CARAUSTAR INDUSTRIES INC - 10-K Annual Report

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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ____________ TO____________

COMMISSION FILE NUMBER 0-20646

CARAUSTAR INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)

NORTH CAROLINA 581388387
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)

3100 JOE JERKINS BLVD. 30106
AUSTELL, GEORGIA (Zip Code)
(Address of principal executive
offices)

(770) 948-3101
(Registrant's telephone number, including area code)

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $.10 PAR VALUE
(Title of Class)

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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 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 registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]

The aggregate market value of voting stock held by non-affiliates of the
registrant as of March 15, 2002, computed by reference to the closing sale price
on such date, was $280,553,772. For purposes of calculating this amount only,
all directors and executive officers are treated as affiliates. This
determination of affiliate status shall not be deemed conclusive for other
purposes. As of the same date, 27,855,488 shares of Common Stock, $.10 par
value, were outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

The Registrant's definitive Proxy Statement pertaining to the 2002 Annual
Meeting of Shareholders ("the Proxy Statement") and filed pursuant to Regulation
14A is incorporated herein by reference into Part III.
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INTRODUCTION

Caraustar Industries, Inc. operates its business through 19 subsidiaries
across the United States and in Mexico and the United Kingdom. As used herein,
"we," "our," "us," (or similar terms), the "Company" or "Caraustar" includes
Caraustar Industries, Inc. and its subsidiaries, except that when used with
reference to common shares or other securities described herein and in
describing the positions held by management of the Company, the term includes
only Caraustar Industries, Inc.

FORWARD-LOOKING INFORMATION

This Annual Report on Form 10-K, including "Management's Discussion and
Analysis of Financial Condition and Results of Operations," may contain various
"forward-looking statements," within the meaning of Section 21E of the
Securities Exchange Act of 1934, that are based on our beliefs and assumptions,
as well as information currently available to us. When used in this document,
the words "believe," "anticipate," "estimate," "expect," "intend," "should,"
"would," "could," or "may" and similar expressions may identify forward-looking
statements. These statements involve risks and uncertainties that could cause
our actual results to differ materially depending on a variety of important
factors, including, but not limited to, those identified under the caption "Risk
Factors" in Part I, Item 1 of this Report and other factors discussed elsewhere
in this Report and the Company's other filings with the Securities and Exchange
Commission. These documents are available from us, and also may be examined at
public reference facilities maintained by the Securities and Exchange Commission
or, to the extent filed via EDGAR, accessed through the Web Site of the
Securities and Exchange Commission (http://www.sec.gov). We do not undertake any
obligation to update any forward-looking statements we make.

PART I

ITEM 1. DESCRIPTION OF BUSINESS

Overview

We are a major manufacturer of 100% recycled paperboard and converted
paperboard products. We manufacture products primarily from recovered fiber,
which is derived from recycled paper. We operate in three business segments:

- - Paperboard

- - Tube, core and composite container

- - Carton and custom packaging

We report certain financial information by segment in Note 11 to the
consolidated financial statements included in Part II, Item 8 of this Report.

Operations and Products

Paperboard. Our principal manufacturing activity is the production of
uncoated and clay-coated recycled paperboard. In this manufacturing process, we
reduce paperstock to pulp, clean and refine it and then process it into various
grades of paperboard for internal consumption by our converting facilities or
sale in the following four end-use markets:

- - Tube, core and composite containers

- - Folding cartons

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- - Gypsum wallboard facing paper

- - Other specialty products

We currently operate a total of 15 paperboard mills, including one owned in
a joint venture. These mills are located in the following states: Connecticut,
Georgia, Indiana, Iowa, New York, North Carolina, Ohio, Pennsylvania, South
Carolina, Tennessee and Virginia. We ceased operations at two paperboard mills
during 2000: the Baltimore, Maryland mill in February 2000 and the Camden, New
Jersey mill in September 2000. Our Chicago, Illinois paperboard mill ceased
operations in January 2001.

In 2001, approximately 38% of the recycled paperboard sold by our
paperboard mills was consumed internally by our converting facilities; the
remaining 62% was sold to external customers. Sales of unconverted paperboard to
external customers as a percentage of total sales by end-use market were as
follows (excludes sales from the 50%-owned Premier Boxboard mill):

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(1) Includes sales of unconverted paperboard and certain specialty converted
products.

Three of our paperboard mills operate specialty converting facilities that
supply other specialty converted and laminated products to the bookbinding,
game, puzzleboard, printing and furniture industries. We also operate two
specialty converting facilities that supply die cut and foam laminated products
and manufacture jigsaw puzzles, coin folders and other specialty products.

Each of our paperboard mills and most of our converting plants have onsite
recovered fiber facilities that collect and bale recycled paperstock. In
addition, we operate 8 stand-alone paperstock recycling and brokerage facilities
that collect, sale and broker recovered fiber to external customers and to our
own mills. Sales of paperstock to external customers accounted for 4.0%, 5.6%
and 5.2% of our total sales in 2001, 2000 and 1999, respectively.

Tube, Core and Composite Container. Our largest converting operation is
the production of tubes and cores. The principal applications of these products
are cloth cores, paper mill cores, yarn carriers, carpet cores and film, foil
and metal cores. Our 30 tube and core converting plants obtain approximately 88%
of their paperboard needs from our paperboard mills and the remaining 12% from
other manufacturers. Paper tubes are designed to provide specific physical
strength properties, resistance to moisture and abrasion, and resistance to
delamination at extremely high rotational speeds. Because of the relatively high
cost of shipping tubes and cores, tube and core converting facilities generally
serve customers within a relatively small geographic area. Accordingly, most of
our tube and core converting plants are located close to concentrations of
customers.

We are seeking to expand our presence in the markets for more sophisticated
tubes and cores, which require stronger paper grades, higher skill and new
converting technology. These markets include the yarn carrier and plastic film
markets, as well as the market for cores used in certain segments of the paper
industry. We believe these markets offer significant growth potential, as well
as potentially higher operating margins.

In addition to tube and core converting facilities, our tube, core and
composite container division operates four facilities that produce specialty
converted products used in industrial packaging protection applications (edge
protectors). Our tube, core and related sales to external customers accounted
for 22.1%, 21.3% and 21.8% of our total sales to external customers in 2001,
2000 and 1999, respectively.

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Our tube, core and composite container division also produces composite
containers used in the adhesive, sealant, food and food service markets, as well
as grease cans, tubes, cartridges and other components. The group has three
composite container plants located in Stevens Point, Wisconsin, Saint Paris,
Ohio and Orrville, Ohio and a transportation operation in Ohio. Composite
container sales accounted for 4.4%, 3.9% and 4.3% of our total sales to external
customers in 2001, 2000 and 1999, respectively.

We manufacture injection-molded and extruded plastic products, including
plastic cores for the textile industry, plastic cores for the film, paper and
other industries and other specialized products. These plastic products are, to
a large extent, complementary to our tube and core products. We have an 80%
equity interest in a plant in Union, South Carolina that produces such plastic
products. Some of this plant's customers also purchase our tubes and cores. This
plant currently has six plastic extrusion lines and 24 injection-molding
machines, using the latest available process control technology. We also produce
injection-molded plastic parts at our facility in Georgetown, Kentucky. These
parts are primarily used as components in the manufacture of our composite
containers. We produce plastic cartridges at a facility located in New Smyrna
Beach, Florida. Plastic product and related sales to external customers
accounted for 2.1%, 2.3% and 2.5% of our total sales to external customers in
2001, 2000 and 1999, respectively.

Carton and Custom Packaging. Our other converting operations produce
folding cartons and rigid set-up boxes at 16 plants. These plants obtain
approximately 48% of their paperboard needs from our paperboard mills and the
remaining 52% from other manufacturers. Our boxes and cartons are used
principally as containers for hosiery, hardware, candy, sports-related items,
cosmetics, dry food, film and various other industrial applications, including
textile and apparel applications.

We operate eight specialty packaging facilities: four in Ohio, two in New
Jersey and one each in Massachusetts and North Carolina. These facilities
perform contract manufacturing and custom contract packaging for a variety of
consumer product companies. Additionally, we operate a digital imaging facility
in Ohio and a prepress reproduction facility in Connecticut.

Carton and custom packaging sales accounted for 35.6% of our total sales to
external customers in 2001, 31.4% in 2000 and 28.2% in 1999.

Our consolidated sales for the twelve months ended December 31, 2001 were
$913.7 million. We estimate that our three business segments accounted for the
following percentages of sales for the twelve months ended December 31, 2001:

- - Paperboard -- 36%

- - Tube, core and composite container -- 28%

- - Carton and custom packaging -- 36%

Joint Ventures. We also operate two joint ventures with Temple-Inland,
Inc., in which we own 50% interests. One of the joint ventures, Premier Boxboard
Limited LLC, formed in 1999, produces a new, lightweight gypsum facing paper
along with other containerboard grades. We believe that Premier is the lowest
cost mill in the industry. The other joint venture, Standard Gypsum, L.P.,
formed in 1996, manufactures gypsum wallboard. We manage the day-to-day
operations of our Premier Boxboard joint venture, and Temple-Inland manages the
day-to-day operations at our Standard Gypsum joint venture.

We also have an equity interest as the nonoperating partner in two tube
plants. One of the tube plants is located in Tacoma, Washington and manufactures
spiral-wound tubes and edge protectors. The other tube plant is located in
Scarborough, Ontario, Canada and manufactures spiral- and convolute-wound tubes.

Raw Materials. Recovered fiber derived from recycled paperstock is the
only significant raw material we use in our mill operations. We purchase
approximately 69% of our paperstock requirements from independent sources, such
as major retail stores, distribution centers and manufacturing plants. We obtain
the balance from a combination of other sources. We collect some paperstock from
small collectors and waste collection businesses. Our paperstock recycling and
processing facilities sort and bale this paperstock and then either transfer it
to our mills for processing or sell it to third parties. We also obtain
paperstock from customers of our converting operations and from waste handlers
and collectors who deliver loose paperstock to our mill sites for

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direct use without baling. We obtain another portion of our requirements from
our small baler program, in which we lease, sell or furnish small baling
machines to businesses that bale their own paperstock for our periodic
collection.

We closely monitor our recovered fiber costs, which can fluctuate
significantly. We also intend to further increase our unbaled paperstock
purchases as a percentage of our total recovered fiber needs and to increase our
reliance on purchases from our small baler program.

Energy Costs. Excluding labor, energy is our most significant
manufacturing cost. We use energy, including electricity, natural gas, fuel oil
and coal, to generate steam used in the paper making process and to operate our
paperboard machines and our other converting machinery. We purchase energy from
local suppliers at market rates.

Product Distribution. Each of our manufacturing and converting facilities
has its own sales staff and maintains direct sales relationships with its
customers. We also employ divisional and corporate level sales personnel who
support and coordinate the sales activities of individual facilities. Divisional
and corporate sales personnel also provide sales management, marketing and
product development assistance in markets where customers are served by more
than one of our facilities. Approximately 200 of our employees are devoted
exclusively to sales and customer service activities, although many other
employees participate generally in sales efforts. We generally do not sell our
products through independent sales representatives. Our advertising is limited
to trade publications.

Customers. We manufacture most of our converted products pursuant to
customers' orders. We do, however, maintain minimal inventory levels of certain
products. Our business generally is not dependent on any single customer or upon
a small number of major customers. However, in 2000, Georgia-Pacific, formerly
our largest gypsum facing paper customer, refused to continue purchasing its
requirements of gypsum facing paper for certain plants pursuant to the terms of
a long-term supply contract. Our operating results and financial condition have
been materially and adversely affected by the loss of contract volume from
Georgia-Pacific. Other than the loss of Georgia-Pacific, we do not believe that
the loss of any one customer would have a material adverse effect on our
financial condition or results of operations.

Competition. Although we compete with numerous other manufacturers and
converters, our competitive position varies greatly by geographic area and
within the various product markets of the recycled paperboard industry. In most
of our markets, our competitors are capable of supplying products that would
meet customer needs. Some of our competitors have greater financial resources
than we do. We compete in our markets on the basis of price, quality and
service. We believe that it is important in all of our markets to work closely
with our customers to develop or adapt products to meet customers' specialized
needs. We also believe that we compete favorably on the basis of all of the
above factors.

Tube, core and composite containers. In the southeastern United States,
where we historically have marketed our tubes and cores, we believe that we and
Sonoco Products Company are the major competitors. On a national level, Sonoco
is our dominant competitor in the tube and core market. According to industry
data, Sonoco had more than 50% of the total tube and core market in the United
States in 2001. We also compete with several regional companies and numerous
small local companies in the tube and core market.

Carton and custom packaging. The folding carton and custom packaging
market in the United States is served by several large national and regional
companies and numerous small local companies. Nationally, none of the major
competitors is dominant, although certain competitors may be dominant in
particular geographic areas or market niches. In the markets served by our
carton plants, the dominant competitors are Rock-Tenn Company, Smurfit-Stone
Container Corporation and Graphic Packaging, Inc.

Gypsum wallboard facing paper. The gypsum wallboard industry is divided
into independent gypsum wallboard manufacturers, which either do not produce
their own gypsum wallboard facing paper or cannot fill all of their needs
internally, and integrated wallboard manufacturers, which supply all of their
own gypsum wallboard facing paper requirements internally. We believe that the
two largest integrated gypsum wallboard manufacturers, USG Corporation and
National Gypsum Company, do not have significant sales of gypsum wallboard
facing paper to the independent gypsum wallboard manufacturers. We believe that
we have the

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largest market share of the supply of gypsum wallboard facing paper to
independent wallboard manufacturers in North America.

We also compete in the gypsum wallboard industry through our joint venture
with Temple-Inland. Our joint venture, Standard Gypsum, competes with larger
integrated wallboard manufacturers such as USG Corporation and National Gypsum,
who have greater financial resources and superior marketing strength due to
their greater number of locations and national presence. Standard Gypsum
competes primarily on the basis of product quality, dependability, timeliness of
delivery and price.

Other specialty products. In our sales of specialty products and in sales
of recycled paperboard to other manufacturers for the production of tubes, cores
and composite containers, folding cartons and boxes and miscellaneous converted
products (other than gypsum wallboard facing paper), we compete with a number of
recycled paperboard manufacturers, including Rock-Tenn, Smurfit-Stone Container
Corporation and The Newark Group, Inc. We believe that none of our competitors
is dominant in any of these markets.

Competitive position. Recovered fiber costs were lower on average in 2001
compared to 2000. Our average same-mill cost for recovered fiber per ton of
recycled paperboard produced was approximately $65 during 2001, a 38% decrease
from $104 per ton in 2000. Although no specific information is available about
competitors' actual recovered fiber costs, we believe that our delivered
recovered fiber costs are among the lowest in the recycled paperboard industry.
Relative to other competitors, we believe that our lower recovered fiber costs
are attributable in part to lower shipping costs resulting from the location of
our paperboard mills and paperstock facilities near major metropolitan areas
that generate substantial supplies of paperstock. Many of the paperboard mills
operated by our principal competitors are located away from major metropolitan
areas, and we believe, based on our knowledge of freight rates, that these
competitors incur higher freight costs associated with their fiber recovery
efforts, adding to their total cost of delivered recovered fiber.

Our relatively low recovered fiber costs are also attributable to our
emphasis on certain recovery methods that enable us to avoid baling operations.
We believe that our competitors rely primarily on off-site, company-owned and
operated paperstock baling operations that collect and bale paperstock for
shipment and processing at the mill site. We also operate such facilities, and
our experience is that the baling operation results in $25-$30 per ton higher
recovered fiber costs. We equip most of our paperboard mills to accept unbaled
paperstock for processing directly into its pulpers. In 2001 and 2000, unbaled
paperstock represented approximately 6% and 8%, respectively, of our total
recovered fiber purchases. We also use other fiber recovery methods -- our small
baler program and our recovery of paperstock from customers -- that result in
lower recovered fiber costs.

Environmental Matters. Our operations are subject to various
international, federal, state and local environmental laws and regulations.
These laws and regulations are administered by international, federal, state and
local agencies. Among other things, these laws and regulations regulate the
discharge of materials into the water, air and land, and govern the use and
disposal of hazardous substances. We believe that our operations are in
substantial compliance with all applicable environmental laws and regulations,
except for violations that we believe would not have a material adverse effect
on our business or financial position.

Our recycled paperboard mills use substantial amounts of water in the
papermaking process. Our mills discharge process wastewater into local sewer
systems or directly into nearby waters pursuant to wastewater discharge permits.
We use only small amounts of hazardous substances, and we believe the
concentration of these substances in our wastewater discharge generally is below
permitted maximums. From time to time, the imposition of stricter limits on the
solids, sulfides, BOD (biological oxygen demand) or metals content of a mill's
wastewater requires us to alter the content of our wastewater. We can effect
reductions by additional screening of the wastewater, by otherwise changing the
flow of process wastewater from the mill or from pretreatment ponds into the
sewer system, and by adding chemicals to the wastewater. We also are subject to
regulatory requirements related to the disposal of solid wastes and air
emissions from our facilities. We are not currently aware of any required
expenditures relating to wastewater discharge, solid waste disposal or air
emissions that we expect to have a material adverse effect on our business or
financial condition, but we are unable to assure you that we will not incur
material expenditures in these areas in the future.

In addition, under certain environmental laws, we can be held strictly
liable if hazardous substances are found on real property we have owned,
operated or used as a disposal site. In recent years, we have adopted a

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policy of assessing real property for environmental risks prior to purchase. We
are aware of issues regarding hazardous substances at certain facilities, but in
each case we believe that any possible liabilities will not have a material
adverse effect on our business or financial position.

