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




FORM 10-Q




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



FOR THE QUARTERLY PERIOD ENDED FEBRUARY 28, 2005
COMMISSION FILE NUMBER 0-5905




CHATTEM, INC.
-------------------------------------------------------
A TENNESSEE CORPORATION
I.R.S. EMPLOYER IDENTIFICATION NO. 62-0156300
1715 WEST 38TH STREET
CHATTANOOGA, TENNESSEE 37409
TELEPHONE: 423-821-4571









REGISTRANT 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, AND HAS BEEN
SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS.

THE REGISTRANT IS AN ACCELERATED FILER (AS DEFINED IN RULE 12b-2 OF THE EXCHANGE
ACT).


AS OF MARCH 29, 2005, 19,762,791 SHARES OF THE COMPANY'S COMMON STOCK, WITHOUT
PAR VALUE, WERE OUTSTANDING.



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CHATTEM, INC.
-------------

INDEX
-----



PAGE NO.
--------
PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Condensed Consolidated Balance Sheets as of
February 28, 2005 and November 30, 2004 .................. 3

Condensed Consolidated Statements of Operations
for the Three Months Ended February 28, 2005 and
February 29, 2004 ........................................ 5

Condensed Consolidated Statements of Cash Flows
for the Three Months Ended February 28, 2005 and
February 29, 2004 ........................................ 6

Notes to Condensed Consolidated Financial Statements ..... 7

Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ...................... 25

Item 3. Quantitative and Qualitative Disclosures About
Market Risks ............................................. 33

Item 4. Controls and Procedures .................................. 33





PART II. OTHER INFORMATION

Item 1. Legal Proceedings ........................................ 34

Item 2. Unregistered Sales of Equity Securities and
Use of Proceeds .......................................... 34

Item 3. Defaults Upon Senior Securities .......................... 34

Item 4. Submission of Matters to a Vote of Security Holders ...... 34

Item 5. Other Information ........................................ 34

Item 6. Exhibits and Reports on Form 8-K ......................... 35


SIGNATURES ................................................................. 36







2

PART 1. FINANCIAL INFORMATION
-----------------------------

ITEM 1. FINANCIAL STATEMENTS
- -----------------------------

CHATTEM, INC. AND SUBSIDIARIES
------------------------------
CONDENSED CONSOLIDATED BALANCE SHEETS
-------------------------------------
(In thousands)




FEBRUARY 28, NOVEMBER 30,
ASSETS 2005 2004
- ------ ------------ ------------
(Unaudited)

CURRENT ASSETS:
Cash and cash equivalents $ 43,539 $ 40,193
Accounts receivable, less allowances of $2,339 at
February 28, 2005 and $1,682 at November 30, 2004 40,810 32,098
Inventories 21,976 21,690
Refundable income taxes 2,530 4,702
Deferred income taxes 4,699 4,308
Prepaid expenses and other current assets 6,552 3,683
------------ ------------
Total current assets 120,106 106,674
------------ ------------

PROPERTY, PLANT AND EQUIPMENT, NET 28,354 28,765
------------ ------------

OTHER NONCURRENT ASSETS:
Patents, trademarks and other purchased product rights, net 222,236 225,560
Debt issuance costs, net 4,984 5,174
Other 5,897 5,551
------------ ------------
Total other noncurrent assets 233,117 236,285
------------ ------------

TOTAL ASSETS $ 381,577 $ 371,724
============ ============





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

3

CHATTEM, INC. AND SUBSIDIARIES
------------------------------
CONDENSED CONSOLIDATED BALANCE SHEETS
-------------------------------------
(In thousands)




FEBRUARY 28, NOVEMBER 30,
LIABILITIES AND SHAREHOLDERS' EQUITY 2005 2004
- ------------------------------------ ------------ ------------
(Unaudited)

CURRENT LIABILITIES:
Current maturities of long-term debt $ -- $ --
Accounts payable and other 16,303 13,341
Accrued liabilities 22,579 23,763
------------ ------------
Total current liabilities 38,882 37,104
------------ ------------

LONG-TERM DEBT, less current maturities 200,000 200,000
------------ ------------

DEFERRED INCOME TAXES 27,917 25,732
------------ ------------

OTHER NONCURRENT LIABILITIES 1,804 1,776
------------ ------------

COMMITMENTS AND CONTINGENCIES (Note 18)

SHAREHOLDERS' EQUITY:
Preferred shares, without par value, authorized 1,000,
none issued -- --
Common shares, without par value, authorized 50,000, issued
and outstanding 19,850 at February 28, 2005 and 19,882
at November 30, 2004 84,620 85,949
Retained earnings 32,553 23,888
------------ ------------
117,173 109,837
Unamortized value of restricted common shares issued (3,835) (2,386)
Cumulative other comprehensive income, net of tax:
Interest rate cap adjustment (347) (316)
Foreign currency translation adjustment (17) (23)
------------ ------------
Total shareholders' equity 112,974 107,112
------------ ------------

TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 381,577 $ 371,724
============ ============





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

4

CHATTEM, INC. AND SUBSIDIARIES
------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
-----------------------------------------------
(Unaudited and in thousands, except per share amounts)




FOR THE THREE MONTHS ENDED
---------------------------
FEBRUARY 28, FEBRUARY 29,
2005 2004
------------ ------------

REVENUES:
Net sales $ 71,480 $ 60,927
Royalties 51 310
------------ ------------
Total revenues 71,531 61,237
------------ ------------

COSTS AND EXPENSES:
Cost of sales 20,260 16,952
Advertising and promotion 20,351 18,532
Selling, general and administrative 11,884 10,635
Litigation settlement 2,755 194
------------ ------------
Total costs and expenses 55,250 46,313
------------ ------------

INCOME FROM OPERATIONS 16,281 14,924
------------ ------------

OTHER INCOME (EXPENSE):
Interest expense (3,495) (4,755)
Investment and other income, net 147 45
Loss on early extinguishment of debt -- (11,309)
------------ ------------
Total other income (expense) (3,348) (16,019)
------------ ------------

INCOME (LOSS) BEFORE INCOME TAXES 12,933 (1,095)

PROVISION FOR (BENEFIT FROM) INCOME TAXES 4,268 (383)
------------ ------------

NET (LOSS) INCOME $ 8,665 $ (712)
============ ============

NUMBER OF COMMON SHARES:
Weighted average outstanding - basic 19,648 19,099
============ ============
Weighted average and potential dilutive outstanding 20,489 19,881
============ ============

NET INCOME (LOSS) PER COMMON SHARE:
Basic $ .44 $ (.04)
============ ============
Diluted $ .42 $ (.04)
============ ============


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

5

CHATTEM, INC. AND SUBSIDIARIES
------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
-----------------------------------------------
(Unaudited and in thousands, except per share amount)


FOR THE THREE MONTHS ENDED
---------------------------
FEBRUARY 28, FEBRUARY 29,
2005 2004
------------ ------------

OPERATING ACTIVITIES:
Net income (loss) $ 8,665 $ (712)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization 1,624 1,537
Deferred income taxes 1,778 1,982
Tax benefit realized from stock option plans 186 1,083
Loss on early extinguishment of debt -- 11,309
Other, net 361 --
Changes in operating assets and liabilities:
Accounts receivable (8,712) (9,108)
Inventories (286) (9)
Refundable income taxes 2,172 (3,752)
Prepaid expenses and other current assets 382 2,092
Accounts payable and accrued liabilities 1,778 (101)
------------ ------------
Net cash provided by operating activities 7,948 4,321
------------ ------------

INVESTING ACTIVITIES:
Purchases of property, plant and equipment (456) (491)
Purchases of patents, trademarks and other product rights -- (17)
Decrease (increase) in other assets, net 524 (490)
------------ ------------
Net cash provided by (used in) investing activities 68 (998)
------------ ------------

FINANCING ACTIVITIES:
Repayment of long-term debt -- (182,280)
Proceeds from long-term debt -- 200,000
Proceeds from borrowings under revolving credit facility -- 25,000
Repayment of policy loans (1,031) --
Proceeds from exercise of stock options 187 1,453
Repurchase of common shares (3,514) (319)
Increase in debt issuance costs -- (5,678)
Debt retirement costs -- (6,946)
Restricted cash -- (32,227)
------------ ------------
Net cash used in financing activities (4,358) (997)
------------ ------------

EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS
(312) 26
------------ ------------

CASH AND CASH EQUIVALENTS:
Increase for the period 3,346 2,352
At beginning of period 40,193 26,931
------------ ------------
At end of period $ 43,539 $ 29,283
============ ============

SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Issuance of 50 and 70 shares of restricted common stock
at a value of $35.37 and $19.98 per share in 2005 and
2004, respectively $ 1,768 $ 1,399

PAYMENTS FOR:
Interest $ 1,003 $ 6,378
Taxes $ 85 $ 108


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

6

CHATTEM, INC. AND SUBSIDIARIES
------------------------------
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
----------------------------------------------------
(UNAUDITED)


All monetary and share amounts are expressed in thousands.

1. BASIS OF PRESENTATION
---------------------

The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and the instructions to Form 10-Q and Rule
10-01 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. These consolidated financial
statements should be read in conjunction with the audited consolidated
financial statements and related notes thereto included in our Annual
Report on Form 10-K for the year ended November 30, 2004. The accompanying
unaudited consolidated financial statements, in the opinion of management,
include all adjustments necessary for a fair presentation. All such
adjustments are of a normal recurring nature.

2. CASH AND CASH EQUIVALENTS
-------------------------

We consider all short-term deposits and investments with original
maturities of three months or less to be cash equivalents.

3. RECLASSIFICATIONS
-----------------

Certain prior year amounts have been reclassified to conform to the
current period's presentation.

4. RECENT ACCOUNTING PRONOUNCEMENTS
--------------------------------

In December 2003, the Financial Accounting Standards board ("FASB")
issued Interpretation No. 46R, "Consolidation of Variable Interest
Entities" ("FIN 46R"), which supercedes Interpretation No. 46,
"Consolidation of Variable Interest Entities" issued in January 2003. FIN
46R requires a company to consolidate a variable interest entity ("VIE"),
as defined, when the company will absorb a majority of the VIE's expected
losses, receives a majority of the VIE's expected residual returns or both.
FIN 46R also requires consolidation of existing, non-controlled affiliates
if the VIE is unable to finance its operations without investor support, or
where the other investors do not have exposure to the significant risks and
rewards of ownership. FIN 46R applies immediately to a VIE created or
acquired after January 31, 2003. For a VIE created before February 1, 2003,
FIN 46R applies in the first fiscal year or interim period beginning after
March 15, 2004, our third fiscal quarter beginning June 1, 2004.
Application of FIN 46R is also required in financial statements that have
interests in structures that are commonly referred to as special-purpose
entities for periods ending after December 15, 2003. The adoption of FIN
46R did not have an impact on our financial position, results of operations
or cash flows.

In November 2004, the FASB issued Statement of Financial Accounting
Standards ("SFAS") No. 151, "Inventory Costs" ("SFAS 151"). SFAS 151 amends
the guidance in Accounting Research Bulletin No. 43, Chapter 4, "Inventory
Pricing", to clarify that abnormal amounts of idle facility expense,
freight, handling costs and wasted materials (spoilage) should be
recognized as current-period charges and requires the allocation of fixed
production overheads to inventory based on normal capacity of the
production facilities. This statement is effective for inventory costs
incurred during fiscal years beginning after June 15, 2005. The adoption of
SFAS 151 is not expected to have an impact on our financial position,
results of operations or cash flows.

In November 2004, the Emerging Issues Task Force ("EITF") reached a
consensus on Issue No. 03-13, "Applying the Conditions in Paragraph 42 of
FASB Statement No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets" in Determining Whether to Report Discontinued
Operations" ("EITF 03-13"). Under the consensus, the approach for assessing
whether cash flows of the component have been eliminated from the ongoing
operations of the entity focuses on whether continuing cash flows are
direct or indirect cash flows. Cash flows of the component would not be
eliminated if the continuing cash flows to the entity are considered direct
cash flows. The consensus should be applied to a component of an enterprise
that is either disposed of or classified as held for sale in fiscal periods
beginning after December 15, 2004. The adoption of EITF 03-13 is not
expected to have an impact on our financial position, results of operations
or cash flows.

In December 2004, the FASB issued SFAS No. 123 (revised 2004),
"Share-Based Payment" ("SFAS 123R"), which is a revision of SFAS No. 123,
"Accounting for Stock-Based Compensation". SFAS 123R supercedes APB Opinion

7

No. 25, "Accounting for Stock Issued to Employees" and amends SFAS No. 95,
"Statement of Cash Flows". SFAS 123R focuses primarily on accounting for
transactions in which an entity obtains employee services in share-based
payment transactions and requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the income
statement based on their fair values. Accordingly, the adoption of SFAS
123R's fair value method will have a significant impact on our results of
operations, although it will have no impact on our overall financial
position. The impact of the adoption of SFAS 123R cannot be predicted at
this time because it will depend on the levels of share-based payments
granted in the future. However, had we adopted SFAS 123R in prior periods
the impact of that standard would have approximated the impact of SFAS 123
as described in the disclosure of proforma net income and earnings per
share in Note 5. SFAS 123R also requires the benefits of tax deductions in
excess of recognized compensation costs to be reported as a financing cash
flow, rather than as an operating cash flow as required under current
literature. This requirement will reduce net operating cash flows and
increase net financing cash flows in periods after adoption. While we
cannot estimate what those amounts will be in the future (because they
depend on, among other things, when employees exercise stock options), the
amount of operating cash flows recognized in prior periods for such excess
tax deductions were not material to our consolidated financial position or
results of operations. This statement is effective for our interim periods
beginning after June 15, 2005.

