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THE PANTRY, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)

See Notes to Consolidated Financial Statements

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THE PANTRY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Recently Adopted Accounting Standards

Effective September 27, 2002, we adopted the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 143, Accounting for Asset Retirement Obligations (“SFAS No. 143”), which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. SFAS No. 143 requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset. SFAS No. 143 requires us to recognize an estimated liability associated with the removal of our underground storage tanks. See Note 6 for a discussion of our adoption of SFAS No. 143.

Effective September 27, 2002, we adopted the provisions of SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”). This statement supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of and Accounting Principles Board No. 30, Reporting the Results of Operation—Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets and how the results of a discontinued operation are to be measured and presented. The adoption of SFAS No. 144 did not have a material impact on our results of operations and financial condition.

Effective September 27, 2002, we adopted the provisions of SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure (“SFAS No. 148”), an amendment of SFAS No. 123, Accounting for Stock-Based Compensation (“SFAS No. 123”). This statement was issued to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based compensation. In addition, this statement amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The amendments to SFAS No. 123 in paragraphs 2(a)-2(e) of this statement shall be effective for financial statements for fiscal years ending after December 15, 2002. The adoption of SFAS No. 148 did not impact our results of operations or financial condition. The interim disclosures required by SFAS No. 148 are discussed in Note 8.

Recently Issued Accounting Standards

In July 2002, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities (“SFAS No. 146”). This statement requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. SFAS No. 146 is to be applied prospectively to exit or disposal activities initiated after December 31, 2002. We do not anticipate that the adoption of SFAS No. 146 will have a material impact on our results of operations and financial condition.

In November, 2002, the Emerging Issues Task Force reached consensus on issue No. 02-16, “Accounting by a Reseller for Cash Consideration Received from a Vendor” (“EITF 02-16”). The consensus requires that certain cash consideration received by a customer from a vendor should be characterized as a reduction of cost of sales when recognized in the customer’s income statement. However, that presumption is overcome if certain criteria are met. If the presumption is overcome, the consideration would be presented as revenue if it represents a payment for goods or services provided by the reseller to the vendor, or as an offset to an expense if it represents a reimbursement of a cost incurred by the reseller. EITF 02-16 should be applied in annual and interim financial statements for fiscal periods beginning after December 15, 2002. The Company is currently assessing, but has not yet determined, the impact of EITF 02-16 on its consolidated financial statements.

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THE PANTRY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

those third parties do not pay for remediation as we anticipate, we will be obligated to make such payments. This could materially adversely affect our financial condition, results of operations and cash flows. Reimbursements from state trust funds will be dependent upon the continued maintenance and continued solvency of the various funds.

Several of the locations identified as contaminated are being remediated by third parties who have indemnified us as to responsibility for cleanup matters. Additionally, we are awaiting closure notices on several other locations that will release us from responsibility related to known contamination at those sites. These sites continue to be included in our environmental reserve until a final closure notice is received.

NOTE 4—LONG-TERM DEBT

Long-term debt consisted of the following (amounts in thousands):

At December 26, 2002, our senior credit facility consists of a $45.0 million revolving credit facility, which expires January 31, 2004 and bears interest of LIBOR plus 3.5%, and $293.6 million in outstanding term loans. Our revolving credit facility is available for working capital financing, general corporate purposes and issuing commercial and standby letters of credit. As of December 26, 2002, there were no outstanding borrowings under the revolving credit facility and we had approximately $16.7 million in available borrowing capacity. Borrowings under the revolving credit facility are limited by our outstanding letters of credit of approximately $28.3 million. Furthermore, the revolving credit facility limits our total outstanding letters of credit to $30.0 million. The LIBOR associated with our senior credit facility resets periodically and as of December 26, 2002, was 1.38%.

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THE PANTRY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

The remaining annual maturities of our long-term debt are as follows (amounts in thousands):

As of December 26, 2002, we were in compliance with all covenants and restrictions relating to all outstanding borrowings and substantially all of our net assets are restricted as to payment of dividends and other distributions.

NOTE 5—DERIVATIVE FINANCIAL INSTRUMENTS AND OTHER COMPREHENSIVE INCOME

We enter into interest rate swap and collar agreements to modify the interest rate characteristics of our outstanding long-term debt and have designated each qualifying instrument as a cash flow hedge. We formally document our hedge relationships, including identifying the hedge instruments and hedged items, as well as our risk management objectives and strategies for entering into the hedge transaction. At hedge inception, and at least quarterly thereafter, the Company assesses whether derivatives used to hedge transactions are highly effective in offsetting changes in the cash flow of the hedged item. We measure effectiveness by the ability of the interest rate swaps to offset cash flows associated with changes in the variable LIBOR rate associated with our term loan facilities using the hypothetical derivative method. To the extent the instruments are considered to be effective, changes in fair value are recorded as a component of other comprehensive income (loss). To the extent the instruments are considered ineffective, any changes in fair value relating to the ineffective portion are immediately recognized in earnings (interest expense). When it is determined that a derivative ceases to be a highly effective hedge, we discontinue hedge accounting, and any gains or losses on the derivative instrument are recognized in earnings. Interest income of $219 thousand and $235 thousand was recorded in the first quarter of fiscal 2003 and fiscal 2002, respectively, for the mark-to-market adjustment of those instruments that do not qualify for hedge accounting.

