and other expenses for the Restricted Group in the year ended December 31, 2005 increased to~~€~~265.7 million from~~€~~129.7 million in the comparative period of 2004, primarily as a result of the inclusion of the results of the Celgar mill, partially offset by lower production costs at the Rosenthal mill.~~

~~Depreciation for the Restricted Group was~~€~~23.9 million in 2005, versus~~€~~17.8 million in 2004, primarily as a result of the inclusion of depreciation of the Celgar mill, partially offset by lower depreciation at our Rosenthal mill.~~

~~In the year ended December 31, 2005, the Restricted Group reported income from operations of~~€~~10.7 million, compared to~~€12.4 million last year, primarily as a result of higher operating income from our Rosenthal mill, offset by an operating loss at our Celgar mill. The overall strength of the Canadian dollar versus the U.S. dollar in 2005 negatively impacted the results of our Celgar mill. Interest expense for the Restricted Group in the year ended December 31, 2005 increased to€~~32.4 million from~~€~~10.9 million a year ago, primarily due to higher borrowings resulting from our $310 senior note offering in February 2005.~~

~~On May 6, 2005, our management determined to record, and our Audit Committee approved, a non-cash impairment charge of~~€1.7 million related to an investment in a venture company, which is the last of a legacy investment that we have held since approximately 1996. We do not currently expect to incur any future cash expenditures related thereto.

~~In the year ended December 31, 2005, the Restricted Group realized a loss of~~€0.3 million on the settlement of the Rosenthal interest rate derivatives, versus a marginal unrealized non-cash holding loss on the marked to market valuation of the interest rate derivatives related to the Rosenthal mill in 2004. In the year ended December 31, 2004, the Restricted Group recorded a realized gain of approximately€13.2 million on the settlement of the currency derivatives related to the Rosenthal mill. The Restricted Group did not have any currency derivatives outstanding during 2005 that materially affected its results. In addition, the Restricted Group recorded an unrealized non-cash foreign exchange loss on debt of€~~4.2 million in 2005.~~

~~The net loss for the Restricted Group for the year ended December 31, 2005 was~~€~~25.2 million, which reflected generally weak markets, higher interest expense of~~€~~32.4 million, the unrealized non-cash foreign exchange loss on debt of~~€~~4.2 million and the non-cash impairment charge of~~€1.7 million on investments. The overall strength of the Canadian dollar versus the U.S. dollar in 2005 negatively impacted the results of our Celgar mill. In 2004, the Restricted Group reported net income of€~~35.1 million, which included an income tax benefit of~~€~~17.2 million relating to a reorganization of certain of our subsidiary companies and the gain on derivative instruments of~~€~~13.2 million.~~

~~The Restricted Group generated “Operating EBITDA” of~~€~~34.6 million and~~€30.2 million in the years ended December 31, 2005 and 2004, respectively. Operating EBITDA is defined as operating income (loss) from continuing operations plus depreciation and amortization and non-recurring capital asset impairment charges. Operating EBITDA for the Restricted Group is calculated by adding depreciation and amortization and non-recurring capital asset impairment charges of€~~23.9 million and~~€~~17.8 million to the income from operations of~~€~~10.7 million and~~€~~12.4 million for the years ended December 31, 2005 and 2004, respectively.~~

Operating EBITDA has significant limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. See the discussion of Mercer’s results for the year ended December 31, 2006 for additional information relating to such limitations and Operating EBITDA.

The following table provides a reconciliation of net (loss) income from continuing operations to operating income from continuing operations and Operating EBITDA for the Restricted Group for the periods indicated:

Year Ended
December 31,

2005 2004

(in thousands)
Restricted Group(1)(2)

Net (loss) income from continuing operations(3) € (25,206 ) € 35,113
Income taxes provision (benefit) 1,161 (17,235 )
Interest expense 32,352 10,941
Investment and other income (3,742 ) (3,132 )
Derivative financial instruments, net 295 (13,242 )
Foreign exchange loss on debt 4,156 —
Impairment of investments 1,699 —

Operating income from continuing operations 10,715 12,445
Add: Depreciation and amortization 23,898 17,766

Operating EBITDA € 34,613 € 30,211


~~(1)~~	~~The results of the Celgar mill are not included for 2004.~~

~~(2)~~	See Note 20 of the financial statements included elsewhere herein for a reconciliation to our consolidated results.

(3)		For the Restricted Group net income (loss) ~~income~~ from continuing operations and net income (loss) ~~income~~ are the same.

Liquidity and Capital Resources of the Restricted Group

The following table is a summary of selected financial information for the Restricted Group for the periods indicated:

Year Ended
December 31,

2006 2005

(in thousands)
Restricted Group Financial Position(1)

Cash and cash equivalents € 39,078 € 48,790
Working capital 74,961 93,312
Property, plant and equipment, net 408,957 404,151
Total assets 609,515 625,578
Long-term liabilities 318,728 364,596
Shareholders’ equity 243,949 214,115


	Years Ended December 31,
	2007		2006
	(in thousands)

Restricted Group Financial Position(1)
Cash and cash equivalents	€	59,371	€	39,078
Working capital		120,486		74,961
Property, plant and equipment, net		385,569		408,957
Total assets		627,854		609,515
Long-term liabilities		305,158		318,728
Shareholders’ equity		278,582		243,949


(1)		See Note 20 of the financial statements included elsewhere herein for a reconciliation to our consolidated results.

At December 31, ~~2006,~~2007, the Restricted Group had cash and cash equivalents of€~~39.1~~ €59.4 million, compared to€~~48.8~~ €39.1 million at the end of ~~2005.~~2006. At December 31, ~~2006,~~2007, the Restricted Group had working capital of€~~75.0~~ €120.5 million.

We expect the Restricted Group to meet its interest and debt service expenses and meet the working and maintenance capital requirements for its current operations from cash flow from operations, cash on hand and two working capital facilities for the Rosenthal and Celgar mills in the amounts of€~~40.0~~ €40.0 million and€$ C$40.0 million, respectively.

Critical Accounting Policies

The preparation of financial statements and related disclosures in conformity with GAAP requires management to make estimates and assumptions that affect both the ~~amounts reported~~amount and the timing of recording of assets, liabilities, revenues and expenses in the consolidated financial statements and accompanying ~~notes. Estimates are used for, but not limited to, the accounting for doubtful accounts, depreciation and amortization, asset impairments, derivative financial instruments, environmental~~

~~conservation, asset retirement obligations, pensions and post-retirement benefit obligations, income taxes, and contingencies. Actual results could differ from these estimates.~~

note disclosures. Our management routinely makes judgments and estimates about the effects of matters that are inherently uncertain. As the number of variables and assumptions affecting the probable future resolution of the uncertainties increase, these judgments become even more subjective and complex. ~~We have identified certain accounting policies, described below, that are the most important to the portrayal of our current financial condition and results of operations.~~

Our significant accounting policies are disclosed in Note 1 to our audited annual ~~audited~~ consolidated financial statements included ~~elsewhere~~ in Part IV of this annual report. While all of the significant accounting policies are important to the consolidated financial statements, some of these policies may be viewed as having a high degree of judgment. On an ongoing basis using currently available information, management reviews its estimates, including those related to accounting for pensions and post-retirement benefits, provisions for bad debt and doubtful accounts, derivative instruments, impairment of long-lived assets, deferred taxes and environmental conservation and legal liabilities. Actual estimates could differ from these estimates.

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

Derivative Instruments. We adopted Statement of Financial Accounting Standards No. 133, ~~“Accounting~~Accounting for Derivative Instruments and Hedging ~~Activities”~~Activities, effective January 1, 2001. Derivative instruments are measured at fair value and reported in the balance sheet as assets or liabilities. Accounting for gains or losses depends on the intended use of the derivative instruments. Gains or losses on derivative instruments which are not designated hedges for accounting purposes are recognized in earnings in the period of the change in fair value. ~~Accounting for gains~~Gains or losses on derivative instruments formally designated as hedges ~~depends on the type of hedge and these gains or losses~~ are recognized in either earnings or other comprehensive income.

In 2007, we reported a net unrealized non-cash holding gain of€~~37.3~~ €19.5 million before minority interests in respect of the Stendal Interest Rate Contracts. We also ~~reported~~recognized a net ~~unrealized non-cash holding~~ gain of€~~72.1~~ €0.9 million in respect of the Currency ~~Derivatives that were outstanding at the end of 2006 and a net realized loss of~~€~~3.5 million in respect of the Currency Derivatives settled in 2006.~~Derivatives.

Impairment of Long-Lived Assets. We periodically evaluate long-lived assets whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In performing the review of recoverability, we estimate future cash flows expected to result from the use of the asset and its eventual disposition. The estimates of future cash flows, based on reasonable and supportable assumptions and projections, require ~~our~~ management to make subjective judgments. In addition, the time periods for estimating future cash flows is often lengthy, which increases the sensitivity of the assumptions made. Depending on the assumptions and estimates used, the estimated future cash flows projected in the evaluation of long-lived assets can vary within a wide range of outcomes. Our management considers the likelihood of possible outcomes in determining the best estimate of future cash flows. If actual results are not consistent with the assumptions and judgments used in estimating future cash flows and asset fair values, actual impairment losses could vary materially, either positively or negatively, from estimated impairment losses.

No impairment losses were recorded in 2007.

Deferred Taxes. We currently have deferred tax assets which are comprised primarily of tax loss carryforwards and deductible temporary differences, both of which will reduce taxable income in the future. The amounts recorded for deferred tax are based upon various judgments, assumptions and estimates. We assess the realization of these deferred tax assets on a periodic basis to determine whether a valuation allowance is required. We determine whether it is more likely than not that all or a portion of the deferred tax assets will be realized, based on currently available information, including, but not limited to, the following:


	•	the history of the tax loss carryforwards and their expiry dates;

	•	future reversals of temporary differences;


	•	our projected earnings; and

	•	tax planning opportunities.

If we believe that it is more likely than not that some of these deferred tax assets will not be realized, based on currently available information, an income tax valuation allowance is recorded against these deferred tax assets. As at December 31, ~~2006,~~2007, we had€~~94.9~~ €17.6 million in deferred tax assets and€~~87.9~~ €18.6 million in ~~valuation allowances,~~deferred tax liabilities, resulting in a net deferred tax ~~asset~~liability of€~~7.1~~ €1.0 million. Our tax assets are net of a €73.2 million valuation allowance. For the year ended December 31, 2007, our review concluded that it was appropriate to reduce the valuation allowance against loss carryforwards by approximately €15.0 million primarily as a result of a legislated tax rate reduction in Germany after considering expected future earnings.

If market conditions improve or tax planning opportunities arise in the future, we will reduce our valuation allowances, resulting in future tax benefits. If market conditions deteriorate in the future, we will increase our valuation allowances, resulting in future tax expenses. Any change in tax laws, particularly in Germany, will change the valuation allowances in future periods.

New Accounting Standards

In December 2007, the Financial Accounting Standards Board, or “FASB”, issued Statement of Financial Accounting Standards No. 160,~~Environmental.~~Noncontrolling Interests in Consolidated Financial Statements, ~~Our~~or “FAS 160”. FAS 160 establishes accounting and reporting standards for entities that have equity investments that are not attributable directly to the parent, called noncontrolling interests or minority interests. Specifically, FAS 160 states where and how to report noncontrolling interests in the consolidated statements of financial position and operations, how to account for changes in noncontrolling interests and provides disclosure requirements. The provisions of FAS 160 are subject to a wide range of federal, state, provincial and local environmental laws and regulations, dealing primarily with water, air and land pollution control. In recent years, we have devoted significant financial and management resources to comply with all applicable environmental laws and regulations.effective for us beginning January 1, 2009. We ~~believe our operations~~ are currently ~~in substantial compliance with~~evaluating the ~~requirements~~impact that the adoption of ~~all applicable environmental laws~~this statement will have on our consolidated financial position, results of operations and ~~regulations~~disclosures.

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141(R),Business Combinations,or “FAS 141(R)”. FAS 141(R) establishes how an entity accounts for the identifiable assets acquired, liabilities assumed, and ~~our respective operating permits.~~

~~Under German state environmental rules relating~~any noncontrolling interests acquired, how to ~~effluent discharges, industrial users~~account for goodwill acquired and determines what disclosures are required as part of a business combination. FAS 141(R) applies prospectively to ~~pay wastewater fees based upon~~business combinations for which the ~~amount~~acquisition date is on or after the beginning of ~~their effluent discharge. These rules also provide that an industrial user which undertakes environmental capital expenditures and lowers certain effluent discharges to prescribed levels may offset~~ the ~~amount of these expenditures against~~first annual reporting period beginning on or after December 15, 2008, early adoption is prohibited. We are currently evaluating the wastewater fees that they would otherwise be required to pay in a three-year period. The requirement and timing of capital expenditures and the amount of wastewater fee charges are subject to negotiation with German government agencies. As a result, we believe that our capital investment programs for our German manufacturing plants will largely offset the wastewater fees that would have been payable for the past three years, subject to environmental audits. We estimate the aggregate wastewater fees offset by capital expenditures for the past three years to be approximately€~~21.8 million.~~

Other than wastewater fees, we accrue for environmental remediation liabilities on a site-by-site basis when it is probable that costs can be reasonably estimated, or as a result of an environmental action or claim, environmental studies that we conduct or regulatory assessment. As at December 31, 2006, we recorded a liability for environmental conservation expenditures of€~~2.0 million, based on environmental studies that we conducted. We believe~~impact that the ~~liability amount recorded is sufficient, subject to future changes in environmental regulations.~~

~~New Accounting Standards~~adoption of this statement will have on our consolidated financial position, results of operations and disclosures.

In September 2006, the FASB issued Statement of Financial Accounting Standards No. ~~158,~~157,~~Employer’s~~ Fair Value Measurements,or “FAS 157”. FAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. It is applicable whenever another standard requires or permits assets or liabilities to be measured at fair value, but it does not expand the use of fair value to any new circumstances. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007. On February 12, 2008, the FASB Staff issued for comment FASB Staff PositionFAS 157-2, or“FSP 157-2”, which defers the effective date of FAS 157 for all nonfinancial assets and liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis.FSP 157-2 defers the effective date of FAS 157 to fiscal years beginning after November 15, 2008 for items within the scope ofFSP 157-2. We are in the process of determining the impact, if any, the adoption of FAS 157 will have on its consolidated financial position or results of operations.

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159,The Fair Value Option for Financial Assets and Financial Liabilities,or “FAS 159”. FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value, with the objective of improving financial reporting by mitigating volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. The provisions of FAS 159 are effective for our year ending December 31, 2008. We are currently evaluating the impact, if any, that the adoption of this statement will have on our consolidated financial position, results of operations and disclosures.

In June 2006, the FASB issued Interpretation No. 48,Accounting for ~~Defined Benefit Pension and Other Postretirement Plans~~Uncertainty in Income Taxes — ~~an amendment~~An Interpretation of FASB Statement No. ~~87, 88, 106 and 132R~~109 ~~(SFAS 158)~~, or “FIN 48”. ~~This~~FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with FASB Statement ~~requires an employer to recognize in its statement of financial position an asset of a plan’s over funded status or a liability~~No. 109,Accounting for ~~a plan’s under funded status, measure a plan’s assets and its obligations that determine its funded status as of the end of the employer’s fiscal year (with limited exceptions)~~Income Taxes, and ~~recognize changes~~prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Under FIN 48, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more likely than not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. Additionally, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in ~~the funded status of a defined benefit postretirement plan in the year in which the changes occur. SFAS 158~~interim periods, disclosure and transition. FIN 48 is effective for fiscal years ~~ending~~beginning after December 15, 2006. ~~In accordance with the effective dates and transition guidelines of this standard, the Company has~~We adopted the ~~recognition and disclosure~~ provisions of ~~SFAS 158 effective December 31, 2006, the most notable of which is the recognition~~FIN 48 on January 1, 2007. As a result of the ~~funded status. Prior to the adoption~~implementation of ~~the recognition provisions of SFAS No. 158, the Company accounted for its postretirement benefits under SFAS No. 87 and SFAS No. 106. Under these standards, changes~~FIN 48, we recognized no adjustment in the funded status were not immediately recognized, but instead were deferred and recognized in a systematic manner in later periods. The adoption of this standard requires issuers to recognize the change in the funded status of the plan through other comprehensive income. Upon adoption of the recognition provisions of SFAS No. 158, the Company recognized the amounts of prior changes in funded status of postretirement obligations through accumulated other comprehensive income. The adoption of SFAS No. 158 had no effect on the Company’s consolidated statement of operationsnet liability for ~~the years ended December 31, 2006, 2005 or 2004.~~unrecognized tax benefits.

For aadditional discussion of ~~other~~ new accounting standards see Note 1 to our annual audited consolidated financial statements included elsewhere in this annual report.

Cautionary Statement Regarding Forward-Looking Information

Statements in this annual report that are not reported financial results or other historical information are “forward-looking statements” within the meaning of thePrivate Securities Litigation Reform Act of 1995, as amended. These statements use ~~forward looking~~forward-looking terminology, are based on present information we have related to our existing business circumstances and various assumptions we make and involve a number of risks and uncertainties, any of which could cause actual results to differ materially from these forward-looking statements. We caution you that, unless required by applicable law, we do not assume any obligation to update forward-looking statements based on unanticipated events or changed expectations. Factors that could cause actual results to differ materially include, but are not limited to those set forth under ~~Item 1A.~~“Item 1A — Risk ~~Factors.~~Factors”.

Inflation

We do not believe that inflation has had a material impact on revenues or income during ~~2006.~~2007.


ITEM 7A.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to market risks from changes in interest rates and foreign currency exchange rates, particularly the exchange rates between the Euro and the U.S. dollar and, since 2005, the Canadian dollar versus the U.S. dollar and the Euro. Changes in these rates may affect our results of operations and financial condition and, consequently, our fair value. We seek to manage these risks through internal risk management policies as well as the use of derivatives. We use derivatives to reduce or limit our exposure to interest rate and currency risks. We may in the future use derivatives to reduce or limit our exposure to fluctuations in pulp prices. We also use derivatives to reduce our potential losses or to augment our potential gains, depending on our management’s perception of future economic events and developments. These types of derivatives are generally highly speculative in nature. They are also very volatile as they are highly leveraged given that margin requirements are relatively low in proportion to notional amounts.

Many of our strategies, including the use of derivatives, and the types of derivatives selected by us, are based on historical trading patterns and correlations and our management’s expectations of future events. However, these strategies may not be effective in all market environments or against all types of risks. Unexpected market developments may affect our risk management strategies during this time, and unanticipated developments could impact our risk management strategies in the future. If any of the variety of instruments and strategies we utilize are not effective, we may incur significant losses.

Derivatives

Derivatives are contracts between two parties where payments between the parties are dependent upon movements in the price of an underlying asset, index or financial rate. Examples of derivatives include swaps, options and forward rate agreements. The notional amount of the derivatives is the contract amount used as a reference point to calculate the payments to be exchanged between the two parties and the notional amount itself is not generally exchanged by the parties.

The principal derivatives we use are foreign exchange derivatives and interest rate derivatives.

Foreign exchange derivatives include currency swaps which involve the exchange of fixed payments in one currency for the receipt of fixed payments in another currency. Such cross currency swaps involve the exchange of both interest and principal amounts in two different currencies. They also include foreign exchange forwards which are contractual obligations in which two counterparties agree to exchange one currency for another at a specified price for settlement at a pre-determined future date. Forward contracts are effectively tailor-made agreements that are transacted between counterparties in the~~over-the-counter~~ over-the-counter market.

Interest rate derivatives include interest rate forwards (forward rate agreements) which are contractual obligations to buy or sell an interest-rate-sensitive financial instrument on a future date at a specified price. Forward contracts are effectively tailor-made agreements that are transacted between different counterparties in the~~over-the-counter~~ over-the-counter market. They also include interest rate swaps which are~~over-the-counter~~ over-the-counter contracts in which two counterparties exchange interest payments based upon rates applied to a notional amount.

We use foreign exchange derivatives to convert some of our costs (including currency swaps relating to our long-term indebtedness) from Euros to U.S. dollars as our principal product is priced in U.S. dollars. We have also converted some of our costs to U.S. dollars by issuing long-term U.S. dollar denominated debt in the form of our 8.5% convertible subordinated notes and $310 million 9.25% senior notes issued in February 2005. The proceeds of the 9.25% senior notes were used in part to repay ~~the Rosenthal~~a project loan ~~facility.~~facility for our Rosenthal mill, referred to as the “Project Facility”. We use interest rate derivatives to fix the rate of interest on indebtedness, including under the Stendal Loan Facility and, prior to its repayment in February 2005, the ~~Rosenthal project loan facility.~~Project Facility.

All of the derivatives we entered into were either pursuant to ~~a project loan facility related to~~ the ~~Rosenthal mill,~~Project Facility, which was repaid and discharged in February 2005, or the Stendal Loan Facility. Each of these loan facilities provided facilities for foreign exchange derivatives, interest rate derivatives and commodities derivatives, subject to prescribed controls, including maximum notional and at-risk amounts. The Stendal Loan Facility is secured by substantially all of the assets of the Stendal mill and has the benefit of certain German governmental guarantees. Prior to its discharge in 2005, the ~~project loan facility for the Rosenthal mill~~Project Facility was secured by substantially all of the mill’s assets and also had the benefit of certain

German governmental grants. Neither of these credit facilities had any separate margin requirements when derivatives

are entered into pursuant to their terms and are subsequently marked to market. The revolving working capital credit facility we established in February 2005 for the Rosenthal mill allows us to enter into derivative instruments to manage risks relating to its operations.

We record unrealized gains and losses on our outstanding derivatives when they are marked to market at the end of each reporting period and realized gains or losses on them when they are settled. We determine market valuations based primarily upon valuations provided by our counterparties.

In March 2004, Rosenthal entered into currency derivatives which included two currency swaps in the aggregate principal amount of€~~184.5~~ €184.5 million that mature in September 2008 and September 2013, respectively. As NBSK pulp prices are quoted in U.S. dollars and the majority of our business transactions are denominated in Euros, Rosenthal had entered into the currency swaps to reduce the effects of exchange rate fluctuations between the U.S. dollar and the Euro on notional amounts outstanding under its project loan facility. Under these currency swaps, Rosenthal effectively paid the principal and interest in U.S. dollars and at U.S. dollar borrowing rates. The Rosenthal currency derivatives also included a currency forward in the notional amount of€~~40.7~~ €40.7 million which matured in March 2005 that was entered into to reduce or limit Rosenthal’s exposure to currency risks.

In August 2002, Stendal entered into the Stendal Interest Rate ~~Swaps~~Contracts in connection with its long-term indebtedness relating to the Stendal mill to fix the interest rate under the Stendal Loan Facility at the then low level, relative to its historical trend and projected variable interest rate. These contracts were entered into under a specific credit line under the Stendal Loan Facility and are subject to prescribed controls, including certain maximum amounts for notional and at-risk amounts. Under the Stendal Interest Rate ~~Swaps,~~Contracts, Stendal pays a fixed rate and receives a floating rate with the interest payments being calculated on a notional amount. The interest rates payable under the Stendal Loan Facility were swapped into fixed rates based on the Eur-Euribor rate for the repayment periods of the tranches under the Stendal Loan Facility. Stendal effectively converted the Stendal Loan Facility from a variable interest rate loan into a fixed interest rate loan, thereby reducing interest rate uncertainty.

In March 2004, Stendal also entered into currency derivatives which are comprised of a currency swap in the principal amount of€~~306.3~~ €306.3 million which matures in April 2011 and a currency forward contract for the notional amount of€~~20.6~~ €20.6 million maturing in March 2005 to reduce or limit its exposure to currency risks and to augment its potential gains or reduce its potential losses.

In December 2004, we settled all of our then outstanding currency derivatives due to the substantial weakening of the U.S. dollar versus the Euro in 2004 and realized a gain of€~~44.5~~ €44.5 million thereon. In February 2005, we settled the Rosenthal Interest Rate Contracts in connection with the repayment and discharge of ~~Rosenthal’s project loan facility~~the Project Facility and realized a loss of€~~0.3~~ €0.3 million thereon.

In the first quarter of 2005, Stendal entered into foreign currency derivatives in order to swap approximately three-quarters of its long-term indebtedness outstanding under the Stendal ~~mill’s project loan facility~~Loan Facility into U.S. dollars as follows: (i) approximately€~~306.3~~ €306.3 million in principal amount was swapped into U.S. dollars at a rate of 1.2960 with a maturity in October 2017, and (ii) approximately€~~153.2~~ €153.2 million in principal amount was swapped into U.S. dollars at a rate of 1.2990 with a maturity in October 2017. In the second quarter of 2005, Stendal swapped the balance of its long-term indebtedness under the Stendal ~~mill’s project loan facility,~~Loan Facility, being approximately€~~153.2~~ €153.2 million in principal amount, into U.S. dollars at a rate of 1.2799 with a maturity in October 2017. All of these currency swaps were entered into by Stendal to reduce the effects of exchange rate fluctuations between the U.S. dollar and the Euro on notional amounts under the Stendal Loan Facility.

During the first quarter of 2005, Stendal entered into a $50.0 million currency forward contract at a rate of 1.3108 which matured in February 2006 and a $25.0 million currency forward at a rate of 1.3080 which matured in September 2005. During the second quarter of 2005, Stendal entered into a $25.0 million currency forward contract at a rate of 1.2357 which also matured in September 2005. In the third quarter of 2005, Stendal entered into a $13.9 million currency forward at a rate of 1.2048 which matured in October 2005. These currency derivatives were entered into by Stendal to reduce or limit its exposure to currency risks.

We are exposed to very modest credit related risks in the event of non-performance by counterparties to derivative contracts. However, we do not expect that the counterparties, which are major financial institutions, will fail to meet their obligations.

The following table and the notes thereto sets forth the maturity date, the notional amount, the recognized gain or loss and the strike and swap rates for derivatives that were in effect during ~~2005~~2006 and ~~2006:~~2007:

Recognized Gain Recognized Gain
(Loss) Year (Loss) Year
Notional Ended Notional Ended
Derivative Instrument Maturity Date Amount December 31, 2005 Amount December 31, 2006

(in millions) (in thousands) (in millions) (in thousands)
Interest Rate Derivatives

Rosenthal Interest Rate Cap Agreements(1) Settled $ 178.3 € (295 )
Stendal Interest Rate Swaps(2)(3) October 2017 € 612.6 € (3,176 ) € 590.0 37,292

€ (3,471 ) € 37,292

Foreign Exchange Rate Derivatives

Stendal Currency Swap(4) October 2017 € 306.3 (31,741 ) € 295.0 € 33,683
Stendal Currency Swap(5) Settled € 153.2 (16,363 ) € 147.5 17,629
Stendal Currency Swap(6) October 2017 € 153.2 (13,875 ) € 147.5 16,654
Stendal Currency Forward(7) Settled $ 50.0 (4,153 ) $50.0 590
Stendal Currency Forward Settled $ 25.0 (521 )
Stendal Currency Forward Settled $ 25.0 (1,639 )
Stendal Currency Forward Settled $ 13.9 —

€ (68,292 ) € 68,556


					Recognized					Recognized
					Gain (Loss)					Gain (Loss)
					Year Ended					Year Ended
			Notional		December 31,			Notional		December 31,
Derivative Instrument	Maturity Date		Amount		2007			Amount		2006
			(in millions)		(in thousands)			(in millions)		(in thousands)

Interest Rate Derivatives
Stendal Interest Rate Contracts(1)(2)		October 2017	€	556.6	€	19,470		€	590.0	€	37,292

Foreign Exchange Rate Derivatives
Stendal Currency Swap(3)		Settled	€	—	€	(181	)	€	295.0	€	33,683
Stendal Currency Swap(4)		Settled	€	—		—		€	147.5		17,629
Stendal Currency Swap(5)		Settled	€	—		1,067		€	147.5		16,654
Stendal Currency Forward(6)		Settled	$	—		—		$	50.0		590

					€	886				€	68,556


(1)	Rosenthal entered into two interest rate cap contracts with notional amounts of $106.2 million (2004: $118.6 million) and $72.1 million (2004: $74.0 million), both maturing on September 28, 2007 with a strike rate of 6.8%. These derivatives were settled in February 2005.

