<PAGE> 4
                                                Exhibit 13.1

Payless Cashways, Inc.

QUARTERLY STATEMENTS OF OPERATIONS (unaudited)
In thousands, except per share amounts

<TABLE>
<CAPTION>

                                                                     First           Second             Third           Fourth
Fiscal Year Ended November 30, 1996                                 Quarter          Quarter           Quarter          Quarter
-------------------------------------------------------------------------------------------------------------------------------
<S>                                                             <C>               <C>              <C>               <C>

Income
    Net sales                                                   $  526,767        $  682,252       $  723,793        $  710,017
    Other income                                                     1,597             1,521            1,481             3,477
                                                                ---------------------------------------------------------------
                                                                   528,364           683,773          725,274           713,494

Costs and expenses
    Cost of merchandise sold                                       372,916           491,500          535,956           506,362
    Selling, general and administrative                            141,405           152,929          157,403           163,729
    Special charges                                                     --                --            8,184                --
    Asset impairment charges                                            --                --           59,697                --
    Provision for depreciation and amortization                     13,184            13,586           14,007            14,239
    Interest expense                                                15,352            14,606           14,438            16,092
    Interest income                                                     --                --           (4,900)               --
                                                                ---------------------------------------------------------------
                                                                   542,857           672,621          784,785           700,422
                                                                ---------------------------------------------------------------
         INCOME (LOSS) BEFORE INCOME TAXES                         (14,493)           11,152          (59,511)           13,072

Federal and state income taxes                                      (6,870)            5,286          (36,633)            7,515
                                                                ---------------------------------------------------------------


                                 NET INCOME (LOSS)              $   (7,623)       $    5,866       $  (22,878)       $    5,557
                                                                ===============================================================


Net income (loss) per common share                              $     (.23)       $      .11       $     (.61)       $      .10
                                                                ===============================================================

Weighted average common and dilutive common
   equivalent shares outstanding                                    39,916            40,063           39,952            40,015
                                                                ===============================================================

<FN>

Special  charges ($5.0  million  after tax, or $.12 per share)  reflected in the
third quarter consist of costs associated with the closing of nine stores, eight
of which had been closed at November 30, 1996. Third quarter cost of merchandise
sold reflects an inventory write-down ($3.5 million after tax or $.09 per share)
in  connection  with  these  store  closings.  The  Company  recorded  an  asset
impairment  charge  ($44.6  million  after tax, or $1.12 per share) in the third
quarter  as well as a federal  income  tax  benefit  ($23.7  million or $.59 per
share) and related  interest  income ($2.9 million after tax, or $.07 per share)
pursuant to legislation and a settlement with the Internal  Revenue  Service.  A
liquidation of LIFO inventories and a  lower-than-anticipated  rate of inflation
decreased the LIFO inventory provision,  after tax, by $4.0 million, or $.10 per
share, in the fourth quarter.

</TABLE>



<PAGE> 5


Payless Cashways, Inc.

QUARTERLY STATEMENTS OF OPERATIONS (unaudited) (cont'd.)
In thousands, except per share amounts

<TABLE>
<CAPTION>

                                                                     First           Second             Third            Fourth
Fiscal Year Ended November 25, 1995                                 Quarter          Quarter           Quarter           Quarter
---------------------------------------------------------------------------------------------------------------------------------

<S>                                                              <C>               <C>              <C>               <C>

Income
   Net sales                                                     $  556,218        $  711,679       $  737,237        $  675,052
   Other income                                                       1,344             1,517            1,357             1,266
                                                                 ----------------------------------------------------------------
                                                                    557,562           713,196          738,594           676,318

Costs and expenses
   Cost of merchandise sold                                         389,065           513,418          530,402           479,735
   Selling, general and administrative                              142,669           158,984          159,272           158,664
   Special charges                                                       --                --               --           153,667
   Provision for depreciation and amortization                       14,689            15,083           15,567            15,017
   Interest expense                                                  15,273            15,573           15,247            14,974
                                                                 ----------------------------------------------------------------
                                                                    561,696           703,058          720,488           822,057
                                                                 ----------------------------------------------------------------
     INCOME (LOSS) BEFORE INCOME TAXES                               (4,134)           10,138           18,106          (145,739)

Federal and state income taxes                                       (1,770)            4,550            8,985           (16,676)
                                                                 ----------------------------------------------------------------

Income (loss) before equity in loss of joint venture                 (2,364)            5,588            9,121          (129,063)

Equity in loss of joint venture                                      (1,500)             (975)            (975)           (8,381)
                                                                 ----------------------------------------------------------------

                                   NET INCOME (LOSS)             $   (3,864)       $    4,613       $    8,146        $ (137,444)
                                                                 ================================================================


Net income (loss) per common share                               $     (.13)       $      .08       $      .17        $    (3.48)
                                                                 ================================================================

Weighted average common and dilutive common
   equivalent shares outstanding                                     39,878            40,092           40,116            39,914
                                                                 ================================================================

<FN>

A  lower-than-anticipated   rate  of  inflation  decreased  the  LIFO  inventory
provision,  after tax, by $.9 million, or $.02 per share, in the fourth quarter.
Special charges reflected in the fourth quarter consist of costs associated with
the  closing  of  six  stores,  the  sale  of  a  distribution  center  and  the
reorientation  of several stores to concentrate  on the  professional  customer.
Fourth  quarter  equity in loss of joint venture  includes the $8.0 million,  or
$.20 per common share,  loss on the sale of the Company's  Mexican joint venture
investment.

</TABLE>



<PAGE> 6


Payless Cashways, Inc.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Results of Operations

The following  discussion of the  Company's  financial  condition and results of
operations should be read in conjunction with the Financial Statements and notes
thereto included elsewhere in this Annual Report to Shareholders.

<TABLE>
<CAPTION>


Operating Data                                                                               Fiscal Year Ended
                                                                              ----------------------------------------------
percent of net sales                                                            Nov. 30,         Nov. 25,          Nov. 26,
                                                                                  1996             1995              1994
                                                                              ----------------------------------------------

<S>                                                                               <C>               <C>              <C> 

Net sales.......................................................                  100.0 %           100.0 %          100.0 %
Other income....................................................                     .3                .2               .4
Cost of merchandise sold........................................                   72.1              71.4             70.5
Selling, general and administrative.............................                   23.3              23.1             21.8
Special charges.................................................                     .3               5.7               --
Asset impairment charges........................................                    2.3                --               --
Provision for depreciation and amortization.....................                    2.1               2.3              2.2
Interest expense................................................                    2.3               2.3              2.4
Interest income.................................................                    (.2)               --               --
                                                                              ----------------------------------------------

Income (loss) before income taxes...............................                   (1.9)             (4.6)             3.5
Federal and state income taxes..................................                   (1.2)              (.2)             1.5
Equity in loss of joint venture.................................                     --               (.4)             (.1)
                                                                              ----------------------------------------------

Income (loss) before extraordinary item.........................                    (.7)             (4.8)             1.9
Extraordinary item..............................................                     --                --              (.3)
                                                                              ----------------------------------------------
Net income (loss)...............................................                    (.7)%            (4.8)%            1.6 %
                                                                              ==============================================

</TABLE>

SALES

Net sales for fiscal 1996, a 53-week  year,  decreased  1.4% from fiscal 1995, a
52-week year, and fiscal 1995 net sales  decreased 1.6% from fiscal 1994, also a
52-week year. On a 52-week basis,  net sales for fiscal year 1996 decreased 3.0%
compared to fiscal 1995. Same-store sales (sales from stores that have been open
one full year),  on a 52-week  basis,  decreased  by 2.5% for fiscal  1996,  and
decreased  4.5%  for  fiscal  1995.  Net  sales  for  1996  reflect   increasing
competitive  pressure on the Company's  consumer  business,  although  there was
strong growth in the professional business aided by improved external conditions
such as  housing  activity  and  consumer  sentiment.  Sales  from  professional
customers  increased  7.7%,  while sales from the consumer  side of the business
decreased   8.1%  in  fiscal  1996.   The  Company   expects  that  openings  by
warehouse-format   competitors   will   continue.   The  Company   believes  the
implementation  of its Dual Path strategy  positions it to meet new  competition
and grow the business.  The Company, early in 1996, closed six stores and closed
another  eight  stores in the fourth  quarter  of 1996.  Net sales for 1995 were
negatively  impacted by deflated  lumber costs,  a slower  housing  environment,
softness  in  consumer  spending,  competitive  pressures  and,  in a number  of
markets,  an excess of retail space  devoted to the sale of building  materials.
Sales from  professional  customers  declined  1.9% in fiscal  1995  compared to
double-digit  gains in the past several years. Six new stores were opened during
1995.

Gains of $2.3 million, related to insurance settlement proceeds in excess of net
book value for  buildings  and  equipment  destroyed  in a 1995 fire  loss,  are
included  in other  income for fiscal  1996.  Other  income for fiscal year 1994
includes gains of $5.9 million related to settlements of 1993 flood losses.

COSTS AND EXPENSES

The cost of merchandise  sold, as a percent of sales,  was 72.1% in fiscal 1996,
71.4% in fiscal  1995,  and  70.5% in fiscal  1994.  A third  quarter  inventory
write-down  of $5.8  million,  related to the  closing  of nine  underperforming
stores,  was 0.2% of sales for fiscal 1996.  The decrease in 1996 gross  margins
was also due, in part, to the growth in sales to the professional customer whose
merchandise  purchases  include a higher percentage of commodity goods at margin
rates  somewhat  lower than the Company  average.  Cost of  merchandise  sold in
fiscal 1996 benefited from a $3.2 million LIFO credit,  related to a liquidation
of LIFO inventories and deflation, compared to a $4.2 million and a $3.1 million
LIFO charge in fiscal 1995 and 1994, respectively.  The remainder of the cost of
merchandise  sold  increase  in 1996,  as well as the  increase  in  1995,  were
primarily due to the Company's pricing initiatives.

Selling, general and administrative expenses, as a percent of sales, were 23.3%,
23.1%, and 21.8% for fiscal 1996, 1995 and 1994, respectively. The increase as a
percent of sales for fiscal  1996 was due  primarily  to lower  sales;  the 1996
decrease in dollars was due  primarily to savings from six stores  closed in the
first quarter of fiscal 1996.



<PAGE> 7

Payless Cashways, Inc.

MANAGEMENT'S  DISCUSSION AND ANALYSIS OF THE FINANCIAL  CONDITION AND RESULTS OF
OPERATIONS (cont'd.)


The  primary  reasons  for the 1995  increase  over 1994  selling,  general  and
administrative  expenses were costs associated with new stores and investment in
approximately 200 outside sales people.  Lower sales in 1995 also contributed to
the  increase in selling,  general and  administrative  expenses as a percent of
sales.

Interest  expense  decreased  to $60.5  million in fiscal 1996 due  primarily to
retirement   of  long-term   debt,   some  of  which  was  replaced  with  lower
interest-bearing  debt.  Interest  expense  decreased to $61.1 million in fiscal
1995 from $65.6 million in fiscal 1994,  due to retirement of long-term debt and
lower interest rates. The Company also recorded  interest income of $4.9 million
($2.9 million after tax) in the third quarter of 1996,  related to a pending tax
refund  arising out of recent  legislation  and a  settlement  with the Internal
Revenue Service ("IRS").

A special  charge of $8.2 million  ($5.0  million  after tax),  primarily a cash
charge, was recorded in the third quarter of fiscal 1996 to reflect future store
rentals  and  real  estate  disposal  costs  related  to  the  closing  of  nine
underperforming  stores. In addition, the Company adopted Statement of Financial
Accounting  Standards  No. 121,  "Accounting  for the  Impairment  of Long-Lived
Assets and for  Long-Lived  Assets to Be  Disposed  Of" ("SFAS  121").  SFAS 121
requires the Company to record  impairments of long-lived  assets and associated
goodwill  when there is evidence  that events or changes in  circumstances  have
made  recovery  of an  asset's  carrying  value  unlikely.  As a  result  of the
increasingly  competitive  environment for building  materials  retailing and in
connection with the evaluation of certain  underperforming  stores,  the Company
recorded an asset  impairment  charge of $59.7 million ($44.6 million after tax)
in the third quarter of 1996. This charge included the carrying value write-down
of $25.7  million for certain  real estate  which is  considered  impaired,  the
write-off of $22.4 million of goodwill which is attributable to those assets and
which was  established in 1988 as part of the Company's  leveraged  buyout,  and
$11.6  million of future  store  lease  obligations.  Additional  details on the
special charge and the asset  impairment  charge are set forth in Notes H and I,
respectively,  to the Financial Statements.  The Company will continue to review
assets for impairment,  particularly given the ongoing  competitive  environment
for building materials retailing.

