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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K

/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended August 31, 2000

/  / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period from              to             

Commission File No. 33-95318

PORTOLA PACKAGING, INC.
(Exact name of Registrant as specified in its charter)

890 Faulstich Court
San Jose, California 95112
(Address of principal executive offices, including zip code)

(408) 453-8840
(Registrant’s telephone number, including area code)

      Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes _x_ No __

      Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant’s knowledge, in definitive proxy or information statements incorporated by reference to Part III of this Form 10-K or any amendment to this Form 10-K.

      Registrant’s voting stock is privately held and the aggregate market value of the voting stock held by non-affiliates is not calculable.

      12,211,867 shares of Registrant’s $.001 par value Common Stock, consisting of 2,134,992 shares of nonvoting Class A Common Stock and 10,076,875 shares in the aggregate of voting Class B Common Stock, Series 1 and 2 combined, were outstanding at October 31, 2000.

      Documents incorporated by reference: None

Table of Contents

PORTOLA PACKAGING, INC.
2000 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS

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PART I

Item 1. BUSINESS

Overview

      Portola Packaging, Inc. (together with its subsidiaries referred to hereinafter as the “Company” or “Portola”) is a leading designer, manufacturer and marketer of tamper evident plastic closures, bottles, related equipment and tooling used for packaging applications in dairy, fruit juice, bottled water, sports drinks, institutional food products and other non-carbonated beverage products. The Company’s principal closure product lines include (i) small closures, (ii) five gallon closures, (iii) widemouth closures, (iv) fitments and (v) push-pull dispensing closures. Portola also designs, manufactures and supplies high speed capping equipment and complete turnkey water bottling systems, which are marketed by the Company primarily under the tradenames “PortaPlant” and “Adapta”. The Company’s Canadian, Mexican and United Kingdom operations, as well as Sterling Containers, LLC, a domestic joint venture, also manufacture a wide variety of blow molded plastic bottles for food and industrial applications. Portola’s closure products are primarily manufactured through a technologically advanced, high speed injection molding process at seven modern manufacturing facilities strategically located throughout the United States, three facilities located in Canada, one facility each located in the United Kingdom, Mexico, China and a joint venture in Europe. In addition, the Company has three equipment facilities, one each located in California, Michigan and Pennsylvania. Management believes that the Company is a leader in a majority of the markets it serves and that the Company is the sole or largest supplier of plastic closures for a majority of its customers. The Company sells over 11.9 billion closures annually under the names Cap Snap, Nepco, Portola Packaging and other brand names to over 2,500 customers. Most of the Company’s customers have been doing business with the Company for more than ten years. The Company’s products are used to cap such well known consumer products as Borden milk, Florida Natural and Minute Maid juices, Poland Spring bottled water, and Kraft barbecue sauce. In addition, the Company manufactured a push-pull closure distributed at the 2000 Summer Olympics for Coca Cola. Many features of the Company’s closure products are proprietary, and Portola holds more than 100 domestic and international patents on the design of container closures and compatible bottle necks.

History

      The Company was incorporated in California in 1964, and reincorporated in Delaware in April 1994. Portola (formerly known as Cap Snap Seal, Inc.) was acquired from the founders in 1986 by a group led by Jack L. Watts, the Company’s current Chairman of the Board and Chief Executive Officer. Since Portola was acquired from the founding family, the size of the Company as measured by sales and closure unit volume has increased from $26.1 million in sales and 2.1 billion in units sold for fiscal 1987 to $203.0 million in sales and 11.9 billion in units sold for fiscal year 2000. Portola’s senior management has significant experience in the plastic packaging business and an average tenure of six years at the Company.

      Consistent with the Company’s objective to expand through strategic acquisitions, on June 30, 1994, the Company acquired Northern Engineering & Plastic Corp. and certain related companies and assets (collectively, “Nepco”) for a purchase price of $43.7 million. The acquisition of Nepco, a designer, manufacturer and marketer of tamper evident plastic closures in markets similar to those served by Portola, has enabled the Company to establish new customer relationships, diversify and expand its product offerings and customer base and benefit from Nepco’s proprietary product designs. On June 16, 1995, the Company purchased for $13.6 million the 50% interest it had not previously owned in Canada Cap Snap Corporation, a British Columbia corporation engaged in manufacturing and distributing small closures in western Canada, together with all the capital stock of two affiliated plastic bottle manufacturers (the “Western Canadian Acquisition”). The companies acquired in the Western Canadian Acquisition were amalgamated and now operate under the name “Portola Packaging Canada Ltd”. On September 1, 1996, the Company purchased for $2.1 million Rapid Plast J-P. Inc. (Rapid Plast), a company headquartered in Montreal, Quebec (the “Eastern Canadian Acquisition”). Rapid Plast now operates under the name “Portola Packaging Ltd.” and is engaged in manufacturing and distributing plastic bottles, primarily in eastern Canada. The Canadian acquisitions have enabled the Company to establish a position in the Canadian bottle manufacturing marketplace and to advance its position in the Canadian closure marketplace. On September 1, 1995, the Company completed the acquisition of the 50% interest it had not previously owned in Cap Snap (U.K.) Ltd., now known as Portola Packaging Ltd. (U.K.) for a purchase price of approximately $1.5 million. Portola Packaging Ltd. (U.K.), a corporation organized under the laws of England and Wales, is engaged in manufacturing closures for distribution primarily in the United Kingdom with some exports to other European countries.

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      During fiscal year 1999, the Company acquired 65% interests in two newly formed limited liability companies, Associated Sales Group, LLC (“ASG”) and Leonard S. Slaughter and Associates, LLC (“LSA”). ASG and LSA are organizations that market products primarily for the Company and generate commissions based on sales made primarily to the Company’s customers. Also during fiscal year 1999, the Company entered into a joint venture with Greiner A.G. of Austria to form an Austrian company now named Capsnap Europe Packaging Gmb.H (“CSE”), which is 50% owned by the Company. CSE currently sells closures for five gallon water bottles that are produced primarily by the Company’s United Kingdom subsidiary. CSE also has a 50% ownership interest in Watertek, a joint venture in Turkey which produces and sells five gallon water bottles for the European and Middle Eastern market places.

      On March 31, 1999, the Company purchased certain operating and intangible assets and paid off certain liabilities of Allied Tool, Inc. through its wholly-owned subsidiary, Portola Allied Tool, Inc. (“Portola Allied”), for a total purchase price of $2.2 million. Portola Allied is located in Michigan and is engaged primarily in the manufacture and sale of tooling and molds used in the blowmolding industry. Effective July 27, 1999, the Company completed the acquisition of the remaining interest in Portola Packaging Inc. Mexico, S.A. de C.V. (“PPI Mexico”) for a purchase price of $3.0 million. PPI Mexico is engaged in the manufacture and distribution of plastic water bottles and plastic closures.

      In April 1999, the Company entered into a joint venture with Kimex Group, LLC (“Kimex”) to form Sterling Containers, LLC (“Sterling”), a 50% owned company that produces and sells five gallon PET water bottles out of two of Portola’s domestic plants. Sterling leases the bottle making machinery from Kimex and plant space and support equipment from the Company.

      During fiscal year 2000, the Company acquired a 70% interest in a newly formed limited liability company, Great Lakes Sales Associates (“GLA”). GLA is an organization that markets products primarily for the Company and generates commissions based on sales made primarily to the Company’s customers.