~~(2)~~	In connection with the Stendal Loan Facility, in the third quarter of 2002 Stendal entered into the Stendal Interest Rate ~~Swap Agreements,~~Contracts, which are~~variable-to-fixed~~ variable-to-fixed interest rate swaps, for the term of the Stendal Loan Facility, with respect to an aggregate maximum amount of approximately€~~612.6~~ €612.6 million of the principal amount of the long-term indebtedness under the Stendal Loan Facility. The swaps took effect on October 1, 2002 and are comprised of three contracts. The first contract commenced in October 2002 for a notional amount of€~~4.1~~ €4.1 million, gradually increasing to€~~464.9~~ €464.9 million, with an interest rate of 3.795%, and matured in May 2004. The second contract commenced in May 2004 for a notional amount of€~~464.9~~ €464.9 million, gradually increasing to€~~612.6~~ €612.6 million, with an interest rate of 5.28%, and matured in April 2005. The third contract commenced in April 2005 for a notional amount of€~~612.6~~ €612.6 million, with an interest rate of 5.28%, and the notional amount gradually decreases and the contract terminates upon the maturity of the Stendal Loan Facility in October 2017. ~~As at~~

(2)		For the year ended December 31, 2005, ~~and 2006,~~ the ~~notional amounts of~~unrealized non-cash loss for the ~~remaining outstanding contract were~~€~~612.6 million and~~€~~590.0 million, respectively.~~Stendal Interest Rate Contracts was €3.2 million.

(3)	~~For the years ended December 31, 2002 through to 2004 the unrealized non-cash losses for the Stendal Interest Rate Swap Agreements were~~€~~30,108,~~€~~13,042 and~~€~~32,320, respectively.~~

~~(4)~~	For€~~306.3~~ €306.3 million of the outstanding principal amount under the Stendal Loan Facility, all repayment installments from February 7, 2005 until October 2, 2017 were swapped into U.S. dollar amounts at a rate of U.S. 1.2960. The interest rate was swapped into the following payments: pay six-month U.S. dollar to LIBOR plus 12 basis points and receive the six-month Euribor. The swap was settled in March 2007.

~~(5)~~(4)		For€~~153.2~~ €153.2 million of the outstanding principal amount under the Stendal Loan Facility, all repayment installments from April 1, 2005 until October 2, 2017 were swapped into U.S. dollar amounts at a rate of U.S. 1.2990. The interest rate was swapped into the following payments: pay six-month U.S. dollar to LIBOR plus 13 basis points and receive the six-month Euribor. The swap was settled in December 2006.

~~(6)~~(5)		For€~~153.2~~ €153.2 million of the outstanding principal amount under the Stendal Loan Facility, all repayment installments from April 18, 2005 until October 2, 2017 were swapped into U.S. dollar amounts at a rate of U.S. 1.2799. The interest rate was swapped into the following payments: pay six-month U.S. dollar to LIBOR plus 13 basis points and receive the six-month Euribor. The swap was settled in March 2007.

~~(7)~~(6)		Currency forward entered into in the first quarter of 2005 in the notional amount of $50.0 million at a rate of 1.3108 which matured in February 2006.

Interest Rate Risk

Fluctuations in interest rates may affect the fair value of fixed interest rate financial instruments which are sensitive to such fluctuations. A decrease in interest rates may increase the fair value of such fixed interest rate financial instrument assets and an increase in interest rates may decrease the fair value of such fixed interest rate financial instrument liabilities, thereby increasing our fair value. An increase in interest rates may

decrease the fair value of such fixed interest rate financial instrument assets and a decrease in interest rates may increase the fair value of such fixed interest rate financial instrument liabilities, thereby decreasing our fair value. We seek to manage our interest rate risks through the use of interest rate derivatives. For a discussion of our interest rate derivatives including maturities, notional amounts, gains or losses and swap rates, see “Derivatives” in this Item 7A.

The following tables provide information about our exposure to interest rate fluctuations ~~(other than for our interest rate derivatives)~~ for the carrying amount of financial instruments sensitive to such fluctuations as at December 31, ~~2006 and 2005, respectively,~~2007, and expected cash flows from these instruments:

As at December 31, 2006

Expected Future Cash Flow*
Carrying Fair
Value Value 2007 2008 2009 2010 2011 Thereafter

(in thousands)
Cash restricted(1) € 57,000 € 57,000 € 1,140 € 1,140 € 1,140 € 1,140 € 1,140 € 63,840
Debt obligations(2) 7,917 7,917 (8,174 ) — — — — —
Capital lease obligations(3) 11,360 11,360 (5,392 ) (3,590 ) (1,432 ) (998 ) (663 ) —


	As at December 31, 2007
	Carrying			Fair			Expected maturity date
	Value			Value			2008			2009			2010			2011			2012			Thereafter
	(in thousands)

Assets
Cash, restricted (€)(1)	€	33,000		€	33,000		€	660		€	660		€	660		€	660		€	660		€	36,300
Liabilities
Long-term debt:
Fixed rate ($)(2)	€	212,285		€	193,179		€	—		€	—		€	—		€	—		€	—		€	212,285
Average interest rate		9.25	%		9.25	%																	9.25	%
Fixed rate ($)(3)	€	46,056		€	60,333		€	—		€	—		€	46,056		€	—		€	—		€	—
Average interest rate		8.5	%		8.5	%								8.5	%
Variable rate(€)(4)	€	565,096		€	565,096		€	34,000		€	36,600		€	39,800		€	44,000		€	47,600		€	363,096
Average interest rate		5.8	%		5.8	%		5.8	%		5.8	%		5.8	%		5.8	%		5.8	%		5.8	%
Variable rate (C$)(5)	€	15,248		€	15,248		€	—		€	15,248		€	—		€	—		€	—		€	—
Average interest rate		6.5	%		6.5	%					6.5	%


	As at December 31, 2007
	Nominal			Fair			Expected maturity date
	Amount			Value			2008			2009			2010			2011			2012			Thereafter
	(in thousands)

Interest Rate Derivatives
Interest rate swaps:
Variable to fixed(€)(6)	€	556,580		€	(21,885	)	€	33,520		€	36,020		€	39,280		€	43,315		€	46,870		€	357,575
Average pay rate		5.3	%		5.3	%		5.3	%		5.3	%		5.3	%		5.3	%		5.3	%		5.3	%
Average receive rate		4.8	%		4.8	%		4.8	%		4.8	%		4.8	%		4.8	%		4.8	%		4.8	%


*	~~Including interest where applicable.~~

(1)	~~Assuming~~	We are required to maintain a ~~rate of return of 2% and a release of~~ restricted cash ~~after 2011.~~account pursuant to the Stendal Loan Facility. The interest income on the restricted cash balance is estimated to be 2% per annum.

(2)	~~Debt obligations consist of our debt, including the gross~~	Senior notes due February 2013, bearing interest at 9.25%, principal amount ~~of loans payable to a minority shareholder of Stendal.~~$310 million.

(3)	~~Capital lease obligations relate to transportation vehicles and production equipment.~~

As at December 31, 2005

Expected Future Cash Flow*
Carrying Fair
Value Value 2006 2007 2008 2009 2010 Thereafter

(in thousands)
Cash restricted(1) € 31,612 € 31,612 € 26,528 € 1,140 € 1,140 € 1,140 € 1,140 € 39,592
Debt obligations(2) 10,576 10,576 4,257 (7,212 ) (9,254 ) — — —
Capital lease obligations(3) 12,300 12,300 (4,098 ) (4,737 ) (2,953 ) (993 ) (354 ) —


*	~~Including~~Subordinated convertible notes due October 2010, bearing interest ~~where applicable.~~at 8.5%, principal amount $67.3 million.

~~(1)~~(4)	~~Including a build up~~	Stendal Loan Facility bears interest at varying rates of ~~Stendal’s restricted cash in 2006 of~~€~~25,388 and assuming a rate of return of 2% and a release of restricted cash after 2011.~~between Euribor plus 0.90% to Euribor plus 1.85%.

~~(2)~~(5)	~~Debt obligations consist of our debt, including~~	Celgar Working Capital Facility bears interest at bankers acceptance plus 2.25% or Canadian prime plus 0.50% on Canadian dollar denominated amounts and bears interest at LIBOR plus 2.25% or U.S. base plus 0.50% on U.S. dollar denominated amounts. As at December 31, 2007 the ~~gross~~principal amount ~~of loans payable to minority shareholders of Stendal.~~owing was C$22 million.

~~(3)~~(6)	~~Capital lease obligations relate~~	Interest rate swaps put in place on the Stendal Loan Facility, effectively converting it from a variable interest rate to ~~transportation vehicles and production equipment.~~a fixed interest rate loan.

Foreign Currency Exchange Rate Risk

Our reporting currency is the Euro. However, we hold financial instruments denominated in U.S. dollars, Canadian dollars and, to a lesser extent, Swiss francs, which are sensitive to foreign currency exchange rate fluctuations. A depreciation of these currencies against the Euro will decrease the fair value of such financial instrument assets and an appreciation of these currencies against the Euro will increase the fair value of such financial instrument liabilities, thereby decreasing our fair value. An appreciation of these currencies against the Euro will increase the fair value of such financial instrument assets and a depreciation of these currencies against the Euro will decrease the fair value of financial instrument liabilities, thereby increasing our fair value. We seek to manage our foreign currency risks by utilizing foreign exchange rate derivatives. For a discussion of such derivatives including maturities, notional amounts, gains or losses and strike rates, see “Derivatives” in this Item 7A. The following tables provide information about our exposure to foreign currency exchange rate

fluctuations for the carrying amount of financial instruments ~~(other than foreign~~

~~exchange rate derivatives)~~ sensitive to such fluctuations as at December 31, ~~2006 and 2005, respectively,~~2007, and expected cash flows from these instruments:

As at December 31, 2006

Expected Future Cash Flow*
Carrying Fair
Value Value 2007 2008 2009 2010 2011 Thereafter

(in thousands)
Debt obligations(1)(2) € 285,864 € 285,864 € (26,060 ) € (26,060 ) € (26,060 ) € (76,120 ) € (21,728 ) € (270,211 )


	As at December 31, 2007
	Carrying			Fair			Expected maturity date
	Value			Value			2008		2009			2010			2011		2012		Thereafter
	(in thousands)

On-Balance Sheet Financial Instruments
Euro functional currency Liabilities:
Fixed rate ($)(1)	€	212,285		€	193,179		€	—	€	—		€	—		€	—	€	—	€	212,285
Average interest rate		9.25	%		9.25	%														9.25	%
Fixed rate ($)(2)	€	46,056		€	60,333		€	—	€	—		€	46,056		€	—	€	—	€	—
Average interest rate		8.5	%		8.5	%							8.5	%
Variable rate (C$)(3)	€	15,248		€	15,248		€	—	€	15,248		€	—		€	—	€	—	€	—
Average interest rate		6.5	%		6.5	%				6.5	%


*	~~Including interest where applicable.~~

(1)	~~U.S. dollar denominated debt comprised of~~	Senior notes due February 2013, bearing interest at 9.25%, principal amount $310 ~~million of senior notes with a 9.25% interest rate and $67.3 million of convertible subordinated notes with an 8.5% interest rate.~~million.

(2)	~~Based on the December 31, 2006~~€~~/$ exchange rate.~~

As at December 31, 2005

Expected Future Cash Flow*
Carrying Fair
Value Value 2006 2007 2008 2009 2010 Thereafter

(in thousands)
Investments(1) € 2,362 € 2,362 € — € — € — € — € — € 2,362
Debt obligations(2)(3) 331,447 331,447 (30,136 ) (30,136 ) (30,136 ) (30,136 ) (98,570 ) (325,343 )


*	~~Including~~Subordinated convertible notes due October 2010, bearing interest ~~where applicable.~~

~~(1)~~	~~Investments consist of equity securities, which are denominated primarily in U.S. dollars, and to a lesser extent, in Canadian dollars.~~

~~(2)~~	~~U.S. dollar denominated debt comprised of $310 million of senior notes with a 9.25% interest rate and $82.5 million of convertible subordinated notes with an~~at 8.5% ~~interest rate.~~, principal amount $67.3 million.

(3)	~~Based~~	Celgar Working Capital Facility bears interest at bankers acceptance plus 2.25% or Canadian prime plus 0.50% on ~~the~~Canadian dollar denominated amounts and bears interest at LIBOR plus 2.25% or U.S. base plus 0.50% on U.S. dollar denominated amounts. As at December 31, ~~2005~~€~~/$ exchange rate.~~2007, the principal amount owing was C$22 million.


ITEM 8.	FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The consolidated financial statements and supplementary data required with respect to this Item 8, and as listed in Item 15 of this annual report, are included in this annual report commencing on page ~~68.~~65.


ITEM 9.	CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

Not applicable.


~~ITEM 9A.~~	~~CONTROLS AND PROCEDURES~~

ITEM 9A. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Principal Executive Officer and Principal Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined inRules 13a-15(e) and15d-15(e) under theSecurities Exchange Act of 1934, as amended (the “Exchange Act”)), as of the end of the period covered by this report. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is accumulated and communicated to management, including our ~~Principal Executive Officer~~principal executive officer and ~~Principal Financial Officer,~~principal financial officer, as appropriate, to allow timely decisions regarding required disclosure. Based on such evaluation, our ~~Principal Executive Officer~~principal executive officer and ~~Principal Financial Officer~~principal financial officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by us in the reports that we file or submit under the Exchange Act.

It should be noted that any system of controls is based in part upon certain assumptions designed to obtain reasonable (and not absolute) assurance as to its effectiveness, and there can be no assurance that any design will succeed in achieving its stated goals.

Management’s Report on Internal Control Over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. ~~Mercer’s~~Mercer Inc.’s internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.

Our internal control over financial reporting includes those policies and procedures that:


	•	Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of Mercer;

	•	Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures are being made only in accordance with authorizations of management and directors; and

	•	Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree or compliance with the policies or procedures may deteriorate.

Management assessed the effectiveness of ~~Mercer’s~~Mercer Inc.’s internal control over financial reporting as of December 31, ~~2006.~~2007. In making this assessment, management used the criteria set forth inInternal Control-Integrated Framework, as issued by the Committee of Sponsoring Organizations of the Treadway ~~Commission in Internal Control-Integrated Framework.~~Commission. Based on our assessment and those criteria, management believes that Mercer Inc. maintained effective internal control over financial reporting as of December 31, ~~2006.~~2007.

~~Mercer’s~~

Mercer Inc.’s independent registered chartered accountants have audited and issued their report on ~~management’s assessment of Mercer’s~~Mercer Inc.’s internal control over financial ~~reporting, which appears below.~~reporting.

~~Report of Independent Registered Chartered Accountants~~

~~To the Board of Directors and Shareholders of~~
~~Mercer International Inc.~~

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Mercer International Inc. and subsidiaries (the “Company”) maintained effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over

financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management’s assessment that the Company maintained effective internal control over financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on the criteria established in~~Internal Control — Integrated Framework~~issued by the Committee of Sponsoring Organizations of the Treadway Commission. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on the criteria established in~~Internal Control — Integrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission.~~

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements as of and for the year ended December 31, 2006 of the Company and our report dated February 28, 2007, expressed an unqualified opinion on those financial statements and included an explanatory paragraph regarding the Company’s adoption of new accounting standards for share-based payments and pension and other postretirement benefits.

~~/s/ Deloitte & Touche LLP~~

~~Independent Registered Chartered Accountants~~

~~Vancouver, Canada~~

~~February 28, 2007~~

Changes in Internal Controls

There have been no changes in our internal control over financial reporting (as defined inRules 13a-15(f) and15d-15(f) under the Exchange Act) during the ~~quarter~~year ended December 31, ~~2006~~2007 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


ITEM 9B.	OTHER INFORMATION

Not applicable.

PART III


ITEM 10.	DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

Subsequent to our Conversion to a corporate form, we are governed by a board of directors, referred to as the “Board”, each member of which is elected annually, beginning with our annual meeting held in ~~2006.~~2007. Prior to the ~~Conversion,~~conversion, as a business trust, we were managed by trustees, who have comparable duties and responsibilities as directors of corporations. ~~Trustees were elected by shareholders at annual meetings for staggered three-year terms.~~ Each of our issued and outstanding shares of common stock is entitled to one vote at such meetings. The following sets forth information relating to our directors and executive ~~officers, each of whom was also a trustee and/or executive officer prior to the Conversion:~~officers.

Jimmy S.H. Lee, age ~~49,~~50, has been a director since May 1985 and President and Chief Executive Officer since 1992. Previously, Mr. Lee, ~~served with~~during the period that MFC Bancorp Ltd. was our affiliate, he served as a director from 1986, ~~Chairman from 1987~~ and President from 1988 to December 1996, ~~respectively.~~when it was spun out. During Mr. Lee’s tenure with ~~the Company, the Company~~Mercer, we acquired the Rosenthal mill, converted the Rosenthal mill to the production of kraft pulp, constructed and started up the Stendal mill and acquired the Celgar mill.

William D. McCartney, age ~~51,~~52, has been a director since January 2003. Mr. McCartney has been President and Chief Executive Officer of Pemcorp Management Inc., a management services company, since 1990. Mr. McCartney is ~~a director of Southwestern Resources Corp., where he has served since March 2004. Mr. McCartney is~~ also a member of the Institute of Chartered Accountants in Canada.

Kenneth A. Shields, age ~~58,~~59, has been a director since August 2003. Mr. Shields ~~was a founder of~~is the ~~institutional firm of Goepel Shields & Partners Inc., where he held the position of President~~Chairman and Chief Executive ~~Officer. In April~~Officer of ~~1998,~~Conifex Inc., a private Canadian company pursuing acquisition opportunities in the firm merged with McDermid St. Lawrence Securities Ltd. to become the investment firm of Goepel McDermid Inc. which was subsequently acquired, in January of 2001, by Florida-based Raymond James Financial, Inc.forestry and sawmilling sector. Mr. Shields currently serves as a member of the board of directors of Raymond James Financial, Inc. and serves as the Chairman ~~Chief Executive Officer~~ and a member of the board of directors of ~~the~~its Canadian subsidiary, Raymond James Ltd., since his retirement as Chief Executive Officer of Raymond James Ltd. in February 2006. Mr. Shields is also a director of TimberWest Forest Corp., a ~~member of the Accounting Standards Oversight Council,~~major Canadian timberland and ~~a Director of the Council for Business and the Arts in Canada. Additionally,~~logging company. Mr. Shields has served as past Chairman of the Investment Dealers Association of Canada and Pacifica Papers Inc., and is a former director of each of Slocan Forest Products Ltd. and the Investment Dealers Association of Canada.

Guy W. Adams, age ~~55,~~56, has been a director since August 2003. Mr. Adams is the managing member of GWA Advisors, LLC, GWA Investments, LLC ~~referred to as “GWA”,~~ and GWA Capital Partners, LLC, where he has served since ~~2002, and is the managing member of~~2002. GWA ~~Master Fund, LP since October 2004. GWA Advisors, LLC is a private equity investment firm and a holding company for Mr. Adams’ private equity investments. GWA~~Investments is an investment fund investing in publicly traded securities managed by GWA Capital Partners, LLC, a registered investment advisor. Prior to 2002, Mr. Adams was the President of GWA Capital, which he founded in 1996 to invest his own capital in public and private equity transactions, and a business consultant to entities seeking refinancing or recapitalization. Mr. Adams has been a director of Vitesse Semiconductor Corp. since October 2007.

Eric Lauritzen, age ~~68,~~69, has been a director since June 2004. Mr. Lauritzen was President and Chief Executive Officer of Harmac Pacific, Inc., a North American producer of softwood kraft pulp previously listed on the Toronto Stock Exchange and acquired by Pope & Talbot Inc. in 1998, from May 1994 to July 1998, when he retired. Mr. Lauritzen was Vice President, Pulp and Paper Marketing of MacMillan Bloedel Limited, a North American pulp and paper company previously listed on the Toronto Stock Exchange and acquired by Weyerhaeuser Company Limited in 1999, from July 1981 to April 1994.

Graeme A. Witts, age ~~68,~~69, has been a director since January 2003. Mr. Witts organized Sanne Trust Company Limited, a trust company located in the Channel Islands, in 1988 and was managing director from 1988 to 2000, when he retired. He is now managing director of Azure Property Group, SA, a European hotel group. Mr. Witts is also a fellow of the Institute of Chartered Accountants of England and Wales and has previous experience in the soap and shoe industries as well as government auditing.

George Malpass, age ~~67,~~68, has been a director since November 2006. Mr. Malpass was formerly the Chief Executive Officer and a director of Primex Forest Products Ltd. and is also a former director of both International Forest Products Ltd. and Riverside Forest Products Ltd.

David M. Gandossi, age ~~49,~~50, has been Secretary, Executive Vice-President and Chief Financial Officer since August 15, 2003. Mr. Gandossi was formerly the Chief Financial Officer and Executive Vice-President of Formation Forest Products (a closely held corporation) from June 2002 to August 2003. Mr. Gandossi previously served as Chief Financial Officer, Vice-President, Finance and Secretary of Pacifica Papers Inc., a North American

specialty pulp and paper manufacturing company previously listed on the Toronto Stock Exchange, from December 1999 to August 2001 and Controller and Treasurer from June 1998 to December 1999. From June 1998 to August 31, 1998, he also served as Secretary to Pacifica Papers Inc. From March 1998 to June 1998, Mr. Gandossi served as Controller, Treasurer and Secretary of MB Paper Ltd. From April 1994 to March 1998, Mr. Gandossi held the position of Controller and Treasurer with Harmac Pacific Inc., a Canadian pulp manufacturing company previously listed on the Toronto Stock Exchange. From February 2007 to present, he has chaired the B.C. Pulp and Paper Task Force, a government industry and labor effort that is mandated to identify measures to improve the competitiveness of the British Columbia pulp and paper industry. Mr. Gandossi is a member of the Institute of Chartered Accountants in Canada.

Claes-Inge Isacson, age 62, has been our Chief Operating Officer since November 2006 and is based in our Berlin office. Mr. Isacson brings over 24 years of senior level pulp and paper management to our senior management team, with a focus on kraft pulp. Mr. Isacson held the positions of President Norske Skog Europe, and then Senior Vice President Production for Norske Skogindustrier ASA between 1989 and 2004. His most recent position was President, AF Process, a consulting and engineering company working worldwide. He holds a Masters of Science, Mechanical Engineering.

David K. Ure, age ~~39,~~40, has been our Vice President, Controller, since October 16, 2006. Mr. Ure was formerly the Controller of Catalyst Paper Corporation from 2001 to 2006 and Controller of Pacifica Papers Inc. from 2000 to 2001. He also served as U.S. Controller of Crown Packaging Ltd. in 1999 and the Chief Financial Officer and Secretary of Finlay Forest Industries Inc. from 1997 to 1998. He is on the Board of Trustees of the Pulp and Paper Industry Pension Plan and has over fifteen years experience in the forest products industry. Mr. Ure is a member of the Certified General Accountants’ Association of Canada.

Leonhard Nossol, age ~~49,~~50, has been our Group Controller for Europe since August 2005. He has also been a managing director of Rosenthal since 1997 and the sole managing director of Rosenthal since September 2005. Mr. Nossol had a significant involvement in the conversion of the Rosenthal mill to the production of kraft pulp in 1999 and ~~the related increase~~increases in the mill’s annual production capacity to ~~280,000 ADMTs, and subsequently to 310,000~~325,000 ADMTs, as well as the reduction in production costs at the mill.

David M. Cooper, age ~~53,~~54, has been Vice President of Sales and Marketing for Europe since June 2005. Mr. Cooper previously held a variety of senior positions around the world in Sappi Ltd., a large global forest products group, from 1982 to 2005, including the sales and marketing of various pulp and paper grades and the management of a manufacturing facility. He has more than 2325 years of diversified experience in the international pulp and paper industry.

Eric X. Heine, age ~~43,~~44, has been Vice President of Sales and Marketing for North America and Asia since June 2005. Mr. Heine was previously Vice President Pulp and International Paper Sales and Marketing for Domtar Inc., a global pulp and paper corporation, from 1999 to 2005. He has over 18 years of experience in the pulp and paper industry, including developing strategic sales channels and market partners to build corporate brands.

~~Werner Stüber~~, age 65, has been Vice President of Technical Support and Pulp Operations since August 2005. Mr. Stüber was previously a managing director of our Rosenthal mill from 1996 to 2005. Mr. Stüber had a significant involvement in the conversion of the Rosenthal mill to the production of kraft pulp in 1999 and the related increase in the mill’s annual production capacity to 280,000 ADMTs, and subsequently to 310,000 ADMTs, as well as the reduction in production costs at the mill.

Wolfram Ridder, age ~~45,~~46, was appointed Vice President of Business Development in August 2005, prior to which he was a managing director of Stendal. Mr. Ridder was the principal assistant to our Chief Executive Officer from November 1995 until September 2002.

We also have experienced mill managers at all of our mills who have operated through multiple business cycles in the pulp industry.

~~Our board of directors, referred to as the “Board”,~~

The Board met 16six times during ~~2006~~2007 and each current member of the Board attended 75% or more of the total number of such meetings and meetings of the committees of the Board on which they serve during their term. In addition, our independent directors regularly meet in separate executive sessions without any member of our management present. The Lead Director presides over these meetings. Although we do not have a formal policy with respect to attendance of directors at our annual meetings, all directors are encouraged and expected to attend such meetings if possible. All of our directors attended our ~~2006~~2007 annual meeting.

~~Our~~

The Board has developed corporate governance guidelines in respect of: (i) the duties and responsibilities of the Board, its committees and ~~the officers of the Company;~~officers; and (ii) practices with respect to the holding of regular quarterly and strategic

meetings of the Board including separate meetings of non-management directors. ~~Our~~The Board has established four standing committees, the Audit Committee, the Compensation and Human Resource Committee, the Governance and Nominating Committee and the Environmental, Health and Safety Committee.

Audit Committee

The Audit Committee functions pursuant to a charter adopted by the directors. A copy of the current charter is attached as Appendix “A” to the definitive proxy statement on Schedule 14A relating to our annual meeting of shareholders held in June 2005. The function of the Audit Committee generally is to meet with and review the results of the audit of our financial statements performed by the independent public accountants and to recommend the selection of independent public accountants. The members of the Audit Committee are Mr. McCartney, Mr. Witts and Mr. Lauritzen, each of whom is independent under applicable laws and regulations and the listing requirements of the NASDAQ Global Market. Both Mr. McCartney and Mr. Witts are Chartered Accountants and Mr. McCartney is a “financial expert” within the meaning of such term under theSarbanes-Oxley Act of ~~2002.~~2002. The Audit Committee met ~~eight~~12 times during ~~2006.~~2007.

The Audit Committee has established procedures for: (i) the receipt, retention and treatment of complaints received by ~~the Company~~us regarding accounting, internal accounting controls or auditing matters; and (ii) the confidential and anonymous submission by ~~the Company’s~~our employees and others of concerns regarding questionable accounting or auditing matters. A person wishing to notify ~~the Company~~us of such a complaint or concern should send a written notice thereof, marked “Private & Confidential”, to the Chairman of the Audit Committee, Mercer International Inc.,c/o Suite 2840, P.O. Box 11576, 650 West Georgia Street, Vancouver, B.C.,V6B 4N8 Canada.

Compensation and Human Resource Committee

The Board has established a Compensation and Human Resource Committee. The Compensation and Human Resource Committee is responsible for reviewing and approving the strategy and design of ~~the Company’s~~our compensation, equity-based and benefits programs. The Compensation and Human Resource Committee is also responsible for approving all compensation actions relating to executive officers. The members of the Compensation and Human Resource Committee are Mr. Malpass, Mr. Lauritzen and Mr. Adams, each of whom is independent under applicable laws and regulations and the listing requirements of the NASDAQ Global Market. The Compensation and Human Resource Committee met three times during ~~2006.~~2007.

Governance and Nominating Committee

~~Our~~

The Board has established a Governance and Nominating Committee comprised of Mr. Shields, Mr. McCartney and Mr. Witts, each of whom is independent under applicable laws and regulations and the listing requirements of the NASDAQ Global Market. The Governance and Nominating Committee functions pursuant to a charter adopted by the directors, a copy of which is attached as Appendix “B” to the definitive proxy statement on Schedule 14A relating to our annual meeting of shareholders held in June 2004. The purpose of the committee is to: (i) manage the corporate governance system of the Board; (ii) assist the Board in fulfilling its duties to meet applicable legal and regulatory and self-regulatory business principles and

codes of best practice; (iii) assist in the creation of a corporate culture and environment of integrity and accountability; (iv) in conjunction with the Lead Director, monitor the quality of the relationship between the Board and management; (v) review management succession plans; (vi) recommend to the Board nominees for appointment to the Board; (vii) lead the Board’s annual review of the Chief Executive Officer’s performance; and (viii) set the Board’s forward meeting agenda. The Governance and Nominating Committee met ~~four~~five times in ~~2006.~~2007.

Environmental, Health and Safety ~~and Health~~ Committee

~~Our~~

The Board established an Environmental, ~~Safety~~Health and ~~Health~~Safety Committee in 2006, currently comprised of Mr. Lauritzen, Mr. Malpass and Mr. Lee, to review on behalf of the Board the policies and processes implemented by management, and the resulting impact and assessments of all our environmental, health and safety ~~and health~~ related ~~activities of the Company.~~activities. More specifically, the Environmental, ~~Safety~~Health and ~~Health~~Safety Committee is to: (i) review and approve, and if necessary revise, ~~the~~our environmental, ~~safety~~health and ~~health~~safety policies and environmental compliance ~~programs of the Company;~~ programs;

(ii) monitor ~~the Company’s~~our environmental, ~~safety~~health and ~~health~~safety management systems including internal and external audit results and reporting; and (iii) provide direction to management on the frequency and focus of external independent environmental, ~~safety~~health and ~~health~~safety audits. The Environmental, ~~Safety~~Health and ~~Health~~Safety Committee met ~~twice~~four times in ~~2006.~~2007.