In December 2004, the FASB issued SFAS 153, "Exchanges of Nonmonetary
Assets" ("SFAS 153"). SFAS 153 amends the guidance in APB Opinion No. 29,
"Accounting for Nonmonetary Transactions" to eliminate certain exceptions
to the principle that exchanges of nonmonetary assets be measured based on
the fair value of the assets exchanged. SFAS 153 eliminates the exception
for nonmonetary exchanges of similar productive assets and replaces it with
a general exception for exchanges of nonmonetary assets that do not have
commercial substance. This statement is effective for nonmonetary asset
exchanges in fiscal years beginning after June 15, 2005. The adoption of
SFAS 153 is not expected to have an impact on our financial position,
results of operations or cash flows.

5. STOCK-BASED COMPENSATION
------------------------

Our 1998 Non-Statutory Stock Option Plan provides for the issuance of
up to 1,400 shares of common stock to key employees, while the 1999
Non-Statutory Stock Option Plan for Non-Employee Directors allows for the
issuance of up to 200 shares of common stock. The 2000 Non-Statutory Stock
Option Plan provides for the issuance of up to 1,500 shares of common
stock. The 2003 Stock Incentive Plan provides for the issuance of up to
1,500 shares of common stock. Options vest ratably over four years and are
exercisable for a period of up to ten years from the date of grant.

For SFAS No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123") purposes, as amended by SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure", the fair value of each option
grant has been estimated as of the date of grant using the Black-Scholes
option-pricing model with the following weighted average assumptions for
grants in 2005 and 2004: expected dividend yield of 0%, expected volatility
of 57% and 53%, respectively, risk-free interest rates of 4.38% and 3.97%,
respectively, and expected lives of approximately five and six years,
respectively.

Had compensation expense for stock option grants been determined based
on the fair value at the grant dates consistent with the method prescribed
by SFAS 123, our net income (loss) and net income (loss) per share would
have been adjusted to the pro forma amounts for the three months ended
February 28, 2005 and February 29, 2004, respectively, as indicated below:

2005 2004
---------- ----------
Net income (loss):
As reported $ 8,665 $ (712)
Fair value method compensation cost, net (1,278) (861)
---------- ----------
Pro forma $ 7,387 $ (1,573)
========== ==========

Net income (loss) per share, basic:
As reported $ .44 $ (.04)
Pro forma $ .38 $ (.08)

Net income (loss) per share, diluted:
As reported $ .42 $ (.04)
Pro forma $ .36 $ (.08)

8

6. EARNINGS PER SHARE
------------------

The following table presents the computation of per share earnings for
the three months ended February 28, 2005 and February 29, 2004,
respectively:

2005 2004
---------- ----------

NET INCOME (LOSS) $ 8,665 $ (712)
========== ==========

NUMBER OF COMMON SHARES:
Weighted average outstanding 19,648 19,099
Issued upon assumed exercise of
outstanding stock options 762 712
Effect of issuance of restricted
common shares 79 70
---------- ----------
Weighted average and potential
dilutive outstanding (1) 20,489 19,881
========== ==========
NET INCOME (LOSS) PER COMMON SHARE:
Basic $ .44 $ (.04)
========== ==========
Diluted $ .42 $ (.04)
========== ==========

(1) Because their effects are anti-dilutive, excludes shares issuable
under stock option plans and restricted stock issuance whose grant
price was greater than the average market price of common shares
outstanding as follows: 0 and 62 shares for the three months ended
February 28, 2005 and February 29, 2004, respectively.

7. ADVERTISING EXPENSES
--------------------

We incur significant expenditures on television, radio and print
advertising to support our nationally branded over-the-counter ("OTC")
health care products and toiletries. Customers purchase products from us
with the understanding that the brands will be supported by our extensive
media advertising. This advertising supports the retailers' sales effort
and maintains the important brand franchise with the consuming public.
Accordingly, we consider our advertising program to be clearly implicit in
our sales arrangements with our customers. Therefore, we believe it is
appropriate to allocate a percentage of the necessary supporting
advertising expenses to each dollar of sales by charging a percentage of
sales on an interim basis based upon anticipated annual sales and
advertising expenditures (in accordance with Accounting Principles Board
Opinion No. 28, "Interim Financial Reporting") and adjusting that accrual
to the actual expenses incurred at the end of the year.

8. SHIPPING AND HANDLING
---------------------

Shipping and handling costs of $1,857 and $1,434 are included in
selling expenses for the three months ended February 28, 2005 and February
29, 2004, respectively.

9. PATENT, TRADEMARKS AND OTHER PURCHASED PRODUCT RIGHTS
-----------------------------------------------------

The carrying value of trademarks, which are not subject to
amortization under the provisions of SFAS No. 142, "Goodwill and Other
Intangible Assets" ("SFAS 142"), was $221,654 and $224,797 as of February
28, 2005 and November 30, 2004, respectively. The gross carrying amount of
intangible assets subject to amortization at February 28, 2005 and November
30, 2004, which consist primarily of non-compete agreements, was $2,139 and
$2,400, respectively. The related accumulated amortization of intangible
assets at February 28, 2005 and November 30, 2004 was $1,557 and $1,637,
respectively. Amortization of our intangible assets subject to amortization
under the provisions of SFAS 142 for the three months ended February 28,
2005 and February 29, 2004 was $73 and $77, respectively. Estimated annual
amortization expense for these assets for the years ended November 30,
2006, 2007, 2008, 2009 and 2010 is $290, $123, $40, $20 and $0
respectively.

9

On February 28, 2005, we entered into an agreement to sell the
trademark and product rights of our SELSUN business in certain countries in
Africa and Asia. As a result of the sale, $3,143 of indefinite-lived assets
and $108 of intangible assets subject to amortization were retired, which
resulted in an insignificant loss.

10. INVENTORIES
-----------

Inventories consisted of the following as of February 28, 2005 and
November 30, 2004:

2005 2004
---------- ----------
Raw materials and work in process $ 11,656 $ 10,728
Finished goods 11,753 12,395
Excess of current cost over LIFO values (1,433) (1,433)
---------- ----------
Total inventories $ 21,976 $ 21,690
========== ==========

11. ACCRUED LIABILITIES
-------------------

Accrued liabilities consisted of the following as of February 28, 2005
and November 30, 2004:

2005 2004
---------- ----------
Interest $ 5,415 $ 3,152
Salaries, wages and commissions 1,490 4,886
Product advertising and promotion 5,568 3,750
Litigation settlement and legal fees 8,568 10,046
Other 1,538 1,929
---------- ----------
Total accrued liabilities $ 22,579 $ 23,763
========== ==========

12. LONG-TERM DEBT
--------------

Long-term debt consisted of the following as of February 28, 2005 and
November 30, 2004:
2005 2004
---------- ----------
Revolving Credit Facility due 2009 at a
variable rate of 6.0% as of February
28, 2005 and November 30, 2004,
respectively $ -- $ --
Floating Rate Senior Notes due 2010 at a
variable rate of 5.38% and 4.78% as
of February 28, 2005 and November 30,
2004, respectively 75,000 75,000
7.0% Senior Subordinated Notes due 2014 125,000 125,000
---------- ----------
Total long-term debt 200,000 200,000
Less: current maturities -- --
---------- ----------
Total long-term debt, net of
current maturities $ 200,000 $ 200,000
========== ==========


On February 26, 2004, we entered into a new Senior Secured Revolving
Credit Facility that matures February 26, 2009 (the "Revolving Credit
Facility") with Bank of America, N.A. that provided an initial borrowing
capacity of $25,000 and an additional $25,000, subject to successful
syndication. On March 9, 2004, we entered into a new commitment agreement
with a syndicate of commercial banks led by Bank of America, N.A., as
agent, that enables us to borrow up to a total of $50,000 under the
Revolving Credit Facility. Borrowings under our Revolving Credit Facility
bear interest at LIBOR plus applicable percentages of 1.75% to 2.50% or a
base rate (the higher of the federal funds rate plus 0.5% or the prime
rate) plus applicable percentages of 0.25% to 1.0%. The applicable
percentages are calculated based on our leverage ratio. As of February 28,
2005, no amounts were outstanding under the Revolving Credit Facility, and
the variable rate was 6.0%. Borrowings under our Revolving Credit Facility
are secured by substantially all of our assets, except real property, and
shares of capital stock of our domestic subsidiaries held by us and by the
assets of the guarantors (our domestic subsidiaries). The Revolving Credit
Facility contains covenants, representations, warranties and other
agreements by us that are customary in credit agreements and security
instruments relating to financings of this type. The significant financial
covenants include fixed charge coverage ratio, leverage ratio, senior
secured leverage ratio, net worth and brand value calculations. On March
29, 2005, we had no borrowings outstanding under our Revolving Credit
Facility.

10

On March 28, 2002, we obtained a $60,000 senior secured credit
facility from a syndicate of commercial banks led by Bank of America, N.A.,
as agent (the "Credit Facility"). The Credit Facility included a $15,000
revolving credit line and a $45,000 term loan. The remaining balance of the
term loan under the Credit Facility was repaid as part of the refinancing
transactions discussed herein, and the revolving credit line under the
Credit Facility was terminated on February 26, 2004.

On February 10, 2004, we commenced a cash tender offer and consent
solicitation for the $204,538 outstanding principal amount of our 8.875%
Senior Subordinated Notes due 2008 (the "8.875% Subordinated Notes"). The
consent solicitation expired on February 24, 2004, and a total of
approximately $174,530, or approximately 85.3% of the 8.875% Subordinated
Notes, were tendered and accepted for payment on February 26, 2004. The
remaining principal outstanding, call premium, accrued interest and
interest to call date amounting to $32,227 was placed in escrow with the
indenture trustee to fund the purchase of additional 8.875% Subordinated
Notes tendered prior to March 9, 2004, the expiration date of the tender
offer, and the redemption of the remaining 8.875% Subordinated Notes not
tendered. The remaining 8.875% Subordinated Notes not tendered in such
offer were called in accordance with their terms on April 1, 2004 at a
redemption price of 102.9583% of their aggregate principal amount. On April
1, 2004, the remaining amount held in escrow was released for payment and
all outstanding 8.875% Subordinated Notes were redeemed.

The completion of our refinancing of the Credit Facility and purchase
of approximately $174,530 of our 8.875% Subordinated Notes that were
tendered on February 26, 2004 resulted in a loss on early extinguishment of
debt of $11,309 in the first quarter of fiscal 2004. Also in the second
quarter of fiscal 2004, we recorded a loss on early extinguishment of debt
of $1,649 related to the redemption of the remaining $30,008 of our 8.875%
Subordinated Notes.

Due to our refinancing transactions, in the first quarter of fiscal
2004 tender premiums and related fees of $6,946 were paid and net debt
issuance costs of $4,363 were written off and charged to loss on early
extinguishment of debt in the Condensed Consolidated Statements of
Operations. In addition, new debt issuance costs of $5,678 were
capitalized.

Also on February 26, 2004, we issued and sold $75,000 of Floating Rate
Senior Notes due March 1, 2010 (the "Floating Rate Notes") and $125,000 of
7.0% Senior Subordinated Notes due March 1, 2014 (the "7.0% Subordinated
Notes"), the proceeds of which were used to purchase our 8.875%
Subordinated Notes and refinance the Credit Facility as discussed above.

The Floating Rate Notes bear interest at a three-month LIBOR plus
3.00% per year (5.38% as of February 28, 2005). Interest payments are due
quarterly in arrears commencing on June 1, 2004. On March 8, 2004, we
entered into an interest rate cap agreement effective June 1, 2004 with
decreasing annual notional principal amounts of $15,000 beginning March 1,
2006 and cap rates ranging from 4.0% to 5.0% over the life of the
agreement. We paid a $1,375 premium to enter into the interest rate cap
agreement, which will be amortized over the life of the agreement. The
current portion of the premium on the interest rate cap agreement of $189
is included in prepaid expenses and other current assets, and the long-term
portion of $642 is included in other noncurrent assets. The amortized value
of the premium on the interest rate cap was compared to its fair value as
of February 28, 2005, and a charge of $347, net of tax, was recorded to
other comprehensive income. The fair value of the interest rate cap
agreement is valued by a third party. The interest rate cap agreement
terminates on March 1, 2010. Our domestic subsidiaries are guarantors of
the Floating Rate Notes. The guarantees of the Floating Rate Notes are
unsecured senior obligations of the guarantors and rank equally with all of
the current and future unsecured senior debt of the guarantors. The
guarantees of the Floating Rate Notes effectively rank junior to any
secured debt of the guarantors, including the guarantors' guarantee of our
indebtedness under the Revolving Credit Facility. At any time after March
1, 2005, we may redeem any of the Floating Rate Notes upon not less than 30
nor more than 60 days' notice at redemption prices (expressed in
percentages of principal amount), plus accrued and unpaid interest, if any,
and liquidated damages, if any, to the applicable redemption rate, if
redeemed during the twelve-month periods beginning March 1, 2005 at 102.0%,
March 1, 2006 at 101.0% and March 1, 2007 and thereafter at 100.0%. At any
time prior to March 1, 2005, we may redeem up to 35.0% of the aggregate
principal amount of the Floating Rate Notes (including any additional
Floating Rate Notes) at a redemption price of 100.0% of the principal
amount thereof, plus a premium equal to the interest rate per annum on the
Floating Rate Notes applicable on the date on which notice of the
redemption is given, together with accrued and unpaid interest and
liquidated damages, if any, with the net cash proceeds of one or more
qualified equity offerings; provided, that (i) at least 65.0% of the
aggregate principal amount of Floating Rate Notes remains outstanding
immediately after the occurrence of each redemption (excluding Floating
Rate Notes held by us and our subsidiaries); and (ii) the redemption must
occur within 90 days of the date of the closing of such qualified equity
offering.

