<PAGE>

                                                                    EXHIBIT 10.7

                    SEPARATION AGREEMENT AND GENERAL RELEASE

         This agreement is made by and between Paper Warehouse, Inc.
("Company"), and Brent D. Schlosser ("Schlosser").

                                    RECITALS

         1.       Schlosser is an officer, director, and employee of Company.

         2.       Schlosser desires to resign as an officer, director, and
                  employee of Company effective December 6, 1999, subject to the
                  terms and conditions of this agreement.

         3.       Company desires to accept Schlosser's resignation as an
                  officer, director, and employee of Company effective December
                  6, 1999, subject to the terms and conditions of this
                  agreement.

         NOW THEREFORE, based on the foregoing premises, and the terms and
conditions set forth below, Schlosser and Company hereby agree as follows:

1.       RESIGNATION AND TERMINATION OF CERTAIN BENEFITS. Schlosser hereby
resigns as an officer, director, and employee of Company, effective December 6,
1999 ("Effective Date"). On or about that date, Company will pay Schlosser his
final salary payment for services rendered through the Effective Date. As of the
Effective Date, and except as provided in this agreement, Schlosser will no
longer participate in any fringe benefit plans or programs that Company offers
to its employees. Company has no obligation to Schlosser for payment of any
earned but unused vacation time.

2.       COMPENSATION. Upon expiration of the periods of time set forth in
paragraph 10 below for revoking and rescinding his waivers of certain rights and
claims, and provided he has not done so, as a benefit of this agreement, Company
will pay Schlosser compensation equal to four (4) months of Schlosser's final
annualized salary (the "Salary Continuation"). Payments will be made in equal
installments on Company's regular paydays. Payments will begin on December 24,
1999 for the period December 4-17, 1999, and in year 2000 on January 7, 21,
February 4, 18, March 3, 17, 31, and April 14 (for the period March 25-April 5,
2000). Payments will be subject to applicable income tax and other legally
required withholdings.

3.       HEALTH, LIFE, AND DENTAL INSURANCE. Upon the Effective Date, when
Schlosser ceases to be an employee of Company, he is entitled to continue his
health, life, and dental insurance coverages at his expense as required by law.
If he then elects to continue such coverages, as an additional benefit of this
agreement, Company will pay its share of the cost of these coverages through the
period of the Salary Continuation, or until Schlosser obtains comparable
replacement coverages, whichever is sooner. Schlosser will make his
contributions to the cost of these coverages by payroll deductions from the
periodic payments he will receive under paragraph 2 of this agreement and hereby
voluntarily authorizes those deductions.



<PAGE>

4.       CAR ALLOWANCE. As an additional benefit of this agreement, Company will
continue to pay Schlosser his car allowance of $150.00 per month for four months
in one lump sum of $600.00 on December 31, 1999.

5.       INDEMNIFICATION. As an additional benefit of this agreement, Company
hereby indemnifies and defends Schlosser against any claims made against him in
his capacity as an officer, director, or employee of Company, to the extent
permitted by Company's by-laws and as required by Minnesota law. In addition,
and if allowed by the insurer, the Company will include Schlosser as an insured
under a directors' and officers' liability policy through December 31, 2002 with
terms and conditions of coverage comparable to the coverage afforded to the
Company's directors and officers.

6.       NONCOMPETITION COVENANT. In consideration of the compensation and other
benefits that Schlosser will receive in this agreement, Schlosser will execute
the attached noncompetition agreement, which is incorporated herein.

7.       TRANSITION. Through January 15, 2000, or earlier at the election of
Company, Schlosser will assist Company in the transition of company business in
which he was involved to others in the organization. During such transition
period, Schlosser will have his office and support staff. Schlosser will be
unavailable to assist in the transition for up to five (5) business days on or
around the Christmas/New Year holidays.

