**UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549**

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**FORM 10-Q**

| **x**      | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|------------|------------|---------------------------------------------------------------------------------------------------------|
| ** ** | ** ** | **For the  quarterly period ended June 30, 2007**                                                  |
| ** ** | ** ** | **Or**                                                                                                  |
| **o**      | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13  OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |

 

**For thetransition period from               to**

**Commissionfile number: 1-14330**

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**POLYMER GROUP, INC.**(Exactname of registrant as specified in its charter)

| **Delaware**                                                                |   | **57-1003983**                        |
|-----------------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of                                            |   | (I.R.S. Employer  Identification No.) |
| incorporation or  organization)                                             |   |                                  |
| **9335  Harris Corners Parkway, Suite 300  Charlotte, North Carolina** |   | **28269**                             |
| (Address of principal  executive offices)                                   |   | (Zip Code)                            |

 

**Registrant’s telephone number,including area code:**(704) 697-5100

**Former name, former address andformer fiscal year, if changed from last report:**None

Indicate by check mark whetherthe registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days.   Yes x   No o

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the ExchangeAct. (Check one):

| Large accelerated  filer o |   | Accelerated filer x |   | Non-accelerated filer o |
|---------------------------------|--------|--------------------------|--------|------------------------------|

 

Indicate by check mark whetherthe registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).   Yes o   No x

Indicate by check mark whetherthe registrant has filed all documents and reports required to be filed by Section 12,13 or 15(d) of the Securities Exchange Act of 1934 subsequent to thedistribution of securities under a plan confirmed by a court.   Yes x   No o

On August 1, 2007 therewere 19,239,274 shares of Class A common stock, 121,759 sharesof Class B common stock and 24,319 shares of Class C commonstock outstanding. No shares of Class D or Class E common stock wereoutstanding as of such date. The par value for each class of common stock is$.01 per share.

 

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**POLYMERGROUP, INC.**

**INDEX TO FORM 10-Q**
|                                                     | ** ** |                                                                                                   | ** ** | **Page** | ** ** |
|-----------------------------------------------------|------------|---------------------------------------------------------------------------------------------------|------------|----------|------------|
| IMPORTANT INFORMATION REGARDING THIS FORM 10-Q |       |                                                                                              | 2          |     |       |
| **PART I.**                                    | ** ** | **FINANCIAL  INFORMATION**                                                                        |       |     |       |   |   |
| Item 1.                                        |       | Financial Statements                                                                              |       |     | 3          |   |   |
| Item 2.                                        |       | Management’s  Discussion and Analysis of Financial Condition and Results of Operations  |       |     | 29         |   |   |
| Item 3.                                        |       | Quantitative  and Qualitative Disclosures About Market Risk                                       |       |     | 46         |   |   |
| Item 4.                                        |       | Controls and  Procedures                                                                          |       |     | 47         |   |   |
| **PART II.**                                   | ** ** | **OTHER  INFORMATION**                                                                            | ** ** |     |       |   |   |
| Item 1.                                        |       | Legal Proceedings                                                                                 |       |     | 48         |   |   |
| Item 1A.                                       |       | Risk Factors                                                                                      |       |     | 48         |   |   |
| Item 2.                                        |       | Unregistered  Sales of Equity Securities and Use of Proceeds                                      |       |     | 48         |   |   |
| Item 3.                                        |       | Defaults Upon  Senior Securities                                                                  |       |     | 48         |   |   |
| Item 4.                                        |       | Submission of  Matters To a Vote of Security Holders                                              |       |     | 49         |   |   |
| Item 5.                                        |       | Other Information                                                                                 |       |     | 49         |   |   |
| Item 6.                                        |       | Exhibits                                                                                          |       |     | 49         |   |   |
| Signatures                                          |       |                                                                                              | 50         |     |       |

 

1

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**IMPORTANT INFORMATIONREGARDING THIS FORM 10-Q**

Readers should consider thefollowing information as they review this Form 10-Q:

**SafeHarbor-Forward-Looking Statements**

From time to time, Polymer Group, Inc. (the “Company”)may publish forward-looking statements relative to matters such as,including, without limitation, anticipated financial performance, businessprospects, technological developments, new product introductions, cost savings,research and development activities and similar matters. The Private SecuritiesLitigation Reform Act of 1995 provides a safe harbor for forward-lookingstatements. Forward-looking statements are generally accompanied by wordssuch as “estimate,” “project,” “predict,” “believe,” “expect,” “anticipate,” “intend”,“target” or other words that convey the uncertainty of future events oroutcomes.