      Effective March 22, 2000, the Company acquired the remaining 45% ownership interest in Shanghai Portola Packaging Company Limited. (“PPI China”) for $1.4 million. PPI China is located in the Shanghai province of China and is engaged in the manufacture and distribution of plastic closures for the Asian marketplace.

Disclosures Regarding Forward-Looking Statements

      This report includes “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Act of 1934, as amended. All statements other than statements of historical facts included in this Form 10-K, including, without limitation, statements contained in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” regarding the Company’s financing alternatives, financial position, business strategy, plans and objectives of management of the Company for future operations, and industry conditions, are forward-looking statements. Certain statements, including, without limitation, statements containing the words “believes,” “anticipates,” “estimates,” “expects,” “plans,” and words of similar import, constitute forward-looking statements. Readers are referred to the sections of this Report entitled “Risk Factors”, “Plastic Closure Market”, “Raw Materials and Production” and “Competition”. These sections describe risks which could cause actual results to differ materially from such forward-looking statements. Although the Company believes that the expectations reflected in any such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Any forward-looking statements herein are subject to certain risks and uncertainties in the Company’s business, including but not limited to, competition in its markets, and reliance on key customers, all of which may be beyond the control of the Company. Any one or more of these factors could cause actual results to differ materially from those expressed in any forward-looking statement. All subsequent written and oral forward-looking statements attributable to the Company or any person acting on its behalf are expressly qualified in their entirety by the cautionary statements disclosed in this paragraph and elsewhere in this report.

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Business Strategy

      The Company’s primary strategy is to increase cash flow by maintaining and extending its leading position in product applications within the plastic closure and bottling industry. To support this strategy, the Company focuses on (i) advancing research and development and product engineering, (ii) providing dedicated customer support and total product solutions for customers, (iii) continuing to improve production efficiencies and enhance low cost manufacturing capabilities, (iv) expanding sales in international markets where significant growth opportunities exist and (v) where appropriate, seeking strategic acquisitions that will strengthen the Company’s competitive position.

      Emphasizing Research and Development and Product Engineering. The Company is continuing its commitment to research and development, a commitment that has led to significant product innovations. These innovations include the original snap cap design and the five gallon closure, the “tear strip” feature that has become a standard tamper evident mechanism for food and non-carbonated beverage products, improved recloseable plastic dispensing fitments for gable-top fruit juice and milk cartons and the snap-screw cap.

      Emphasizing Customer Support and Total Product Solutions. The Company seeks to preserve its long-term relationships with customers and attract new customers by providing on-time delivery and technical service and support and by marketing its products as “total product solutions.” The total product solution approach includes seeking at all times to provide plastic closures and packaging systems designed to meet customer specifications, compatible container necks and neck inserts, capping and filling equipment and on-going service and support.

      Continuing to Enhance Low Cost Manufacturing Capabilities. The Company’s operations emphasize minimizing production and raw materials purchasing costs. The Company has a continuing productivity improvement program designed to further automate its production flow, streamline its workforce and upgrade its molds, equipment and systems. See “Raw Materials and Production.”

      Expanding Sales in International Markets. The Company expects significant growth in international markets for plastic closures and capping and filling equipment, as bottled water and other non-carbonated water companies in Europe, the Far East, Latin America and elsewhere adopt more advanced packaging materials and techniques. The Company is seeking to capitalize on the opportunity for expansion into international markets through the formation of joint ventures with local bottle manufacturers, bottlers, and distributors and by increasing export sales of closures and capping and filling equipment. The Company has a joint venture in Europe and has acquired the remaining interests of the Company’s joint ventures in Mexico, Canada, the United Kingdom and China. See “International Sales and Joint Ventures.”

      Seeking Strategic Acquisitions. Portola plans to continue its program of seeking to acquire businesses serving similar customers using proprietary product and process technologies that offer opportunities to improve costs or extend the Company’s product lines. The Company may also expand its acquisition strategy to include businesses that serve other customer bases as well. Since fiscal 1994, the Company has acquired Nepco, its Mexican, Canadian, United Kingdom and Chinese operations, the assets of Allied Tool, Inc., and entered into joint ventures domestically as well as in Europe.

Plastic Closure Market

      Portola competes in the closure segment of the worldwide container packaging industry, focusing specifically on proprietary tamper evident plastic closure applications. Container closure devices have various applications with designs engineered to meet specific use requirements. Major product applications for container closures include food, beverages, toiletries, cosmetics, drugs and pharmaceuticals.

      Closure design is a function of the type of container and its contents. Products which are carbonated, perishable, highly acidic or susceptible to tampering all require specialized capping applications. In many instances, it may be necessary for the container to be resealable, or it may be preferable for the contents to be dispensed through the closure without the closure being removed. Subject to these and other packaging requirements, container closures can be made from either plastic or metal.

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      The use of plastic closures has grown with the trend toward tamper evident packaging. A tamper evident feature is highly valued by the food and beverage market and the pharmaceutical market, and tamper evident features are experiencing growth in most segments of the closure market. While certain tamper evident devices can be incorporated into metal closures, the most sophisticated devices have been developed for plastic closures. Portola invented the original snap-on cap design as well as the “tear strip” feature with breakaway bands for plastic closures, which provided the standard tamper evident mechanism for the food and non-carbonated beverage industries.

      Historically, demand for the Company’s products has been a function of population growth, increasing concerns by the public about the sanitation of packaged food and beverage products, and the continued increase in the use of plastic containers, as opposed to glass or metal, throughout the packaged food industry. For juice, dairy and bottled water markets, demand is also a function of seasonal climate variations, warm weather being responsible for increased consumption. In addition, demand is a function of general economic conditions and business cycles. See “Products” and “Product Development.”

Products

      Portola designs, manufactures and markets a wide array of tamper evident plastic closures for applications in dairy, fruit juice, bottled water, sport drinks, institutional food products and other non-carbonated beverage products. The Company also designs, manufactures and markets (i) high speed capping equipment for use by its plastic closure customers in their bottling and packaging operations, (ii) tooling and molds used in the blowmolding industry (iii) customized bottling systems for returnable water cooler bottles which it markets primarily under the name “PortaPlant”, and (iv) blow molded bottles for use in the dairy, water, juice and industrial markets. The Company’s sales of plastic closures represented approximately 81%, 83% and 86% of total sales in fiscal years 2000, 1999 and 1998, respectively. In fiscal year 2000, the balance of the sales was for equipment (6%), bottles (12%) and other (1%).

Plastic Closures

      The Company’s plastic closures are broadly grouped into five categories: (i) small closures used to cap blow-molded plastic bottles, (ii) closures for five gallon returnable glass and plastic water cooler bottles, (iii) widemouth closures for institutional food products, (iv) fitments for gable-top containers (such as conventional paperboard milk and juice cartons) and (v) push-pull dispensing closures for bottled water, flavored water and sports drinks. The Company offers a wide variety of plastic closures under each of its principal product lines to satisfy specific market application and customer requirements. Most of the Company’s plastic closures offer its snap-on or snap-screw feature, designs preferred by packagers because they reduce production costs and leakage. The Company’s plastic closures also incorporate tear strips, breakaway bands or other visible tamper evident devices, a feature that has become an industry standard for food and non-carbonated beverage products. The Company’s plastic closures range in size from 28mm to 110mm, and conform to international packaging standards. The Company offers over 40 individual closure products. The Company also offers 32 standard colors, in addition to custom-blended colors, and sophisticated printing, embossing and adhesive labeling capabilities to provide product distinction for its customers.