On December 15, 1995, the Company announced a restructuring  plan which included
the closing of six  underperforming  stores on December 30, 1995, the sale of an
underutilized  distribution  center on December 22, 1995,  and, during the first
quarter of fiscal 1996,  the  reorientation  of several stores to concentrate on
the professional customer. The plan was completed during fiscal 1996, except for
the  completion  of all real estate  sales.  A pretax  special  charge of $153.7
million  was  recorded  in the fourth  quarter of fiscal  1995 to reflect  costs
associated with the  restructuring.  Proceeds from future real estate sales will
be used to reduce debt and to fund capital  expenditures.  Among other  effects,
the  1995  special   charge  reduced   amortization   of  goodwill  in  1996  by
approximately $3.2 million.  Additional  details on the restructuring  costs are
set forth in Note I to the Financial Statements.

On August 20, 1996,  the Small  Business Job  Protection  Act of 1996 was signed
into law. Certain  provisions of this Act clarify the Tax Reform Act of 1986 and
make retroactively tax deductible certain costs and expenses previously recorded
by the Company  without any related tax benefit.  In addition,  during 1996, the
Company  settled with the IRS  regarding  several tax issues.  As a result,  the
Company  recorded a tax benefit of $23.7  million and related  interest  income,
discussed earlier.  This tax benefit includes  recoverable income taxes of $10.0
million and non-cash tax benefits of $13.7  million.  The effective tax rate for
fiscal 1996 was  different  from the 35%  statutory  rate  primarily  due to the
effect of goodwill  amortization  and the  write-off  of goodwill as part of the
asset  impairment  charge,  both of which  are  non-deductible  for  income  tax
purposes,  and  the  tax  benefit  related  to  recent  legislation  and the IRS
settlement.  The  effective  tax rate for  fiscal  years 1995 and 1994 were also
different  from the 35% statutory  rate  primarily due to the effect of goodwill
amortization and the 1995 write-off of a portion of goodwill.

NET INCOME (LOSS)

The  Company  had a loss  before  extraordinary  item of $19.1  million  in 1996
compared  to a loss  before  extraordinary  item of $128.5  million  in 1995 and
income before extraordinary item of $52.1 million in fiscal 1994. The 1996



<PAGE> 8

Payless Cashways, Inc.

MANAGEMENT'S  DISCUSSION AND ANALYSIS OF THE FINANCIAL  CONDITION AND RESULTS OF
OPERATIONS (cont'd.)


loss  before  extraordinary  item  reflects  store  closing  charges,  an  asset
impairment charge, a federal income tax benefit and related interest income, all
discussed  above.  The 1995 loss before  extraordinary  item reflects the pretax
special charge of $153.7 million  ($133.1 million net of tax) in connection with
the  restructuring  discussed above.  Both the 1995 and the 1994 results reflect
the Company's share in its Mexican joint  venture's  operating loss prior to the
sale of this  investment in October  1995.  The 1995 equity in the loss of joint
venture  also  includes  an  $8.0  million,  pretax,  loss  on the  sale of this
investment.  Excluding the  non-routine  items  recorded  during fiscal 1996 and
1995,  income before  extraordinary  item for 1996 would have  decreased to $7.4
million compared to income before  extraordinary item for 1995 of $12.5 million,
due primarily to lower sales in 1996.  The 1995 decrease from 1994 income before
extraordinary  item of $52.1  million was due to lower sales and higher  expense
levels in 1995.

<TABLE>
<CAPTION>


Comparative Operating Data                          Fiscal Year Ended November 30, 1996          Fiscal Year Ended November 25, 1995
                                                ------------------------------------------   ---------------------------------------
In thousands, except per share amounts                Pro Forma          Historical                Pro Forma         Historical
                                                     (Excluding          (Including               (Excluding         (Including
                                                 Non-Routine Items)    Non-Routine Items)     Non-Routine Items)  Non-Routine Items)
                                                ------------------------------------------   ---------------------------------------

<S>                                                <C>                    <C>                   <C>                   <C>

Net sales and other income                         $  2,650,905           $  2,650,905          $  2,685,670          $  2,685,670
Income from operations before depreciation
  and  amortization                                $    134,552           $     60,824          $    153,461          $       (206)
Net income (loss)                                  $      7,428           $    (19,078)         $     12,499          $   (128,549)
Net income (loss) per common share                 $        .04           $       (.63)         $       0.17          $      (3.36)
Average common shares outstanding                        39,946                 39,946                39,904                39,904

</TABLE>

In October 1995,  the  Financial  Accounting  Standards  Board  ("FASB")  issued
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation"  ("SFAS 123"), which is effective for fiscal years beginning after
December  15, 1995.  As permitted by SFAS 123, the Company  plans to continue to
account for its stock-based plans under APB No. 25, "Accounting for Stock Issued
to Employees" and to provide pro forma  disclosures of the compensation  expense
determined under the fair value provisions of SFAS 123, if material.

In June 1996, the FASB issued  Statement of Financial  Accounting  Standards No.
125,   "Accounting   for  Transfers  and  Servicing  of  Financial   Assets  and
Extinguishments   of   Liabilities"   ("SFAS  125"),   which  is  effective  for
transactions  after  December 31, 1996. The Company  believes  that,  based upon
available  information,  its ongoing sales of commercial credit receivables will
qualify for sale treatment in compliance with SFAS 125.

Effects of Inflation
--------------------

The Company  experienced  slight deflation in its non-lumber  inventories during
1996. Inflation rates,  included in the Company's cost of merchandise sold, were
comparable  for  fiscal  1995  and  1994.  Approximately  82% of  the  Company's
inventory  is valued  using the LIFO  inventory  accounting  method;  therefore,
current  costs are  reflected in the cost of  merchandise  sold,  rather than in
inventory balances.  During 1995, the Company experienced price deflation in its
lumber inventory which is valued using the FIFO inventory accounting method. The
Company  estimates  that this  price  deflation  had a negative  1.6%  impact on
same-store sales.

Financing Activities
--------------------

On October 3, 1996,  the Company  amended its $408 million  credit  agreement to
include two tranches of term loans in the aggregate  amount of $273  million,  a
revolving  credit  facility of $135  million and a $60 million  working  capital
facility (the "Swingline Facility") that can only be drawn upon if the revolving
credit  facility  is  fully  utilized  (the  "Amended  Credit  Agreement").  The
Swingline  Facility  must be repaid in full prior to repaying  any other part of
the Amended Credit Agreement. All facilities mature in November 2000. As part of
the amendment,  permitted levels of capital  expenditures were increased (to $72
million in 1997,  $81 million in 1998,  $100  million in 1999 and $59 million in
2000), additional collateral (including substantially all merchandise inventory)
was added, various covenants were modified or



<PAGE> 9

Payless Cashways, Inc.

MANAGEMENT'S  DISCUSSION AND ANALYSIS OF THE FINANCIAL  CONDITION AND RESULTS OF
OPERATIONS (cont'd.)


eliminated and interest rates were  increased.  The Amended Credit  Agreement is
designed to give the Company  additional  flexibility  and liquidity in order to
continue the  implementation  of its  strategic  plan and provide the banks with
additional security.

On December 22, 1995, the Company made a $16.5 million  mortgage loan prepayment
in connection with the sale of a distribution center described below and in Note
I to the Financial Statements.

In  November  1995,  the Company  amended  and  restated  its  five-year  credit
agreement  to  include a $40.0  million  term loan and to reduce  the  revolving
credit facility to $380.0 million.  As part of the amendment,  various covenants
were  modified and interest  rates were  increased.  In addition,  in 1995,  the
Company  entered into an interest  rate cap limiting the interest  rates on $100
million of its floating  rate debt to 8% LIBOR through  January 20, 1998.  Also,
during 1995,  the Company  entered into an interest  rate swap  agreement  under
which it agreed to pay  quarterly  a 6-9/16%  fixed rate of  interest  effective
December 1, 1995, through December 1, 1999, in exchange for quarterly receipt of
LIBOR on $36.0 million.

In November  1994, the Company  entered into a $420 million credit  agreement to
replace its existing bank credit  agreement and a multi-draw  credit  agreement.
Also during 1994, the Company  repurchased  and retired $26.3 million  aggregate
principal  amount of Senior  Subordinated  Notes with $25 million borrowed under
the multi-draw credit agreement.

At November 30, 1996, Payless had approximately  $637.0 million of indebtedness.
Payless expects from time to time to incur additional seasonal indebtedness.


Liquidity and Capital Resources
-------------------------------

The  Company's  principal  source of cash is from  operations.  Cash provided by
operating  activities  was $32.4  million  for fiscal  1996,  compared to $108.4
million for fiscal 1995 and $117.3 million for fiscal 1994. The 1996 decrease in
cash  provided  by  operating  activities  was  primarily  due to a decrease  in
accounts  payable  and an  increase  in  merchandise  inventories,  as  well  as
decreased  operating  income.  The 1996  decrease  in  accounts  payable  levels
compared to year-ago  levels is primarily  due to slower  inventory  turns and a
shift in the mix of purchases between commodity products (shorter payment terms)
and  non-commodity  products (longer payment terms).  The primary reason for the
1995 decrease in cash provided by operating  activities was decreased  operating
income.

Borrowings are available  under the Amended Credit  Agreement to supplement cash
generated by operations.  At November 30, 1996, $100.0 million was available for
borrowing.  Working  capital was $131.0  million and $98.4 million at the end of
fiscal 1996 and fiscal 1995,  respectively.  The current ratio was 1.41 to 1 and
1.29 to 1 at the end of fiscal 1996 and fiscal 1995,  respectively.  The primary
reasons for the increase in working capital and the current ratio were increased
levels of inventory,  a decrease in the current  portion of long-term debt and a
decrease in accounts payable.  The Company's  inventory levels are at the lowest
levels during the seasonally low sales months of December  through  February and
are at the  highest  levels  during  the  peak  selling  months  of May  through
September. During the peak period, inventory is financed by cash from operations
and trade accounts payable.  During the winter months,  inventory is financed by
cash from  operations,  trade accounts  payable and borrowings under the Amended
Credit  Agreement,  as needed.  The Company  believes that cash  generated  from
operations and borrowings  under the Amended  Credit  Agreement will  adequately
meet its working capital needs,  debt service and other  obligations  which will
become due in fiscal 1997.

During  1996,  the  Company's   primary   investing   activities   were  capital
expenditures primarily for strategic initiatives,  renovation of existing stores
and additional  equipment.  The Amended Credit  Agreement  governs the amount of
capital  expenditures  which can be made and increases  the permitted  levels of
capital  expenditures  compared to the previous  bank credit  agreement  (to $72
million in 1997,  $81 million in 1998,  $100  million in 1999 and $59 million in
2000). The Company spent  approximately  $41.7 million,  $67.3 million and $81.9
million in fiscal 1996, 1995 and 1994, respectively,  for strategic initiatives,
including



<PAGE> 10

Payless Cashways, Inc.

MANAGEMENT'S  DISCUSSION AND ANALYSIS OF THE FINANCIAL  CONDITION AND RESULTS OF
OPERATIONS (cont'd.)


the acquisition of a door and trim  manufacturer in Phoenix,  AZ, during January
1996,  renovation of existing stores,  additional  equipment and, in fiscal 1995
and 1994, new stores. For fiscal 1996, the Company shifted its emphasis from new
store openings to initiatives that further address the needs of the professional
and do-it-yourself  customers.  Several stores were reoriented to concentrate on
the professional customer and merchandise assortment was added to many stores to
address  do-it-yourself  customer demand for more choices of price,  quality and
style. During fiscal 1996, in support of the professional  customer, the Company
completed the acquisition of the  manufacturer  mentioned above and expanded the
manufacturing  capability of one of its existing  door plants.  During the first
quarter of 1996, the Company sold a distribution  center in connection  with the
1995 restructuring plan, providing approximately $11.9 million of cash proceeds.
The Company leased one new store in 1996, which it plans to open in 1997. During
1995, six new stores were opened and two stores were sold.  The Company  intends
to finance  fiscal 1997  budgeted  capital  expenditures  of  approximately  $72
million,  consisting primarily of strategic initiatives,  renovation of existing
stores,  and additional  equipment,  with funds  generated  from  operations and
borrowings under the Amended Credit Agreement.