Various statements contained in this report, includingthose that express a belief, expectation or intention, as well as those thatare not statements of historical fact are, or may be deemed to be, forward-lookingstatements within the meaning of Section 27A of the Securities Act of1933, as amended, and Section 21E of the Securities Exchange Act of 1934,as amended. These forward-looking statements speak only as of the date ofthis report. Unless required by law, the Company does not undertake anyobligation to update these statements and cautions against any undue relianceon them. These forward-looking statements are based on currentexpectations and assumptions about future events. Although management considersthese expectations and assumptions to be reasonable, they are inherentlysubject to significant business, economic, competitive, regulatory and otherrisks, contingencies and uncertainties, most of which are difficult to predictand many of which are beyond the Company’s control. See Item 1A. “RiskFactors” in the Company’s Annual Report on Form 10-K, as amended.There can be no assurances that these events will occur or that the Company’sresults will be as estimated.

Important factors thatcould cause actual results to differ materially from those discussed in suchforward-looking statements include:

·       generaleconomic factors including, but not limited to, changes in interest rates,foreign currency translation rates, consumer confidence, trends in disposableincome, changes in consumer demand for goods produced, and cyclical or otherdownturns;

·       substantialdebt levels and potential inability to maintain sufficient liquidity to financethe Company’s operations and make necessary capital expenditures;

·       inabilityto meet existing debt covenants;

·       informationand technological advances;

·       changesin environmental laws and regulations;

·       achievementof objectives for strategic acquisitions and dispositions;

·       costand availability of raw materials, labor and natural and other resources andthe inability to pass raw material cost increases along to customers;

·       inabilityto achieve successful or timely start-up on new or modified production lines;

·       domesticand foreign competition;

·       relianceon major customers and suppliers; and

·       risksrelated to operations in foreign jurisdictions.

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**ITEM 1.**                 FINANCIALSTATEMENTS