      The following table describes the Company’s principal plastic closure product lines.

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Capping Equipment and Tooling

      The Company also designs, manufactures and markets capping equipment for use in high speed bottling, filling and packaging production lines. A substantial majority of the Company’s plastic closure customers use the Company’s capping equipment. The Company’s ability to supply capping equipment and technical assistance along with its plastic closures represents an important competitive advantage, as customers are assured that the Company’s plastic closures will be applied properly to provide leakproof seals, and that any capping problems will be resolved quickly.

      Portola Allied is engaged in the manufacture and sale of high quality tooling and molds used in the blowmolding industry.

PortaPlants

      In addition to plastic closures and capping equipment, the Company also designs, manufactures and markets customized five gallon water capping and filling systems. The Company’s most comprehensive five gallon water bottling system is its PortaPlant system. The PortaPlant and Adapta systems are compact bottle washing, filling, capping and conveying systems for glass and plastic water bottles that can, depending on size, process 225 to 3,000 bottles per hour. The PortaPlant’s modular design makes it ideal for new and small water bottling companies as well as established companies whose growth requires integrated expansion. Portola has focused its sales efforts for PortaPlants internationally as less developed countries look for improved distribution of safe and reliable drinking water.

Plastic Bottles

      In Canada and Mexico, in addition to marketing closures, the Company produces a wide variety of blowmolded plastic bottles for use in the dairy, water and juice industries. The ability to market the closures and bottles together enables the Canadian and Mexican operations to provide their customers with a complete packaging system.

      During fiscal year 1999, the Company also formed two joint ventures, one of which produces and sells five gallon PET water bottles domestically from existing Company plants and one of which produces and sells five gallon polycarbonate bottles in the European marketplace.

Product Development

      The Company continues to be committed to product development and engineering. Its research and development group and engineering staff provide a range of design and development services, focusing primarily on (i) new products and product enhancements, (ii) tooling and molds necessary for manufacturing plastic closures and (iii) capping equipment compatible with the Company’s closures and its customers’ containers. Research and development expenditures for fiscal years 2000, 1999 and 1998 were $2.9 million, $2.7 million and $3.4 million, respectively.

      The Company has also made a substantial investment in developing new product applications for existing markets as well as applications for new markets. To facilitate the process of enhancing and developing new products and to ensure ultimate market acceptance of such products, the Company encourages an on-going exchange of ideas with customers, container manufacturers, machinery manufacturers, and sales and service personnel. This approach has enabled the Company to identify new product opportunities, including improved closures developed for the fitment and institutional foods industries.

      The Company’s typical product development cycle has been less than one year. However, successful introduction of a new closure product can take two to three years, principally because customers who are comfortable with their existing closure products are generally slow to switch to a new design, particularly in light of the relatively small cost of the closure component to the overall packaging unit.

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Raw Materials and Production

      The principal raw material for the Company’s plastic closures is injection molding grade low density polyethylene (LDPE) resin, which generally accounts for at least 55% of the cost of all raw materials purchased for the Company’s plastic closures. The Company believes that due to its volume purchases it is able to negotiate better pricing with resin suppliers, although prices for LDPE resin can fluctuate substantially over relatively short periods of time. The Company has not experienced any significant difficulties over the past ten years in obtaining sufficient quantities of LDPE resin. Historically, the Company has been able to pass on increases in resin prices directly to its customers. However, during the fourth quarter of fiscal year 1999, the Company experienced a rapid increase in resin costs that it was unable to immediately pass on to all customers. This trend also affected the first and second quarters of fiscal year 2000. Significant increases in resin prices, coupled with an inability to promptly pass such increases on to customers, could have a material adverse effect on the Company’s financial condition and results of operations.

      In order to produce plastic closures, the resin, which is delivered as small pebble-size pellets to large storage silos, is conveyed through a pipeline system to an injection molding machine, where it is melted into a thick liquid state. Coloring agents are added as appropriate and the mixture is injected at high pressure into a specially designed, multi-cavity mold. The principal equipment in the Company’s plants includes injection molding machines, finishing lines to print, label and insert caps with foam or foil to meet customer requirements, and automated systems for handling and processing raw materials and finished goods. The Company uses a similar, highly automated process in the production of its bottles. By automating its manufacturing operations, the Company is able to limit its direct labor costs while meeting the strict sanitary requirements necessary for producing food and beverage packaging products.

Backlog

      Production and delivery cycles for closures are very short and the Company’s backlog for closures is generally cancelable on short notice. Backlog for closures is generally two to three weeks of orders and is relatively constant from period to period. Contracts for equipment purchases generally include cancellation penalties. Due to the short production and delivery cycles for closures, the Company does not believe backlog information is a material factor in understanding its business.

Sales, Marketing and Customer Service

      The Company markets its products through its internal sales department, through domestic and international networks of sales representatives and through some distributors. Calls on customers by these internal salespersons and external representatives, along with participation at trade shows, are the primary means of customer contact. A number of the Company’s customers are large corporate clients with numerous production facilities, each of which may make its own separate purchase decisions. The Company’s most significant customers are processors and packagers of fluid milk, non-carbonated bottled water, chilled juice, other flavored drinks and condiments for wholesale and institutional use. The Company’s customer base includes over 2,500 customers. The Company’s top ten customers accounted for approximately 28% of the Company’s sales during the fiscal year ended August 31, 2000, and none accounted for more than 6% of sales during that period. Most of the Company’s customers have been doing business with the Company for more than ten years.

      Attention to customer service is a critical component of the Company’s marketing effort. The Company’s customers operate high-speed, high-volume production lines, with many handling perishable products. In order to assure that the production lines operate efficiently and avoid costly line stoppages, customers rely on the Company’s ability to provide reliable, on-time delivery of its closure products and to maintain uniform quality of those products. The Company also provides technical assistance to its customers in the form of an in-house service team that can be dispatched on short notice to solve a bottling line problem throughout the world. Several of the Company’s field service representatives have extensive blow-molding technical expertise that is especially important in resolving bottle leakage problems for customers.

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International Sales and Joint Ventures

      Although the Company’s sales are primarily domestic, the Company has experienced growth in international sales. International sales increased to $76.8 million in 2000 from $70.3 million and $46.3 million in 1999 and 1998, respectively, due to bottled water companies and other non-carbonated beverage companies in Europe, the Far East, Latin America and elsewhere adopting more advanced packaging materials and techniques. For the fiscal years ended August 31, 2000, 1999, and 1998, export closure sales from the United States to unaffiliated customers were $4.9 million, $10.0 million, and $9.4 million, respectively. The Company’s export closure sales from the United States have declined, as the Company’s international subsidiaries located in the United Kingdom, Canada, Mexico and China have developed, produced, and sold more product locally. As a result of the shift to local production, sales in these regions are growing with the aid of local increased capacity.

      In the last several years, the Company has utilized joint ventures with bottle manufacturers, bottlers and distributors to gain footholds in international markets. By offering plastic closures, capping equipment and turnkey bottling systems, the Company can provide joint venture partners with a complete solution to their bottling and capping requirements. Subsidiaries in the United Kingdom, Canada, Mexico and China, now wholly-owned by Portola, each began as joint ventures. During fiscal year 1999, the Company formed a joint venture with Greiner A.G. of Austria to form Capsnap Europe Gmb.H (“CSE”), to sell five gallon water caps and to produce and sell five gallon water bottles for the European and Middle Eastern marketplaces.