8.       MUTUAL GENERAL RELEASE.

         RELEASE BY SCHLOSSER. EXCEPT AS PROVIDED BELOW, in exchange for
receiving the pay and other benefits in this agreement, Schlosser hereby gives
up all of his claims against Company, except for claims arising under this
agreement or after the Effective Date. Schlosser fully and finally releases,
gives up, and otherwise relinquishes all of his rights and claims against
Company, including, for example, (1) rights and claims of age discrimination
under the federal Age Discrimination in Employment Act ("ADEA"); (2) rights and
claims of discrimination under the Minnesota Human Rights Act ("MHRA"); (3) all
claims Schlosser has now, whether or not he now knows about the claims; (4) all
claims for attorneys fees; and (5) all claims arising out of his employment or
separation from employment with Company, including, but not limited to, claims
for alleged breach of contract, wrongful termination, defamation, invasion of
privacy, and infliction of emotional distress.

         Schlosser will not bring any lawsuits or make any other demands against
Company, consistent with the foregoing release. The money and benefits Schlosser
will receive as set forth in this agreement are full and fair payment for the
release of all of Schlosser's rights and claims. Company does not owe Schlosser
anything in addition to what he will receive in this agreement. The
consideration extended by Company in this agreement in return for Schlosser's
release of rights and claims is more than anything of value to which Schlosser
is already entitled.


                                      2
<PAGE>

         RELEASE BY COMPANY. EXCEPT AS PROVIDED BELOW, in exchange for receiving
the benefits in this agreement, Company hereby gives up all of its claims
against Schlosser, except for claims arising under this agreement or after the
Effective Date. Company fully and finally releases, gives up, and otherwise
relinquishes all of its rights and claims against Schlosser. Company will not
bring any lawsuits or make any other demands against Schlosser consistent with
the foregoing release. The benefits Company will receive as set forth in this
agreement are full and fair payment for the release of all of Company's rights
and claims. Schlosser does not owe Company anything in addition to what it will
receive in this agreement. The consideration extended by Schlosser in this
agreement in return for Company's release of rights and claims is more than
anything of value to which Company is already entitled.

         EXCEPTIONS TO RELEASES. The foregoing releases do not apply to the tax
sharing agreement between Schlosser and Company, the terms and conditions of
which survive this agreement and Schlosser's resignation as an officer,
director, and employee of Company.

         As used in this paragraph, "Schlosser" means Brent D. Schlosser, and
all and each of his heirs, representatives, administrators, executors, and
anybody else who has or obtains legal rights or claims against Company through
Schlosser.

         Also as used in this paragraph, "Company" means Paper Warehouse, Inc.,
and all and each of its past and present parent, subsidiary, and affiliated
entities; and all and each of the past and present officers, directors, agents,
employees, insurers, indemnitors, successors and assigns of all and each of the
foregoing entities.

9.       NON-ADMISSION. Company does not admit that it is responsible or legally
obligated to Schlosser, and in fact, Company denies that is responsible or
legally obligated to him even though it has paid him to release his claims.

10.      IMPORTANT RIGHTS OF SCHLOSSER; PLEASE READ CAREFULLY

         a)    Company hereby advises Schlosser to consult an attorney prior to
signing this agreement.

         b)    Schlosser further understands that he has twenty-one (21) days to
consider his waiver of age discrimination rights and claims of age
discrimination under the ADEA, beginning the date on which he received this
agreement.

         c)    Schlosser further understands that, if he signs this agreement,
he will then be entitled to revoke his release of any rights and claims of age
discrimination under the ADEA within seven (7) days of executing it, and the
release of Schlosser's ADEA rights and claims will not become effective or
enforceable until the seven-day period expires.


                                      3
<PAGE>

         d)    Schlosser further understands that he has the right to rescind
his release of discrimination rights and claims under the MHRA within fifteen
(15) days of the date upon which he signs this agreement. To be effective, he
must rescind his release in writing and deliver it to Company, by hand or mail,
within fifteen (15) days of the date upon which he signs this agreement. If he
delivers the rescission by mail, it must be:

               1)   Postmarked within fifteen (15) calendar days of the date
                    upon which he signs this agreement;

               2)   Addressed to Paper Warehouse, Inc., c/o Yale T. Dolginow,
                    7630 Excelsior Blvd., St. Louis Park, MN 55426; and

               3)   Sent by certified mail, return receipt requested.