Employees. As of December 31, 2001, the 99 facilities we operate had
approximately 5,715 employees, of whom 4,450 are hourly and 1,265 are salaried.
Approximately 2,282 of our hourly employees are represented by labor unions. All
principal union contracts expire during the period 2002-2005. We consider our
relations with our employees to be excellent.

Executive Officers. The names and ages, positions and period of service of
each of our company's executive officers are set forth below. The term of office
for each executive officer expires upon the earlier of the appointment and
qualification of a successor or such officer's death, resignation, retirement,
removal or disqualification.

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RISK FACTORS

Investors should consider the following risk factors, in addition to the
other information presented in this Report and the other reports and
registration statements we file from time to time with the Securities and
Exchange Commission, in evaluating us, our business and an investment in our
securities. Any of the following risks, as well as other risks and
uncertainties, could harm our business and financial results and cause the value
of our securities to decline, which in turn could cause investors to lose all or
part of their investment in our company. The risks below are not the only ones
facing our company. Additional risks not currently known to us or that we
currently deem immaterial also may impair our business.

OUR BUSINESS AND FINANCIAL PERFORMANCE MAY BE HARMED BY FUTURE INCREASES IN RAW
MATERIAL COSTS.

Our primary raw material is recycled paper, which is known in our industry
as "recovered fiber." The cost of recovered fiber has, at times, fluctuated
greatly because of factors such as shortages or surpluses created by market or
industry conditions. Although we have historically raised the selling prices of
our products in response to raw material price increases, sometimes raw material
prices have increased so quickly or to such levels that we have been unable to
pass the price increases through to our customers on a timely basis, which has
adversely affected our operating margins. We cannot assure you that we will be
able to pass such price changes through to our customers on a timely basis and
maintain our margins in the face of raw material cost fluctuations in the
future.

OUR OPERATING MARGINS MAY BE ADVERSELY AFFECTED BY RISING ENERGY COSTS.

Excluding labor, energy is our most significant manufacturing cost. We use
energy to generate steam used in the paper making process and to operate our
paperboard machines and all of our other converting machinery. Our energy costs
increased steadily throughout 2000 and in the first quarter 2001 before showing
some improvement by the end of 2001. In 2000, the average energy cost in our
mill system was approximately $52 per ton. In 2001, energy costs increased by
9.6% to $57 per ton. This was due primarily to increases in natural gas and fuel
oil costs. Until recently, our business had not been significantly affected by
energy costs, and we historically have not passed energy costs through to our
customers. We have not been able to pass through to our customers all of the
energy cost increases we incurred in 2000 and 2001. We continue to evaluate our
energy costs and consider ways to factor energy costs into our pricing. However,
we cannot assure you that our operating margins and results of operations will
not continue to be adversely affected by rising energy costs.

OUR BUSINESS AND FINANCIAL PERFORMANCE MAY BE ADVERSELY AFFECTED BY DOWNTURNS IN
INDUSTRIAL PRODUCTION, HOUSING AND CONSTRUCTION AND THE CONSUMPTION OF
NONDURABLE AND DURABLE GOODS.

Demand for our products in our four principal end use markets is primarily
driven by the following factors:

- Tube, core and composite container -- industrial production, construction
spending and consumer nondurable consumption

- Folding cartons -- consumer nondurable consumption and industrial
production

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- Gypsum wallboard facing paper -- single and multifamily construction,
repair and remodeling construction and commercial construction

- Other specialty products -- consumer nondurable consumption and consumer
durable consumption.

Downturns in any of these sectors will result in decreased demand for our
products. In particular, our business has been adversely affected in recent
periods by the general slow down in industrial demand and softness in the
housing markets. These conditions are beyond our ability to control, but have
had, and will continue to have, a significant impact on our sales and results of
operations.

In addition, the September 11, 2001 terrorist attacks and the uncertainties
surrounding those events have contributed to the general slowdown in U.S.
economic activity. If those events, other terrorist activities, the U.S.
military response and the resulting uncertainties continue to adversely affect
the United States economy in general, the sectors above may be negatively
impacted, which would cause our business to be adversely affected.

WE ARE ADVERSELY AFFECTED BY THE CYCLES, CONDITIONS AND PROBLEMS INHERENT IN OUR
INDUSTRY.

Our operating results tend to reflect the general cyclical nature of the
business in which we operate. In addition, our industry has suffered from excess
capacity. Our industry also is capital intensive, which leads to high fixed
costs and generally results in continued production as long as prices are
sufficient to cover marginal costs. These conditions have contributed to
substantial price competition and volatility within our industry. In the event
of a recession, demand and prices are likely to drop substantially. Our
profitability historically has been more sensitive to price changes than to
changes in volume. Future decreases in prices for our products would adversely
affect our operating results. These factors, coupled with our substantially
leveraged financial position, may adversely affect our ability to respond to
competition and to other market conditions or to otherwise take advantage of
business opportunities.

THE LINGERING EFFECTS OF OUR TENTATIVELY SETTLED DISPUTE WITH GEORGIA-PACIFIC
MAY CONTINUE TO MATERIALLY AND ADVERSELY AFFECT OUR OPERATING RESULTS AND
FINANCIAL CONDITION.

As reported in our previous SEC reports on Form 10-K and 10-Q, we have been
in litigation with Georgia-Pacific Corporation over Georgia-Pacific's refusal to
continue purchasing its requirements of gypsum facing paper for certain plants
pursuant to the terms of a long-term supply contract. As a result of the
dispute, by the end of the third quarter of 2000, Georgia-Pacific's purchases
fell by more than 80% from an average of 7,000 tons per month during the first
half of 2000, and fell to approximately 300 tons per month in the fourth quarter
of 2000. As a result of this loss in volume, we have closed our Camden, New
Jersey paperboard mill. In May 2001, we announced that we reached a tentative
settlement pursuant to which we entered into a new supply agreement with G-P
Gypsum, a subsidiary of Georgia-Pacific, subject to completion of a transition
period. Ongoing discussions with G-P Gypsum led the parties to extend the
outside expiration date of the transition period initially to December 31, 2001,
and the parties have since agreed to further extend the outside expiration date
of the transition period to April 1, 2002. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Georgia-Pacific
Litigation." We can give no assurance that the conditions to the new agreement
will be satisfied (or that G-P Gypsum will determine or agree that the
conditions have been satisfied), or that the new agreement will be implemented
in accordance with its terms and the pending litigation will be dismissed.
Accordingly, we believe that our operating results and financial condition will
continue to be materially and adversely affected by the loss of contract volume
from Georgia-Pacific unless and until a new supply agreement is implemented with
significant volume requirements, and until the new supply agreement has been
effective long enough to generate a substantial volume of required purchases
from Georgia-Pacific.

OUR BUSINESS MAY SUFFER FROM RISKS ASSOCIATED WITH GROWTH AND ACQUISITIONS.

Historically, we have grown our business, revenues and production capacity
to a significant degree through acquisitions. In the current difficult operating
climate facing our industry and our financial position, the pace of our
acquisition activity, and accordingly, our revenue growth, has slowed
significantly as we have

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focused on conserving cash and maximizing the productivity of our existing
facilities. However, we expect to continue evaluating and pursuing acquisition
opportunities on a selective basis, subject to available funding and credit
flexibility. Growth through acquisitions involves risks, many of which may
continue to affect us based on acquisitions we have completed in the past. For
example, we have suffered significant unexpected losses at our Sprague mill in
Versailles, Connecticut, which we acquired from International Paper Company in
1999, resulting from unfavorable fixed price contracts, low capacity
utilization, high energy costs and higher fiber costs that we were unable to
pass through to our customers. Sprague incurred operating losses of $17.2
million and $7.2 million in 2000 and 2001, respectively, including the reversal
of reserves related to unfavorable supply contracts. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations." We
cannot assure you that our acquired businesses will achieve the same levels of
revenue, profit or productivity as our existing locations or otherwise perform
as we expect.

Acquisitions also involve specific risks. Some of these risks include:

- assumption of unanticipated liabilities and contingencies;

- diversion of management's attention; and

- possible reduction of our reported earnings because of:

- increased goodwill write-offs;

- increased interest costs;

- issuances of additional securities or debt; and

- difficulties in integrating acquired businesses.

As we grow, we can give no assurance that we will be able to:

- use the increased production capacity of any new or improved facilities;

- identify suitable acquisition candidates;

- complete additional acquisitions; or

- integrate acquired businesses into our operations.

IF WE CANNOT RAISE THE NECESSARY CAPITAL FOR, OR USE OUR STOCK TO FINANCE,
ACQUISITIONS, EXPANSION PLANS OR OTHER SIGNIFICANT CORPORATE OPPORTUNITIES, OUR
GROWTH MAY BE IMPAIRED.

Without additional capital, we may have to curtail any acquisition and
expansion plans or forego other significant corporate opportunities that may be
vital to our long-term success. Although we expect to use borrowed funds to
pursue these opportunities, we must continue to comply with financial and other
covenants in order to do so. If our revenues and cash flow do not meet
expectations, then we may lose our ability to borrow money or to do so on terms
that we consider favorable. Conditions in the capital markets also will affect
our ability to borrow, as well as the terms of those borrowings. Existing
weaknesses in the U.S. capital markets have been, and may continue to be,
aggravated by the September 11, 2001 terrorist attacks and their aftermath. In
addition, our financial performance and the conditions of the capital markets
will also affect the value of our common stock, which could make it a less
attractive form of consideration in making acquisitions. All of these factors
could also make it difficult or impossible for us to expand in the future.

OUR SUBSTANTIAL INDEBTEDNESS COULD ADVERSELY AFFECT OUR CASH FLOW AND OUR
ABILITY TO FULFILL OUR OBLIGATIONS UNDER OUR INDEBTEDNESS.

We have a substantial amount of outstanding indebtedness. See "Selected
Financial Data," "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and "Financial Statements and Supplemental Data"
included in Part II of this Report. In addition, as described in "Management's
Discussion and Analysis of Financial Condition and Results of Operations," we
have guaranteed indebtedness of our joint ventures for which we could also be
liable. Our substantial level of indebtedness increases the

9

possibility that we may be unable to generate cash sufficient to pay when due
the principal of, interest on or other amounts due in respect of our
indebtedness. We may also obtain additional long-term debt, increasing the risks
discussed below. Our substantial leverage could have significant consequences to
holders of our debt and equity securities. For example, it could:

- make it more difficult for us to satisfy our obligations with respect to
our indebtedness;

- increase our vulnerability to general adverse economic and industry
conditions;

- limit our ability to obtain additional financing;

- require us to dedicate a substantial portion of our cash flow from
operations to payments on our indebtedness, reducing the amount of our
cash flow available for other purposes, including capital expenditures
and other general corporate purposes;

- require us to sell debt or equity securities or to sell some of our core
assets, possibly on unfavorable terms, to meet payment obligations;

- restrict us from making strategic acquisitions, introducing new
technologies or exploiting business opportunities;

- limit our flexibility in planning for, or reacting to, changes in our
business and our industry;

- place us at a possible competitive disadvantage compared to our
competitors that have less debt; and

- adversely affect the value of our common stock.

OUR INTEREST EXPENSE COULD BE ADVERSELY AFFECTED BY RISKS ASSOCIATED WITH OUR
INTEREST RATE SWAP AGREEMENTS.

Interest rate swap agreements carry a certain inherent element of interest
rate risk. During 2001, we entered into several interest rate swap agreements in
order to take advantage of the current market conditions. These agreements
converted a significant portion of our fixed rate 9 7/8% senior subordinated
notes and our fixed rate 7 3/8% senior notes into variable rate obligations. The
variable rates are based on the three-month LIBOR plus a fixed margin. These
swap agreements lowered our interest expense in 2001, and we expect these
agreements to continue to positively impact our interest expense. If, however,
LIBOR increases significantly, our interest expense could be adversely affected.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations" for additional information on our swap agreements.

WE ARE SUBJECT TO MANY ENVIRONMENTAL LAWS AND REGULATIONS THAT REQUIRE
SIGNIFICANT EXPENDITURES FOR COMPLIANCE AND REMEDIATION EFFORTS, AND CHANGES IN
THE LAW COULD INCREASE THOSE EXPENSES AND ADVERSELY AFFECT OUR OPERATIONS.

Compliance with the environmental requirements of international, federal,
state and local governments significantly affects our business. Among other
things, these requirements regulate the discharge of materials into the water,
air and land and govern the use and disposal of hazardous substances. Under
environmental laws, we can be held strictly liable if hazardous substances are
found on real property we have ever owned, operated or used as a disposal site.
In recent years, we have adopted a policy of assessing real property for
environmental risks prior to purchase. We are aware of issues regarding
hazardous substances at some facilities, and we have put into place a remedial
plan at each site where we believe such a plan is necessary. We regularly make
capital and operating expenditures to stay in compliance with environmental
laws. Despite these compliance efforts, risk of environmental liability is part
of the nature of our business. We cannot assure you that environmental
liabilities, including compliance and remediation costs, will not have a
material adverse effect on us in the future. In addition, future events may lead
to additional compliance or other costs that could have a material adverse
effect on our business. Such future events could include changes in, or new
interpretations of, existing laws, regulations or enforcement policies or
further investigation of the potential health hazards of certain products or
business activities.

10

ITEM 2. PROPERTIES

Facilities. The following table sets forth certain information concerning our
facilities. Unless otherwise indicated, we own such facilities.

- ---------------

(1) All of our paperboard mills produce uncoated recycled paperboard with the
exceptions of our Rittman, OH, Tama, IA and Versailles, CT paperboard mills,
which produce clay-coated boxboard.
(2) Paperstock collection and/or processing also occurs at each of our mill
sites and all of our carton plants and tube and core plants.

ITEM 3. LEGAL PROCEEDINGS

On May 9, 2001, we and Georgia-Pacific Corporation jointly announced a
tentative settlement regarding the litigation over the terms of the long-term
supply contract the parties entered in April 1996. The pending litigation
relating to that contract has been previously reported in our annual report on
Form 10-K for the year ended December 31, 2000 and in our previous quarterly
reports on Form 10-Q. Under the terms of the tentative settlement, we and G-P
Gypsum Corporation, a wholly-owned subsidiary of Georgia-Pacific, entered into a
new ten-year agreement under which we would supply a minimum of 50,000 tons of
gypsum facing paper per year to G-P Gypsum. Implementation of the new agreement,
and settlement of the pending litigation over the 1996 agreement, is subject to
satisfactory completion of a transition period. The transition period initially
was to expire no later than August 6, 2001. As described below, however, the
parties have twice agreed to extend the outside termination date of the
transition period, most recently to April 1, 2002. During the transition period,
we are supplying G-P Gypsum with such facing paper as it requests to enable it
to evaluate the paper's compliance with its specifications for quality and
end-use suitability. Once G-P Gypsum is satisfied with the paper, it is to
notify us that the transition period has ended, and at that time the term of the
new agreement, including the annual minimum quantity requirement described
above, is to commence. If and when the new agreement commences, the parties will
dismiss all pending litigation relating to the 1996 agreement. Under the terms
of the tentative settlement, either party may terminate its obligations under
the new agreement during the transition period without cause and without
liability to the other party.

During the second quarter of 2001, ongoing discussions with G-P Gypsum led
to a mutual agreement to extend the outside expiration date of the transition
period initially to December 31, 2001. The extension was the result of
Georgia-Pacific's recent curtailment of a significant portion of its gypsum
wallboard manufacturing capacity because of adverse market conditions. This
curtailment, along with Georgia-Pacific's stated reservations about committing
to the minimum tonnage requirement under the new agreement in light of current
market conditions, led the parties to agree to the extension of the transition
period. Continued recent discussions, however, have led the parties to agree to
further extend the outside expiration date of the transition period to April 1,
2002.

Although we believe that we are able to satisfy G-P Gypsum's product
requirements, we can give no assurance that the new agreement will be
implemented in accordance with its terms or that the pending litigation will be
dismissed. Specifically, we cannot predict whether Georgia-Pacific's recent
curtailment of gypsum wallboard manufacturing capacity will further affect
whether, when or how a new agreement is implemented, including whether such
curtailment will result in modifications to the ultimate volume requirements
under any new contract that may be implemented. Accordingly, we believe that our
operating results and financial condition will continue to be materially and
adversely affected by the loss of contract volume from Georgia-Pacific unless
and until a new supply agreement is implemented with significant volume

12

requirements, and until a new supply agreement has been effective long enough to
generate a substantial volume of required purchases from Georgia-Pacific.

We are involved in certain other litigation arising in the ordinary course
of business. In the opinion of management, the ultimate resolution of these
matters (other than the litigation described above with Georgia-Pacific) will
not have a material adverse effect on our financial condition or results of
operations.

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

There were no matters submitted to the Company's security holders during
the fourth fiscal quarter ended December 31, 2001.

13

PART II

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

Since October 1, 1992, our common shares, $.10 par value (the "Common
Shares") have traded on the National Association of Securities Dealers, Inc.
NASDAQ National Market System ("NASDAQ") under the symbol CSAR. As of March 14,
2002, there were approximately 624 shareholders of record and, as of that date,
we estimate that there were approximately 2,500 beneficial owners holding stock
in nominee or "street" name. The table below sets forth quarterly high and low
stock prices and dividends declared during the years 2001 and 2000.

We paid dividends of $0.18 per share during each quarter of 2000. In
February 2001, we announced that the first quarter dividend was reduced by
one-half to $0.09 per issued and outstanding common share. In June 2001, we
reduced our second, third and fourth quarter dividend from $0.09 to $0.03 per
issued and outstanding common share. As described below under "Subsequent
Events", we have temporarily suspended future payments of quarterly dividends,
beginning in the first quarter of 2002. The decision to reduce the quarterly
dividend was made to preserve our financial flexibility in light of difficult
industry conditions. Although our former debt agreements contained no specific
limitations on the payment of dividends, our new debt agreements, as described
in Item 7 ("Liquidity and Capital Resources"), contain certain limitations on
the payment of future dividends.