Competition

      The Company competes in marketing container closures to the food and beverage industry on the basis of price, product design, product quality, reliability, on-time delivery and customer service. Among the attributes that the Company believes distinguish it from other sellers of closure systems and provide a competitive advantage are the Company’s proprietary products, the Company’s ability to provide its customers with innovative, low-cost closures and complete capping systems, the Company’s reputation for quality, reliability and service, and the Company’s automated and strategically located production facilities.

      While no single competitor offers products that compete with all of the Company’s product lines, the Company faces direct competition in each of its product lines from a number of companies, many of which have financial and other resources that are substantially greater than those of the Company. As the Company broadens its product offerings, it can expect to meet increased competition from additional competitors with entrenched positions in those product lines. The Company also faces direct competition from bottling companies and other food and beverage providers that elect to produce their own closures rather than purchase them from outside sources. In addition, the packaging industry has numerous well-capitalized competitors, and there is a risk that these companies will expand their product offerings, either through internal product development or acquisitions of the Company’s direct competitors, to compete in the niche markets that are currently served by the Company. These competitors, as well as other existing competitors, could introduce products or establish prices for their products in a manner that could adversely affect the Company’s ability to compete. Because of the Company’s product concentration, an increase in competition or any technological innovations with respect to the Company’s specific product applications, such as the introduction of lower-priced competitive products or products containing technological improvements over the Company’s products, could have a significant adverse effect on the Company’s financial condition and results of operations.

Employees

      As of August 31, 2000, the Company had 1,131 full-time employees, 20 of whom were engaged in product development, 74 in marketing, sales and customer support, 929 in manufacturing and 108 in finance and administration. The Company uses seasonal and part-time employees for training, vacation replacements and other short term requirements. None of the Company’s employees in the United States are covered by any collective bargaining agreement; approximately 35 of the employees of one of the Company’s Canadian subsidiaries are members of the Teamsters Union. The Company has never experienced a work stoppage and believes that employee relations are good.

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Risk Factors

      The following risk factors, in addition to the risks described elsewhere in the description of the Company’s business in this report, including, without limitation, those described under the captions “Plastic Closure Market”, “Raw Materials and Production” and “Competition”, may cause actual results to differ materially from those in any forward-looking statements contained in such business description or elsewhere in this report or made in the future by the Company or its representatives:

Substantial Leverage; Limitations Associated with Restrictive Covenants

      At August 31, 2000, the Company had indebtedness outstanding of approximately $135 million. $110 million of this amount represented the principal amount of the senior notes issued by the Company in October 1995, which is due in 2005; $25 million of the balance remaining represented funds drawn under the Company’s $35 million revolving line of credit; the remaining amount of the indebtedness was principally comprised of foreign subsidiary loans and capital lease obligations.

      On September 29, 2000, the Company entered into a new four year senior secured revolving line of credit facility of $50 million, pursuant to an amended and restated agreement, subject to a borrowing base and covenants similar to those in the senior credit facility existing at August 31, 2000. See Note 17 to the consolidated financial statements for additional information.

      The degree to which the Company is leveraged could have important consequences, including the following: (i) the Company’s ability to obtain financing for future working capital needs or for acquisitions or other purposes is limited and from time to time in the future may be limited; (ii) a substantial portion of the Company’s cash flow from operations will be dedicated to debt service, thereby reducing funds available for operations; (iii) certain of the Company’s borrowings, including borrowings under the Company’s credit facility, will be at variable rates of interest, which could cause the Company to be vulnerable to increases in interest rates; and (iv) the substantial indebtedness and the restrictive covenants to which the Company is subject under the terms of its indebtedness may make the Company more vulnerable to economic downturns, may reduce its flexibility to respond to changing business conditions and opportunities and may limit its ability to withstand competitive pressures. The Company’s ability to make scheduled payments of the principal of and interest on, or to refinance, its indebtedness will depend upon its future operating performance and cash flows which are subject to prevailing economic conditions, market conditions in the packaging industry, prevailing interest rates and financial, competitive, business and other factors, many of which may be beyond the Company’s control.

Dependence on New Business Development and International Expansion

      The Company believes that the domestic markets for its traditional products have become relatively mature and that, in order to grow, the Company will increasingly rely on new products, such as push-pull, fitments and non-spill closures, as well as expansion into international markets. Developing new products and expanding into new markets will require a substantial investment and involve additional risks such as assessing the values, strengths, weaknesses and potential profitability of acquisition candidates. There can be no assurance that the Company’s efforts to achieve such development and expansion will be successful. There are additional risks of potential adverse effects on the Company’s operating results, such as the diversion of management’s attention, the loss of key personnel and the risks of unanticipated problems and liabilities. Moreover, as described above, the Company’s debt instruments impose significant restrictions under certain circumstances on the ability of the Company to make investments.

      The Company’s international operations are subject to certain risks associated with doing business in foreign countries, including the possibility of adverse governmental regulation, additional taxation, exchange rate fluctuations and other potential risks. There can be no assurance that the Company’s foreign operations will be successful or may require additional funding.

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Consumer Complaints; Governmental Regulation

      Many of the Company’s products are used to cap food and beverage products. It is possible that some of the Company’s products, if used improperly, could cause injury to consumers of food and beverage products capped with the Company’s closures. In such event, the Company could incur substantial costs in responding to complaints or litigation related to its products, which could materially adversely affect the financial condition and operations of the Company. In addition, if any of the Company’s products were found to be defective, the Company could incur significant costs in correcting any product deficiencies, in addition to suffering the loss of revenues derived from such products. From time to time, customers have claimed that defects in their products have been due to defects in the Company’s products. To date, no such claims have been adjudicated adversely to the Company, however, the Company has had to pay amounts in settlement to avoid litigation and has incurred and may be expected to incur significant litigation costs in the future, not all of which have been or will be covered by insurance.

      The Company’s products are subject to governmental regulation, including regulation by the Federal Food and Drug Administration and other agencies with jurisdiction over effectiveness of tamper-resistant devices and other closures for dairy and other food and beverage products. A change in government regulation could adversely affect the Company. There can be no assurance that federal, state or foreign authorities will not develop protocols in the future that would materially increase the Company’s costs of manufacturing certain of its products.

Limited Protection of Intellectual Property

      The Company has a number of patents covering various aspects of the design and construction of its products. The Company presently is a party to three lawsuits involving two separate companies; two of these lawsuits are challenging the validity of certain of the Company’s patented technology and the third lawsuit is a patent infringement action brought by the Company. There can be no assurance that the Company will be successful in protecting its proprietary technology from third party infringement or that the Company’s products will not be found to infringe upon the proprietary technology of others. Furthermore, patents do not ensure that competitors will not develop competing products.

      The Company now markets its products internationally, and the protection offered by the patent laws of foreign countries may be less than the protection offered by the United States patent laws. The Company also relies on trade secrets and industry knowledge to maintain its competitive position. While the Company enters into confidentiality agreements with employees and consultants who have access to proprietary information, there can be no assurance that these measures will prevent the unauthorized disclosure or use of such trade secrets and industry knowledge.

Dependence Upon Key Personnel

      The Company believes that its future success is dependent upon factors such as the knowledge, ability and experience of its personnel, new product development, product enhancements and ongoing customer service. The loss of key personnel responsible for managing the Company or for advancing its product development could adversely affect the Company’s business and financial condition.