During fiscal 1995, the Company also invested $9.3 million in its joint venture,
Total Home de Mexico,  S.A.  de C.V.,  prior to the sale of this  investment  in
October 1995.  Significant  changes in the Mexican economy caused the Company to
reassess  its position  and sell its Mexican  investment  to an affiliate of its
former joint venture partner.

The Company's most significant financing activity is and will continue to be the
retirement  of  indebtedness.  In connection  with the sale of the  distribution
center,  discussed  above, and in anticipation of selling real estate related to
stores closed in 1996, the Company repaid approximately $16.5 million of related
indebtedness   during  the  first  quarter  of  1996.   Although  the  Company's
consolidated  indebtedness  is and will continue to be  substantial,  management
believes that, based upon its analysis of the Company's financial condition, the
cash flow generated from  operations  during the past 12 months and the expected
results of operations  in the future,  cash flow from  operations  and borrowing
availability  under the  Amended  Credit  Agreement  should  provide  sufficient
liquidity  to meet  all  cash  requirements  for  the  next  12  months  without
additional  financing.  The  Amended  Credit  Agreement  contains  a  number  of
financial covenants with which the Company must comply. Several of these require
that the Company's operating performance improves over the remaining term of the
Amended Credit  Agreement.  Certain of these covenants are detailed in Note B to
the  Financial  Statements.  First  quarter  1997 results are likely to be below
results for the same  quarter of the prior year.  Management  currently  expects
that it will achieve compliance with these covenants throughout fiscal 1997.

Forward-looking  statements  in  the  Letter  to  Shareholders,  the  subsection
entitled  "Costs and Expenses" and in this  subsection of this Annual Report are
made pursuant to the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. There are certain important factors that could cause results
to differ  materially  from those  anticipated  by some of the  statements  made
above. Investors are cautioned that all forward-looking statements involve risks
and uncertainty.  In addition to the factors  discussed  above,  among the other
factors that could cause actual results to differ  materially are the following:
consumer spending and debt levels;  interest rates; housing activity,  including
existing home turnover and new home  construction;  lumber prices;  product mix;
sales  of real  estate  held  for  sale;  growth  of  certain  market  segments;
competitive pressure on sales and pricing; and an excess of retail space devoted
to the sale of building materials.  Additional  information concerning those and
other factors is contained in the Company's  Securities and Exchange  Commission
filings,  including  but not  limited  to the Form  10-K,  copies  of which  are
available  from  the  Company  without  charge  or on the  Company's  web  site,
payless.cashways.com.



<PAGE> 11

Payless Cashways, Inc.

STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>


                                                                                           Fiscal Year Ended
                                                                        --------------------------------------------------------
                                                                        November 30,         November 25,         November 26,
In thousands, except per share amounts                                      1996                 1995                 1994
--------------------------------------------------------------------------------------------------------------------------------

<S>                                                                     <C>                  <C>                  <C>

Income
     Net sales                                                          $   2,642,829        $   2,680,186        $   2,722,539
     Other income--Note A                                                       8,076                5,484               10,643
                                                                        --------------------------------------------------------
                                                                            2,650,905            2,685,670            2,733,182
Costs and expenses
     Cost of merchandise sold                                               1,906,734            1,912,620            1,918,674
     Selling, general and
         administrative--Notes E, F and G                                     615,466              619,589              594,024
     Special charges--Note I                                                    8,184              153,667                   --
     Asset impairment charges--Note H                                          59,697                   --                   --
     Provision for depreciation and amortization                               55,016               60,356               58,692
     Interest expense--Note B                                                  60,488               61,067               65,571
     Interest income--Note D                                                   (4,900)                  --                   --
                                                                        --------------------------------------------------------
                                                                            2,700,685            2,807,299            2,636,961
                                                                        --------------------------------------------------------

                              INCOME (LOSS) BEFORE INCOME TAXES               (49,780)            (121,629)              96,221

Federal and state income taxes--Note D                                        (30,702)              (4,911)              41,808
                                                                        --------------------------------------------------------

Income (loss) before equity in loss of joint venture and
   extraordinary item                                                         (19,078)            (116,718)              54,413

Equity in loss of joint venture--Note A                                            --              (11,831)              (2,281)
                                                                        --------------------------------------------------------

Income (loss) before extraordinary item                                       (19,078)            (128,549)              52,132

Extraordinary item:  early extinguishment of
   debt--Notes B and D                                                             --                   --               (7,243)
                                                                        --------------------------------------------------------

                                        NET INCOME (LOSS)               $     (19,078)       $    (128,549)       $      44,889
                                                                        ========================================================

Net income (loss) attributable to Common Stock                          $     (25,061)       $    (134,076)       $      39,783
                                                                        ========================================================

Income (loss) per common share before extraordinary item                $        (.63)       $       (3.36)       $       1.17

Extraordinary item:  early extinguishment of debt                                  --                  --                 (.18)
                                                                        --------------------------------------------------------

Net income (loss) per common share--Note A                              $        (.63)       $       (3.36)       $        .99
                                                                        ========================================================

Weighted average common and dilutive common
   equivalent shares outstanding--Notes A and C                                39,946               39,904               40,257
                                                                        ========================================================

<FN>

See notes to financial statements
</TABLE>



<PAGE> 12

Payless Cashways, Inc.

BALANCE SHEETS

<TABLE>
<CAPTION>


                                                                                       November 30,          November 25,
In thousands                                                                               1996                  1995
-------------------------------------------------------------------------------------------------------------------------

<S>                                                                                   <C>                   <C>

ASSETS

     CURRENT ASSETS
         Cash and cash equivalents                                                    $        425          $        960
         Merchandise inventories--Notes A and B                                            399,010               392,604
         Prepaid expenses and other current assets                                          22,281                29,375
         Income taxes receivable--Note D                                                    15,200                    --
         Deferred income taxes--Note D                                                      13,681                19,740
                                                                                      -----------------------------------
                                             TOTAL CURRENT ASSETS                          450,597               442,679


     OTHER ASSETS
         Real estate held for sale--Note H                                                  18,529                 6,082
         Cost in excess of net assets acquired,
           less accumulated amortization of $105,198
           and $95,372, respectively--Notes A, H and I                                     292,946               323,819
         Deferred financing costs--Notes A and B                                            12,837                11,421
         Other                                                                              12,917                14,925


     LAND, BUILDINGS AND EQUIPMENT--Notes A and B
         Land and land improvements                                                        179,633               190,951
         Buildings                                                                         476,144               507,339
         Equipment                                                                          98,304                93,830
         Automobiles and trucks                                                             24,264                26,468
         Construction in progress                                                            4,590                 7,867
         Allowance for depreciation and amortization                                      (277,643)             (280,945)
                                                                                      -----------------------------------
                              TOTAL LAND, BUILDINGS AND EQUIPMENT                          505,292               545,510
                                                                                      -----------------------------------
                                                                                      $  1,293,118          $  1,344,436
                                                                                      ===================================
<FN>

See notes to financial statements
</TABLE>



<PAGE> 13

Payless Cashways, Inc.

BALANCE SHEETS (cont'd.)

<TABLE>
<CAPTION>


                                                                                       November 30,          November 25,
In thousands                                                                               1996                  1995
-------------------------------------------------------------------------------------------------------------------------

<S>                                                                                   <C>                   <C>

LIABILITIES AND SHAREHOLDERS' EQUITY

     CURRENT LIABILITIES
         Current portion of long-term debt--Note B                                    $     18,340          $     31,472
         Trade accounts payable                                                            121,891               159,844
         Salaries, wages and bonuses                                                        31,052                24,106
         Accrued interest                                                                    3,193                 4,894
         Insurance reserves                                                                 25,713                20,553
         Future store lease payments--Note H                                                17,460                    --
         Other accrued expense--Notes E, H and I                                            71,182                75,611
         Taxes, other than income taxes                                                     24,318                21,114
         Income taxes payable--Note D                                                        6,444                 6,685
                                                                                      -----------------------------------
                                                 TOTAL CURRENT LIABILITIES                 319,593               344,279


     LONG-TERM DEBT, less portion classified as current
         liability--Note B                                                                 618,667               608,627

     NON-CURRENT LIABILITIES
         Deferred income taxes--Note D                                                      41,665                59,994
         Other--Note F                                                                      23,462                23,373

     SHAREHOLDERS' EQUITY--Notes A, B and C
         Preferred Stock, $1.00 par value, 25,000,000
           shares authorized; issued:
              Cumulative Preferred Stock, 406,000 shares, $78,563
                and $72,580 aggregate liquidation preference, respectively                  40,600                40,600
         Common Stock, $.01 par value:
           Voting, 150,000,000 shares authorized, 37,709,028
              and 37,663,922 shares issued, respectively                                       377                   376
           Non-Voting Class A, 5,000,000 shares authorized, 2,250,000
              shares issued                                                                     23                    23
         Additional paid-in capital                                                        487,728               487,083
         Accumulated deficit                                                              (238,997)             (219,919)
                                                                                      -----------------------------------
                                                TOTAL SHAREHOLDERS' EQUITY                 289,731               308,163
                                                                                      -----------------------------------
     COMMITMENTS AND CONTINGENCIES--Notes E, F, G and J
                                                                                      $  1,293,118          $  1,344,436
                                                                                      ===================================
<FN>

See notes to financial statements
</TABLE>



<PAGE> 14

Payless Cashways, Inc.

STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>


                                                                                            Fiscal Year Ended
                                                                         -------------------------------------------------------
                                                                          November 30,         November 25,        November 26,
In thousands                                                                  1996                 1995                1994
--------------------------------------------------------------------------------------------------------------------------------

<S>                                                                      <C>                   <C>                 <C>

Cash Flows from Operating Activities
      Net income (loss)                                                  $    (19,078)         $   (128,549)       $     44,889
      Adjustments to reconcile net income (loss)
          to net cash provided by operating activities:
        Depreciation and amortization                                          55,016                60,356              58,692
        Asset impairment charges--Note H                                       59,697                    --                  --
        Non-cash interest                                                       2,534                 2,351               4,803
        Loss on early extinguishment of debt--Note B                               --                    --               7,243
        Equity in loss of joint venture--Note A                                    --                11,831               2,281
        Deferred income taxes                                                 (12,270)              (22,326)              7,753
        Special charges--Note I                                                 8,184               153,667                  --
        Other                                                                   1,337                   927               1,674
      Changes in assets and liabilities:
        Decrease in trade receivables                                              --                 5,858               8,770
        Decrease (increase) in merchandise inventories                         (6,406)                4,062             (23,663)
        Decrease (increase) in prepaid expenses
             and other current assets                                          (4,763)                9,532              (8,831)
        Increase in income taxes receivable                                   (15,200)                   --                  --
        (Decrease) increase in trade accounts payable                         (37,953)                8,785               5,794
        Increase in other current liabilities                                   1,349                 1,934               7,925
                                                                         -------------------------------------------------------
    NET CASH PROVIDED BY OPERATING ACTIVITIES                                  32,447               108,428             117,330


Cash Flows from Investing Activities
      Additions to land, buildings and equipment                              (40,117)              (67,281)            (81,906)
      Proceeds from sale of land, buildings and equipment                      14,709                   467               2,175
      Acquisition of business, excluding working capital:
        Land, buildings and equipment                                            (193)                   --                  --
        Purchase price in excess of net assets acquired                        (1,360)                   --                  --
      Investment in joint venture--Note A                                          --                (9,254)             (6,369)
      Decrease (increase) in other assets                                       1,435                 3,049              (5,788)
                                                                         -------------------------------------------------------
    NET CASH USED IN INVESTING ACTIVITIES                                     (25,526)              (73,019)            (91,888)


Cash Flows from Financing Activities
      Proceeds from long-term debt--Note B                                     28,000                    --             369,999
      Retirements of long-term debt -- Note B                                 (31,092)              (34,301)           (390,357)
      Fees and financing costs paid in connection with debt
        refinancing -- Note B                                                  (3,670)               (1,267)             (3,094)
      Sale of Common Stock under stock option plan                                 94                    16               2,326
      Sale of Common Stock under warrants                                          --                    --                 133
      Decrease in short-term borrowings                                            --                    --              (5,000)
      Other                                                                      (788)               (1,577)               (442)
                                                                         -------------------------------------------------------
    NET CASH USED IN FINANCING ACTIVITIES                                      (7,456)              (37,129)            (26,435)
                                                                         -------------------------------------------------------

Net decrease in cash and cash equivalents                                        (535)               (1,720)               (993)
Cash and cash equivalents, beginning of period                                    960                 2,680               3,673
                                                                         -------------------------------------------------------

Cash and cash equivalents, end of period                                 $        425          $        960        $      2,680
                                                                         =======================================================
<FN>

See notes to financial statements
</TABLE>



<PAGE> 15

Payless Cashways, Inc.

STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>

                                                  Preferred           Common       Additional     Foreign
                                                    Stock              Stock         Paid-in     Currency      Accumulated
In thousands                                   $1.00 Par Value    $.01 Par Value     Capital    Translation      Deficit      Total
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                               <C>                <C>           <C>            <C>        <C>          <C>

Balance at November 27, 1993                      $  40,600          $ 395         $ 482,575      $    --    $  (136,259) $ 387,311

   Net income for the year                                                                                        44,889     44,889
   Sale of Voting Common Stock under stock
     option plan                                                         3             3,337                                  3,340
   Sale of Voting Common Stock under warrants                           --               133                                    133
   Tax benefit from stock option exercises--Note D                                       148                                    148
   Restricted Stock--Note C                                              1               133                                    134
   Conversion of Non-Voting Class B Common
     Stock to Voting Common Stock--Note C                               --                                                       --
   Foreign currency translation adjustment                                                            (90)                      (90)
                                                  ----------------------------------------------------------------------------------

Balance at November 26, 1994                      $  40,600           $399         $ 486,326      $   (90)   $   (91,370) $ 435,865

   Net loss for the year                                                                                        (128,549)  (128,549)
   Sale of Voting Common Stock under
     stock option plan                                                  --                77                                     77
   Tax benefit from stock option exercises--Note D                                       325                                    325
   Restricted Stock--Note C                                             --               355                                    355
   Foreign currency translation adjustment                                                         (2,499)                   (2,499)
   Sale of joint venture stock                                                                      2,589                     2,589
                                                  ----------------------------------------------------------------------------------

Balance at November 25, 1995                      $  40,600          $ 399         $ 487,083      $    --    $  (219,919) $ 308,163

   Net loss for the year                                                                                         (19,078)   (19,078)
   Sale of Voting Common Stock under stock
     option plan                                                         1               463                                    464
   Tax benefit from stock option exercises--Note D                                       (24)                                   (24)
   Restricted Stock --Note C                                            --               206                                    206
                                                  ----------------------------------------------------------------------------------

Balance at November 30, 1996                      $  40,600          $ 400         $ 487,728      $    --    $  (238,997) $ 289,731
                                                  ==================================================================================

<FN>

See notes to financial statements
</TABLE>



<PAGE> 16

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS


NOTE A-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

PRINCIPLES OF CONSOLIDATION:  During fiscal 1996,  Payless  Cashways,  Inc. (the
"Company")  merged its wholly owned  subsidiary into the Company.  The financial
statements prior to fiscal 1996 include the accounts of Payless  Cashways,  Inc.
and its wholly owned subsidiary.  All significant intercompany  transactions and
balances have been eliminated in the accompanying  financial statements prior to
fiscal 1996.

The Company was a 49%  investor in Total Home de Mexico,  S.A. de C.V.,  a joint
venture with a Mexican company,  Alfa, S.A. de C.V. ("Alfa"),  until October 24,
1995. At that time,  the Company sold its ownership  interest to an affiliate of
Alfa, and an $8.0 million,  or $.20 per common share,  loss on the sale has been
reflected in the accompanying 1995 statements of operations as equity in loss of
joint  venture.  The Company had  accounted  for this  investment  on the equity
method.

DESCRIPTION   OF  BUSINESS:   The  Company  is  engaged  in  only  one  line  of
business--the  retail sale of building  materials and supplies.  At November 30,
1996,  the  Company  operated  192 stores in 22 states  located in the  Midwest,
Southwest,  Pacific Coast,  Rocky Mountain and New England areas.  The Company's
primary customers include project-oriented  do-it-yourselfers and professionals.
In recent  years,  the building  materials  retailing  industry has  experienced
increased  levels of competition as several  national chains have expanded their
operations.

USE OF ESTIMATES AND OTHER UNCERTAINTIES:  In preparing the financial statements
in conformity with generally accepted accounting principles, management has made
estimates  and  assumptions  that  affect  the  reported  amounts  of assets and
liabilities at the date of the financial  statements and the reported amounts of
revenues and expenses during the reporting  period.  Actual results could differ
from those estimates.

The Company's future results could be adversely affected by a number of factors,
including:  competitive  pressure  on sales and  pricing  from  well-capitalized
warehouse-format  home centers; the Company's ability to effectively execute its
business  strategy;  weather  conditions;  consumer  spending  and debt  levels;
interest rates; housing activity,  including existing home turnover and new home
construction;  lumber  prices;  product mix; sales of real estate held for sale;
and growth of certain market segments.

MERCHANDISE   INVENTORIES:   Inventories   are  stated  at  the  lower  of  cost
(approximately 82% at last-in,  first-out method, and the remainder at first-in,
first-out  method) or market.  Had the first-in,  first-out method been used for
all inventories,  the carrying value of these  inventories  would have increased
approximately $24.3 million and $27.5 million at November 30, 1996, and November
25, 1995, respectively.  During fiscal 1996, the liquidation of LIFO inventories
decreased cost of  merchandise  sold and,  therefore,  decreased the loss before
income taxes by $1.2 million.

LAND,  BUILDINGS AND EQUIPMENT:  Land, buildings and equipment are stated on the
basis of cost.  Provisions for depreciation of land improvements,  buildings and
equipment are computed primarily by the straight-line  method over the estimated
useful lives of the assets or the terms of the related leases,  which range from
three to 39 years.

The  accompanying  1996  statements of operations  reflect $2.3 million as other
income  related to an insurance  reimbursement  for lost profits and  settlement
proceeds in excess of net book value for buildings and equipment  destroyed in a
fire loss.

In July 1993,  two of the  Company's  retail  facilities  were  destroyed by the
midwestern  floods.  The Company carries property,  business  interruption,  and
extra-expense  insurance coverages.  The Company operated temporary locations to
service  its  customers  until  these   facilities  were  rebuilt  or  replaced.
Settlement  proceeds in excess of net book value of $2.8 million  related to the
flood-damaged



<PAGE> 17

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS


real estate,  fixtures and equipment and the $3.1 million  reimbursement of lost
profits have been reflected in the accompanying 1994 statements of operations as
other income.

DEFERRED FINANCING COSTS:  Deferred financing costs are being amortized over the
respective borrowing terms using the interest method.

STOCK-BASED  COMPENSATION:  In October 1995, the Financial  Accounting Standards
Board  ("FASB")  issued  Statement of Financial  Accounting  Standards  No. 123,
"Accounting for Stock-Based  Compensation"  ("SFAS 123"), which is effective for
fiscal years  beginning  after  December 15, 1995. As permitted by SFAS 123, the
Company plans to continue to account for its stock-based plans under APB No. 25,
"Accounting for Stock Issued to Employees" and to provide pro forma  disclosures
of the compensation  expense  determined under the fair value provisions of SFAS
123, if material.

FOREIGN CURRENCY TRANSLATION: Prior to the sale of the investment on October 24,
1995,  adjustments  resulting from the currency translation of the Mexican joint
venture financial statements into U.S. dollars as of the balance sheet date were
reflected as a separate component of shareholders' equity.


COST IN EXCESS OF NET ASSETS  ACQUIRED:  The cost in excess of the fair value of
net assets acquired (goodwill) is being amortized using the straight-line method
over 40 years. When facts and circumstances  indicate potential impairment,  the
Company  evaluates  the  recoverability  of  asset  carrying  values,  including
associated  goodwill,  using  estimates of  undiscounted  future cash flows over
remaining  asset lives.  When  impairment is indicated,  any impairment  loss is
measured by the excess of carrying values over fair values.  The Company adopted
Statement  of  Financial  Accounting  Standards  No.  121,  "Accounting  for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," in
the third quarter of fiscal 1996. See Note H.


NET INCOME (LOSS) PER COMMON SHARE:  Net income (loss) per common share has been
computed  based on the  weighted  average  number of common  shares  outstanding
during the period plus common stock  equivalents,  when dilutive,  consisting of
certain  stock  options  and  shares   issuable  under  the  Director   Deferred
Compensation Plan, when applicable. For purposes of this computation, net income
(loss) was adjusted for dividend requirements on preferred stock.


INCOME  TAXES:  The Company  accounts  for income  taxes based on  Statement  of
Financial  Accounting  Standards  No. 109 ("SFAS 109"),  "Accounting  for Income
Taxes."  Under the asset and liability  method of SFAS 109,  deferred tax assets
and liabilities are recognized for the future tax  consequences  attributable to
differences  between the financial statement carrying amounts of existing assets
and  liabilities  and their  respective  tax  bases.  Deferred  tax  assets  and
liabilities  are measured  using enacted tax rates applied to taxable  income in
the years in which those  temporary  differences are expected to be recovered or
settled.  Under SFAS 109, the effect on deferred tax assets and liabilities of a
change in tax rates is  recognized  in income in the period  that  includes  the
enactment date.


STATEMENT  OF CASH FLOWS:  For  purposes  of the  statement  of cash flows,  the
Company  considers  investments in debt instruments with original  maturities of
three months or less to be cash equivalents.

During fiscal 1996, federal and state income tax refunds, net of payments,  were
$8.8  million and during  fiscal 1995 and 1994,  federal and state  income taxes
paid, net of refunds, were $21.0 million and $32.2 million, respectively.

Cash paid for interest,  net of interest capitalized,  was $62.2 million,  $60.0
million, and $67.0 million during fiscal 1996, 1995, and 1994, respectively.


SALE OF  RECEIVABLES:  The Company  sells its  commercial  credit  accounts to a
third-party administrator pursuant to an



<PAGE> 18

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


agreement. A substantial portion of the Company's commercial credit sales are to
remodelers and  contractors.  Under the agreement,  the Company pays a servicing
fee and assumes the credit risk.  At November  30, 1996,  and November 25, 1995,
the  outstanding  balance of commercial  credit accounts sold to the third-party
administrator was approximately $104.7 million and $93.0 million,  respectively.
The Company has provided a reserve of $5.7  million at November  30,  1996,  and
$5.5  million at November 25, 1995,  which is believed to  adequately  cover its
credit risk related to these accounts.

Under  a  third-party  administrative  servicing  agreement  for  the  Company's
private-label  charge  card  program,  charge  card  accounts  are  sold  to the
administrator and the Company assumes no credit risk.

In June 1996, the FASB issued  Statement of Financial  Accounting  Standards No.
125,   "Accounting   for  Transfers  and  Servicing  of  Financial   Assets  and
Extinguishments   of   Liabilities"   ("SFAS  125"),   which  is  effective  for
transactions  after  December 31, 1996. The Company  believes  that,  based upon
available  information,  its ongoing sales of commercial credit receivables will
qualify for sale treatment in compliance with SFAS 125.

REAL ESTATE HELD FOR SALE:  Real estate held for sale,  consisting  primarily of
closed store  facilities,  is  reflected  at the lower of cost less  accumulated
depreciation or estimated fair value less cost to sell.

