sshd does not work when shadow password is enabled

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sshd does not work for me when shadow password is enabled. 

 1. I can telnet to my box as root (with shadow password enabled) ==>> username/password is valid. 2. If I disable shadow password, sshd works fine. I can login as root. ==>> the ssh keys are fine and sshd_config file is also good.  Any ideas?  I am using busybox login, shadow password. I have configured all internal APIs option in busybox.  My box runs the 2010621 tar file. I updated the ssh and busybox directories to the latest without any change in behavior. Looks like I am missing something obvious. Including a snippet of the failure from '/bin/sshd -Dde'.  I need to use shadow password for backward compatibility, so disabling shadow is not an option.  ebug1: kex: client->server aes128-ctr hmac-md5 none debug1: kex: server->client aes128-ctr hmac-md5 none debug1: SSH2_MSG_KEX_DH_GEX_REQUEST received WARNING: /etc/config/moduli does not exist, using fixed modulus debug1: SSH2_MSG_KEX_DH_GEX_GROUP sent debug1: expecting SSH2_MSG_KEX_DH_GEX_INIT debug1: SSH2_MSG_KEX_DH_GEX_REPLY sent debug1: SSH2_MSG_NEWKEYS sent debug1: expecting SSH2_MSG_NEWKEYS debug1: SSH2_MSG_NEWKEYS received debug1: KEX done debug1: userauth-request for user root service ssh-connection method none debug1: attempt 0 failures 0 Failed none for root from 169.254.1.11 port 58277 ssh2 debug1: userauth-request for user root service ssh-connection method keyboard-interactive debug1: attempt 1 failures 0 debug1: keyboard-interactive devs  debug1: auth2_challenge: user=root devs= debug1: kbdint_alloc: devices '' debug1: userauth-request for user root service ssh-connection method password debug1: attempt 2 failures 1 Failed password for root from 169.254.1.11 port 58277 ssh2