FORBEARANCE AGREEMENT 



        THIS
FORBEARANCE AGREEMENT (this “Agreement”) is made and entered as of
the 15th day of August, 2005, is by and between BADGER PAPER MILLS, INC., a corporation
organized under the laws of the State of Wisconsin (“Borrower”) and PNC
BANK, NATIONAL ASSOCIATION (“PNC”), as Agent and sole Lender under the
Credit Agreement referred to below. 



	1.  	RECITALS. 






        1.1
Borrower and PNC entered into a Revolving Credit and Security Agreement, dated as of
November 30, 2001 (as from time to time amended, the “Credit Agreement”).  




        1.2
Borrower has advised PNC that certain “Events of Default” (as defined in the
Credit Agreement) have occurred and are continuing.  




        1.3
Borrower has requested that PNC forbear from exercising the rights and remedies
available, or to become available, to PNC under the Credit Agreement and the “Other
Documents” (as defined in the Credit Agreement).  




        1.4
PNC is willing to temporarily forbear from exercising its rights and remedies under the
Credit Agreement and the Other Documents on the terms and conditions set forth in this
Agreement.  




	2.  	DEFINITIONS. 






        Capitalized
words and terms used in this Agreement and not otherwise defined herein shall have the
respective meanings set forth in the Credit Agreement. In addition, the following words
and terms shall have the meanings set forth below: 



	 	        “Existing
Defaults” shall have the meaning set forth in Section 3.1.  







	 	        “Expiration
Date” shall have the meaning set forth in Section 8.1.  







	 	        “Remedies”
shall mean the rights and remedies available to PNC under the Credit Agreement, the Other
Documents, at law or in equity, as the result of the occurrence of an Event of Default. 







	 	        “Termination
Event” shall have the meaning set forth in Section 8.3.  







	3. 	CONFIRMATION
OF EVENTS OF DEFAULT. 






        3.1
Borrower acknowledges that the following Events of Default exist under the Credit
Agreement (the “Existing Defaults”):  













	 	(a) 	An
Event of Default under Section 10.5 of the Credit Agreement on account of
                    violations of Section 6.5 of the Credit Agreement due to Borrower’s
failure                     to maintain the requisite Fixed Charge Coverage Ratio at the
end of the calendar                     quarters ending March 31, 2005 and June 30, 2005;
and  






	 	(b) 	An
Event of Default under Section 10.12 of the Credit Agreement on account of
                    the occurrence of events of default under the Wisconsin Business Bank
Loan                     Documents, as disclosed in Borrower’s Form 10-Q filed with
the United                     States Securities and Exchange Commission for the period
ended March 31, 2005.  






        3.2
Borrower acknowledges that in addition to the Existing Defaults a further Event of
Default exists under Section 10.5 of the Credit Agreement on account of violations of
Section 6.5 of the Credit Agreement due to Borrower’s failure on certain occasions
to maintain the requisite Undrawn Availability (the “Undrawn Availability Defaults”).  




	4.  	ACKNOWLEDGMENTS,
AGREEMENTS, REPRESENTATIONS AND           WARRANTIES. 






        Borrower
hereby represents, warrants, acknowledges and agrees to and for the benefit of PNC as
follows: 



        4.1
Borrower has full power and authority to execute and deliver this Agreement, and has
taken all necessary corporate action to authorize the execution, delivery and performance
of this Agreement, and no authorization, approval or other action by, and no notice to or
filing with, any Person is required for the due execution, delivery and performance by
Borrower of this Agreement.  




        4.2
This Agreement constitutes the legal, valid and binding obligation of Borrower,
enforceable against Borrower in accordance with the terms hereof. The Credit Agreement
and the Other Documents constitute the legal, valid and binding obligations of Borrower
and are enforceable against Borrower in accordance with the terms thereof.  




        4.3
The execution, delivery and performance of this Agreement by PNC shall not be deemed or
construed to be a satisfaction, restatement, novation, or release of the Credit Agreement
or of any of the Other Documents or of the Obligations. The execution, delivery and
performance of this Agreement by PNC shall not be deemed or construed as a waiver by PNC
of any of the Remedies. Except as expressly set forth in Section 6 hereof, neither the
execution, delivery and performance of this Agreement by PNC nor any actions taken or not
taken by PNC prior to the execution of this Agreement or pursuant hereto or under the
Credit Agreement or any of the Other Documents shall be deemed or construed as a waiver
by PNC of any of the Existing Defaults or as a cure of any of the Existing Defaults; and,
except as otherwise expressly provided in this Agreement, PNC reserves all of its
Remedies in connection with such Existing Defaults.  