Lead Director/Deputy Chairman

~~Our~~

The Board appointed Mr. Shields as its Lead Director in September 2003 and in 2006 as Deputy Chairman of the Board. The role of the Lead Director is to provide leadership to the non-management directors on the Board and to ensure that the Board can operate independently of management and that directors have an independent leadership contact. The duties of the Lead Director include, among other things: (i) ensuring that the Board has adequate resources to support its decision-making process and ensuring that the Board is appropriately approving strategy and supervising management’s progress against that strategy; (ii) ensuring that the independent directors have adequate opportunity to meet to discuss issues without management being present; (iii) chairing meetings of directors in the absence of the Chairman and Chief Executive Officer; (iv) ensuring that delegated committee functions are carried out and reported to the Board; and (v) communicating to management, as appropriate, the results of private discussions among outside directors and acting as a liaison between the Board and the Chief Executive Officer.

Code of Business Conduct and Ethics

~~Our~~

The Board has adopted a Code of Business Conduct and Ethics that applies to our directors and executive officers. A copy of the code is attached as Appendix “B” to our proxy statement dated and filed on August 11, 2003 with the SEC, and a copy may be obtained without charge upon request to Investor Relations, Mercer International Inc., Suite 2840, P.O. Box 11576, 650 West Georgia Street, Vancouver, British Columbia, Canada V6B 4N8 (Telephone:(604) 684-1099) or Investor Relations, Mercer International Inc., 14900 Interurban Avenue South, Suite 282, Seattle WA, U.S.A. 98168 (Telephone:(206) 674-4639).

Section 16(a) Beneficial Ownership Reporting Compliance

Section 16(a) of the Exchange Act requires that our officers and directors and persons who own more than 10% of our shares file reports of ownership and changes in ownership with the SEC and furnish us with copies of all such reports that they file. Based solely upon a review of the copies of these reports received by us, and upon written representations by our directors and officers regarding their compliance with the applicable reporting requirements under Section 16(a) of the Exchange Act, we believe that all of our directors and officers filed all required reports under Section 16(a) in a timely manner for the year ended December 31, ~~2006.~~2007.


ITEM 11.	EXECUTIVE COMPENSATION

The information required by this Item 11 is incorporated by reference from the proxy statement relating to our annual meeting to be held in ~~2007,~~2008, which will be filed with the SEC within 120 days of our most recently completed fiscal year.


ITEM 12.	SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The information required by this Item 12 is incorporated by reference from the proxy statement relating to our annual meeting to be held in ~~2007,~~2008, which will be filed with the SEC within 120 days of our most recently completed fiscal year.


ITEM 13.	CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

The information required by this Item 13 is incorporated by reference from the proxy statement relating to our annual meeting to be held in ~~2007,~~2008, which will be filed with the SEC within 120 days of our most recently completed fiscal year.


ITEM 14.	PRINCIPAL ACCOUNTANT FEES AND SERVICES

The information required by this Item 14 is incorporated by reference from the proxy statement relating to our annual meeting to be held in ~~2007,~~2008, which will be filed with the SEC within 120 days of our most recently completed fiscal year.

PART IV


~~ITEM 15.~~	~~EXHIBITS, FINANCIAL STATEMENT SCHEDULES~~

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

(a) (1) Financial Statements


	Page

Independent Auditors’ Report — PricewaterhouseCoopers LLP		65
Report of Independent Registered Chartered Accountants — Deloitte & Touche LLP		67
Consolidated Balance Sheets		68
Consolidated ~~Balance Sheets~~Statements of Operations		69
Consolidated Statements of ~~Operations~~Comprehensive Income (Loss)		70
Consolidated Statements of ~~Comprehensive Income (Loss)~~Changes in Shareholders’ Equity		71
Consolidated Statements of ~~Changes in Shareholders’ Equity~~Cash Flows		72
Notes to the Consolidated Financial Statements ~~of Cash Flows~~		73

~~Notes to the Consolidated Financial Statements~~
(1)		74	List of Exhibits

~~(2)~~ ~~List of Exhibits~~

1 .1 Underwriting Agreement dated February 8, 2005 between Mercer International Inc. and RBC Capital Markets Corporation, on behalf of itself and CIBC World Markets Corp., Raymond James & Associates, Inc. and D.A. Davidson & Co. Incorporated by reference from Form 8-K dated February 10, 2005.
1 .2 Underwriting Agreement dated February 8, 2005 among Mercer International Inc. and RBC Capital Markets Corporation and Credit Suisse First Boston LLC, on behalf of themselves and CIBC World Markets Corp. Incorporated by reference from Form 8-K dated February 10, 2005.
2 .1 Agreement and Plan of Merger among Mercer International Inc., Mercer International Regco Inc. and Mercer Delaware Inc. dated December 14, 2005. Incorporated by reference to the Proxy Statement/Prospectus filed on December 15, 2005.
3 .1 Articles of Incorporation of the Company, as amended. Incorporated by reference from Form 8-A dated March 1, 2006.
3 .2 Bylaws of the Company. Incorporated by reference from Form 8-A dated March 1, 2006.
4 .1 Indenture dated as of October 10, 2003 between Mercer International Inc. and Wells Fargo Bank Minnesota, N.A. Incorporated by reference from Form 8-K dated October 15, 2003.
4 .2 Indenture dated as of December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference from Form S-3 filed December 10, 2004.
4 .3 First Supplemental Indenture dated February 14, 2005 to Indenture dated December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference from Form 8-K dated February 17, 2005.
10 .1 Amended and Restated 1992 Stock Option Plan. Incorporated by reference from Form S-8 dated March 2, 2000.
10 .2* 2002 Employee Incentive Bonus Plan.
10 .3 Project Financing Facility Agreement dated August 26, 2002 between Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated September 10, 2002.
10 .4 Shareholders’ Undertaking Agreement dated August 26, 2002 among Mercer International Inc., Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH, AIG Altmark Industrie AG and FAHR Beteiligungen AG and Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated September 10, 2002.
10 .5* Shareholders’ Agreement dated August 26, 2002 among Zellstoff Stendal GmbH, Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH and FAHR Beteiligungen AG.
10 .6* Contract for the Engineering, Design, Procurement, Construction, Erection and Start-Up of a Kraft Pulp Mill between Zellstoff Stendal GmbH and RWE Industrie-Lösungen GmbH dated August 26, 2002. Certain non-public information has been omitted from the appendices to Exhibit 10.16 pursuant to a request for confidential treatment filed with the SEC. Such non-public information was filed with the SEC on a confidential basis. The SEC approved the request for confidential treatment in January 2004.
10 .7* Form of Trustee’s Indemnity Agreement between Mercer International Inc. and its Trustees.


1	.1	Underwriting Agreement dated February 8, 2005 between Mercer International Inc. and RBC Capital Markets Corporation, on behalf of itself and CIBC World Markets Corp., Raymond James & Associates, Inc. and D.A. Davidson & Co. Incorporated by reference fromForm 8-K dated February 10, 2005.
1	.2	Underwriting Agreement dated February 8, 2005 among Mercer International Inc. and RBC Capital Markets Corporation and Credit Suisse First Boston LLC, on behalf of themselves and CIBC World Markets Corp. Incorporated by reference fromForm 8-K dated February 10, 2005.
2	.1	Agreement and Plan of Merger among Mercer International Inc., Mercer International Regco Inc. and Mercer Delaware Inc. dated December 14, 2005. Incorporated by reference to the Proxy Statement/Prospectus filed on December 15, 2005.
3	.1	Articles of Incorporation of the Company, as amended. Incorporated by reference fromForm 8-A dated March 1, 2006.
3	.2	Bylaws of the Company. Incorporated by reference fromForm 8-A dated March 1, 2006.
4	.1	Indenture dated as of October 10, 2003 between Mercer International Inc. and Wells Fargo Bank Minnesota, N.A. Incorporated by reference fromForm 8-K dated October 15, 2003.
4	.2	Indenture dated as of December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference fromForm S-3 filed December 10, 2004.
4	.3	First Supplemental Indenture dated February 14, 2005 to Indenture dated December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference fromForm 8-K dated February 17, 2005.
10	.1	Amended and Restated 1992 Stock Option Plan. Incorporated by reference fromForm S-8 dated March 2, 2000.
10	.2*	2002 Employee Incentive Bonus Plan.
10	.3	Project Financing Facility Agreement dated August 26, 2002 between Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated September 10, 2002.
10	.4	Shareholders’ Undertaking Agreement dated August 26, 2002 among Mercer International Inc., Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH, AIG Altmark Industrie AG and FAHR Beteiligungen AG and Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated September 10, 2002.
10	.5*	Shareholders’ Agreement dated August 26, 2002 among Zellstoff Stendal GmbH, Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH and FAHR Beteiligungen AG.

10 .8 Employment Agreement dated for reference August 7, 2003 between Mercer International Inc. and David Gandossi. Incorporated by reference from Form 8-K dated August 11, 2003.
10 .9 Employment Agreement effective as of April 28, 2004 between Mercer International Inc. and Jimmy S.H. Lee. Incorporated by reference from Form 8-K dated April 28, 2004
10 .10 2004 Stock Incentive Plan. Incorporated by reference from Form S-8 dated June 15, 2004
10 .11 Asset Purchase Agreement by and among Mercer International Inc., 0706906 B.C. Ltd. and KPMG Inc., as receiver of all of the assets and undertakings of Stone Venepal (Celgar) Pulp Inc. dated November 22, 2004. Incorporated by reference from Form 8-K dated November 23, 2004.
10 .12 Revolving Credit Facility Agreement dated February 9, 2005 among D&Z Holding GmbH, Zellstoff-und Papierfabrik Rosenthal GmbH & Co. KG, ZPR Beteiligungs GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated February 17, 2005.
10 .13 Shareholders’ Undertaking Agreement dated February 9, 2005 relating to Revolving Credit Facility Agreement. Incorporated by reference from Form 8-K dated February 17, 2005.
10 .14 Revolving Term Credit Facility dated for reference May 19, 2006 among Zellstoff Celgar Limited Partnership, as borrower, and the lenders from time to time parties thereto, as lenders and CIT Business Credit Canada Inc., as agent. Incorporated by reference from Form 8-K dated May 30, 2006.
10 .15 Employment Agreement dated October 2, 2006 between Stendal Pulp Holding GmbH and Wolfram Ridder. Incorporated by reference from Form 8-K dated October 2, 2006.
10 .16 Employment Agreement effective October 16, 2006 between Mercer International Inc. and David Ure dated September 22, 2006. Incorporated by reference from Form 8-K dated October 13, 2006.
10 .17 Employment Agreement effective November 6, 2006 between Mercer International Inc. and Claes-Inge Isacson dated September 25, 2006. Incorporated by reference from Form 8-K dated October 13, 2006.
99 .1 Exchange Agreement dated December 4, 2006 between Mercer International Inc. and Nisswa Master Fund Ltd. Incorporated by reference from Form 8-K dated December 5, 2006.
99 .2 Exchange Agreement dated December 4, 2006 between Mercer International Inc. and CC Arbitrage Ltd. Incorporated by reference from Form 8-K dated December 5, 2006.
21 List of Subsidiaries of Registrant.
23 .1 Consent of Independent Registered Chartered Accountants.
31 .1 Section 302 Certificate of Chief Executive Officer.
31 .2 Section 302 Certificate of Chief Financial Officer.
32 .1** Section 906 Certificate of Chief Executive Officer.
32 .2** Section 906 Certificate of Chief Financial Officer.


10	.6*	Contract for the Engineering, Design, Procurement, Construction, Erection andStart-Up of a Kraft Pulp Mill between Zellstoff Stendal GmbH and RWE Industrie-Lösungen GmbH dated August 26, 2002. Certain non-public information has been omitted from the appendices to Exhibit 10.16 pursuant to a request for confidential treatment filed with the SEC. Such non-public information was filed with the SEC on a confidential basis. The SEC approved the request for confidential treatment in January 2004.
10	.7*	Form of Trustee’s Indemnity Agreement between Mercer International Inc. and its Trustees.
10	.8	Employment Agreement dated for reference August 7, 2003 between Mercer International Inc. and David Gandossi. Incorporated by reference fromForm 8-K dated August 11, 2003.
10	.9	Employment Agreement effective as of April 28, 2004 between Mercer International Inc. and Jimmy S.H. Lee. Incorporated by reference fromForm 8-K dated April 28, 2004.
10	.10	2004 Stock Incentive Plan. Incorporated by reference fromForm S-8 dated June 15, 2004.
10	.11	Asset Purchase Agreement by and among Mercer International Inc., 0706906 B.C. Ltd. and KPMG Inc., as receiver of all of the assets and undertakings of Stone Venepal (Celgar) Pulp Inc. dated November 22, 2004. Incorporated by reference fromForm 8-K dated November 23, 2004.
10	.12	Revolving Credit Facility Agreement dated February 9, 2005 among D&Z Holding GmbH, Zellstoff-und Papierfabrik Rosenthal GmbH & Co. KG, ZPR Beteiligungs GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated February 17, 2005.
10	.13	Shareholders’ Undertaking Agreement dated February 9, 2005 relating to Revolving Credit Facility Agreement. Incorporated by reference fromForm 8-K dated February 17, 2005.
10	.14	Revolving Term Credit Facility dated for reference May 19, 2006 among Zellstoff Celgar Limited Partnership, as borrower, and the lenders from time to time parties thereto, as lenders and CIT Business Credit Canada Inc., as agent. Incorporated by reference fromForm 8-K dated May 30, 2006.
10	.15	Employment Agreement dated October 2, 2006 between Stendal Pulp Holding GmbH and Wolfram Ridder. Incorporated by reference fromForm 8-K dated October 2, 2006.
10	.16	Employment Agreement effective October 16, 2006 between Mercer International Inc. and David Ure dated September 22, 2006. Incorporated by reference fromForm 8-K dated October 13, 2006.
10	.17	Employment Agreement effective November 6, 2006 between Mercer International Inc. and Claes-Inge Isacson dated September 25, 2006. Incorporated by reference fromForm 8-K dated October 13, 2006.
99	.1	Exchange Agreement dated December 4, 2006 between Mercer International Inc. and Nisswa Master Fund Ltd. Incorporated by reference fromForm 8-K dated December 5, 2006.
99	.2	Exchange Agreement dated December 4, 2006 between Mercer International Inc. and CC Arbitrage Ltd. Incorporated by reference fromForm 8-K dated December 5, 2006.
21		List of Subsidiaries of Registrant.
23	.1	Consent of Independent Chartered Accountants — PricewaterhouseCoopers LLP.
23	.2	Consent of Independent Registered Chartered Accountants — Deloitte & Touche LLP.
31	.1	Section 302 Certificate of Chief Executive Officer.
31	.2	Section 302 Certificate of Chief Financial Officer.
32	.1**	Section 906 Certificate of Chief Executive Officer.
32	.2**	Section 906 Certificate of Chief Financial Officer.


*		Filed inForm 10-K for prior years.

**		In accordance with Release33-8212 of the Commission, these Certifications: (i) are “furnished” to the Commission and are not “filed” for the purposes of liability under theSecurities Exchange Act of 1934, as ~~amended;~~amended, or the “Exchange Act”; and (ii) are not to be subject to automatic incorporation by reference into any of ~~the~~our Company’s registration statements filed under the Securities Act, ~~of 1933,~~ as amended for the purposes of liability thereunder or any offering memorandum, unless ~~the~~our Company specifically incorporates them by reference therein.

~~REPORT OF~~ INDEPENDENT ~~REGISTERED CHARTERED ACCOUNTANTS~~AUDITORS’ REPORT

To the Board of Directors and Shareholders of

Mercer International Inc.

We have completed an integrated audit of the consolidated financial statements and internal control over financial reporting of Mercer International Inc. as at December 31, 2007. Our opinions, based on our audits, are presented below.

Consolidated financial statements

We have audited the accompanying consolidated balance ~~sheets~~sheet of Mercer International Inc. as at December 31, 2007, and the related consolidated statement of operations, comprehensive income (loss), changes in shareholders’ equity and cash flows for the year ended December 31, 2007. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audit of the Company’s financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform an audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. A financial statement audit also includes assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as at December 31, 2007, and the results of its operations and its cash flows for the year ended December 31, 2007 in accordance with accounting principles generally accepted in the United States.

The financial statements of the Company as at December 31, 2006 and for each of the years in the two year period ended December 31, 2006 were audited by other auditors whose report dated February 28, 2007 expressed an unqualified opinion on those financial statements.

Internal control over financial reporting

We have also audited Mercer International Inc.’s internal control over financial reporting as at December 31, 2007 based on criteria established inInternal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting

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

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as at December 31, 2007 based on criteria established inInternal Control — Integrated Framework issued by the COSO.

/s/ PricewaterhouseCoopers LLP

Chartered Accountants

Vancouver, Canada

February 22, 2008

REPORT OF INDEPENDENT REGISTERED CHARTERED ACCOUNTANTS

To the Board of Directors and Shareholders of
Mercer International Inc.

We have audited the accompanying consolidated balance sheet of Mercer International Inc. and subsidiaries (the “Company”) as of December 31, 2006, ~~and 2005,~~ and the related consolidated statements of operations, comprehensive income (loss), changes in shareholders’ equity, and cash flows for each of the ~~three~~two years in the period ended December 31, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Mercer International Inc. and subsidiaries as of December 31, 2006, and ~~2005, and~~ the results of their operations and their cash flows for each of the ~~three~~two years in the period ended December 31, 2006, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 1 to the consolidated financial statements, the Company adopted Statement of Financial Accounting Standards No. 123(R),Share-Based Payment, effective January 1, 2006. In addition ~~as discussed in Note 1 to the consolidated financial statements,~~ the Company adopted the recognition and disclosure provisions of Statement of Financial Accounting Standards No. 158,Employer’s Accounting for Defined Benefit Pension and Other Postretirement Plans — an Amendment of FASB Statements No. 87, 88, 106 and 132(R), effective December 31, 2006.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006, based on the criteria established in~~Internal Control — Integrated Framework~~ issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 28, 2007 expressed an unqualified opinion on management’s assessment of the effectiveness of the Company’s internal control over financial reporting and an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.

/s/ Deloitte & Touche LLP

Independent Registered Chartered Accountants

Vancouver, Canada

February 28, 2007

MERCER INTERNATIONAL INC.

CONSOLIDATED BALANCE SHEETS

~~December 31, 2006 and 2005~~

(In ~~Thousands~~thousands of Euros, Except Per Share Data)

2006 2005

ASSETS

Current Assets
Cash and cash equivalents (Note 3) € 69,367 € 82,775
Cash restricted (Note 3) — 7,039
Receivables (Note 4) 75,022 69,988
Note receivable, current portion 7,798 —
Inventories (Note 5) 62,857 73,742
Prepaid expenses and other 4,662 5,369
Current assets of discontinued operations (Note 18) 2,094 12,609

Total current assets 221,800 251,522

Long-Term Assets
Cash restricted (Note 3) 57,000 24,573
Property, plant and equipment (Note 6) 972,143 1,015,363
Investments 1 6,314
Unrealized foreign exchange rate derivative gain (Note 15) 5,933 —
Deferred note issuance and other costs 6,984 8,364
Deferred income tax (Note 10) 29,989 78,381
Note receivable, less current portion 8,744 —
Long-term assets of discontinued operations (Note 18) — 9,299

1,080,794 1,142,294

Total assets € 1,302,594 € 1,393,816

LIABILITIES

Current Liabilities
Accounts payable and accrued expenses (Note 7) € 83,810 € 100,285
Pension and other post-retirement benefit obligations, current portion (Note 9) 363 —
Debt, current portion (Note 8) 33,903 25,550
Current liabilities of discontinued operations (Note 18) 1,926 14,492

Total current liabilities 120,002 140,327

Long-Term Liabilities
Debt, less current portion (Note 8) 873,928 919,423
Unrealized foreign exchange rate derivative loss (Note 15) — 61,979
Unrealized interest rate derivative losses (Note 15) 41,355 78,646
Pension and other post-retirement benefit obligations (Note 9) 17,954 17,113
Capital leases and other 7,643 9,945
Deferred income tax (Note 10) 22,911 14,444
Long-term liabilities of discontinued operations (Note 18) — 3,196

963,791 1,104,746

Total liabilities 1,083,793 1,245,073

Minority Interest — —

SHAREHOLDERS’ EQUITY

Preferred shares, no par value; 50,000,000 authorized and issuable in series
Series A, 500,000 authorized, none issued and outstanding — —
Series B, 3,500,000 authorized, none issued and outstanding — —
Common shares, U.S.$1 par value; 200,000,000 authorized; 35,465,176 issued and outstanding at December 31, 2006 and 33,169,140 at December 31, 2005 195,642 181,586
Additional paid-in capital 154 14
Retained earnings (deficit) 15,240 (47,970 )
Accumulated other comprehensive income 7,765 15,113

Total shareholders’ equity 218,801 148,743

Total liabilities and shareholders’ equity € 1,302,594 € 1,393,816


	December 31,
	2007		2006

ASSETS
Current Assets
Cash and cash equivalents (Note 3)	€	84,848	€	69,367
Receivables (Note 4)		89,890		75,022
Note receivable, current portion		5,896		7,798
Inventories (Note 5)		103,610		62,857
Prepaid expenses and other		6,015		4,662
Current assets of discontinued operations (Note 18)		—		2,094

Total current assets		290,259		221,800

Long-Term Assets
Cash, restricted (Note 3)		33,000		57,000
Property, plant and equipment (Note 6)		933,258		972,143
Investments		96		1
Unrealized foreign exchange rate derivative gain (Note 15)		—		5,933
Deferred note issuance and other costs		5,303		6,984
Deferred income tax (Note 10)		17,624		29,989
Note receivable, less current portion		3,977		8,744

		993,258		1,080,794

Total assets	€	1,283,517	€	1,302,594

LIABILITIES
Current Liabilities
Accounts payable and accrued expenses (Note 7)	€	87,000	€	83,810
Pension and other post-retirement benefit obligations, current portion (Note 9)		493		363
Debt, current portion (Note 8)		34,023		33,903
Current liabilities of discontinued operations (Note 18)		—		1,926

Total current liabilities		121,516		120,002

Long-Term Liabilities
Debt, less current portion (Note 8)		815,832		873,928
Unrealized interest rate derivative losses (Note 15)		21,885		41,355
Pension and other post-retirement benefit obligations (Note 9)		19,983		17,954
Capital leases and other		8,999		7,643
Deferred income tax (Note 10)		18,640		22,911

		885,339		963,791

Total liabilities		1,006,855		1,083,793

SHAREHOLDERS’ EQUITY
Preferred shares, U.S.$1 par value; 50,000,000 authorized and issuable in series Series A, 2,000,000 authorized, none issued and outstanding		—		—
Common shares, U.S.$1 par value; 200,000,000 authorized; 36,285,027 issued and outstanding at December 31, 2007 and 35,465,176 at December 31, 2006 (Note 11)		202,844		195,642
Additional paid-in capital		134		154
Retained earnings		37,419		15,240
Accumulated other comprehensive income		36,265		7,765

Total shareholders’ equity		276,662		218,801

Total liabilities and shareholders’ equity	€	1,283,517	€	1,302,594

Commitments and contingencies (Note 17)

The accompanying notes are an integral part of these financial statements.

MERCER INTERNATIONAL INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

~~For the Years Ended December 31, 2006, 2005 and 2004~~

(In ~~Thousands~~thousands of Euros, Except Per Share Data)

2006 2005 2004

Revenues € 623,977 € 452,437 € 182,242
Costs and expenses:
Operating costs 462,543 375,408 141,267
Operating depreciation and amortization 55,834 51,160 26,788

105,600 25,869 14,187
General and administrative expenses 28,705 24,511 22,388
(Sale) purchase of emission allowances (15,609 ) (17,292 ) —

Operating income (loss) from continuing operations 92,504 18,650 (8,201 )

Other income (expense)
Interest expense (91,931 ) (86,326 ) (23,185 )
Investment income 6,090 2,422 2,772
Unrealized foreign exchange gain (loss) on debt 15,245 (4,156 ) —
Realized (loss) gain on derivative instruments (3,510 ) (2,455 ) 44,467
Unrealized gain (loss) on derivative instruments 109,358 (69,308 ) (32,331 )
Impairment of investments — (1,699 ) —

Total other income (expense) 35,252 (161,522 ) (8,277 )

Income (loss) before income taxes and minority interest from continuing operations 127,756 (142,872 ) (16,478 )
Income tax (provision) benefit (Note 10) (57,443 ) 13,140 44,163

Income (loss) before minority interest from continuing operations 70,313 (129,732 ) 27,685
Minority interest (1,071 ) 17,674 2,454

Net income (loss) from continuing operations 69,242 (112,058 ) 30,139
Net loss from discontinued operations (6,032 ) (5,088 ) (10,159 )

Net income (loss) € 63,210 € (117,146 ) € 19,980

Net income (loss) per share from continuing operations (Note 13)
Basic € 2.08 € (3.59 ) € 1.73

Diluted € 1.72 € (3.59 ) € 1.25

Net income (loss) per share (Note 13)
Basic € 1.90 € (3.75 ) € 1.15

Diluted € 1.58 € (3.75 ) € 0.89


	For The Years Ended December 31,
	2007			2006			2005

Revenues	€	704,391		€	623,977		€	452,437
Costs and expenses:
Operating costs		548,334			456,604			364,802
Operating depreciation and amortization		56,400			55,834			51,160

		99,657			111,539			36,475
Selling, general and administrative expenses		34,714			34,644			35,117
(Sale) purchase of emission allowances		(4,643	)		(15,609	)		(17,292	)

Operating income from continuing operations		69,586			92,504			18,650

Other income (expense)
Interest expense		(71,400	)		(91,931	)		(86,326	)
Investment income		4,453			6,090			2,422
Foreign exchange gain (loss) on debt and distributions		10,958			15,245			(4,156	)
Realized gain (loss) on derivative instruments		6,820			(3,510	)		(2,455	)
Unrealized gain (loss) on derivative instruments		13,537			109,358			(69,308	)
Impairment of investments		—			—			(1,699	)

Total other (expense) income		(35,632	)		35,252			(161,522	)

Income (loss) before income taxes and minority interest from continuing operations		33,954			127,756			(142,872	)
Income tax (provision) benefit (Note 10)
Current		(2,170	)		(584	)		(383	)
Deferred		(8,144	)		(56,859	)		13,523

Income (loss) before minority interest from continuing operations		23,640			70,313			(129,732	)
Minority interest		(1,251	)		(1,071	)		17,674

Net income (loss) from continuing operations		22,389			69,242			(112,058	)
Net loss from discontinued operations		(210	)		(6,032	)		(5,088	)

Net income (loss)	€	22,179		€	63,210		€	(117,146	)

Net income (loss) per share from continuing operations (Note 13)
Basic	€	0.62		€	2.08		€	(3.59	)

Diluted	€	0.58		€	1.72		€	(3.59	)

Net income (loss) per share (Note 13)
Basic	€	0.61		€	1.90		€	(3.75	)

Diluted	€	0.58		€	1.58		€	(3.75	)

The accompanying notes are an integral part of these financial statements.

MERCER INTERNATIONAL INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

~~For the Years Ended December 31, 2006, 2005 and 2004~~

(In ~~Thousands~~thousands of Euros)

2006 2005 2004

Net income (loss) € 63,210 € (117,146 ) € 19,980

Other comprehensive income (loss)
Foreign currency translation adjustment (11,308 ) 5,156 4,467
Pension plan additional minimum liability — (331 ) —
Unrealized gains on securities
Unrealized holding gains arising during the year 171 134 390

Other comprehensive (loss) income (11,137 ) 4,959 4,857

Comprehensive income (loss) € 52,073 € (112,187 ) € 24,837


	For The Years Ended December 31,
	2007			2006			2005

Net income (loss)	€	22,179		€	63,210		€	(117,146	)

Other comprehensive income (loss)
Foreign currency translation adjustment		29,214			(3,730	)		5,156
Pension plan additional minimum liability		—			—			(331	)
FASB 158 pension expense		(809	)		—			—
Unrealized gains on securities Unrealized holding gains arising during the year		95			171			134

Other comprehensive income (loss)		28,500			(3,559	)		4,959

Comprehensive income (loss)	€	50,679		€	59,651		€	(112,187	)

The accompanying notes are an integral part of these financial statements.