Absence of a Public Market for the Company’s Securities

      There is no public market for the Company’s common stock, and it is not expected that one will develop. In addition, there are substantial restrictions on the ability of a holder of the Company’s common stock to transfer shares of such stock. Accordingly, it is difficult for a stockholder of the Company to divest itself of its investment in the Company. Furthermore, the Company historically has not paid dividends to its stockholders.

Inflation

      Most of the Company’s closures are priced based in part on the cost of the plastic resins from which they are produced. Historically, the Company generally has been able to pass on increases in resin prices directly to its customers. However, during the fourth quarter of fiscal year 1999, the Company experienced a rapid increase in resin costs that it was unable to immediately pass on to all customers. This trend also affected the first and second quarters of fiscal year 2000.

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Item 2. PROPERTIES

      The Company’s facilities are highly efficient due to automation and frequently scheduled maintenance throughout the plants. The Company believes that these facilities are well-maintained and in good operating condition. However, substantial capital expenditures will be required to meet the production requirements for new and developing product lines. There can be no assurance, however, that unanticipated developments will not occur that would require the Company to add production facilities sooner than expected. The following table indicates the locations, functions, square footage and nature of ownership of the Company’s current facilities.

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Item 3. LEGAL PROCEEDINGS

      The Company is currently engaged in three patent infringement actions with two separate parties. In two of these actions, the other parties are seeking to have the court declare certain patents owned by the Company invalid, and these parties have also included allegations of anti-trust violations in their complaints. The third action is a patent infringement action brought by the Company, and no opposition pleadings have yet been filed. The Company believes that its patents are valid and is contesting allegations of invalidity vigorously. The Company is also subject to other legal proceedings and claims arising out of the normal course of business. Based on the facts currently available, management believes that the ultimate liability beyond amounts provided, if any, for any pending actions will not have a material adverse effect on the financial position, results of operations or cash flows of the Company. However, the ultimate outcome of any litigation is uncertain, and either unfavorable or favorable outcomes could have a material impact on the results of operations or liquidity of the Company in a particular period.

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

      None.

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PART II

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

      The Company’s equity securities are privately held and no class of voting securities is registered pursuant to Section 12 of the Securities Exchange Act of 1934. There is no established trading market for any class of the Company’s common equity.

      The Company has two classes of common equity, Class A Common Stock and Class B Common Stock, Series 1 and 2. Shares of Class A Common Stock are not entitled to vote. The Company’s Class B Common Stock, Series 1 and Class B Common Stock, Series 2 have the same voting rights, each share being entitled to one vote.

      As of October 31, 2000, there were two holders of record of the 2,134,992 outstanding shares of Class A Common Stock. Additionally, there were two holders of record of immediately exercisable warrants to purchase 2,492,741 shares of Class A Common Stock. As of October 31, 2000, there were approximately 178 holders of record of the 8,905,445 outstanding shares of Class B Common Stock, Series 1 and 14 holders of record of the 1,171,430 outstanding shares of Class B Common, Series 2. See Note 9 of the Notes to Consolidated Financial Statements for additional information on stock and warrants.

      The Company has not paid dividends on its Common Stock and presently intends to continue this policy in order to retain earnings for the development of the Company’s business. Furthermore, certain of the Company’s credit agreements, including the senior notes issued on October 2, 1995 and the new amended and restated senior revolving credit facility entered into on September 29, 2000, restrict the Company’s ability to pay dividends.

Item 6. SELECTED FINANCIAL DATA

Selected Historical Condensed Consolidated Financial Data

      The selected historical condensed consolidated statement of operations and balance sheet data set forth in the table below for, and at the end of, each of the fiscal years in the five year period ended August 31, 2000 have been derived from, and are qualified by reference to, the consolidated financial statements of the Company. The information below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” the consolidated financial statements of the Company and the accompanying notes thereto and other financial information appearing elsewhere in this report on Form 10-K.

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(a)		Includes amortization of patents and technology, licenses, goodwill, covenants not to compete and customer lists.
(b)		The Company adopted Statement of Financial Accounting Standards (SFAS) No. 121 “Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed of” in the fiscal year ended August 31, 1996.
(c)		On June 22, 2000, the Company effected a reduction in work force which affected twenty-two employees. In connection with the reduction in work force, the Company recorded restructuring charges in the fourth quarter of fiscal year 2000, totaling approximately $493,000, which were primarily for employee severance costs.
		In fiscal year 1998, the Company took measures to improve profitability and announced staffing reductions and the closure of its Fort Worth, Texas facility effective October 1998. The Company recorded a restructuring charge of $3.1 million in fiscal year 1998, which consisted primarily of impairment loss on intangible assets of $1.3 million, loss on property, plant and equipment and employee severance costs.
		During fiscal year 1997, the Company reduced staff positions and closed the Portland, Oregon plant in February 1997 and its Bettendorf, Iowa plant in July 1997. The Company recorded a restructuring charge of $4.1 million in fiscal year 1997, which consisted primarily of employee severance, impairment loss on intangible assets and loss on property, plant and equipment.
(d)		Other expense (income) in 1998 includes gains from the sale of securities of $750,000 and fixed assets of $714,000, net of other expenses of $332,000.
(e)		Extraordinary item refers to the loss on extinguishment of certain debt, net of income tax benefit.
(f)		The redeemable warrants entitle the holders thereof to purchase an aggregate of 2,492,741 shares of the Company’s Class A common stock. A warrant to purchase 2,052,526 shares of common stock is exercisable, in whole or in part, through June 30, 2004. Effective June 30, 1999, this warrant became redeemable at the option of the holder upon 60 days prior written notice to the Company. The obligation of the Company to redeem the warrant is calculated based on the higher of current market value or an amount computed under the warrant agreement and may be suspended if the redemption of the warrant would cause a default or event of default under the Company’s credit facilities. At August 31, 2000 and 1999, the Company’s credit facilities did not permit redemption of the warrant. Were the warrant holder able to exercise its put option to have the warrant redeemed, the cost to the Company is estimated to be approximately $11.6 million. If the Company does not complete an initial public offering of its common stock by August 1, 2001 (for the purpose of another warrant), the holder of the other outstanding warrant may require the Company to repurchase the warrant at the higher of current market value or an amount computed under the warrant agreement. This other warrant is presently exercisable at any time at $2.50 until its expiration on June 30, 2004.
(g)		EBITDA represents, for any relevant period, loss before income taxes, extraordinary item, cumulative effect of change in accounting principle, depreciation of property, plant, and equipment, net interest expense and amortization of intangible assets. Adjusted EBITDA represents, for any relevant period, loss before income taxes, extraordinary item, cumulative effect of change in accounting principle, write-off of intangible assets, restructuring costs, depreciation of property, plant and equipment, net interest expense, and amortization of intangible assets. In 2000, 1999 and 1998, the Company’s equity share of its unconsolidated investees’ EBITDA of approximately $469,000, $120,000 and $417,000, respectively, is included as a separate component of the Adjusted EBITDA calculation. EBITDA and Adjusted EBITDA are not intended to represent and should not be considered more meaningful than, or an alternative to, net loss, cash flow or other measures of performance in accordance with generally accepted accounting principles. EBITDA and Adjusted EBITDA data are included because the Company understands that such information is used by certain investors as one measure of an issuer’s historical ability to service debt and because certain restrictive covenants in the Indenture are based on a term very similar to the Company’s Adjusted EBITDA.