On March 29, 2001, we sold $29.0 million aggregate principal amount of
7 1/4% senior notes due 2010 and $285.0 million aggregate principal amount of
9 7/8% senior subordinated notes due 2011 to Credit Suisse First Boston
Corporation, Banc of America Securities LLC, Deutsche Banc Alex. Brown Inc. and
SunTrust Equitable Securities Corporation, as purchasers. Aggregate discounts
and commissions to the purchasers were approximately $7.1 million. These notes
were sold to the purchasers in a transaction not involving a public offering in
reliance on the exemption from registration provided by Section 4(2) of the
Securities Act and Regulation D thereunder.

14

ITEM 6. SELECTED FINANCIAL DATA

- ---------------
(A) Restated to reflect the change in inventory costing method of accounting
from LIFO to FIFO at one of the Company's subsidiaries. See Note 1 in the
accompanying financial statements for additional information.
(B) Excludes restructuring and other nonrecurring costs.

15

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

GENERAL

We are a major manufacturer of recycled paperboard and converted paperboard
products. We operate in three business segments. The paperboard segment
manufactures 100% recycled uncoated and clay-coated paperboard and collects
recycled paper and brokers recycled paper and other paper rolls. The tube, core
and composite container segment produces spiral and convolute-wound tubes, cores
and cans. The carton and custom packaging segment produces printed and unprinted
folding and set-up cartons and provides contract manufacturing and packaging
services.

Our business is vertically integrated to a large extent. This means that
our converting operations consume a large portion of our own paperboard
production, approximately 38% in 2001. The remaining 62% of our paperboard
production is sold to external customers in any of the four recycled paperboard
end-use markets: tube, core and composite containers; folding cartons; gypsum
wallboard facing paper and other specialty products. We are the only major
manufacturer to serve all four end-use markets. As part of our strategy to
maintain optimum levels of production capacity, we regularly purchase paperboard
from other manufacturers in an effort to minimize the potential impact of demand
declines on our own mill system. Additionally, each of our mills can produce
recycled paperboard for more than one end-use market. This allows us to shift
production between mills in response to customer or market demands.

Recovered fiber, which is derived from recycled paper stock, is our most
significant raw material. Historically, the cost of recovered fiber has
fluctuated significantly due to market and industry conditions. For example, our
average recovered fiber cost per ton of paperboard produced increased from $43
per ton in 1993 to $144 per ton in 1995, an increase of 235%, before dropping to
$66 per ton in 1996. Same-mill recovered fiber cost per ton averaged $65 and
$104 during 2001 and 2000, respectively.

We raise our selling prices in response to increases in raw material costs.
However, we often are unable to pass the full amount of these costs through to
our customers on a timely basis, and as a result often cannot maintain our
operating margins in the face of dramatic cost increases. We experience margin
shrinkage during all periods of price increases due to customary time lags in
implementing our price increases. We cannot assure you that we will be able to
recover any future increases in the cost of recovered fiber by raising the
prices of our products. Even if we are able to recover future cost increases,
our operating margins and results of operations may still be materially and
adversely affected by time delays in the implementation of price increases.

Excluding labor, energy is our most significant manufacturing cost. Energy
is used to generate steam used in the paper making process and to operate our
paperboard machines and all of our other converting machinery. Our energy costs
increased steadily throughout 2000 and the first quarter of 2001 before showing
some improvement by the end of 2001. In 2000, the average energy cost in our
mill system was approximately $52 per ton. In 2001, energy costs increased 9.6%
to approximately $57 per ton. The increase was due primarily to increases in
natural gas and fuel oil costs. Until recently, our business had not been
significantly affected by energy costs, and we historically have not passed
increases in energy costs through to our customers. Consequently, we were not
able to pass through to our customers all of the energy cost increases we
incurred in 2000 and 2001. As a result, our operating margins were adversely
affected. We continue to evaluate our energy costs and consider ways to factor
energy costs into our pricing. However, we cannot assure you that our operating
margins and results of operations will not continue to be adversely affected by
rising energy costs.

Historically, we have grown our business, revenues and production capacity
to a significant degree through acquisitions. Based on the difficult operating
climate for our industry and our financial position, the pace of our acquisition
activity, and accordingly, our revenue growth, has slowed as we have focused on
conserving cash and maximizing the productivity of our existing facilities. We
made no acquisitions in 2001.

We are a holding company that currently operates our business through 19
subsidiaries. We also own a 50% interest in two joint ventures with
Temple-Inland, Inc. We have an additional joint venture with an

16

unrelated entity of which our investment and share of earnings of this venture
is immaterial. We account for these interests in our joint ventures under the
equity method of accounting.

CRITICAL ACCOUNTING POLICIES

Our accompanying consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States of
America, which require management to make estimates that affect the amounts of
revenues, expenses, assets and liabilities reported. The following are critical
accounting matters which are both very important to the portrayal of our
financial condition and results and which require some of management's most
difficult, subjective and complex judgments. The accounting for these matters
involves the making of estimates based on current facts, circumstances and
assumptions which, in management's judgment, could change in a manner that would
materially affect management's future estimates with respect to such matters
and, accordingly, could cause future reported financial condition and results to
differ materially from financial results reported based on management's current
estimates.

Revenue Recognition. We recognize revenue in accordance with SEC Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements,"
("SAB 101"). SAB 101 requires that four basic criteria must be met before
revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2)
delivery has occurred; (3) the selling price is fixed and determinable; and (4)
collectibility is reasonably assured. Determination of criteria (4) is based on
management's judgments regarding the collectibility of our accounts receivable.

Accounts Receivable. We perform ongoing credit evaluations of our
customers and adjust credit limits based upon payment history and the customer's
current credit worthiness, as determined by our review of their current credit
information. We continuously monitor collections from our customers and maintain
a provision for estimated credit losses based upon our historical experience and
any specific customer collection issues that we have identified. While such
credit losses have historically been within our expectations and the provisions
established, we cannot guarantee that we will continue to experience the same
credit loss rates that we have in the past.

Inventory. Inventories are carried at the lower of cost or market. Cost
includes materials, labor and overhead. Market, with respect to all inventories,
is replacement cost or net realizable value. Management frequently reviews
inventory to determine the necessity of reserves for excess, obsolete or
unsaleable inventory. These reviews require management to assess customer and
market demand. These estimates may prove to be inaccurate, in which case we may
have over or under stated the reserve required for excess, obsolete or
unsaleable inventory.

Impairment of Goodwill. We periodically evaluate acquired businesses for
potential impairment indicators. Our judgments regarding the existence of
impairment indicators are based on legal factors, market conditions and
operational performance of our acquired businesses. Future events could cause us
to conclude that impairment indicators exist and that goodwill associated with
our acquired businesses is impaired. Evaluating the impairment of goodwill also
requires us to estimate future operating results and cash flows which also
require judgment by management. Any resulting impairment loss could have a
material adverse impact on our financial condition and results of operations.

Self-Insurance. We are self-insured for the majority of our workers'
compensation costs and group health insurance costs, subject to specific
retention levels. Consulting actuaries and administrators assist us in
determining our liability for self-insured claims. While we believe that our
assumptions are appropriate, significant differences in our actual experience or
significant changes in our assumptions may materially affect our workers'
compensation costs and group health insurance costs.

Accounting for Income Taxes. As part of the process of preparing our
consolidated financial statements we are required to estimate our income taxes
in each of the jurisdictions in which we operate. This process involves us
estimating our actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items for tax and accounting
purposes. These differences result in deferred tax assets and liabilities, which
are included within our consolidated balance sheet. We must then assess the

17

likelihood that our deferred tax assets will be recovered from future taxable
income and to the extent we believe that recovery is not likely, we must
establish a valuation allowance. To the extent we establish a valuation
allowance or increase this allowance in a period, we must include an expense
within the tax provision in the statement of operations.

Significant management judgment is required in determining our provision
for income taxes, our deferred tax assets and liabilities and any valuation
allowance recorded against our deferred tax assets. We record valuation
allowances due to uncertainties related to our ability to utilize some of our
deferred tax assets, primarily consisting of certain state net operating losses
carried forward and state tax credits, before they expire. The valuation
allowance is based on our estimates of taxable income by jurisdiction in which
we operate and the period over which our deferred tax assets will be
recoverable. In the event that actual results differ from these estimates or we
adjust these estimates in future periods we may need to establish an additional
valuation allowance which could materially impact our financial position and
results of operations.

Pension and Other Postretirement Benefits. The determination of our
obligation and expense for pension and other postretirement benefits is
dependent on our selection of certain assumptions used by actuaries in
calculating such amounts. Those assumptions are described in Note 8 to the
consolidated financial statements and include, among others, the discount rate,
expected long-term rate of return on plan assets and rates of increase in
compensation and healthcare costs. In accordance with generally accepted
accounting principles, actual results that differ from our assumptions are
accumulated and amortized over future periods and therefore, generally affect
our recognized expense, recorded obligation and funding requirements in future
periods. While we believe that our assumptions are appropriate, significant
differences in our actual experience or significant changes in our assumptions
may materially affect our pension and other postretirement benefit obligations
and our future expense.

RESULTS OF OPERATIONS 2001 -- 2000

The following table shows volume, gross paper margins and related data for
the periods indicated. The volume information shown below includes shipments of
unconverted paperboard and converted paperboard products. Tonnage volumes from
our business segments, excluding tonnage produced or converted by our
unconsolidated joint ventures, are combined and presented along end-use market
lines. Additional financial information is reported by segment in Note 11 of the
consolidated financial statements.

Sales. Our consolidated sales for the year ended December 31, 2001 decreased
9.9% to $913.7 million from $1,014.6 million in 2000. Acquisitions completed
during 2000 accounted for $33.7 million of sales during 2001. These acquisitions
included MilPak, Inc., Arrow Paper Products Company and Crane Carton Company,
LLC. These acquisitions were accounted for using the purchase method of
accounting, and their results of operations were included only from and after
the date of the acquisition. Excluding acquisitions completed during 2000, sales
decreased 13.3% during 2001. This decrease was due to lower selling prices and
volume from the paperboard and the tube, core and composite container segments,
partially attributable to the dispute with Georgia-Pacific (see "Georgia-Pacific
Litigation" below), along with lower selling prices from the carton and custom
packaging segment due to competitive pressures. The decline in volume from the
tube, core and composite container segment was primarily attributable to the
downturn in the textile industry.

Total paperboard tonnage for 2001 decreased 9.5% to 1,015.5 thousand tons
from 1,121.5 thousand tons in 2000. Excluding acquisitions completed during
2000, total paperboard tonnage declined 11.3% to 994.3 thousand tons. This
decrease was primarily due to lower shipments of unconverted paperboard to
external customers combined with lower internal conversion by our converting
operations in the other specialty products and the tube, core and composite
container markets. The decrease in shipments of unconverted paperboard was due
primarily to a decline in industry demand and partially attributable to the
dispute with Georgia-Pacific. Excluding 2000 acquisitions, outside purchases
decreased 16.5% to 101.9 thousand tons. Tons sold from paperboard mill
production decreased 10.7% for 2001 to 892.4 thousand tons, compared with 999.1
thousand tons for 2000. Total tonnage converted decreased 7.5% for 2001 to 463.9
thousand tons compared to 501.4 thousand tons in 2000, and decreased 12.2% from
2000, excluding acquisitions. Excluding

19

acquisitions completed during 2000, volumes in the folding carton and tube, core
and composite container end-use markets decreased 8.3% and 7.8%, respectively.

Gross Margin. Gross margin for 2001 increased to 25.6% of sales from 25.1% in
2000. Excluding the $7.1 million reduction in reserves related to expiring
unfavorable supply contracts at the Sprague paperboard mill, gross margin was
24.8% for 2001. This margin decrease was due primarily to lower margins in the
carton and custom packaging and tube, core and composite container segments,
partially offset by improved margins in the paperboard segment. Margins
decreased in the carton and custom packaging segment due to lower selling prices
resulting from competitive pressures. Margins in the tube, core and composite
container segment decreased as a result of lower selling prices, higher
paperboard costs and a decline in the textile industry. The improved margins in
the paperboard segment were the result of cost-cutting efforts to reduce
expenses combined with the substantial decline in fiber costs, which were
partially offset by the decline in selling prices and the increase in energy
costs.

Restructuring and Other Nonrecurring Costs. In January 2001, we initiated a
plan to close our paperboard mill located in Chicago, Illinois and recorded a
pretax charge to operations of approximately $4.4 million. The mill was
profitable through 1998, but declining sales resulted in losses of approximately
$2.6 million and $1.5 million in 1999 and 2000, respectively. We expect the
proceeds from the sale of the real estate to more than offset the pretax charge.
The $4.4 million charge included a $2.2 million noncash asset impairment write
down of fixed assets to estimated net realizable value, a $1.2 million accrual
for severance and termination benefits for 16 salaried and 59 hourly employees
terminated in connection with this plan and a $989 thousand accrual for other
exit costs. During 2001, we paid $1.2 million in severance and termination
benefits and $597 thousand in other exit costs. The remaining other exit costs
will be paid by December 31, 2002. As of December 31, 2001, one employee
remained to assist in the closing of the mill. We are marketing the property and
will complete the exit plan upon the sale of the property, which we anticipate
will occur prior to December 31, 2002.

In March 2001, we initiated a plan to consolidate the operations of our
Salt Lake City, Utah carton plant into our Denver, Colorado carton plant and
recorded a pretax charge to operations of approximately $2.6 million. The $2.6
million charge included a $1.8 million noncash asset impairment write down of
fixed assets to estimated net realizable value, a $464 thousand accrual for
severance and termination benefits for 5 salaried and 31 hourly employees
terminated in connection with this plan and a $422 thousand accrual for other
exit costs. All exit costs were paid as of December 31, 2001. As of December 31,
2001, no employees remained at the plant.

In February 2000, we initiated a plan to close our paperboard mill located
in Baltimore, Maryland and recorded a pretax charge to operations of
approximately $6.9 million. We adopted the plan to close the mill in conjunction
with our ongoing efforts to increase manufacturing efficiency and reduce costs
in our mill system. The $6.9 million charge included a $5.7 million noncash
asset impairment charge to write-down machinery and equipment to estimated net
realizable value. The charge also included a $604 thousand accrual for severance
and termination benefits for 21 salaried and 83 hourly employees terminated in
connection with this plan and a $613 thousand accrual for other exit costs. All
exit costs were paid by December 31, 2000. As of December 31, 2001, one employee
remained to assist in marketing the land and building. We will complete the exit
plan upon the sale of the property, which we anticipate will occur prior to
December 31, 2002. The mill closure did not have a material impact on our
operations.

In September 2000, we initiated a plan to close our paperboard mill located
in Camden, New Jersey and recorded a pretax charge to operations of
approximately $8.6 million. The mill experienced a slowdown in gypsum facing
paper shipments during the third quarter of 2000, and the shutdown was
precipitated by the refusal of Georgia-Pacific, formerly our largest gypsum
facing paper customer, to continue purchasing facing paper under a long-term
supply agreement. The $8.6 million charge included a $7.0 million noncash asset
impairment write-down of fixed assets to estimated net realizable value, a $558
thousand accrual for severance and termination benefits for 19 salaried and 46
hourly employees terminated in connection with this plan, and a $968 thousand
accrual for other exit costs. During 2001 and 2000, we paid $178 thousand and
$380 thousand, respectively, in severance and termination benefits and $548
thousand and $346 thousand,

20

respectively, in other exit costs. The remaining other exit costs will be paid
by June 30, 2002. As of December 31, 2001, no employees remained at the mill. We
are marketing the property and will complete the exit plan upon the sale of the
property, which we anticipate will occur prior to December 31, 2002. This mill
contributed sales and operating income of $12.4 million and $1.2 million,
respectively, for the nine months ended September 30, 2000 and $20.5 million and
$2.1 million, respectively, for the year ended December 31, 1999.

In December 2000, we recognized a nonrecurring cost of $1.3 million related
to the settlement of a dispute over abandoned property.

Operating Income. Operating income for 2001 was $26.7 million, a decrease of
$15.2 million, or 36.2% from 2000. Operating income excluding the Sprague
reserve reduction, restructuring charges and 2000 acquisitions was $25.1 million
for 2001, a decrease of $33.6 million, or 57.2%, from operating income of $58.6
million in 2000, excluding restructuring charges and other nonrecurring costs.
This decline was due primarily to lower volume in the tube, core and composite
container and paperboard segments, partially attributable to the dispute with
Georgia-Pacific, and lower margins in the carton and custom packaging and tube,
core and composite container segments. Selling, general and administrative
expenses increased by $1.7 million, or 1.1%, in 2001 compared to 2000, but
decreased $2.5 million, or 1.7%, excluding acquisitions. This decrease was
primarily due to mill closures in the paperboard segment.

Other Income (Expense). Interest expense increased 20.8% to $41.2 million for
2001 from $34.1 million in 2000. This increase was due to higher outstanding
debt balances at higher interest rates, partially offset by savings from
interest rate swap agreements which effectively converted portions of our fixed
rate notes into variable rate obligations. See "Liquidity and Capital Resources"
for additional information regarding our debt, interest expense and interest
rate swap agreements.

Equity in loss from unconsolidated affiliates was $2.6 million in 2001,
down $9.1 million from equity in income of $6.5 million in 2000. This decrease
was primarily due to lower operating results for Standard Gypsum, L.P., our
gypsum wallboard joint venture with Temple-Inland. The lower results were due
primarily to significantly lower selling prices in 2001 compared to 2000 due to
excess capacity in that market.