FAIR VALUE OF FINANCIAL  INSTRUMENTS:  Based on the  borrowing  rates  currently
available to the Company for debt issuances  with similar terms and  maturities,
the fair value of long-term debt including the current portion is  approximately
$564  million and $617  million at  November  30, 1996 and  November  25,  1995,
respectively.  The  Company  believes  the  carrying  amounts  of cash  and cash
equivalents,  trade receivables, trade accounts payable and accrued expenses are
a reasonable estimate of their fair value.

DERIVATIVE FINANCIAL INSTRUMENTS:  Premiums paid for purchased interest rate cap
agreements  are  amortized to interest  expense over the term of the  agreement.
Unamortized  premiums  are included in deferred  financing  costs in the balance
sheets. Amounts received under the cap agreement are reflected as a reduction of
interest  expense.  Amounts  received  or paid  under  the  interest  rate  swap
agreement  discussed in Note G are  reflected as a reduction or increase of rent
expense.

At November 30, 1996,  the  aggregate  carrying  value of such  instruments  was
approximately  $0.6 million.  The estimated amount the Company would have had to
pay at November 30, 1996, to cancel or transfer the agreements to other parties,
was approximately $0.9 million.


ACCOUNTING  PERIOD:  The  Company's  fiscal  year ends on the last  Saturday  in
November.  Fiscal year 1996 consisted of 53 weeks and fiscal years 1995 and 1994
consisted of 52 weeks each.


NOTE B--LONG-TERM DEBT

Long-term debt consisted of the following:
<TABLE>
<CAPTION>


In thousands                                                                                1996              1995
                                                                                       -------------------------------

<S>                                                                                    <C>                 <C>
Amended Credit Agreement, secured by inventory,
   certain real estate, and equipment, variable interest
   rate, payable in varying amounts through 2000                                       $  354,000          $  326,000

Mortgage loan  payable to  insurance  company, secured by
   certain  real estate, 11.04% to 11.21%, payable in
   varying amounts through 2003                                                           108,000             138,987

Senior subordinated notes, 9-1/8%, due 2003                                               173,655             173,655

Other senior debt, 10% to 12%, payable in varying
   amounts through 2004                                                                     1,352               1,457
                                                                                       -------------------------------
                                                                                          637,007             640,099
Less portion classified as current liability                                              (18,340)            (31,472)
                                                                                       -------------------------------
                                                                                       $  618,667          $  608,627
                                                                                       ===============================
</TABLE>


On October 3, 1996, the Company restructured and amended its $408 million credit
agreement to include two tranches of term loans in the aggregate  amount of $273
million, a revolving credit facility



<PAGE> 19

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)

of $135  million and a $60 million  working  capital  facility  (the  "Swingline
Facility") that can only be drawn upon if the revolving credit facility is fully
utilized (the "Amended Credit Agreement"). The Swingline Facility must be repaid
in full prior to repaying any other part of the Amended  Credit  Agreement.  The
term  loans  require  annual  principal  payments  of $3  million  beginning  on
September  15, 1997,  with final  maturity on November 20, 2000. At November 30,
1996,  there were combined  borrowings  under the agreement of $354.0 million as
well as outstanding standby letters of credit of $14.0 million.  The Company had
$100.0 million available for borrowing under this agreement at the end of fiscal
1996. The Amended Credit Agreement is secured by  substantially  all merchandise
inventory,  certain real estate,  and  substantially all of the equipment of the
Company.  All loans under the Amended Credit Agreement,  except the $100 million
Tranche B loans, bear interest at fluctuating rates of either the alternate base
rate  (8-1/4% at November  30,  1996) plus 1.5% per annum or LIBOR  (5-19/32% at
November  30,  1996) plus 2.5% per annum.  The Tranche B loans bear  interest at
fluctuating  rates of either  the  alternate  base rate plus 2.0% or LIBOR  plus
3.0%. In addition to scheduled repayments,  the Company will also be required to
repay  borrowings  under the Amended  Credit  Agreement with proceeds of certain
asset  sales and  certain  other  transactions  and with  excess  cash flow,  as
defined.   The  effect  of  these   provisions  is  generally  to  require  that
substantially all cash flows not applied to the repayment of other  indebtedness
or  permitted  capital  expenditures  are  to be  applied  to the  repayment  of
borrowings under the Amended Credit Agreement.

The Amended Credit Agreement contains a number of covenants,  including, but not
limited to,  minimum  cash flow  (defined as earnings  before  interest,  taxes,
depreciation,  amortization,  and rent,  "EBITDAR"),  a maximum  debt to EBITDAR
ratio,  and  limitations on capital  expenditures  and capitalized  leases.  The
Company is also  prohibited  from paying  dividends on its Common and  Preferred
Stock.  Compliance  with the minimum  cash flow and the maximum  debt to EBITDAR
covenants is determined on a  rolling-four-quarter  basis.  The measurements for
those covenants, over the term of the Amended Credit Agreement, are as follows:

                                   Minimum Cash Flow          Maximum Debt to
     Fiscal Quarter  Ending           (EBITDAR)                  EBITDAR
     ----------------------        -----------------          ---------------

     November 1996                    150,000,000               4.61 to 1.00
     February 1997                    148,000,000               4.65 to 1.00
     May 1997                         138,300,000               4.95 to 1.00
     August 1997                      133,000,000               5.11 to 1.00
     November 1997                    135,500,000               4.97 to 1.00
     February 1998                    137,650,000               4.85 to 1.00
     May 1998                         142,350,000               4.64 to 1.00
     August 1998                      147,500,000               4.44 to 1.00
     November 1998                    152,500,000               4.23 to 1.00
     February 1999                    154,650,000               4.15 to 1.00
     May 1999                         159,350,000               4.00 to 1.00
     August 1999                      164,500,000               3.86 to 1.00
     November 1999                    169,500,000               3.70 to 1.00
     February 2000                    171,950,000               3.63 to 1.00
     May 2000                         177,500,000               3.49 to 1.00
     August 2000                      183,600,000               3.36 to 1.00

For the fiscal year ended  November 30, 1996,  actual EBITDAR was $165.2 million
and the ratio of debt to EBITDAR was 3.86 to 1.

On November 18, 1994,  the Company  entered  into a five-year  revolving  credit
facility  providing  borrowings  initially of up to $420  million.  The previous
credit agreement was repaid on this date,  resulting in an extraordinary  charge
of approximately $7.7 million, net of tax, in the accompanying 1994 statement of
operations.

To reduce  the impact of changes  in  interest  rates with  regard to the credit
agreement  described  above,  during 1995, the Company  entered into an interest
rate cap with an affiliate of an investment  banking firm,  limiting to 8% LIBOR
the interest rates on $100 million of its floating rate debt through January 20,
1998.  Under the  agreement,  semiannual  payments,  if any,  would be received,
although no amounts  were  received by the Company  during  fiscal years 1995 or
1996.

On April 20, 1993,  the Company  issued senior  subordinated  notes.  The senior
subordinated notes are unsecured obligations,  subordinated to substantially all
indebtedness of the Company,  and mature on April 15, 2003.  Interest is payable
on April 15 and October 15 of each year at 9-1/8% per



<PAGE> 20

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


annum.  The senior  subordinated  notes are callable  after April 15,  1998,  at
104.5625% face value  declining  ratably to par on and after April 15, 2000. The
senior  subordinated  notes contain certain  covenants that, among other things,
limit  the  ability  of the  Company  and  its  subsidiaries  to  incur  certain
indebtedness,  pay  dividends,  issue  preferred  stock of  subsidiaries,  issue
guarantees and pledges of subsidiaries, engage in transactions with stockholders
and affiliates, create payment restrictions affecting subsidiaries and engage in
mergers and consolidations.

During  1994,  the Company had borrowed  $25 million  under a multi-draw  credit
agreement to repurchase and retire $26.3 million  aggregate  principal amount of
the 9-1/8%  senior  subordinated  notes  resulting in an  extraordinary  gain of
approximately  $.5 million,  net of tax, in the  accompanying  1994 statement of
operations. The multi-draw credit agreement was prepaid on November 16, 1994.

The Company has a mortgage loan with an insurance  company secured by land, land
improvements  and  buildings,  having a net book value of  approximately  $300.2
million at November  30, 1996.  On December  22, 1995,  the Company made a $16.5
million  mortgage loan  prepayment in connection with the sale of a distribution
center described at Note I.

The Company  defeased  certain  industrial  revenue  bonds during fiscal 1988 by
placing  government  securities in an irrevocable trust. Such industrial revenue
bond debt is considered to be extinguished and does not appear as a liability in
the  accompanying  balance  sheets.  Bonds in the  amount  of $6.0  million  are
outstanding as of November 30, 1996.

Scheduled  maturities of long-term debt,  including  sinking fund  requirements,
are:


In thousands               1997                         $     18,340
                           1998                               27,937
                           1999                               16,970
                           2000                              360,613
                           2001                               17,448
                           Thereafter                        195,699
                                                        ------------
                                                        $    637,007
                                                        ============

NOTE C--SHAREHOLDERS' EQUITY

The total number of shares of all classes of Common Stock, $.01 par value, which
the  Company  has  the  authority  to  issue,  is  160,000,000,   consisting  of
150,000,000 shares of Voting Common Stock,  5,000,000 shares of Non-Voting Class
A Common Stock and  5,000,000  shares of Non-Voting  Class B Common  Stock.  All
classes of Common Stock are  substantially  identical  except for voting rights.
Shares of Non-Voting  Class A Common Stock are  convertible at the option of the
holder, subject to certain restrictions,  into a like number of shares of Voting
Common Stock.  During 1994,  1,125,000  outstanding shares of Non-Voting Class B
Common Stock were  converted into a like number of shares of Voting Common Stock
under  a  similar  right  of  conversion.  In  the  event  of  liquidation,  all
distributions  on the Common  Stock of the Company are payable to all classes of
Common Stock in a like manner.

Masco Capital, an affiliate of one of the Company's suppliers,  owns 100% of the
Company's  Cumulative  Preferred  Stock  ("Preferred  Stock").  The terms of the
Preferred  Stock  provide for  dividends  at an annual rate of 8% until 2008 (at
which time the rate increases) on a cumulative  basis,  whether or not declared.
At November 30, 1996,  cumulative  undeclared  dividends on the Preferred  Stock
were $38.0 million  ($93.50 per share).  The Preferred  Stock is not convertible
into Common Stock. Each share of Preferred Stock is generally entitled to 5.9994
votes on all  matters on which  holders of Common  Stock are  entitled  to vote.
Unless full cumulative  dividends plus the then current  quarterly  dividends on
Preferred Stock have been paid or declared and all necessary funds set apart for
payment,  1) no cash  dividends may be paid on Common Stock,  2) no Common Stock
may be  purchased,  redeemed or  otherwise  acquired by the  Company,  and 3) no
moneys may be paid into a sinking fund for Common Stock.



<PAGE> 21

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)



The Company has adopted a deferred compensation plan for non-employee  directors
(the "Director Deferred Comp Plan"). Under the Director Deferred Comp Plan, each
non-employee  director  may  elect to defer  receipt  of all or part of his cash
compensation  on a pretax  basis and invest  those  deferrals  in the  Company's
Common Stock.  The shares of Common Stock issuable  under the Director  Deferred
Comp Plan will be either authorized and unissued shares or previously issued and
outstanding  shares  reacquired  by the  Company.  Shares  will be issued when a
distribution is made following a director's termination of services.

Under an option plan adopted for  non-employee  directors (the "Director  Option
Plan"), each non-employee director is granted an option of $100,000 worth of the
Company's  Common  Stock,  valued  on the date on which  the  director  is first
elected,  for an  aggregate  exercise  price  of  $100,000.  In  addition,  each
non-employee  director will receive an option to purchase 1,000 shares of Common
Stock on the date immediately  following the Company's Annual Meeting so long as
such  non-employee  director  continues  to  serve  on the  Company's  Board  of
Directors.  The  exercise  price for the annual  options will be the fair market
value of the Company's  Common Stock on such anniversary  date.  Options granted
under the Director  Option Plan may be exercised after the grant date and expire
on the earlier of (a) ten years  after the date of grant,  or (b) one year after
the date on which the director  ceases to be a member of the Company's  Board of
Directors.  An  aggregate  of 350,000  shares of Common  Stock are  reserved for
issuance under the Director Option Plan.