MERCER INTERNATIONAL INC.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

~~For the Years Ended December 31, 2006, 2005 and 2004~~

(In ~~Thousands~~thousands of Euros)

Common Shares
Accumulated Other Comprehensive Income
Amount
Paid in Foreign Defined Unrealized
Excess of Additional Retained Currency Benefit Gains
Number of Par Par Paid-In Earnings Translation Pension (Losses) on Shareholders’
Shares Value Value Capital (Deficit) Adjustments Plans Securities Total Equity

Balance at December 31, 2003 17,099,899 € 13,053 € 65,086 € 223 € 49,196 € 5,992 € — € (695 ) € 5,297 € 132,855
Shares issued on exercise of stock options 934,330 743 4,241 (209 ) — — — — — 4,775
Shares issued on grants of restricted stock 40,000 40 234 — — — — — — 274
Net income — — — — 19,980 — — — 19,980
Other comprehensive income — — — — — 4,467 — 390 4,857 4,857

Balance at December 31, 2004 18,074,229 13,836 69,561 14 69,176 10,459 — (305 ) 10,154 162,741
Shares issued on equity offering 10,768,700 8,275 58,370 — — — — — — 66,645
Shares issued on acquisition of Celgar 4,210,526 3,244 27,570 — — — — — — 30,814
Shares issued on grants of restricted stock 115,685 93 637 — — — — — — 730
Net loss — — — (117,146 ) — — — — (117,146 )
Other comprehensive income — — — — — 5,156 (331 ) 134 4,959 4,959

Balance at December 31, 2005 33,169,140 25,448 156,138 14 (47,970 ) 15,615 (331 ) (171 ) 15,113 148,743
Shares issued on exercise of stock options 60,000 41 251 — — — — — — 292
Shares issued on grants of restricted stock 45,000 32 297 — — — — — — 329
Shares of restricted stock cancelled (9,999 ) (7 ) (57 ) — — — — — — (64 )
Shares issued on repurchase of notes 2,201,035 1,447 12,052 — — — — — — 13,499
Stock compensation expense — — — 140 — — — — — 140
Adjustment to initially apply FASB
Statement No. 158, net of tax — — — — — — 3,789 — 3,789 3,789
Net income — — — — 63,210 — — — — 63,210
Other comprehensive income — — — — — (11,308 ) — 171 (11,137 ) (11,137 )

Balance at December 31, 2006 35,465,176 € 26,961 € 168,681 € 154 € 15,240 € 4,307 € 3,458 € — € 7,765 € 218,801
��


																Comprehensive Income
	Common Shares															Accumulated Other
							Amount									Foreign			Defined			Unrealized
							Paid in			Additional			Retained			Currency			Benefit			Gains
	Number						Excess of			Paid-in			Earnings			Translation			Pension			(Losses) on						Shareholders’
	of Shares			Par Value			Par Value			Capital			(Deficit)			Adjustments			Plans			Securities			Total			Total Equity

Balance at December 31, 2004		18,074,229		€	13,836		€	69,561		€	14		€	69,176		€	10,459		€	-		€	(305	)	€	10,154		€	162,741
Shares issued on equity offering		10,768,700			8,275			58,370			—			—			—			—			—			—			66,645
Shares issued on acquisition of Celgar		4,210,526			3,244			27,570			—			—			—			—			—			—			30,814
Shares issued on grants of restricted stock		115,685			93			637			—			—			—			—			—			—			730
Net loss		—			—			—			—			(117,146	)		—			—			—			—			(117,146	)
Other comprehensive income (loss)		—			—			—			—			—			5,156			(331	)		134			4,959			4,959

Balance at December 31, 2005		33,169,140		€	25,448		€	156,138		€	14		€	(47,970	)	€	15,615		€	(331	)	€	(171	)	€	15,113		€	148,743
Shares issued on exercise of stock options		60,000			41			251			—			—			—			—			—			—			292
Shares issued on grants of restricted stock		45,000			32			297			—			—			—			—			—			—			329
Shares of restricted stock cancelled		(9,999	)		(7	)		(57	)		—			—			—			—			—			—			(64	)
Shares issued on repurchase of notes		2,201,035			1,447			12,052			—			—			—			—			—			—			13,499
Stock compensation expense		—			—			—			140			—			—			—			—			—			140
Adjustment to initially apply FASB Statement No. 158, net of tax		—			—			—			—			—			—			(3,789	)		—			(3,789	)		(3,789	)
Net income		—			—			—			—			63,210			—			—			—			—			63,210
Other comprehensive income (loss)		—			—			—			—			—			(3,730	)		—			171			(3,559	)		(3,559	)

Balance at December 31, 2006		35,465,176		€	26,961		€	168,681		€	154		€	15,240		€	11,885		€	(4,120	)	€	-		€	7,765		€	218,801
Shares issued on exercise of stock options		56,666			43			261			—			—			—			—			—			—			304
Shares issued on grants of restricted stock		21,000			15			145			—			—			—			—			—			—			160
Shares issued on repurchase of notes		742,185			557			6,181			—			—			—			—			—			—			6,738
Stock compensation expense		—			—			—			(20	)		—			—			—			—			—			(20	)
Net income		—			—			—			—			22,179			—			—			—			—			22,179
Other comprehensive income (loss)		—			—			—			—			—			29,214			(809	)		95			28,500			28,500

Balance at December 31, 2007		36,285,027		€	27,576		€	175,268		€	134		€	37,419		€	41,099		€	(4,929	)	€	95		€	36,265		€	276,662

The accompanying notes are an integral part of these financial statements.

MERCER INTERNATIONAL INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the Years Ended December 31, 2007, 2006 ~~2005~~ and ~~2004~~2005

(In Thousands of Euros)

2006 2005 2004

Cash Flows from Operating Activities
Net income (loss) € 63,210 € (117,146 ) € 19,980
Adjustments to reconcile net income (loss) to cash flows from operating activities
Unrealized (gains) losses on derivatives (109,358 ) 69,308 32,331
Unrealized foreign exchange (gain) loss on debt (15,245 ) 4,156 —
Operating depreciation and amortization 56,085 52,041 29,144
Non-operating amortization 269 1,385 644
Loss on sale of assets 5,957 — —
Impairment of investments — 1,699 —
Minority interest 1,071 (17,674 ) (2,454 )
(Income) loss from equity investee (1,206 ) — 284
Deferred income taxes 56,859 (11,480 ) (42,476 )
Stock compensation expense 541 441 735
Impairment of assets — — 6,000
Other 1,135 1,945 (307 )
Changes in current assets and liabilities
Receivables (7,381 ) (18,810 ) (21,659 )
Inventories 7,364 (4,150 ) (28,989 )
Accounts payable and accrued expenses (9,305 ) 50,582 17,011
Other (773 ) (959 ) (638 )

Net cash from operating activities 49,223 11,338 9,606

Cash Flows from (used in) Investing Activities
Cash restricted (25,388 ) 61,221 (33,466 )
Purchase of property, plant and equipment (32,937 ) (21,987 ) (322,219 )
Acquisition of Celgar pulp mill — (146,608 ) —
Purchases of available-for-sale securities — (1,650 ) —
Proceeds from sale of properties 1,765 857 115
Proceeds from available-for-sale securities 1,184 — 1,161
Deferred acquisition costs — — (770 )
Advances to equity method investments — — (2,071 )
Note receivable (6,870 ) — —

Net cash used in investing activities (62,246 ) (108,167 ) (357,250 )
Cash Flows from (used in) Financing Activities
(Decrease) increase in construction costs payable (240 ) (64,223 ) 22,680
Proceeds from borrowings of notes payable and debt 78,100 313,118 237,000
Proceeds from minority shareholders 5,463 5,463 —
Repayment of notes payable and debt (87,911 ) (272,391 ) (21,992 )
Repayment of capital lease obligations (4,091 ) (6,411 ) (1,970 )
Proceeds from investment grants 9,101 84,694 103,574
Issuance of common shares 556 66,645 4,241

Net cash from financing activities 978 126,895 343,533
Effect of exchange rate changes on cash and cash equivalents (1,698 ) 3,913 1,686

Net (decrease) increase in cash and cash equivalents (13,743 ) 33,979 (2,425 )
Cash and cash equivalents, beginning of year(1) 83,547 49,568 51,993

Cash and cash equivalents, end of year(2) € 69,804 € 83,547 € 49,568

Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest € 84,382 € 46,411 € 43,581
Income taxes 1,304 640 16
Supplemental schedule of non-cash investing and financing activities:
Acquisition of production and other equipment under capital lease obligations € 3,301 € 2,864 € 10,295
Property, plant and equipment on acquisition of 7% interest in Stendal 8,067 — —
Acquisition of notes receivable on sale of paper assets 11,321 — —
Common shares issued on acquisition of Celgar mill — 30,814 —


	For The Years Ended December 31,
	2007			2006			2005

Cash Flows from Operating Activities
Net income (loss)	€	22,179		€	63,210		€	(117,146	)
Adjustments to reconcile net income (loss) to cash flows from operating activities
Unrealized (gains) losses on derivatives		(13,537	)		(109,358	)		69,308
Unrealized foreign exchange (gain) loss on debt		(10,958	)		(15,245	)		4,156
Operating depreciation and amortization		56,400			56,085			52,041
Non-operating amortization		258			269			1,385
Loss on sale of assets		—			5,957			—
Impairment of investments		—			—			1,699
Minority interest		1,251			1,071			(17,674	)
Income from equity investee		—			(1,206	)		—
Deferred income taxes		8,144			56,859			(11,480	)
Stock compensation expense		243			541			441
Pension and other post-retirement expense		1,806			1,638			1,582
Pension and other post-retirement benefit funding		(2,021	)		(1,941	)		(1,663	)
Other		2,227			1,438			2,026
Changes in current assets and liabilities
Receivables		(11,890	)		(7,381	)		(18,810	)
Inventories		(38,703	)		7,364			(4,150	)
Accounts payable and accrued expenses		3,303			(9,305	)		50,582
Other		447			(773	)		(959	)

Net cash from operating activities		19,149			49,223			11,338
Cash Flows from (used in) Investing Activities
Cash, restricted		24,000			(25,388	)		61,221
Purchase of property, plant and equipment(3)		(4,864	)		(32,937	)		(21,987	)
Proceeds on sale of property, plant and equipment		881			1,765			857
Note receivable		4,954			(6,870	)		—
Proceeds from available-for-sale securities		—			1,184			—
Acquisition of Celgar pulp mill		—			—			(146,608	)
Purchases of available-for-sale securities		—			—			(1,650	)

Net cash from (used in) investing activities		24,971			(62,246	)		(108,167	)
Cash Flows from (used in) Financing Activities
Repayment of notes payable and debt		(26,719	)		(87,911	)		(272,391	)
Repayment of capital lease obligations		(5,562	)		(4,091	)		(6,411	)
Proceeds from investment grants		1,236			9,101			84,694
Issuance of common shares		305			556			66,645
Proceeds from borrowings of notes payable and debt		—			78,100			313,118
Proceeds from minority shareholders		—			5,463			5,463
Decrease in construction costs payable		—			(240	)		(64,223	)

Net cash (used in) from financing activities		(30,740	)		978			126,895
Effect of exchange rate changes on cash and cash equivalents		1,664			(1,698	)		3,913

Net increase (decrease) in cash and cash equivalents		15,044			(13,743	)		33,979
Cash and cash equivalents, beginning of year(1)		69,804			83,547			49,568

Cash and cash equivalents, end of year(2)	€	84,848		€	69,804		€	83,547

Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest	€	73,318		€	84,382		€	46,411
Income taxes		452			1,304			640
Supplemental schedule of non-cash investing and financing activities:
Acquisition of production and other equipment under capital lease obligations	€	2,110		€	3,301		€	2,864
Property, plant and equipment on acquisition of 7% interest in Stendal		6,738			8,067			—
Acquisition of notes receivable on sale of paper assets		—			11,321			—
Common shares issued on acquisition of Celgar mill		—			—			30,814


(1)		Includes amounts related to discontinued operations of: 2007 — €437, 2006 - €~~772,~~— €772, 2005 - €~~3,019,2004 -~~ €~~211~~— €3,019

(2)		Includes amounts related to discontinued operations of: 2007 — €nil, 2006 - €~~437,~~— €437, 2005 - €~~772,2004 -~~ €~~3,019~~— €772

(3)		Includes amounts received and recorded as a reduction of property, plant and equipment (approximately €9,100) upon the settlement of the Stendal engineering, procurement and construction (EPC) contract.

The accompanying notes are an integral part of these financial statements.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 1.	The Company and Summary of Significant Accounting Policies

Basis of Presentation

These consolidated financial statements contained herein include the accounts of Mercer International Inc. (“Mercer Inc.”) and its wholly-owned and majority-owned subsidiaries (collectively, the “Company”).

~~Effective~~

The Company converted its corporate form from a Washington business trust to a corporation effective March 1, 2006 ~~the Company was converted from a business trust organized under the laws of the State of Washington~~without effecting any changes to a corporation organized under the laws of the State of Washington. The conversion was effected through the merger of Mercer Inc. with and into an indirect wholly-owned Delaware subsidiary company followed by a merger with a direct wholly-owned Washington subsidiary company. The conversion effected a change in the Company’s legal form, but did not result in any change in its business, management, ~~fiscal year,~~ accounting practices, assets or ~~liabilities (except to the extent of legal and other costs of effecting the conversion and maintaining ongoing corporate status) or location of its principal executive offices and facilities.~~liabilities.

In these consolidated financial statements, unless otherwise indicated, all amounts are expressed in Euros (“€”). The Company continues to operate under the name “Mercer International Inc.” following consummation of the conversion and continues to be engaged in the same business that it was engaged in prior to the conversion and its shares of common stock are quoted and listed for trading on the NASDAQ National Marketterm “U.S. dollars” and the ~~Toronto Stock Exchange, respectively.~~symbol “$” refer to United States dollars. The symbol “C$” refers to Canadian dollars.

Estimates

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Estimates are used for, but not limited to, the accounting for doubtful accounts, depreciation and amortization, asset impairments, derivative financial instruments, environmental conservation and legal liabilities, allocation of purchase price of acquisitions, asset retirement obligations, pensions and post-retirement benefit obligations, income taxes, and contingencies. Actual results could differ from these estimates.

Cash and Cash Equivalents

Cash and cash equivalents ~~includes~~include cash held in bank accounts and highly liquid money market investments with original maturities of three months or less.

Investments

Trading securities, consisting of marketable securities, are classified as current investments and are reported at fair values with realized gains or losses and unrealized holding gains or losses included in the results of operations.

Investments in entities where the Company has equity investments in publicly traded companies in which it has less than 20% of the voting interest and in which it does not exercise significant influence are classified as available-for-sale securities. These securities are reported as long-term investments at fair values; based upon quoted market prices, with the unrealized gains or losses included in accumulated other comprehensive income as a separate component of shareholders’ equity, until realized. If a loss in value in available-for-sale securities is considered to be other than temporary, the loss is recognized in the determination of net income. The cost of all securities sold is based on the specific identification method to determine realized gains or losses.

Investments in entities where the Company owns between 20% and 50% of the voting interest, and in which the Company exercises significant influence are accounted for using the equity method. Under this method, the investment is initially recorded at cost then reduced by dividends and increased or decreased by

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 1.~~	~~The Company and Summary of Significant Accounting Policies — (Continued)~~

the Company’s proportionate share of the investee’s net earnings or loss. The amount of earnings or losses from equity investees is included in other investment income.

Inventories

Inventories of pulp and logs are valued at the lower of ~~average~~ cost and net realizable value. Other materials and supplies are valued at the lower of ~~average~~ cost and replacement cost. Cost includes ~~labour,~~labor, materials and production ~~overhead.~~overhead and is determined by using the average cost method.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 1.	The Company and Summary of Significant Accounting Policies — (Continued)

Property, Plant and Equipment

Property, plant and equipment is stated at cost less accumulated depreciation. Depreciation of buildings and production equipment is based on the estimated useful lives of the assets and is computed using the straight-line method. Buildings are depreciated over 10 to 50 years and production and other equipment primarily over 25 years. Repairs and maintenance are charged to operations as incurred. Expenditures for new facilities and those expenditures that substantially increase the useful lives of existing property, plant and equipment are capitalized, as well as interest costs associated with major capital projects until ready for their intended use.

The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. To determine recoverability, the Company compares the carrying value of the assets to the estimated future undiscounted cash flows. Measurement of an impairment loss for long-lived assets held for use is based on the fair value of the asset.

The Company provides for asset retirement obligations when there are legislated or contractual bases for those obligations. Obligations are capitalized and amortized over the remaining useful life of the related ~~operations.~~assets.

Government Grants

The Company records investment grants from federal and state governments when they are received. Grants related to assets are government grants whose primary condition is that the company qualifying for them should purchase, construct or otherwise acquire long-term assets. Secondary conditions may also be attached restricting the type or location of the assetsand/or other conditions must be met. Grants related to assets, when received, are deducted from the asset costs. Grants related to income are government grants which are either unconditional or related to the Company’s normal business operations, and are reported as a reduction of related expenses when received.

Deferred Note Issuance Costs

Note issuance costs are deferred and amortized as a component of expenses over the term of the related debt instrument.

Pensions

The Company maintains a defined benefit pension plan for its salaried employees at its Celgar mill which is funded and non-contributory. The cost of the benefits earned by the salaried employees is determined using the projected benefit method pro rated on services. The pension expense reflects the current service cost, the interest on the unfunded liability and the amortization over the estimated average remaining service life of the employees of (i) the unfunded liability and (ii) experience gains or losses.

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 1.~~	~~The Company and Summary of Significant Accounting Policies — (Continued)~~

In accordance with the ~~transition~~ provisions of ~~SFAS~~Statement of Financial Accounting Standards No. 158,Employer’s Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statement No. 87, 88, 106 and 132R (SFAS 158), the Company ~~reorganizes~~recognizes the net funded status of the plan. ~~See also “New Accounting Standards” later in this note for a summary of changing disclosure on pensions.~~

In addition, hourly-paid employees at the Celgar mill are covered by a multi-employer defined contribution pension plan for which contributions are charged against earnings.

Foreign Operations and Currency Translation

The Company translates foreign assets and liabilities of its subsidiaries, other than those denominated in Euros, at the rate of exchange at the balance sheet date. Revenues and expenses are translated at the average rate of

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 1.	The Company and Summary of Significant Accounting Policies — (Continued)

exchange throughout the year. Gains or losses from these translations are reported as a separate component of other comprehensive income (loss), until all of the investment in the subsidiaries is sold or liquidated. The translation adjustments do not recognize the effect of income tax because the Company expects to reinvest the amounts indefinitely in operations.

Transaction gains (losses) that arise from exchange rate fluctuations on transactions denominated in a currency other than the local functional currency, other than those exchange rate fluctuations on foreign denominated debt, are included in ~~“General and administrative expenses”~~“Operating Cost” in the ~~statement~~statements of operations, which amounted to€~~1,059,~~€~~(2,624)~~ €(6,774), €(2,065) and€~~785~~ €2,818 for the years ended December 31, 2007, 2006 ~~2005~~ and ~~2004,~~2005, respectively.

Revenue and Related Cost Recognition

The Company recognizes revenue from product sales, transportation and other when persuasive evidence of an arrangement exists, the sales price is fixed or determinable, title of ownership and risk of loss have passed to the customer and collectibility is reasonably assured. Sales are reported net of discounts and allowances. Amounts charged to customers for shipping and handling are recognized as revenue. Shipping and handling costs incurred by the Company are included in ~~cost of sales.~~operating costs.

Environmental Conservation

Liabilities for environmental conservation are recorded when it is probable that obligations have been incurred and their fair value can be reasonably estimated. Any potential recoveries of such liabilities are recorded when there is an agreement with the reimbursing entity and recovery is assessed as likely to occur.

Stock-Based Compensation

The Company adopted Statement of Financial Accounting Standards (SFAS) No. ~~123R,~~123(R),Share-Based ~~Paymen~~Paymentt,, on January 1, 2006. This statement requires the Company to recognize the cost of employee services received in exchange for the Company’s equity instruments. Under SFAS No. ~~123R,~~123(R), the Company is required to record compensation expense over an award’s vesting period based on the award’s fair value at the date of grant. The Company has elected to adopt SFAS No. ~~123R~~123(R) on a modified prospective basis; accordingly, the financial statements for periods prior to January 1, 2006 will not include compensation cost calculated under the fair value method.

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 1.~~	~~The Company and Summary of Significant Accounting Policies — (Continued)~~

~~Prior to January 1, 2006, the Company applied Accounting Principles Board Opinion 25,~~~~Accounting for Stock Issued to Employees~~~~, and, therefore, recorded the intrinsic value of stock-based compensation as expense and applied the disclosure provisions of SFAS No. 123,~~~~Accounting for Stock-Based Compensation~~. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation prior to January 1, 2006.

2005 2004

Net (Loss) Income

As reported € (117,146 ) € 19,980
Deduct: Total stock-based employee compensation expense determined under fair value based methods for all awards, net of any related tax effects (93 ) (42 )
Add: Reversal of stock-based compensation expense recognized under APB Opinion No. 25 — —

Pro forma € (117,239 ) € 19,938

2005 2004

Basic (Loss) Income Per Share

As reported € (3.75 ) € 1.15
Pro forma € (3.76 ) € 1.15

2005 2004

Diluted (Loss) Income Per Share

As reported € (3.75 ) € 0.89
Pro forma € (3.76 ) € 0.89

Taxes on Income

Income taxes are reported under SFAS No. 109, “Accounting for Income Taxes”, and, accordingly, deferred income taxes are recognized using the asset and liability method, whereby deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, and operating loss and tax credit carryforwards. Valuation allowances are provided if, after considering available evidence, both positive and negative, it is more likely than not that some or all of the deferred tax assets will not be realized.

Derivative Financial Instruments

The Company enters into derivative financial instruments, including foreign currency forward contracts and swaps and interest rate swaps, caps and forward rate agreements, to limit exposures to changes in foreign currency exchange rates and interest rates. These derivative instruments are not designated as hedging instruments under ~~SFAS~~Statement of Financial Accounting Standards No. 133,Accounting for Derivative Instruments and Hedging

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 1.	The Company and Summary of Significant Accounting Policies — (Continued)

Activities (“FAS 133”) and, accordingly, any change in the~~marked-to-market~~ marked-to-market fair value is recognized in (gain) loss on derivative financial instruments in the consolidated statements of operations.

Net Income (Loss) Per Share

Basic net income (loss) per share is computed by dividing net income (loss) available to common shareholders by the weighted average number of common shares outstanding in the period. Diluted net income (loss) per share

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 1.~~	~~The Company and Summary of Significant Accounting Policies — (Continued)~~

takes into consideration common shares outstanding (computed under basic earnings per share) plus potentially dilutive common shares. Dilutive common shares reflect the exercise of stock options, warrants and convertible notes.

Reclassifications

Certain prior year amounts in the consolidated financial statements have been reclassified to conform to the current year presentation.

New Accounting Standards

In ~~February~~June 2006, the FASB issued Interpretation No. 48,Accounting for Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109 (“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with FASB Statement No. 109,Accounting for Income Taxes, and prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Under FIN 48, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more likely than not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. Additionally, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. See Note 10 for more details on the implementation of FIN 48.

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. ~~155,~~~~Accounting for Certain Hybrid Financial Instruments — an amendment of FASB Statements No. 133 and 140~~~~(SFAS 155). This Statement amends FASB Statement No. 133,~~~~Accounting for Derivative Instruments and Hedging Activities~~~~, and Statement No. 140,~~~~Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities~~~~. This Statement resolves issues addressed in Statement 133 Implementation Issue No. D1,~~~~Application of Statement 133 to Beneficial Interests in Securitized Financial Assets~~. This Statement will be effective for financial instruments acquired or issued by the Company after the beginning of its 2007 fiscal year. The Company expects that the adoption of this Statement will not have a material effect on its financial condition or results of operations.

~~In June 2006, the FASB issued Interpretation No. 48,~~~~Accounting for Uncertainty in Income Taxes~~(FIN 48). This interpretation clarifies the recognition threshold and measurement of a tax position taken on a tax return, and requires expanded disclosure with respect to the uncertainty in income taxes. FIN 48 is effective for fiscal years beginning after December 15, 2006. The adoption of FIN 48 is not expected to have a material impact on the Company’s consolidated financial statements.

~~In September 2006, the FASB issued Statement of Financial Accounting Standards No.~~ 157,Fair Value ~~Measurement~~Measurements(~~SFAS 157)~~“FAS 157”). ~~This statement~~FAS 157 defines fair value, establishes ~~guidelines~~a framework for measuring fair value and expands disclosures regarding fair value measurements. ~~SFAS 157~~It is applicable whenever another standard requires or permits assets or liabilities to be measured at fair value, but it does not ~~require~~expand the use of fair value to any new ~~fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS~~circumstances. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, ~~2007~~2007. On February 12, 2008, the FASB Staff issued FASB Staff PositionFAS 157-2(“FSP 157-2”) which defers the effective date of FAS 157 for all nonfinancial assets and liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis.FSP 157-2 defers the effective date of FAS 157 to fiscal years beginning after November 15, 2008, for items within the scope ofFSP 157-2. The Company is ~~not expected to~~in the process of determining the impact, if any, the adoption of FAS 157 will have ~~a material impact~~ on ~~the Company’s~~its consolidated financial ~~statements.~~position or results of operations, but does not believe the impact will be material.

In ~~September 2006,~~February 2007, the FASB issued Statement of Financial Accounting Standards No. ~~158,~~~~Employer’s Accounting~~159, “The Fair Value Option for ~~Defined Benefit Pension~~Financial Assets and ~~Other Postretirement Plans — an amendment~~Financial Liabilities” (“FAS 159”). FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value, with the objective of ~~FASB Statement No. 87, 88, 106 and 132R(SFAS 158). This Statement requires an employer to recognize~~improving financial reporting by mitigating volatility in ~~its statement of financial position an asset of a plan’s over funded status or a liability for a plan’s under funded status, measure a plan’s~~reported earnings caused by measuring related assets and ~~its obligations that determine its funded status as~~liabilities differently without having to apply complex hedge accounting provisions. The provisions of the end of the employer’s fiscal year (with limited exceptions), and recognize changes in the funded status of a defined benefit postretirement plan in the year in which the changes occur. SFAS 158 isFAS 159 are effective for ~~fiscal years~~the Company’s year ending ~~after December 15, 2006. In accordance with the effective dates and transition guidelines of this standard, the Company has adopted the recognition and disclosure provisions of SFAS 158 effective~~ December 31, ~~2006,~~2008. The Company is currently evaluating the ~~most notable of which is the recognition of the funded status. Prior to~~impact, if any, that the adoption of this statement will have on the ~~recognition provisions~~Company’s consolidated financial position, results of ~~SFAS No. 158,~~operations and disclosures, but does not believe the Company accounted for its post retirement benefits under SFAS No. 87 and SFAS No. 106. Under these standards, changes in the funded status were not immediately recognized, but instead were deferred and recognized in a systematic manner in later periods. The adoption of this standard requires issuers to recognize the change in the funded status of the plan through other comprehensive income. Upon adoption of the recognition provisions of SFAS No. 158, the Company recognized the amounts of prior changes in fundedimpact will be material.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 1.	The Company and Summary of Significant Accounting Policies — (Continued)

~~status~~

In December 2007, the FASB issued Statement of ~~post retirement obligations through accumulated other comprehensive income. As a result,~~Financial Accounting Standards No. 160,Noncontrolling Interests in Consolidated Financial Statements(“FAS 160”). FAS 160 establishes accounting and reporting standards for entities that have equity investments that are not attributable directly to the ~~Company recognized the following adjustments in individual line items of its Consolidated Balance Sheets as of December 31, 2006:~~

Prior to Adoption Effect of Adoption As Reported at
of SFAS No. 158 of SFAS No. 158 December 31, 2006

Pension and other postretirement benefit obligations, current portion € — € 363 € 363
Pension and other postretirement benefit obligation 14,859 3,095 17,954
Total liabilities 1,080,335 3,458 1,083,793
Accumulated other comprehensive income 3,976 3,789 7,765
Total shareholders’ equity 215,012 3,789 218,801

~~The adoption of SFAS No. 158 had no effect on the Company’s consolidated statement of operations for the years ended December 31, 2006, 2005~~parent, called noncontrolling interests or ~~2004.~~

~~As of December 31, 2006, amounts recognized in accumulated other comprehensive income included unrecognized actuarial losses of~~€~~1.9. The estimated actuarial loss that will be recognized~~minority interests. Specifically, FAS 160 states where and how to report noncontrolling interests in the consolidated ~~statement~~statements of financial position and operations, how to account for changes in ~~2007 is~~€~~0.1.~~

~~In accordance with this standard, further changes to the recognition~~noncontrolling interests and provides disclosure requirements. The provisions ~~net periodic benefit cost and associated disclosure~~of FAS 160 are effective for the Company’s year beginning on or after December 15, ~~2008.~~2008, early adoption is prohibited. The Company is currently evaluating the impact that the adoption of ~~the requirements of~~ this ~~standard is not expected to~~statement will have ~~a material effect~~ on the Company’s consolidated financial ~~statements.~~position, results of operations and disclosures.