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        4.4
Borrower has no defenses, setoffs, claims, counterclaims or causes of action of any kind
or nature whatsoever with respect to the Credit Agreement, the Other Documents or the
Obligations, or with respect to any other documents or instruments now or heretofore
evidencing, securing or in any way relating to any of Obligations or the Credit Agreement
or the Other Documents, or with respect to the administration or funding of any of the
Obligations.  




        4.5
Borrower acknowledges and agrees that each violation giving rise to the Existing Defaults
constitutes a separate Event of Default that has occurred and continues to exist.  




        4.6
Borrower hereby reaffirms all of its obligations under the Credit Agreement and the Other
Documents and hereby further reaffirms that the Obligations are secured by all of the
Collateral.  




	5.  	COVENANTS
AND AGREEMENTS. 






        Borrower
covenants and agrees that from and after the date of this Agreement that: 



        5.1
     The Maximum Revolving Advance amount shall be reduced to $7,000,000. 




        5.2
     Borrower will maintain Undrawn Availability of not less than the following: 




	 	(a) 	at
any time that the aggregate outstanding Advances exceed $4,500,000, Undrawn
                    Availability of not less than $1,750,000;  






	 	(b) 	at
any time that the aggregate outstanding Advances are less than $4,500,000,
                    but are equal to or greater than $3,500,000, Undrawn Availability of
not less                     than $1,500,000; and  






	 	(c) 	at
any time that the aggregate outstanding Advances are less than $3,500,000
                    Undrawn Availability of $1,250,000.  






The failure of Borrower to (i)
maintain Undrawn Availability in the amounts set forth above for any period of five
consecutive Business Days shall constitute a violation of this Section 5.2, or (ii)
maintain on any day Undrawn Availability in at least an amount equal to the greater of (x)
$1,000,000, or (y) 20% of the remainder of (x) the Formula Amount, minus (y) $100,000. 



        5.3
Borrower will not incur net losses (calculated on a FIFO basis and exclusive of the
one-time write-off of the Fourdrinier inventory) in excess of the amounts and for the
periods set forth below:  







	

	Period
	Net Loss

	One month ending July 31, 2005	$1,050,000
	

	One month ending August 31, 2005	$825,000
	

	One month ending September 30, 2005	$800,000
	







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        5.4
Borrower will maintain a positive cash flow calculated on a cumulative basis throughout
the period from July 1, 2005 through and including October 31, 2005 and will provide to
PNC on a weekly basis, in form and content acceptable to PNC, evidencing Borrower’s
satisfaction of the provisions of this Section 5.4.  




        5.5
Borrower will provide to PNC on a weekly basis, together with the Certification required
by Section 5.4 above, a written report summarizing on a weekly basis all material
variances between Borrower’s projected operating budget cash flow and its actual
results reported pursuant to Section 5.4.  




        5.6
Borrower will provide to PNC on a weekly basis a weekly rollforward of Fourdrinier
Inventory, together with average and actual sales price information in form and content
acceptable to PNC.  




        5.7
Borrower will provide to PNC on a bi-monthly basis an update from Sanabe and Associates
LLC regarding the status of Borrower’s efforts to effect a sale of its business.  




	6.  	WAIVER. 






        PNC
hereby waives Borrower’s compliance with the Undrawn Availability covenant as set
forth in clause (iv) of Section 6.5 of the Credit Agreement for the period from and after
March 31, 2005. 



	7.  	FORBEARANCE
FEE. 






        In
consideration of the forbearance covenant of PNC contained herein, Borrower shall pay to
PNC a forbearance fee in the amount of $100,000 payable in four equal installments of
$25,000 each, with the first installment being due and payable on the date hereof and with
the three remaining installments being payable on August 31, September 30 and October 31,
respectively. Borrower authorizes PNC to charge such forbearance fee as a Revolving
Advance under the Credit Agreement. 