Interest payments on the 7.0% Subordinated Notes are due semi-annually
in arrears on March 1 and September 1, commencing on September 1, 2004. Our
domestic subsidiaries are guarantors of the 7.0% Subordinated Notes. The
guarantees of the 7.0% Subordinated Notes are unsecured senior subordinated
obligations of the guarantors. At any time after March 1, 2009, we may
redeem any of the 7.0% Subordinated Notes upon not less than 30 nor more
than 60 days' notice at redemption prices (expressed in percentages of
principal amount), plus accrued and unpaid interest, if any, and
liquidation damages, if any, to the applicable redemption rate, if redeemed
during the twelve-month periods beginning

11

March 1, 2009 at 103.500%, March 1, 2010 at 102.333%, March 1, 2011 at
101.167% and March 1, 2012 and thereafter at 100.000%. At any time prior to
March 1, 2007, we may redeem up to 35% of the aggregate principal amount of
the 7.0% Subordinated Notes (including any additional 7.0% Subordinated
Notes) at a redemption price of 107.0% of the principal amount thereof,
plus accrued and unpaid interest and liquidated damages, if any, thereon to
the applicable redemption rate, with the net cash proceeds of one or more
qualified equity offerings; provided, that (i) at least 65.0% of the
aggregate principal amount of the 7.0% Subordinated Notes remains
outstanding immediately after the occurrence of such redemption (excluding
7.0% Subordinated Notes held by us and our subsidiaries); and (ii) the
redemption must occur within 90 days of the date of the closing of such
qualified equity offering.

The indentures governing the Floating Rate Notes and 7.0% Subordinated
Notes, among other things, limit our ability and the ability of our
restricted subsidiaries to: (i) borrow money or sell preferred stock, (ii)
create liens, (iii) pay dividends on or redeem or repurchase stock, (iv)
make certain types of investments, (v) sell stock in our restricted
subsidiaries, (vi) restrict dividends or other payments from restricted
subsidiaries, (vii) enter into transactions with affiliates, (viii) issue
guarantees of debt and (ix) sell assets or merge with other companies. In
addition, if we experience specific kinds of changes in control, we must
offer to purchase the Floating Rate Notes and 7.0% Subordinated Notes at
101.0% of their principal amount plus accrued and unpaid interest.

The future maturities of long-term debt outstanding as of February 28,
2005 are as follows:

2006 --
2007 --
2008 --
2009 --
2010 75,000
Thereafter 125,000
----------
$ 200,000
==========

13. COMPREHENSIVE INCOME
--------------------

Comprehensive income consisted of the following components for the
three months ended February 28, 2005 and February 29, 2004, respectively:

2005 2004
---------- ----------
Net income $ 8,665 $ (712)
Other - interest rate cap adjustment (31) --
Other - foreign currency translation
adjustment 6 270
---------- ----------
Total $ 8,640 $ (442)
========== ==========

14. STOCK BUYBACK
-------------

In January 2005, our board of directors increased the total
authorization to repurchase our common stock under our stock buyback
program to $30,000. In the first quarter of fiscal 2005, we repurchased 103
shares for $3,514. All repurchased shares were retired and returned to
unissued. We, however, are limited in our ability to repurchase shares due
to restrictions under the terms of our Revolving Credit Facility, Floating
Rate Notes and 7.0% Subordinated Notes. Subsequent to February 28, 2005, we
have repurchased 116 of our shares for $4,221.




12

15. RETIREMENT PLANS AND POSTRETIREMENT HEALTH CARE BENEFITS
--------------------------------------------------------

RETIREMENT PLANS

We have a noncontributory defined benefit pension plan ("the Plan"),
which covers substantially all employees as of December 31, 2000. The Plan
provides benefits based upon years of service and the employee's
compensation. Our contributions are based on computations by independent
actuaries. Plan assets at February 28, 2005 and November 30, 2004 were
invested primarily in United States government and agency securities and
corporate debt and equity securities. In October 2000, our board of
directors adopted an amendment to the Plan that freezes benefits of the
Plan and prohibits new entrants to the Plan effective December 31, 2000.

Net periodic pension cost for the three months ended February 28, 2005
and February 29, 2004 comprised the following components:

2005 2004
---------- ----------
Service cost $ -- $ --
Interest cost on projected benefit
obligation 152 155
Actual return on plan assets (212) (178)
Net amortization and deferral 5 28
---------- ----------
Net pension cost (benefit) $ (55) $ 5
========== ==========

No employer contributions were made for the three months ended
February 28, 2005 and February 29, 2004, and no employer contributions are
expected to be made in fiscal 2005.

POSTRETIREMENT HEALTH CARE BENEFITS

We maintain certain postretirement health care benefits for eligible
employees. Employees become eligible for these benefits if they meet
certain age and service requirements. We pay a portion of the cost of
medical benefits for certain retired employees over the age of 65.
Effective January 1, 1993, our contribution is a service-based percentage
of the full premium. We pay these benefits as claims are incurred. Employer
contributions expected for fiscal 2005 are approximately $70.

Net periodic postretirement health care benefits cost for the three
months ended February 28, 2005 and February 29, 2004, included the
following components:
2005 2004
---------- ----------
Service cost $ 18 $ 16
Interest cost on accumulated postretirement
benefit obligation 21 20
Amortization of prior service cost 4 4
Amortization of net gain (4) (8)
---------- ----------
Net periodic postretirement benefits cost $ 39 $ 32
========== ==========


16. INCOME TAXES
------------

We account for income taxes using the asset and liability approach as
prescribed by SFAS No. 109, "Accounting for Income Taxes". This approach
requires recognition of deferred tax assets and liabilities for the
expected future tax consequences of events that have been included in the
consolidated financial statements or tax returns. Using the enacted tax
rates in effect for the year in which the differences are expected to
reverse, deferred tax assets and liabilities are determined based on the
differences between the financial reporting and the tax basis of an asset
or liability. We record income tax expense in our consolidated financial
statements based on an estimated annual effective income tax rate. Our tax
rate for the three months ended February 28, 2005 was 33%, as compared to
35% in the three months ended February 29, 2004. The lower rate for the
three months ended February 28, 2005 reflects the implementation of a
number of foreign and state tax planning initiatives, which include our
determination during the third quarter of fiscal 2004 to reinvest
indefinitely all undistributed earnings of Chattem Canada, a wholly-owned
subsidiary.

Undistributed earnings of Chattem Canada amounted to approximately
$281 for the three months ended February 28, 2005. These earnings are
considered to be reinvested indefinitely and, accordingly, no provision for
U.S. federal and state

13

income taxes has been provided thereon. Upon distribution of those earnings
in the form of dividends or otherwise, we would be subject to U.S. income
taxes (subject to an adjustment for foreign tax credits).

17. PRODUCT SEGMENT INFORMATION
---------------------------

Net sales of our domestic product categories within our single
healthcare business segment for the three months ended February 28, 2005
and February 29, 2004 are as follows:

2005 2004
---------- ----------
Topical analgesics $ 21,407 $ 15,712
Medicated skin care products 17,624 13,332
Dietary supplements 8,660 8,511
Medicated dandruff shampoos and conditioner 9,800 9,221
Other OTC and toiletry products 8,078 8,830
---------- ----------
Total $ 65,569 $ 55,606
========== ==========


18. COMMITMENTS AND CONTINGENCIES
-----------------------------

GENERAL LITIGATION

We were named as a defendant in a number of lawsuits alleging that the
plaintiffs were injured as a result of ingestion of products containing
phenylpropanolamine ("PPA"), which was an active ingredient in most of our
DEXATRIM products until November 2000. The lawsuits filed in federal court were
transferred to the United States District Court for the Western District of
Washington before United States District Judge Barbara Jacobs Rothstein (IN RE
PHENYLPROPANOLAMINE ("PPA") PRODUCTS LIABILITY LITIGATION, MDL NO. 1407). The
remaining lawsuits were filed in state court in a number of different states.

On April 13, 2004, we entered into a class action settlement agreement with
representatives of the plaintiffs' settlement class, which provided for a
national class action settlement of all DEXATRIM PPA claims, both federal and
state. On November 12, 2004, Judge Barbara J. Rothstein of the United States
District Court for the Western District of Washington entered a final order and
judgment certifying the class and granting approval of the DEXATRIM PPA
settlement. After the final judgment was entered, two parties who had objected
to the settlement filed appeals challenging and seeking to set aside the final
judgment. Both of these appeals have now been dismissed.

The DEXATRIM PPA settlement includes claims against us involving alleged
injuries by DEXATRIM products containing PPA that were alleged to have occurred
after December 21, 1998, the date we acquired the DEXATRIM brand. In accordance
with the terms of the class action settlement agreement, we previously published
notice of the settlement and details as to the manner in which claims could be
submitted. The deadline for submission of claims was July 7, 2004. A total of
391 claims were submitted prior to the claims deadline. Of these 391 claims, 173
alleged stroke as an injury and 218 alleged other non-stroke injuries. These
claims will be valued pursuant to the agreed upon settlement matrix that is
designed to evaluate and determine the settlement value of each claim. A total
of 16 claimants elected to opt out of the class settlement and may continue to
pursue claims for damages against us in separate lawsuits. We have settled eight
of the opt out claims. In addition, we have learned that two of the remaining
opt out claims have injury dates prior to December 21, 1998, for which we will
seek indemnification from The DELACO Company ("DELACO"), successor to the
Thompson Medical Company, Inc., which owned the brand prior to December 21,
1998.

In accordance with the terms of the class action settlement agreement,
$60,885 has been funded into a settlement trust from our first three layers of
insurance coverage, as described below. In addition, on July 14, 2004, we
entered into a settlement agreement with Sidmak Laboratories, Inc. ("Sidmak"),
the manufacturer of DEXATRIM products containing PPA, pursuant to which Sidmak
has agreed to contribute $10,000 into the settlement trust. To the extent the
amount in the settlement trust is insufficient to fully fund the settlement, we
will be required to make additional contributions to the settlement trust in the
future. As described below, we have entered into a settlement agreement with
Interstate Fire & Casualty Company ("Interstate") with regard to its $25,000 of
coverage in excess of the insurance funds available in the settlement trust. We
currently expect to use our cash on hand and proceeds of the Interstate policy
to fund any required additional contributions to the settlement trust. If we are
required to fund significant other liabilities related to the PPA litigation
beyond the settlement trust and outside of our available insurance coverage from
Interstate, either pursuant to the terms of the settlement, as a result of the
opt out cases or otherwise, we will have significantly fewer sources of funds
with which to satisfy such liabilities, and we may be unable to do so.

We are also named as a defendant in approximately 206 lawsuits relating to
DEXATRIM containing PPA which involve alleged injuries by DEXATRIM products
containing PPA manufactured and sold prior to our acquisition of DEXATRIM on
December 21, 1998. In these lawsuits, we are being defended on the basis of
indemnification obligations assumed by DELACO. On February 12, 2004, DELACO
filed a Chapter 11 bankruptcy petition in the United States Bankruptcy Court for
the Southern District of New

14

York. Accordingly, it is uncertain whether DELACO will be able to indemnify us
for claims arising from products manufactured and sold prior to our acquisition
of DEXATRIM on December 21, 1998. However, DELACO is seeking to resolve all
DEXATRIM cases with injury dates prior to December 21, 1998 as part of a
liquidating Chapter 11 bankruptcy plan. We understand that DELACO's product
liability insurance carriers and other sources are expected to fund this plan.
As part of DELACO's bankruptcy plan, if finally approved, we expect the
bankruptcy court to release us from liability in DEXATRIM cases with injury
dates prior to December 21, 1998, although there can be no assurances in this
regard.

If DELACO achieves resolution of the pre-December 21, 1998 cases through
its bankruptcy plan, we expect that the administrative process for DELACO's
settlement will be similar to the process in our class action. We have filed a
claim in DELACO's bankruptcy case in order to preserve our claims for
indemnification against DELACO. As part of this Chapter 11 plan, we expect that
after resolution of creditors' claims, DELACO will seek to liquidate and
distribute all of its assets and will dissolve as a company.

Our product liability insurance, as described below, would not apply to
claims arising from products manufactured and sold prior to our acquisition of
DEXATRIM. If the DELACO bankruptcy plan does not resolve these cases as we
expect, we will also seek to defend ourselves in these lawsuits on the basis
that we did not manufacture and sell products containing PPA prior to December
21, 1998. In the approximately 206 cases that have been filed against us for
products manufactured and sold prior to December 21, 1998, approximately half of
the plaintiffs are in cases filed in states that we believe do not under current
law impose liability upon a successor. The remaining plaintiffs are in cases
filed in states that may in some circumstances permit liability against a
successor. Even in these cases, although there can be no assurances, we do not
believe that successor liability would be imposed against us. The reasons for
our belief, among others, are that we did not purchase all of DELACO's assets
and DELACO continued to operate its remaining business after December 21, 1998;
we did not cause DELACO's bankruptcy; and many plaintiffs included in cases
filed in states that in some circumstances impose successor liability are
actually residents of other states.

We have reached an agreement with Kemper Indemnity Insurance Company
("Kemper") to settle its lawsuit that sought to rescind our policy for $50,000
of excess coverage for product liability claims. After giving effect to the
settlement with Kemper, we have available for the claims against us related to
the PPA litigation, through our first three layers of insurance coverage,
approximately $60,885 of the $77,000 of product liability coverage provided by
these insurance policies. The $60,885 of available coverage consists of $37,500
of insurance under the Kemper policy and approximately $23,385 under policies
with two other insurance companies. As indicated above, this $60,885 of coverage
has been funded into a settlement trust in accordance with the terms of the
class action settlement agreement.

We have also entered into a settlement agreement with Interstate with
regard to Interstate's lawsuit to rescind its $25,000 of excess coverage for
product liability claims relating to DEXATRIM products containing PPA. In
accordance with the settlement agreement, Interstate will provide coverage of
DEXATRIM PPA claims that are covered by its policy after $78,500 has been paid
toward covered claims. Once the $78,500 threshold is met, Interstate will pay
100% of the next $4,000 of claims covered by its policy; 75% of the next $8,500
of such claims; and 50% of the last $12,500 of such claims. We are responsible
for any claims not covered by the Interstate policy either because the alleged
injury did not occur before May 31, 2001, or the claim was first made against us
after May 31, 2004. Pursuant to the settlement agreement, we and Interstate have
dismissed all claims and counterclaims filed against each other.