In ~~September 2006,~~December 2007, the ~~Securities and Exchange Commission (SEC)~~FASB issued ~~Staff~~Statement of Financial Accounting ~~Bulletin~~Standards No. ~~108 (SAB 108)~~141(R),Business Combinations(“FAS 141(R)”). ~~SAB 108 provides guidance on the consideration of the effects of prior year misstatements in quantifying current year misstatements~~FAS 141(R) establishes how an entity accounts for the ~~purpose~~identifiable assets acquired, liabilities assumed, and any noncontrolling interests acquired, how to account for goodwill acquired and determines what disclosures are required as part of a ~~materiality assessment. SAB 108 permits existing public companies~~business combination. FAS 141(R) applies prospectively to ~~record~~business combinations for which the ~~cumulative effect of initially applying this approach in the fiscal year ending~~acquisition date is on or after ~~November 15, 2006 by recording necessary correcting adjustments to the carrying values of assets and liabilities as of~~ the beginning of ~~that year with~~ the ~~offsetting adjustment recorded to the opening balance of retained earnings.~~first annual reporting period beginning on or after December 15, 2008, early adoption is prohibited. The Company ~~has reviewed~~is currently evaluating the ~~guidance~~impact that the adoption of ~~SAB 108~~this statement will have on the Company’s consolidated financial position, results of operations and ~~has determined that no correcting adjustments are necessary in our implementation.~~disclosures.


Note 2.	Acquisition of the Celgar Mill and Related Financings

Acquisition

On February 14, 2005, the Company completed its acquisition of the Celgar NBSK pulp mill. The aggregate consideration for the acquisition was€~~177,422,~~ €177,422, which included€~~142,940~~ €142,940 in cash, acquisition related expenditures of€~~3,668~~ €3,668 and€~~30,814~~ €30,814 was paid in common shares of the ~~Company as more fully described below.~~Company. The results of the Celgar mill are included in the consolidated ~~statement~~statements of operations since the acquisition date.


Note 3.	Cash, Cash Equivalents and Restricted Cash

Cash, cash equivalents and restricted cash includes long-term restricted cash for debt service reserves as required under long-term debt agreements (Note 8(a)). The Company maintains cash balances in foreign financial institutions in excess of insured limits.


	December 31
	2007		2006

Cash and cash equivalents	€	84,848	€	69,367

Long-term cash restricted	€	33,000	€	57,000


Note 4.	Receivables


	December 31
	2007		2006

Sale of pulp (net of allowance of €626 and €470, respectively)	€	81,913	€	69,163
Value added tax		2,673		456
Other		5,304		5,403

	€	89,890	€	75,022

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


~~Note 2.~~	~~Acquisition of the Celgar Mill and Related Financings — (Continued)~~

~~The allocation of the purchase price is summarized below.~~


~~Purchase price:~~
	~~Cash (including defined working capital)~~	€	~~142,940~~
	~~Equity — common shares~~		~~30,814~~
	~~Acquisition costs~~		~~3,668~~

		€	~~177,422~~

~~Net assets acquired:~~
	~~Receivables~~	€	32
	~~Inventories~~		~~19,969~~
	~~Prepaids and other assets~~		~~616~~
	~~Property, plant and equipment~~		~~175,096~~
	~~Accrued expenses and other liabilities~~		~~(4,103~~	)
	~~Pension plan and post-retirement benefits obligation~~		~~(14,188~~	)

		€	~~177,422~~

~~In October 2005, our wholly-owned subsidiary, Zellstoff Celgar Limited, received a re-assessment for real property transfer tax payable in British Columbia, Canada, in the amount of approximately~~€3.5 million in connection with the transfer of the land where the Celgar mill is situated. The Company is contesting the assessment and the amount, if any, that may be payable in connection therewith is not yet determinable.

~~Pro Forma Financial Summary (Unaudited)~~

The following pro forma financial summary is presented as if the acquisition of the Celgar pulp mill was completed as of January 1, 2005 and January 1, 2004. The pro forma combined results are not necessarily indicative of the actual results that would have occurred had the acquisition been consummated on those dates, or of the future operations of the combined entities.

Years Ended

2005 2004

Total revenues € 535,631 € 434,253
Net income (loss) € (125,965 ) € 23,984
Income (loss) from continuing operations per share:
Basic € (3.81 ) € 0.74
Diluted € (3.81 ) € 0.55


~~Note 3.~~	~~Cash and Restricted Cash~~

Cash and restricted cash includes an amount restricted by a lender to pay current construction costs and long-term restricted cash for debt service reserves as required under long-term debt agreements (Note 8(e)).

2006 2005

Cash and cash equivalents € 69,367 € 82,775
Cash restricted — 7,039

Total current cash, cash equivalents and restricted cash € 69,367 € 89,814

Long-term cash restricted € 57,000 € 24,573

~~The Company maintains cash balances in foreign financial institutions in excess of insured limits.~~

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


Note 4.	Receivables — (Continued)

December 31

2006 2005

Sale of pulp (net of allowance of€470 and€529, respectively)
€ 69,163 € 64,572
Value added tax 456 1,067
Other 5,403 4,349

€ 75,022 € 69,988

The Company reviews the collectibility of receivables on a periodic basis. The Company maintains an allowance for doubtful accounts at an amount estimated to cover the potential losses on the receivables. Any amounts that are determined to be uncollectible are ~~charged off~~offset against the allowance. The amounts of allowance and ~~charge-off~~offset are based on the Company’s evaluation of numerous factors, including the payment history and financial position of the debtors. The Company does not generally require collateral for any of its receivables.


Note 5.	Inventories

December 31

2006 2005

Pulp
Raw materials € 38,905 € 39,351
Work in process and finished goods 23,952 34,391

€ 62,857 € 73,742


	December 31
	2007		2006

Raw materials	€	59,559	€	38,905
Work in process and finished goods		44,051		23,952

	€	103,610	€	62,857


Note 6.	Property, Plant and Equipment

December 31

2006 2005

Land € 23,953 € 24,068
Buildings 127,338 128,435
Production equipment and other 1,062,049 1,056,327

1,213,340 1,208,830
Less: Accumulated depreciation (241,197 ) (193,467 )

€ 972,143 € 1,015,363


	December 31
	2007			2006

Land	€	24,538		€	23,953
Buildings		125,369			127,338
Production equipment and other		1,069,170			1,062,049

		1,219,077			1,213,340
Less: Accumulated depreciation		(285,819	)		(241,197	)

	€	933,258		€	972,143

Included in production equipment and other is equipment under capital leases which had gross amounts of€~~20,848~~ €17,765 and€~~19,746,~~ €20,848, and accumulated depreciation of€~~10,871~~ €9,005 and€~~9,716,~~ €10,871, respectively, as at December 31, ~~2006~~2007 and ~~2005.~~2006. During the years 2007, 2006 ~~2005~~ and ~~2004,~~2005, production equipment and other totaling€~~3,301,~~€~~2,847~~ €3,286, €3,301 and€~~10,295,~~ €2,847, respectively, was acquired under capital lease obligations.

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


Note 7.	Accounts Payable and Accrued Expenses

December 31

2006 2005

Trade payables € 32,591 € 34,626
Accounts payable and other 9,509 19,516
Accrued expenses 36,552 38,029
Derivative contracts — 4,154
Capital leases, current portion 5,158 3,960

€ 83,810 € 100,285


~~Note 8.~~	~~Debt~~

~~Debt consists of the following:~~

December 31

2006 2005

Senior notes due February 2013, interest at 9.25% accrued and payable semi-annually, unsecured(a) € 234,902 € 261,780
Subordinated convertible notes due October 2010, interest at 8.5% accrued and payable semi-annually(b) (Note 11) 50,962 69,667
Credit agreement with a syndicate of banks with respect to a revolving credit facility of Cdn$40 million(c) 7,917 10,576
Credit agreement with bank with respect to a revolving credit facility of€40 million(d)
— —

293,781 342,023
Less: Current portion — —

Debt, other operations 293,781 342,023

Note payable to bank, included in a total credit facility of€827,950 to finance the construction related to the Stendal pulp mill(e)
599,000 602,950
Note payable to third party(f) 6,743 —
Loans payable to minority shareholders of Stendal pulp mill(g) 8,307 —

Debt, Stendal 614,050 602,950
Less: Current portion (33,903 ) (25,550 )

Debt, Stendal 580,147 577,400
Debt, other operations 293,781 342,023

Debt, less current portion € 873,928 € 919,423


	December 31
	2007		2006

Trade payables	€	37,245	€	32,591
Accounts payable and other		12,356		9,509
Accrued expenses		17,219		19,923
Accrued interest		16,711		16,629
Capital leases, current portion		3,469		5,158

	€	87,000	€	83,810

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 8.7.	~~Debt — (Continued)~~Accounts Payable and Accrued Expenses


Note 8.	Debt

Debt consists of the following:


	December 31
	2007			2006

Note payable to bank, included in a total credit facility of €827,950 to finance the construction related to the Stendal pulp mill(a)	€	565,096		€	599,000
Senior notes due February 2013, interest at 9.25% accrued and payable semi-annually, unsecured (b) (Note 11)		212,285			234,902
Subordinated convertible notes due October 2010, interest at 8.5% accrued and payable semi-annually(c) (Note 11)		46,056			50,962
Credit agreement with a syndicate of banks with respect to a revolving credit facility of Cdn.$40 million(d)		15,248			7,917
Loans payable to minority shareholders of Stendal pulp mill(e)		11,170			8,307
Credit agreement with bank with respect to a revolving credit facility of €40 million(f)		—			—
Note payable to third party(g)		—			6,743

		849,855			907,831
Less: Current portion		(34,023	)		(33,903	)

Debt, less current portion	€	815,832		€	873,928

As of December 31, ~~2006,~~2007, the principal maturities of debt are as follows:

Matures Amount

2007 € 33,903
2008 40,766
2009 44,516
2010 90,796
2011 43,967
Thereafter 653,883

€ 907,831


Matures	Amount

2008	€	34,023
2009		51,847
2010		85,889
2011		43,966
2012		47,621
Thereafter		586,509

	€	849,855


(a)	~~Senior~~Note payable to bank, included in a total credit facility of €827,950 to finance the construction related to the Stendal pulp mill, interest at rates varying from Euribor plus 0.90% to Euribor plus 1.85% (rates on amounts of borrowing at December 31, 2007 range from 5.65% to 6.60%), principal due in required installments beginning September 30, 2006 until September 30, 2017, collateralized by the assets of the Stendal pulp mill, and at December 31, 2007, restricted cash amounting to €33,000, with 48% and 32% guaranteed by the Federal Republic of Germany and the State of Saxony-Anhalt, respectively, of up to €556,957 of outstanding principal balance, subject to a debt service reserve account required to pay amounts due in the following twelve months under the terms of credit facility; payment of dividends is only permitted if certain cash flow requirements are met.

(b)	In February 2005, the Company issued $310 million of senior notes due February 2013, interest at 9.25% accrued and payable semi-annually, unsecured. At any time prior to February 15, 2008, the Company may redeem up to 35% of the aggregate principal amount of notes issued under the indenture at a redemption price of 109.25% of the principal amount of the senior notes plus accrued and unpaid interest to the redemption date, with the net cash proceeds of a sale of equity interests of the Company. On or after February 15, 2009, the Company may redeem all or a part of the notes at redemption prices (expressed as a percentage of principal

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 8.	Debt — (Continued)


	amount) equal to 104.625% for the twelve month period beginning on February 15, 2009, 102.3125% for the twelve month period beginning on February 15, 2010, and 100.00% beginning on February 15, 2011 and at any time thereafter, plus accrued and unpaid interest.


~~(b)~~(c)	~~Subordinated~~As at December 31, 2007, the subordinated convertible notes had approximately $67.3 million principal outstanding. The subordinated convertible notes are due October 2010, bear interest at 8.5% accrued and payable semi-annually, are convertible at any time by the holder into common shares of the Company at ~~U.S.$7.75~~$7.75 per share and are unsecured. The Company may redeem for cash all or a portion of these notes at any time on or after October 15, 2008 at 100% of the principal amount of the notes plus accrued and unpaid interest up to the redemption date, the holders of the convertible notes will have the option to require the Company to purchase for cash all or a portion of the notes not previously redeemed upon a specified change of control at a price equal to 100% of the principal sinking fund requirements.

~~(c)~~(d)	Credit agreement with respect to a revolving credit facility of ~~Cdn.$~~C$40 million, on a three year term. Borrowings under the credit agreement are secured by pulp mill inventory and receivables. Canadian dollar denominated amounts bear interest at bankers acceptance plus 2.25% or Canadian prime plus 0.50%. U.S. dollar denominated amounts bear interest at LIBOR plus 2.25% or U.S. base plus 0.50%.

~~(d)~~	~~Credit agreement with respect to a revolving credit facility of~~€~~40.0 million. Borrowings under the credit agreement are secured by pulp mill inventory and receivables. Borrowings under the credit agreement bear interest at Euribor plus 1.55%.~~

(e)	~~Note payable to bank, included in a total credit facility of~~€827,950 to finance the construction related to the Stendal pulp mill, interest at rates varying from Euribor plus 0.90% to Euribor plus 1.85% (rates on amounts of borrowing at December 31, 2006 range from 4.469% to 5.419%), principal due in required installments beginning September 30, 2006 until September 30, 2017, collateralized by the assets of the Stendal pulp mill, and at December 31, 2006, restricted cash amounting to€~~57,000, with 48% and 32% guaranteed by the Federal Republic of Germany and the State of Sachsen-Anhalt, respectively, of up to~~€574,580 of outstanding principal balance, subject to a debt service reserve account required to pay amounts due in the following twelve months under the terms of credit facility; payment of dividends is only permitted if certain cash flow requirements are met.

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 8.~~	~~Debt — (Continued)~~


~~(f)~~	~~Note payable to third party, due in two instalments of~~€~~5,562 and~~€1,166 plus interest at six month Euribor rate on January 31, 2008 and January 3, 2009, respectively. On March 30, 2007, September 30, 2007, January 31, 2008, or January 3, 2009, the note is convertible by the Company at its sole option into common shares of the Company, based upon a 20-trading day average closing price of the Company’s common shares.

~~(g)~~	Loans payable to the minority shareholder of Stendal pulp mill bear interest at 7%, payable in September 2006 then payable semi-annually beginning March 2007, unsecured, subordinated to all liabilities of the Stendal pulp mill, due in 2017. The amounts outstanding on these loans were€~~30,604~~ €32,216 and€~~30,482~~ €30,604 as at December 31, ~~2006~~2007 and ~~2005,~~2006, respectively. Cumulative net losses of Stendal in the amounts of€~~22,297~~ €21,305 and€~~30,482~~ €22,297 were applied to these loans in ~~2006~~2007 and ~~2005~~2006 due to a right of offset under German law. The net obligation of€~~8,307~~ €11,170 and€~~nil~~ €8,307 is reflected for ~~2006~~2007 and ~~2005,~~2006, respectively.

(f)	Credit agreement with respect to a revolving credit facility of €40.0 million. Borrowings under the credit agreement are secured by pulp mill inventory and receivables. Borrowings under the credit agreement bear interest at Euribor plus 1.55%. As at December 31, 2007, this facility was undrawn.

(g)	Effective March 30, 2007, the note payable was converted to 742,185 shares. The conversion was based on the 20-trading day average closing price of the Company’s common shares at March 30, 2007.


Note 9.	Pension and Other Post-Retirement Benefit Obligations

Included in pension and other post-retirement benefit obligations are amounts related to our Celgar and German pulp mills.

The largest component of this obligation is with respect to the Celgar mill which maintains defined benefit pension plans and post-retirement benefits plans for certain ~~employees.~~employees (“Celgar Plans”). Pension benefits are based on employee’s earnings and years of service. The ~~pension plans~~Celgar Plans are funded by contributions from the Company based on actuarial estimates and statutory requirements.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 9.	Pension and Other Post-Retirement Benefit Obligations — (Continued)

Information about the Celgar ~~plans,~~Plans, in aggregate for the year ended December 31, ~~2006~~2007 is as follows:

2006

Other
Post-Retirement
Benefit
Pension Obligations Total

Change in benefit obligation
Benefit obligation, December 31, 2005 € 28,191 € 15,155 € 43,346
Service cost 815 414 1,229
Interest cost 1,271 695 1,966
Benefit payments (1,493 ) (210 ) (1,703 )
Actuarial (gains) losses 38 (637 ) (599 )
Foreign currency exchange rate changes (2,832 ) (1,550 ) (4,382 )

Benefit obligation, December 31, 2006 25,990 13,867 39,857

Reconciliation of fair value of plan assets
Fair value of plan assets, December 31, 2005 21,498 — 21,498
Actual returns 2,223 — 2,223
Contributions 1,963 210 2,173
Benefit payments (1,493 ) (210 ) (1,703 )
Foreign currency exchange rate changes (2,198 ) — (2,198 )

Fair value of plan assets, December 31, 2006 21,993 — 21,993

Funded status, December 31, 2006 € (3,997 ) € (13,867 ) € (17,864 )(1)

Components of the net benefit cost recognized
Service cost € 815 € 414 € 1,229
Interest cost 1,271 695 1,966
Expected return on plan assets (1,416 ) — (1,416 )
Amortization of recognized items 1 92 93

Net benefit costs € 671 € 1,201 € 1,872


	2007
				Other
				Post-Retirement
				Benefit
	Pension			Obligations			Total

Change in benefit obligation
Benefit obligation, December 31, 2006	€	25,990		€	13,867		€	39,857
Service cost		840			473			1,313
Interest cost		1,363			741			2,104
Benefit payments		(1,593	)		(323	)		(1,916	)
Actuarial (gains) losses		(481	)		442			(39	)
Foreign currency exchange rate changes		1,713			937			2,650

Benefit obligation, December 31, 2007		27,832			16,137			43,969

Reconciliation of fair value of plan assets
Fair value of plan assets, December 31, 2006		21,993			—			21,993
Actual returns		351			—			351
Contributions		1,698			323			2,021
Benefit payments		(1,593	)		(323	)		(1,916	)
Foreign currency exchange rate changes		1,454			—			1,454

Fair value of plan assets, December 31, 2007		23,903			—			23,903

Funded status, December 31, 2007	€	(3,929	)	€	(16,137	)	€	(20,066	)(1)

Components of the net benefit cost recognized
Service cost	€	840		€	473		€	1,313
Interest cost		1,363			741			2,104
Expected return on plan assets		(1,673	)		—			(1,673	)
Amortization of recognized items		—			62			62

Net benefit costs	€	530		€	1,276		€	1,806


(1)	The total of€~~18.3 million~~ €20,476 on the consolidated balance sheets also includes the pension liabilities of ~~approximately~~€~~0.4 million~~€410 relating to employees at our German operations.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 9.	Pension and Other Post-Retirement Benefit Obligations — (Continued)

Information about the Celgar ~~plans,~~Plans, in aggregate for the ~~period February 14, 2005 to~~year ended December 31, ~~2005~~2006 is as follows:

2005

Other
Post-Retirement
Benefit
Pension Obligations Total

Change in benefit obligation
Balance, February 14, 2005 € 20,822 € 10,075 € 30,897
Service cost 603 263 866
Interest cost 1,187 577 1,764
Benefit payments (855 ) (231 ) (1,086 )
Actuarial losses 2,826 2,586 5,412
Foreign currency exchange rate changes 3,608 1,885 5,493

Benefit obligation, December 31, 2005 28,191 15,155 43,346

Reconciliation of fair value of plan assets
Fair market value, February 14, 2005 16,709 — 16,709
Actual returns 1,474 — 1,474
Contributions 1,325 231 1,556
Benefit payments (855 ) (231 ) (1,086 )
Foreign currency exchange rate changes 2,845 — 2,845

Fair value of plan assets, December 31, 2005 21,498 — 21,498

Funded status, December 31, 2005 € (6,693 ) € (15,155 ) € (21,848 )

Plan assets in excess of (less than) accrued benefit obligation € (6,693 ) € (15,155 ) € (21,848 )
Unamortized actuarial losses 2,718 2,803 5,521

Accrued benefit asset (liability) € (3,975 ) € (12,352 ) € (16,327 )(1)

Components of the net benefit cost recognized
Service cost € 603 € 263 € 866
Interest cost 1,187 577 1,764
Expected return on plan assets (1,155 ) — (1,155 )

Net benefit costs € 635 € 840 € 1,475


	2006
					Other
					Post-Retirement
					Benefit
	Pension				Obligations			Total

Change in benefit obligation
Benefit obligation, December 31, 2005	€	28,191			€	15,155		€	43,346
Service cost		815				414			1,229
Interest cost		1,271				695			1,966
Benefit payments		(1,493	)	��		(210	)		(1,703	)
Actuarial (gains) losses		38				(637	)		(599	)
Foreign currency exchange rate changes		(2,832	)			(1,550	)		(4,382	)

Benefit obligation, December 31, 2006		25,990				13,867			39,857

Reconciliation of fair value of plan assets
Fair value of plan assets, December 31, 2005		21,498				—			21,498
Actual returns		2,223				—			2,223
Contributions		1,963				210			2,173
Benefit payments		(1,493	)			(210	)		(1,703	)
Foreign currency exchange rate changes		(2,198	)			—			(2,198	)

Fair value of plan assets, December 31, 2006		21,993				—			21,993

Funded status, December 31, 2006	€	(3,997	)		€	(13,867	)	€	(17,864	)(1)

Components of the net benefit cost recognized
Service cost	€	815			€	414		€	1,229
Interest cost		1,271				695			1,966
Expected return on plan assets		(1,416	)			—			(1,416	)
Amortization of recognized items		1				92			93

Net benefit costs	€	671			€	1,201		€	1,872


(1)	The total of€~~17.1 million~~ €18,317 on the consolidated balance sheets also includes the ~~minimum pension liability of~~€~~0.3 million and~~ pension liabilities of ~~approximately~~€~~0.4 million~~€453 relating to employees at our German operations.

The Company anticipates that it will make contributions to the pension plan of approximately€~~1,418~~ €1,210 in ~~2007.~~2008. Estimated future benefit payments under the ~~pension and other post-retirement benefit obligations~~Celgar Plans are as follows:


	Amount

2008	€	1,873
2009		1,979
2010		2,107
2011		2,192
2012		2,295
2013 - 2017		13,455

~~2007 -~~ MERCER INTERNATIONAL INC.€~~1,690,2008 -~~ €~~1,684,2009 -~~ €~~1,805,2010 -~~ €~~1,933,2011 -~~ €~~2,044, 2012 through2016 -~~ €~~11,822.~~

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 9.	Pension and Other Post-Retirement Benefit Obligations — (Continued)

Investment Objective:

The investment objective for the Celgar ~~plans~~Plans is to sufficiently diversify invested plan assets to maintain a reasonable level of risk without imprudently sacrificing the return on the invested funds. To achieve this

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 9.~~	~~Pension and Other Post-Retirement Benefit Obligations — (Continued)~~

objective, asset allocation targets have been established by asset class as summarized below. Reviews of the investment objectives, key assumptions and the independent investment management are performed periodically.

Summary of key assumptions:

December 31

2006 2005

Benefit obligations
Discount rate 5.00% 5.00%
Rate of compensation increase 3.00% 3.00%
Net benefit cost for year ended
Discount rate 5.00% 6.00%
Rate of compensation increase 3.00% 3.00%
Expected rate of return on plan assets 7.25% 7.25%
Assumed health care cost trend rate at
Initial health care cost trend rate 12.00% 12.00%
Annual rate of decline in trend rate 1.00% 1.00%
Ultimate health care cost trend rate 5.00% 5.00%


	December 31
	2007		2006

Benefit obligations
Discount rate		5.25%		5.00%
Rate of compensation increase		3.00%		3.00%
Net benefit cost for year ended
Discount rate		5.00%		5.00%
Rate of compensation increase		3.00%		3.00%
Expected rate of return on plan assets		7.25%		7.25%
Assumed health care cost trend rate at
Initial health care cost trend rate		12.00%		12.00%
Annual rate of decline in trend rate		1.00%		1.00%
Ultimate health care cost trend rate		5.00%		5.00%

The expected rate of return on plan assets is a management estimate based on, among other factors, historical long-term returns, expected asset mix and active management premium.

A one-percentage point change in assumed health care cost trend rate would have the following ~~effect:~~effect on the other post-retirement benefit obligations:

December 31, 2006 December 31, 2005

1% Increase 1% Decrease 1% Increase 1% Decrease

Effect on total service and interest rate components € 183 € (140 ) € 143 € (109 )
Effect on post-retirement benefit obligation € 1,879 € (1,467 ) € 2,070 € (1,594 )


	December 31, 2007					December 31, 2006
	1% increase		1% decrease			1% increase		1% decrease

Effect on total service and interest rate components	€	212	€	(160	)	€	183	€	(140	)
Effect on post-retirement benefit obligation	€	2,252	€	(1,762	)	€	1,879	€	(1,467	)

Asset Allocation of Funded Plans:

Target 2006 2005

Equity securities 50 - 70% 60% 62%
Debt securities 30 - 45% 35% 35%
Cash and cash equivalents 0 - 10% 5% 3%

100% 100%


	Target		2007		2006

Equity securities		50-70%		59%		60%
Debt securities		30-45%		34%		35%
Cash and cash equivalents		0-10%		7%		5%

				100%		100%


Note 10.	Income Taxes

The ~~provision~~Company adopted the provisions of FIN 48 on January 1, 2007. As a result of the implementation of FIN 48, the Company recognized no adjustment in the liability for ~~current income taxes consists entirely~~unrecognized tax benefits.

As at the adoption date of ~~non U.S. taxes for~~January 1, 2007, the ~~years ended~~Company had approximately €18,600 of total gross unrecognized tax benefits, at December 31, ~~2006, 2005 and 2004, respectively.~~2007, that balance is €18,500, substantially all of which would affect

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 10.	Income Taxes — (Continued)

our effective tax rate if recognized. Currently, the Company does not believe that any of its unrecognized tax benefits will change significantly in the next fiscal year. However, this belief could change as tax years are examined by taxing authorities, the timing of those examinations, if any, are uncertain at this time. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:


Balance at January 1, 2007	€	4,400
Additions — current year tax positions		200
Reductions — prior year tax positions		(300	)
Lapse of statute of limitations		(300	)
Settlements		—

Balance at December 31, 2007	€	4,000

The Company recognizes interest and penalties related to unrecognized tax benefits in income tax expense. During the year ended December 31, 2007, the Company recognized approximately €nil in penalties and interest. The Company had €nil for the payment of interest and penalties accrued at December 31, 2007. Upon adoption of FIN 48 on January 1, 2007, the Company had no change in its accrual for interest and penalties from €nil.

The Companyand/or one or more of its subsidiaries files income tax returns in the United States, Germany and Canada. The Company is generally not subject to U.S., German or Canadian income tax examinations for tax years before 2004, 2005 and 2004, respectively.

The provision for current income taxes consists entirely of non U.S. taxes for the years ended December 31, 2007, 2006 and 2005, respectively.

Differences between the U.S. Federal Statutory and the Company’s effective rates are as follows:

Year Ended December 31,

2006 2005 2004

U.S. Federal statutory rates 34% 34% 34%
U.S. Federal statutory rates on (income) loss from continuing operations before income tax and minority interest € (43,437 ) € 48,865 € 5,603
Tax differential on foreign income (loss) (4,070 ) 3,951 680
Valuation allowance (16,145 ) (44,571 ) 32,537
Recovery of (provision for) tax reassessments — — 1,692
Other 6,209 4,895 3,651

€ (57,443 ) € 13,140 € 44,163

Comprised of:
Current € (584 ) € (383 ) € 1,687
Deferred (56,859 ) 13,523 42,476

€ (57,443 ) € 13,140 € 44,163


	Year Ended December 31,
	2007			2006			2005

U.S. Federal statutory rates		34	%		34	%		34	%
U.S. Federal statutory rates on (income) loss from continuing operations before income tax and minority interest	€	(11,544	)	€	(43,437	)	€	48,865
Tax differential on foreign income (loss)		2,902			(4,070	)		3,951
Valuation allowance		15,021			(16,145	)		(44,571	)
Other		(16,693	)		6,209			4,895

	€	(10,314	)	€	(57,443	)	€	13,140

Comprised of:
Current	€	(2,170	)	€	(584	)	€	(383	)
Deferred		(8,144	)		(56,859	)		13,523

	€	(10,314	)	€	(57,443	)	€	13,140

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 10.	Income Taxes — (Continued)

Deferred income tax assets and liabilities are composed of the following:

December 31

2006 2005

German tax loss carryforwards € 68,262 € 55,083
Canadian tax loss carryforwards 631 —
Basis difference between income tax and financial reporting with respect to operating pulp mills (4,397 ) 15,747
Derivative financial instruments 13,457 54,080
Payables and accrued expenses 111 —
Reserve for deferred pension liability 179 5,777
U.S. tax loss carryforwards 17,000 15,749
Other 49 737

95,292 147,173
Valuation allowance (88,214 ) (83,236 )

Net deferred tax asset € 7,078 € 63,937

Comprised of:
Deferred income tax asset € 29,989 € 78,381
Deferred income tax liability (22,911 ) (14,444 )

€ 7,078 € 63,937


	December 31
	2007			2006

German tax loss carryforwards	€	50,725		€	68,262
Canadian tax loss carryforwards		2,497			631
Basis difference between income tax and financial reporting with respect to operating pulp mills		(6,354	)		(3,939	)
Derivative financial instruments		6,144			13,457
Long term debt		(2,736	)		(458	)
Payables and accrued expenses		148			111
Reserve for deferred pension liability		18			179
Capital leases		652			177
U.S. tax loss carryforwards		19,934			17,000
Other		1,149			(128	)

		72,177			95,292
Valuation allowance		(73,193	)		(88,214	)

Net deferred tax (liability) asset	€	(1,016	)	€	7,078

Comprised of:
Deferred income tax asset	€	17,624		€	29,989
Deferred income tax liability		(18,640	)		(22,911	)

	€	(1,016	)	€	7,078

The Company is subject to income tax audits on a continuing basis which may result in changes to the amounts in the above table. ~~Because of~~Due to this and other uncertainties regarding future amounts of taxable income in Germany, Canada and the United States, the Company has provided a valuation reserve for ~~all~~the majority of its deferred tax assets relating to tax losses carried forward for income tax purposes.