Net Income (Loss). As discussed above, our results for 2001 included
restructuring charges recorded in conjunction with the closing of our Chicago,
Illinois paperboard mill and the consolidation of operations of our Salt Lake
City, Utah carton plant into our Denver, Colorado carton plant. These charges
were $7.1 million in the aggregate ($4.4 million, net of tax benefit, or $0.16
per common share on a diluted basis). Also included in the results for 2001 was
an extraordinary loss of $4.3 million related to the early extinguishment of
debt ($2.7 million, net of tax benefit, or $0.10 per common share on a diluted
basis). Partially offsetting these charges was the $7.1 million reduction in
reserves related to expiring unfavorable supply contracts at the Sprague
paperboard mill ($4.5 million, net of tax provision, or $0.16 per common share
on a diluted basis). Excluding the extraordinary loss, restructuring charges and
the Sprague reserve reduction, net loss in 2001 was $11.9 million, or $0.43 net
loss per common share on a diluted basis, compared to net income before
restructuring charges and other nonrecurring costs of $18.7 million, or $0.71
net income per common share on a diluted basis, in 2000. Including the
extraordinary loss, restructuring charges, other nonrecurring costs and the
Sprague reserve reduction, net loss was $14.6 million in 2001, or $0.52 net loss
per common share on a diluted basis, compared with net income of $8.2 million,
or $0.31 net income per common share on a diluted basis, in 2000.

Events of September 11, 2001. The horrific terrorist attacks against the United
States and their aftermath did not, during 2001, and are not currently expected
to, have a direct material effect on our operations. However, to the extent that
those events, other terrorist activities, the U.S. military response and the
resulting uncertainties have adversely affected, or will continue to adversely
affect, the United States economy in general, sectors on which we depend in
particular, and the U.S. capital markets, our results of operations, financial
condition and stock price have been, and could continue to be, adversely
affected.

21

RESULTS OF OPERATIONS 2000 -- 1999

The following tables show volume, gross paper margins and related data for
the periods indicated. The volume information shown below includes shipments of
unconverted paperboard and converted paperboard products. Tonnage volumes from
our business segments, excluding tonnage produced or converted by our
unconsolidated joint ventures, are combined and presented along end-use market
lines. Additional financial information is reported by segment in Note 11 of the
consolidated financial statements.

Sales. Our consolidated sales for the year ended December 31, 2000 increased
8.3% to $1,014.6 million from $936.9 million in 1999. Acquisitions completed
during 1999 and 2000 accounted for $104.9 million of sales during 2000. These
acquisitions included MilPak, Inc., Arrow Paper Products Company and Crane
Carton Company, LLC, all of which were completed in 2000. The acquisitions of
Carolina Component Concepts,

22

Inc., International Paper Company's Sprague boxboard mill, Halifax Paperboard
Co., Inc., Tenneco Packaging, Inc.'s folding carton division and Carolina
Converting, Inc. were completed in 1999. These acquisitions were accounted for
using the purchase method of accounting, and their results of operations were
included only from and after the date of the acquisition. Excluding acquisitions
completed during 1999 and 2000, sales decreased 2.9% during 2000. This decrease
was due to lower volume and sales from the paperboard segment, partially
attributable to the dispute with Georgia-Pacific, and lower sales from the
carton and custom packaging segment, partially offset by higher sales from the
tube, core and composite container segment.

Total paperboard tonnage for 2000 decreased 2.9% to 1,121.5 thousand tons
from 1,155.5 thousand tons in 1999. Excluding acquisitions completed during 1999
and 2000, total paperboard tonnage declined 8.6% to 1,056.0 thousand tons. This
decrease was primarily due to lower shipments of unconverted paperboard to
external customers in the gypsum wallboard facing paper and folding carton
markets. This decrease in shipments to gypsum wallboard facing paper customers
was partially attributable to the dispute with Georgia-Pacific. Excluding
acquisitions, outside purchases increased 10.3% to 99.9 thousand tons. Tons sold
from paperboard mill production decreased 6.2% for 2000 to 999.1 thousand tons,
compared with 1,064.9 thousand tons for 1999, and decreased 10.4% excluding
acquisitions. Total tonnage converted increased 12.5% for 2000 to 501.4 thousand
tons compared to 445.8 thousand tons in 1999, and increased 1.2% over 1999,
excluding acquisitions. Excluding acquisitions completed during 1999 and 2000,
volumes in the folding carton and other specialty end-use markets decreased 9.3%
and increased 4.9%, respectively.

Gross Margin. Gross margin for 2000 decreased to 25.1% of sales from 27.0% in
1999. This margin decrease was due primarily to lower volume and higher energy
costs in the paperboard segment, combined with lower margins in the carton and
custom packaging and tube, core and composite container segments. Margins
decreased in the carton and custom packaging segment due to lower selling prices
resulting from competitive pressures. Margins in the tube, core and composite
container segment decreased as a result of higher raw material costs and soft
volume in the plastic core and composite container businesses.

Restructuring and Other Nonrecurring Costs. In February 2000, we initiated a
plan to close our paperboard mill located in Baltimore, Maryland and recorded a
pretax charge to operations of approximately $6.9 million. We adopted the plan
to close the mill in conjunction with our ongoing efforts to increase
manufacturing efficiency and reduce costs in our mill system. The $6.9 million
charge included a $5.7 million noncash asset impairment charge to write-down
machinery and equipment to net realizable value. The charge also included a $604
thousand accrual for severance and termination benefits for 21 salaried and 83
hourly employees terminated in connection with this plan and a $613 thousand
accrual for other exit costs. All exit costs were paid by December 31, 2000. As
of December 31, 2000, one employee remained to assist in marketing the land and
building. We will complete the exit plan upon the sale of the property, which we
anticipate will occur prior to December 31, 2002. The mill closure did not have
a material impact on our operations.

In September 2000, we initiated a plan to close our paperboard mill located
in Camden, New Jersey and recorded a pretax charge to operations of
approximately $8.6 million. The mill closing was the result of a slowdown in
gypsum facing paper shipments during the third quarter of 2000 and a contract
dispute with Georgia-Pacific. The $8.6 million charge included a $7.0 million
noncash asset impairment write-down of fixed assets to net realizable value, a
$558 thousand accrual for severance and termination benefits for 19 salaried and
46 hourly employees terminated in connection with this plan, and a $968 thousand
accrual for other exit costs. During 2000, we paid $380 thousand in severance
and termination benefits and $346 thousand in other exit costs. As of December
31, 2000, two employees remained to collect receivables, process payables and
assist in marketing the land and building. We are marketing the land and
building and will complete the exit plan upon the sale of the property, which we
anticipate will occur prior to December 31, 2002. This mill contributed sales of
$12.4 million and operating income of $1.2 million for the nine months ended
September 30, 2000. It contributed sales of $20.5 million and operating income
of $2.1 million for the year ended December 31, 1999.

In December 2000, we recognized a nonrecurring cost of $1.3 million related
to the settlement of a dispute over abandoned property.

23

Operating Income. Operating income for 2000 was $41.9 million, a decrease of
$38.7 million, or 48.0%, from 1999. Operating income for comparable facilities,
excluding restructuring and other nonrecurring costs, declined $23.1 million, or
28.6%. This decline was due primarily to lower volume and higher energy costs in
the paperboard segment, combined with lower margins in the carton and custom
packaging and tube, core and composite container segments. Selling, general and
administrative expenses increased by $19.5 million, or 15.5%, in 2000 compared
to 1999. Acquisitions accounted for approximately $12.5 million of the increase
and information technology costs accounted for approximately $3.2 million of the
increase.

Other Income (Expense). Interest expense increased 33.8% to $34.1 million for
2000 from $25.5 million in 1999 due to higher average borrowings under our
senior credit facility and the effect of a full year of interest expense
attributable to our $200.0 million public debt securities offering in June 1999.

Equity in income from unconsolidated affiliates was $6.5 million, down $2.7
million, or 29.2%, from 1999 primarily due to lower operating results for
Standard Gypsum, L.P., our gypsum wallboard joint venture with Temple-Inland,
Inc. and start-up costs at Premier Boxboard Limited LLC, our containerboard mill
joint venture with Temple-Inland.

Net Income. As discussed above, our results for 2000 included restructuring and
nonrecurring charges recorded in conjunction with the closings of our Baltimore,
Maryland and Camden, New Jersey paperboard mills and a nonrecurring charge
related to the settlement of a dispute over abandoned property, which were $16.8
million in the aggregate ($10.5 million, net of tax benefit, or $0.40 per common
share on a diluted basis). Excluding these charges, net income was $18.7
million, or $0.71 per common shares on a diluted basis. Including the
restructuring and other nonrecurring costs, net income decreased 80.0% to $8.2
million from $40.9 million in 1999. Diluted net income per common share,
including the restructuring and other nonrecurring costs, decreased 81.0% to
$0.31 for 2000 from $1.62 in 1999.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity Sources and Risks. Our primary sources of liquidity are cash from
operations and borrowings under the various debt facilities described below.
Downturns in operations can significantly affect our ability to generate cash.
For example, in the difficult operating climate we experienced in 2001, we
generated $25.5 million less cash from operations than we did in 2000. Factors
that can affect our operating results are discussed further in this Report under
"Risk Factors" in Part I, Item 1. However, despite the lower operating cash flow
in 2001, we managed to improve our 2001 year-end cash position by $55.3 million
over 2000 due primarily to conservative cash management. We also believe that
our existing cash and liquidity position will be further strengthened through
the sale of the real estate at our Baltimore, Maryland, Camden, New Jersey and
Chicago, Illinois paperboard mills, which we anticipate will occur in 2002.
Additionally, we expect to receive a federal tax refund of approximately $16.0
million in the first half of 2002. If, however, we were to face unexpected
liquidity needs, we could require additional funds from external sources such as
our senior credit facility.

The availability of liquidity from borrowings is primarily affected by our
continued compliance with the terms of the debt agreements governing these
facilities, including the payment of interest and compliance with various
covenants and financial maintenance tests. In addition, as described below under
"-- Joint Venture Financings," to the extent we are unable to comply with
financial maintenance tests under our senior credit facility, we will fail to
comply with identical financial maintenance covenant tests under our guarantees
of the credit facilities of our joint ventures, which could potentially
materially and adversely affect us through a series of cross-defaults under both
our joint ventures' and our own obligations if we were unable to obtain
appropriate waivers or amendments with respect to the underlying violations and
any related cross-defaults.

At December 31, 2000 and December 31, 2001, we were not in compliance with
the leverage ratio and interest coverage ratio, respectively, under both our
senior credit facility and our joint venture guarantees, but in each case were
able to obtain appropriate amendments and waivers with respect to each instance
of non-compliance (and with respect to any technical cross-default). Absent
further material deterioration of the U.S. economy as a whole or the specific
sectors on which our business depends (see Part I, Item 1, "Risk Factors -- Our
business and financial performance may be adversely affected by downturns in
industrial

24

production, housing and construction and the consumption of durable and
nondurable goods"), we believe it is unlikely that we will breach our covenants
under our debt agreements or joint venture guarantees during 2002. We also
believe that in the event of such a breach due to a further deterioration in
economic or industry conditions, our lenders would provide us with the necessary
waivers and amendments. However, we cannot assure you that we will achieve our
expected future operating results or continued compliance with our debt
covenants, or that, in such event, necessary waivers and amendments would be
available at all or on acceptable terms. If our debt or that of our joint
ventures were placed in default, or if we were called upon to satisfy our joint
venture guarantees, our liquidity and financial condition would be materially
and adversely affected.

Borrowings. At December 31, 2001 and 2000, total debt (consisting of current
maturities of debt, senior credit facility, and other long-term debt, as
reported on our consolidated balance sheets) was as follows (in thousands):

On March 29, 2001, we completed a series of financing transactions pursuant
to which we (i) issued $29.0 million in aggregate principal amount of 7 1/4%
senior notes due May 1, 2010 and $285.0 million in aggregate principal amount of
9 7/8% senior subordinated notes due April 1, 2011, (ii) used the proceeds from
these notes to repay in full our former senior credit facility and 7.74% senior
notes, and (iii) obtained a new $75.0 million senior credit facility. The 7 1/4%
senior notes and 9 7/8% senior subordinated notes were issued at a discount to
yield effective interest rates of 9.4% and 10.5%, respectively. Aggregate
proceeds from the sale of these notes, net of issuance costs, was approximately
$291.2 million. In connection with the repayment of the 7.74% senior notes, we
incurred a prepayment penalty of approximately $3.6 million. We recorded an
extraordinary loss of $2.7 million which includes the prepayment penalty and
unamortized issuance costs of $705 thousand, net of tax benefit of $1.6 million.
The difference between issue price and principal amount at maturity of our
7 1/4% senior notes and 9 7/8% senior subordinated notes will be accreted each
year as interest expense in our financial statements. These notes are unsecured,
but are guaranteed, on a joint and several basis, by all of our domestic
subsidiaries, other than one that is not wholly-owned.

Our credit facility provides for a revolving line of credit in the
aggregate principal amount of $75.0 million for a term of three years, including
subfacilities of $10.0 million for swingline loans and $15.0 million for letters
of credit, usage of which reduces availability under the facility. No borrowings
were outstanding under the facility as of December 31, 2001, versus $194.0
million outstanding on our former senior credit facility on December 31, 2000;
however, an aggregate of $9.8 million in letter of credit obligations were
outstanding on December 31, 2001. We intend to use the facility for working
capital, capital expenditures and other general corporate purposes. Although the
facility is unsecured, our obligations under the facility are unconditionally
guaranteed, on a joint and several basis, by all of our existing and
subsequently acquired wholly-owned domestic subsidiaries.

Borrowings under the facility bear interest at a rate equal to, at our
option, either (1) the base rate (which is equal to the greater of the prime
rate most recently announced by Bank of America, N.A., the administrative agent
under the facility, or the federal funds rate plus one-half of 1%) or (2) the
adjusted Eurodollar Interbank Offered Rate, in each case plus an applicable
margin determined by reference to our leverage ratio (which is defined under the
facility as the ratio of our total debt to our total capitalization). Based on
our leverage ratio at December 31, 2001, the current margins are 2.0% for
Eurodollar rate loans and 0.75% for base rate loans. Additionally, the undrawn
portion of the facility is subject to a facility fee at an annual rate that is
currently set at 0.5% based on our leverage ratio at December 31, 2001.

25

The facility contains covenants that restrict, among other things, our
ability and our subsidiaries' ability to create liens, merge or consolidate,
dispose of assets, incur indebtedness and guarantees, pay dividends, repurchase
or redeem capital stock and indebtedness, make certain investments or
acquisitions, enter into certain transactions with affiliates, make capital
expenditures or change the nature of our business. The facility also contains
several financial maintenance covenants, including covenants establishing a
maximum leverage ratio (as described above), minimum tangible net worth and a
minimum interest coverage ratio.

The facility contains events of default including, but not limited to,
nonpayment of principal or interest, violation of covenants, incorrectness of
representations and warranties, cross-default to other indebtedness, bankruptcy
and other insolvency events, material judgments, certain ERISA events, actual or
asserted invalidity of loan documentation and certain changes of control of our
company.

During the third and fourth quarters of 2001 and the first quarter of 2002,
we completed three amendments to our senior credit facility agreement. The first
amendment, dated September 10, 2001, allows us to acquire up to $30.0 million of
our senior subordinated notes so long as no default or event of default exists
on the date of the transaction or will result from the transaction.

The second amendment, dated November 30, 2001, provides for the issuance of
letters of credit under the senior credit facility having an original expiration
date more than one year from the date of issuance, if required under related
industrial revenue bond documents and agreed to by the issuing lender.

See "Subsequent Events" below, which details the third amendment to the
senior credit facility. This amendment was completed on January 22, 2002 with an
effective date of September 30, 2001. We obtained this amendment in order to
avoid the occurrence of an event of default under our senior credit facility
agreement resulting from a violation of the interest coverage ratio covenant
contained in this agreement.

In 1998, we registered with the SEC a total of $300.0 million in public
debt securities for issuance in one or more series and with such specific terms
as determined from time to time. On June 1, 1999, we issued $200.0 million in
aggregate principal amount of our 7 3/8% senior notes due June 1, 2009. Our
7 3/8% senior notes were issued at a discount to yield an effective interest
rate of 7.473%, are unsecured obligations of our company and pay interest
semiannually. In connection with the offering of our 7 1/4% senior notes and
9 7/8% senior subordinated notes, our subsidiary guarantors also guaranteed our
7 3/8% senior notes.

As noted above, on March 29, 2001, we repaid in full all outstanding
balances under our former senior credit facility and 7.74% senior notes. Our
former senior credit facility was a $400.0 million, five-year senior credit
facility with a scheduled maturity date in July 2002. Interest under the
facility was computed using our choice of: (a) the adjusted Eurodollar rate (as
defined under the facility) plus a margin; or (b) the higher of (i) the federal
funds rate plus one-half of 1% or (ii) the prime lending rate most recently
announced by the administrative agent under the facility. At December 31, 2000
and March 29, 2001, the date we repaid and terminated our former senior credit
facility, the interest margin above the adjusted Eurodollar rate was computed on
the basis of our leverage ratio. For the three months ended March 31, 2001 and
for the year ended December 31, 2000, the weighted average borrowings
outstanding under our former senior credit facility during such periods bore
interest at 6.95% and 7.18%, respectively. As of December 31, 2000, we were not
in compliance with certain covenants under our former senior credit facility
that the lenders waived through the first quarter of 2001.