The fair values of our interest rate swaps and collars are obtained from dealer quotes. These values represent the estimated amount we would receive or pay to terminate the agreement taking into consideration the difference between the contract rate of interest and rates currently quoted for agreements of similar terms and maturities. At December 26, 2002, other accrued liabilities and other noncurrent liabilities include derivative liabilities of $6.2 million and $699 thousand, respectively. At September 26, 2002, other accrued liabilities and other noncurrent liabilities include derivative liabilities of $7.9 million and $699 thousand, respectively.

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THE PANTRY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

The components of accumulated other comprehensive deficit, net of related taxes, are as follows (amounts in thousands):

The pretax, tax and net-of-tax effects on the components of other comprehensive income (loss) are as follows (amounts in thousands):

NOTE 6—ASSET RETIREMENT OBLIGATION

Effective September 27, 2002, we adopted the provisions of SFAS No. 143 and as a result, we recognize the future cost to remove an underground storage tank over the estimated useful life of the storage tank in accordance with SFAS No. 143. A liability for the fair value of an asset retirement obligation with a corresponding increase to the carrying value of the related long-lived asset is recorded at the time an underground storage tank is installed. We will amortize the amount added to property and equipment and recognize accretion expense in connection with the discounted liability over the remaining life of the respective underground storage tanks.

The estimated liability is based on historical experience in removing these tanks, estimated tank useful lives, external estimates as to the cost to remove the tanks in the future and federal and state regulatory requirements. The liability is a discounted liability using a credit-adjusted risk-free rate of approximately 9%. Revisions to the liability could occur due to changes in tank removal costs, tank useful lives or if federal and/or state regulators enact new guidance on the removal of such tanks.

Upon adoption, we recorded a discounted liability of $8.4 million, which is included in other noncurrent liabilities, increased net property and equipment by $2.7 million and recognized a one-time cumulative effect adjustment of $3.5 million (net of deferred tax benefit of $2.2 million). We will amortize the amount added to property and equipment and recognize accretion expense in connection with the discounted liability over the remaining lives of the respective underground storage tanks. Pro forma effects on earnings from continuing operations before cumulative effect of accounting change for the three months ended December 27, 2001, assuming the adoption of SFAS No. 143 as of September 28, 2001, were not material to net earnings or earnings per share.

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THE PANTRY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

A reconciliation of the Company’s liability for the three months ended December 26, 2002, is as follows (in thousands):

NOTE 7—INTEREST EXPENSE

The components of interest expense are as follows (amounts in thousands):

NOTE 8—STOCK OPTIONS AND OTHER EQUITY INSTRUMENTS

On January 1, 1998, we adopted an incentive and non-qualified stock option plan. Pursuant to the provisions of the plan, options may be granted to officers, key employees, consultants of our Company or any of our subsidiaries and certain members of the board of directors to purchase up to 1,275,000 shares of our Company’s common stock. On June 3, 1999, we adopted a new 1999 stock option plan providing for the grant of incentive stock options and non-qualified stock options to officers, directors, employees and consultants, with provisions similar to the 1998 stock option plan and up to 3,825,000 shares of the Company’s common stock available for grant. The plans are administered by the board of directors or a committee of the board of directors. Options are granted at prices determined by the board of directors and may be exercisable in one or more installments. Additionally, the terms and conditions of awards under the plans may differ from one grant to another. Under the plans, incentive stock options may only be granted to employees with an exercise price at least equal to the fair market value of the related common stock on the date the option is granted. Fair values are based on the most recent common stock sales.

During the first quarter fiscal 2002, options to acquire 200,000 shares of common stock were granted under the 1999 plan with an exercise price of $5.12 per share. During the first quarter fiscal 2003, we granted options to acquire 355,000 shares of common stock under the 1999 plan with exercise prices ranging from $1.66-$1.70 per share. These options vest over three years and have contractual lives of seven years. Subsequent to December 26, 2002, we granted options to acquire 35,000 shares of common stock under the 1999 plan with an exercise price of $3.97 per share. These options vest over three years and have contractual lives of seven years.