**POLYMER GROUP, INC.**

**CONSOLIDATED BALANCE SHEETS (Unaudited)**

**(InThousands, Except Share Data)**
|                                                                                                                                                                    | ** ** | **June 30,  2007** | ** ** | **December 30,  2006** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| **ASSETS**                                                                                                                                                         | ** ** | ** **              | ** ** |                        | ** ** | ** ** |   |
| Current assets:                                                                                                                                                    |       |                    |       |                        |       |   |   |
| Cash and cash equivalents                                                                                                                                          |       | $                       | 35,981     |                        |       | $ | 32,104 |   |   |
| Accounts receivable, net                                                                                                                                           |       | 139,429                 |       |                        | 129,287    |   |   |
| Inventories                                                                                                                                                        |       | 140,397                 |       |                        | 132,530    |   |   |
| Deferred income taxes                                                                                                                                              |       | 1,952                   |       |                        | 2,787      |   |   |
| Other current assets                                                                                                                                               |       | 24,656                  |       |                        | 19,531     |   |   |
| Total current assets                                                                                                                                               |       | 342,415                 |       |                        | 316,239    |   |   |
| Property, plant and  equipment, net                                                                                                                                |       | 408,766                 |       |                        | 411,054    |   |   |
| Intangibles and loan  acquisition costs, net                                                                                                                       |       | 9,520                   |       |                        | 10,206     |   |   |
| Deferred income taxes                                                                                                                                              |       | 775                     |       |                        | 555        |   |   |
| Other assets                                                                                                                                                       |       | 3,615                   |       |                        | 4,043      |   |   |
| Total assets                                                                                                                                                       |       | $                       | 765,091    |                        |       | $ | 742,097 |   |   |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                                                      | ** ** | ** **              | ** ** |                        | ** ** | ** ** |   |
| Current liabilities:                                                                                                                                               |       |                    |       |                        |       |   |   |
| Short-term borrowings                                                                                                                                              |       | $                       | 3,159      |                        |       | $ | 4,570 |   |   |
| Accounts payable                                                                                                                                                   |       | 89,414                  |       |                        | 102,675    |   |   |
| Accrued liabilities                                                                                                                                                |       | 47,584                  |       |                        | 41,638     |   |   |
| Income taxes payable                                                                                                                                               |       | 1,949                   |       |                        | 3,445      |   |   |
| Deferred income taxes                                                                                                                                              |       | 294                     |       |                        | 294        |   |   |
| Current portion of long-term debt                                                                                                                                  |       | 19,655                  |       |                        | 4,170      |   |   |
| Total current liabilities                                                                                                                                          |       | 162,055                 |       |                        | 156,792    |   |   |
| Long-term debt                                                                                                                                                     |       | 401,283                 |       |                        | 402,416    |   |   |
| Deferred income taxes                                                                                                                                              |       | 22,588                  |       |                        | 34,616     |   |   |
| Other noncurrent  liabilities                                                                                                                                      |       | 31,930                  |       |                        | 22,523     |   |   |
| Total liabilities                                                                                                                                                  |       | 617,856                 |       |                        | 616,347    |   |   |
| Minority interests                                                                                                                                                 |       | 18,116                  |       |                        | 16,654     |   |   |
| Shareholders’ equity:                                                                                                                                         |       |                    |       |                        |       |   |   |
| Preferred stock—0 shares issued and outstanding                                                                                                               |       | —                  |       |                        | —     |   |   |
| Class A common stock—19,232,920 and 19,133,728 shares issued and  outstanding at June 30, 2007 and December 30, 2006, respectively             |       | 193                     |       |                        | 191        |   |   |
| Class B convertible common stock—126,453 and 135,721 shares  issued and outstanding at June 30, 2007 and December 30, 2006,  respectively |       | 1                       |       |                        | 2          |   |   |
| Class C convertible common stock—24,319 and 24,319 shares issued  and outstanding at June 30, 2007 and December 30, 2006,  respectively   |       | —                  |       |                        | —     |   |   |
| Class D convertible common stock—0 shares issued and outstanding                                                                                         |       | —                  |       |                        | —     |   |   |
| Class E convertible common stock—0 shares issued and outstanding                                                                                         |       | —                  |       |                        | —     |   |   |
| Additional paid-in capital                                                                                                                                         |       | 187,760                 |       |                        | 173,368    |   |   |
| Retained earnings (deficit)                                                                                                                                        |       | (93,763                 | )          |                        | (89,352    | ) |   |
| Accumulated other comprehensive income                                                                                                                             |       | 34,928                  |       |                        | 24,887     |   |   |
| Total shareholders’ equity                                                                                                                                    |       | 129,119                 |       |                        | 109,096    |   |   |
| Total liabilities and  shareholders’ equity                                                                                                                   |       | $765,091                |       |                        | $          | 742,097 |   |   |

 