Our 7.74% senior notes, which we originally issued on October 1, 1992 to an
insurance company in an aggregate principal amount of $82.75 million, bore
interest at a rate of 7.74% per annum, payable semiannually in April and October
of each year. In connection with the repayment of our 7.74% senior notes, we
incurred a prepayment penalty of approximately $3.6 million. As of December 31,
2000, we were not in compliance with certain covenants under our 7.74% senior
notes that the lenders waived through the first quarter of 2001.

We have certain obligations and commitments to make future payments under
contracts, such as debt and lease agreements. See Notes 5 and 6 of "Notes to
Consolidated Financial Statements" which details these future obligations and
commitments.

26

Interest Rate Swaps. During the second and third quarters of 2001, we entered
into four interest rate swap agreements in notional amounts totaling $285.0
million. The agreements, which have payment and expiration dates that correspond
to the terms of the note obligations they cover, effectively converted $185.0
million of our fixed rate 9 7/8% senior subordinated notes and $100.0 million of
our fixed rate 7 3/8% senior notes into variable rate obligations. The variable
rates are based on the three-month LIBOR plus a fixed margin. These swap
agreements decreased interest expense by $3.8 million in 2001. We expect our
swap agreements to continue to lower our interest expense; however, if the
three-month LIBOR increases significantly, our interest expense could be
adversely affected. Based on the three-month LIBOR at December 31, 2001, our
swaps would reduce our interest expense by approximately $9.9 million in 2002
compared with $3.8 million in 2001, as mentioned above. If the three-month LIBOR
increased 100 basis points, our savings on interest expense would be reduced by
approximately $2.85 million.

The following table identifies the debt instrument hedged, the notional
amount, the fixed spread and the three-month LIBOR at December 31, 2001 for each
of our interest rate swaps. The December 31, 2001 three-month LIBOR is presented
for informational purposes only and does not represent our actual effective
rates in place at December 31, 2001.

In October 2001, we unwound our $185.0 million interest rate swap agreement
related to the 9 7/8% senior subordinated notes and received $9.1 million from
the bank counter-party. Simultaneously, we executed a new swap agreement with a
fixed margin that was 85 basis points higher than the original swap agreement.
The new swap agreement is the same notional amount, has the same terms and
covers the same notes as the original agreement. The $9.1 million gain will be
accreted to interest expense over the life of the notes and will partially
offset the increase in interest expense. We executed these transactions in order
to take advantage of current market conditions.

Joint Venture Financings. As noted above, we own a 50% interest in two joint
ventures with Temple-Inland, Inc.: Standard Gypsum, L.P. and Premier Boxboard
Limited LLC. Because we account for these interests in our joint ventures under
the equity method of accounting, the indebtedness of these joint ventures is not
reflected in the liabilities included on our consolidated balance sheets. As
described below, we have guaranteed certain obligations of these joint ventures.
A default under these guarantees also constitutes a default under the credit
facilities of these joint ventures and our senior credit facility. The
guarantees also contain independent financial maintenance covenants that are
identical to the covenants under our senior credit facility. Accordingly, our
default under one or more of these covenants would technically permit the
lenders under the joint venture credit facilities and our joint venture
partner's respective guarantees of those facilities, as well as the lenders
under our senior credit facility, if they so elected, to prohibit any future
borrowings under these facilities and to accelerate all such outstanding
obligations under these facilities. The resulting acceleration of our
obligations could also cause further defaults and accelerations under our 9 7/8%
senior subordinated notes, our 7 1/4% senior notes and our 7 3/8% senior notes.
At December 31, 2000 and December 31, 2001, we were not in compliance with the
leverage ratio and interest coverage ratio, respectively, under these
guarantees, but in each case were able to obtain appropriate amendments and
waivers with respect to this non-compliance and with respect to any technical
cross-defaults.

Standard Gypsum is the obligor under reimbursement agreements pursuant to
which direct-pay letters of credit in the aggregate original amount of
approximately $56.2 million have been issued for its account in support of
industrial development bond obligations. We have severally and unconditionally
guaranteed 50% of Standard Gypsum's obligations for reimbursement of letter of
credit drawings, interest, fees and other amounts. The other Standard Gypsum
partner, Temple-Inland, has similarly guaranteed 50% of Standard

27

Gypsum's obligations. As of December 31, 2001, the outstanding letters of credit
totaled approximately $56.2 million, of which one-half (approximately $28.1
million) is guaranteed by us.

Premier Boxboard is the borrower under a credit facility providing for up
to $40.0 million in revolving loans (with a subfacility for up to $1.0 million
in letters of credit). The credit facility was originally entered into in July
1999 and matures in June 2005. We have severally and unconditionally guaranteed
50% of Premier Boxboard's obligations under the credit facility for principal
(including reimbursement of letter of credit drawings), interest, fees and other
amounts. Temple-Inland has similarly guaranteed 50% of Premier Boxboard's
obligations. As of December 31, 2001, the outstanding principal amount of
borrowings under the facility (including outstanding letters of credit) was
approximately $20.2 million, of which one-half (approximately $10.1 million) is
guaranteed by us. In addition to the general default risks discussed above with
respect to the joint ventures, a substantial portion of the assets of Premier
Boxboard are pledged as security for $50.0 million in outstanding principal
amount of senior notes under which Premier Boxboard is the obligor. These notes
are guaranteed by Temple-Inland, but are not guaranteed by us. Additionally, a
default under the Premier Boxboard credit facility would also constitute an
event of default under these notes. In the event of default under these notes,
the holders would also have recourse to the assets of Premier Boxboard that are
pledged to secure these notes. Thus, any resulting default under these notes
could result in the assets of Premier Boxboard being utilized to satisfy
creditor claims, which would have a material adverse effect on the financial
condition and operations of Premier Boxboard and, accordingly, our interest in
Premier Boxboard. Further, in such an event of default, these assets would not
be available to satisfy obligations owing to unsecured creditors of Premier
Boxboard, including the lender under the credit facility, which might make it
more likely that our guarantee of the Premier Boxboard credit facility would be
the primary source of repayment under the facility in the event Premier Boxboard
cannot pay.

Additional contingencies relating to our joint ventures that could affect
our liquidity include possible additional capital contributions and buy-sell
triggers which, under certain circumstances, give us and our joint venture
partner either the right, or the obligation, to purchase the other's interest or
to sell an interest to the other. In the case of both Standard Gypsum and
Premier Boxboard, neither joint venture partner is obligated or required to make
additional capital contributions without the consent of the other. With regard
to buy-sell rights, under the Standard Gypsum joint venture, in general, either
party may purchase the other's interest upon the occurrence of certain purported
unauthorized transfers or involuntary transfer events (such as bankruptcy). In
addition, under the Standard Gypsum joint venture, either (i) in the event of an
unresolved deadlock over a material matter or (ii) at any time after April 1,
2001, either party may initiate a "Russian roulette" buyout procedure by which
it names a price at which the other party must agree either to sell its interest
to the initiating party or to purchase the initiating party's interest. Under
the Premier Boxboard joint venture, in general, mutual buy-sell rights are
triggered upon the occurrence of certain purported unauthorized or involuntary
transfers, but in the event of certain change of control or deadlock events, the
buy-sell rights are structured such that we are always the party entitled, or
obligated, as the case may be, to purchase.

We generally consider our relationship with Temple-Inland to be good with
respect to both of our joint ventures and do not anticipate experiencing
material liquidity events resulting from either additional capital contributions
or buy-sell contingencies with respect to our joint ventures during 2002. We
cannot assure you, however, that these assumptions will prove accurate or that
such liquidity events will not arise.

Cash from Operations. Cash generated from operations was $56.9 million for the
year ended December 31, 2001, compared with $82.5 million in 2000. The decrease
in 2001 compared to the same period in 2000 was due primarily to lower net
income and a decrease in distributions from our joint ventures, partially offset
by the receipt of a $10.0 million federal tax refund in 2001.

Capital Expenditures. Capital expenditures were $28.1 million in 2001 versus
$58.3 million in 2000. Aggregate capital expenditures of approximately $25.0
million are anticipated for 2002. To conserve cash, we intend to limit capital
expenditures for 2002 to cost reduction, productivity improvement and
replacement projects.

Acquisitions. In February 2000, we acquired all of the outstanding stock of
MilPak, Inc. in exchange for 248,132 shares of our common stock valued at $4.7
million and $4.7 million in cash. MilPak operates a facility

28

located in Pine Brook, New Jersey that provides blister packaging, cartoning and
labeling, and other contract packaging services.

In September 2000, we acquired all of the outstanding stock of Arrow Paper
Products Company in exchange for 342,743 shares of our common stock valued at
$5.1 million. Arrow is located in Saginaw, Michigan and operates two tube and
core converting facilities that serve customers in the automotive, film,
housewares and other specialty tube and core markets.

In October 2000, we acquired 100% of the membership interests in Crane
Carton Company, LLC in exchange for 1,659,790 shares of our common stock valued
at $19.0 million plus $5.8 million of assumed debt, including industrial
development bonds in the aggregate amount of $3.5 million. We issued 16,595 of
the shares in 2000 and the balance in 2001. Crane operates a single folding
carton manufacturing facility located in suburban Chicago, Illinois.

During the second quarter of 1999, we formed a joint venture with
Temple-Inland, Inc. to own and operate Temple-Inland's Newport, Indiana
containerboard mill. The joint venture, Premier Boxboard Limited LLC, undertook
a 14-month, $82.0 million project to modify the mill to enable it to produce a
new, lightweight gypsum facing paper along with other containerboard grades. The
mill began operations as modified at the beginning of the third quarter of 2000.
Under the joint venture agreement, we contributed $50.0 million to the joint
venture during the second quarter of 2000, and Temple-Inland contributed the net
assets of the mill and received $50.0 million in notes issued by Premier
Boxboard. Each partner has a 50% interest in the joint venture, and we account
for our interest in this joint venture under the equity method. Our subsidiary,
PBL Inc., manages the day-to-day operations of Premier Boxboard, pursuant to a
management agreement with Temple-Inland.

In April 1999, we purchased International Paper Company's Sprague boxboard
mill located in Versailles, Connecticut. This acquisition has had a significant
impact on our earnings in 2000 and 2001. Sprague incurred operating losses of
$17.2 million and $7.2 million in 2000 and 2001, respectively, including the
reversal of reserves related to unfavorable supply contracts. Excluding the
Sprague reserve reductions in 2000 and 2001, operating losses were $20.1 million
and $14.2 million, respectively, an improvement of $6.0 million. The losses were
attributable to a combination of unfavorable fixed price contracts, low capacity
utilization, high energy costs and higher fiber costs that we were unable to
pass through to our customers. Our primary objectives at Sprague have been to
improve quality, reduce costs and increase sales volume. We have made
significant progress in quality and cost and are beginning to realize the
benefits. Based on improvements we have made since the acquisition, we now
believe Sprague is competitive in terms of cost and quality, and we expect
Sprague's financial performance to improve with increases in sales volume.
Although we expect losses at Sprague to continue to decline, in light of current
difficult industry conditions, we do not expect Sprague to be profitable until
the second half of 2002.

Dividends. We paid cash dividends of $8.9 million in 2001 versus $18.5 million
in 2000. In February 2001, we reduced our first quarter dividend from $0.18 to
$0.09 per issued and outstanding common share. In June 2001, we reduced our
second, third and fourth quarter dividend from $0.09 to $0.03 per issued and
outstanding common share. As described below under "Subsequent Events", we have
temporarily suspended future payments of quarterly dividends, beginning in the
first quarter of 2002. We made these decisions to reduce the quarterly dividends
to preserve our financial flexibility in light of difficult industry conditions
and due to the limitations on dividend payments in our financial covenants.
Although our former debt agreements contained no specific limitations on the
payment of dividends, our current debt agreements contain certain limitations on
the payment of future dividends. We will need to earn at least $3.2 million in
net income before our debt covenants would permit us to resume payment of
quarterly dividends. We intend to continue assessing our ability to pay
quarterly dividends in light of difficult industry conditions, our need to
preserve financial flexibility and the limitations on dividends included in our
financial covenants.

Share Repurchases. We did not purchase any shares of our common stock during
1999, 2000 or 2001 under our common stock purchase plan. We have cumulatively
purchased 3,169,000 shares since January 1996. Our board of directors has
authorized purchases of up to 831,000 additional shares. However, our 9 7/8%
senior subordinated notes and our senior credit facility limit our ability to
purchase our common stock.

29

INFLATION

Raw material price changes have had, and continue to have, a material
effect on our operations. Energy prices had a material effect on our operations
in 2000 and 2001. We do not believe that general economic inflation is a
significant determinant of our raw material price increases or that, except as
it relates to energy prices, it has a material effect on our operations.

SUBSEQUENT EVENTS

In January 2002, we completed a third amendment to our senior credit
facility that modified the definitions of "Interest Expense," "Premier Boxboard
Interest Expense" and "Standard Gypsum Interest Expense" to include interest
income and the benefit or expense derived from interest rate swap agreements or
other interest hedge agreements. Additionally, the amendment lowered the minimum
allowable interest coverage ratio for the fourth quarter of 2001 from 2.5:1.0 to
2.25:1.0, the first quarter of 2002 from 2.75:1.0 to 2.25:1.0, and the second
quarter of 2002 from 2.75:1.0 to 2.50:1.0.

Also in January 2002, we entered into agreements with the PBL and Standard
Gypsum lenders that correspond to the amendments made in the third amendment to
the senior credit facility, as described above, in order to avoid events of
default under those guarantees resulting from a violation of the interest ratio
coverage covenants.

In February 2002, we announced that we would suspend future dividend
payments on our common stock until our earnings performance exceeds the dividend
limitation provision of our senior subordinated notes.

GEORGIA-PACIFIC LITIGATION

On May 9, 2001, we and Georgia-Pacific Corporation jointly announced a
tentative settlement regarding the litigation over the terms of the long-term
supply contract the parties entered in April 1996. The pending litigation
relating to that contract has been previously reported in our annual report on
Form 10-K for the year ended December 31, 2000 and in our previous quarterly
reports on Form 10-Q. Under the terms of the tentative settlement, we and G-P
Gypsum Corporation, a wholly-owned subsidiary of Georgia-Pacific, entered into a
new ten-year agreement under which we would supply a minimum of 50,000 tons of
gypsum facing paper per year to G-P Gypsum. Implementation of the new agreement,
and settlement of the pending litigation over the 1996 agreement, is subject to
satisfactory completion of a transition period. The transition period initially
was to expire no later than August 6, 2001. As described below, however, the
parties have twice agreed to extend the outside termination date of the
transition period, most recently to April 1, 2002. During the transition period,
we are supplying G-P Gypsum with such facing paper as it requests to enable it
to evaluate the paper's compliance with its specifications for quality and
end-use suitability. Once G-P Gypsum is satisfied with the paper, it is to
notify us that the transition period has ended, and at that time the term of the
new agreement, including the annual minimum quantity requirement described
above, is to commence. If and when the new agreement commences, the parties will
dismiss all pending litigation relating to the 1996 agreement. Under the terms
of the tentative settlement, either party may terminate its obligations under
the new agreement during the transition period without cause and without
liability to the other party.

During the second quarter of 2001, ongoing discussions with G-P Gypsum led
to a mutual agreement to extend the outside expiration date of the transition
period initially to December 31, 2001. The extension was the result of
Georgia-Pacific's recent curtailment of a significant portion of its gypsum
wallboard manufacturing capacity because of adverse market conditions. This
curtailment, along with Georgia-Pacific's stated reservations about committing
to the minimum tonnage requirement under the new agreement in light of current
market conditions, led the parties to agree to the extension of the transition
period. Continued recent discussions, however, have led the parties to agree to
further extend the outside expiration date of the transition period to April 1,
2002.

Although we believe that we are able to satisfy G-P Gypsum's product
requirements, we can give no assurance that the new agreement will be
implemented in accordance with its terms or that the pending litigation will be
dismissed. Specifically, we cannot predict whether Georgia-Pacific's recent
curtailment of

30

gypsum wallboard manufacturing capacity will further affect whether, when or how
a new agreement is implemented, including whether such curtailment will result
in modifications to the ultimate volume requirements under any new contract that
may be implemented. Accordingly, we believe that our operating results and
financial condition will continue to be materially and adversely affected by the
loss of contract volume from Georgia-Pacific unless and until a new supply
agreement is implemented with significant volume requirements, and until a new
supply agreement has been effective long enough to generate a substantial volume
of required purchases from Georgia-Pacific.

NEW ACCOUNTING PRONOUNCEMENTS

In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 133 established
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives), and for hedging activities. It also requires that an entity
recognize all derivatives as either assets or liabilities in the statement of
financial position and measure those instruments at fair value. In June 1999,
the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging
Activities -- Deferral of the Effective Date of FASB Statement 133." This
pronouncement deferred the effective date of SFAS No. 133 until the fiscal year
ending December 31, 2001. In June 2000, the FASB issued SFAS No. 138,
"Accounting for Certain Derivative Instruments and Certain Hedging Activities
(an Amendment of FASB No. 133)." This pronouncement amends the accounting and
reporting standards of SFAS No. 133 for certain derivative instruments and
hedging activities. We adopted SFAS No. 133, as amended, on January 1, 2001.
This pronouncement did not have a material impact on our consolidated financial
statements upon adoption.

In June 2001, the FASB issued SFAS No. 141, "Business Combinations" ("SFAS
No. 141") and SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS No.
142"). SFAS No. 141 supercedes Accounting Principles Board ("APB") Opinion No.
16 "Business Combinations" and SFAS No. 38, "Accounting for Preacquisition
Contingencies for Purchased Enterprises." SFAS No. 141 prescribes the accounting
principles for business combinations and requires that all business combinations
be accounted for using the purchase method of accounting. This pronouncement is
effective for all business combinations after June 30, 2001.