	8.  	FORBEARANCE
COVENANT. 






        8.1
Borrower acknowledges and agrees that PNC has the free and unrestricted right, at any
time and from time to time, to exercise any and all Remedies attributable to the Existing
Defaults; provided, however, that unless and until a Termination Event (as hereinafter
defined) shall occur, PNC shall not, prior to October 31, 2005 (the “Expiration
Date”), except as otherwise expressly provided in this Agreement: (a) accelerate
any of Borrower’s Obligations to PNC or demand accelerated payment of same, (b) file
any action or proceeding against Borrower under or in connection with the Credit
Agreement or any of the Other Documents, or (c) foreclose upon or seek to foreclose upon
any of the Collateral whether in a judicial or nonjudicial proceeding (the forbearance
from such actions by PNC, subject to the terms and conditions of this Agreement, being
herein referred to as the “Forbearance Covenant”). Borrower expressly
acknowledges and agrees, however, that from and after the Expiration Date or such earlier
date as a Termination Event may occur, PNC shall have the right, at any time and from
time to time, to exercise any and all Remedies available to PNC against or with respect
to Borrower, and the Collateral to the same extent as PNC would be entitled if the
Forbearance Covenant had never been part of this Agreement. Notwithstanding the
foregoing, it is specifically understood and agreed that the Forbearance Covenant does
not relate, extend, or apply in any manner to (i) any actions that PNC may take under the
Credit Agreement, any of the Other Documents, or at law or in equity to preserve and
protect the Collateral and the interests of PNC therein including, without limiting the
generality of the foregoing, (A) filing actions against or defending or intervening in
actions brought by third parties or Borrower relating to the Collateral or the interests
of PNC therein, or (B) the sending of notices to any Persons concerning the existence of
security interests or liens in favor of PNC concerning the Collateral or (ii) the
exercise of any other Remedies of PNC, except as expressly provided in the Forbearance
Covenant.  




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        8.2
Borrower acknowledges and agrees that PNC is entitled to cease funding under the
Revolving Loan as a result of any one of the Existing Defaults, and that PNC may (but
need not) in PNC’s sole and absolute discretion elect to continue to fund Advances
under and in accordance with the terms of the Credit Agreement (other than the terms
thereof which condition continued funding on the absence of an Event of Default) without
waiving or being deemed to have waived any of the Existing Defaults or any other breach
or Event of Default and without such discretionary funding constituting an amendment to
or departure from the Credit Agreement. Based on the foregoing mutual stipulations and
agreements, and subject to all other terms and conditions hereof, PNC agrees that until
the earlier to occur of a Termination Event and the expiration of the Term (the “Funding
Period”), PNC will continue to fund the Advances; provided that during the
Funding Period the limitations set forth in Section 5.1 hereof shall apply.  




        8.3
     For purposes of this Agreement, each of the following shall constitute a
"Termination Event": 




	 	(a) 	Any
representation or warranty of Borrower in this Agreement shall be or become
                    untrue or inaccurate in any respect.  






	 	(b) 	An
Event of Default (other than the Existing Defaults) shall exist or occur.  






	 	(c) 	Borrower
shall breach, default under or fail fully to perform any of the
                    covenants, agreements and obligations under this Agreement.  






Upon the occurrence of a Termination
Event, the Forbearance Covenant, and any and all other obligations of PNC pursuant to this
Agreement, including the obligations under Section 8.2 above, shall immediately terminate
and be without force or effect, in the same manner and to the same extent as if the same
had never been included in this Agreement, and PNC shall immediately and without further
notice be entitled to exercise any and all Remedies then available to PNC. 




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	9.  	RELEASE. 






        Borrower
hereby fully and forever releases and discharges PNC and its predecessors, successors,
assigns, stockholders, affiliates, directors, officers, employees, agents, attorneys,
independent contractors and representatives (whether now or heretofore acting in such
capacity or otherwise) (the “Releasees”), from any and all claims,
demands, liabilities, obligations, actions, causes of action and suits at law or in
equity, of whatsoever kind or nature, whether known or unknown, discovered or
undiscovered, matured or not matured, asserted or unasserted, which Borrower heretofore
had or asserted or now or hereafter has or may assert against any one or more of the
Releasees, arising out of or in respect of any actions, conduct, circumstances or events
on or prior to the date hereof in connection with the administration by PNC of its
financing arrangements with Borrower. In furtherance and not in limitation of the
provisions of the preceding sentence, Borrower also agrees not to sue or prosecute any
action against any or all of the Releasees with respect to any of the matters contemplated
within the scope of said sentence, and Borrower agrees to hold each and all of the
Releasees harmless in respect of any suit or prosecution by Borrower in contravention of
the provisions of this sentence. 