The Company’s German tax loss carryforward amounts is approximately €351,600 at December 31, 2007. The Company’s U.S. ~~losses carried forward~~loss carryforwards amount tois approximately€~~50,000~~ €58,600 at December 31, ~~2006~~2007, which will expire in the tax years ending 2011 through 2027, if not used. The Company’s Canadian tax loss carryforward amount is approximately €7,700 at December 31, 2007 which will expire in the tax year ending 2026, if not used. Management ~~believes~~is generally unable to conclude that these ~~tax~~

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 10.~~	~~Income Taxes — (Continued)~~

~~loss carryforwards~~losses are more likely than not ~~likely~~ to be utilized, under current circumstances, and accordingly has fully reserved any resulting potential tax ~~benefit.~~

~~The Company’s German tax losses carried forward amount to approximately~~€~~346,772 at December 31, 2006. Management believes~~benefit that ~~these tax loss carryforwards are~~is not ~~likely~~expected to be ~~utilized, under current circumstances, and has fully reserved any resulting potential tax benefit.~~realized in 2008.

~~Income (loss)~~

(Loss) income from foreign source continuing operations amounted to€~~115,305,~~€~~(86,955)~~ €(24,004), €115,305 and€~~41,365~~ €(86,955) for the years ended December 31, 2007, 2006 ~~2005~~ and ~~2004,~~2005, respectively. These amounts are intended to be indefinitely reinvested in operations. A determination of any deferred tax liability for temporary differences related to investments in foreign subsidiaries that are essentially permanent in duration is not practicable.


Note 11.	Shareholders’ Equity

In February 2005, the Company issued an aggregate of 4,210,526 common shares by way of private placement at a price of ~~U.S.$9.50~~$9.50 per share as part of the consideration for the acquisition of the Celgar mill. In addition, in February 2005, the Company issued ~~U.S.$310~~$310 million of 9.25% senior unsecured notes due 2013 and an aggregate of 10,768,700 common shares at a price of ~~U.S.$8.50~~$8.50 per share by way of separate public offerings.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 11.	Shareholders’ Equity — (Continued)

In December 2006, the Company purchased and cancelled an aggregate of ~~U.S.$15.245~~approximately $15.25 million principal amount of the Company’s subordinated convertible notes in exchange for 2,201,035 common shares of the Company.

In March 2007, the Company converted a note payable to a third party to 742,185 common shares. The conversion was based on the 20-trading day average closing price of the Company’s common shares at March 30, 2007.


Note 12.	Stock-Based Compensation

Stock Options

The Company has a non-qualified stock option plan which provides for options to be granted to officers and employees to acquire a maximum of 3,600,000 common shares including options for 130,000 shares to directors who are not officers or employees. ~~During 2004, the~~The Company ~~adopted~~also has a stock incentive plan which provides for options, stock appreciation rights and restricted shares to be awarded to employees and outside directors to a maximum of 1,000,000 common shares.

Following is a summary of the status of the plans during 2007, 2006 ~~2005~~ and ~~2004:~~2005:

Weighted
Number Average
of Shares Exercise Price

(In U.S. Dollars)
Outstanding at December 31, 2003 2,045,500 $ 7.12
Exercised (861,000 ) 6.34
Cancelled (129,500 ) 16.68

Outstanding at December 31, 2004 1,055,000 6.58
Granted 130,000 7.78

Outstanding at December 31, 2005 1,185,000 6.71
Exercised (60,000 ) 6.38

Outstanding at December 31, 2006 1,125,000 $ 6.69


	Number			Weighted Average
	of Options			Exercise Price
				(In U.S. Dollars)

Outstanding at December 31, 2004		1,055,000		$	6.58
Granted		130,000			7.78

Outstanding at December 31, 2005		1,185,000			6.71
Exercised		(60,000	)		6.38

Outstanding at December 31, 2006		1,125,000			6.69
Exercised		(56,666	)		7.10
Cancelled		(5,000	)		7.92
Expired		(135,000	)		8.50

Outstanding at December 31, 2007		928,334		$	6.44

Following is a summary of the status of options outstanding at December 31, 2007:


Outstanding Options
			Weighted				Exercisable Options
Exercise			Average		Weighted				Weighted
Price			Remaining		Average				Average
Range	Number		Contractual Life		Exercise Price		Number		Exercise Price
(In U.S. Dollars)			(Years)						(In U.S. Dollars)

$5.65 - $6.375		830,000		2.50		$6.29		830,000		$6.29
7.30		30,000		7.50		7.30		30,000		7.30
7.92		68,334		7.75		7.92		68,334		7.92

During the year ended December 31, 2007, 30,000 options were exercised at an exercise price of $6.375 and 26,666 options were exercised at an exercise price of $7.92 for cash proceeds of $402,445. 5,000 options were cancelled during the period, and 135,000 options expired during the period. The average intrinsic value of the options exercised was $4.58 per option. The aggregate intrinsic value of options outstanding and currently exercisable as at December 31, 2007 is $1.39 per option.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 12.	Stock-Based Compensation — (Continued)

~~Following is a summary of the status of options outstanding at December 31, 2006:~~

Outstanding Options

Weighted Exercisable Options
Exercise Average Weighted
Price Remaining Average Weighted Average
Range Number Contractual Life Exercise Price Number Exercise Price

(In U.S. Dollars) (In U.S. Dollars)
$5.65 - $6.375 860,000 3.50 $ 6.29 860,000 $ 6.29
8.50 135,000 0.50 8.50 135,000 8.50
7.30 30,000 8.50 7.30 20,000 7.30
7.92 100,000 8.75 7.92 66,667 7.92

During the year ended December 31, 2006, 60,000 options were exercised at an exercise price of $6.375 for cash proceeds of $382,500. The intrinsic value of the options exercised was $4.53 per option. During the ~~years~~year ended December 31, 2005 ~~and 2004~~ there were no options exercised.

Stock Options

The fair value of each option granted is estimated on the grant date using the Black Scholes Model. The assumptions used in calculating fair value as at December 31, 2007 are as follows:


	~~2005~~

Risk-free interest rate		4.1%
Expected life of the options	3	0.5 years
Expected volatility(1)	~~50.4%~~	34.1%
Expected dividend yield		0.0%
Weighted average fair value per option granted (in U.S. dollars)		$2.94


(1)		The expected volatility was based on our three year historical stock prices.

Stock compensation expense recognized for the year ended December 31, ~~2006~~2007 was€~~140.~~ €65.

As at December 31, ~~2006, the total remaining unrecognized compensation cost related to non-vested~~2007, all stock options ~~amounted to~~€~~155, which~~have been vested and will be ~~amortized~~re-valued over their remaining vesting period of ~~one year.~~six months.

The ~~shares~~options vested and cancelled in the year ended December 31, ~~2006~~2007 are as follows:

Weighted
Number Average
of Shares Exercise Price

(In U.S. Dollars)
Non-vested at December 31, 2005 120,001 $ 7.18
Vested during the year 76,668 6.85

Non-vested at December 31, 2006 43,333 $ 7.77

~~The aggregate intrinsic value of options outstanding is $5.14 and the aggregate intrinsic value of options currently exercisable is $5.18.~~


	Number			Weighted Average
	of Options			Exercise Price
				(In U.S. Dollars)

Non-vested at December 31, 2006		43,333		$	7.77
Vested and cancelled during the year		(43,333	)		7.77

Non-vested at December 31, 2007		—		$	—

Restricted Stock

The fair value of restricted stock is determined based upon the number of shares granted and the quoted price of the Company’s stock on the date of grant. Restricted stock generally vests over two years. Expense is recognized on a straight-line basis over the vesting period. Expense recognized for the years ended December 31, 2007, 2006 and 2005 was €312, €401 and €441, respectively.

As at December 31, 2007, the total remaining unrecognized compensation cost related to restricted stock amounted to €116, which will be amortized over their remaining vesting period.

During the year ended December 31, 2007, there were restricted stock awards of an aggregate of 21,000 (2006 - 45,000; 2005 - 115,685) of our common shares to independent directors and officers of the Company and no (2006 - 9,999; 2005 - nil) restricted stock awards were cancelled.

As at December 31, 2007, the total number of restricted stock awards outstanding was 211,685 (2006 - 190,686; 2005 - 155,685).

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


~~Note 12.~~	~~Stock-Based Compensation — (Continued)~~

~~recognized on a straight-line basis over the vesting period. Expense recognized for the years ended December 31, 2006 and 2005 was~~€~~401 and~~€~~441, respectively.~~

~~As at December 31, 2006, the total remaining unrecognized compensation cost related to restricted stock amounted to~~€~~243, which will be amortized over their remaining vesting period.~~

~~During the year ended December 31, 2006, there were restricted stock awards of an aggregate of 45,000(2005 -115,685;2004 -~~ ~~40,000) of our common shares to independent directors and officers of the Company and 9,999(2005 -~~ ~~nil;2004 -~~ ~~nil) restricted stock awards were cancelled.~~

~~As at December 31, 2006, the total number of restricted stock awards outstanding was 190,686(2005 -155,685;2004 -~~ ~~40,000).~~


Note 13.	Net Income (Loss) Per Share

Year Ended December 31,

2006 2005 2004

Net income (loss) from continuing operations — basic € 69,242 € (112,058 ) € 30,139
Interest on convertible notes, net of tax 4,912 — 5,395

Net income (loss) from continuing operations — diluted € 74,154 € (112,058 ) € 35,534

Net income (loss) from continuing operations per share:
Basic € 2.08 € (3.59 ) € 1.73

Diluted € 1.72 € (3.59 ) € 1.25

Net income (loss) from continuing operations € 69,242 € (112,058 ) € 30,139
Net loss from discontinued operations (6,032 ) (5,088 ) (10,159 )

Net income (loss) — Basic 63,210 (117,146 ) 19,980
Interest on convertible notes, net of tax 4,912 — 5,395

Net income (loss) — Diluted € 68,122 € (117,146 ) € 25,375

Net income (loss) per share:
Basic € 1.90 € (3.75 ) € 1.15

Diluted € 1.58 € (3.75 ) € 0.89

Weighted average number of common shares outstanding:
Basic 33,336,348 31,217,765 17,426,351
Effect of dilutive shares:
Stock options and awards 319,793 — 453,839
Convertible notes 9,428,022 — 10,645,161

Diluted 43,084,163 31,217,765 28,525,351

Year Ended December 31,
2007 2006 2005

Net income (loss) from continuing operations — basic € 22,389 € 69,242 € (112,058 )
Interest on convertible notes, net of tax 3,930 4,912 —

Net income (loss) from continuing operations — diluted € 26,319 € 74,154 € (112,058 )

Net income (loss) from continuing operations per share:
Basic € 0.62 € 2.08 € (3.59 )

Diluted € 0.58 € 1.72 € (3.59 )

Net income (loss) from continuing operations € 22,389 € 69,242 € (112,058 )
Net loss from discontinued operations (210 ) (6,032 ) (5,088 )

Net income (loss) — basic 22,179 63,210 (117,146 )
Interest on convertible notes, net of tax 3,930 4,912 —

Net income (loss) — diluted € 26,109 € 68,122 € (117,146 )

Net income (loss) per share:
Basic € 0.61 € 1.90 € (3.75 )

Diluted € 0.58 € 1.58 € (3.75 )

Weighted average number of common shares outstanding:
Basic 36,080,931 33,336,348 31,217,765
Effect of dilutive shares:
Stock options and awards 362,774 319,793 —
Convertible notes 8,859,036 9,428,022 —

Diluted 45,302,741 43,084,163 31,217,765

The calculation of diluted income (loss) per share does not assume the exercise of stock options and awards or the conversion of convertible notes that would have an anti-dilutive effect on earnings per share. Stock options and awards excluded from the calculation of diluted income (loss) per share because they are anti-dilutive represented Nil, ~~213,492~~Nil and ~~Nil~~213,492 for the years ended December 31, 2007, 2006 ~~2005~~ and ~~2004,~~2005, respectively. Convertible notes excluded from the calculation of diluted income (loss) per share because they are anti-dilutive represented Nil, ~~10,645,161~~Nil and ~~Nil~~10,645,161 for the years ended December 31, 2007, 2006 and 2005, ~~and 2004,~~ respectively.
91
~~MERCER INTERNATIONAL INC.~~
~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~
~~(In Thousands of Euros, Except Per Share Data)~~
Note 14. Business Segment Information

The Company has three operating segments, the individual pulp mills, that are aggregated into one reportable business segment, market pulp.

The pulp business is cyclical in nature and its market is affected by fluctuations in supply and demand in each cycle. These fluctuations have significant effect on the cost of materials and the eventual sales prices of products.

88

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 14.	Business Segment Information — (Continued)

The following table presents net sales from continuing operations to external customers by geographic area based on location of the customer.

2006 2005 2004

Germany € 154,388 € 91,460 € 56,526
China 141,296 82,356 8,463
Italy 60,057 71,742 51,504
Other European Union countries 117,016 91,308 48,890
Other Asia 75,522 56,953 4,362
North America 39,761 37,643 —
Other countries 28,586 16,191 8,767

616,626 447,653 178,512
Third party transportation revenues 7,351 4,784 3,730

€ 623,977 € 452,437 € 182,242

2007 2006 2005

Germany € 198,575 € 154,388 € 91,460
China 159,553 141,296 82,356
Italy 50,177 60,057 71,742
Other European Union countries(1) 136,434 117,016 91,308
Other Asia 58,242 75,522 56,953
North America 66,229 39,761 37,643
Other countries 26,639 28,586 16,191

695,849 616,626 447,653
Third party transportation revenues 8,542 7,351 4,784

€ 704,391 € 623,977 € 452,437

(1) Not including Germany or Italy; includes new entrant countries to the European Union from their time of admission.

The following table presents total long-lived assets from continuing operations by geographic area based on location of the asset.

2006 2005

Germany € 851,290 € 846,127
Canada 181,574 199,108
Other 5,024 1,015

€ 1,037,888 € 1,046,250

2007 2006

Germany € 776,839 € 851,290
Canada 189,277 181,574
Other 4,215 5,024

€ 970,331 € 1,037,888

In ~~2006,~~2007, pulp sales to ~~one~~our largest customer amounted to 7% (2006 - 9%(; 2005 - 6%;~~2004 -~~ ~~10%~~) of total pulp sales.
92
~~MERCER INTERNATIONAL INC.~~
~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~
~~(In Thousands of Euros, Except Per Share Data)~~
Note 15. Financial Instruments

The fair value of financial instruments from continuing operations at December 31 is summarized as follows:

2006 2005

Carrying Carrying
Amount Fair Value Amount Fair Value

Cash and cash equivalents € 69,367 € 69,367 € 82,775 € 82,775
Cash restricted 57,000 57,000 31,612 31,612
Notes receivable 16,542 16,542 — —
Long-term debt 907,831 907,831 944,973 944,973
Foreign exchange rate derivative contracts — asset 5,933 5,933 — —
Interest rate derivative contracts — liability 41,355 41,355 78,646 78,646
Foreign exchange rate derivative contracts — liability — — 61,979 61,979

2007 2006
Carrying
Carrying

Amount Fair Value Amount Fair Value

Cash and cash equivalents € 84,848 € 84,848 € 69,367 € 69,367
Cash, restricted 33,000 33,000 57,000 57,000
Notes receivable 9,873 9,873 16,542 16,542
Long-term debt 849,855 845,026 907,831 921,435
Foreign exchange rate derivative contracts — asset — — 5,933 5,933
Interest rate derivative contracts — liability 21,885 21,885 41,355 41,355
Cash and Debt Instruments
~~In common with other pulp companies, much~~
Many of the Company’s transactions are denominated in foreign currencies, primarily the U.S. dollar. As a result of these transactions the Company and its subsidiaries has financial risk that the value of the Company’s financial instruments will vary due to fluctuations in foreign exchange rates.

89

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 15.	Financial Instruments — (Continued)

The carrying value of cash and cash equivalents approximates the fair value due to its short-term maturity. The fair value of cash restricted was equal to its carrying amount because it is in an account which bears a market rate of interest. The fair value of notes receivable was determined using discounted cash flows at prevailing market rates. The fair value of long-term debt reflects prevailing market conditions and the Company’s use of derivative instruments to manage interest rate risk. The fair values of the interest rate and foreign currency exchange contracts are obtained from dealer quotes. These values represent the estimated amount the Company would receive or pay to terminate agreements taking into consideration current interest rates, the creditworthiness of the counterparties and current foreign currency exchange rates.

The Company has previously entered into interest rate and foreign exchange derivative instruments in connection with certain of its long-term debt (Note 8). As at December 31, 2007, only interest rate derivative instruments are in place. The contracts are with the same banks which hold the debt and the Company does not anticipate non-performance by the banks.

The Company uses interest rate derivatives to fix the rate of interest on indebtedness under the Stendal loan facilities and sometimes uses foreign exchange derivatives to convert some costs (including currency swaps relating to long-term indebtedness) from Euros to U.S. dollars.

Interest Rate Derivatives

During 2004, the Company entered into certain~~variable-to-fixed~~ variable-to-fixed interest rate swaps in connection with the Stendal mill with respect to an aggregate maximum amount of approximately€~~612.6~~ €612,600 of the principal amount of the long-term indebtedness under the Stendal loan facility. ~~The~~Currently, the aggregate notional amount of these contracts ~~ranges from~~€~~464.9 to~~€~~612.6,~~is €556,600 at a fixed interest rate of 5.28% and they mature ~~from May 2005 to~~ October 2017 ~~(the~~(matching the maturity of the Stendal loan facility). The Company recognized an unrealized gain of€~~37.3~~ €19,500 and an unrealized ~~loss~~gain of€~~3.2~~ €37,300 with respect to these interest rate swaps for the years ended December 31, ~~2006 and 2005, respectively.~~

~~MERCER INTERNATIONAL INC.~~

~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~

~~(In Thousands of Euros, Except Per Share Data)~~


~~Note 15.~~	~~Financial Instruments — (Continued)~~

~~The Company had entered into certain interest rate contracts with an aggregate notional amount of~~€~~134,319, maturing September~~ 2007 and ~~recognized a loss of~~€~~295 with respect to these interest rate cap contracts for the year ended December 31, 2005.~~2006, respectively.

Foreign Exchange Derivatives

The Company had entered into certain currency swaps with an ~~initial~~ aggregate notional amount of€~~Nil~~ €556,600 and recognized a gain of€52 €6,820 for the year ended December 31, ~~2006.~~2007.

During 2006, the Company entered into and subsequently settled certain currency forward contracts with an initial aggregate notional amount of€~~Nil~~ €Nil and recognized a loss of€~~3,562. During 2005, the Company entered into and subsequently settled certain currency forward contracts with an aggregate notional amount of~~€~~Nil and recognized a loss of~~€~~2,160.~~ €3,562.

Credit Risk

Concentrations of credit risk on the sale of pulp products are with customers and agents based in Germany, China, Italy ~~other European~~ and ~~Asian countries, North America, and other countries.~~the United States.

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 16.	Lease Commitments

Minimum lease payments, primarily for various vehicles, and plant and equipment under capital and non-cancellable operating leases and the present value of net minimum payments at December 31, ~~2006~~2007 were as follows:

Capital Operating
Leases Leases

2007 € 5,392 € 905
2008 3,590 574
2009 1,432 122
2010 998 75
2011 663 63
Thereafter — —

Total € 12,075 € 1,739

Less imputed interest (714 )

Total present value of minimum capitalized payments 11,361
Less current portion of capital lease obligations (5,158 )

Long-term capital lease obligations € 6,203

Capital
Operating

Leases Leases

2008 € 3,680 € 731
2009 1,748 529
2010 1,475 310
2011 1,353 101
2012 226 3
Thereafter 2,041 1

Total € 10,523 € 1,675

Less imputed interest (1,585 )

Total present value of minimum capitalized payments 8,938
Less current portion of capital lease obligations (3,469 )

Long-term capital lease obligations € 5,469

Rent expense under non-cancellable operating leases was€~~1,453,~~€~~1,525~~ €1,908, €1,453 and€~~1,559~~ €1,525 for 2007, 2006 ~~2005~~ and ~~2004,~~2005, respectively. The current portion of the capital lease obligations is included in accounts payable and accrued expenses and the long-term portion is included in capital leases and other in the consolidated balance sheets.
Note 17. Commitments and Contingencies

At December 31, ~~2006,~~2007, the Company recorded a liability for environmental conservation expenditures of€~~2,027.~~ approximately €2,500. Management believes the liability amount recorded is sufficient.
94
~~MERCER INTERNATIONAL INC.~~
~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~
~~(In Thousands of Euros, Except Per Share Data)~~
~~Note 17.~~ ~~Commitments and Contingencies — (Continued)~~
The Company is required to pay certain fees based on water consumption levels at its German mills. Unpaid fees can be reduced by the mills’ demonstration of reduced environmental emissions. To the extent that the Company has not agreed with regulatory authorities for fee reductions, a liability for these water charges has been recognized.
~~The Company is in the process of implementing a capital improvement project at our Celgar mill in the aggregate amount of approximately~~€~~20,000. At December 31, 2006, the Company had entered into commitments totaling~~€~~3,010.~~
The Company is involved in various matters of litigation arising in the ordinary course of business. In the opinion of management, the estimated outcome of such issues will not have a material effect on the Company’s financial statements.

The Company’s Celgar mill maintains industrial land fills on its premises for the disposal of waste, primarily from the mill’s pulp processing activities. The mill has an obligation under its land fill permits to decommission these disposal facilities pursuant to the requirements of its local regulations. The balance of the aggregate carrying amount of the asset retirement obligation amounted to€~~1,441~~ approximately €3,500 at December 31, ~~2006.~~2007.
Note 18. Discontinued Operations

In August 2006, the Company reorganized and divested its equity interests in certain paper production assets for aggregate consideration of approximately€~~5.0 million~~ €5,000 of indebtedness, in the form of a secured note, and€~~5.0 million~~ €5,000 in cash. Only the cash portion of the consideration appears on the consolidated condensed statements of cash flows.

On November 16, 2006, the Company divested its last remaining paper production assets to focus exclusively on the manufacture and sale of pulp. ~~As at December 31, 2006, the Company expects to incur costs~~

91

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of ~~approximately~~€~~1.9 million in connection with funding and other commitments related to this divestiture.~~Euros, Except Per Share Data)


Note 18.	Discontinued Operations — (Continued)

Accordingly, the information related to the paper production assets is presented as discontinued operations in the Company’s consolidated financial statements.

The carrying amounts of the major classes of related assets and liabilities were as follows:

December 31,

2006 2005

Assets
Cash and cash equivalents € 437 € 772
Receivables 1,657 4,327
Inventories — 7,405
Other — 105
Property, plant and equipment — 9,299

Liabilities
Accounts payable and accrued expenses € 1,926 € 12,441
Debt — 5,247

~~MERCER INTERNATIONAL INC.~~

December 31,
2007 2006

Assets
Cash and cash equivalents € — € 437
Receivables — 1,657
Liabilities
Accounts payable and accrued expenses € — € 1,926
~~NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS~~
~~(In Thousands of Euros, Except Per Share Data)~~
~~Note 18.~~ ~~Discontinued Operations — (Continued)~~
Condensed earnings from discontinued operations for the year ended December 31 are as follows:

2006 2005 2004

Revenues € 46,351 € 61,471 € 54,970
Operating income (loss) from discontinued operations € 394 € (2,306 ) € (9,771 )
Total other expenses (469 ) (2,782 ) (388 )
Loss on disposal of business (5,957 ) — —

Net loss from discontinued operations (6,032 ) (5,088 ) (10,159 )
Loss per common share from discontinued operations
— basic and diluted € (0.18 ) € (0.16 ) € (0.58 )

2007 2006 2005

Revenues € 128 € 46,351 € 61,471
Operating (loss) income from discontinued operations € (142 ) € 394 € (2,306 )
Total other expenses (68 ) (469 ) (2,782 )
Loss on disposal of business — (5,957 ) —

Net loss from discontinued operations € (210 ) € (6,032 ) € (5,088 )
Loss per common share from discontinued operations
— basic € (0.01 ) € (0.18 ) € (0.16 )
— diluted € 0.00 € (0.14 ) € (0.16 )
Condensed cash flows from discontinued operations for the year ended December 31 are as follows:

2006 2005 2004

Cash flows used in operating activities € (2,121 ) € (347 ) € (85 )
Cash flows from (used in) investing activities 5,944 (1,200 ) (3,050 )
Cash flows (used in) from financing activities (4,158 ) (700 ) 4,042

Cash flows (used in) from discontinued operations € (335 ) € (2,247 ) € 907

2007 2006 2005

Cash flows used in operating activities € (1,519 ) € (2,121 ) € (347 )
Cash flows from (used in) investing activities 1,260 5,944 (1,200 )
Cash flows used in financing activities — (4,158 ) (700 )

Cash flows used in discontinued operations € (259 ) € (335 ) € (2,247 )
Note 19. Minority Share Purchase

In October 2006, the Company increased its interest in the Stendal mill to 70.6% by acquiring a 7% minority interest therein for€~~8.1 million,~~ approximately €8,100, of which€~~6.7 million~~ approximately €6,700 was paid by a note (Note 8 ~~(f)~~(g)). The purchase price of€~~8.1 million~~ approximately €8,100 was allocated to property, plant and equipment.
Note 20. Restricted Group Supplemental Disclosure

The terms of the indenture governing our 9.25% senior unsecured notes requires that we provide the results of operations and financial condition of Mercer International Inc. and our restricted subsidiaries under the indenture, collectively referred to as the “Restricted Group”. As at and during the years ended December 31, ~~2006~~2007 and ~~2005,~~2006, the Restricted Group was comprised of Mercer International Inc., certain holding subsidiaries and our Rosenthal and ~~the~~ Celgar mill from the date of its acquisition on February 14, 2005. During the year ended December 31, 2004, the Restricted Group was comprised of Mercer International Inc., certain holding subsidiaries and Rosenthal, which was the only member of the Restricted Group with material operations during this period. We acquired the Celgar mill in February 2005 and, as a result, its operations for the year ended December 31, 2004 are not included for such period.mills. The Restricted Group excludes the Stendal mill and, up to December 31, 2006, the discontinued paper business.