See Accompanying Notes

3

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**POLYMERGROUP, INC.**

**CONSOLIDATED STATEMENTSOF OPERATIONS (Unaudited)**

**(InThousands, Except Per Share Data)**
|                                                                           | ** ** | **Three Months  Ended  June 30, 2007** | ** ** | **Three Months  Ended  July 1, 2006** | ** ** |
|---------------------------------------------------------------------------|------------|-------------------------------------------------------|------------|------------------------------------------------------|------------|
| Net sales                                                                 |       |                                                  | $          | 271,015                                              |       |   |   | $ | 248,706 |   |   |
| Cost of goods sold                                                        |       |                                                  | 226,727    |                                                 |       |   | 212,253 |   |   |
| Gross profit                                                              |       |                                                  | 44,288     |                                                 |       |   | 36,453 |   |   |
| Selling, general and  administrative expenses                             |       |                                                  | 28,268     |                                                 |       |   | 25,555 |   |   |
| Special charges, net                                                      |       |                                                  | 3,520      |                                                 |       |   | 14,266 |   |   |
| Foreign currency  (gain) loss, net                                        |       |                                                  | (398       | )                                                    |       |   | 2,405 |   |   |
| Operating income  (loss)                                                  |       |                                                  | 12,898     |                                                 |       |   | (5,773 | ) |   |
| Other expense:                                                            |       |                                                  |       |                                                 |       |   |   |   |   |
| Interest expense, net                                                     |       |                                                  | 8,087      |                                                 |       |   | 7,079 |   |   |
| Foreign currency and other loss, net                                      |       |                                                  | 403        |                                                 |       |   | 564 |   |   |
| Income (loss) before  income tax expense (benefit) and minority interests |       |                                                  | 4,408      |                                                 |       |   | (13,416 | ) |   |
| Income tax expense  (benefit)                                             |       |                                                  | 2,521      |                                                 |       |   | (1,495 | ) |   |
| Minority interests,  net of tax                                           |       |                                                  | 644        |                                                 |       |   | 631 |   |   |
| Net income (loss)                                                         |       |                                                  | $          | 1,243                                                |       |   |   | $ | (12,552 | ) |   |
| Income (loss) per common share:                                           |       |                                                  |       |                                                 |       |   |   |   |   |
| Basic                                                                     |       |                                                  | $          | 0.06                                                 |       |   |   | $ | (0.65 | ) |   |
| Diluted                                                                   |       |                                                  | $          | 0.06                                                 |       |   |   | $ | (0.65 | ) |   |

 

See Accompanying Notes.

4

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**POLYMERGROUP, INC.**

**CONSOLIDATED STATEMENTSOF OPERATIONS (Unaudited)**

**(InThousands, Except Per Share Data)**
|                                                                 | ** ** | **Six Months  Ended  June 30, 2007** | ** ** | **Six Months  Ended  July 1, 2006** | ** ** |
|-----------------------------------------------------------------|------------|-----------------------------------------------------|------------|----------------------------------------------------|------------|
| Net sales                                                       |       |                                                | $          | 538,052                                            |       |   |   | $ | 509,147 |   |   |
| Cost of goods sold                                              |       |                                                | 447,726    |                                               |       |   | 429,490 |   |   |
| Gross profit                                                    |       |                                                | 90,326     |                                               |       |   | 79,657 |   |   |
| Selling, general and  administrative expenses                   |       |                                                | 56,710     |                                               |       |   | 57,954 |   |   |
| Special charges, net                                            |       |                                                | 9,897      |                                               |       |   | 15,899 |   |   |
| Foreign currency  (gain) loss, net                              |       |                                                | (900       | )                                                  |       |   | 2,972 |   |   |
| Operating income                                                |       |                                                | 24,619     |                                               |       |   | 2,832 |   |   |
| Other expense (income):                                         |       |                                                |       |                                               |       |   |   |   |   |
| Interest expense, net                                           |       |                                                | 16,221     |                                               |       |   | 13,596 |   |   |
| Foreign currency and other (gain) loss, net                     |       |                                                | (1,399     | )                                                  |       |   | 1,054 |   |   |
| Income (loss) before  income tax expense and minority interests |       |                                                | 9,797      |                                               |       |   | (11,818 | ) |   |
| Income tax expense                                              |       |                                                | 7,110      |                                               |       |   | 1,115 |   |   |
| Minority interests,  net of tax                                 |       |                                                | 1,154      |                                               |       |   | 1,223 |   |   |
| Net income (loss)                                               |       |                                                | $          | 1,533                                              |       |   |   | $ | (14,156 | ) |   |
| Income (loss) per common share:                                 |       |                                                |       |                                               |       |   |   |   |   |
| Basic                                                           |       |                                                | $          | 0.08                                               |       |   |   | $ | (0.73 | ) |   |
| Diluted                                                         |       |                                                | $          | 0.08                                               |       |   |   | $ | (0.73 | ) |   |

 

See Accompanying Notes.