The Payless  Cashways  1992  Incentive  Stock Program (the  "Program")  has been
established  to  attract  and retain  outstanding  individuals  in  certain  key
positions.  The  Program  provides  for the grant of  incentive  stock  options,
non-qualified stock options, stock appreciation rights,  restricted stock awards
and  performance  units.  All grants  made after July 15,  1992,  were under the
Program.  The aggregate  number of shares of Common Stock  reserved for issuance
under the Program is equal to the sum of (1) the greater of (a) 3,500,000 shares
of Common Stock or (b) 5% of the sum of (i) the Common Stock  outstanding at the
end of any fiscal year during the term of the Program and (ii) the Common  Stock
reserved for issuance upon  exercise or  conversion of any options,  warrants or
Preferred Stock outstanding at the end of any fiscal year during the term of the
Program;  plus (2) any shares which  remain  available  under the Plan  (defined
below) or which are subject to options or awards  outstanding  on July 15, 1992,
and which expire, terminate or are cancelled after such date. The exercise price
for any  incentive  stock options will be at least 100% of the fair market value
of  the  Common  Stock  at the  date  of  grant.  The  exercise  price  for  any
non-qualified stock options will be at least 85% of the fair market value of the
Common Stock at the date of grant.

There  were  69,700  shares of  Restricted  Stock,  granted  under the  Program,
outstanding as of November 30, 1996. The shares of Restricted  Stock are subject
to certain transfer  restrictions and 25,700 shares,  32,000 shares,  and 12,000
shares vest in February 1997, February 1998, and August 1999, respectively.

The 1988 Payless  Cashways,  Inc.  Employee Stock Plan (the "Plan") provided for
the conversion of options to purchase shares of the  predecessor  company Common
Stock into options to purchase shares of the successor company Common Stock, and
for the granting of options for the purchase of up to 1,643,781 shares of Common
Stock and awards of up to  approximately  183,000  shares of  Restricted  Stock.
One-third of the options were  performance-based  and two-thirds  vested without
regard to performance  tests.  All unvested  options under the Plan vested as of
March 15, 1993.  The exercise price for options was the fair market value of the
Company's  Common  Stock on the date of grant.  After  adoption  of the  Program
(defined above), no further grants were made pursuant to the Plan.



<PAGE> 22

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


The following sets forth details of shares under options for all three plans.


<TABLE>
<CAPTION>
                                     1992 Incentive                       1988 Employee
                                      Stock Program                        Stock Plan                   Director Option Plan
                              -----------------------------------------------------------------------------------------------
                                 Number             Average          Number          Average           Number        Average
                                Of Shares            Price          Of Shares         Price           Of Shares       Price
                              -----------------------------------------------------------------------------------------------

<S>                           <C>                  <C>            <C>               <C>                <C>           <C>

Fiscal Year 1994:

    Options granted             963,758            $  14.60              --         $     --            8,000        $  15.88

    Options exercised            (8,356)              11.98        (283,495)            7.85               --              --

    Options terminated or
        cancelled              (283,626)              12.67          (8,784)           11.34               --              --
                              -----------------------------------------------------------------------------------------------

    Options outstanding at
        November 26, 1994     2,073,825            $  13.26       1,961,042         $   9.79           56,692        $  14.59
                              ===============================================================================================

    Options exercisable at
        November 26, 1994       346,159            $  12.18       1,961,042         $   9.79           56,692        $  14.59
                              ===============================================================================================


Fiscal Year 1995:

    Options granted           1,549,325            $   6.62              --         $     --           20,903        $   7.75

    Options exercised                --                  --          (7,000)            2.22               --              --

    Options terminated or
        cancelled              (286,727)              11.48         (70,748)           11.31               --              --
                              -----------------------------------------------------------------------------------------------

    Options outstanding at
        November 25, 1995     3,336,423            $  10.33       1,883,294         $   9.76           77,595        $  12.75
                              ===============================================================================================

    Options exercisable at
        November 25, 1995       768,892            $  12.86       1,883,294         $   9.76           77,595        $  12.75
                              ===============================================================================================


Fiscal Year 1996:

    Options granted             209,100            $   3.64              --         $     --            9,000        $   4.63

    Options exercised                --                  --         (41,706)            2.22               --              --

    Options terminated or
        cancelled              (576,691)              10.17        (265,002)           11.82               --              --
                              -----------------------------------------------------------------------------------------------

    Options outstanding at
        November 30, 1996     2,968,832            $   9.89       1,576,586         $   9.61           86,595        $  11.90
                              ===============================================================================================

    Options exercisable at
        November 30, 1996     1,336,082            $  11.49       1,576,586         $   9.61           86,595        $  11.90
                              ===============================================================================================

</TABLE>



<PAGE> 23

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


NOTE D-INCOME TAXES

For the year ended November 30, 1996, an income tax benefit of $30.7 million was
recorded.  On August 20, 1996, the Small Business Job Protection Act of 1996 was
signed into law.  Certain  provisions  of this Act clarify the Tax Reform Act of
1986 and make retroactively tax deductible certain costs and expenses previously
recorded by the  Company  without any related  tax  benefit.  In  addition,  the
Company settled with the Internal Revenue Service  regarding several tax issues.
As a result, the Company has recorded a tax benefit of $23.7 million and related
interest income of $4.9 million ($2.9 million after tax) in the third quarter of
1996. This tax benefit  includes  recoverable  income taxes of $10.0 million and
non-cash tax benefits of $13.7 million. A debit of $24,000 to additional paid-in
capital  reflected  the tax effect of excess  expense  recognized  for financial
reporting  purposes  over the tax  deduction  for  employee  stock  options.  At
November 30, 1996, the Company has tax credit  carryforwards  for federal income
tax  purposes  totaling  $1.1 million  which are  available  over an  indefinite
period.

For the year ended  November 25, 1995, an income tax benefit of $4.9 million was
allocated  to the loss  before  equity in loss of joint  venture.  No income tax
benefit was  recorded for the equity in loss of the joint  venture.  A credit of
$325,000 to additional  paid-in  capital  reflected the tax effect of the excess
tax  deduction  for  employee  stock  options  over the expense  recognized  for
financial reporting purposes.

Income  taxes for the year ended  November 26,  1994,  were  allocated to income
before  equity  in loss of joint  venture  and  extraordinary  item,  and to the
extraordinary  item for early  extinguishment  of debt; see Note B. For the year
ended November 26, 1994, the income tax benefit  allocated to the  extraordinary
item was $4.8 million;  the income tax expense allocated to income before equity
in loss of joint venture and extraordinary  item was $41.8 million.  A credit of
$148,000 to additional  paid-in  capital  reflected the tax effect of the excess
tax  deduction  for  employee  stock  options  over the expense  recognized  for
financial reporting purposes.

Income tax expense (benefit)  attributable to the income (loss) before equity in
loss of joint venture and extraordinary item consisted of the following:
<TABLE>
<CAPTION>

In thousands
                                                      1996                    1995                 1994
                                                    ------------------------------------------------------
<S>                                                 <C>                   <C>                   <C>

Currently payable (receivable)
     Federal                                        $ (18,901)            $   14,915            $   29,636
     State                                                469                  2,500                 4,419
                                                    ------------------------------------------------------
                                                      (18,432)                17,415                34,055

Deferred
     Federal                                        $ (11,534)            $  (20,986)           $    7,288
     State                                               (736)                (1,340)                  465
                                                    ------------------------------------------------------
                                                      (12,270)               (22,326)                7,753
                                                    ------------------------------------------------------
                                                    $ (30,702)            $   (4,911)           $   41,808
                                                    ======================================================

</TABLE>



<PAGE> 24

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


The  differences  between  actual income tax expense and the amount  computed by
applying  the  statutory  federal  income tax rate to the income  (loss)  before
income  taxes,  equity in loss of joint venture and  extraordinary  item were as
follows:
<TABLE>
<CAPTION>

                                                    1996                   1995                  1994
                                                 -----------------------------------------------------------

<S>                                               <C>                      <C>                    <C>

Federal statutory rate                            (35.0) %                 (35.0) %               35.0 %
State income taxes,
     net of federal tax benefit                    (1.5)                     1.5)                  4.0
Benefit from new law and tax settlement           (47.6)                      --                    --
Amortization and write-off of goodwill             22.7                     32.9                   4.7
Permanent tax differences                            .4                      (.1)                  (.1)
Tax credits                                         (.7)                     (.3)                  (.2)
                                                 -----------------------------------------------------------
                                                  (61.7) %                  (4.0) %               43.4  %
                                                 ===========================================================

</TABLE>


The tax  effects of  temporary  differences  and tax  credits  that give rise to
significant portions of the deferred tax assets and deferred tax liabilities are
as follows:

<TABLE>
<CAPTION>

In thousands                                                                           1996                       1995
                                                                                    -------------------------------------
<S>                                                                                 <C>                       <C>

Deferred tax assets:
     Insurance reserves                                                             $   13,026                $   11,770
     Lease liability                                                                     7,159                        --
     Retirement, deferred compensation, restricted stock
       and stock option plans                                                            6,101                     7,061
     Post-retirement benefits                                                            5,706                     5,330
     Vacation reserves                                                                   4,981                     4,926
     Reserves for bad debts                                                              3,056                     2,790
     Other                                                                               7,709                     5,932
                                                                                    -------------------------------------

                                           Total deferred tax assets                    47,738                    37,809
                                           Less valuation allowance                         --                        --
                                                                                    -------------------------------------
                                           Net deferred tax assets                      47,738                    37,809
                                                                                    -------------------------------------

Deferred tax liabilities:
     Land, buildings and equipment                                                     (54,763)                  (60,955)
     Inventory basis difference                                                        (11,221)                   (7,754)
     Acquisition fees                                                                       --                    (4,949)
     Other                                                                              (9,738)                   (4,405)
                                                                                    -------------------------------------
                                           Total deferred tax liabilities              (75,722)                  (78,063)
                                                                                    -------------------------------------
                                           Net deferred tax liability               $  (27,984)               $  (40,254)
                                                                                    =====================================

</TABLE>

NOTE E--PENSION PLANS

The  Company  has a  non-contributory  defined  benefit  pension  plan  covering
substantially  all  full-time  employees.  Benefits  under the plan are based on
years of service and an employee's average compensation.  Prior to January 1995,
the Company had two defined benefit pension plans that were merged into a single
plan on January 1, 1995. The Company's funding policy is to contribute  annually
the amount actuarially  determined to provide the plan with sufficient assets to
meet  future  benefit  payment  requirements.  Assets  of the  pension  plan are
maintained in trust funds.

The  Company  also has a  supplemental  pension  plan  covering  certain  of its
officers.  The plan is an unfunded,  non-contributory  defined  benefit  pension
plan.  Benefits  under  the plan are  based  on  years of  service,  age and the
employee's average compensation.