92
96

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 20.	Restricted Group Supplemental Disclosure — (Continued)

Combined Condensed Balance Sheet — December 31, 2007

December 31, 2006

Restricted Unrestricted Consolidated
Group Subsidiaries Eliminations Group

ASSETS

Current
Cash and cash equivalents € 39,078 € 30,289 € — € 69,367
Receivables 38,662 36,360 — 75,022
Note receivable, current portion 620 7,178 — 7,798
Inventories 41,087 21,770 — 62,857
Prepaid expenses and other 2,352 2,310 — 4,662
Current assets from discontinued operations — 2,094 — 2,094

Total current assets 121,799 100,001 — 221,800
Cash restricted — 57,000 — 57,000
Property, plant and equipment 408,957 563,186 — 972,143
Other 8,155 4,763 — 12,918
Deferred income tax 14,316 15,673 — 29,989
Due from unrestricted group 51,265 — (51,265 ) —
Note receivable, less current portion 5,023 3,721 — 8,744

Total assets € 609,515 € 744,344 € (51,265 ) € 1,302,594

LIABILITIES

Current
Accounts payable and accrued expenses € 46,475 € 37,335 € — € 83,810
Pension and other post-retirement benefit obligations, current portion 363 — — 363
Debt, current portion — 33,903 �� 33,903
Current liabilities from discontinued operations — 1,926 — 1,926

Total current liabilities 46,838 73,164 — 120,002
Debt, less current portion 293,781 571,840 — 865,621
Due to restricted group — 51,265 (51,265 ) —
Unrealized derivative loss — 41,355 — 41,355
Capital leases and other 22,115 11,789 — 33,904
Deferred income tax 2,832 20,079 — 22,911

Total liabilities 365,566 769,492 (51,265 ) 1,083,793

SHAREHOLDERS’ EQUITY

Total shareholders’ equity (deficit) 243,949 (25,148 ) — 218,801

Total liabilities and shareholders’ equity € 609,515 € 744,344 € (51,265 ) € 1,302,594

Restricted
Unrestricted
Consolidated

Group Subsidiaries Eliminations Group

ASSETS
Current
Cash and cash equivalents € 59,371 € 25,477 € — € 84,848
Receivables 37,482 52,408 — 89,890
Note receivable, current portion 589 5,307 — 5,896
Inventories 63,444 40,166 — 103,610
Prepaid expenses and other 3,714 2,301 — 6,015

Total current assets 164,600 125,659 — 290,259
Cash, restricted — 33,000 — 33,000
Property, plant and equipment 385,569 547,689 — 933,258
Other 5,399 — — 5,399
Deferred income tax 10,852 6,772 — 17,624
Due from unrestricted group 57,457 — (57,457 ) —
Note receivable, less current portion 3,977 — — 3,977

Total assets € 627,854 € 713,120 € (57,457 ) € 1,283,517

LIABILITIES
Current
Accounts payable and accrued expenses € 43,621 € 43,379 € — € 87,000
Pension and other post-retirement
benefit obligations, current portion 493 — — 493
Debt, current portion — 34,023 — 34,023

Total current liabilities 44,114 77,402 — 121,516
Debt, less current portion 273,589 542,243 — 815,832
Due to restricted group — 57,457 (57,457 ) —
Unrealized derivative loss — 21,885 — 21,885
Capital leases and other 27,016 1,966 — 28,982
Deferred income tax 4,553 14,087 — 18,640

Total liabilities 349,272 715,040 (57,457 ) 1,006,855

SHAREHOLDERS’ EQUITY

Total shareholders’ equity (deficit) 278,582 (1,920 ) — 276,662

Total liabilities and shareholders’ equity € 627,854 € 713,120 € (57,457 ) € 1,283,517

93
97

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 20.	Restricted Group Supplemental Disclosure — (Continued)

Combined Condensed Balance Sheet — December 31, 2006

December 31, 2005

Restricted Unrestricted Consolidated
Group Subsidiaries Eliminations Group

ASSETS

Current
Cash and cash equivalents € 48,790 € 33,985 € — € 82,775
Cash restricted — 7,039 — 7,039
Receivables 41,349 28,655 — 70,004
Inventories 47,100 26,642 — 73,742
Prepaid expenses and other 2,940 2,429 — 5,369
Current assets from discontinued operations — 12,593 — 12,593

Total current assets 140,179 111,343 — 251,522
Cash restricted — 24,573 — 24,573
Property, plant and equipment 404,151 611,212 — 1,015,363
Other 10,533 4,145 — 14,678
Deferred income tax 24,303 54,078 — 78,381
Due from unrestricted group 46,412 — (46,412 ) —
Long-term assets from discontinued operations — 9,299 — 9,299

Total assets € 625,578 € 814,650 € (46,412 ) € 1,393,816

LIABILITIES

Current
Accounts payable and accrued expenses € 46,867 € 53,418 € — € 100,285
Debt, current portion — 25,550 — 25,550
Current liabilities from discontinued operations — 14,492 — 14,492

Total current liabilities 46,867 93,460 — 140,327
Debt, less current portion 342,023 577,400 — 919,423
Due to restricted group — 46,412 (46,412 ) —
Unrealized derivatives loss — 140,625 — 140,625
Other 20,722 6,336 — 27,058
Deferred income tax 1,851 12,593 — 14,444
Long-term liabilities from discontinued operations — 3,196 — 3,196

Total liabilities 411,463 880,022 (46,412 ) 1,245,073

SHAREHOLDERS’ EQUITY

Total shareholders’ equity 214,115 (65,372 ) — 148,743

Total liabilities and shareholders’ equity € 625,578 € 814,650 € (46,412 ) € 1,393,816

Restricted
Unrestricted
Consolidated

Group Subsidiaries Eliminations Group

ASSETS
Current
Cash and cash equivalents € 39,078 € 30,289 € — € 69,367
Receivables 38,662 36,360 — 75,022
Note receivable, current portion 620 7,178 — 7,798
Inventories 41,087 21,770 — 62,857
Prepaid expenses and other 2,352 2,310 — 4,662
Current assets from discontinued operations — 2,094 — 2,094

Total current assets 121,799 100,001 — 221,800
Cash, restricted — 57,000 — 57,000
Property, plant and equipment 408,957 563,186 — 972,143
Other 8,155 4,763 — 12,918
Deferred income tax 14,316 15,673 — 29,989
Due from unrestricted group 51,265 — (51,265 ) —
Note receivable, less current portion 5,023 3,721 — 8,744

Total assets € 609,515 € 744,344 € (51,265 ) € 1,302,594

LIABILITIES
Current
Accounts payable and accrued expenses € 46,475 € 37,335 € — € 83,810
Pension and other post-retirement benefit
obligations, current portion 363 — — 363
Debt, current portion — 33,903 — 33,903
Current liabilities from discontinued operations — 1,926 — 1,926

Total current liabilities 46,838 73,164 — 120,002
Debt, less current portion 293,781 571,840 — 865,621
Due to restricted group — 51,265 (51,265 ) —
Unrealized derivative loss — 41,355 — 41,355
Capital leases and other 22,115 11,789 — 33,904
Deferred income tax 2,832 20,079 — 22,911

Total liabilities 365,566 769,492 (51,265 ) 1,083,793

SHAREHOLDERS’ EQUITY

Total shareholders’ equity (deficit) 243,949 (25,148 ) — 218,801

Total liabilities and shareholders’ equity € 609,515 € 744,344 € (51,265 ) € 1,302,594

94
98

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 20.	Restricted Group Supplemental Disclosure — (Continued)

Combined Condensed Statement of Operations — December 31, 2007

December 31, 2006

Restricted Unrestricted Consolidated
Group Subsidiaries Eliminations Group

Revenues € 360,986 € 262,991 € — € 623,977

Operating costs 286,087 176,456 — 462,543
Operating depreciation and amortization 27,819 28,015 — 55,834
General and administrative expenses 17,611 11,094 — 28,705
(Sale) purchase of emission allowances (4,933 ) (10,676 ) — (15,609 )

Operating income from continuing operations 34,402 58,102 — 92,504

Other income (expense)
Interest expense (34,354 ) (61,137 ) 3,560 (91,931 )
Investment income 5,316 4,334 (3,560 ) 6,090
Derivative financial instruments, net — 105,848 — 105,848
Unrealized foreign exchange gain on debt 15,245 — — 15,245

Total other (expense) income (13,793 ) 49,045 — 35,252

Income (loss) before income taxes and minority interest from continuing operations 20,609 107,147 — 127,756
Income tax provision (11,258 ) (46,185 ) — (57,443 )

Income (loss) before minority interest from continuing operations 9,351 60,962 — 70,313
Minority interest — (1,071 ) — (1,071 )

Net income from continuing operations 9,351 59,891 — 69,242
Net loss from discontinued operations — (6,032 ) — (6,032 )

Net income € 9,351 € 53,859 € — € 63,210

Restricted
Unrestricted
Consolidated

Group Subsidiaries Eliminations Group

Revenues € 401,251 € 303,140 € — € 704,391

Operating costs 315,836 232,498 — 548,334
Operating depreciation and amortization 28,661 27,739 — 56,400
Selling, general and administrative expenses 21,650 13,064 — 34,714
(Sale) purchase of emission allowances (1,566 ) (3,077 ) — (4,643 )

Operating income from continuing operations 36,670 32,916 — 69,586

Other income (expense)
Interest expense (28,472 ) (46,653 ) 3,725 (71,400 )
Investment income 5,303 2,875 (3,725 ) 4,453
Derivative financial instruments, net — 20,357 — 20,357
Foreign exchange gain on debt and distributions 10,629 329 — 10,958

Total other expense (12,540 ) (23,092 ) — (35,632 )

Income before income taxes and minority interest from continuing operations 24,130 9,824 — 33,954
Income tax provision
Current (1,394 ) (776 ) — (2,170 )
Deferred (5,034 ) (3,110 ) — (8,144 )

Income before minority interest from continuing operations 17,702 5,938 — 23,640
Minority interest — (1,251 ) — (1,251 )

Net income from continuing operations 17,702 4,687 — 22,389
Net loss from discontinued operations (210 ) — — (210 )

Net income € 17,492 € 4,687 € — € 22,179

95
99

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 20.	Restricted Group Supplemental Disclosure — (Continued)

Combined Condensed Statement of Operations — December 31, 2006

December 31, 2005

Restricted Unrestricted Consolidated
Group Subsidiaries Eliminations Group

Revenues € 276,406 € 176,031 € — € 452,437

Operating costs 230,039 146,974 (1,605 ) 375,408
Operating depreciation and amortization 23,898 27,262 — 51,160
General and administrative 19,025 5,486 — 24,511
(Sale) purchase of emission allowances (7,271 ) (10,021 ) — (17,292 )

Operating income from continuing operations 10,715 6,330 1,605 18,650

Other income (expense)
Interest expense (32,352 ) (56,789 ) 2,815 (86,326 )
Investment income 3,742 1,495 (2,815 ) 2,422
Derivative financial instruments, net (295 ) (71,468 ) — (71,763 )
Unrealized foreign exchange loss on debt (4,156 ) — — (4,156 )
Impairment of investments (1,699 ) — — (1,699 )

Total other expense (34,760 ) (126,762 ) — (161,522 )

Income (loss) before income taxes and minority interest from continuing operations (24,045 ) (120,432 ) 1,605 (142,872 )
Income tax (provision) benefit (1,161 ) 14,301 — 13,140

Loss before minority interest from continuing operations (25,206 ) (106,131 ) 1,605 (129,732 )
Minority interest — 17,674 — 17,674

Net loss from continuing operations (25,206 ) (88,457 ) 1,605 (112,058 )
Net loss from discontinued operations — (5,088 ) — (5,088 )

Net loss € (25,206 ) € (93,545 ) € 1,605 € (117,146 )

Restricted
Unrestricted
Consolidated

Group Subsidiaries Eliminations Group

Revenues € 360,986 € 262,991 € — € 623,977

Operating costs 280,837 175,767 — 456,604
Operating depreciation and amortization 27,819 28,015 — 55,834
Selling, general and administrative expenses 22,861 11,783 — 34,644
(Sale) purchase of emission allowances (4,933 ) (10,676 ) — (15,609 )

Operating income from continuing operations 34,402 58,102 — 92,504

Other income (expense)
Interest expense (34,354 ) (61,137 ) 3,560 (91,931 )
Investment income 5,316 4,334 (3,560 ) 6,090
Derivative financial instruments, net — 105,848 — 105,848
Foreign exchange gain on debt and distributions 15,245 — — 15,245

Total other (expense) income (13,793 ) 49,045 — 35,252

Income before income taxes and minority interest from continuing operations 20,609 107,147 — 127,756
Income tax provision
Current (290 ) (294 ) — (584 )
Deferred (10,968 ) (45,891 ) — (56,859 )

Income before minority interest from continuing operations 9,351 60,962 — 70,313
Minority interest — (1,071 ) — (1,071 )

Net income from continuing operations 9,351 59,891 — 69,242
Net loss from discontinued operations — (6,032 ) — (6,032 )

Net income € 9,351 € 53,859 € — € 63,210

96
~~100~~

MERCER INTERNATIONAL INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands of Euros, Except Per Share Data)


Note 20.	Restricted Group Supplemental Disclosure — (Continued)

Combined Condensed Statement of Operations — December 31, 2005

December 31, 2004

Restricted Unrestricted Consolidated
Group Subsidiaries Eliminations Group

Revenues € 142,152 € 40,090 € — € 182,242

Operating costs 98,113 43,117 37 141,267
Operating depreciation and amortization 17,766 9,022 — 26,788
General and administrative 13,828 8,560 — 22,388

Operating income (loss) from continuing operations 12,445 (20,609 ) (37 ) (8,201 )

Other income (expense) Interest expense (10,941 ) (13,734 ) 1,490 (23,185 )
Investment income 3,132 1,130 (1,490 ) 2,772
Derivative financial instruments, net 13,242 (1,106 ) — 12,136

Total other income (expense) 5,433 (13,710 ) — (8,277 )

Income (loss) before income taxes and minority interest from continuing operations 17,878 (34,319 ) (37 ) (16,478 )
Income tax benefit 17,235 26,928 — 44,163

Income (loss) before minority interest from continuing operations 35,113 (7,391 ) (37 ) 27,685
Minority interest — 2,454 — 2,454

Net income (loss) from continuing operations 35,113 (4,937 ) (37 ) 30,139
Net loss from discontinued operations — (10,159 ) — (10,159 )

Net income (loss) € 35,113 € (15,096 ) € (37 ) € 19,980

Restricted
Unrestricted
Consolidated

Group Subsidiaries Eliminations Group

Revenues € 276,406 € 176,031 € — € 452,437

Operating costs 226,689 139,718 (1,605 ) 364,802
Operating depreciation and amortization 23,898 27,262 — 51,160
Selling, general and administrative 22,375 12,742 — 35,117
(Sale) purchase of emission allowances (7,271 ) (10,021 ) — (17,292 )

Operating income from continuing operations 10,715 6,330 1,605 18,650

Other income (expense)
Interest expense (32,352 ) (56,789 ) 2,815 (86,326 )
Investment income 3,742 1,495 (2,815 ) 2,422
Derivative financial instruments, net (295 ) (71,468 ) — (71,763 )
Foreign exchange loss on debt and distributions (4,156 ) — — (4,156 )
Impairment of investments (1,699 ) — — (1,699 )

Total other expense (34,760 ) (126,762 ) — (161,522 )

Loss before income taxes and minority interest from continuing operations (24,045 ) (120,432 ) 1,605 (142,872 )
Income tax (provision) benefit
Current (383 ) — — (383 )
Deferred (778 ) 14,301 — 13,523

Loss before minority interest from continuing operations (25,206 ) (106,131 ) 1,605 (129,732 )
Minority interest — 17,674 — 17,674

Net loss from continuing operations (25,206 ) (88,457 ) 1,605 (112,058 )
Net loss from discontinued operations — (5,088 ) — (5,088 )

Net loss € (25,206 ) € (93,545 ) € 1,605 € (117,146 )

97
~~101~~

SUPPLEMENTARY FINANCIAL INFORMATION (UNAUDITED)
Quarterly Financial Data
(Thousands, Except per Share Amounts)

Quarter Ended

March 31 June 30 September 30 December 31

2006

Revenues € 141,668 € 150,594 € 171,248 € 160,467
Gross profit 10,994 10,583 34,758 36,169
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations 16,184 18,324 6,128 28,606
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations, per share* 0.40 0.45 0.18 0.67
Net income (loss) from discontinued operations 404 97 600 (7,133 )
Net income 16,588 18,421 6,728 21,473
2005

Revenues € 82,510 € 113,512 € 133,413 123,002
Gross profit (629 ) 9,998 9,026 255
Loss before extraordinary items and cumulative effect of a change in accounting from continuing operations (19,275 ) (61,259 ) (4,319 ) (27,205 )
Loss before extraordinary items and cumulative effect of a change in accounting from continuing operations, per share* (0.76 ) (1.85 ) (0.13 ) (0.82 )
Net loss from discontinued operations (392 ) (892 ) (1,236 ) (2,568 )
Net loss (19,667 ) (62,151 ) (5,555 ) (29,773 )

Quarter Ended
March 31 June 30 September 30 December 31

2007

Revenues € 169,531 € 176,603 € 191,111 € 167,146
Gross profit 14,477 10,943 21,457 22,709
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations 1,093 3,340 10,706 7,250
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations, per share* 0.03 0.09 0.26 0.18
Net loss from discontinued operations (7 ) (181 ) (10 ) (12 )
Net income 1,086 3,159 10,696 7,238
2006

Revenues € 141,668 € 150,594 € 171,248 € 160,467
Gross profit 10,994 10,583 34,758 36,169
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations 16,184 18,324 6,128 28,606
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations, per share* 0.40 0.45 0.18 0.67
Net income (loss) from discontinued operations 404 97 600 (7,133 )
Net income 16,588 18,421 6,728 21,473
* on a diluted basis

98
~~102~~

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of theSecurities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

Mercer International Inc.

~~Dated: March 1, 2007~~ ~~By:~~ ~~/s/Jimmy S.H. Lee~~

Dated: February 22, 2008
By:
/s/ Jimmy S.H. Lee
Jimmy S.H. Lee
Chairman

Pursuant to the requirements of theSecurities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.

/s/Jimmy S.H. Lee

Jimmy S.H. Lee
Chairman, Chief Executive Officer and Director
Date: ~~March 1, 2007~~February 22, 2008

/s/David M. Gandossi

David M. Gandossi
Secretary, Executive Vice President
and Chief Financial Officer
Date: ~~March 1, 2007~~February 22, 2008

/s/Kenneth A. Shields

Kenneth A. Shields
Director
Date: ~~March 1, 2007~~February 22, 2008

/s/Eric Lauritzen

Eric Lauritzen
Director
Date: ~~March 1, 2007~~February 22, 2008

/s/William D. McCartney

William D. McCartney
Director
Date: ~~March 1, 2007~~February 22, 2008

/s/Graeme A. Witts

Graeme A. Witts
Director
Date: ~~March 1, 2007~~February 22, 2008

/s/Guy W. Adams

Guy W. Adams
Director
Date: ~~March 1, 2007~~February 22, 2008

/s/George Malpass

George Malpass
Director
Date: ~~March 1, 2007~~ February 22, 2008

99
~~103~~

EXHIBIT INDEX

Exhibit
No. Description of Exhibit

1 .1 Underwriting Agreement dated February 8, 2005 between Mercer International Inc. and RBC Capital Markets Corporation, on behalf of itself and CIBC World Markets Corp., Raymond James & Associates, Inc. and D.A. Davidson & Co. Incorporated by reference from Form 8-K dated February 10, 2005.
1 .2 Underwriting Agreement dated February 8, 2005 among Mercer International Inc. and RBC Capital Markets Corporation and Credit Suisse First Boston LLC, on behalf of themselves and CIBC World Markets Corp. Incorporated by reference from Form 8-K dated February 10, 2005.
2 .1 Agreement and Plan of Merger among Mercer International Inc., Mercer International Regco Inc. and Mercer Delaware Inc. dated December 14, 2005. Incorporated by reference to the Proxy Statement/ Prospectus filed on December 15, 2005.
3 .1 Articles of Incorporation of the Company, as amended. Incorporated by reference from Form 8-A dated March 1, 2006.
3 .2 Bylaws of the Company. Incorporated by reference from Form 8-A dated March 1, 2006.
4 .1 Indenture dated as of October 10, 2003 between Mercer International Inc. and Wells Fargo Bank Minnesota, N.A. Incorporated by reference from Form 8-K dated October 15, 2003.
4 .2 Indenture dated as of December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference from Form S-3 filed December 10, 2004.
4 .3 First Supplemental Indenture dated February 14, 2005 to Indenture dated December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference from Form 8-K dated February 17, 2005.
10 .1 Amended and Restated 1992 Stock Option Plan. Incorporated by reference from Form S-8 dated March 2, 2000.
10 .2* 2002 Employee Incentive Bonus Plan.
10 .3 Project Financing Facility Agreement dated August 26, 2002 between Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated September 10, 2002.
10 .4 Shareholders’ Undertaking Agreement dated August 26, 2002 among Mercer International Inc., Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH, AIG Altmark Industrie AG and FAHR Beteiligungen AG and Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated September 10, 2002.
10 .5* Shareholders’ Agreement dated August 26, 2002 among Zellstoff Stendal GmbH, Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH and FAHR Beteiligungen AG.
10 .6* Contract for the Engineering, Design, Procurement, Construction, Erection and Start-Up of a Kraft Pulp Mill between Zellstoff Stendal GmbH and RWE Industrie-Lösungen GmbH dated August 26, 2002. Certain non-public information has been omitted from the appendices to Exhibit 10.16 pursuant to a request for confidential treatment filed with the SEC. Such non-public information was filed with the SEC on a confidential basis. The SEC approved the request for confidential treatment in January 2004.
10 .7* Form of Trustee’s Indemnity Agreement between Mercer International Inc. and its Trustees.
10 .8 Employment Agreement dated for reference August 7, 2003 between Mercer International Inc. and David Gandossi. Incorporated by reference from Form 8-K dated August 11, 2003.
10 .9 Employment Agreement effective as of April 28, 2004 between Mercer International Inc. and Jimmy S.H. Lee. Incorporated by reference from Form 8-K dated April 28, 2004.
10 .10 2004 Stock Incentive Plan. Incorporated by reference from Form S-8 dated June 15, 2004.
10 .11 Asset Purchase Agreement by and among Mercer International Inc., 0706906 B.C. Ltd. and KPMG Inc., as receiver of all of the assets and undertakings of Stone Venepal (Celgar) Pulp Inc. dated November 22, 2004. Incorporated by reference from Form 8-K dated November 23, 2004.
10 .12 Revolving Credit Facility Agreement dated February 9, 2005 among D&Z Holding GmbH, Zellstoff-und Papierfabrik Rosenthal GmbH & Co. KG, ZPR Beteiligungs GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated February 17, 2005.

Exhibit

No.

Description of Exhibit

1 .1 Underwriting Agreement dated February 8, 2005 between Mercer International Inc. and RBC Capital Markets Corporation, on behalf of itself and CIBC World Markets Corp., Raymond James & Associates, Inc. and D.A. Davidson & Co. Incorporated by reference fromForm 8-K dated February 10, 2005.
1 .2 Underwriting Agreement dated February 8, 2005 among Mercer International Inc. and RBC Capital Markets Corporation and Credit Suisse First Boston LLC, on behalf of themselves and CIBC World Markets Corp. Incorporated by reference fromForm 8-K dated February 10, 2005.
2 .1 Agreement and Plan of Merger among Mercer International Inc., Mercer International Regco Inc. and Mercer Delaware Inc. dated December 14, 2005. Incorporated by reference to the Proxy Statement/Prospectus filed on December 15, 2005.
3 .1 Articles of Incorporation of the Company, as amended. Incorporated by reference fromForm 8-A dated March 1, 2006.
3 .2 Bylaws of the Company. Incorporated by reference fromForm 8-A dated March 1, 2006.
4 .1 Indenture dated as of October 10, 2003 between Mercer International Inc. and Wells Fargo Bank Minnesota, N.A. Incorporated by reference fromForm 8-K dated October 15, 2003.
4 .2 Indenture dated as of December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference fromForm S-3 filed December 10, 2004.
4 .3 First Supplemental Indenture dated February 14, 2005 to Indenture dated December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference fromForm 8-K dated February 17, 2005.
10 .1 Amended and Restated 1992 Stock Option Plan. Incorporated by reference fromForm S-8 dated March 2, 2000.
10 .2* 2002 Employee Incentive Bonus Plan.
10 .3 Project Financing Facility Agreement dated August 26, 2002 between Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated September 10, 2002.
10 .4 Shareholders’ Undertaking Agreement dated August 26, 2002 among Mercer International Inc., Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH, AIG Altmark Industrie AG and FAHR Beteiligungen AG and Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated September 10, 2002.
10 .5* Shareholders’ Agreement dated August 26, 2002 among Zellstoff Stendal GmbH, Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH and FAHR Beteiligungen AG.
10 .6* Contract for the Engineering, Design, Procurement, Construction, Erection andStart-Up of a Kraft Pulp Mill between Zellstoff Stendal GmbH and RWE Industrie-Lösungen GmbH dated August 26, 2002. Certain non-public information has been omitted from the appendices to Exhibit 10.16 pursuant to a request for confidential treatment filed with the SEC. Such non-public information was filed with the SEC on a confidential basis. The SEC approved the request for confidential treatment in January 2004.
10 .7* Form of Trustee’s Indemnity Agreement between Mercer International Inc. and its Trustees.
10 .8 Employment Agreement dated for reference August 7, 2003 between Mercer International Inc. and David Gandossi. Incorporated by reference fromForm 8-K dated August 11, 2003.
10 .9 Employment Agreement effective as of April 28, 2004 between Mercer International Inc. and Jimmy S.H. Lee. Incorporated by reference fromForm 8-K dated April 28, 2004.
10 .10 2004 Stock Incentive Plan. Incorporated by reference fromForm S-8 dated June 15, 2004.

Exhibit
No. Description of Exhibit

10 .13 Shareholders’ Undertaking Agreement dated February 9, 2005 relating to Revolving Credit Facility Agreement. Incorporated by reference from Form 8-K dated February 17, 2005.
10 .14 Revolving Term Credit Facility dated for reference May 19, 2006 among Zellstoff Celgar Limited Partnership, as borrower, and the lenders from time to time parties thereto, as lenders and CIT Business Credit Canada Inc., as agent. Incorporated by reference from Form 8-K dated May 30, 2006.
10 .15 Employment Agreement dated October 2, 2006 between Stendal Pulp Holding GmbH and Wolfram Ridder. Incorporated by reference from Form 8-K dated October 2, 2006.
10 .16 Employment Agreement effective October 16, 2006 between Mercer International Inc. and David Ure dated September 22, 2006. Incorporated by reference from Form 8-K dated October 13, 2006.
10 .17 Employment Agreement effective November 6, 2006 between Mercer International Inc. and Claes-Inge Isacson dated September 25, 2006. Incorporated by reference from Form 8-K dated October 13, 2006.
99 .1 Exchange Agreement dated December 4, 2006 between Mercer International Inc. and Nisswa Master Fund Ltd. Incorporated by reference from Form 8-K dated December 5, 2006.
99 .2 Exchange Agreement dated December 4, 2006 between Mercer International Inc. and CC Arbitrage Ltd. Incorporated by reference from Form 8-K dated December 5, 2006.
21 List of Subsidiaries of Registrant.
23 .1 Consent of Independent Registered Chartered Accountants.
31 .1 Section 302 Certificate of Chief Executive Officer.
31 .2 Section 302 Certificate of Chief Financial Officer.
32 .1** Section 906 Certificate of Chief Executive Officer.
32 .2** Section 906 Certificate of Chief Financial Officer.

Exhibit

No.

Description of Exhibit

10 .11 Asset Purchase Agreement by and among Mercer International Inc., 0706906 B.C. Ltd. and KPMG Inc., as receiver of all of the assets and undertakings of Stone Venepal (Celgar) Pulp Inc. dated November 22, 2004. Incorporated by reference fromForm 8-K dated November 23, 2004.
10 .12 Revolving Credit Facility Agreement dated February 9, 2005 among D&Z Holding GmbH, Zellstoff-und Papierfabrik Rosenthal GmbH & Co. KG, ZPR Beteiligungs GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated February 17, 2005.
10 .13 Shareholders’ Undertaking Agreement dated February 9, 2005 relating to Revolving Credit Facility Agreement. Incorporated by reference fromForm 8-K dated February 17, 2005.
10 .14 Revolving Term Credit Facility dated for reference May 19, 2006 among Zellstoff Celgar Limited Partnership, as borrower, and the lenders from time to time parties thereto, as lenders and CIT Business Credit Canada Inc., as agent. Incorporated by reference fromForm 8-K dated May 30, 2006.
10 .15 Employment Agreement dated October 2, 2006 between Stendal Pulp Holding GmbH and Wolfram Ridder. Incorporated by reference fromForm 8-K dated October 2, 2006.
10 .16 Employment Agreement effective October 16, 2006 between Mercer International Inc. and David Ure dated September 22, 2006. Incorporated by reference fromForm 8-K dated October 13, 2006.
10 .17 Employment Agreement effective November 6, 2006 between Mercer International Inc. and Claes-Inge Isacson dated September 25, 2006. Incorporated by reference fromForm 8-K dated October 13, 2006.
99 .1 Exchange Agreement dated December 4, 2006 between Mercer International Inc. and Nisswa Master Fund Ltd. Incorporated by reference fromForm 8-K dated December 5, 2006.
99 .2 Exchange Agreement dated December 4, 2006 between Mercer International Inc. and CC Arbitrage Ltd. Incorporated by reference fromForm 8-K dated December 5, 2006.
21 List of Subsidiaries of Registrant.
23 .1 Consent of Independent Chartered Accountants — PricewaterhouseCoopers LLP.
23 .2 Consent of Independent Registered Chartered Accountants — Deloitte & Touche LLP.
31 .1 Section 302 Certificate of Chief Executive Officer.
31 .2 Section 302 Certificate of Chief Financial Officer.
32 .1** Section 906 Certificate of Chief Executive Officer.
32 .2** Section 906 Certificate of Chief Financial Officer.