5

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**POLYMERGROUP, INC.**

**CONSOLIDATED STATEMENTSOF CASH FLOW (Unaudited)**

**(InThousands)**
|                                                                                           | ** ** | **Six Months  Ended  June 30, 2007** | ** ** | **Six Months  Ended  July 1, 2006** | ** ** |
|-------------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|----------------------------------------------------|------------|
| Operating activities:                                                                     |       |                                                |       |                                               |       |   |   |   |   |
| Net income (loss)                                                                         |       |                                                | $          | 1,533                                              |       |   |   | $ | (14,156 | ) |   |
| Adjustments to  reconcile net income (loss) to net cash provided by operating activities: |       |                                                |       |                                               |       |   |   |   |   |
| Deferred income taxes                                                                     |       |                                                | 2,613      |                                               |       |   | (1,677 | ) |   |
| Depreciation and amortization                                                             |       |                                                | 29,249     |                                               |       |   | 29,661 |   |   |
| Pension settlement loss                                                                   |       |                                                | 3,849      |                                               |       |   | — |   |   |
| Asset impairment charges                                                                  |       |                                                | 335        |                                               |       |   | 7,856 |   |   |
| Noncash compensation                                                                      |       |                                                | 1,608      |                                               |       |   | 4,368 |   |   |
| Changes in operating  assets and liabilities, net of effect of acquisitions:              |       |                                                |       |                                               |       |   |   |   |   |
| Accounts receivable, net                                                                  |       |                                                | (8,411     | )                                                  |       |   | (3,376 | ) |   |
| Inventories                                                                               |       |                                                | (5,285     | )                                                  |       |   | (3,204 | ) |   |
| Other current assets                                                                      |       |                                                | (5,125     | )                                                  |       |   | (2,247 | ) |   |
| Accounts payable and accrued liabilities                                                  |       |                                                | (6,160     | )                                                  |       |   | 10,369 |   |   |
| Other, net                                                                                |       |                                                | (708       | )                                                  |       |   | (973 | ) |   |
| Net cash provided by operating activities                                                 |       |                                                | 13,498     |                                               |       |   | 26,621 |   |   |
| Investing activities:                                                                     |       |                                                |       |                                               |       |   |   |   |   |
| Purchases of property, plant and equipment                                                |       |                                                | (20,310    | )                                                  |       |   | (46,436 | ) |   |
| Proceeds from sale of assets                                                              |       |                                                | 161        |                                               |       |   | 1,357 |   |   |
| Acquisition of intangibles and other                                                      |       |                                                | —     |                                               |       |   | (407 | ) |   |
| Net cash used in investing activities                                                     |       |                                                | (20,149    | )                                                  |       |   | (45,486 | ) |   |
| Financing activities:                                                                     |       |                                                |       |                                               |       |   |   |   |   |
| Proceeds from borrowings                                                                  |       |                                                | 42,203     |                                               |       |   | 44,102 |   |   |
| Repayment of borrowings                                                                   |       |                                                | (29,324    | )                                                  |       |   | (36,722 | ) |   |
| Repayments of advances from equipment supplier                                            |       |                                                | (2,792     | )                                                  |       |   | — |   |   |
| Other, net                                                                                |       |                                                | —     |                                               |       |   | (301 | ) |   |
| Net cash provided by financing activities                                                 |       |                                                | 10,087     |                                               |       |   | 7,079 |   |   |
| Effect of exchange  rate changes on cash                                                  |       |                                                | 441        |                                               |       |   | 346 |   |   |
| Net increase  (decrease) in cash and cash equivalents                                     |       |                                                | 3,877      |                                               |       |   | (11,440 | ) |   |
| Cash and cash  equivalents at beginning of period                                         |       |                                                | 32,104     |                                               |       |   | 30,963 |   |   |
| Cash and cash equivalents at  end of period                                               |       |                                                | $          | 35,981                                             |       |   |   | $ | 19,523 |   |   |

 

See Accompanying Notes.