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(h)		Includes amortization of debt financing costs totaling approximately $428,000, $546,000, $484,000, $559,000, and $492,000 for fiscal years 2000, 1999, 1998, 1997 and 1996, respectively.
(i)		For the purpose of calculating the ratio of earnings to fixed charges, “earnings” represents loss before provision for income taxes and fixed charges. “Fixed charges” consists of interest expense, amortization of debt financing costs and the portion of lease expense which management believes is representative of the interest component of lease expense. The ratio of earnings to fixed charges for the years ended August 31, 2000, 1999, 1998, 1997 and 1996 resulted in deficiencies of $5.9, $1.0 million, $5.0 million, $8.0 million, and $9.4 million, respectively.

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

Overview

      Portola Packaging, Inc. is a major designer, manufacturer and marketer of tamper evident plastic closures, plastic bottles and related equipment used for packaging applications in dairy, fruit juice, bottled water, sports drinks, institutional foods and other non-carbonated beverage products. The Company was acquired in 1986 through a leveraged acquisition led by Jack L. Watts, the Company’s current Chairman of the Board and Chief Executive Officer.

      The Company currently has six wholly-owned operating subsidiaries: one of which is domestic, two of which are located in Canada, and the remaining three are located in the United Kingdom, Mexico and China. The two Canadian subsidiaries are Portola Packaging Canada Ltd. (located in western Canada) and Portola Packaging Ltd. (located in eastern Canada); the United Kingdom subsidiary is Portola Packaging Ltd. (U.K.); the Mexico subsidiary is Portola Packaging Inc. Mexico, S.A. de C.V. (“PPI Mexico”); and the China subsidiary is Shanghai Portola Packaging Company Limited. (“PPI China”). The Company’s sole domestic subsidiary is Portola Allied Tool, Inc., located in Michigan. In April 1997, the Company’s United Kingdom subsidiary and eastern Canadian subsidiary were converted to “restricted subsidiary” status (See Note 2 of the Notes to the Consolidated Financial Statements). In May 1999, the Company’s western Canadian subsidiary was converted to “restricted subsidiary” status. In March 1999, the Company formed a new subsidiary named Portola Allied Tool, Inc. to acquire the assets of Allied Tool, Inc., a corporation headquartered in Michigan, and elected “restricted subsidiary” status for Portola Allied Tool. In July 1999, the Company acquired the remaining interest in the Mexican joint venture in which it had held a 50% interest and elected “restricted subsidiary” status at that time. Restricted subsidiary status allows greater flexibility in funding the operations of these subsidiaries under the terms of the indenture governing the senior notes issued by the Company in October 1995 and under the terms of the Company’s senior credit facility. Although the Company elected “restricted subsidiary” status for PPI Mexico when it acquired the remaining 50% interest in July 1999, in September 2000, the Company agreed in its new amended and restated credit facility to treat PPI Mexico as an “unrestricted subsidiary” for purposes of the credit facility; PPI Mexico continues to be treated as a “restricted subsidiary” under the indenture. Unrestricted subsidiary status imposes limitations on the ability of the Company and its restricted subsidiaries to finance the operations of unrestricted subsidiaries. PPI China also is an “unrestricted subsidiary” as are other entities that are not wholly-owned by Portola.

Results of Operations

      Fiscal Year Ended August 31, 2000 Compared to Fiscal Year Ended August 31, 1999

      Sales increased $12.3 million, or 6.5%, from $190.7 million for fiscal 1999 to $203.0 million for fiscal 2000. Of the increase, $4.6 million and $1.5 million was attributable to the addition of sales from the full year consolidation of the Company’s PPI Mexico and PPI China subsidiaries, respectively. In addition, $4.1 million was attributable to increased closure sales in the United Kingdom, $1.6 million was attributable to an increase in sales from the Canadian operations (increased bottle sales of $2.5 million, net of decreased closure sales of $0.9 million), and $2.2 million was attributable to sales from Portola Allied. Also contributing to the sales increases was sales from joint ventures in the United States, totaling $3.0 million. The increases in sales in the United Kingdom and Canada resulted mainly from increased unit shipments and a shift of sales to more profitable product lines. The sales increases were partially offset by a $1.5 million decrease in domestic equipment division and $3.2 million decrease in domestic closure sales due in part to consolidation in the dairy industry and also due to transfer of capacity to international operations. The Company’s international operations continue to comprise a larger percentage of the Company’s sales volume as they increase market share.

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      Gross profit decreased $0.3 million to $46.6 million for fiscal 2000, as compared to $46.9 million for fiscal 1999 and decreased slightly as a percentage of sales from 24.5% in 1999 to 23.0% in 2000. The margin decrease was primarily due to decreased margins in the domestic closures and equipment divisions, totaling $4.1 million. PPI China and Portola Allied also experienced decreased margins of $0.2 and $0.1 million, respectively. Offsetting these decreases were improved margins in Canada, the United Kingdom and Mexico of $1.3, $0.7 and $0.3 million, respectively. In addition the domestic joint ventures contributed $1.8 million gross profit. The decreases in domestic closures were in part due to an increase in resin costs associated with a worldwide increase in oil prices that, due to timing and competitive issues, the Company was unable to immediately pass on to all customers during the first and second quarters of fiscal 2000. Additionally, the decreased margins for PPI China and Portola Allied are due to the full year consolidation of these subsidiaries in fiscal 2000. The increased margins of Canada, the United Kingdom and Mexico continue to improve as these operations mature and operate more efficiently. Also, the United States joint ventures added to gross profit as these operations were new during fiscal year 1999 and 2000.

      Overall, fiscal year 2000 direct materials, labor and overhead costs represented 43.5%, 15.3% and 21.0% of sales, respectively, compared to fiscal year 1999 percentages of 40%, 16%, and 23%.

      Selling, general and administrative expense increased from $28.0 million in fiscal year 1999 to $30.4 million in fiscal 2000 and increased as a percentage of sales from 14.7% for fiscal 1999 to 15.0% for fiscal 2000. These increases are primarily due to additional expenses related the new domestic subsidiaries, international subsidiaries and joint ventures.

      Research and development expenses increased from $2.7 million and 1.4% of sales in fiscal year 1999 to $2.9 million and 1.4% of sales in fiscal year 2000. The increase in research and development expenses was primarily due to prototype expenses related to the introduction of new products.

      Amortization of intangibles (consisting of amortization of patents and technology licenses, goodwill, customer lists and covenants not to compete) totaled $3.5 million for fiscal year 2000 as compared to $2.6 million for fiscal 1999. The increase is primarily a result of goodwill amortization related to PPI Mexico, PPI China and Portola Allied.

      Due to the effect of the factors summarized above, income from operations decreased $4.2 million, or 30.9%, to $9.4 million for fiscal 2000, as compared to $13.6 million for fiscal 1999, and decreased as a percentage of sales from 7.1% in fiscal 1999 to 4.6% in fiscal 2000.

      Interest income decreased to $75,000 in fiscal year 2000 from $181,000 in fiscal year 1999 primarily due to lower levels of excess cash available for investment.

      Fiscal year 2000 interest expense remained relatively flat for fiscal 2000 at $14.5 million as compared to $14.4 million for fiscal 1999.

      Amortization of debt financing costs decreased $118,000 to $428,000 in fiscal 2000 as compared to $546,000 for the same period in fiscal 1999 due to the payoff of the Canadian term and revolver loan notes. Debt financing costs are primarily attributable to the $110 million senior notes issued in October 1995.

      Net loss increased to $3.7 million in fiscal 2000 compared to a $0.6 million loss in fiscal 1999.