* * Filed inForm 10-K for prior years.
** In accordance with Release33-8212 of the Commission, these Certifications: (i) are “furnished” to the Commission and are not “filed” for the purposes of liability under the Securities Exchange Act of 1934, as amended; and (ii) are not to be subject to automatic incorporation by reference into any of the Company’s registration statements filed under the Securities Act of 1933, as amended for the purposes of liability thereunder or any offering memorandum, unless the Company specifically incorporates them by reference therein.


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

		For the fiscal year ended December 31, ~~2006~~2007

	OR

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


Washington		~~47-0956945~~
State or other jurisdiction of incorporation or organization		47-0956945 IRS Employer Identification No.


	Years Ended December 31,

	2006		2005		2004		2003		2002

	(€/$)
End of period		0.7577		0.8445		0.7942		0.7938		0.9536
High for period		0.8432		0.8571		0.8473		0.9652		1.1638
Low for period		0.7504		0.7421		0.7339		0.7938		0.9536
Average for period		0.7962		0.8033		0.8040		0.8838		1.0660


	(C$/$)
End of period		1.1653	1.1659	1.2034	1.2923	1.5800
High for period		1.0989	1.1507	1.1775	1.2923	1.5108
Low for period		1.1726	1.2704	1.3970	1.5751	1.6129
Average for period		1.1344	1.2116	1.3017	1.3916	1.5704


			Page
PART I
Item 1.	BUSINESS			5
	The Company			5
	Competitive Strengths			7
	Corporate Strategy			8
	The Pulp Industry		8	9
	~~Raw Materials~~Our Product		12	13
	~~Pulp Cash Production~~Operating Costs		14	13
	~~Our Product~~Cash Production Costs		14	17
	Sales, Marketing and Distribution		15	17
	Capital Expenditures		16	18
	~~Government Financing~~Environmental		17	20
	~~Stendal Pulp Mill~~Human Resources		18	21
	Description of Certain Indebtedness		21	22
	~~Environmental~~Discontinued Operations			24
	Additional Information			25
~~Human Resources~~Item 1A	25RISK FACTORS
	25
~~Discontinued Operations~~Item 1B	26UNRESOLVED STAFF COMMENTS
	~~Additional Information~~ 31		26
~~Item 1A.~~	~~RISK FACTORS~~			26
~~Item 1B.~~	~~UNRESOLVED STAFF COMMENTS~~			33
Item 2.	PROPERTIES		33	31
Item 3.	LEGAL PROCEEDINGS		35	32
Item 4.	SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS		35	33

PART II
Item 5.	MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS			34
Item 6.	36
~~Item 6.~~	SELECTED FINANCIAL DATA			37	35
Item 7.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS		38	36
	Results of Operations		38	36
	Year Ended December 31, 2007 Compared to the Year Ended December 31, 2006			38
	Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005			40
		~~Year Ended December 31, 2005 Compared to the Year Ended December 31, 2004~~Sensitivities		43	42
	Liquidity and Capital Resources		45	42
		Operating Activities		45	43
		Investing Activities		45	43
		Financing Activities		45	43
	Discontinued Operations		46	44
	Contractual Obligations and Commitments		47	44
	Capital Resources		47	45
	Foreign Currency		47	45
	Results of Operations of the Restricted Group Under Our Senior Note Indenture		48	45
	Restricted Group Results — Year Ended December 31, 2007 Compared to the Year Ended December 31, 2006			45
	Restricted Group Results — Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005		48	47
		~~Restricted Group Results — Year Ended December 31, 2005 Compared to the Year Ended December 31, 2004~~		49
	Liquidity and Capital Resources of the Restricted Group			51	48
	Critical Accounting Policies		51	49
	New Accounting Standards		53
	~~Cautionary Statement Regarding Forward-Looking Information~~ 50		53
	~~Inflation~~			53
~~Item 7A.~~	~~QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK~~			54
~~Item 8.~~	~~FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA~~			58
~~Item 9.~~	~~CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE~~			58
~~Item 9A.~~	~~CONTROLS AND PROCEDURES~~			58
~~Item 9B.~~	~~OTHER INFORMATION~~			60


		Page
	Cautionary Statement Regarding Forward-Looking Information		51
	~~PART III~~Inflation		51
Item 7A.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK		52
Item 8.	FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA		56
Item 9.	CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE		56
Item 9A.	CONTROLS AND PROCEDURES		56
Item 9B.	OTHER INFORMATION		57

PART III
Item 10.	DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE	61	58
Item 11.	EXECUTIVE COMPENSATION	64	61
Item 12.	SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS	65	61
Item 13.	CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE	65	62
Item 14.	PRINCIPAL ACCOUNTANT FEES AND SERVICES	65	62

PART IV
Item 15.	EXHIBITS, FINANCIAL STATEMENT SCHEDULES	66	63
	Financial Statements	69	68
	Supplementary Financial Information	~~102~~	98
	SIGNATURES	~~103~~	99
List of subsidiaries of Registrant
Consent of PricewaterhouseCoopers LLP.
Consent of Deloitte & Touche LLP.
Section 302 C.E.O. Certification
Section 302 C.F.O. Certification
Section 906 C.E.O. Certification
Section 302 C.F.O. Certification


	Years Ended December 31,

Costs	2006		2005(1)(2)		2004(2)

	(per ADMT)
Fiber	€	192	€	171	€	171
Labor		46		46		52
Chemicals		42		42		43
Energy(3)		7		8		(1	)
Other		41		40		33

Total cash production costs(4)	€	328	€	307	€	298


			Annual		Years Ended December 31,
			Production
			Capacity(2)		2006		2005		2004

					(ADMTs)
Pulp Production by Mill(1):
	Rosenthal			310,000		306,188		316,600		314,016
	Celgar			470,000		438,855		388,956		—
	Stendal			600,000		557,217		479,063		132,694

		Total pulp production		1,380,000		1,302,260		1,184,619		446,710


Fiscal Quarter Ended	High		Low

2005
March 31	$	11.40	$	8.50
June 30		9.21		6.89
September 30		8.95		6.86
December 31		8.39		6.78

2006
March 31		9.31		7.74
June 30		9.68		8.15
September 30		9.76		8.36
December 31		12.00		9.20

2007
Period ended March 1		13.68		11.88


					Number of Shares
	Number of Shares to be		Weighted-average		Available for Future
	Issued Upon Exercise		Exercise Price of		Issuance Under
	of Outstanding Options		Outstanding Options		Plan

1992 Amended Stock Option Plan		1,095,000	$	6.71		130,500
2004 Stock Incentive Plan		30,000	$	7.30		814,315	(1)


	Years Ended
	December 31,

	2005			2004

	(in thousands)
Net (loss) income from continuing operations	€	(112,058	)	€	30,139
Minority interest		(17,674	)		(2,454	)
Income taxes benefit		(13,140	)		(44,163	)
Interest expense		86,326			23,185
Investment income		(2,422	)		(2,772	)
Derivative financial instruments, net		71,763			(12,136	)
Foreign exchange loss on debt		4,156			—
Impairment of investments		1,699			—

Operating income (loss) from continuing operations		18,650			(8,201	)
Add: Depreciation and amortization		51,160			26,788

Operating EBITDA	€	69,810		€	18,587


	Payments Due By Period

Contractual Obligations	2007		2008-2009		2010-2011		Beyond 2011		Total

	(in thousands)
Long-term debt(1)	€	—	€	14,660	€	50,962	€	243,209	€	308,831
Debt, Stendal(2)		33,903		70,622		83,801		410,674		599,000
Capital lease obligations(3)		5,392		5,022		1,661		—		12,075
Operating lease obligations(4)		905		696		138		—		1,739
Purchase obligations(5)		83,203		4,124		4,112		8,590		100,029
Other long-term liabilities(6)		376		427		16		13		832

Total	€	123,779	€	95,551	€	140,690	€	662,486	€	1,022,506


				Recognized Gain					Recognized Gain
				(Loss) Year					(Loss) Year
		Notional		Ended			Notional		Ended
Derivative Instrument	Maturity Date	Amount		December 31, 2005			Amount		December 31, 2006

		(in millions)		(in thousands)			(in millions)		(in thousands)
Interest Rate Derivatives
Rosenthal Interest Rate Cap Agreements(1)	Settled	$	178.3	€	(295	)
Stendal Interest Rate Swaps(2)(3)	October 2017	€	612.6	€	(3,176	)	€	590.0		37,292

				€	(3,471	)			€	37,292

Foreign Exchange Rate Derivatives
Stendal Currency Swap(4)	October 2017	€	306.3		(31,741	)	€	295.0	€	33,683
Stendal Currency Swap(5)	Settled	€	153.2		(16,363	)	€	147.5		17,629
Stendal Currency Swap(6)	October 2017	€	153.2		(13,875	)	€	147.5		16,654
Stendal Currency Forward(7)	Settled	$	50.0		(4,153	)		$50.0		590
Stendal Currency Forward	Settled	$	25.0		(521	)
Stendal Currency Forward	Settled	$	25.0		(1,639	)
Stendal Currency Forward	Settled	$	13.9		—

				€	(68,292	)			€	68,556


	As at December 31, 2006

					Expected Future Cash Flow*
	Carrying		Fair
	Value		Value		2007			2008			2009			2010			2011			Thereafter

	(in thousands)
Cash restricted(1)	€	57,000	€	57,000	€	1,140		€	1,140		€	1,140		€	1,140		€	1,140		€	63,840
Debt obligations(2)		7,917		7,917		(8,174	)		—			—			—			—			—
Capital lease obligations(3)		11,360		11,360		(5,392	)		(3,590	)		(1,432	)		(998	)		(663	)		—


	As at December 31, 2005

					Expected Future Cash Flow*
	Carrying		Fair
	Value		Value		2006			2007			2008			2009			2010			Thereafter

	(in thousands)
Cash restricted(1)	€	31,612	€	31,612	€	26,528		€	1,140		€	1,140		€	1,140		€	1,140		€	39,592
Debt obligations(2)		10,576		10,576		4,257			(7,212	)		(9,254	)		—			—			—
Capital lease obligations(3)		12,300		12,300		(4,098	)		(4,737	)		(2,953	)		(993	)		(354	)		—


		2005			2004

Net (Loss) Income
	As reported	€	(117,146	)	€	19,980
	Deduct: Total stock-based employee compensation expense determined under fair value based methods for all awards, net of any related tax effects		(93	)		(42	)
	Add: Reversal of stock-based compensation expense recognized under APB Opinion No. 25		—			—

	Pro forma	€	(117,239	)	€	19,938


		2005			2004

Basic (Loss) Income Per Share
	As reported	€	(3.75	)	€	1.15
	Pro forma	€	(3.76	)	€	1.15


		2005			2004

Diluted (Loss) Income Per Share
	As reported	€	(3.75	)	€	0.89
	Pro forma	€	(3.76	)	€	0.89


	Prior to Adoption		Effect of Adoption		As Reported at
	of SFAS No. 158		of SFAS No. 158		December 31, 2006

Pension and other postretirement benefit obligations, current portion	€	—	€	363	€	363
Pension and other postretirement benefit obligation		14,859		3,095		17,954
Total liabilities		1,080,335		3,458		1,083,793
Accumulated other comprehensive income		3,976		3,789		7,765
Total shareholders’ equity		215,012		3,789		218,801


Matures	Amount

2007	€	33,903
2008		40,766
2009		44,516
2010		90,796
2011		43,967
Thereafter		653,883

	€	907,831


		2006

					Other
					Post-Retirement
					Benefit
		Pension			Obligations			Total

Change in benefit obligation
	Benefit obligation, December 31, 2005	€	28,191		€	15,155		€	43,346
	Service cost		815			414			1,229
	Interest cost		1,271			695			1,966
	Benefit payments		(1,493	)		(210	)		(1,703	)
	Actuarial (gains) losses		38			(637	)		(599	)
	Foreign currency exchange rate changes		(2,832	)		(1,550	)		(4,382	)

Benefit obligation, December 31, 2006			25,990			13,867			39,857

Reconciliation of fair value of plan assets
	Fair value of plan assets, December 31, 2005		21,498			—			21,498
	Actual returns		2,223			—			2,223
	Contributions		1,963			210			2,173
	Benefit payments		(1,493	)		(210	)		(1,703	)
	Foreign currency exchange rate changes		(2,198	)		—			(2,198	)

Fair value of plan assets, December 31, 2006			21,993			—			21,993

Funded status, December 31, 2006		€	(3,997	)	€	(13,867	)	€	(17,864	)(1)

Components of the net benefit cost recognized
	Service cost	€	815		€	414		€	1,229
	Interest cost		1,271			695			1,966
	Expected return on plan assets		(1,416	)		—			(1,416	)
	Amortization of recognized items		1			92			93

Net benefit costs		€	671		€	1,201		€	1,872


				Weighted
	Number			Average
	of Shares			Exercise Price

				(In U.S. Dollars)
Outstanding at December 31, 2003		2,045,500		$	7.12
Exercised		(861,000	)		6.34
Cancelled		(129,500	)		16.68

Outstanding at December 31, 2004		1,055,000			6.58
Granted		130,000			7.78

Outstanding at December 31, 2005		1,185,000			6.71
Exercised		(60,000	)		6.38

Outstanding at December 31, 2006		1,125,000		$	6.69


	Capital			Operating
	Leases			Leases

2007	€	5,392		€	905
2008		3,590			574
2009		1,432			122
2010		998			75
2011		663			63
Thereafter		—			—

Total	€	12,075		€	1,739

Less imputed interest		(714	)

Total present value of minimum capitalized payments		11,361
Less current portion of capital lease obligations		(5,158	)

Long-term capital lease obligations	€	6,203


	Capital			Operating
	Leases			Leases

2008	€	3,680		€	731
2009		1,748			529
2010		1,475			310
2011		1,353			101
2012		226			3
Thereafter		2,041			1

Total	€	10,523		€	1,675

Less imputed interest		(1,585	)

Total present value of minimum capitalized payments		8,938
Less current portion of capital lease obligations		(3,469	)

Long-term capital lease obligations	€	5,469


~~Note 17.~~	~~Commitments and Contingencies — (Continued)~~


		December 31, 2006

		Restricted		Unrestricted						Consolidated
		Group		Subsidiaries			Eliminations			Group

ASSETS
Current
	Cash and cash equivalents	€	39,078	€	30,289		€	—		€	69,367
	Receivables		38,662		36,360			—			75,022
	Note receivable, current portion		620		7,178			—			7,798
	Inventories		41,087		21,770			—			62,857
	Prepaid expenses and other		2,352		2,310			—			4,662
	Current assets from discontinued operations		—		2,094			—			2,094

Total current assets			121,799		100,001			—			221,800
Cash restricted			—		57,000			—			57,000
Property, plant and equipment			408,957		563,186			—			972,143
Other			8,155		4,763			—			12,918
Deferred income tax			14,316		15,673			—			29,989
Due from unrestricted group			51,265		—			(51,265	)		—
Note receivable, less current portion			5,023		3,721			—			8,744

Total assets		€	609,515	€	744,344		€	(51,265	)	€	1,302,594


LIABILITIES
Current
	Accounts payable and accrued expenses	€	46,475	€	37,335		€	—		€	83,810
	Pension and other post-retirement benefit obligations, current portion		363		—			—			363
	Debt, current portion		—		33,903			��			33,903
	Current liabilities from discontinued operations		—		1,926			—			1,926

Total current liabilities			46,838		73,164			—			120,002
Debt, less current portion			293,781		571,840			—			865,621
Due to restricted group			—		51,265			(51,265	)		—
Unrealized derivative loss			—		41,355			—			41,355
Capital leases and other			22,115		11,789			—			33,904
Deferred income tax			2,832		20,079			—			22,911

Total liabilities			365,566		769,492			(51,265	)		1,083,793


SHAREHOLDERS’ EQUITY
Total shareholders’ equity (deficit)			243,949		(25,148	)		—			218,801

Total liabilities and shareholders’ equity		€	609,515	€	744,344		€	(51,265	)	€	1,302,594


	Restricted		Unrestricted						Consolidated
	Group		Subsidiaries			Eliminations			Group

ASSETS
Current
Cash and cash equivalents	€	59,371	€	25,477		€	—		€	84,848
Receivables		37,482		52,408			—			89,890
Note receivable, current portion		589		5,307			—			5,896
Inventories		63,444		40,166			—			103,610
Prepaid expenses and other		3,714		2,301			—			6,015

Total current assets		164,600		125,659			—			290,259
Cash, restricted		—		33,000			—			33,000
Property, plant and equipment		385,569		547,689			—			933,258
Other		5,399		—			—			5,399
Deferred income tax		10,852		6,772			—			17,624
Due from unrestricted group		57,457		—			(57,457	)		—
Note receivable, less current portion		3,977		—			—			3,977

Total assets	€	627,854	€	713,120		€	(57,457	)	€	1,283,517


LIABILITIES
Current
Accounts payable and accrued expenses	€	43,621	€	43,379		€	—		€	87,000
Pension and other post-retirement
benefit obligations, current portion		493		—			—			493
Debt, current portion		—		34,023			—			34,023

Total current liabilities		44,114		77,402			—			121,516
Debt, less current portion		273,589		542,243			—			815,832
Due to restricted group		—		57,457			(57,457	)		—
Unrealized derivative loss		—		21,885			—			21,885
Capital leases and other		27,016		1,966			—			28,982
Deferred income tax		4,553		14,087			—			18,640

Total liabilities		349,272		715,040			(57,457	)		1,006,855

SHAREHOLDERS’ EQUITY
Total shareholders’ equity (deficit)		278,582		(1,920	)		—			276,662

Total liabilities and shareholders’ equity	€	627,854	€	713,120		€	(57,457	)	€	1,283,517


			December 31, 2004

			Restricted			Unrestricted						Consolidated
			Group			Subsidiaries			Eliminations			Group

Revenues			€	142,152		€	40,090		€	—		€	182,242

Operating costs				98,113			43,117			37			141,267
Operating depreciation and amortization				17,766			9,022			—			26,788
General and administrative				13,828			8,560			—			22,388

		Operating income (loss) from continuing operations		12,445			(20,609	)		(37	)		(8,201	)

Other income (expense) Interest expense				(10,941	)		(13,734	)		1,490			(23,185	)
	Investment income			3,132			1,130			(1,490	)		2,772
	Derivative financial instruments, net			13,242			(1,106	)		—			12,136

	Total other income (expense)			5,433			(13,710	)		—			(8,277	)

		Income (loss) before income taxes and minority interest from continuing operations		17,878			(34,319	)		(37	)		(16,478	)
Income tax benefit				17,235			26,928			—			44,163

		Income (loss) before minority interest from continuing operations		35,113			(7,391	)		(37	)		27,685
Minority interest				—			2,454			—			2,454

		Net income (loss) from continuing operations		35,113			(4,937	)		(37	)		30,139
		Net loss from discontinued operations		—			(10,159	)		—			(10,159	)

		Net income (loss)	€	35,113		€	(15,096	)	€	(37	)	€	19,980


	Quarter Ended

	March 31			June 30			September 30			December 31

2006
Revenues	€	141,668		€	150,594		€	171,248		€	160,467
Gross profit		10,994			10,583			34,758			36,169
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations		16,184			18,324			6,128			28,606
Income before extraordinary items and cumulative effect of a change in accounting from continuing operations, per share*		0.40			0.45			0.18			0.67
Net income (loss) from discontinued operations		404			97			600			(7,133	)
Net income		16,588			18,421			6,728			21,473
2005
Revenues	€	82,510		€	113,512		€	133,413			123,002
Gross profit		(629	)		9,998			9,026			255
Loss before extraordinary items and cumulative effect of a change in accounting from continuing operations		(19,275	)		(61,259	)		(4,319	)		(27,205	)
Loss before extraordinary items and cumulative effect of a change in accounting from continuing operations, per share*		(0.76	)		(1.85	)		(0.13	)		(0.82	)
Net loss from discontinued operations		(392	)		(892	)		(1,236	)		(2,568	)
Net loss		(19,667	)		(62,151	)		(5,555	)		(29,773	)


	Mercer International Inc.

~~Dated: March 1, 2007~~	~~By:~~	~~/s/Jimmy S.H. Lee~~

Dated: February 22, 2008		By: /s/ Jimmy S.H. Lee Jimmy S.H. Lee Chairman



/s/Jimmy S.H. Lee Jimmy S.H. Lee Chairman, Chief Executive Officer and Director	Date: ~~March 1, 2007~~February 22, 2008


/s/David M. Gandossi David M. Gandossi Secretary, Executive Vice President and Chief Financial Officer		Date: ~~March 1, 2007~~February 22, 2008


/s/Kenneth A. Shields Kenneth A. Shields Director		Date: ~~March 1, 2007~~February 22, 2008


/s/Eric Lauritzen Eric Lauritzen Director		Date: ~~March 1, 2007~~February 22, 2008


/s/William D. McCartney William D. McCartney Director		Date: ~~March 1, 2007~~February 22, 2008


/s/Graeme A. Witts Graeme A. Witts Director		Date: ~~March 1, 2007~~February 22, 2008


/s/Guy W. Adams Guy W. Adams Director		Date: ~~March 1, 2007~~February 22, 2008


/s/George Malpass George Malpass Director		Date: ~~March 1, 2007~~	February 22, 2008


Exhibit
No.			Description of Exhibit

	1	.1	Underwriting Agreement dated February 8, 2005 between Mercer International Inc. and RBC Capital Markets Corporation, on behalf of itself and CIBC World Markets Corp., Raymond James & Associates, Inc. and D.A. Davidson & Co. Incorporated by reference from Form 8-K dated February 10, 2005.
	1	.2	Underwriting Agreement dated February 8, 2005 among Mercer International Inc. and RBC Capital Markets Corporation and Credit Suisse First Boston LLC, on behalf of themselves and CIBC World Markets Corp. Incorporated by reference from Form 8-K dated February 10, 2005.
	2	.1	Agreement and Plan of Merger among Mercer International Inc., Mercer International Regco Inc. and Mercer Delaware Inc. dated December 14, 2005. Incorporated by reference to the Proxy Statement/ Prospectus filed on December 15, 2005.
	3	.1	Articles of Incorporation of the Company, as amended. Incorporated by reference from Form 8-A dated March 1, 2006.
	3	.2	Bylaws of the Company. Incorporated by reference from Form 8-A dated March 1, 2006.
	4	.1	Indenture dated as of October 10, 2003 between Mercer International Inc. and Wells Fargo Bank Minnesota, N.A. Incorporated by reference from Form 8-K dated October 15, 2003.
	4	.2	Indenture dated as of December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference from Form S-3 filed December 10, 2004.
	4	.3	First Supplemental Indenture dated February 14, 2005 to Indenture dated December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference from Form 8-K dated February 17, 2005.
	10	.1	Amended and Restated 1992 Stock Option Plan. Incorporated by reference from Form S-8 dated March 2, 2000.
	10	.2*	2002 Employee Incentive Bonus Plan.
	10	.3	Project Financing Facility Agreement dated August 26, 2002 between Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated September 10, 2002.
	10	.4	Shareholders’ Undertaking Agreement dated August 26, 2002 among Mercer International Inc., Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH, AIG Altmark Industrie AG and FAHR Beteiligungen AG and Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated September 10, 2002.
	10	.5*	Shareholders’ Agreement dated August 26, 2002 among Zellstoff Stendal GmbH, Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH and FAHR Beteiligungen AG.
	10	.6*	Contract for the Engineering, Design, Procurement, Construction, Erection and Start-Up of a Kraft Pulp Mill between Zellstoff Stendal GmbH and RWE Industrie-Lösungen GmbH dated August 26, 2002. Certain non-public information has been omitted from the appendices to Exhibit 10.16 pursuant to a request for confidential treatment filed with the SEC. Such non-public information was filed with the SEC on a confidential basis. The SEC approved the request for confidential treatment in January 2004.
	10	.7*	Form of Trustee’s Indemnity Agreement between Mercer International Inc. and its Trustees.
	10	.8	Employment Agreement dated for reference August 7, 2003 between Mercer International Inc. and David Gandossi. Incorporated by reference from Form 8-K dated August 11, 2003.
	10	.9	Employment Agreement effective as of April 28, 2004 between Mercer International Inc. and Jimmy S.H. Lee. Incorporated by reference from Form 8-K dated April 28, 2004.
	10	.10	2004 Stock Incentive Plan. Incorporated by reference from Form S-8 dated June 15, 2004.
	10	.11	Asset Purchase Agreement by and among Mercer International Inc., 0706906 B.C. Ltd. and KPMG Inc., as receiver of all of the assets and undertakings of Stone Venepal (Celgar) Pulp Inc. dated November 22, 2004. Incorporated by reference from Form 8-K dated November 23, 2004.
	10	.12	Revolving Credit Facility Agreement dated February 9, 2005 among D&Z Holding GmbH, Zellstoff-und Papierfabrik Rosenthal GmbH & Co. KG, ZPR Beteiligungs GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference from Form 8-K dated February 17, 2005.


Exhibit
No.			Description of Exhibit

	1	.1	Underwriting Agreement dated February 8, 2005 between Mercer International Inc. and RBC Capital Markets Corporation, on behalf of itself and CIBC World Markets Corp., Raymond James & Associates, Inc. and D.A. Davidson & Co. Incorporated by reference fromForm 8-K dated February 10, 2005.
	1	.2	Underwriting Agreement dated February 8, 2005 among Mercer International Inc. and RBC Capital Markets Corporation and Credit Suisse First Boston LLC, on behalf of themselves and CIBC World Markets Corp. Incorporated by reference fromForm 8-K dated February 10, 2005.
	2	.1	Agreement and Plan of Merger among Mercer International Inc., Mercer International Regco Inc. and Mercer Delaware Inc. dated December 14, 2005. Incorporated by reference to the Proxy Statement/Prospectus filed on December 15, 2005.
	3	.1	Articles of Incorporation of the Company, as amended. Incorporated by reference fromForm 8-A dated March 1, 2006.
	3	.2	Bylaws of the Company. Incorporated by reference fromForm 8-A dated March 1, 2006.
	4	.1	Indenture dated as of October 10, 2003 between Mercer International Inc. and Wells Fargo Bank Minnesota, N.A. Incorporated by reference fromForm 8-K dated October 15, 2003.
	4	.2	Indenture dated as of December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference fromForm S-3 filed December 10, 2004.
	4	.3	First Supplemental Indenture dated February 14, 2005 to Indenture dated December 10, 2004 between Mercer International Inc. and Wells Fargo Bank, N.A. Incorporated by reference fromForm 8-K dated February 17, 2005.
	10	.1	Amended and Restated 1992 Stock Option Plan. Incorporated by reference fromForm S-8 dated March 2, 2000.
	10	.2*	2002 Employee Incentive Bonus Plan.
	10	.3	Project Financing Facility Agreement dated August 26, 2002 between Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated September 10, 2002.
	10	.4	Shareholders’ Undertaking Agreement dated August 26, 2002 among Mercer International Inc., Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH, AIG Altmark Industrie AG and FAHR Beteiligungen AG and Zellstoff Stendal GmbH and Bayerische Hypo-und Vereinsbank AG. Incorporated by reference fromForm 8-K dated September 10, 2002.
	10	.5*	Shareholders’ Agreement dated August 26, 2002 among Zellstoff Stendal GmbH, Stendal Pulp Holdings GmbH, RWE Industrie-Lösungen GmbH and FAHR Beteiligungen AG.
	10	.6*	Contract for the Engineering, Design, Procurement, Construction, Erection andStart-Up of a Kraft Pulp Mill between Zellstoff Stendal GmbH and RWE Industrie-Lösungen GmbH dated August 26, 2002. Certain non-public information has been omitted from the appendices to Exhibit 10.16 pursuant to a request for confidential treatment filed with the SEC. Such non-public information was filed with the SEC on a confidential basis. The SEC approved the request for confidential treatment in January 2004.
	10	.7*	Form of Trustee’s Indemnity Agreement between Mercer International Inc. and its Trustees.
	10	.8	Employment Agreement dated for reference August 7, 2003 between Mercer International Inc. and David Gandossi. Incorporated by reference fromForm 8-K dated August 11, 2003.
	10	.9	Employment Agreement effective as of April 28, 2004 between Mercer International Inc. and Jimmy S.H. Lee. Incorporated by reference fromForm 8-K dated April 28, 2004.
	10	.10	2004 Stock Incentive Plan. Incorporated by reference fromForm S-8 dated June 15, 2004.

Year Ended

Year Ended

Year Ended

December 31, 2007

December 31, 2006

December 31, 2005

~~December 31, 2004~~