<PAGE> 25

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)
<TABLE>
<CAPTION>



Net pension cost included the following components:
In thousands                                                                    1996              1995              1994
                                                                           -------------------------------------------------

<S>                                                                        <C>                <C>               <C>

Service cost - benefits earned during the period                           $      5,025       $      4,714      $     4,623
Interest cost on projected benefit obligation                                     4,647              3,987            3,684
Actual return on plan assets                                                     (8,167)            (6,741)            (166)
Net amortization and deferral                                                     5,185              4,426           (2,295)
                                                                           -------------------------------------------------
Net periodic pension cost                                                  $      6,690       $      6,386      $     5,846
                                                                           =================================================
</TABLE>


Significant  assumptions  used in accounting  for defined  benefit plans were as
follows:
<TABLE>
<CAPTION>

                                                                                1996              1995              1994
                                                                          -------------------------------------------------

<S>                                                                             <C>               <C>               <C>

Weighted average discount rate                                                  7.5%              7.5%              7.5%
Rate of increase in future compensation levels                                  5.0%              5.0%              5.0%
Expected long-term rate of return on plan assets                                8.5%              8.5%              8.5%
</TABLE>

The following  table sets forth the plans' funded status and amounts  recognized
in the balance sheets:

<TABLE>
<CAPTION>

In thousands                                                              1996                                  1995
                                                                ---------------------------------------------------------------
                                                                              Supplemental                         Supplemental
                                                                   Pension       Pension                Pension       Pension
                                                                    Plan          Plan                   Plan          Plan
                                                                ---------------------------------------------------------------

<S>                                                             <C>             <C>                    <C>          <C>

Actuarial present value of benefit obligations:
    Accumulated benefit obligation
       Vested                                                   $   41,707      $  6,262               $ 36,840     $    5,931
       Non-vested                                                    4,403         1,505                  4,535          1,215
                                                                ---------------------------------------------------------------
       Total                                                        46,110         7,767                 41,375          7,146

    Increase in benefits due to estimated
       future compensation increases                                10,988         1,989                  9,655          1,451
                                                                ---------------------------------------------------------------

    Projected benefit obligation
       for service rendered to date                                 57,098         9,756                 51,030          8,597

    Plan assets at fair value, primarily publicly traded
       stocks and U.S. Government obligations                       48,993            --                 38,038            --
                                                                ---------------------------------------------------------------

    Plan assets less than
       projected benefit obligation                                 (8,105)       (9,756)               (12,992)        (8,597)

    Unrecognized net loss from past
       experience different from that assumed                        1,118         1,591                  3,519          1,139

    Unrecognized prior service cost                                  1,237           785                  1,378            849
                                                                ---------------------------------------------------------------

    Accrued pension cost included
       in other accrued expenses                                $   (5,750)     $ (7,380)              $ (8,095)    $   (6,609)
                                                                ===============================================================

</TABLE>

In addition, the Company has sponsored several defined contribution plans. Under
the Payless Cashways, Inc. Employee Savings Plan, which covers substantially all
employees, the Company contributed an amount equal to a percentage of the amount
contributed  by employees  into the plan. In fiscal year 1994,  the employees of
Somerville Lumber and Supply Co., Inc. were covered by a profit sharing plan for
which  contributions  were made at the  discretion  of the  Somerville  Board of
Directors and approval of the Company's Compensation  Committee.  On October 23,
1995,  the  profit  sharing  plan was merged  into the  Payless  Cashways,  Inc.
Employee Savings Plan. The aggregate  contributions to all defined  contribution
plans were $3.1 million, $2.9 million, and $2.7 million in 1996, 1995, and 1994,
respectively.



<PAGE> 26

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


NOTE F--POST-RETIREMENT BENEFIT PLANS

The Company has certain  unfunded  post-retirement  defined  benefit  plans that
provide health and life insurance benefits for retirees and eligible dependents.
The health plan is  contributory  and  contains  cost-sharing  features  such as
deductibles and coinsurance.

In fiscal  years  1996,  1995,  and 1994,  the  health-care  cost trend rate was
assumed to decrease  gradually to 5.9% by the year 2001 and remain at that level
thereafter.  The effect of a 1.0% annual  increase in these assumed  health-care
cost  trend  rates  would   increase  the   November   30,   1996,   accumulated
post-retirement  benefit obligation by $623,000 and the aggregate of the service
and interest cost  components of net periodic  post-retirement  benefit cost for
the fiscal year ended November 30, 1996, by $71,000.

Net post-retirement benefit cost included the following components:
<TABLE>
<CAPTION>
In thousands                                                                    1996               1995              1994
                                                                           ------------------------------------------------

         <S>                                                               <C>                 <C>                <C>

         Service cost - benefits earned during the period                  $     642           $    1,098         $    923
         Interest cost on accumulated post-retirement
           benefit obligation                                                  1,084                1,309            1,092
         Amortization of prior service cost                                       47                   47               --
         Amortization of unrecognized loss                                        --                   93               48
                                                                           ------------------------------------------------
         Net periodic post-retirement benefit cost                         $   1,773           $    2,547         $  2,063
                                                                           ================================================
</TABLE>


The following  table sets forth the plans' funded status and amounts  recognized
in the balance sheets:

<TABLE>
<CAPTION>
In thousands                                                                    1996               1995             1994
                                                                           -----------------------------------------------

         <S>                                                               <C>                 <C>                <C>

         Accumulated post-retirement benefit obligation:
           Retirees and beneficiaries                                      $    8,111          $   12,144         $  9,830
           Fully eligible active plan participants                              1,965                 781              375
           Other active plan participants                                       3,893               3,939            8,113
                                                                           ------------------------------------------------
                  Total                                                        13,969              16,864           18,318
         Plan assets at fair value                                                 --                  --               --
                                                                           ------------------------------------------------
         Accumulated post-retirement benefit obligation in excess of
           plan assets                                                         13,969              16,864           18,318
         Unrecognized net gain (loss) from past experience different from
           that assumed                                                         3,197                (749)          (3,684)
         Unrecognized prior service cost                                         (838)               (885)            (932)
                                                                           ------------------------------------------------
         Accrued post-retirement benefit cost included in other
           non-current liabilities                                         $   16,328          $   15,230         $ 13,702
                                                                           ================================================
</TABLE>


Significant  assumptions  used in accounting for  post-retirement  benefit plans
were as follows:
<TABLE>
<CAPTION>

                                                                                1996               1995              1994
                                                                           ------------------------------------------------
           <S>                                                                   <C>                <C>               <C>

           Weighted average discount rate                                        7.5%               7.5%              7.5%
           Rate of increase in future compensation levels                        5.0%               5.0%              5.0%
           Health-care cost trend rate                                           7.6%               8.1%              8.5%
</TABLE>



<PAGE> 27

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


NOTE G--LEASES

The Company  leases certain stores and other  facilities  under  non-cancellable
operating  leases.   Aggregate  minimum  future  rentals  under  non-cancellable
operating  leases  for the next five  years are:  1997 --  $23,653,000;  1998 --
$23,010,000;  1999 --  $21,879,000;  2000 --  $17,698,000;  2001 -- $15,896,000;
thereafter -- $41,360,000. Rental expense under operating leases was $30,614,000
for 1996, $27,212,000 for 1995, and $23,912,000 for 1994.

During 1995, the Company  entered into an agreement  providing for the operating
lease of five stores, including a new store which will open in 1997. The Company
will have the option to  purchase  the  stores at the end of the lease  terms in
late 1999. In the event the Company  chooses not to exercise this option,  it is
obligated  to  arrange  the sale of the  stores  to an  unrelated  party  and is
required to pay the lessor any difference between the net sales proceeds and the
lessor's net  investment in stores (at November 30, 1996,  $38.2 million for the
five stores),  subject to certain limitations.  Rental payments under the leases
vary with the level of  interest  rates.  To reduce  the  impact of  changes  in
interest  rates related to this lease,  the Company  during 1995 entered into an
interest  rate  swap  agreement  under  which it pays a  6-9/16%  fixed  rate of
interest  quarterly  through December 1, 1999, in exchange for quarterly receipt
of LIBOR on $36 million.

The  agreement  contains a number of covenants  including a provision  requiring
that the Company maintain  minimum levels of net worth, as defined.  At November
30, 1996,  the Company's net worth,  as defined,  exceeded the minimum  required
level  by  approximately  $38.3  million.  The  minimum  level  of net  worth is
increased  each fiscal  quarter by 75% of net income (not  decreased  by any net
loss) and by 100% of cash proceeds from any issuance of equity.  For the purpose
of computing  consolidated net worth for this covenant,  extraordinary gains and
losses are excluded.


NOTE H -- ASSET IMPAIRMENT CHARGES

The  Company  adopted  Statement  of  Financial  Accounting  Standards  No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed  Of," ("SFAS 121") in the third  quarter of 1996. As a result of the
increasingly  competitive  environment for building  materials  retailing and in
connection with the evaluation of certain  underperforming  stores,  the Company
conducted its review and determined  certain assets were impaired.  These assets
included  certain real estate,  including  future store lease  obligations,  and
associated  goodwill  which  is  attributable  to those  assets  and  which  was
established  in 1988  as  part  of the  Company's  leveraged  buyout.  An  asset
impairment  charge of $59.7 million ($44.6 million after tax) was recorded after
considering  current and expected future operating cash flows for certain stores
together  with the proceeds the Company could expect to receive upon the sale of
these assets. As a result of the impairment  charge,  goodwill was reduced $22.4
million,  certain real estate  carrying values were reduced $25.7 million and an
$11.6 million liability for future store lease payments,  net of $6.0 million in
amounts the Company estimates to be recoverable,  was recorded. The Company will
continue  to review  assets  for  impairment,  particularly  given  the  ongoing
competitive environment for building materials retailing.



<PAGE> 28

Payless Cashways, Inc.

NOTES TO FINANCIAL STATEMENTS (cont'd.)


NOTE I--SPECIAL CHARGES

A special  charge of $8.2 million  ($5.0  million  after tax),  primarily a cash
charge,  was recorded in the third quarter of fiscal 1996 in connection with the
closing of nine underperforming  stores. Eight of the nine stores were closed at
November  30,  1996,  and the  remaining  store will close in fiscal  1997.  The
Company also  recorded an inventory  write-down  of $5.8 million  ($3.5  million
after tax),  included in cost of merchandise  sold, in connection with the store
closings.

The fiscal 1996 special charge includes:

<TABLE>
<CAPTION>

                                                        Amount                    Amount
                                                        Charged              Utilized Through           Reserve at
       In millions                                       1996                  Nov. 30, 1996           Nov. 30, 1996
                                                    ------------------------------------------------------------------

       <S>                                             <C>                        <C>                    <C>

       Future store rentals                            $   3.7                    $    --                $     3.7
       Real estate disposal costs                          4.5                         1.0                     3.5
                                                    ------------------------------------------------------------------
                                                       $   8.2                    $    1.0               $     7.2
                                                    ==================================================================
</TABLE>

Historical  financial  data for the closing of the nine stores is as follows for
the fiscal years presented:
<TABLE>
<CAPTION>

       In thousands                                      1996                       1995                     1994
                                                    ---------------------------------------------------------------

       <S>                                          <C>                       <C>                         <C>

       Net sales                                    $   63,088                $    70,284                 $  52,710
       Net operating income (loss)                  $   (7,636)               $    (1,720)                $   1,209
</TABLE>

Costs of $153.7 million  associated with a restructuring plan which included the
closing of six stores on December 30, 1995, the sale of a distribution center on
December 22, 1995, and the reorientation of several stores to concentrate on the
professional  customer  during  the  first two  quarters  of  fiscal  1996,  are
contained in the accompanying statement of operations for fiscal 1995 as special
charges.

Historical financial data for the six closed stores is as follows for the fiscal
years presented:

<TABLE>
<CAPTION>

       In thousands                                                1995               1994
                                                               -------------------------------

       <S>                                                      <C>                  <C>

       Net sales                                                $61,969              $75,722
       Net operating loss                                       $(4,023)             $(3,891)
</TABLE>

The fiscal 1995 special charge includes:

<TABLE>
<CAPTION>

                                                                Amount         Amount
                                                                Charged   Utilized Through   Changes In      Reserve at
       In millions                                               1995       Nov. 30, 1996     Estimate      Nov. 30, 1996
                                                               ----------------------------------------------------------

       <S>                                                     <C>            <C>              <C>             <C>
       Write-off of allocable cost in excess of assets
          acquired (goodwill)                                  $   101.5      $  101.5         $    --         $    --
       Real estate write-down and disposal costs                    31.2          30.7             1.9             2.4
       Inventory liquidation and store closing costs                15.3          13.7            (1.6)             --
       Severance and other employment costs                          3.9           3.6             (.3)             --
       Other                                                         1.8            .9              --              .9
                                                               -----------------------------------------------------------
                                                               $   153.7      $  150.4         $    --         $   3.3
                                                               ===========================================================
</TABLE>



<PAGE> 29

NOTE J--LITIGATION

The Company is a defendant in a lawsuit  brought in connection  with a reduction
in force pursuant to a January 1994  restructuring.  The suit asserted a variety
of  claims  including  federal  and  state  securities  fraud  claims,   alleged
violations of the Racketeer  Influenced and Corrupt  Organizations Act ("RICO"),
federal  and  state  claims of age  discrimination,  alleged  violations  of the
Employment  Retirement Income Security Act of 1974, and various state law claims
including,  but not  limited to,  fraudulent  misrepresentation  allegations.  A
ruling has been  entered on the  Company's  motion to dismiss  the  majority  of
pending claims,  substantially  narrowing plaintiff's legal claims by dismissing
some age  discrimination  counts,  all federal securities counts and RICO counts
except one each, and all state law counts related to an alleged partnership.  No
ruling has been entered on the plaintiff's motion for class certification.