	10.  	NO
OBLIGATION TO EXTEND FURTHER. 






        Borrower
acknowledges and agrees that (a) PNC has not agreed to, and PNC has no obligation
whatsoever to discuss, negotiate or to agree to, any restructuring of the Obligations, or
any modification, amendment, restructuring or restatement of the Credit Agreement or the
Other Documents, or to forbear from exercising its Remedies, except as expressly provided
in the Forbearance Covenant; (b) if there are any future discussions among PNC and
Borrower concerning any such modification, amendment, restructuring, restatement or
forbearance, that no modification, amendment, restructuring, restatement, forbearance,
compromise, settlement, agreement or understanding with respect to the Obligations, or the
Credit Agreement or the Other Documents or any term, provision or aspect thereof, shall
constitute a legally binding agreement or contract or have any force or effect whatsoever
unless and until reduced to writing and signed by authorized representatives of all
parties, and that none of the parties hereto shall assert or claim in any legal
proceedings or otherwise that any such agreement exists except in accordance with the
terms of this Agreement; and (c) neither the execution and delivery of this Agreement, nor
the execution and delivery of any prior forbearance agreements nor any combination
thereof, has established nor shall any or all of such instruments be deemed to have
established any course of dealing between the parties hereto or obligation or agreement of
any nature whatsoever on the part of PNC with respect to any future or further extension,
if any, of the Expiration Date or any future or further forbearance, if any, by PNC from
the exercise of Remedies. 



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	11.  	CONSTRUCTION
OF AGREEMENT. 






        Each
party hereto acknowledges that it has participated in the negotiation of this Agreement
and no provision of this Agreement shall be construed against or interpreted to the
disadvantage of any party hereto by any court or other governmental or judicial authority
by reason of such party having or being deemed to have structured, dictated or drafted
such provision; Borrower acknowledges and agrees that it has at all times had access to an
attorney in the negotiation of the terms of and in the preparation and execution of this
Agreement and it has had the opportunity to review and analyze this Agreement for a
sufficient period of time prior to the execution and delivery of this Agreement; Borrower
further acknowledges and agrees that no representations, warranties, covenants or
agreements have been made by or on behalf of PNC, or relied upon by Borrower pertaining to
the subject matter of this Agreement, other than those that are set forth in this
Agreement, and that all of the terms of this Agreement were negotiated at
arm’s-length, and that this Agreement was prepared and executed without fraud,
duress, undue influence or coercion of any kind exerted by any of the parties upon the
others, and that the execution and delivery of this Agreement is the free and voluntary
act of Borrower. 



	12.  	MISCELLANEOUS. 






        12.1
Except as expressly set forth herein, the covenants, acknowledgments, representations,
warranties, waivers, releases, agreements and obligations of the parties hereto shall
survive the expiration or termination of the Funding Period and the consummation of the
transactions contemplated by this Agreement.  




        12.2
Whenever in this Agreement any party is named or referred to, the successors,
successors-in-title and assigns of such party shall be included, and all covenants and
agreements contained in this Agreement shall bind and inure to the benefit of their
respective successors, successors-in-title and assigns, whether so expressed or not.  




        12.3
This Agreement shall be construed and enforced in accordance with and governed by all of
the provisions of the Code and by the other internal laws (as opposed to conflicts of law
provisions) of the State of Illinois.  




        12.4
Titles or captions of paragraphs hereof are for convenience only and neither limit nor
amplify the provisions hereof.  




        12.5
    Time is of the essence of this Agreement. 




        12.6
This Agreement may be executed in any number of counterparts and by different parties
hereto on separate counterparts, each of which, when so executed and delivered, shall be
an original, but all such counterparts shall together constitute one and the same
instrument.  




[SIGNATURE PAGE
FOLLOWS] 




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        IN
WITNESS WHEREOF, the parties hereto, by and through their duly authorized officers,
have executed this Agreement under seal as of the day and year first above written. 



	PNC BANK, NATIONAL ASSOCIATION	BADGER PAPER MILLS, INC.
	

By: /s/ Sherry Winick	By: /s/ Paul M. Bouthilet
	Name:  Sherry Winick	Name:  Paul M. Bouthilet
	Title:  Vice President	Title:  Vice President, Chief Financial Officer, 
            Secretary and Treasurer


























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