6

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements**

**Note 1.**   Principlesof Consolidation and Financial Statement Information

*Principles ofConsolidation*

Polymer Group, Inc. (the “Company”) is a publicly-traded,multinational manufacturer, marketer and seller of nonwoven and orientedpolyolefin products. The Company is one of the world’s leading producers ofnonwovens, and is a global, technology-driven developer, producer and marketerof engineered materials. With the broadest range of process technologies in thenonwovens industry, the Company is a global supplier to leading consumer andindustrial product manufacturers. The Company operates 19 manufacturingfacilities in nine countries throughout the world. The Company’s main sourcesof revenue are the sales of primary and intermediate products to the medical,hygiene, wipes, industrial and specialty markets.

The accompanying Consolidated Financial Statementsinclude the accounts of Polymer Group, Inc. and all majority-ownedsubsidiaries after elimination of all significant intercompany accounts andtransactions. The accounts of all foreign subsidiaries have been included onthe basis of fiscal periods ended on the same dates as the accompanyingConsolidated Financial Statements. All amounts are presented in U.S. dollars,unless otherwise noted.

The accompanying unauditedinterim Consolidated Financial Statements and related notes should be read inconjunction with the Consolidated Financial Statements of the Company andrelated notes as contained in the Annual Report on Form 10-K, asamended, for the period ended December 30, 2006. In the judgment ofmanagement, these unaudited interim Consolidated Financial Statements includeall adjustments of a normal recurring nature and accruals necessary for a fairpresentation of such statements. The Consolidated Balance Sheet data includedherein as of December 30, 2006 has been derived from the audited financialstatements included in the Company’s Annual Report on Form 10-K, asamended.

*Reclassification*

Certain amounts previouslypresented in the Consolidated Financial Statements for prior periods have beenreclassified to conform with current period classification.

*Revenue Recognition*

Revenue from product sales isrecognized when title and risks of ownership pass to the customer. This isgenerally on the date of shipment to the customer, or upon delivery to a placenamed by the customer, dependent upon contract terms and when collectibility isreasonably assured and pricing is fixed or determinable. Revenue includesamounts billed to customers for shipping and handling. Provision for rebates,promotions, product returns and discounts to customers is recorded as areduction in determining revenue in the same period that the revenue isrecognized.

*Use of Estimates*

The preparation of financialstatements in conformity with accounting principles generally accepted in theUnited States requires management to make estimates and assumptions that affectthe amounts reported in the financial statements and accompanying notes. Theaccounting estimates that require management’s most significant judgmentsinclude the valuation of allowances for accounts receivable and inventory, theassessment of recoverability of long-lived assets, the recognition andmeasurement of current and deferred income tax assets and liabilities and the 

7

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

valuationand recognition of share-based compensation. Actual results could differ fromthose estimates.

*Stock-BasedCompensation*

The Company accounts for stock-basedcompensation related to its employee share-based plans in accordance with themethodology defined in Statement of Financial Accounting Standards No. 123(R),“Share-Based Payment” (“SFAS No. 123(R)”), using the modified prospectivetransition method. The compensation costs recognized subsequent to the adoptionof SFAS No. 123(R) related to all new grants and any unvested portionof prior awards are measured based on the grant-date fair value of the award.Consistent with the provisions of SFAS No. 123(R), awards are consideredgranted when all required approvals are obtained and when the participantbegins to benefit from, or be adversely affected by, subsequent changes in theprice of the underlying shares and, regarding awards containing performanceconditions, when the Company and the participant reach a mutual understandingof the key terms of the performance conditions. Additionally, accruals forcompensation costs for share-based awards with performance conditions are basedon the probable outcome of such performance conditions.

The Company has estimated the fair value of each stockoption grant by using the Black-Scholes option-pricing model.Assumptions are evaluated and revised, as necessary, to reflect marketconditions and experience.

