1. 2.11.09 Stone_Container.ppt1 What Stone did On April 8th, Stone announced that the equity offering was being canceled Stock price recovered 1 1/2 points (16.7%) on the announcement, but continued to trade in the $8-$9 range for the rest of April. The junk bonds lost about 6% of their value. Subsequent financial moves: –Renegotiated bank loans –Sold $150 million of 12 5/8% Senior Notes due 1998 –Sold $250 million of 8 7/8% Convertible Senior Subordinated Notes due 2000; convertible at $11.55

2. 2.11.09 Stone_Container.ppt2 More … Other actions –Sold Mexican subsidiary –Sold minority interests in Canadian and British newsprint subsidiaries –Shut down 220,000 tons of U.S. capacity Linerboard prices began to rise in last half of 1993, eventually rising $180 per ton above 1993 lows by 1995 Stone lost $205 million in 1994, but reports 1995 PAT of $255 million Stone’s stock hit $18 1/2 in 1994 Stone issued 16.5 million new shares at 15 1/4 ($250 million), but leverage was still high at (72%)

3. 2.11.09 Stone_Container.ppt3 Human and market imperfections “I’ve told the junk bond people they won’t be seeing me anymore.” Roger Stone “Given his past, why should we believe him?” - Sharyl Van Winkle Merrill Lynch analyst

4. Two-day wrapup 2.11.09 Stone_Container.ppt4

5. Optimal/Target capital structure—Checklist Can company pay interest—coverage ratios? –EBIT/Int, EBITDA/Int –In good times and bad Industry volatility or cyclicality? –Operating leverage makes cash flow more volatile/cyclical Industry standards—what are competitors doing? Is company able to make use of its ITS? Costs of financial distress? –What will customers and suppliers do in shadow of bankruptcy? Agency costs? –High leverage=>Mgrs take negative NPV projects with high risk –Low leverage=>Mgrs have few incentives to be efficient, may consume excess perks (private jets, plush offices…) Leverage needed to control renk-seeking? –Unions and/or regulators Does company need strategic flexibility? –Will covenants interfere with strategy? 2.11.09 Stone_Container.ppt5

6. Getting to your optimal capital structure From low leverage, it’s easy: do a leveraged recap From high leverage, it’s hard Assume D+E is approx constant (Ignore value of ITS) Each 1% decline in D/V => $55MM in new equity To go from 78% to 50% requires ~ $1.5 Bn in new equity! At least 100 MM new shares (1.5 B/$15) Dilution = 100/(100+71) = 58% Family share = 42% of what previous holdings 2.11.09 Stone_Container.ppt6 Stone’s V = D+E = 4323 +1189 = 5512

7. And that’s before announcement effects! Two explanations for the drop in Pstk on announcement of equity issue Debt overhang –Transfer of value from new equity to impaired debt –Arises under symmetric information when D/V is high Signaling –Action (debt or equity) communicates true state of company to market –Arises under asymmetric information when D/V is anything Net result => Companies are reluctant to issue equity –… even when company is over-levered and experiencing costs of financial distress (out of bankruptcy) –… when a company bucks the trend, it is punished Converts can be “backdoor equity” 2.11.09 Stone_Container.ppt7

8. 2.11.09 Stone_Container.ppt8 Epilogue Merged with Jefferson Smurfit Corp. on May 8, 1998 in an exchange of shares implying a value of $20.30 per share ($2.12 billion market cap). Jan. 27, 2009: Smurfit-Stone Container filed for Chapter 11 bankruptcy protection with debt of $5.6 billion. Today, they are learning firsthand about the bankruptcy process

9. 2.11.09 Stone_Container.ppt9

10. 2.11.09 Stone_Container.ppt10 “Indeed, indeed, repentance oft before I swore – but was I sober when I swore?” -Rubaiyat of Omar Khayyam