         If Schlosser exercises his rights to rescind and/or revoke his waivers
as provided above, this agreement will be null and void and of no further force
or effect.

11.      COMPLETE AGREEMENT. Schlosser and Company each has read this agreement.
Each understands all of its terms. Each has had the opportunity to discuss this
agreement with his/its own attorney prior to signing it. In agreeing to sign
this agreement, Schlosser and Company have not relied on any statements or
explanations made by the other or their respective agents, or attorneys, except
as provided in this agreement.

12.      GOVERNING LAW. This agreement will be interpreted and enforced
according to the laws of the State of Minnesota, notwithstanding any conflict of
law principles.

13.      NON-ADMISSION. In entering into and performing their obligations under
this agreement, neither party admits responsibility for any alleged actionable
conduct, and in fact, denies engaging in any alleged actionable conduct.

<TABLE>
<S>                                                  <C>
         Dated: 12/2/99                              /s/ Brent D. Schlosser
               ---------------                       ----------------------
                                                         Brent D. Schlosser


         Dated: 12/2/99                              Paper Warehouse, Inc.
               ---------------
                                                         By: /s/ Yale T. Dolginow
                                                            --------------------
                                                         Its: President and Chief Executive Officer
                                                             -------------------------------------
</TABLE>


                                       4

<PAGE>

                            NONCOMPETITION AGREEMENT

         This agreement is made this 2nd day of December, 1999, by and between
Brent D. Schlosser ("Employee") and Paper Warehouse, Inc. ("Employer").

                                    RECITALS

         1. Employer is engaged in the retail sale of party goods, including,
without limitation, sale by Internet ("Business"), and the success of its
business depends to a significant extent upon maintaining the secrecy of its
proprietary information and trade secrets (all and each of which is set forth in
the third recital below and referred to herein as "Confidential Information").

         2. Employee is resigning from employment with Employer in return for
substantial compensation and benefits to which he is otherwise not entitled as
more fully set forth in that certain Separation Agreement and General Release
("Separation Agreement") between them.

         3. Employee, as a long-term officer, director, and employee of
Employer, had access to certain of the Employer's Confidential Information that
Employer has developed at great expense, time, and effort, disclosure of which
to a competitor would cause irreparable harm to Employer. Such Confidential
Information include specifically Employer's strategic plans, business methods,
purchasing, non-public financial information, marketing information and
strategies, merchandising information and strategies, franchise information and
strategies, proprietary information pertaining to Company's vendors and
franchisees, and any other information that Company has treated or designated as
secret or confidential.

         4. A reasonable time necessary to protect Employer's Confidential
Information from disclosure to a competitor in the Business is the period of
time before which such Confidential Information generally becomes available to
the public through no fault of Employee, or such Confidential Information no
longer provides unique benefit to Employer, or three years, whichever is
shortest.

         5. Employer will not pay to Employee the compensation and other
benefits it has offered in the Separation Agreement between them unless Employee
signs this agreement.

         6. Employee desires to receive the substantial compensation and other
benefits in the Separation Agreement, and has agreed as a condition of receiving
the referenced compensation and benefits to sign this agreement in order that
Employer may have reasonable protections against the disclosure of its
Confidential Information.

         7. In consideration of the reasonable, post-employment, competitive
restrictions set forth in this agreement, Employer will pay to Employee the
substantial compensation and other benefits in the Separation Agreement.

<PAGE>

         8. A material condition of the Separation Agreement is Employee's
acceptance of the reasonable restrictions herein in order to protect Employer's
legitimate interests in safeguarding its Confidential Information.

         NOW, THEREFORE, based on the above premises and the terms and
conditions below, Employer and Employee hereby agree as follows:

         1. TRADE SECRETS. Employee shall not directly or indirectly disclose or
use at any time any Confidential Information of Employer, unless Employee has
first obtained the written consent of Employer. Upon termination of employment,
Employee shall immediately surrender all such secrets and information in
Employee's possession, including all copies of same. The duration of these
restrictions is the shorter of the following:

                  (a)      The period of time before which the Confidential
                           Information generally becomes available to the public
                           through no fault of Employee;

                  (b)      When the Confidential Information no longer provides
                           unique benefit to Employer; or

                  (c)      Three (3) years after Employee's employment
                           terminates.