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      Fiscal Year Ended August 31, 1999 Compared to Fiscal Year Ended August 31, 1998

      Sales increased $14.5 million, or 8.2%, from $176.2 million for fiscal 1998 to $190.7 million for fiscal 1999. Of the increase, $7.9 million was attributable to the addition of sales from the consolidation of the Company’s Mexico operations, $5.4 million was attributable to increased closure sales in the United Kingdom, $3.6 million was attributable to an increase in sales from the Canadian operations (increased bottle sales of $1.9 million and increased closure sales of $1.7 million), and $1.6 million was attributable to sales from the Company’s Portola Allied operations. Also contributing to the sales increases was a $400,000 sales increase from the equipment division and sales from two newly operational joint ventures in China and the United States in the amounts of $600,000 and $500,0000, respectively. The increases in sales in the United Kingdom and Canada resulted mainly from increased unit shipments and a shift of sales to more profitable product lines. The sales increases were partially offset by a $5.5 million decrease in domestic closure sales due in part to consolidation in the dairy industry causing downward pressure on domestic average selling prices. The Company’s international operations continue to comprise a larger percentage of the Company’s sales volume as they increase market share.

      Gross profit increased $6.1 million, or 14.8%, to $46.9 million for fiscal 1999, as compared to $40.8 million for fiscal 1998 and increased slightly as a percentage of sales from 23.2% in 1998 to 24.5% in 1999. The margin increase was due primarily to improving margins in the United Kingdom of $2.4 million, margin improvements in domestic closures and Canada of $1.0 million and $1.5 million, respectively, and the addition of $1.8 million in gross profit from Mexico. These increases were partially offset by a $900,000 margin decrease in the equipment division resulting mainly from increased raw material costs in fiscal year 1999, a decrease in fitment applicator sales and due to fiscal 1998 margins being inflated by a one time payment received for the settlement of a pricing contract dispute with a former customer. The margin increase in domestic closures and Canada is primarily the result of improved cost control efforts and the benefits of a restructuring completed in the fall of 1998. The amount of the increase in domestic gross margin was impacted by an increase in resin costs associated with a worldwide increase in oil prices in the fourth quarter that, due to timing and competitive issues, the Company was unable to immediately pass on to all customers. The United Kingdom margins improved in fiscal year 1999 as compared to prior years resulting from a more profitable product mix and a shift from using outside subcontractors and imported caps to manufacturing more closures in their own facility. Overall, fiscal year 1999 direct materials, labor and overhead costs represented 40%, 16% and 23% of sales, respectively, which were comparable with prior years.

      Selling, general and administrative expense increased from $23.6 million in fiscal year 1998 to $28.0 million in fiscal 1999 and increased as a percentage of sales from 13.4% for fiscal 1998 to 14.7% for fiscal 1999. These increases are primarily due to additional expenses related to the China, Mexico and Sand Hill Systems operations (Sand Hill Systems having been wholly-owned by the Company at the end of fiscal year 1999, although the Company currently has approximately 10% interest in Sand Hill Systems), and to increased expenses in the United Kingdom resulting primarily from increased personnel levels. Domestically, increased bonus costs and legal expenses also contributed to the increase.

      Research and development expenses decreased from $3.4 million and 1.9% of sales in fiscal year 1998 to $2.7 million and 1.4% of sales in fiscal year 1999. The decrease in research and development expenses was primarily due to reduced expenditures for external consulting expenses and prototype costs.

      Amortization of intangibles (consisting of amortization of patents and technology licenses, goodwill, customer lists and covenants not to compete) totaled $2.6 million for fiscal year 1999 as compared to $3.1 million for fiscal 1998. The decrease is primarily a result of certain covenants not to complete of the Canadian operations becoming fully amortized at the end of fiscal year 1998 offset somewhat by increased goodwill amortization related to the purchase of the assets of Allied Tool, Inc. and the remaining interest in PPI Mexico.

      Due to the effect of the factors summarized above, income from operations increased $5.9 million, or 77.8%, to $13.6 million for fiscal 1999, as compared to $7.7 million for fiscal 1998, and increased as a percentage of sales from 4.4% in fiscal 1998 to 7.2% in fiscal 1999.

      Interest income decreased to $181,000 in fiscal year 1999 from $498,000 in fiscal year 1998 due to generally lower levels of excess cash available for investment.

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      Interest expense increased $648,000 to $14.4 million in fiscal 1999 as compared to $13.8 million for fiscal 1998. The increase was due to increased borrowings under the Company’s line of credit to finance acquisitions and to payoff certain debt balances related to the Company’s western Canadian subsidiary and the addition of interest from PPI Mexico operations.

      Amortization of debt financing costs increased $62,000 to $546,000 in fiscal 1999 as compared to $484,000 for the same period in fiscal 1998 due to payoff of the Canadian term and revolver loan notes. Debt financing costs are primarily attributable to the $110 million senior notes issued in October 1995.

      Net loss decreased to $0.6 million in fiscal 1999 compared to a $4.4 million loss in fiscal 1998.

Liquidity and Capital Resources

      Fiscal Year Ended August 31, 2000 Compared to Fiscal Year Ended August 31, 1999

      The Company has relied primarily upon cash from operations and borrowings from financial institutions and, to a lesser extent, sales of its common stock to finance its operations, repay long-term indebtedness and fund capital expenditures and acquisitions. On October 2, 1995, the Company completed a $110 million senior notes offering that mature on October 1, 2005 and bear interest at the rate of 10.75% per annum. The net proceeds of the notes offering were approximately $106 million, of which $83 million was used to retire the Company’s debt then outstanding under its senior term loans, revolving credit facility and senior subordinated notes. As of August 31, 2000, the Company had cash and cash equivalents of $3.9 million, an increase from $2.4 million as of August 31, 1999.

      Cash provided by operations totaled $17.6 million and $11.6 million in fiscal years 2000 and 1999, respectively. Net cash provided by operations for both fiscal years was the result of a net loss offset primarily by non-cash charges for depreciation and amortization. Working capital increased $1.2 million as of August 31, 2000, to $18.2 million, as compared to $17.0 million as of August 31, 1999, primarily as a result of a decrease in current portion of long-term debt, accrued liabilities and accrued compensation partially offset by an increase in accounts payable.

      Cash used in investing activities was $11.7 million in fiscal year 2000 as compared to $21.4 million in fiscal year 1999. This consisted primarily of additions to property, plant and equipment of $10.9 million and $16.6 million in fiscal years 2000 and 1999, respectively. Fiscal year 2000 also included the acquisition of the remaining interest in PPI China for $1.4 million. Fiscal year 1999 included the acquisition of the remaining interest in PPI Mexico and the acquisition of the assets of Allied Tool, Inc., for approximately $3.0 million and $2.2 million, respectively. Cash used in investing activities was reduced by $469,000 in 2000 and $945,000 in 1999 by proceeds from the sale of property, plant and equipment, primarily related to the disposition of the Company’s Fort Worth, Texas facilities in fiscal 2000 and its Bettendorf, Iowa facilities in fiscal 1999.