SFAS No. 142 supercedes APB Opinion No. 17, "Intangible Assets". This
pronouncement prescribes the accounting practices for goodwill and other
intangible assets. Under this pronouncement, goodwill will no longer be
amortized to earnings, but instead will be reviewed periodically (at least
annually) for impairment. As of December 31, 2001, we had $146.5 million of
recorded net goodwill, which will be subject to this new standard. During fiscal
year 2001, we recorded $3.0 million of goodwill amortization expense, net of
taxes. We adopted this standard effective January 1, 2002. We are currently
evaluating this pronouncement using an external advisor and will determine the
impact on our consolidated financial statements in accordance with the timing
provisions under this pronouncement.

In July 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" ("SFAS No. 143"). This pronouncement requires entities
to record the fair value of a liability for an asset retirement obligation in
the period in which it is incurred. When the liability is initially recorded,
the entity capitalizes the cost by increasing the carrying amount of the related
long-lived asset. Over time, the liability is accreted to its present value each
period and the capitalized cost is depreciated over the useful life of the
related asset. Upon settlement of the liability, the entity either settles the
obligation for the amount recorded or incurs a gain or loss. SFAS No. 143 is
effective for fiscal years beginning after June 15, 2002. We do not expect the
adoption of this pronouncement to have a material impact on our consolidated
financial statements.

In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"). This
pronouncement addresses financial accounting and reporting for the impairment or
disposal of long-lived assets and supercedes SFAS No. 121. SFAS No. 144 is
effective for fiscal years beginning after December 15, 2001. We adopted SFAS
No. 144 as of January 1, 2002. We do not expect the adoption of this
pronouncement to have a material impact on our consolidated financial
statements.

31

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

At December 31, 2001, we had outstanding borrowings of approximately $514.0
million related to the issuance of debt securities registered with the SEC. In
June of 1999, we issued $200.0 million of 7 3/8% senior notes at a discount to
yield an effective interest rate of 7.473%. The 7 3/8% senior notes pay interest
semiannually, and are our unsecured obligations. In March of 2001, we issued
$285.0 million of 9 7/8% senior subordinated notes and $29.0 million of 7 1/4%
senior notes. These notes were issued at a discount to yield effective interest
rates of 10.5% and 9.4%, respectively. These 9 7/8% senior subordinated notes
and the 7 1/4% senior notes pay interest semiannually, and are unsecured, but
are guaranteed, on a joint and several basis, by all of our domestic
subsidiaries, other than one that is not wholly-owned. As of December 31, 2001,
we had a senior credit facility that provides for a revolving line of credit in
the aggregate principal amount of $75.0 million for a term of three years,
including subfacilities of $10.0 million for swingline loans and $15.0 million
for letters of credit, usage of which reduces availability under the facility.
Interest is computed using our choice of either (a) the greater of the prime
rate or the federal funds rate plus one-half of 1 percent or (b) the adjusted
Eurodollar Interbank Offered Rate, in each case plus an applicable margin
determined by reference to our leverage ratio. Additionally, the undrawn portion
of the facility is subject to a facility fee at an annual rate that is also
based on our leverage ratio. No borrowings were outstanding under the facility
as of December 31, 2001, although approximately $9.8 million in letter of credit
obligations were outstanding.

During the second and third quarters of 2001, we entered into four interest
rate swap agreements in notional amounts totaling $285.0 million. The
agreements, which have payment and expiration dates that correspond to the terms
of the note obligations they cover, effectively converted $185.0 million of our
fixed rate 9 7/8% senior subordinated notes and $100.0 million of our fixed rate
7 3/8% senior notes into variable rate obligations. The variable rates are based
on the three-month LIBOR plus a fixed margin.

Our senior management establishes parameters, which are approved by the
board of directors, for our financial risk. We do not utilize derivatives for
speculative purposes. We adopted SFAS 133, "Accounting for Derivative
Instruments and Hedging Activities," effective January 1, 2001, which had no
material impact on our financial statements upon adoption.

The table below provides information about the Company's derivative
financial instruments and other financial instruments that are sensitive to
changes in interest rates, including interest rate swaps and debt obligations.
For debt obligations, the table presents principal cash flows and related
effective interest rates by expected maturity dates. For interest rate swaps,
the table presents notional amounts and weighted average interest rates by
expected (contractual) maturity dates. Notional amounts are used to calculate
the contractual payments to be exchanged under the contract. Weighted average
variable rates are based on the fixed spread plus the contractual three-month
LIBOR in effect at December 31, 2001.

- ---------------

(1) See Note 5 to the consolidated financial statements.
(2) The average receive rate represents the actual rates in effect at December
31, 2001.

32

ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA

CARAUSTAR INDUSTRIES, INC.

CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these consolidated balance
sheets.

33

CARAUSTAR INDUSTRIES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

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

34

CARAUSTAR INDUSTRIES, INC.

CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999
(IN THOUSANDS, EXCEPT SHARE DATA)
(NOTE 1)

The accompanying notes are an integral part of these consolidated statements of
shareholders' equity.

35

CARAUSTAR INDUSTRIES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

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

36

CARAUSTAR INDUSTRIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2001, 2000 AND 1999

1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

NATURE OF BUSINESS

Caraustar Industries, Inc. (the "Parent Company") and subsidiaries
(collectively, the "Company") are engaged in manufacturing, converting, and
marketing paperboard and related products.

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Parent
Company and its majority-owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated.

RECLASSIFICATIONS

Certain prior year balances have been reclassified to conform with the
current year presentation.

CASH AND CASH EQUIVALENTS

The Company considers cash on deposit and investments with an original
maturity of three months or less to be cash equivalents.

INVENTORIES

During the second quarter of 2001, the Company completed a restructuring
within the carton and custom packaging segment whereby certain subsidiaries were
merged into an existing subsidiary in that segment. The restructuring was
completed to simplify reporting and facilitate the management of segment
operations. In connection with this restructuring, the Company changed,
effective June 30, 2001, its inventory costing method of accounting for one of
the merged subsidiaries from LIFO to FIFO in order to conform with the
methodologies of the surviving subsidiary and all other Company-owned
subsidiaries. The accompanying financial statements have been restated for this
change. The effect of the change was to increase net assets as of June 30, 2001
and December 31, 2000 by $794,000 and $758,000, respectively. The effect on net
income for the years ended December 31, 2001, 2000 and 1999, was $36,000,
$33,000 and ($122,000), respectively.

Inventories are carried at the lower of cost or market. Cost includes
materials, labor and overhead. Market, with respect to all inventories, is
replacement cost or net realizable value. As described above, all inventories
are valued using the first-in, first-out method.

Inventories at December 31, 2001 and 2000 were as follows (in thousands):

PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment are stated at cost. When assets are retired
or otherwise disposed of, the related costs and accumulated depreciation are
removed from the accounts and any resulting gain or loss is reflected in income.
Expenditures for repairs and maintenance not considered to substantially
lengthen the asset lives or increase capacity or efficiency are charged to
expense as incurred.

37

For financial reporting purposes, depreciation is computed using the
straight-line method over the following estimated useful lives of the assets:

Buildings and improvements................................. 10-45 years
Machinery and equipment.................................... 3-20 years
Furniture and fixtures..................................... 5-10 years

USE OF ESTIMATES

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. For example, significant management
judgment is required in determining: the credit worthiness of customers and
collectibility of accounts receivable; excess, obsolete or unsaleable inventory
reserves; the potential impairment of goodwill; the accounting for income taxes;
the liability for self-insured claims; and the Company's obligation and expense
for pension and other postretirement benefits. Actual results could differ from
the Company's estimates.

REVENUE RECOGNITION

The Company's revenue recognition policies are in compliance with Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements,"
("SAB 101") issued by the Securities and Exchange Commission. The Company
recognizes revenue when the following four criteria are met: (1) persuasive
evidence of an arrangement exists; (2) delivery has occurred; (3) the selling
price is fixed and determinable; and (4) collectibility is reasonably assured.
Determination of criteria (4) is based on management's judgments regarding the
collectibility of the Company's accounts receivable.

SELF-INSURANCE

The Company is self-insured for the majority of its workers' compensation
costs and group health insurance costs, subject to specific retention levels.
Consulting actuaries and administrators assist the Company in determining its
liability for self-insured claims, and such liabilities are not discounted.

FOREIGN CURRENCY TRANSLATION

The financial statements of the Company's non-U.S. subsidiaries are
translated into U.S. dollars in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 52, "Foreign Currency Translation." Net assets
of the non-U.S. subsidiaries are translated at current rates of exchange. Income
and expense items are translated at the average exchange rate for the year. The
resulting translation adjustments are recorded in accumulated other
comprehensive loss. Certain other translation adjustments and transaction gains
and losses continue to be reported in net income and were not material in any
year.

GOODWILL

Goodwill is amortized using the straight-line method over periods ranging
up to 40 years. The Company has periodically evaluated goodwill for impairment.
In completing this evaluation, the Company estimated the future undiscounted
cash flows of the businesses to which goodwill related in order to determine
whether the carrying amount of goodwill had been impaired.

Effective January 1, 2002, the Company adopted SFAS No. 142, "Goodwill and
Other Intangible Assets." Under this pronouncement, goodwill will no longer be
amortized to earnings, but instead will be reviewed periodically (at least
annually) for impairment.

38

INCOME OR LOSS PER SHARE

The Company computes basic and diluted earnings or loss per share in
accordance with SFAS No. 128, "Earnings Per Share." Basic income or loss per
share excludes dilution and is computed by dividing income or loss available to
common shareholders by the weighted average number of common shares outstanding
for the period. Diluted income or loss per share reflects the potential dilution
that could occur if securities or other contracts to issue common stock were
exercised or converted into common stock. The dilutive effect of stock options
outstanding during 2000 and 1999 added 9,000 and 121,000, respectively, to the
weighted average shares outstanding for purposes of calculating diluted income
per share. There was no dilutive effect of stock options outstanding during
2001.

COMPREHENSIVE INCOME

Total comprehensive loss or income, consisting of net loss or income plus
other nonowner changes in equity for the years ended December 31, 2001, 2000 and
1999, was a loss of $14,659,000 and income of $7,956,000 and $43,738,000,
respectively. Accumulated other comprehensive loss at December 31, 2001 and 2000
consisted of foreign currency translation adjustments of $810,000 and $753,000,
respectively.

NEW ACCOUNTING PRONOUNCEMENTS

In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 133 established
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives), and for hedging activities. It also requires that an entity
recognize all derivatives as either assets or liabilities in the statement of
financial position and measure those instruments at fair value. In June 1999,
the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging
Activities -- Deferral of the Effective Date of FASB Statement 133." This
pronouncement deferred the effective date of SFAS No. 133 until the fiscal year
ending December 31, 2001. In June 2000, the FASB issued SFAS No. 138,
"Accounting for Certain Derivative Instruments and Certain Hedging Activities
(an Amendment of FASB No. 133)." This pronouncement amends the accounting and
reporting standards of SFAS No. 133 for certain derivative instruments and
hedging activities. The Company adopted SFAS No. 133, as amended, on January 1,
2001. This pronouncement did not have a material impact on the Company's
consolidated financial statements upon adoption.

In June 2001, the FASB issued SFAS No. 141, "Business Combinations" ("SFAS
No. 141") and SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS No.
142"). SFAS No. 141 supercedes Accounting Principles Board ("APB") Opinion No.
16 "Business Combinations" and SFAS No. 38, "Accounting for Preacquisition
Contingencies for Purchased Enterprises." SFAS No. 141 prescribes the accounting
principles for business combinations and requires that all business combinations
be accounted for using the purchase method of accounting. This pronouncement is
effective for all business combinations after June 30, 2001.

SFAS No. 142 supercedes APB Opinion No. 17, "Intangible Assets". This
pronouncement prescribes the accounting practices for goodwill and other
intangible assets. Under this pronouncement, goodwill will no longer be
amortized to earnings, but instead will be reviewed periodically (at least
annually) for impairment. As of December 31, 2001, the Company had $146,465,000
of recorded net goodwill, which will be subject to this new pronouncement.
During fiscal year 2001, the Company recorded $2,996,000 of goodwill
amortization expense, net of taxes. The Company adopted this pronouncement
effective January 1, 2002. The Company is currently evaluating this
pronouncement using an external advisor and will determine the impact on its
consolidated financial statements in accordance with the timing provisions under
this pronouncement.

In July 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" ("SFAS no. 143"). This pronouncement requires entities
to record the fair value of a liability for an asset retirement obligation in
the period in which it is incurred. When the liability is initially recorded,
the entity capitalizes the cost by increasing the carrying amount of the related
long-lived asset. Over time, the liability is accreted to its present value each
period and the capitalized cost is depreciated over the useful life of the
related asset. Upon

39

settlement of the liability, the entity either settles the obligation for the
amount recorded or incurs a gain or loss. SFAS No. 143 is effective for fiscal
years beginning after June 15, 2002. The Company does not expect the adoption of
this pronouncement to have a material impact on its consolidated financial
statements.

In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"). This
pronouncement addresses financial accounting and reporting for the impairment or
disposal of long-lived assets and supercedes SFAS No. 121. SFAS No. 144 is
effective for fiscal years beginning after December 15, 2001. The Company
adopted SFAS No. 144 as of January 1, 2002. The Company does not expect the
adoption of this pronouncement to have a material impact on its consolidated
financial statements.

2. SHAREHOLDERS' EQUITY

PREFERRED STOCK

The Company has authorized 5,000,000 shares of $0.10 par value preferred
stock. The preferred stock is issuable from time to time in one or more series
and with such designations and preferences for each series as shall be stated in
the resolutions providing for the designation and issue of each such series
adopted by the board of directors of the Company. The board of directors is
authorized by the Company's articles of incorporation to determine the voting,
dividend, redemption, and liquidation preferences pertaining to each such
series. No shares of preferred stock have been issued by the Company.

COMMON STOCK PURCHASE PLAN

The Company has cumulatively purchased 3,169,000 shares of its common stock
since January 1996 pursuant to a plan authorized and approved by its board of
directors allowing purchases of up to 4,000,000 common shares. The Company's
board of directors has authorized purchases of up to 831,000 additional shares.
There were no stock purchases in 2001, 2000 or 1999. The Company's 9 7/8% senior
subordinated notes and its senior credit facility limit its ability to
repurchase its common stock.

3. ACQUISITIONS

Each of the following acquisitions is being accounted for under the
purchase method of accounting, applying the provisions of Accounting Principles
Board ("APB") Opinion No. 16. As a result, the Company recorded the assets and
liabilities of the acquired companies at their estimated fair value with the
excess of the purchase price over these amounts being recorded as goodwill.
Actual allocations of goodwill and other identifiable assets will be based on
further studies and may change during the allocation period, generally one year
following the date of acquisition. The financial statements for the years ended
December 31, 2001, 2000 and 1999 reflect the operations of the acquired
businesses for the periods after their respective dates of acquisition.

In February 2000, the Company acquired all of the outstanding stock of
MilPak, Inc. in exchange for cash of $4,700,000 and 248,132 shares of the
Company's common stock valued at $4,700,000. MilPak operates a facility located
in Pine Brook, New Jersey, that provides blister packaging, cartoning and
labeling and other contract packaging services. Goodwill of approximately
$6,100,000 was recorded in connection with the acquisition.

In September 2000, the Company acquired all of the outstanding stock of
Arrow Paper Products Company in exchange for 342,743 shares of the Company's
common stock valued at $5,100,000. Arrow is located in Saginaw, Michigan and
operates two tube and core converting facilities that serve customers in the
automotive, film, housewares and other specialty tube and core markets. Goodwill
of approximately $4,100,000 was recorded in connection with the acquisition.

In October 2000, the Company acquired 100 percent of the membership
interests in Crane Carton Company, LLC in exchange for 1,659,790 shares of the
Company's common stock valued at $19,000,000 plus $5,800,000 of assumed debt.
The Company issued 16,595 of the shares in 2000 and the balance in 2001. Crane

40

operates a single folding carton manufacturing facility located in suburban
Chicago, Illinois. Goodwill of approximately $4,700,000 was recorded in
connection with the acquisition.

The following unaudited pro forma financial information assumes that the
above acquisitions occurred on January 1, 2000. These results have been prepared
for comparative purposes only and do not purport to be indicative of what would
have resulted had the acquisitions occurred on January 1, 2000 or the results
that may occur in the future (in thousands, except per share data):

4. EQUITY INTEREST IN UNCONSOLIDATED AFFILIATES

On April 1, 1996, the Company transferred substantially all of the
operating assets and liabilities of its wholly-owned subsidiary, Standard Gypsum
Corporation, a producer of gypsum wallboard, to a newly formed limited liability
company, Standard Gypsum, L.P. ("Standard"). Simultaneous with the formation of
Standard, the Company sold a 50 percent interest in Standard to Temple-Inland
Forest Products Corporation ("Temple"), an unrelated third party, for
$10,800,000 in cash. Standard is operated as a joint venture managed by Temple.
The Company accounts for its interest in Standard under the equity method of
accounting. The Company's equity interest in the (loss)/earnings of Standard for
the years ended December 31, 2001, 2000 and 1999 was ($946,000), $7,358,000 and
$9,064,000, respectively. The Company received distributions based on its equity
interest in Standard of $1,000,000, $13,500,000 and $1,000,000 in 2001, 2000 and
1999, respectively.