The Company  denies any and all claimed  liability and is  vigorously  defending
this  litigation,  but, given the early state of this  litigation,  is unable to
estimate a potential  range of monetary  exposure,  if any, to the Company or to
predict the likely outcome of this matter.

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

INDEPENDENT AUDITORS' REPORT

The Board of Directors
Payless Cashways, Inc.:

We have audited the accompanying balance sheets of Payless Cashways,  Inc. as of
November  30,  1996,  and  November  25,  1995,  and the related  statements  of
operations,  shareholders' equity and cash flows for each of the fiscal years in
the three-year  period ended November 30, 1996.  These financial  statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.

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

In our opinion,  the financial  statements  referred to above present fairly, in
all material respects,  the financial  position of Payless Cashways,  Inc. as of
November 30, 1996 and November 25, 1995,  and the results of its  operations and
its cash  flows for each of the  fiscal  years in the  three-year  period  ended
November 30, 1996 in conformity with generally accepted accounting principles.

As  discussed  in  Note H to  the  financial  statements,  the  Company  adopted
Statement  of  Financial  Accounting  Standards  No.  121,  "Accounting  for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," in
fiscal 1996.

s/KPMG Peat Marwick LLP

Kansas City, Missouri
January 13, 1997



<PAGE> 30

Payless Cashways, Inc.

FIVE-YEAR FINANCIAL SUMMARY
<TABLE>
<CAPTION>


In thousands, except per share
amounts, percentages and ratios                    1996              1995             1994              1993             1992
---------------------------------------------------------------------------------------------------------------------------------

<S>                                             <C>              <C>               <C>              <C>               <C>

Net sales and other income (a)                  $2,650,905       $2,685,670        $2,733,182       $2,605,978        $2,500,364
Cost of merchandise sold                         1,906,734        1,912,620         1,918,674        1,824,663         1,739,396
Selling, general and administrative                615,466          619,589           594,024          570,016           551,479
Special charges (b)                                  8,184          153,667                --            4,000             6,500
Asset impairment charges (c)                        59,697               --                --               --                --
Depreciation and amortization                       55,016           60,356            58,692           56,213            55,429
Interest expense                                    60,488           61,067            65,571          125,247           153,780
Interest income (d)                                  4,900               --                --               --                --
                                                ---------------------------------------------------------------------------------
Income (loss) before income taxes                  (49,780)        (121,629)           96,221           25,839            (6,220)
Federal and state income taxes (d)                 (30,702)          (4,911)           41,808           16,170             2,780
                                                ---------------------------------------------------------------------------------
Income (loss) before equity in loss of
   joint venture, extraordinary
   item and cumulative effect of
   change in accounting principle                  (19,078)        (116,718)           54,413            9,669            (9,000)
Equity in loss of  joint venture (e)                    --          (11,831)           (2,281)              --                --
Extraordinary item (f)                                  --               --            (7,243)         (45,828)               --
Cumulative effect on prior years
   of change in accounting principle (g)                --               --                --               --            (6,902)
                                                ---------------------------------------------------------------------------------
Net income (loss)                               $  (19,078)      $ (128,549)       $   44,889       $  (36,159)       $  (15,902)
                                                =================================================================================

Income (loss) per common share before
   extraordinary item and cumulative
   effect of change in accounting principle     $     (.63)      $    (3.36)       $     1.17       $      .16        $    (2.10)
Weighted average common and dilutive
   common equivalent shares outstanding             39,946           39,904            40,257           30,514             6,571
Current ratio                                         1.41             1.29              1.45             1.25              1.21
Working capital                                 $  131,004       $   98,400        $  139,128       $   85,142        $   74,911
Total assets                                    $1,293,118       $1,344,436        $1,495,882       $1,458,481        $1,466,068
Long-term debt                                  $  618,667       $  608,627        $  654,131       $  640,127        $  986,155
Common Stock subject to puts and calls          $       --       $       --        $       --       $       --        $    6,283
Shareholders' equity                            $  289,731       $  308,163        $  435,865       $  387,311        $   10,674
Capital expenditures                            $   41,670       $   67,281        $   81,906       $   49,982        $   36,612
Income from operations before
   depreciation and amortization (h)            $  134,552       $  153,461        $  220,484       $  211,299        $  209,489
</TABLE>



<PAGE> 31

(a)  Net sales and other income include gains of $2.3 million in 1996 related to
     settlements  of 1995 fire losses and gains of $5.9  million in 1994 related
     to settlements of 1993 flood losses.

(b)  Special charges for 1996 consisted of costs  associated with the closing of
     nine  stores.  Special  charges for 1995  consisted  of  restructure  costs
     associated  with the  closing  of six  stores,  the sale of a  distribution
     center  and the  reorientation  of  several  stores to  concentrate  on the
     professional  customer.   Special  charges  for  1993  consisted  of  costs
     associated  with  the  elimination  of a layer  from  the  Company's  field
     management  organization.  Special  charges for 1992  consisted of fees and
     expenses   incurred   in   connection   with   the   Company's    withdrawn
     recapitalization plan.

(c)  Asset  impairment  charges  consist of a reduction  of goodwill and certain
     real estate  carrying  values and the  recording of a liability  for future
     store  lease  payments,  net of amounts  estimated  to be  recoverable,  in
     connection with the adoption of SFAS 121.

(d)  During  1996,  the Company  recorded a federal  income tax benefit of $23.7
     million and related interest income of $4.9 million pursuant to legislation
     and a settlement with the Internal Revenue Service.

(e)  During 1995,  the Company  recorded an $8.0 million loss on the sale of its
     Mexican joint venture investment.

(f)  Represents losses on early extinguishment of debt.

(g) Effective December 1, 1991, the Company changed its method of accounting for
    post-retirement benefits other than pensions.

(h)  Income from operations before  depreciation and amortization is utilized by
     the  Company  as a  measure  for  managing  cash  flow  in  its  day-to-day
     operations. The amounts are before the special charges and asset impairment
     charges.  A 1996  inventory  write-down  of $5.8  million,  related  to the
     closing of nine underperforming stores, is also excluded.



<PAGE> 32

Payless Cashways, Inc.

FIVE-YEAR OPERATIONAL SUMMARY

<TABLE>
<CAPTION>
Average sales per facility, number
of customers, gross square feet and
retail square feet are in thousands             1996 (a)          1995 (b)           1994              1993             1992
--------------------------------------------------------------------------------------------------------------------------------

<S>                                             <C>              <C>               <C>              <C>               <C>

Number of retail facilities                            192              206               202              196               195
Average same-store sales per facility           $   13,107       $   13,114        $   13,716       $   13,284        $   12,800
Number of customers                                 56,736           59,685            60,812           60,678            62,641
Average sales per customer                      $    45.81       $    44.91        $    44.77       $    42.87        $    39.84
Number of employees                                 16,664           18,122            18,406           18,093            17,784
Average sales per employee                      $  152,228       $  147,894        $  147,778       $  143,757        $  140,346
Gross square feet (total)                           17,578           19,453            18,730           18,095            18,013
Retail square feet (inside)                          6,209            6,740             6,468            6,200             6,029
Sales per retail square foot                    $   408.56       $   397.65        $   420.53       $   419.52        $   413.98
Percent increase (decrease) in same-
  store sales                                       (2.5)%           (4.5)%              3.3%             4.1%              6.4%

<FN>

 (a)  Fiscal year 1996 was a 53-week year.  All 1996 data  has b een computed on 
      a 52-week basis.
 (b)  Includes six retail stores closed in December 1995.
</TABLE>

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

Payless Cashways, Inc.

RESPONSIBILITY FOR FINANCIAL STATEMENTS


The  financial  statements  of Payless  Cashways,  Inc.  have been  prepared  by
management in accordance  with  generally  accepted  accounting  principles  and
necessarily  include amounts based on management's  judgment and best estimates.
The presentation,  integrity and consistency of the financial statements are the
responsibility of management.

The financial statements have been audited by KPMG Peat Marwick LLP, independent
auditors. Their responsibility is to audit the Company's financial statements in
accordance  with  generally  accepted  auditing  standards  and to express their
opinion on these  statements  with  respect to fairness of  presentation  of the
Company's financial position, results of operations and cash flows.

To fulfill its  responsibilities,  management has developed a system of internal
controls designed to provide  reasonable  assurance that assets are safeguarded,
transactions  are executed in accordance with  management's  authorizations  and
financial  records provide a reliable basis for preparing  financial  statements
and other data.  Management  believes  the controls in place are  sufficient  to
provide this reasonable  assurance.  The controls include careful  selection and
training of  qualified  personnel,  appropriate  division  of  responsibilities,
communication  of written  policies and procedures  throughout the Company and a
program of internal audits.

The Board of Directors,  through its Audit  Committee  composed of Directors who
are neither  officers  nor  employees  of the Company,  is  responsible  for the
maintenance of a strong control environment and quality financial reporting. The
Board, on the  recommendation  of the Audit  Committee,  selects and engages the
independent  auditors.  The Audit Committee meets  periodically with management,
the  independent  auditors and internal  auditors to discuss the results of both
independent and internal audits, the adequacy of internal controls and financial
reporting  matters.  The  independent  auditors and the internal  auditors  have
direct access to the Audit  Committee  without the presence of management,  when
deemed appropriate.


s/David Stanley                          s/Stephen A. Lightstone
-----------------------------------      ---------------------------------------
David Stanley                            Stephen A. Lightstone
Chairman of the Board                    Senior Vice President-Finance/Treasurer
and Chief Executive Officer              and Chief Financial Officer


<PAGE> 33

BOARD OF DIRECTORS AND OFFICERS












                    [List not included in EDGARized exhibit.]



<PAGE> 34

1996 STORE LOCATIONS












                    [Map not included in EDGARized exhibit.]



<PAGE> 35

1996 STORE LOCATIONS (cont'd.)












                    [Map not included in EDGARized exhibit.]



<PAGE> 36

SHAREHOLDER INFORMATION


Payless  Cashways Common Stock is traded on the New York Stock Exchange  (ticker
symbol PCS). The number of registered  holders of the Company's  Common Stock at
November 30, 1996,  was 1,343,  one of which was a holder of Non-Voting  Class A
Common  Stock.  No cash  dividends  have been declared on the Common Stock since
1988. The Company's  Preferred Stock and certain of its debt instruments contain
restrictions  on the  declaration  and payment of dividends on, or the making of
any  distribution to the holders of, or the acquisition of, any shares of Common
Stock or Cumulative Preferred Stock.


                                           1996              1995
   --------------------------------------------------------------------
   Price range of Common Stock        High     Low       High     Low
   --------------------------------------------------------------------

        First quarter                4-3/4    3-5/8       10      8-1/4

        Second quarter               5-1/8    3-3/4      9-3/4    6-1/2

        Third quarter                  5      1-3/8      7-3/4    5-5/8

        Fourth quarter               2-1/4    1-1/2      6-3/4    3-5/8



<PAGE> 37

                              {Inside back cover}

Copies of the Payless  Cashways,  Inc. Form 10-K for fiscal 1996, filed with the
Securities and Exchange  Commission,  are available  without charge. To obtain a
copy, please write to:

                             Payless Cashways, Inc.
                               Investor Relations
                                 P.O. Box 419466
                           Kansas City, MO 64141-0466
                        (Web site: payless.cashways.com)


Annual Meeting - April 17, 1997, 10:00 a.m.            Independent Auditors
Two Pershing Square, 2300 Main Street                  KPMG Peat Marwick LLP
Kansas City, MO  64108                                 Kansas City, MO

Registrar and Transfer Agent                           Telephone Number of
UMB Bank, n.a.                                         Payless Cashways, Inc. is
Kansas City, MO                                        (816) 234-6000
(816) 860-7786