Prior to the fourth quarter of fiscal 2004, we were unable to reasonably
estimate the amount of liability related to the DEXATRIM litigation, due to the
significant assumptions and uncertainty involved in estimating the value of
cases involved. As a result of the final approval of the DEXATRIM PPA settlement
on November 12, 2004 and the term sheet of settlement reached with Interstate on
December 13, 2004, as of November 30, 2004 we were able to reasonably estimate
the probable loss related to the DEXATRIM litigation. Based on the estimated
litigation settlement costs relating to our DEXATRIM products, we have recorded
an accrued liability in our Consolidated Balance Sheets as of February 28, 2005
and November 30, 2004 of $8,506 and $9,519, respectively. We currently do not
expect to record any additional charges relative to the settlement costs of the
PPA litigation, although we will continue to incur costs related to legal
expenses. During the first fiscal quarter of 2005, we incurred and recorded
$1,070 of legal expenses relating to the PPA settlement. We will record future
PPA related legal expenses in the period incurred.

We maintain a significantly lower level of insurance coverage for all other
potential claims relating to our products including DEXATRIM products containing
ephedrine. For the current policy period, we are insured for product liability
insurance for all of our other products, including DEXATRIM products containing
ephedrine, for $10,000 through our captive insurance subsidiary, of which
approximately $3,500 is funded as of March 29, 2005. We also have $40,000 of
excess coverage through third party insurers.

We were named as a defendant in four lawsuits alleging that the plaintiff
was injured as a result of the ingestion of DEXATRIM containing ephedrine. In
addition, three individuals who alleged injury caused by DEXATRIM containing
ephedrine filed opt out

15

notices in the PPA class action settlement, but did not file lawsuits against
us. In the first quarter of fiscal 2005, we reached a settlement with respect to
two of the four pending lawsuits and the three opt out claims. Each of these
settlements has been or will be funded by insurance coverage provided by our
captive insurance subsidiary. After these settlements, there are two lawsuits
currently pending against us related to DEXATRIM containing ephedrine. We
recorded a litigation settlement charge of $1,685 in the first quarter of fiscal
2005 associated with ephedrine-related claims and legal expenses.

On December 30, 2003, the United States Food and Drug Administration
("FDA") issued a consumer alert on the safety of dietary supplements containing
ephedrine alkaloids and on February 6, 2004 published a final rule with respect
to these products. The final rule prohibits the sale of dietary supplements
containing ephedrine alkaloids because such supplements present an unreasonable
risk of illness or injury. The final rule became effective on April 11, 2004.
Although we discontinued the manufacturing and shipment of DEXATRIM containing
ephedrine in September 2002, the FDA's final rule may result in additional
lawsuits being filed against us alleging damages related to the use or purchase
of DEXATRIM containing ephedrine.

We previously were named in a class action filed in the United States
District Court for the Southern District of New York seeking certification of a
class consisting of New York residents who have purchased DEXATRIM Results or
DEXATRIM Natural since January 2000. The class action lawsuit sought
compensatory and punitive damages arising out of allegedly false advertising in
connection with the sale of DEXATRIM Results and DEXATRIM Natural products. None
of the plaintiffs in this action alleged personal injury as a result of the
ingestion of a DEXATRIM product. On March 29, 2004, a stipulation was submitted
to the court dismissing the case on jurisdictional grounds. Pursuant to the
stipulation, the plaintiffs may re-file the class action in New York state
court. These plaintiffs have not refiled this lawsuit as of March 29, 2005.

We have been named as a defendant in a putative class action suit filed in
the Superior Court of the State of California for the County of Los Angeles on
February 11, 2004. The lawsuit seeks certification of classes consisting of
residents of the United States, or residents of the State of California, who
have purchased our BULLFROG sun care products during the past four years. The
lawsuit seeks injunctive relief and compensatory damages under the California
Business and Professions Code against us arising out of alleged deceptive,
untrue or misleading advertising, and breach of warranty, in connection with the
manufacturing, labeling, advertising, promotion and sale of BULLFROG products.
The plaintiff has stipulated that the amount in controversy with respect to
plaintiffs' individual claim and each member of the proposed class does not
exceed $75. We filed an answer on June 28, 2004 and intend to defend vigorously
the lawsuit.

We have been named as a defendant in a putative class action suit filed in
the Superior Court of the State of California, County of Los Angeles, on January
13, 2005. The lawsuit seeks injunctive relief, compensatory damages and attorney
fees against us under the California Business and Professions code, arising out
of alleged deceptive, untrue or misleading advertising and breech of express
warranty in connection with the manufacturing, labeling, advertising, promotion
and sale of certain DEXATRIM Natural products. The lawsuit seeks certification
of a class consisting of all persons who purchased DEXATRIM Natural in
California during the four year period prior to the filing of the lawsuit up to
the date of any judgment obtained. The plaintiff has stipulated that the amount
in controversy with individual claim and each member of the proposed class in
the action does not exceed $75. We intend to defend vigorously the lawsuit.

Other claims, suits and complaints arise in the ordinary course of our
business involving such matters as patents and trademarks, product liability,
environmental matters, employment law issues and other alleged injuries or
damage. The outcome of such litigation cannot be predicted, but, in the opinion
of management, based in part upon assessments from counsel, all such other
pending matters are without merit or are of such kind or involve such other
amounts as would not have a material adverse effect on our financial position,
results of operations or cash flows if disposed of unfavorably.

REGULATORY

The FDA, the Drug Enforcement Administration and a number of state and
local governments have enacted or proposed restrictions or prohibitions on the
sale of products that contain ephedrine. Ephedrine can refer to the herbal
substance derived from the plant ephedra or the plant heart leaf, which, until
September 2002, was used in the manufacturing of some forms of DEXATRIM Natural
and DEXATRIM Results, or synthetic ephedrine, an FDA regulated ingredient used
in some OTC drug products, which has not been used in our products. These
restrictions include the prohibition of OTC sales, required warnings or labeling
statements, record keeping and reporting requirements, the prohibition of sales
to minors, per transaction limits on the quantity of product that may be
purchased and limitations on advertising and promotion. The enactment of further
restrictions or prohibitions on sales, the perceived safety concerns related to
ephedrine and the possibility of further regulatory action could result in an
increase in the number of ephedrine related lawsuits filed including ones in
which we are named as a defendant.

In 1997, the FDA published a proposed rule on the use of dietary
supplements containing ephedrine alkaloids. In June 2002, the United States
Department of Health and Human Services ("HHS") proposed an expanded scientific
evaluation of ephedra which led to the issuance of a report by the RAND-based
Southern California Evidence-Based Practice Center (the "RAND Report"). The RAND
Report concluded that ephedrine, ephedrine plus caffeine and ephedra-containing

16

dietary supplements with or without herbs containing caffeine all promote modest
amounts of weight loss over the short term and use of ephedra or ephedrine plus
caffeine is associated with an increased risk of gastrointestinal, psychiatric
and autonomic symptoms. The adverse event reports contained a smaller number of
more serious adverse events. Given the small number of such events, the RAND
Report concluded that further study would be necessary to determine whether
consumption of ephedra or ephedrine may be causally related to these serious
adverse events. In connection with the RAND Report, HHS has sought public
comment on whether additional measures are required concerning the sale and
distribution of dietary supplements containing ephedrine alkaloids.

On December 30, 2003, the FDA issued a consumer alert on the safety of
dietary supplements containing ephedrine alkaloids and on February 6, 2004
published a final rule with respect to these products shortly. The final rule
prohibits the sale of dietary supplements containing ephedrine alkaloids because
such supplements present an unreasonable risk of illness or injury. The final
rule became effective on April 11, 2004. Although we discontinued the
manufacturing and shipment of DEXATRIM containing ephedrine in September 2002,
the FDA's final rule may result in lawsuits in addition to those we currently
have being filed against us alleging damages related to the use or purchase of
DEXATRIM containing ephedrine.

We were notified in October 2000 that the FDA denied a citizen petition
submitted by Thompson Medical Company, Inc., the previous owner of SPORTSCREME
and ASPERCREME. The petition sought a determination that 10% trolamine
salicylate, the active ingredient in SPORTSCREME and ASPERCREME, was clinically
proven to be an effective active ingredient in external analgesic OTC drug
products and should be included in the FDA's yet-to-be finalized monograph for
external analgesics. We have met with the FDA and submitted a proposed protocol
study to evaluate the efficacy of 10% trolamine salicylate as an active
ingredient in OTC external analgesic drug products. We are working to develop
alternate formulations for SPORTSCREME and ASPERCREME in the event that the FDA
does not consider the available clinical data to conclusively demonstrate the
efficacy of trolamine salicylate when the OTC external analgesic monograph is
finalized. If 10% trolamine salicylate is not included in the final monograph,
we would likely be required to discontinue these products as currently
formulated and remove them from the market after expiration of an anticipated
grace period. If this occurred, we believe we could still market these products
as homeopathic products and could also reformulate them using ingredients
included in the FDA monograph.

Certain of our topical analgesic products are currently marketed under an
FDA tentative final monograph. The FDA has recently proposed that the final
monograph exclude external analgesic products in patch, plaster or poultice
form, unless the FDA receives additional data supporting the safety and efficacy
of these products. On October 14, 2003, we submitted to the FDA information
regarding the safety of our ICY HOT patches and arguments to support our
product's inclusion in the final monograph. We have also participated in an
industry effort coordinated by Consumer Healthcare Products Association ("CHPA")
to establish with the FDA a protocol of additional research that will allow the
patches to be marketed under the final monograph even if the final monograph
does not explicitly allow them. The CHPA submission to FDA was made on October
15, 2003. Thereafter, in April 2004, we launched the ICY HOT Sleeve, a flexible,
non-occlusive fabric patch with menthol levels consistent with the OTC
monograph. If additional research is required either as a preliminary to final
FDA monograph approval and/or as a requirement of future individual product
sale, we may need to invest in a considerable amount of expensive testing and
data analysis. Any preliminary cost may be shared with other patch
manufacturers. Because the submissions made into the FDA docket have been
forwarded from its OTC Division to its Dermatological Division within the Center
for Drug Evaluation and Research ("CDER"), we believe that the monograph is
unlikely to become final and take effect before mid-2006 and perhaps thereafter.
If neither action described above is successful and the final monograph excludes
such products, we will have to file an NDA in order to continue to market the
ICY HOT Patch, ICY HOT Sleeve or similar delivery systems under our other
topical analgesic brands. In such case, we would have to remove the existing
products from the market one year from the effective date of the final
monograph, pending FDA review and approval of an NDA. The preparation of an NDA
would likely take us six to 18 months and would be expensive. It typically takes
the FDA at least 12 months to rule on an NDA once it is submitted.

We have responded to certain questions with respect to efficacy received
from the FDA in connection with clinical studies for pyrilamine maleate, one of
the active ingredients used in certain of the PAMPRIN and PREMSYN PMS products.
While we addressed all of the FDA questions in detail, the final monograph for
menstrual drug products, which has not yet been issued, will determine if the
FDA considers pyrilamine maleate safe and effective for menstrual relief
products. If pyrilamine maleate is not included in the final monograph, we would
be required to reformulate the products to continue to provide the consumer with
multi-symptom relief benefits. We have been actively monitoring the process and
do not believe that either PAMPRIN or PREMSYN PMS will be materially adversely
affected by the FDA review. We believe that any adverse finding by the FDA would
likewise affect our principal competitors in the menstrual product category. We
are also aware of the FDA's concern about the potential toxicity due to
concomitant use of OTC and prescription drugs that contain the ingredient
acetaminophen, an ingredient also found in PAMPRIN and PREMSYN PMS. We are
participating in an industry-wide effort to reassure the FDA that the current
recommended dosing regimen is safe and effective and that proper labeling and
public education by both OTC and prescription drug companies are the best
policies to abate the FDA's concern. There can be no assurance as to what
action, if any, the FDA may take with respect to acetaminophen.

17

Our business is also regulated by the California Safe Drinking Water and
Toxic Enforcement Act of 1986, known as Proposition 65. Proposition 65 prohibits
businesses from exposing consumers to chemicals that the state has determined
cause cancer or reproduction toxicity without first giving fair and reasonable
warning unless the level of exposure to the carcinogen or reproductive toxicant
falls below prescribed levels. From time to time, one or more ingredients in our
products could become subject to an inquiry under Proposition 65. If an
ingredient is on the state's list as a carcinogen, it is possible that a claim
could be brought, in which case we would be required to demonstrate that
exposure is below a "no significant risk" level for consumers. Any such claims
may cause us to incur significant expense, and we may face monetary penalties or
injunctive relief, or both, or be required to reformulate our product to
acceptable levels. The State of California under Proposition 65 is also
considering the inclusion of titanium dioxide on the state's list of suspected
carcinogens. Titanium dioxide has a long history of widespread use as an
excipient in prescription and OTC pharmaceuticals, cosmetics, dietary
supplements and skin care products and is an active ingredient in our BULLFROG
Superblock products. We have participated in an industry-wide submission to the
State of California, facilitated through the CHPA, presenting evidence that
titanium dioxide presents "no significant risk" to consumers.


19. CONDENSED CONSOLIDATING FINANCIAL STATEMENTS
--------------------------------------------

The condensed consolidating financial statements, for the dates or periods
indicated, of Chattem, Inc. ("Chattem"), Signal Investment & Management Co.
("Signal"), SunDex, LLC ("SunDex") and Chattem (Canada) Holdings, Inc.
("Canada"), the guarantors of the long-term debt of Chattem, and the
non-guarantor direct and indirect wholly-owned subsidiaries of Chattem are
presented below. Signal is 89% owned by Chattem and 11% owned by Canada. SunDex
and Canada are wholly-owned subsidiaries of Chattem. The guarantees of Signal,
SunDex and Canada are full and unconditional and joint and several. The
guarantees of Signal, SunDex and Canada as of February 28, 2005 arose in
conjunction with Chattem's Revolving Credit Facility and Chattem's issuance of
the Floating Rate Notes and the 7.0% Subordinated Notes (See Note 12). The
maximum amount of future payments the guarantors would be required to make under
the guarantees as of February 28, 2005 is $200,000.