During April 1998, Standard entered into a loan agreement with a financial
institution for a credit facility in an amount not to exceed $61,000,000.
Proceeds of the new credit facility were used to fund the construction of a
green field gypsum wallboard plant in Cumberland City, Tennessee, which began
operation in the fourth quarter of 1999. During 1999, Standard received
financing from two industrial revenue bond issuances by Stewart County,
Tennessee, totaling $56,200,000. The proceeds of the bond issuances were used to
repay the borrowings under the credit facility and fund the remaining
construction of the plant. In addition, the Company guarantees one-half of
Standard's credit facility. At December 31, 2001 and 2000, the Company's portion
of this guaranteed debt totaled approximately $28,100,000. The Company's
guarantee of the Standard credit facility contains financial maintenance
covenants, as amended in the first quarter of 2001, and both the Standard credit
facility and the Company's senior credit facility contain a cross-default to
these covenants. In January 2002, the Company obtained an amendment under the
guarantee to lower the minimum allowable interest coverage ratio for the fourth
quarter of 2001 through the second quarter of 2002 in order to avoid an event of
default resulting from a violation of the interest coverage ratio covenant.
After giving effect to this amendment, the Company was in compliance with all
financial maintenance covenants under the guarantee at December 31, 2001 and
Standard was in compliance with all covenants under its credit facility.

Summarized financial information for Standard at December 31, 2001 and 2000
and for the years ended December 31, 2001, 2000 and 1999, respectively, is as
follows (in thousands):

During 1999, the Company formed a joint venture with Temple to own and
operate a containerboard mill located in Newport, Indiana. Upon formation, the
joint venture, Premier Boxboard Limited LLC ("PBL"), undertook an $82,000,000
project to modify the mill to enable it to produce a new lightweight gypsum
facing paper along with other containerboard grades. PBL is operated as a joint
venture managed by the Company. The modified mill began operations on June 27,
2000. The Company and Temple each have a 50 percent interest in the joint
venture, which is being accounted for under the equity method of accounting.
There were no distributions in 2001 and 2000. Expenses related to the joint
venture were not material in 1999. The Company's equity interest in the net loss
of PBL for 2001 and 2000 was approximately $1,892,000 and $881,000,
respectively.

Under the joint venture agreement, the Company contributed $50,000,000 to
the joint venture during the second quarter of 2000 and Temple contributed the
net assets of the mill valued at approximately $98,000,000, and received
$50,000,000 in notes issued by PBL. In addition, the Company has guaranteed
one-half of a revolving line of credit obtained by PBL. At December 31, 2001 and
2000, the Company's portion of this guaranteed debt totaled approximately
$10,100,000 and $15,000,000, respectively. The Company's guarantee of PBL's
revolving line of credit contains financial maintenance covenants, as amended in
the first quarter of 2001, and both PBL's revolving line of credit and the
Company's senior credit facility contain a cross-default to these covenants. In
January 2002, the Company obtained an amendment under the guarantee to lower the
minimum allowable interest coverage ratio for the fourth quarter of 2001 through
the second quarter of 2002 in order to avoid an event of default resulting from
a violation of the interest coverage ratio covenant. After giving effect to this
amendment, the Company was in compliance with all financial maintenance
covenants under the guarantee at December 31, 2001 and PBL was in compliance
with all covenants under its line of credit.

Summarized financial information for PBL at December 31, 2001 and 2000 and
for the years then ended is as follows (in thousands):

The Company has an additional joint venture with an unrelated entity which
is accounted for under the equity method of accounting. The Company's investment
and share of earnings of this venture are not material to the Company.

42

5. SENIOR CREDIT FACILITY AND OTHER LONG TERM DEBT

At December 31, 2001 and 2000, total long-term debt consisted of the
following (in thousands):

The amounts of total debt outstanding at December 31, 2001 maturing during
the next five years and thereafter are as follows (in thousands):

2002........................................................ $ 48
2003........................................................ --
2004........................................................ --
2005........................................................ --
2006........................................................ --
Thereafter.................................................. 508,691
--------
Total debt.................................................. $508,739
========

The Company had a $400,000,000 five-year bank senior credit facility
("former senior credit facility") as of December 31, 2000. Interest under the
former senior credit facility was computed using the Company's choice of (a) the
Eurodollar rate plus a margin or (b) the higher of (i) the federal funds rate
plus a margin or (ii) the bank's prime lending rate. As of December 31, 2000,
borrowings of $194,000,000 were outstanding under the former senior credit
facility at a weighted average interest rate of 7.27 percent. As of December 31,
2000, the Company was not in compliance with certain covenants under the former
senior credit facility that the lenders waived through the first quarter of
2001.

On March 29, 2001, the Company obtained a new credit facility that provides
for a revolving line of credit in the aggregate principal amount of $75,000,000
for a term of three years, including subfacilities of $10,000,000 for swingline
loans and $15,000,000 for letters of credit, usage of which reduces availability
under the facility. No borrowings were outstanding under the facility as of
December 31, 2001, although an aggregate of $9,849,000 in letter of credit
obligations were outstanding. The Company intends to use the facility for
working capital, capital expenditures and other general corporate purposes.
Although the facility is unsecured, the Company's obligations under the facility
are unconditionally guaranteed, on a joint and several basis, by all of its
existing and subsequently acquired wholly-owned domestic subsidiaries.

Borrowings under the facility bear interest at a rate equal to, at the
Company's option, either (1) the base rate (which is equal to the greater of the
prime rate most recently announced by Bank of America, N.A., the administrative
agent under the facility, or the federal funds rate plus one-half of 1 percent)
or (2) the adjusted Eurodollar Interbank Offered Rate, in each case plus an
applicable margin determined by reference to the Company's leverage ratio (which
is defined under the facility as the ratio of the Company's total debt to its
total capitalization). Based on the Company's leverage ratio at December 31,
2001, the current margins are 2.0 percent for Eurodollar rate loans and 0.75
percent for base rate loans. Additionally, the undrawn portion of the facility
is subject to a facility fee at an annual rate that is currently set at 0.5
percent based on the Company's leverage ratio at December 31, 2001.

The facility contains covenants that restrict, among other things, the
Company's ability and its subsidiaries' ability to create liens, merge or
consolidate, dispose of assets, incur indebtedness and guarantees,

43

pay dividends, repurchase or redeem capital stock and indebtedness, make certain
investments or acquisitions, enter into certain transactions with affiliates,
make capital expenditures or change the nature of the Company's business. The
facility also contains several financial maintenance covenants, including
covenants establishing a maximum leverage ratio (as described above), minimum
tangible net worth and a minimum interest coverage ratio.

The facility contains events of default including, but not limited to,
nonpayment of principal or interest, violation of covenants, incorrectness of
representations and warranties, cross-default to other indebtedness, bankruptcy
and other insolvency events, material judgments, certain ERISA events, actual or
asserted invalidity of loan documentation and certain changes of control of the
Company.

During the third and fourth quarters of 2001 and the first quarter of 2002,
the Company completed three amendments to its senior credit facility agreement.
The first amendment, dated September 10, 2001, allows the Company to acquire up
to $30,000,000 of its senior subordinated notes so long as no default or event
of default exists on the date of the transaction, or will result from the
transaction.

The second amendment, dated November 30, 2001, provides for the issuance of
letters of credit under the senior credit facility having an original expiration
date more than one year from the date of issuance, if required under related
industrial revenue bond documents and agreed to by the issuing lender.

See "Subsequent Events" (Note 14), which details the third amendment to the
senior credit facility. This amendment was completed on January 22, 2002 with an
effective date of September 30, 2001. The Company obtained this amendment in
order to avoid the occurrence of an event of default under its senior credit
facility agreement resulting from a violation of the interest coverage ratio
covenant contained in this agreement.

On March 22, 2001, the Company obtained commitments and executed an
agreement for the issuance of $285,000,000 of 9 7/8 percent senior subordinated
notes due April 1, 2011 and $29,000,000 of 7 1/4 percent senior notes due May 1,
2010. These senior subordinated notes and senior notes were issued at a discount
to yield effective interest rates of 10.5 percent and 9.4 percent, respectively.
Under the terms of the agreement, the Company received aggregate proceeds, net
of issuance costs, of approximately $291,200,000 on March 29, 2001. These
proceeds were used to repay borrowings outstanding under the Company's former
senior credit facility and its 7.74 percent senior notes. As of December 31,
2000, the Company was not in compliance with certain covenants under its former
senior credit facility and its 7.74 percent senior notes that the lenders waived
through the first quarter of 2001. In connection with the repayment of the 7.74
percent senior notes, the Company incurred a prepayment penalty of approximately
$3,600,000. The Company recorded an extraordinary loss of $2,695,000 which
includes the prepayment penalty and unamortized issuance costs of $705,000, net
of tax benefit of $1,610,000. The difference between issue price and principal
amount at maturity of the Company's 7 1/4 percent senior and 9 7/8 percent
senior subordinated notes will be accreted each year as interest expense in its
financial statements. These notes are unsecured, but are guaranteed, on a joint
and several basis, by all of the Company's domestic subsidiaries, other than one
that is not wholly-owned.

During 1998, the Company registered with the Securities and Exchange
Commission a total of $300,000,000 in public debt securities for issuance in one
or more series and with such specific terms as to be determined from time to
time. On June 1, 1999, the Company issued $200,000,000 in aggregate principal
amount of its 7 3/8 percent notes due June 1, 2009. The 7 3/8 percent notes were
issued at a discount to yield an effective interest rate of 7.473 percent and
pay interest semiannually. The 7 3/8 percent notes are unsecured obligations of
the Company.

During the second and third quarters of 2001, the Company entered into four
interest rate swap agreements in notional amounts totaling $285,000,000. The
agreements, which have payment and expiration dates that correspond to the terms
of the note obligations they cover, effectively converted $185,000,000 of the
Company's fixed rate 9 7/8 percent senior subordinated notes and $100,000,000 of
the Company's fixed rate 7 3/8 percent senior notes into variable rate
obligations. The variable rates are based on the three-month LIBOR plus a fixed
margin.

44

The following table identifies the debt instrument hedged, the notional
amount, the fixed spread and the three-month LIBOR at December 31, 2001 for each
of the Company's interest rate swaps. The December 31, 2001 three-month LIBOR is
presented for informational purposes only and does not represent the Company's
actual effective rates in place at December 31, 2001.

In October 2001, the Company unwound its $185,000,000 interest rate swap
agreement related to the 9 7/8 percent senior subordinated notes and received
$9,093,000 from the bank counter-party. Simultaneously, the Company executed a
new swap agreement with a fixed margin that was 85 basis points higher than the
original swap agreement. The new swap agreement is the same notional amount, has
the same terms and covers the same notes as the original agreement. The
$9,093,000 gain will be accreted to interest expense over the life of the notes
and will partially offset the increase in interest expense. The Company executed
these transactions in order to take advantage of current market conditions.

The Company has assumed no ineffectiveness with respect to its four
interest rate swap agreements, as it believes that the conditions for such an
assumption are met under the guidelines of Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities." The fair value of the swap agreements of approximately $7,418,000
as of December 31, 2001 has been reflected in other long-term liabilities and
long-term debt in the accompanying balance sheet.

6. COMMITMENTS AND CONTINGENCIES

LEASES

The Company leases certain buildings, machinery, and transportation
equipment under operating lease agreements expiring at various dates through
2022. Certain rental payments for transportation equipment are based on a fixed
rate plus an additional amount for mileage. Rental expense on operating leases
for the years ended December 31, 2001, 2000 and 1999 is as follows (in
thousands):

The following is a schedule of future minimum rental payments required
under leases that have initial or remaining noncancelable lease terms in excess
of one year as of December 31, 2001 (in thousands):

2002........................................................ $13,410
2003........................................................ 9,827
2004........................................................ 7,207
2005........................................................ 4,792
2006........................................................ 4,046
Thereafter.................................................. 12,642
-------
Total....................................................... $51,924
=======

45

LITIGATION

On May 9, 2001, the Company and a significant customer jointly announced a
tentative settlement regarding the litigation over the terms of the long-term
supply contract the parties entered in April 1996. The pending litigation
relating to that contract has been previously reported in the Company's annual
report on Form 10-K for the year ended December 31, 2000 and in the previous
quarterly reports on Form 10-Q. Under the terms of the tentative settlement, the
Company and a wholly-owned subsidiary of the customer have entered into a new
ten-year agreement under which the Company would supply a minimum of 50,000 tons
of gypsum facing paper per year to the customer. Implementation of the new
agreement, and settlement of the pending litigation over the 1996 agreement, is
subject to satisfactory completion of a transition period. The transition period
initially was to expire no later than August 6, 2001. As described below,
however, the parties have twice agreed to extend the outside termination date of
the transition period, most recently to April 1, 2002. During the transition
period, the Company is supplying the customer with such facing paper as it
requests to enable it to evaluate the paper's compliance with its specifications
for quality and end-use suitability. Once the customer is satisfied with the
paper, it is to notify the Company that the transition period has ended, and at
that time the term of the new agreement, including the annual minimum quantity
requirement described above, is to commence. If and when the new agreement
commences, the parties will dismiss all pending litigation relating to the 1996
agreement. Under the terms of the tentative settlement, either party may
terminate its obligations under the new agreement during the transition period
without cause and without liability to the other party.

During the second quarter of 2001, ongoing discussions with the customer
led to a mutual agreement to extend the outside expiration date of the
transition period initially to December 31, 2001. The extension was the result
of the customer's recent curtailment of a significant portion of its gypsum
wallboard manufacturing capacity because of adverse market conditions. This
curtailment, along with the customer's stated reservations about committing to
the minimum tonnage requirement under the new agreement in light of current
market conditions, led the parties to agree to the extension of the transition
period. Continued recent discussions, however, have led the parties to agree to
further extend the outside expiration date of the transition period to April 1,
2002.

Although the Company believes that it will be able to satisfy the
customer's product requirements, the Company can give no assurance that the new
agreement will be implemented in accordance with its terms or that the pending
litigation will be dismissed. Specifically, the Company cannot predict whether
the customer's recent curtailment of gypsum wallboard manufacturing capacity
will further affect whether, when or how a new agreement is implemented,
including whether such curtailment will result in modifications to the ultimate
volume requirements under any new contract that may be implemented. Accordingly,
the Company believes that its operating results and financial condition will
continue to be materially and adversely affected by the loss of contract volume
from the customer unless and until a new supply agreement is implemented with
significant volume requirements, and until a new supply agreement has been
effective long enough to generate a substantial volume of required purchases
from the customer.

The Company is involved in certain other litigation arising in the ordinary
course of business. In the opinion of management, the ultimate resolution of
these matters will not have a material adverse effect on the Company's financial
condition or results of operations.

7. STOCK OPTION AND DEFERRED COMPENSATION PLANS

DIRECTOR EQUITY PLAN

During 1996, the Company's board of directors approved a director equity
plan. Under the plan, directors who are not employees or former employees of the
Company ("Eligible Directors") are paid a portion of their fees in the Company's
common stock. Additionally, each Eligible Director is granted an option to
purchase 1,000 shares of the Company's common stock at an option price equal to
the fair market value at the date of grant. These options are immediately
exercisable and expire ten years following the grant. A maximum of 100,000
shares of common stock may be granted under this plan. During 2001, 2000 and
1999, 8,339, 4,171

46

and 2,930 shares, respectively, of common stock and options to purchase 6,000
shares of common stock were issued under this plan in each year.

INCENTIVE STOCK OPTION AND BONUS PLANS

During 1992, the Company's board of directors approved a qualified
incentive stock option and bonus plan (the "1993 Plan"), which became effective
January 1, 1993 and terminated December 31, 1997. Under the provisions of the
1993 Plan, selected members of management received one share of common stock
("bonus share") for each two shares purchased at market value. In addition, the
1993 Plan provided for the issuance of options at prices not less than market
value at the date of grant. The options and bonus shares awarded under the 1993
Plan are subject to four-year and five-year respective vesting periods. The
Company's board of directors authorized 1,400,000 common shares for grant under
the 1993 Plan. Compensation expense of approximately $186,000, $246,000 and
$336,000 related to bonus shares was recorded in 2001, 2000 and 1999,
respectively.

During 1998, the Company's board of directors approved a qualified
incentive stock option and bonus plan (the "1998 Plan"), which became effective
March 10, 1998. Under the provisions of the 1998 Plan, selected members of
management may receive the right to acquire one share of restricted stock
contingent upon the direct purchase of two shares of unrestricted common stock
at market value. In addition, the 1998 Plan provides for the issuance of both
traditional and performance stock options at market price and 120 percent of
market price, respectively. Restricted stock and options awarded under the 1998
Plan are subject to five-year vesting periods and the options expire after ten
years. The Company's board of directors authorized 3,800,000 common shares for
grant under the 1998 Plan. During 2001, 2000 and 1999, the Company issued
108,323, 784,621 and 363,728 options, respectively, under the 1998 Plan. During
2001, 2000 and 1999, the Company issued 759, 10,699 and 9,374 shares,
respectively, of restricted stock. The Company recorded approximately $82,000,
$105,000 and $20,000 of compensation expense related to the issuance of
restricted stock during 2001, 2000 and 1999, respectively.