      At August 31, 2000, the Company had total indebtedness of $134.8 million, $110.0 million of which was attributable to the Company’s senior notes. Of the remaining indebtedness, $24.5 million was attributable to the Company’s senior credit facility and the remainder was principally comprised of capital leases. In October 1995, the Company entered into a five-year senior secured revolving credit facility of up to $35.0 million, subject to a borrowing base of eligible receivables, inventory, plus property plant and equipment, net. This credit facility contains covenants and provisions that restrict, among other things, the Company’s ability to: (i) incur additional indebtedness, (ii) incur liens on its property, (iii) make investments, (iv) enter into guarantees and other contingent obligations, (v) merge or consolidate with or acquire another person or engage in other fundamental changes, or in certain sales of assets, (vi) engage in certain transactions with affiliates, (vii) make restricted junior payments, and (viii) declare or pay dividends. On September 29, 2000, the Company entered into a new four year amended and restated senior secured revolving credit facility of $50 million for operating purposes subject to a borrowing base and covenants similar to those in the senior credit facility existing at August 31, 2000. See Note 17 of the Notes to Consolidated Financial Statements for additional information.

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      At August 31, 2000, the Company had $3.9 million in cash and cash equivalents as well as unused borrowing capacity of approximately $10.5 million under the revolving credit facility. Management believes that these resources and increased resources from the new credit facility, together with anticipated cash flows from operations, will be adequate to fund the Company’s operations, debt service requirements and capital expenditures through fiscal year 2001. However, there can be no assurance that additional capital beyond the amounts currently forecasted by the Company will not be required or that any such required additional capital will be available on reasonable terms, if at all, at such time or times as required by the Company.

      Fiscal Year Ended August 31, 1999 Compared to Fiscal Year Ended August 31, 1998

      Cash provided by operations totaled $11.6 million and $9.1 million in fiscal years 1999 and 1998, respectively. Net cash provided by operations for both fiscal years was the result of a net loss offset primarily by non-cash charges for depreciation and amortization. Working capital increased $2.3 million as of August 31, 1999, to $17.0 million, as compared to $14.7 million as of August 31, 1998, primarily as a result of a decrease in the current portion of long-term debt, accrued liabilities and accrued compensation partially offset by an increase in accounts payable.

      Cash used in investing activities was $21.4 million in fiscal year 1999 as compared to $16.4 million in fiscal year 1998. This consisted primarily of additions to property, plant and equipment of $16.6 million and $21.4 million in fiscal years 1999 and 1998, respectively. Fiscal year 1999 also included the acquisition of the remaining interest in PPI Mexico and the acquisition of the assets of Portola Allied, for approximately $3.0 million and $2.2 million, respectively. Cash used in investing activities was reduced by $945,000 in 1999 and $2.4 million in 1998 by proceeds from the sale of property, plant and equipment, primarily related to the disposition of the Company’s Bettendorf, Iowa facilities in 1999 and its Portland, Oregon facilities in 1998. Cash used in investing activities in fiscal year 1998 was also reduced by $1.7 million in proceeds from the sale of marketable securities related to the Company’s investment in Suncoast, Inc.

      At August 31, 1999, the Company had total indebtedness of $137.1 million, $110 million of which was attributable to the Company’s senior notes. Of the remaining indebtedness, $26 million was attributable to the Company’s senior credit facility and the remainder was principally comprised of foreign subsidiary loans. In October 1995, the Company entered into a five-year senior secured revolving credit facility of up to $35.0 million, subject to a borrowing base of eligible receivables, inventory, plus property plant and equipment, net. This credit facility contains covenants and provisions that restrict, among other things, the Company’s ability to: (i) incur additional indebtedness, (ii) incur liens on its property, (iii) make investments, (iv) enter into guarantees and other contingent obligations, (v) merge or consolidate with or acquire another person or engage in other fundamental changes, or in certain sales of assets, (vi) engage in certain transactions with affiliates, (vii) make restricted junior payments, and (viii) declare or pay dividends.

      At August 31, 1999, the Company had $2.4 million in cash and cash equivalents as well as unused borrowing capacity of approximately $9.1 million under the revolving credit facility.

Inflation

      Most of the Company’s closures are priced based in part on the cost of the plastic resins from which they are produced. Historically, the Company has been able to pass on increases in resin prices directly to its customers. However, during the fourth quarter of fiscal year 1999, the Company experienced a rapid increase in resin costs that it was unable to immediately pass on to all customers. This trend also affected the first and second quarters of fiscal year 2000.

Seasonality

      The Company’s sales and earnings reflect a seasonal pattern as a result of greater sales volumes during the summer months. In fiscal 2000, 47% of sales occurred in the first half of the year (September through February) while 53% of sales were generated in the second half (March through August). In fiscal 1999, 46% of sales occurred in the first half of the year while 54% of sales were generated in the second half.

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Income Taxes

      The relationship of income tax expense to income before income taxes is affected by nondeductible goodwill arising from the Company’s acquisitions (see Note 12 of the Notes to Consolidated Financial Statements).

Recent Accounting Pronouncements

      In December 1999, the Securities and Exchange Commission (the “SEC”) issued Staff Accounting Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements.” SAB No. 101 provides guidance on the recognition, presentation and disclosure of revenue in financial statements filed with the SEC. SAB 101 outlines the basic criteria that must be met to recognize revenue and provides guidance for disclosure related to revenue recognition policies. Management believes that the impact of SAB No. 101, which will be effective in fiscal 2001, will not have a material effect on the Company’s financial position or results of operations.

      In fiscal year 1999, the Company adopted SFAS No. 130, “Reporting Comprehensive Income” and SFAS No. 131 “Disclosure About Segments of an Enterprise and Related Information”. SFAS No. 130 established standards for reporting and displaying comprehensive income and its components in a full set of general purpose financial statements (Note 3). SFAS No. 131 supercedes SFAS No. 14, “Financial Reporting for Segments of a Business Enterprise”, replacing the “industry segment” approach with the “management approach”. The management approach designates the internal organization that is used by management for making operating decisions and assessing performance as the source of the Company’s reportable segments. SFAS 131 also requires disclosures about products and services, geographic areas, and major customers. The adoption of both SFAS No. 130 and SFAS No. 131 did not affect results of operations or financial position, however, SFAS No. 131 did affect the disclosure of segment information (Note 13).

      In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities”. SFAS No. 133 established accounting and reporting standards for derivative instruments and hedging activities and requires the recognition of all derivatives in the balance sheet at their fair market values. The implementation date of this standard was recently delayed by the issuance of SFAS No. 137, “Accounting for Derivative Instruments and Hedging Activities — Deferral of the Effective Date of FASB Statement No. 133”, and it is not effective for the Company until fiscal year 2001. Management believes that the impact of adopting this statement on the Company’s current financial statements would not be material.

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Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

      Not applicable.

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Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

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REPORT OF INDEPENDENT ACCOUNTANTS

      To the Board of Directors and Shareholders
      Portola Packaging, Inc. and Subsidiaries:

      In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, shareholders’ equity (deficit) and cash flows present fairly, in all material respects, the financial position of Portola Packaging, Inc. and its Subsidiaries (the Company) at August 31, 2000 and 1999, and the results of their operations and their cash flows for each of the three years in the period ended August 31, 2000, in conformity with accounting principles generally accepted in the United States of America. 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 of these statements in accordance with auditing standards generally accepted in the United States of America which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above.

PricewaterhouseCoopers LLP
Pittsburgh, Pennsylvania

October 27, 2000

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PORTOLA PACKAGING, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)

      The accompanying notes are an integral part of these consolidated financial statements.

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PORTOLA PACKAGING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)

      The accompanying notes are an integral part of these consolidated financial statements.

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PORTOLA PACKAGING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

      The accompanying notes are an integral part of these consolidated financial statements.

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PORTOLA PACKAGING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (DEFICIT)
(in thousands, except per share data)

      The accompanying notes are an integral part of these consolidated financial statements.

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