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THE PANTRY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

The following table summarizes information about stock options outstanding at December 26, 2002:

All options granted vest over a three-year period, with one-third of each grant vesting on the anniversary of the initial grant. There were 355,000 options granted, none exercised, 110,910 options forfeited and none that expired during the first quarter fiscal 2003. There were 200,000 options granted, none exercised, none forfeited and none that expired during the first quarter fiscal 2002. All stock options are granted at estimated fair market value of the common stock at the grant date.

The Pantry’s stock option plans are accounted for in accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. Had compensation cost for the plan been determined consistent with SFAS No. 123, Accounting for Stock-Based Compensation, The Pantry’s pro-forma net income (loss) for the first quarter fiscal 2003 and fiscal 2002 would have been approximately $1.4 million and $414 thousand, respectively. Pro forma basic earnings (loss) per share for the first quarter fiscal 2003 and fiscal 2002 would have been $0.08 and $0.02, respectively. Pro forma diluted earnings (loss) per share for the first quarter fiscal 2003 and fiscal 2002 would have been $0.08 and $0.02, respectively. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions:

NOTE 9—EARNINGS PER SHARE

We compute earnings per share data in accordance with the requirements of SFAS No. 128, Earnings Per Share. Basic earnings per share is computed on the basis of the weighted average number of common shares outstanding. Diluted earnings per share is computed on the basis of the weighted average number of common shares outstanding plus the effect of outstanding warrants and stock options using the “treasury stock” method.

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Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion and analysis is provided to increase the understanding of, and should be read in conjunction with, our Consolidated Financial Statements and the accompanying notes. Additional discussion and analysis related to our Company is contained in our Annual Report on Form 10-K for the fiscal year ended September 26, 2002.

Introduction

The Pantry, Inc. is the leading convenience store operator in the southeastern United States and the second largest independently operated convenience store chain in the country with 1,280 stores in 10 southeastern states. Our operating strategy is to provide value to our customers by maintaining high store standards and offering a wide selection of quality products at competitive prices. We sell general merchandise, petroleum products and other products and services targeted to appeal to consumers desire for convenience.

Total revenues for the first quarter of fiscal 2003 were $651.0 million compared to $577.4 million in the first quarter of fiscal 2002, an increase of 12.7%. The revenue increase is primarily attributable to a 22.4% increase in our average gasoline retail price per gallon and comparable store improvements in merchandise and commission revenue. We believe the comparable store merchandise and commission revenue improvements are primarily attributable to our efforts to reposition our merchandise and gasoline offerings, remain competitively priced on key products, including gasoline, and enhance promotional activity to drive customer traffic. These improvements were realized despite continued volatility in crude oil markets and generally weak economic conditions.

Our first quarter fiscal 2003 EBITDA was $32.9 million and our net income was $1.4 million, or 8 cents per diluted share, compared to EBITDA of $26.5 million, net income of $475 thousand or 3 cents per diluted share in the first quarter of fiscal 2002. First quarter fiscal 2003 adjusted net income was $4.8 million, or 26 cents per diluted share, compared to $334 thousand, or 2 cents per diluted share, for the first quarter fiscal 2002. See discussion and tables below for information regarding these adjustments.

We continue to focus our attention on those aspects of our business we can influence in an effort to position the Company for improved results as the business climate in the Southeast improves. Primarily our management team is focused on the following key initiatives:

We believe our retail network, merchandise programs, purchasing leverage and in-store execution will allow us to improve comparable store sales and control store operating expenses as the economy improves. In the

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current environment, we continue to review our merchandise programs and are repositioning certain aspects to drive customer traffic. In an effort to enhance our competitive position, we continued to reposition our pricing and promote key merchandise categories. Over time, we believe these refinements coupled with our efforts to remain competitively priced on key product categories will positively impact comparable store merchandise sales and gross profit.

On the technology front, we rolled out checkout scanning systems across key locations throughout our retail network during the first quarter of fiscal 2003. We believe the benefits of scanning include a range of potential improvements from enhanced store merchandising and more effective in-store promotions to improved inventory controls. We will continue to evaluate and invest in strategic technology-based initiatives designed to improve operating efficiencies, strengthen internal controls and promote our long-term financial objectives.

Given current market conditions and its impact on operating income, we have substantially reduced the pace of our acquisitions and expect to acquire a few additional stores in fiscal 2003, as selective opportunities arise. However, this does not represent a change in our long-term strategic direction. When the environment is once again favorable, we plan to continue to sensibly acquire premium chains located in our existing and contiguous markets.

During the first quarter of fiscal 2003, we closed nine stores. Historically, the stores we close are under performing in terms of volume and profitability and, generally, we benefit from closing the locations by reducing direct overhead expenses and eliminating certain fixed costs.

Throughout fiscal 2003, we plan to focus primarily on the operations side of our business with a renewed effort to enhance in-store merchandising. In fiscal 2003, we anticipate reducing our average outstanding borrowings through scheduled principal payments and we plan to continue to seek ways to improve top-line growth and enhance long-term profitability.

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