SecProbe.io

CORRESP
1
filename1.htm

SEC Correspondence Letter

SANGRA MOLLER

B  a  r  r  i  s  t  e  r  s    &    S  o  l  i  c  i  t  o  r  s

    1000 Cathedral Place

925 West Georgia Street

Vancouver, British Columbia

Canada V6C 3L2

Telephone: (604) 662-8808

Facsimile: (604) 669-8803

www.sangramoller.com

    Reply Attention of

H.S. Sangra

Our File No.:

5000058

Direct Line:

(604) 692-3022

Email:

hsangra@sangramoller.com

June 1, 2005

VIA FACSIMILE AND COURIER

SECURITIES AND EXCHANGE COMMISSION

450 Fifth Street, N.W., Stop 4-5

Washington, D.C. 20549-0405

Attention:     H. Roger Schwall, Assistant Director

Dear Sirs/Mesdames:

Re:     Mercer International Inc. (the “Company”)

We act as counsel for the Company. We write in connection with the comment letter dated May 19,
2005 (the “Comment Letter”) from the Securities and Exchange Commission (the “Commission”) to the
Company providing accounting comments on the Company’s Annual Report on Form 10-K for 2004 and
Quarterly Report on Form 10-Q for the quarter ended March 31, 2005. On behalf of the Company, we
provide the following responses to your comments. For your ease of reference, we have set out
below, in italics, the comments contained in the Comment Letter, with the Company’s responses
following each comment.

Business

    Raw Materials, page 14

    1.
    We note your disclosure on page 15 indicating your Stendal Mill operation engages in trading
activities to sell or trade with others in order to optimize fiber mix for the mill. Tell us
how you are accounting for these transactions. Quantify the effects of revenue and expense
recognition for each period presented. Describe the manner of presentation.

    During 2004, the Company was required to build up the fiber supply at its Stendal pulp mill
in connection with its start up. Such fiber consisted primarily of logs acquired both
through third party purchase agreements and the Company’s own harvesting activities, which
resulted in the Company acquiring both pulp logs and sawlogs. Pulp logs are generally of
lower quality and value and are “chipped” and used by the Stendal mill. Sawlogs have a
higher quality and value and are resold primarily to sawmills for lumber production. The
proceeds from the sale of sawlogs was applied to reduce the overall cost of the pulp log
fiber supply. The monetary amount of sawlogs resold in 2004 was €5.0 million out of the
total fiber cost for the Stendal mill of €42.0 million for such year. This activity does not
represent a line of business or a commercial activity.

SANGRA MOLLER

June 1, 2005

Page 2

    Pulp Cash Production Costs, page 17

    2.
    We note you disclose various non-GAAP measures, including Pulp Cash Production Costs,
Operating EBITDA, and consolidated results excluding derivative items relating to the Stendal
Mill. As such, it appears you may need to revise your disclosure to provide the additional
information required by Item 10(e)(1)(i) of Regulation S-K and Question 8 of the Frequently
Asked Questions Regarding the use of Non-GAAP Financial Measures, located on our website at
http://www.sec.gov/divisions/corpfin/faqs /nongaapfaq.htm. Please contact us regarding this
matter if you require further clarification.

    Management uses “Operating EBITDA” as a benchmark performance measure in evaluating the
operating results of the Company as well as relative to its competitors. The Company
discloses Operating EBITDA as management believes Operating EBITDA is the best measure of the
underlying performance of its operations. The Company does not consider this to be a
liquidity measure. Operating EBITDA is reconciled to net income because the Company
considers it to be a performance measure. Operating EBITDA excludes a number of items that
do not affect the performance of the Company’s operations, in particular, derivative
instruments. The Company’s derivative instruments can dramatically alter its results for any
period both from realized gains and losses and from unrealized marked to market gains and
losses. For example, in the first quarter of 2004, the Company recorded a net non-cash
holding loss of €22.4 million on the marked to market valuation of its derivatives at the end
of the quarter. In the fourth quarter of 2004, the Company recorded a net gain of €13.2
million on these derivatives, including cash gains of €29.7 million upon the settlement of
its currency derivatives. None of the realized cash or unrealized non-cash losses or gains
on the Company’s derivative instruments are included in Operating EBITDA. In addition,
depreciation and amortization and non-recurring capital asset impairment charges are also
excluded from Operating EBITDA because these charges do not reflect fluctuations in operating
activities. As a result, Operating EBITDA provides readers with a meaningful supplemental
measure of the underlying performance of the Company’s mill operations. As Operating EBITDA
may be considered a non-GAAP financial measure, the Company respectfully submits it has
complied with Item 10(e)(1)(i) of Regulation S-K by presenting with equal prominence a
reconciliation of net income (loss) to income (loss) from operations and Operating EBITDA for
the specified periods and disclosing the reasons management believes that the presentation of
Operating EBITDA provides useful information to investors, as well as its limitations, and
that management only uses Operating EBITDA as a supplemental measure of the Company’s
performance.