         2. NONCOMPETITION. In consideration of the payment and other
benefits of the Separation Agreement, Employee will not, directly or
indirectly, anywhere within the geographic area in which Employer is
conducting its businesses:

                  (a)      have any ownership interest in, financial
                           participation in, or affiliation with any person or
                           entity engaged in the Business and who is a
                           competitor of Employer, including any affiliation as
                           an employee, independent contractor, consultant, or
                           other capacity; or

                  (b)      solicit any employee of Employer for employment with
                           any other entity or person, or encourage or induce
                           such employee to terminate employment with Employer.

         The foregoing restrictions shall be effective and enforceable for a
period of twelve (12) months after the Effective Date of Employee's termination
from employment with Employer.

         The foregoing restrictions do not apply to any services that Employee
desires to render to his brother's franchised store in Lawrence, Kansas.

                                      -2-
<PAGE>

         3. REMEDIES. Irreparable harm will result to Employer, its business
and property, in the event Employee breaches this agreement, and such a
breach exhibits a probability of continuing future breaches and harm; and any
remedy at law would be inadequate. Therefore, in the event this agreement is
breached by Employee, Employer shall be entitled to injunctive relief and
orders to restrain the violation hereof by Employee and all persons or
entities acting for or with Employee. This provision shall not be construed
to preclude an action for damages at law for reimbursement of any money paid
to Employee, voiding the Separation Agreement, or such other relief as a
court deems just and equitable.

         In the event Employer resorts to litigation to enforce this agreement,
Employee shall also pay the reasonable attorneys' fees and costs incurred by
Employer in successfully pursuing any of its rights and remedies with respect to
such breach.

         In the event of a breach by Employee, the twelve (12) month period
stated herein shall be automatically extended and remain in full force during
the period of time such breach continues.

         4. SEVERABILITY. Each of the provisions contained herein is severable
and, if any provision hereof shall to any extent be invalid or unenforceable,
the remainder of this agreement, including such provision in circumstances other
than those in which it is held invalid or unenforceable, shall not be affected
thereby and shall be valid or enforceable to the fullest extent permitted by
law; provided, however, that if any provision hereof is held to be invalid or
unenforceable because of its duration or the geographic scope covered, Employee
and Employer agree to be bound by any reasonable period of time or reasonable
geographic scope, or both, as the case may be, as determined by a court of
competent jurisdiction.

         5. WAIVER. Any waiver by Employer of one or more breaches of this
agreement by Employee shall not prevent subsequent enforcement of the agreement
by Employer or be deemed a waiver of any subsequent breach of this agreement.

         6. ENTIRE AGREEMENT. This instrument contains the entire agreement of
the parties as to the matters covered herein and may not be modified orally, but
only by an agreement in writing signed by both parties. This agreement
supercedes and replaces all other agreements (written and oral) between Employer
and Employee concerning the subject matter hereof, and all such other agreements
are hereby terminated and shall be of no further force or effect.

         7. SUCCESSORS AND ASSIGNS. This agreement shall be binding upon
Employer and Employee and shall inure to the benefit of Employee, the legal
representatives of Employee and the successors and assigns of Employer, but
shall not be assignable by Employee.

         8. GOVERNING LAW. This agreement will be governed and interpreted under
the laws of the State of Minnesota.

                                      -3-
<PAGE>
         9. VOLUNTARY AGREEMENT. Employee enters into this agreement voluntarily
only after having had the opportunity to consult with a chosen advisor.

         IN WITNESS WHEREOF, Employer and Employee have duly executed this
agreement as of the day and year first above written.


Dated:  12/2/99                                           /s/ Brent D. Schlosser
        --------------------------                        ----------------------
                                                              Brent D. Schlosser


Dated:  12/2/99                                         PAPER WAREHOUSE, INC.
        --------------------------

                                                   By       /s/ Yale T. Dolginow
                                                     ---------------------------
                                                      Its     President and CEO
                                                         -----------------------


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