18

CHATTEM, INC. AND SUBSIDIARIES Note 19
CONDENSED CONSOLIDATING BALANCE SHEETS

FEBRUARY 28, 2005
(Unaudited and in thousands)

GUARANTOR NON-GUARANTOR
SUBSIDIARY SUBSIDIARY
ASSETS CHATTEM COMPANIES COMPANIES ELIMINATIONS CONSOLIDATED
- ------ ------------ ------------ ------------ ------------ ------------

CURRENT ASSETS:
Cash and cash equivalents $ 29,026 $ 1,969 $ 12,544 $ -- $ 43,539
Accounts receivable, less
allowances of $2,339 34,890 10,379 5,923 (10,382) 40,810
Interest receivable -- 619 -- (619) --
Inventories 17,143 2,391 2,442 -- 21,976
Refundable income taxes 2,530 -- -- -- 2,530
Deferred income taxes 4,699 -- -- -- 4,699
Prepaid expenses and
other current assets 5,668 -- 884 -- 6,552
------------ ------------ ------------ ------------ ------------
Total current assets 93,956 15,358 21,793 (11,001) 120,106
------------ ------------ ------------ ------------ ------------
PROPERTY, PLANT AND EQUIPMENT, NET 27,319 775 260 -- 28,354
------------ ------------ ------------ ------------ ------------
OTHER NONCURRENT ASSETS:
Patents, trademarks and other
purchased product rights, net 582 283,944 -- (62,290) 222,236
Debt issuance costs, net 4,984 -- -- -- 4,984
Investment in subsidiaries 257,166 33,000 70,266 (360,432) --
Note receivable -- 33,000 -- (33,000) --
Other 5,528 -- 369 -- 5,897
------------ ------------ ------------ ------------ ------------
Total other noncurrent assets 268,260 349,944 70,635 (455,722) 233,117
------------ ------------ ------------ ------------ ------------
TOTAL ASSETS $ 389,535 $ 366,077 $ 92,688 $ (466,723) $ 381,577
============ ============ ============ ============ ============

LIABILITIES AND SHAREHOLDERS' EQUITY
- ------------------------------------

CURRENT LIABILITIES:
Current maturities of long-term
debt $ -- $ -- $ -- $ -- $ --
Accounts payable and other 10,299 -- 6,004 -- 16,303
Accrued liabilities 28,463 1,362 3,755 (11,001) 22,579
------------ ------------ ------------ ------------ ------------
Total current liabilities 38,762 1,362 9,759 (11,001) 38,882
------------ ------------ ------------ ------------ ------------

LONG-TERM DEBT, less current
maturities 200,000 -- 33,000 (33,000) 200,000
------------ ------------ ------------ ------------ ------------

DEFERRED INCOME TAXES 383 27,534 -- -- 27,917
------------ ------------ ------------ ------------ ------------

OTHER NONCURRENT LIABILITIES 1,804 -- -- -- 1,804
------------ ------------ ------------ ------------ ------------

INTERCOMPANY ACCOUNTS 35,607 (36,184) 577 -- --
------------ ------------ ------------ ------------ ------------

SHAREHOLDERS' EQUITY:
Preferred shares, without par
value, authorized 1,000,
none issued -- -- -- -- --
Common shares, without par
value, authorized 50,000,
issued and outstanding 19,850 84,620 -- -- -- 84,620
Share capital of subsidiaries -- 329,704 43,209 (372,913) --
Retained earnings 32,553 43,661 5,915 (49,576) 32,553
------------ ------------ ------------ ------------ ------------
Total 117,173 373,365 49,124 (422,489) 117,173
------------ ------------ ------------ ------------ ------------
Unamortized value of restricted
common shares issued (3,835) -- -- -- (3,835)
Cumulative other comprehensive
income, net of taxes:
Interest rate cap adjustment (347) -- -- -- (347)
Foreign currency translation
adjustment (12) -- 228 (233) (17)
------------ ------------ ------------ ------------ ------------
Total shareholders' equity 112,979 373,365 49,352 (422,722) 112,974
------------ ------------ ------------ ------------ ------------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 389,535 $ 366,077 $ 92,688 $ (466,723) $ 381,577
============ ============ ============ ============ ============


19

CHATTEM, INC. AND SUBSIDIARIES Note 19
CONDENSED CONSOLIDATING BALANCE SHEETS

NOVEMBER 30, 2004
(In thousands)

GUARANTOR NON-GUARANTOR
SUBSIDIARY SUBSIDIARY
ASSETS CHATTEM COMPANIES COMPANIES ELIMINATIONS CONSOLIDATED
- ------ ------------ ------------ ------------ ------------ ------------

CURRENT ASSETS:
Cash and cash equivalents $ 28,344 $ 1,967 $ 9,882 $ -- $ 40,193
Accounts receivable, less
allowances of $1,682 26,727 8,733 5,376 (8,738) 32,098
Interest receivable -- 619 -- (619) --
Inventories 16,681 3,020 1,989 -- 21,690
Refundable income taxes 4,702 -- -- -- 4,702
Deferred income taxes 4,308 -- -- -- 4,308
Prepaid expenses and other
current assets 3,489 -- 194 -- 3,683
------------ ------------ ------------ ------------ ------------
Total current assets 84,251 14,339 17,441 (9,357) 106,674
------------ ------------ ------------ ------------ ------------
PROPERTY, PLANT AND EQUIPMENT, NET 27,724 775 266 -- 28,765
------------ ------------ ------------ ------------ ------------

OTHER NONCURRENT ASSETS:
Patents, trademarks and other
purchased product rights, net 763 287,087 -- (62,290) 225,560
Debt issuance costs, net 5,174 -- -- -- 5,174
Investment in subsidiaries 249,999 33,000 68,477 (351,476) --
Note receivable -- 33,000 -- (33,000) --
Other 4,681 -- 870 -- 5,551
------------ ------------ ------------ ------------ ------------
Total other noncurrent assets 260,617 353,087 69,347 (446,766) 236,285
------------ ------------ ------------ ------------ ------------
TOTAL ASSETS $ 372,592 $ 368,201 $ 87,054 $ (456,123) $ 371,724
============ ============ ============ ============ ============

LIABILITIES AND SHAREHOLDERS' EQUITY

CURRENT LIABILITIES:
Current maturities of long-term
debt $ -- $ -- $ -- $ -- $ --
Accounts payable and other 11,398 -- 1,943 -- 13,341
Accrued liabilities 27,435 1,107 4,578 (9,357) 23,763
------------ ------------ ------------ ------------ ------------
Total current liabilities 38,833 1,107 6,521 (9,357) 37,104
------------ ------------ ------------ ------------ ------------

LONG-TERM DEBT, less current
maturities 200,000 -- 33,000 (33,000) 200,000
------------ ------------ ------------ ------------ ------------

DEFERRED INCOME TAXES (511) 26,243 -- -- 25,732
------------ ------------ ------------ ------------ ------------

OTHER NONCURRENT LIABILITIES 1,776 -- -- -- 1,776
------------ ------------ ------------ ------------ ------------

INTERCOMPANY ACCOUNTS 25,382 (25,484) 102 -- --
------------ ------------ ------------ ------------ ------------

SHAREHOLDERS' EQUITY:
Preferred shares, without par
value, authorized 1,000,
none issued -- -- -- -- --
Common shares, without par
value, authorized 50,000,
issued and outstanding 19,882 85,949 -- -- -- 85,949
Share capital of subsidiaries -- 329,705 41,100 (370,805) --
Retained earnings 23,888 36,630 6,115 (42,745) 23,888
------------ ------------ ------------ ------------ ------------
Total 109,837 366,335 47,215 (413,550) 109,837
------------ ------------ ------------ ------------ ------------
Unamortized value of restricted
common shares issued (2,386) -- -- -- (2,386)
Cumulative other comprehensive
income, net of taxes:
Interest rate cap adjustment (316) -- -- -- (316)
Foreign currency translation
adjustment (23) -- 216 (216) (23)
------------ ------------ ------------ ------------ ------------
Total shareholders' equity 107,112 366,335 47,431 (413,766) 107,112
------------ ------------ ------------ ------------ ------------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 372,592 $ 368,201 $ 87,054 $ (456,123) $ 371,724
============ ============ ============ ============ ============


20

CHATTEM, INC. AND SUBSIDIARIES Note 19
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS

FOR THE THREE MONTHS ENDED FEBRUARY 28, 2005
(Unaudited and in thousands)

GUARANTOR NON-GUARANTOR
SUBSIDIARY SUBSIDIARY
CHATTEM COMPANIES COMPANIES ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------ ------------


TOTAL REVENUES $ 58,790 $ 19,062 $ 4,873 $ (11,194) $ 71,531
------------ ------------ ------------ ------------ ------------

COSTS AND EXPENSES:
Cost of sales 16,614 2,323 2,139 (816) 20,260
Advertising and promotion 15,459 3,803 1,089 -- 20,351
Selling, general and administrative 11,521 73 290 -- 11,884
Litigation settlement 1,070 -- 1,685 -- 2,755
Equity in subsidiary income (6,831) -- -- 6,831 --
------------ ------------ ------------ ------------ ------------
Total costs and expenses 37,833 6,199 5,203 6,015 55,250
------------ ------------ ------------ ------------ ------------

INCOME (LOSS) FROM OPERATIONS 20,957 12,863 (330) (17,209) 16,281
------------ ------------ ------------ ------------ ------------

OTHER INCOME (EXPENSE):
Interest expense (3,489) -- (623) 617 (3,495)
Investment and other income, net 95 623 671 (1,242) 147
Royalties (9,017) (1,362) -- 10,379 --
Corporate allocations 715 (699) (16) -- --
------------ ------------ ------------ ------------ ------------
Total other income (expense) (11,696) (1,438) 32 9,754 (3,348)
------------ ------------ ------------ ------------ ------------

INCOME (LOSS) BEFORE INCOME TAXES 9,261 11,425 (298) (7,455) 12,933

PROVISION FOR (BENEFIT FROM)
INCOME TAXES 596 3,770 (98) -- 4,268
------------ ------------ ------------ ------------ ------------

NET INCOME (LOSS) $ 8,665 $ 7,655 $ (200) $ (7,455) $ 8,665
============ ============ ============ ============ ============






21

CHATTEM, INC. AND SUBSIDIARIES Note 19
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS

FOR THE THREE MONTHS ENDED FEBRUARY 29, 2004
(Unaudited and in thousands)

GUARANTOR NON-GUARANTOR
SUBSIDIARY SUBSIDIARY
CHATTEM COMPANIES COMPANIES ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------ ------------


TOTAL REVENUES $ 49,908 $ 16,549 $ 4,172 $ (9,392) $ 61,237
------------ ------------ ------------ ------------ ------------

COSTS AND EXPENSES:
Cost of sales 13,702 2,249 1,549 (548) 16,952
Advertising and promotion 16,376 1,177 979 -- 18,532
Selling, general and administrative 10,467 46 122 -- 10,635
Litigation settlement 194 -- -- -- 194
Equity in subsidiary income (8,309) -- -- 8,309 --
------------ ------------ ------------ ------------ ------------
Total costs and expenses 32,430 3,472 2,650 7,761 46,313
------------ ------------ ------------ ------------ ------------

INCOME FROM OPERATIONS 17,478 13,077 1,522 (17,153) 14,924
------------ ------------ ------------ ------------ ------------

OTHER INCOME (EXPENSE):
Interest expense (4,763) -- (611) 619 (4,755)
Investment and other income, net 27 620 17 (619) 45
Loss on early extinguishment of debt (11,309) -- -- -- (11,309)
Royalties (7,525) (1,319) -- 8,844 --
Corporate allocations 788 (759) (29) -- --
------------ ------------ ------------ ------------ ------------
Total other income (expense) (22,782) (1,458) (623) 8,844 (16,019)
------------ ------------ ------------ ------------ ------------

(LOSS) INCOME BEFORE INCOME TAXES (5,304) 11,619 899 (8,309) (1,095)

(BENEFIT FROM) PROVISION FOR
INCOME TAXES (4,592) 4,067 142 -- (383)
------------ ------------ ------------ ------------ ------------

NET (LOSS) INCOME $ (712) $ 7,552 $ 757 $ (8,309) $ (712)
============ ============ ============ ============ ============






22

CHATTEM, INC. AND SUBSIDIARIES Note 19
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS

FOR THE THREE MONTHS ENDED FEBRUARY 28, 2005
(Unaudited and in thousands)

GUARANTOR NON-GUARANTOR
SUBSIDIARY SUBSIDIARY
CHATTEM COMPANIES COMPANIES ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------ ------------

OPERATING ACTIVITIES:
Net income (loss) $ 8,665 $ 7,655 $ (200) $ (7,455) $ 8,665
Adjustments to reconcile net
income (loss) to net cash provided
by operating activities:
Depreciation and amortization 1,585 -- 39 -- 1,624
Deferred income taxes 487 1,291 -- -- 1,778
Tax benefit realized from
stock option plans 186 -- -- -- 186
Other, net 49 -- 312 -- 361
Equity in subsidiary income (7,455) -- -- 7,455 --
Changes in operating assets
and liabilities:
Accounts receivable (11,307) 1,498 (547) 1,644 (8,712)
Inventories (462) 628 (452) -- (286)
Refundable income taxes 2,172 -- -- -- 2,172
Prepaid expenses and other
current assets 1,072 -- (690) -- 382
Accounts payable and
accrued liabilities (70) 255 3,237 (1,644) 1,778
------------ ------------ ------------ ------------ ------------
Net cash provided by
operating activities (5,078) 11,327 1,699 -- 7,948
------------ ------------ ------------ ------------ ------------

INVESTING ACTIVITIES:
Purchases of property, plant
and equipment (423) -- (33) -- (456)
(Increase) decrease in other
assets, net 12 -- 512 -- 524
------------ ------------ ------------ ------------ ------------
Net cash (used in) provided
by investing activities (411) -- 479 -- 68
------------ ------------ ------------ ------------ ------------