    As the disclosure relating to the consolidated operating results excluding derivative items
relating to the Stendal mill also may be considered a non-GAAP financial measure, the Company
respectfully submits it has complied with Item 10(e)(1)(i) of Regulation S-K by presenting
with equal prominence a reconciliation of net income (loss) to net income (loss) excluding
derivative items relating to the Stendal mill and discussing the reasons management believes
such disclosure provides useful information to investors, as well as its limitations. As the
Stendal mill was under construction and non-operational, and given its extremely large size
relative to the Company’s other facilities, management used this measure to evaluate the
performance and results of its operating facilities. Management determined to exclude
derivative instruments relating to the Stendal mill in making this evaluation as these
derivative instruments could dramatically affect the Company’s results and, as the mill was
still under construction, they were not considered part of the performance of the Company’s
operating facilities. For example, in 2002, the Company recorded a non-cash holding loss on
these Stendal derivatives of €30.1 million when

SANGRA MOLLER

June 1, 2005

Page 3

    they were marked to market at the end of the reporting period, compared to recording a net
non-cash holding gain of €29.8 million in the second quarter of 2004. As construction of the
Stendal mill was completed and the mill was started up in the third quarter of 2004, the
Company no longer includes this disclosure in its quarterly and annual reports, beginning
with the Quarterly Report on Form 10-Q for the third quarter of 2004.

    The Company respectfully submits that its disclosure relating to pulp cash production costs
do not constitute a “non-GAAP financial measure”, but rather are an operating or efficiency
measure of its pulp mills. The Company does not, and submits readers would not, view pulp
cash production costs as a financial measure as these costs exclude many items that would
affect its results including, among other things, sales prices, transportation costs,
depreciation and amortization, currency exchange rates, discounts, agents commissions and
other related items. In particular, as NBSK pulp is a commodity product, the biggest factor
affecting the Company’s operating results are NBSK pulp prices which are not considered in
the disclosure relating to production costs. Management excludes depreciation and
amortization from cash production costs as these vary widely from mill to mill and are a
non-cash item.

    The Company does not view pulp cash production costs as a measure of earnings, profitability
or other related financial measure. The Company uses cash production costs as an operating
or efficiency measure of the Company’s pulp mills and in comparison to its competitors. The
Company respectfully submits that its utilization of cash production costs as an operating or
efficiency measure is consistent with the examples of sales per square foot or same store
sales set out in Commission Release 33-8176. Cash production costs provide an operating or
efficiency measure of the Company’s pulp mills as they are impacted by, among other things,
operating days in a reporting period, unplanned or planned downtime, total units produced in
a particular period, upsets in the production process which can increase costs or slow
production such as downtime on dryers or other equipment, improper chemical mixes,
sub-optimal fiber diets, poor fiber quality, inefficient energy usage, failure to recapture
and utilize chemicals and energy, unplanned discharges, etc. The lower the pulp cash
production costs at the Company’s pulp mills, the more efficiently the mills are operating.

    The Company respectfully submits that disclosure of production or manufacturing costs by
producers is an operating or efficiency measure often used and provided by industry
participants. For example, in its 2003 Form 20-F, Arauco and Constitution Pulp Inc., under
“Description of Business – Pulp – Production Costs”, in a table similar to the pulp cash
production costs table used by the Company, sets out a comparison of its production cash
costs with the average costs of other selected market pulp producers. Certain other industry
participants which also provide disclosure consistent with cash production or manufacturing
costs are set our in Schedule A hereto. Production or manufacturing costs are also generally
reported in industry reports by industry consultants and analysts. For example, industry
engineering firms, such as Jaakko Poyry Consulting and NLK Jaakko Poyry, publish reports
relating to the pulp and paper industry which benchmark the production or manufacturing costs
of mills, including NBSK pulp mills, on a worldwide basis and ranks these mills based on such
costs. PricewaterhouseCoopers also publishes similar reports on British Columbia NBSK pulp
mills, including the Company’s Celgar pulp mill.