A summary of stock option activity for the years ended December 31, 2001,
2000 and 1999 is as follows:

47

Summary information about the Company's stock options outstanding at
December 31, 2001 is as follows:

As permitted by SFAS No. 123, "Accounting for Stock-Based Compensation,"
the Company accounts for the director equity plan and the incentive stock option
and bonus plans under APB Opinion No. 25; however, the Company has computed for
pro forma disclosure purposes the value of all options granted during 2001, 2000
and 1999 using the Black-Scholes option pricing model as prescribed by SFAS No.
123 using the following weighted average assumptions for grants in 2001, 2000
and 1999:

The total values of the options granted during the years ended December 31,
2001, 2000 and 1999 were computed to be approximately $470,000, $3,681,000 and
$2,600,000, respectively, which would be amortized over the vesting period of
the options. If the Company had accounted for these plans in accordance with
SFAS No. 123, the Company's reported and pro forma net (loss) income and net
(loss) income per share for the years ended December 31, 2001, 2000 and 1999
would have been as follows (in thousands, except per share data):

DEFERRED COMPENSATION PLANS

The Parent Company and certain of its subsidiaries have deferred
compensation plans for several of their present and former officers and key
employees. These plans provide for retirement, involuntary termination, and
death benefits. The involuntary termination and retirement benefits are accrued
over the period of active employment from the execution dates of the plans to
the normal retirement dates (age 65) of the employees covered. Deferred
compensation expense applicable to the plans was approximately $226,000,
$227,000 and $292,000 for the years ended December 31, 2001, 2000 and 1999,
respectively. Accruals of approximately $1,687,000 and $2,096,000 related to
these plans are included in deferred compensation in the accompanying balance
sheets at December 31, 2001 and 2000, respectively.

48

8. PENSION PLAN AND OTHER POSTRETIREMENT BENEFITS

PENSION PLAN AND SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN

Substantially all of the Company's employees participate in a
noncontributory defined benefit pension plan (the "Pension Plan"). The Pension
Plan calls for benefits to be paid to all eligible employees at retirement based
primarily on years of service with the Company and compensation rates in effect
near retirement. The Pension Plan's assets consist of shares held in collective
investment funds and group annuity contracts. The Company's policy is to fund
benefits attributed to employees' service to date as well as service expected to
be earned in the future. Contributions to the Pension Plan totaled approximately
$8,313,000, $5,116,000 and $5,526,000 in 2001, 2000 and 1999, respectively.

Effective December 31, 1998, the Company adopted SFAS No. 132, "Employers'
Disclosures About Pensions and Other Postretirement Benefits." The provisions of
SFAS No. 132 revise employers' disclosures about pension and other
postretirement benefit plans. SFAS No. 132 does not change the measurement or
recognition of these plans. It standardizes the disclosure requirements for
pensions and other postretirement benefits.

During 1996, the Company adopted a supplemental executive retirement plan
("SERP"), which provides benefits to participants based on average compensation.
The SERP covers certain executives of the Company commencing upon retirement.
The SERP is unfunded at December 31, 2001.

Pension expense for the Pension Plan and the SERP includes the following
components for the years ended December 31, 2001, 2000 and 1999 (in thousands):

The table below represents a reconciliation of the funded status of the
SERP and the Pension Plan to (accrued) prepaid pension cost as of December 31,
2001 and 2000 (in thousands):

In accordance with SFAS No. 87, the Company has recorded an additional
minimum pension liability related to its SERP plan representing the excess of
unfunded accumulated benefit obligations over previously recorded pension
liabilities. The cumulative additional liability totaled $675,000 and $1,130,000
at December 31, 2001 and 2000, respectively, and has been offset by intangible
assets to the extent of previously unrecognized prior service costs.

Net pension expense and projected benefit obligations are calculated using
assumptions of weighted average discount rates, future compensation levels, and
expected long-term rates of return on assets. The weighted average discount rate
used to measure the projected benefit obligation at December 31, 2001 and 2000
is 7.5 percent and 7.75 percent, respectively, including adjustments for
specific attributes of the Company's pension plan (e.g. duration of payments)
made in consultation with the Company's actuaries. The rate of increase in
future compensation levels is 3.0 percent at December 31, 2001 and 2000, and the
expected long-term rate of return on assets is 9.5 percent.

OTHER POSTRETIREMENT BENEFITS

The Company provides postretirement medical benefits at certain of its
subsidiaries. The Company accounts for these postretirement medical benefits in
accordance with SFAS No. 132.

Net periodic postretirement benefit cost for the years ended December 31,
2001, 2000 and 1999 included the following components (in thousands):

Postretirement benefits totaling $650,000, $683,000 and $550,000 were paid
during 2001, 2000 and 1999, respectively.

50

The accrued postretirement benefit cost as of December 31, 2001 and 2000
consists of the following (in thousands):

The accumulated postretirement benefit obligations at December 31, 2001 and
2000 were determined using a weighted average discount rate of 7.5 percent and
7.75 percent, respectively. The rate of increase in the costs of covered health
care benefits is assumed to be 9.0 percent in 2001, decreasing 0.5 percent each
year to 4.5 percent by the year 2010. Increasing the assumed health care costs
trend rate by one percentage point would increase the accumulated postretirement
benefit obligation as of December 31, 2001 by approximately $692,000 and would
increase net periodic postretirement benefit cost by approximately $61,000 for
the year ended December 31, 2001.

9. INCOME TAXES

The Company accounts for income taxes in accordance with SFAS No. 109,
"Accounting for Income Taxes," which requires the use of the liability method of
accounting for deferred income taxes.

The provision for income taxes for the years ended December 31, 2001, 2000
and 1999 consisted of the following (in thousands):

51

The principal differences between the federal statutory tax rate and the
provision for income taxes for the years ended December 31, 2001, 2000 and 1999
are as follows:

Significant components of the Company's deferred income tax assets and
liabilities as of December 31, 2001 and 2000 are summarized as follows (in
thousands):

At December 31, 2001, the Company has state net operating losses of
$9,339,000 which will expire in varying amounts between 2004 and 2021. The
Company has a valuation allowance of $3,356,000 at December 31, 2001 for
estimated future impairment related to the state net operating losses. The
Company also has state tax credit carryforwards of approximately $2,595,000
which will expire in varying amounts between 2004 and 2016. The Company recorded
a valuation allowance of $2,438,000 at December 31, 2001 for estimated future
impairment related to the state tax credit carryforwards.

52

10. QUARTERLY FINANCIAL DATA (UNAUDITED)

The following table sets forth certain quarterly financial data for the
periods indicated (in thousands, except per share data):

11. SEGMENT INFORMATION

The Company operates principally in three business segments organized by
products. The paperboard segment consists of facilities that manufacture 100
percent recycled uncoated and clay-coated paperboard and facilities that collect
recycled paper and broker recycled paper and other paper rolls. The tube, core,
and composite container segment is principally made up of facilities that
produce spiral and convolute-wound tubes, cores, and cans. The carton and custom
packaging segment consists of facilities that produce printed and unprinted
folding and set-up cartons and facilities that provide contract manufacturing
and contract packaging services. Intersegment sales are recorded at prices which
approximate market prices. Sales to external customers located in foreign
countries accounted for approximately 7.3 percent of the Company's sales for
2001 and 6.4 percent for 2000 and 1999.

Operating income includes all costs and expenses directly related to the
segment involved. Corporate expenses include corporate, general, administrative,
and unallocated information systems expenses.

Identifiable assets are accumulated by facility within each business
segment. Corporate assets consist primarily of cash and cash equivalents;
refundable income taxes; property, plant, and equipment; and investments in
unconsolidated affiliates.

The following table presents certain business segment information for the
years ended December 31, 2001, 2000 and 1999 (in thousands):

- ---------------

(A) Results for 2001 include a charge to operations of $4,447,000 for
restructuring costs related to the closing of the Chicago, Illinois
paperboard mill. Results for 2001 also include a $7,100,000 reduction in
reserves relating to expiring unfavorable supply contracts at the Sprague
paperboard mill. Results for 2000 include charges to operations of
$6,913,000 and $8,564,000 for restructuring costs related to the closing of
the Baltimore, Maryland and Camden, New Jersey paperboard mills,
respectively. These were related to the paperboard segment and are reflected
in the segment's operating income. (Note 12)

54

(B) Results for 2001 include a charge to operations of $2,636,000 related to the
consolidation of the operations of the Salt Lake City, Utah carton plant
into the Denver, Colorado carton plant. This charge was related to the
carton and custom packaging segment and is reflected in the segment's
operating income. (Note 12)

(C) Results for 2000 include a nonrecurring charge of $1,300,000 related to the
settlement of a dispute over abandoned property.

12. RESTRUCTURING AND OTHER NONRECURRING COSTS

In February 2000, the Company initiated a plan to close its paperboard mill
located in Baltimore, Maryland and recorded a charge to operations of
approximately $6,913,000. The plan to close the mill was adopted in conjunction
with the Company's ongoing efforts to increase manufacturing efficiency and
reduce costs in its mill system. The $6,913,000 charge included a $5,696,000
noncash asset impairment charge to write-down machinery and equipment to
estimated net realizable value. The charge also included a $604,000 accrual for
severance and termination benefits for 21 salaried and 83 hourly employees
terminated in connection with this plan and a $613,000 accrual for other exit
costs. All exit costs were paid as of December 31, 2000. As of December 31,
2001, one employee remained to assist in marketing the land and building. The
Company will complete the exit plan upon the sale of the property, which is
anticipated to occur prior to December 31, 2002. The mill closure did not have a
material impact on the Company's operations.

In September 2000, the Company initiated a plan to close its paperboard
mill located in Camden, New Jersey and recorded a pretax charge to operations of
approximately $8,564,000. The mill experienced a slowdown in gypsum facing paper
shipments during the third quarter of 2000, and the shut down was precipitated
by the refusal of the Company's largest gypsum facing paper customer to continue
purchasing facing paper under a long-term supply agreement. The $8,564,000
charge included a $7,038,000 noncash asset impairment write down of fixed assets
to estimated net realizable value and a $558,000 accrual for severance and
termination benefits for 19 salaried and 46 hourly employees terminated in
connection with this plan as well as a $968,000 accrual for other exit costs.
The remaining other exit costs will be paid by June 30, 2002. As of December 31,
2001, no employees remained at the mill. The Company is marketing the property
and will complete the exit plan upon the sale of the property, which it
anticipates will occur prior to December 31, 2002. This mill contributed sales
and operating income of $12,400,000 and $1,200,000, respectively, for the nine
months ended September 30, 2000 and $20,500,000 and $2,100,000, respectively,
for the year ended December 31, 1999.

The following is a summary of restructuring activity from plan adoption to
December 31, 2001:

In January 2001, the Company initiated a plan to close its paperboard mill
located in Chicago, Illinois and recorded a pretax charge to operations of
approximately $4,447,000. The mill was profitable through 1998, but declining
sales resulted in losses of approximately $2,600,000 and $1,500,000 in 1999 and
2000, respectively. The $4,447,000 charge included a $2,237,000 noncash asset
impairment write down of fixed assets to estimated net realizable value and a
$1,221,000 accrual for severance and termination benefits for 16 salaried and 59
hourly employees terminated in connection with this plan as well as a $989,000
accrual for

55

other exit costs. The remaining other exit costs will be paid by December 31,
2002. As of December 31, 2001, one employee remains to assist in the closing of
the mill. The Company is marketing the property and will complete the exit plan
upon the sale of the property, which it anticipates will occur prior to December
31, 2002.

The following is a summary of restructuring activity from plan adoption to
December 31, 2001:

In March 2001, the Company initiated a plan to consolidate the operations
of the Salt Lake City, Utah carton plant into the Denver, Colorado carton plant
and recorded a pretax charge to operations of approximately $2,636,000. The
$2,636,000 charge included a $1,750,000 noncash asset impairment write down of
fixed assets to estimated net realizable value and a $464,000 accrual for
severance and termination benefits for 5 salaried and 31 hourly employees
terminated in connection with this plan as well as a $422,000 accrual for other
exit costs. All exit costs were paid as of December 31, 2001. As of December 31,
2001, no employees remained at the plant.

The following is a summary of restructuring activity from plan adoption to
December 31, 2001:

In December 2000, the Company recognized nonrecurring costs of $1,300,000
related to the settlement of a dispute over abandoned property.

13. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table sets forth the fair values and carrying amounts of the
Company's significant financial instruments where the carrying amount differs
from the fair value. The carrying amount of cash and cash equivalents,
short-term debt and long-term variable-rate debt approximates fair value. The
fair value of long-term debt is based on quoted market prices.

- ---------------

(1) The carrying amount excludes the $7,418,000 adjustment for the fair value of
the interest rate swap agreements discussed in Note 5.

56

14. SUBSEQUENT EVENTS

In January 2002, the Company completed a third amendment to its senior
credit facility that modified the definitions of "Interest Expense", "Premier
Boxboard Interest Expense" and "Standard Gypsum Interest Expense" to include
interest income and the benefit or expense derived from interest rate swap
agreements or other interest hedge agreements. Additionally, the amendment
lowered the minimum allowable interest coverage ratio for the fourth quarter of
2001 from 2.5:1.0 to 2.25:1.0, the first quarter of 2002 from 2.75:1.0 to
2.25:1.0, and the second quarter of 2002 from 2.75:1.0 to 2.50:1.0.

Also in January 2002, the Company entered into agreements with the PBL and
Standard Gypsum lenders that correspond to the amendments made in the third
amendment to the senior credit facility described above, in order to avoid
events of default under those guarantees resulting from a violation of the
interest ratio coverage covenants.

57

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Caraustar Industries, Inc.:

We have audited the accompanying consolidated balance sheet of CARAUSTAR
INDUSTRIES, INC. (a North Carolina corporation) AND SUBSIDIARIES as of December
31, 2001 and 2000 and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 2001. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.

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

In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Caraustar Industries, Inc.
and subsidiaries as of December 31, 2001 and 2000 and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001, in conformity with generally accepted accounting principles
in the United States.

/s/ Arthur Andersen LLP

Atlanta, Georgia
February 5, 2002

58

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

The Company had no disagreements on accounting or financial disclosure
matters with its independent public accountants to report under this Item 9.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Information contained under the caption "Election of Directors" in the
Proxy Statement is incorporated herein by reference in response to this Item 10.
The information in response to this Item 10 regarding the executive officers of
the Company is contained in Item 1, Part I hereof under the caption "Executive
Officers."

ITEM 11. EXECUTIVE COMPENSATION

Information contained under the caption "Executive Compensation" in the
Proxy Statement, except the item captioned "Compensation Committee Report" is
incorporated herein by reference in response to this Item 11.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

Information contained under the caption "Share Ownership" in the Proxy
Statement is incorporated by reference herein in response to this Item 12.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Russell M. Robinson, II, Chairman of the Company's Board of Directors, is a
shareholder in the firm of Robinson, Bradshaw & Hinson, P.A., the Company's
principal outside legal counsel, which performed services for the Company during
the last fiscal year and during the current fiscal year. Certain members of such
firm beneficially owned approximately 120,000 of the Company's common shares as
of March 22, 2002.

PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

a. Documents filed as part of the Report

(1) The following financial statements of the Company and Report of
Independent Public Accountants are included in Part II, Item 8 above.

CONSOLIDATED FINANCIAL STATEMENTS:

Consolidated Balance Sheets as of December 31, 2001 and 2000

Consolidated Statements of Operations for the years ended
December 31, 2001, 2000 and 1999

Consolidated Statements of Shareholders' Equity for the years
ended December 31, 2001, 2000 and 1999

Consolidated Statements of Cash Flows for the years ended
December 31, 2001, 2000 and 1999

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

59

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

(2) The Report of Independent Public Accountants as to Schedule and
the following financial statement schedule are filed as part of the report:

SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS AND RESERVES

All other schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions, are inapplicable, or the required
information is included elsewhere in the financial statements.

(3) Exhibits:

The Exhibits to this report on Form 10-K are listed in the
accompanying Exhibit Index.

b. Reports on Form 8-K.

We filed two current reports on Form 8-K and furnished Regulation FD
disclosure in one current report during the quarter ending December 31,
2001. The first report, filed on October 10, 2001, incorporated by
reference the contents of our press release announcing our expected
financial results for the period ended September 30, 2001.

The second report, dated November 7, 2001, furnished excerpts from a
management presentation under Item 9 of Form 8-K.

The third report, filed on December 20, 2001, incorporated by
reference the contents of our press release announcing our expected
financial results for the fourth quarter of 2001.

60

SCHEDULE II
CARAUSTAR INDUSTRIES, INC.

VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
FOR THE YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001
(IN THOUSANDS)

- ---------------

* Principally charges for which reserves were provided, net of recoveries.

61

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE

To Caraustar Industries, Inc.:

We have audited, in accordance with auditing standards generally accepted
in the United States, the consolidated financial statements of CARAUSTAR
INDUSTRIES, INC. (a North Carolina corporation) AND SUBSIDIARIES as of December
31, 2001 and 2000 and for each of the three years in the period ended December
31, 2001 included in this Form 10-K and have issued our report thereon dated
February 5, 2002. Our audit was made for the purpose of forming an opinion on
the basic financial statements taken as a whole. The schedule listed in Item
14a.(2) is the responsibility of the Company's management, presented for
purposes of complying with the Securities and Exchange Commission rules and is
not part of the basic financial statements. This schedule has been subjected to
the auditing procedures applied in the audit of the basic financial statements
and, in our opinion, fairly states in all material respects the financial data
required to be set forth therein in relation to the basic financial statements
taken as a whole.

/s/ ARTHUR ANDERSEN LLP
- -------------------------------------
ARTHUR ANDERSEN LLP

Atlanta, Georgia
February 5, 2002

62

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

CARAUSTAR INDUSTRIES, INC.

By: /s/ H. LEE THRASH, III
----------------------------------
H. Lee Thrash, III
Vice President and Chief Financial
Officer

Date: March 28, 2002

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the registrant in
the capacities indicated on .

63

EXHIBIT INDEX

- ---------------

+ Filed herewith
* Management contract or compensatory plan required to be filed under Item 14(c)
of Form 10-K and Item 601 of Regulation S-K of the Securities and Exchange
Commission.

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(CARAUSTAR LOGO)