FINANCING ACTIVITIES:
Repayment of policy loans (1,031) -- -- -- (1,031)
Proceeds from exercise of stock
options 187 -- -- -- 187
Repurchase of common shares (3,514) -- -- -- (3,514)
Changes in intercompany accounts 10,529 (10,700) 171 -- --
Dividends paid -- (625) 625 -- --
------------ ------------ ------------ ------------ ------------
Net cash provided by (used
in) financing activities 6,171 (11,325) 796 -- (4,358)
------------ ------------ ------------ ------------ ------------

EFFECT OF EXCHANGE RATE CHANGES ON
CASH AND CASH EQUIVALENTS -- -- (312) -- (312)
------------ ------------ ------------ ------------ ------------

CASH AND CASH EQUIVALENTS:
Increase for the period 682 2 2,662 -- 3,346
At beginning of period 28,344 1,967 9,882 -- 40,193
------------ ------------ ------------ ------------ ------------
At end of period $ 29,026 $ 1,969 $ 12,544 $ -- $ 43,539
============ ============ ============ ============ ============






23

CHATTEM, INC. AND SUBSIDIARIES Note 19
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS

FOR THE THREE MONTHS ENDED FEBRUARY 29, 2004
(Unaudited and in thousands)

GUARANTOR NON-GUARANTOR
SUBSIDIARY SUBSIDIARY
CHATTEM COMPANIES COMPANIES ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------ ------------

OPERATING ACTIVITIES:
Net (loss) income $ (712) $ 7,552 $ 757 $ (8,309) $ (712)
Adjustments to reconcile net
(loss) income to net cash
provided by operating activities:
Depreciation and amortization 1,519 -- 18 -- 1,537
Deferred income taxes 303 1,679 -- -- 1,982
Tax benefit realized from
stock option plans 1,083 -- -- -- 1,083
Loss on early extinguishment
of debt 11,309 -- -- -- 11,309
Equity in subsidiary income (8,309) -- -- 8,309 --
Changes in operating assets
and liabilities:
Accounts receivable (8,844) (8,845) (264) 8,845 (9,108)
Interest receivable -- (619) -- 619 --
Inventories (74) 22 43 -- (9)
Refundable income taxes (3,752) -- -- -- (3,752)
Prepaid expenses and other
current assets 2,567 -- 25 (500) 2,092
Accounts payable and
accrued liabilities 7,368 1,319 176 (8,964) (101)
------------ ------------ ------------ ------------ ------------
Net cash provided by
operating activities 2,458 1,108 755 -- 4,321
------------ ------------ ------------ ------------ ------------

INVESTING ACTIVITIES:
Purchases of property, plant and
equipment (485) -- (6) -- (491)
Purchases of patents, trademarks
and other product rights -- (17) -- -- (17)
Increase in note receivable -- (33,000) -- 33,000 --
(Increase) decrease in other
assets, net (760) -- 270 -- (490)
------------ ------------ ------------ ------------ ------------
Net cash (used in)
provided by investing
activities (1,245) (33,017) 264 33,000 (998)
------------ ------------ ------------ ------------ ------------


FINANCING ACTIVITIES:
Repayment of long-term debt (182,280) -- -- -- (182,280)
Proceeds from long-term debt 200,000 -- -- -- 200,000
Proceeds from borrowings under
revolving credit facility 25,000 -- -- -- 25,000
Proceeds from exercise of stock
options 1,453 -- -- -- 1,453
Repurchase of common shares (319) -- -- -- (319)
Increase in debt issuance costs (5,678) -- -- -- (5,678)
Debt retirement costs (6,946) -- -- -- (6,946)
Restricted cash (32,227) -- -- -- (32,227)
Intercompany debt proceeds, net -- -- 33,000 (33,000) --
Changes in intercompany accounts 882 31,915 (32,797) -- --
------------ ------------ ------------ ------------ ------------
Net cash (used in)
provided by financing
activities (115) 31,915 203 (33,000) (997)
------------ ------------ ------------ ------------ ------------
EFFECT OF EXCHANGE RATE CHANGES ON
CASH AND CASH EQUIVALENTS
-- -- 26 -- 26
------------ ------------ ------------ ------------ ------------
CASH AND CASH EQUIVALENTS:
Increase for the period 1,098 6 1,248 -- 2,352
At beginning of period 18,702 1,964 6,265 -- 26,931
------------ ------------ ------------ ------------ ------------
At end of period $ 19,800 $ 1,970 $ 7,513 $ -- $ 29,283
============ ============ ============ ============ ============



24

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS
---------------------

The following discussion and analysis of our financial condition and
results of operations should be read in conjunction with the audited
consolidated financial statements and related notes thereto included in our 2004
Annual Report on Form 10-K filed with the Securities and Exchange Commission.
This discussion and analysis contains forward-looking statements that involve
risks, uncertainties and assumptions. The actual results may differ materially
from those anticipated in these forward-looking statements as a result of a
number of factors, including, but not limited to, those described in our filings
with the Securities and Exchange Commission.

OVERVIEW

We are a leading marketer and manufacturer of a broad portfolio of branded
over-the-counter ("OTC") healthcare products, toiletries and dietary supplements
including such categories as topical analgesics, medicated skin care products,
medicated dandruff shampoos and conditioner, dietary supplements, and other OTC
and toiletry products. Our portfolio of products includes well-recognized brands
such as:

o Topical analgesics such as ICY HOT and ASPERCREME;

o Medicated skin care products such as GOLD BOND medicated skin care
powder, cream, lotion, first aid, and foot care products; and
PHISODERM medicated acne treatment products and skin cleansers;

o SELSUN BLUE medicated dandruff shampoos and conditioner;

o Dietary supplements including DEXATRIM, GARLIQUE and NEW PHASE; and

o Other OTC and toiletry products such as PAMPRIN, a menstrual
analgesic; HERPECIN-L, a lip care product; BENZODENT, a dental
analgesic cream; and toiletries such as BULLFROG, a line of sunblocks;
ULTRASWIM, a chlorine-removing shampoo; and SUN-IN, a hair lightener.

Our products typically target niche markets that are often outside the core
product areas of larger companies where we believe we can achieve and sustain
significant market penetration through innovation and strong advertising and
promotion support. Many of our products are among the U.S. market leaders in
their respective categories. For example, our portfolio of topical analgesic
brands and our GOLD BOND medicated body powders have the leading U.S. market
share in these categories. We support our brands through extensive and
cost-effective advertising and promotion, the expenditures for which represented
approximately 29% of our total revenues in the first quarter of fiscal 2005. We
sell our products nationally through mass merchandiser, drug and food channels
principally utilizing our own sales force.

Our net income (loss) margin (net income (loss)/total revenues) was 12.1%
and (1.2%) for the first quarter of fiscal 2005 and 2004, respectively. Our net
income (excluding debt extinguishment and litigation settlement charges) margin
(net income (excluding debt extinguishment and litigation settlement
charges)/total revenues) was 14.7% and 11.0% for the first quarter of fiscal
2005 and 2004, respectively. We believe that disclosure of net income (excluding
debt extinguishment and litigation settlement charges) margin provides investors
with useful information regarding our financial performance and allows for
easier comparison with net income margin without the effect of the charges in
prior periods. A reconciliation of net income (excluding debt extinguishment and
litigation settlement charges) to net income is presented in the following
table:

FOR THE THREE MONTHS ENDED
-------------------------------
FEBRUARY 28, FEBRUARY 29,
2005 2004
------------ ------------
(dollars in thousands,
except per share data)

Net income (loss) $ 8,665 $ (712)
Add:
Loss on early extinguishment of debt -- 11,309
Litigation settlement charges 2,755 194
Benefit from income taxes (909) (4,026)
------------ ------------
Net income (excluding debt extinguishment
and litigation settlement charges) $ 10,511 $ 6,765
============ ============
Net income (excluding debt extinguishment
and litigation settlement charges) per
common share (diluted) $ .51 $ .34
============ ============
Net income (excluding debt extinguishment
and litigation settlement charges) margin 14.7% 11.0%
============ ============

25

EBITDA, earnings before interest, taxes, depreciation and amortization, is
a key non-GAAP financial measure used by us to measure operating performance but
may not be comparable to similarly titled measures reported by other companies.
The most directly comparable GAAP financial measure is net income. EBITDA and
EBITDA (excluding litigation settlement charges) are used by us to supplement
net income as an indicator of operating performance and not as an alternative to
measures defined and required by U.S. generally accepted accounting principles.
We consider EBITDA and EBITDA (excluding litigation settlement charges) as
important indicators of our operational strength and performance, including our
ability to pay interest, service debt and fund capital expenditures. EBITDA and
EBITDA (excluding litigation settlement charges) should be considered in
addition to, but not as a substitute for, operating income, net income and other
measures of financial performance reported in accordance with U.S. generally
accepted accounting principles. EBITDA is also one measure used in the
calculation of certain ratios to determine our compliance with the terms of our
Revolving Credit Facility.

A reconciliation of EBITDA and EBITDA (excluding litigation settlement
charges) to net income is presented in the following table:

FOR THE THREE MONTHS ENDED
------------------------------------------------------------------
DOLLAR PERCENTAGE
FEBRUARY 28, FEBRUARY 29, INCREASE INCREASE
2005 2004 (DECREASE) (DECREASE)
------------ ------------ ------------ ------------
(dollars in thousands)

Net income (loss) $ 8,665 $ (712) $ 9,377 1,317.0%
Add:
Provision for (benefit from) income taxes 4,268 (383) 4,651 1,214.4
Interest expense, net (1) 3,348 16,019 (12,671) (79.1)
Depreciation and amortization less amounts
included in interest 1,434 1,268 166 13.1
------------ ------------ ------------
EBITDA $ 17,715 $ 16,192 $ 1,523 9.4
============ ============ ============
Litigation settlement charges 2,755 194 2,561 1,320.1
------------ ------------ ------------
EBITDA (excluding litigation settlement charges) $ 20,470 $ 16,386 $ 4,084 24.9
============ ============ ============

EBITDA margin (EBITDA/total revenues) 24.8% 26.4%
============ ============
EBITDA (excluding litigation settlement charges)
margin (EBITDA (excluding litigation settlement
charges)/total revenues) 28.6% 26.8%
============ ============


(1) Fiscal 2004 includes a loss on early extinguishment of debt of $11.3
million.

DEVELOPMENTS DURING FISCAL 2005

In the first quarter of fiscal 2005, we introduced the following product
line extensions: ASPERCREME Odor-Free Therapy Back and Body Patch, GOLD BOND
Ultimate Comfort Powder, PHISODERM pH2O, NEW PHASE Extra Strength, DEXATRIM Max
and BULLFROG UV Defender.

On December 13, 2004, we entered into a term sheet of settlement with
Interstate Fire & Casualty Company ("Interstate") with regard to Interstate's
lawsuit to rescind its $25.0 million of excess coverage for product liability
claims relating to DEXATRIM products containing PPA. On March 18, 2005, we
entered into a settlement and coverage-in-place agreement with Interstate
consistent with the term sheet of settlement (the "Settlement Agreement"). In
accordance with the Settlement Agreement, Interstate will provide coverage of
DEXATRIM PPA claims that are covered by its policy after $78.5 million has been
paid toward covered claims. Once the $78.5 million threshold is met, Interstate
will pay 100% of the next $4.0 million of claims covered by its policy; 75% of
the next $8.5 million of such claims; and 50% of the last $12.5 million of such
claims. We are responsible for any claims not covered by the Interstate policy
either because the alleged injury did not occur before May 31, 2001, or the
claim was first made against us after May 31, 2004. In addition, under the
Settlement Agreement, we and Interstate will dismiss all claims and
counterclaims filed against each other, and we will release all claims against
Interstate relating to the excess coverage product liability insurance.

In the first quarter of fiscal 2005, we sold our SELSUN business in certain
countries in Africa and Asia to The Mentholatum Co., Inc. We maintain our rights
to SELSUN in Australia, New Zealand and worldwide (except India). The divested
territory was not compatible with our strategic goals for the remainder of our
international SELSUN operations and contributed only $1.3 million in net sales
in fiscal 2004.

26

RESULTS OF OPERATIONS

The following table sets forth, for the periods indicated, certain items
from our Condensed Consolidated Statements of Operations expressed as a
percentage of total revenues:
FOR THE THREE MONTHS ENDED
-------------------------------
FEBRUARY 28, FEBRUARY 29,
2005 2004
------------ ------------
TOTAL REVENUES 100.0% 100.0%
------------ ------------
COSTS AND EXPENSES:
Cost of sales 28.3 27.7
Advertising and promotion 28.5 30.2
Selling, general and administrative 16.6 17.4
Litigation settlement 3.8 0.3
------------ ------------
Total costs and expenses 77.2 75.6
------------ ------------
INCOME FROM OPERATIONS 22.8 24.4
------------ ------------
OTHER INCOME (EXPENSE):
Interest expense (4.9) (7.8)
Investment and other income, net 0.2 0.1
Loss on early extinguishment of debt -- (18.5)
------------ ------------
Total other income (expense) (4.7) (26.2)
------------ ------------

INCOME (LOSS) BEFORE INCOME TAXES 18.1 (1.8)

PROVISION FOR (BENEFIT FROM) INCOME TAXES 6.0 (0.6)
------------ ------------
NET INCOME (LOSS) 12.1% (1.2%)
============ ============

CRITICAL ACCOUNTING POLICIES

The preparation of financial statements in accordance with U.S. generally
accepted accounting principles requires management to use estimates. Several
different estimates or methods can be used by management that might yield
different results. The following are the significant estimates used by
management in the preparation of the February 28, 2005 condensed consolidated
financial statements:

ALLOWANCE FOR DOUBTFUL ACCOUNTS

As of February 28, 2005, an estimate was made of the collectibility of the
outstanding accounts receivable balances. This estimate requires the utilization
of outside credit services, knowledge about the customer and the customer's
industry, new developments in the customer's industry and operating results of
the customer as well as general economic conditions and historical trends. When
all these facts are compiled, a judgment as to the collectibility of the
individual account is made. Many factors can impact this estimate, including
those noted in this paragraph. The adequacy of the estimated allowance may be
impacted by the deterioration in the financial condition of a large customer,
weakness in the economic environment resulting in a higher level of customer
bankruptcy filings or delinquencies and the competitive environment in which the
customer operates. During the first quarter of fiscal 2005, we performed a
detailed assessment of the collectibility of trade accounts receivable and
reduced our estimate of allowance for doubtful accounts by approximately $0.3
million, which resulted in a decrease to selling, general and administrative
expense in our condensed consolidated financial statements.