SANGRA MOLLER

June 1, 2005

Page 4

Report of Independent Registered Chartered Accountants, page 82

    3.
    We note your audit report was signed by the Deloitte & Touche, LLP office based in Vancouver,
Canada. Please tell us how you concluded that it is appropriate to have an audit report
issued by an auditor licensed in Canada, given that the majority of your assets are located in
Germany; the majority of your revenues are derived from Europe; and your corporate offices are
located in the United States. Indicate whether your management and accounting records are
located in the United States or Canada; identify the location where the majority of the audit
work is conducted.

    As of December 31, 2004, all of the Company’s operating entities were based in Germany, with
no operating entities in the United States. With the acquisition of the Celgar pulp mill in
February 2005, the Company now has operating entities based in Germany and Canada. In
addition to offices at each of the operating entities, the Company maintains its corporate
administration office in Vancouver, Canada and maintains its legal head office in Seattle,
Washington.

    The Company’s executive officers are located in Germany and Vancouver. The Principal
Accounting Officer maintains his office in Vancouver as do corporate accounting personnel.
The Company views Vancouver as an appropriate base for its international operations.

    The audit work is planned and coordinated from Vancouver with the majority of the audit work
being performed by Deloitte & Touche’s German firm at the Company’s operating entities as
appropriate. The Company places reliance upon the Vancouver based auditor’s contacts with
the Deloitte & Touche German firm’s practice offices in Berlin and Leipzig and the U.S.
firm’s national accounting office located in Wilton, Connecticut.

    To the Company’s knowledge, Deloitte & Touche’s Vancouver office is subject to the same
quality controls as described in Section IV.C of the Staff’s November 1, 2004 International
Reporting and Disclosure Issues publication. Deloitte & Touche LLP Canada is registered with
the Public Company Accounting Oversight Board in the United States.

    Given the Company’s structure as set out above and the Vancouver auditor’s use of German and
U.S. accounting and auditing resources as appropriate, the Company determined that the
auditor’s location in Vancouver is appropriate.

Consolidated Statements of Cash Flows, page 88

    4.
    We note that although you have received investment grants from the German Government, you
have not reflected the cash flows arising from these grants in your Statement of Cash Flows.
Tell us why you believe your Statement of Cash Flows should not include the receipt of grants
as a financing activity, and the disbursements as an increase in the purchases of property
plant and equipment. Identify the authoritative guidance you believe supports your
presentation of the investment grant cash flows.

    As you have pointed out in the Comment Letter, the Company has not reflected investment
grants as a financing activity within its Statement of Cash Flows. These investment grants
are not available in advance and capital expenditures relating to these grants are initially
financed through long-term debt and bridge financing. The Company is eligible to apply for
these grants when the related capital

SANGRA MOLLER

June 1, 2005

Page 5

    expenditures are made, which offset the cost basis of the related assets purchased. The
Company presented these grants on a net basis to allow readers to assess the true cash cost
to the Company of the assets purchased.

    This presentation has been reconsidered and the Company has determined that reflecting the
cash flows arising from these grants in the Statement of Cash Flows would be preferable to
current practice, although the change would not be considered material as per SAB 99. The
Company proposes to amend this presentation in all future periodic reports.

Note 1 — The Company and Summary of Significant Accounting Policies, page 89

    Property, Plant and Equipment

    5.
    Please expand your disclosure to clarify whether you have recorded asset retirement
obligations in your financial statements. Please provide the disclosures required by
paragraph 22 of SFAS 143. If you believe the information is not material, you may submit this
on a supplemental basis for purposes of this review. Indicate the extent to which costs
relating to landfills are covered by your asset retirement obligations.

    Paragraph 22 of SFAS 143 provides that, if the fair value of an asset retirement obligation
cannot be reasonably estimated, the fact and the reasons therefor shall be disclosed. The
third paragraph under “Property, Plant and Equipment” in Note 1 of the notes to the Company’s
financial statement states that the Company provides for asset retirement obligations when
their fair value can be reasonably estimated and that, due to the long-term nature of the
underlying assets and discount rates, an amount relating to these asset retirement
obligations cannot be reliably estimated. The Company respectfully submits that, based on
the disclosure provided, it would be reasonably apparent to a reader that the Company did not
provide for asset retirement obligations in the financial statements included in its 2004
Form 10-K.

    As at December 31, 2004, the Company’s Rosenthal mill was the o