REVENUE RECOGNITION

Revenue is recognized when our products are shipped to our customers. It is
generally our policy across all classes of customers that all sales are final.
As is common in the consumer products industry, customers return products for a
variety of reasons including products damaged in transit, discontinuance of a
particular size or form of product and shipping errors. As sales are recorded,
we accrue an estimated amount for product returns, as a reduction of these
sales, based upon our historical

27

experience and any known specific events that affect the accrual. We charge the
allowance account resulting from this accrual with any authorized deduction from
remittance by the customer or product returns upon receipt of the product.

In accordance with industry practice, we allow our customers to return
unsold sun care products (i.e. BULLFROG and SUN IN lines of products) at the end
of the sun care season. We record the sales at the time the products are shipped
and title transfers. At the time of shipment, we also record a reduction in
sales and an allowance on our balance sheet for anticipated returns based upon
an estimated return level. The level of returns may fluctuate from our estimates
due to several factors including weather conditions, customer inventory levels
and competitive conditions. Each percentage point change in our return rate
would impact our net sales by approximately $0.2 million. As a result of higher
sales volumes in the first quarter of fiscal 2005 and 2004, we increased our
estimate of seasonal returns by approximately $0.1 million and $0.2 million,
respectively, which resulted in a decrease to net sales in our condensed
consolidated financial statements. During the first quarter of fiscal 2005, as a
result of our estimate of customer inventory levels and based on historical
non-seasonal product returns, we increased our estimate of non-seasonal returns
by approximately $0.6 million, which resulted in a decrease to net sales in our
condensed consolidated financial statements, as compared to a $0.2 million
decrease in our estimate in the first quarter of fiscal 2004.

We routinely enter into agreements with our customers to participate in
promotional programs. These programs generally take the form of coupons,
temporary price reductions, scan downs, display activity and participations in
advertising vehicles provided uniquely by the customer. The ultimate cost of
these programs is often variable based on the number of units actually sold.
Estimated unit sales of a product under a promotional program are used to
estimate the total cost of the program, which is recorded as a reduction of
sales. Actual results can differ from the original estimate. We also consider
customer delays in requesting promotional program payments when evaluating the
required accrual. Many customers audit programs significantly after the date of
performance to determine the actual amount due and make a claim for
reimbursement at that time. As a result, changes in the unit sales trends under
promotional programs as well as the timing of payments could result in changes
in the accrual. During the first quarter of fiscal 2005 and 2004, primarily as a
result of the sales volume impact on variable based programs, we increased our
estimate of promotional accruals by approximately $0.5 million and $1.0 million,
respectively, which resulted in a decrease to net sales in our condensed
consolidated financial statements.

INCOME TAXES

We account for income taxes using the asset and liability approach as
prescribed by Statement of Financial Accounting Standards ("SFAS") No. 109,
"Accounting for Income Taxes". This approach requires recognition of deferred
tax assets and liabilities for the expected future tax consequences of events
that have been included in our condensed consolidated financial statements or
tax returns. Using the enacted tax rates in effect for the year in which the
differences are expected to reverse, deferred tax assets and liabilities are
determined based on the differences between the financial reporting and the tax
basis of an asset or liability. We record income tax expense in our condensed
consolidated financial statements based on an estimated annual effective income
tax rate. Our tax rate for the three months ended February 28, 2005 was 33%, as
compared to 35% in the three months ended February 29, 2004, respectively. The
lower rates for the three months ended February 28, 2005 reflect the
implementation of a number of foreign and state tax planning initiatives, which
include our determination during the third quarter of fiscal 2004 to reinvest
indefinitely all undistributed earnings of Chattem Canada, a wholly-owned
subsidiary.

Undistributed earnings of Chattem Canada amounted to approximately $281 for
the three months ended February 28, 2005. These earnings are considered to be
reinvested indefinitely and, accordingly, no provision for U.S. federal and
state income taxes has been provided thereon. Upon distribution of those
earnings in the form of dividends or otherwise, we would be subject to U.S.
income taxes (subject to an adjustment for foreign tax credits).

For a summary of our significant accounting policies, see Note 2 of Notes
to Consolidated Financial Statements included in our Annual Report on Form 10-K
for the year ended November 30, 2004 filed with the Securities and Exchange
Commission.

28

COMPARISON OF THREE MONTHS ENDED FEBRUARY 28, 2005 AND FEBRUARY 29, 2004

To facilitate discussion of our operating results for the three months
ended February 28, 2005 and February 29, 2004, we have included the following
selected data from our Condensed Consolidated Statements of Operations:

INCREASE (DECREASE)
------------------------
2005 2004 AMOUNT PERCENTAGE
---------- ---------- ---------- ----------
(dollars in thousands)

Domestic net sales $ 65,569 $ 55,606 $ 9,963 17.9%
International revenues (including royalties) 5,962 5,631 331 5.9
Total revenues 71,531 61,237 10,294 16.8
Cost of sales 20,260 16,952 3,308 19.5
Advertising and promotion expense 20,351 18,532 1,819 9.8
Selling, general and administrative expense 11,884 10,635 1,249 11.7
Litigation settlement 2,755 194 2,561 1,320.1
Interest expense 3,495 4,755 (1,260) (26.5)
Loss on early extinguishment of debt -- (11,309) nm nm
Net income (loss) 8,665 (712) 9,377 1,317.0


DOMESTIC NET SALES

Domestic net sales for the three months ended February 28, 2005 increased
$10.0 million or 17.9% as compared to the comparable period of 2004. A
comparison of domestic net sales for the categories of products included in our
portfolio of OTC healthcare products is as follows:

INCREASE (DECREASE)
------------------------
2005 2004 AMOUNT PERCENTAGE
---------- ---------- ---------- ----------
(dollars in thousands)

Topical analgesics $ 21,407 $ 15,712 $ 5,695 36.2%
Medicated skin care products 17,624 13,332 4,292 32.2
Dietary supplements 8,660 8,511 149 1.8
Medicated dandruff shampoos and conditioner 9,800 9,221 579 6.3
Other OTC and toiletry products 8,078 8,830 (752) (8.5)
---------- ---------- ----------
Total $ 65,569 $ 55,606 $ 9,963 17.9
========== ========== ==========


Net sales growth in the topical analgesic category was led by 53% and 50%
increases in sales of ASPERCREME and ICY HOT, respectively. ASPERCREME'S sales
increase was driven by the launch of the Odor-Free Therapy Back and Body Patch.
ICY HOT continued to benefit from the ICY HOT Medicated Sleeve and the effective
advertising campaign featuring Shaquille O'Neal. Net sales growth in this
category also resulted from 13% and 10% increases in SPORTSCREME and CAPZASIN
sales, respectively. The overall sales growth in this category was partially
offset by a decline in sales of FLEXALL as competition from inside and outside
the category increased and media support was curtailed.

Net sales growth in the medicated skin care products category resulted from
a 42% increase in the GOLD BOND franchise. GOLD BOND sales growth was
attributable to 70%, 52%, 23% and 20% increases from the lotion, foot care,
powder and cream product lines, respectively. The increase in sales from the
GOLD BOND lotion line of products was attributable to the continuing strength of
GOLD BOND ULTIMATE Healing Skin Therapy Lotion. The increase in net sales of
GOLD BOND foot resulted from increased distribution, GOLD BOND cream benefited
from an effective advertising campaign, and GOLD BOND powder sales were driven
by the launch of GOLD BOND ULTIMATE Comfort Powder.

Net sales growth in the dietary supplements category was led by a 34%
increase in sales of NEW PHASE as a result of the introduction of NEW PHASE
Extra Strength. The increase in net sales of NEW PHASE was partially offset by a
7% decline in sales of GARLIQUE.

Domestic net sales of SELSUN BLUE medicated dandruff shampoo increased due
to an effective advertising campaign.

The decrease in net sales for the other OTC and toiletry products category
was due primarily to sales decreases of PAMPRIN and PREMSYN, which both lost
distribution at a major retailer during the second quarter of fiscal 2004. The
decrease was partially offset by an increase in net sales of SUN-IN as a result
of expanded distribution.

29

Domestic sales variances were principally the result of changes in unit
sales volumes with the exception of certain selected products, for which we
implemented a unit sales price increase.

INTERNATIONAL REVENUES

For the first quarter of fiscal 2005, international revenues increased $0.3
million or 5.9% as compared to the first quarter of fiscal 2004 due principally
to strengthening sales of SELSUN in certain European and Middle Eastern
countries. Sales variances for international operations were principally the
result of changes in unit sales volumes.

COST OF SALES

Cost of sales as a percentage of total revenues was 28.3% for the first
quarter of fiscal 2005 as compared to 27.7% for the first quarter of fiscal
2004. Gross margin of 71.7% was attributable to favorable product mix,
purchasing and manufacturing efficiencies and ongoing cost savings programs.

ADVERTISING AND PROMOTION EXPENSE

Advertising and promotion expenses in the first quarter of fiscal 2005
increased $1.8 million or 9.8% as compared to the same quarter of fiscal 2004
and were 28.5% of total revenues for the three months ended February 28, 2005
compared to 30.2% for the comparable period of fiscal 2004. The decrease in
advertising and promotion expense as a percentage of revenues of 1.7% represents
a more effective use of advertising to generate sales. Increases in advertising
and promotion expenditures in the current period were recorded for ICY HOT,
ASPERCREME, CAPZASIN, DEXATRIM, SELSUN BLUE, GARLIQUE, NEW PHASE and GOLD BOND
powder, lotion and foot care lines. Decreases in advertising and promotion
expenditures were recognized for FLEXALL, PHISODERM, PAMPRIN and PREMSYN.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, general and administrative expenses increased $1.2 million or
11.7% as compared to the same quarter of fiscal 2004. Selling, general and
administrative expenses were 16.6% and 17.4% of total revenues for the first
quarter of fiscal 2005 and 2004, respectively. An increase in sales was
primarily responsible for the increase in selling expense. In addition, freight
expenses increased due to an increase in fuel costs. The increase in general and
administrative expenses was largely a result of increased compensation and
insurance expense.

LITIGATION SETTLEMENT CHARGES

Litigation settlement charges were $2.8 million in the first quarter of
fiscal 2005. This expense was attributable to incurring $1.1 million of legal
expenses relating to the DEXATRIM PPA settlement, and $1.7 million associated
with DEXATRIM ephedrine-related claims and legal expenses.

INTEREST EXPENSE

Interest expense decreased $1.3 million or 26.5% in the first quarter of
fiscal 2005 as compared to the same quarter of fiscal 2004. The decrease was
largely the result of lower interest rates and a reduction in outstanding debt
as a result of our debt refinancing completed during the first quarter of fiscal
2004. Until our indebtedness is reduced substantially, interest expense will
continue to represent a significant percentage of our total revenues.

LOSS ON EARLY EXTINGUISHMENT OF DEBT

During the first quarter of fiscal 2004, we retired $174.5 million
principal amount of our 8.875% Subordinated Notes and the remaining outstanding
balance of our Credit Facility, which resulted in a loss on early extinguishment
of debt of $11.3 million.

LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------

We have historically financed our operations with a combination of
internally generated funds and borrowings. Our principal uses of cash are for
operating expenses, servicing long-term debt, acquisitions, working capital,
repurchases of our common stock, payment of income taxes and capital
expenditures.

Cash of $7.9 million and $4.3 million was provided by operations for the
three months ended February 28, 2005 and February 29, 2004, respectively. The
increase in cash flows from operations over the prior period was primarily
attributable to an increase in refundable income taxes and accounts payable. In
addition, prepaid expenses and other assets decreased as a result of an increase
in prepaid advertising in the first quarter of fiscal 2005.

30

Investing activities provided cash of $68,000 and used cash of $1.0 million
in the three months ended February 28, 2005 and February 29, 2004, respectively.
The usage of cash in the first quarter of fiscal 2004 was primarily due to the
increase in cash surrender value related to executive and director insurance
policies.

Financing activities used cash of $4.4 million and $1.0 million in the
three months ended February 28, 2005 and February 29, 2004, respectively. The
increase in cash used in the current period was primarily attributable to the
$3.5 million repurchase of common stock and the repayment of loans related to
executive and director life insurance policies as compared to the prior period
reflecting the refinancing transaction.

In January 2005, our board of directors increased the total authorization
to repurchase our common stock under our stock buyback program to $30.0 million.
In the first quarter of fiscal 2005, we repurchased 102,500 shares for $3.5
million. All repurchased shares were retired and returned to unissued. We,
however, are limited in our ability to repurchase shares due to restrictions
under the terms of our Revolving Credit Facility, Floating Rate Notes and 7.0%
Subordinated Notes. Subsequent to February 28, 2005, we have repurchased 115,800
of our shares for $4.2 million.

FOREIGN OPERATIONS
- ------------------

Historically, our primary foreign operations have been conducted through
our Canadian and United Kingdom ("U.K.") subsidiaries. Effective November 1,
2004, we transitioned our European business to Chattem Global Consumer Products
Limited, a wholly-owned subsidiary located in Limerick, Ireland. The functional
currencies of these subsidiaries are Canadian dollars, British pounds and Euros,
respectively. Fluctuations in exchange rates can impact operating results,
including total revenues and expenses, when translations of the subsidiary
financial statements are made in accordance with SFAS No. 52, "Foreign Currency
Translation". For the three months ended February 28, 2005 and February 29,
2004, these subsidiaries accounted for 7% of total revenues, respectively, and
5% and 3% of total assets, respectively. It has not been our practice to hedge
our assets and liabilities in Canada, the U.K. and Ireland or our intercompany
transactions due to the inherent risks associated with foreign currency hedging
transactions and the timing of payments between us and our foreign subsidiaries.
Following our acquisition of SELSUN BLUE, which is sold in approximately 70
foreign countries, our international business operations have expanded
significantly, which will increase our exposure to fluctuations in foreign
exchange rates. During fiscal 2004, a portion of these foreign sales was
reflected as royalties, which have been paid to us in U.S. dollars. In addition,
Abbott has continued to supply a portion of our international product, and
beginning April 1, 2004, Abbott began billing us in local currencies.
Historically, gains or losses from foreign currency transactions have not had a
material impact on our operating results. (Losses) gains of $(10,000) and
$34,000 for the three months ended February 28, 2005 and February 29, 2004,
respectively, resulted from foreign currency transactions and are included in
selling, general and administrative expenses in the Condensed Consolidated
Statements of Operations.

RECENT ACCOUNTING PRONOUNCEMENTS
- --------------------------------

In December 2003, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 46R, "Consolidation of Variable Interest Entities" ("FIN
46R"), which supercedes Interpretation No. 46, "Consolidation of Variable
Interest Entities" issued in January 2003. FIN 46R requires a company to
consolidate a variable interest entity ("VIE"), as defined, when the company
will absorb a majority of the VIE's expected losses, receives a majority of the
VIE's expected residual returns or both. FIN 46R also requires consolidation of
existing, non-controlled affiliates if the VIE is unable to finance its
operations without investor support, or where the other investors do not have
exposure to the significant risks and rewards of ownership. FIN 46R applies
immediately to a VIE created or acquired after January 31, 2003. For a VIE
created before February 1, 2003, FIN 46R applies in the first fiscal year or
interim period beginning after March 15, 2004, our third fiscal quarter
beginning June 1, 2004. Application of FIN 46R is also required in financial
statements that have interests in structures that are commonly referred to as
special-purpose entities for periods ending after December 15, 2003. The
adoption of FIN 46R did not have an impact on our financial position, results of
operations or cash flows.

In November 2004, the FASB issued SFAS No. 151, "Inventory Costs" ("SFAS
151"). SFAS 151 amends the guidance in Accounting Research Bulletin No. 43,
Chapter 4, "Inventory Pricing", to clarify that abnormal amounts of idle
facility expense, freight, handling costs and wasted materials (spoilage) should
be recognized as current-period charges and requires the allocation of fixed
production overheads to inventory based on normal capacity of the production
facilities. This statement is effective for inventory costs incurred during
fiscal years beginning after June 15, 2005. The adoption of SFAS 151 is not
expected to have an impact on our financial position, results of operations or
cash flows.

In November 2004, the Emerging Issues Task Force ("EITF") reached a
consensus on Issue No. 03-13, "Applying the Conditions in Paragraph 42 of FASB
Statement No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" in Determining Whether to Report Discontinued Operations" ("EITF
03-13"). Under the consensus, the approach for assessing whether cash flows of
the component have been eliminated from the ongoing operations of the entity
focuses on whether

31

continuing cash flows are direct or indirect cash flows. Cash flows of the
component would not be eliminated if the continuing cash flows to the entity are
considered direct cash flows. The consensus should be applied to a component of
an enterprise that is either disposed of or classified as held for sale in
fiscal periods beginning after December 15, 2004. The adoption of EITF 03-13 is
not expected to have an impact on our financial position, results of operations
or cash flows.

In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
Payment" ("SFAS 123R"), which is a revision of SFAS No. 123, "Accounting for
Stock-Based Compensation". SFAS 123R supercedes APB Opinion No. 25, "Accounting
for Stock Issued to Employees" and amends SFAS No. 95, "Statement of Cash
Flows". SFAS 123R focuses primarily on accounting for transactions in which an
entity obtains employee services in share-based payment transactions and
requires all share-based payments to employees, including grants of employee
stock options, to be recognized in the income statement based on their fair
values. Accordingly, the adoption of SFAS 123R's fair value method will have a
significant impact on our results of operations, although it will have no impact
on our overall financial position. The impact of the adoption of SFAS 123R
cannot be predicted at this time because it will depend on the levels of
share-based payments granted in the future. However, had we adopted SFAS 123R in
prior periods the impact of that standard would have approximated the impact of
SFAS 123 as described in the disclosure of proforma net income and earnings per
share in Note 5 to our condensed consolidated financial statements. SFAS 123R
also requires the benefits of tax deductions in excess of recognized
compensation costs to be reported as a financing cash flow, rather than as an
operating cash flow as required under current literature. This requirement will
reduce net operating cash flows and increase net financing cash flows in periods
after adoption. While we cannot estimate what those amounts will be in the
future (because they depend on, among other things, when employees exercise
stock options), the amount of operating cash flows recognized in prior periods
for such excess tax deductions were not material to our consolidated financial
position or results of operations. This statement is effective for our interim
periods beginning after June 15, 2005.

In December 2004, the FASB issued SFAS 153, "Exchanges of Nonmonetary
Assets" ("SFAS 153"). SFAS 153 amends the guidance in APB Opinion No. 29,
"Accounting for Nonmonetary Transactions" to eliminate certain exceptions to the
principle that exchanges of nonmonetary assets be measured based on the fair
value of the assets exchanged. SFAS 153 eliminates the exception for nonmonetary
exchanges of similar productive assets and replaces it with a general exception
for exchanges of nonmonetary assets that do not have commercial substance. This
statement is effective for nonmonetary asset exchanges in fiscal years beginning
after June 15, 2005. The adoption of SFAS 153 is not expected to have an impact
on our financial position, results of operations or cash flows.

FORWARD LOOKING STATEMENTS
- --------------------------

Statements in this Quarterly Report on Form 10-Q which are not historical
facts are forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. These forward-looking statements
involve risks, uncertainties and assumptions that could cause actual outcomes
and results to differ materially from those expressed or projected.








32

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
- -------------------------------------------------------------------

We are exposed to market risk from changes in interest rates and foreign
currency exchange rates, which may adversely affect our results of operations
and financial condition. We seek to minimize the risks from these interest rates
and foreign currency exchange rate fluctuations through our regular operating
and financing activities.

Our exposure to interest rate risk currently consists of our Floating Rate
Notes and our Revolving Credit Facility. The aggregate balance outstanding under
the Floating Rate Notes as of February 28, 2005, was $75.0 million. The Floating
Rate Notes bear interest at a three-month LIBOR plus 3.00% per year (5.38% as of
February 28, 2005). Loans under our Revolving Credit Facility bear interest at
LIBOR plus applicable percentages of 1.75% to 2.50% or a base rate (the higher
of the federal funds rate plus 0.5% or the prime rate) plus applicable
percentages of 0.25% to 1.0%. The applicable percentages are calculated based on
our leverage ratio. As of February 28, 2005, no amounts were outstanding under
the Revolving Credit Facility, and the variable rate on the Revolving Credit
Facility was 6.0%. The 7.0% Subordinated Notes are fixed interest rate
obligations. On March 8, 2004, we entered into an interest rate cap agreement
effective June 1, 2004 with decreasing annual notional principal amounts of
$15.0 million beginning March 1, 2006 and cap rates ranging from 4.0% to 5.0%
over the life of the agreement. The amortized value of the premium on the
interest rate cap was compared to its fair value as of February 28, 2005, and a
charge of $0.3 million, net of tax, was recorded to other comprehensive income.
The interest rate cap agreement terminates on March 1, 2010. The impact on our
results of operations of a one-point rate change on the balance currently
outstanding of our Floating Rate Notes for the next twelve months would be
approximately $0.5 million, net of tax.

We are subject to risk from changes in the foreign exchange rates relating
to our Canadian, U.K. and Irish subsidiaries. Assets and liabilities of these
subsidiaries are translated to U.S. dollars at year-end exchange rates. Income
and expense items are translated at average rates of exchange prevailing during
the year. Translation adjustments are accumulated as a separate component of
shareholders' equity. Gains and losses, which result from foreign currency
transactions, are included in the Condensed Consolidated Statements of
Operations. In addition, Abbott has continued to supply a portion of our
international product, and beginning April 1, 2004, Abbott began billing us in
local currencies. The potential loss resulting from a hypothetical 10.0% adverse
change in the quoted foreign currency exchange rate amounts to approximately
$1.3 million as of February 28, 2005.

This market risk discussion contains forward-looking statements. Actual
results may differ materially from this discussion based upon general market
conditions and changes in financial markets.


ITEM 4. CONTROLS AND PROCEDURES
- -------------------------------

(a) Evaluation of Disclosure Controls and Procedures. Our Chief Executive
Officer and Chief Financial Officer have evaluated the effectiveness of our
disclosure controls and procedures (as such terms are defined in Rules
13(a)-15(e) and 15(d)-15(e)) under the Securities Exchange Act of 1934, as
amended (the "Exchange Act") as of February 28, 2005 of this Form 10-Q (the
"Evaluation Date"). Based on such evaluation, such officers have concluded that,
as of the Evaluation Date, our disclosure controls and procedures are effective
in alerting them on a timely basis to material information relating to us
(including our consolidated subsidiaries) required to be included in our
periodic filings under the Exchange Act.

(b) Changes in Internal Controls. Since the Evaluation Date, there have not
been any significant changes in our internal controls over financial reporting
or in other factors that could significantly affect such controls.





33

PART II. OTHER INFORMATION
--------------------------



ITEM 1. LEGAL PROCEEDINGS
- -------------------------

See Note 18 of Notes to Condensed Consolidated Financial Statements
included in Part 1, Item 1 of this Report.


ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
- -------------------------------------------------------------------

A summary of the common stock repurchase activity for our first quarter of
fiscal 2005 is as follows:

TOTAL NUMBER OF MAXIMUM DOLLAR
SHARES PURCHASED AS VALUE THAT MAY
PART OF PUBLICLY YET BE PURCHASED
TOTAL NUMBER OF AVERAGE PRICE ANNOUNCED PLANS UNDER THE PLANS
PERIOD SHARES PURCHASED PAID PER SHARE(1) OR PROGRAMS(2) OR PROGRAMS
- ----------------------- ---------------- ---------------- ---------------- ----------------

December 1- December 31 500 $32.50 500 $14,950,220
January 1 - January 31 99,800 $34.24 99,800 $28,479,862
February 1 - February 28 2,200 $36.55 2,200 $28,399,452
Total First Quarter 102,500 $34.28 102,500 $28,399,452


(1) Average price paid per share includes broker commissions.

(2) Our stock buyback program authorizing the purchase of up to $20.0 million
of our common stock was announced in January 2004. In January 2005, our
board of directors increased the total authorization to repurchase our
common stock under our stock buyback program to $30.0 million. There is no
expiration date specified for our stock buyback program.



ITEM 3. DEFAULTS UPON SENIOR SECURITIES
- ---------------------------------------
None.


ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- -----------------------------------------------------------
None.


ITEM 5. OTHER INFORMATION
- -------------------------
None.






34

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- ----------------------------------------

(a) Exhibits (numbered in accordance with Item 601 of Regulation S-K):

Exhibit Number Description
-------------- -----------

10.1 Final Settlement Trust Agreement among Chattem,
Inc. and AmSouth Bank dated March 16, 2005

10.2 Settlement and Coverage-In-Place Agreement
between Interstate Fire & Casualty Company and
Chattem, Inc. effective March 18, 2005

10.3 First Amendment to Credit Agreement dated as of
December 22, 2004 among Chattem, Inc., its
domestic subsidiaries, identified lenders and
Bank of America, N.A., as Agent

10.4 Waiver and Second Amendment to Credit Agreement
dated as of February 25, 2005 among Chattem,
Inc., its domestic subsidiaries, identified
lenders and Bank of America, N.A., as Agent

31.1 Certification required by Rule 13a-14(a) under
the Securities Exchange Act of 1934

31.2 Certification required by Rule 13a-14(a) under
the Securities Exchange Act of 1934

32 Certification required by Rule 13a-14(b) under
the Securities Exchange Act of 1934 and 18
U.S.C. Section 1350


(b) During the first quarter ended February 28, 2005, we filed the
following Form 8-K reports with the Securities and Exchange
Commission:

Form 8-K, filed December 20, 2004, announcing a term sheet of
settlement between Chattem, Inc. and Interstate Fire & Casualty
Company.

Form 8-K, filed January 20, 2005, containing a copy of our press
release announcing our financial results for the fourth fiscal
quarter of 2004.



35

CHATTEM, INC.
-------------
SIGNATURES
----------


Pursuant to the requirements 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.





CHATTEM, INC.
------------------------------------------
(Registrant)




Dated: April 1, 2005 /s/ A. Alexander Taylor II
------------- ------------------------------------------
A. Alexander Taylor II
President, Chief Operating Officer
and Director
(Chief Operating Officer)




Dated: April 1, 2005 /s/ Richard D. Moss
------------- ------------------------------------------
Richard D. Moss
Vice President and Chief Financial Officer
(Principal Financial Officer)












36

CHATTEM, INC. AND SUBSIDIARIES
------------------------------
EXHIBIT INDEX
-------------






Exhibit Number Description of Exhibit
- -------------- ----------------------

10.1 Final Settlement Trust Agreement among Chattem, Inc. and
AmSouth Bank dated March 16, 2005

10.2 Settlement and Coverage-In-Place Agreement between
Interstate Fire & Casualty Company and Chattem, Inc.
effective March 18, 2005

10.3 First Amendment to Credit Agreement dated as of December
22, 2004 among Chattem, Inc., its domestic subsidiaries,
identified lenders and Bank of America, N.A., as Agent

10.4 Waiver and Second Amendment to Credit Agreement dated as of
February 25, 2005 among Chattem, Inc., its domestic
subsidiaries, identified lenders and Bank of America, N.A.,
as Agent

31.1 Certification required by Rule 13a-14(a) under the
Securities Exchange Act of 1934

31.2 Certification required by Rule 13a-14(a) under the
Securities Exchange Act of 1934

32 Certification required by Rule 13a-14(b) under the
Securities Exchange Act of 1934 and 18 U.S.C. Section 1350

















37