Prior to fiscal 2006, the Company accounted for stockoptions granted under the Polymer Group, Inc. 2003 Stock Option Plan (“2003Option Plan”) in accordance with the intrinsic value method as prescribed byAccounting Principles Board Opinion No. 25 “Accounting for Stock Issued toEmployees” (“APB No. 25”). Certain options issued under the 2003 OptionPlan contain performance conditions which provide that the number of sharesthat an employee is entitled to receive is dependent upon the Company’sachievement of certain performance criteria. Accordingly, the Company accountedfor these grants as awards under a variable plan and, consistent with theprovisions of APB No. 25, recognized compensation expense each period fromthe date of grant to the date of measurement based on the quoted market priceof the Company’s Class A Common Stock at the end of each reporting period,less the amount that the employee was required to pay.

Under SFAS No. 123(R) andthe option pricing model, the estimate of fair value is based on the shareprice and other pertinent factors, such as expected volatility, at the grantdate (as defined pursuant to SFAS No. 123(R)). The resulting estimation ofthe fair value, using the Black-Scholes option pricing model, of the stockoptions granted under the 2003 Option Plan and the corresponding proformacompensation expense for periods prior to the adoption of SFAS No. 123(R) isless than the compensation cost recognized under the variable plan accountingpursuant to APB No. 25, as previously described. Such difference isprimarily attributable to the share price of the underlying common stock, lessthe option exercise price (APB No. 25 measurement), increasing subsequentto the date of grant in an amount in excess of the fair value of the stockoption at the date of grant (SFAS No. 123(R) measurement) estimatedusing the Black-Scholes option pricing model.

*Income Taxes*

On December 31, 2006, the first day of fiscal2007, the Company adopted the provisions of Financial Accounting StandardsBoard (“FASB”) Interpretation No. 48, “Accounting for Uncertainty inIncome Taxes, an Interpretation of FASB Statement No. 109” (“FIN 48”)and FASB Staff Position 

8

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

No. FIN 48-1, “Definitionof Settlement in FASB Interpretation No. 48.” FIN 48 clarifies theaccounting for uncertainty in income taxes recognized in an enterprise’sfinancial statements in accordance with FASB Statement No. 109, “Accountingfor Income Taxes,” by prescribing a recognition threshold and measurementattribute for the financial statement recognition and measurement of a taxposition taken or expected to be taken in a tax return. Under FIN 48, thefinancial statement effects of a tax position should initially be recognizedwhen it is more likely than not, based on the technical merits, that theposition will be sustained upon examination. A tax position that meets themore-likely-than-not recognition threshold should initially and subsequently bemeasured as the largest amount of tax benefit that has a greater than 50%likelihood of being realized upon ultimate settlement with a taxing authority.

As a result of the implementation of FIN 48, theCompany increased the liability for unrecognized tax benefits by$5.9 million and reduced retained earnings by $5.9 million for thecumulative effect of applying the standard. Additionally, with respect topre-emergence tax positions, consistent with the provisions of AICPA Statementof Position 90-7 “Financial Reporting of Entities in Reorganizationunder the Bankruptcy Code” (“SOP 90-7”) the Company increased theliability for unrecognized tax benefits, included in *Othernoncurrent liabilities* in the Consolidated Balance Sheet, by$2.4 million, decreased deferred tax liabilities by $15.4 million,increased deferred tax assets by $0.1 million and increased additionalpaid-in capital by $13.1 million. With respect to the net $8.3 millionliability recorded for unrecognized tax benefits upon the adoption ofFIN 48, $5.0 million represents penalties and interest.

Of the total unrecognized tax benefits, $5.9 millionrepresents the amount of unrecognized tax benefits that, if recognized, wouldaffect the effective income tax rate in future periods. Additionally, theCompany increased its unrecognized tax benefits during fiscal 2007 by $1.6 million,which included $0.6 million of interest. There have not been any decreasesor reductions in the unrecognized tax benefits, since the adoption of FIN 48,relating to settlements with taxing authorities or as a result of a lapse ofthe applicable statute of limitations.

The major jurisdictions where the Company files incometax returns include the United States, Canada, China, The Netherlands, France,Germany, Sweden, Mexico, Colombia, and Argentina. The U.S. federal tax returnshave been examined through fiscal 2004 and the foreign jurisdictions generallyremain open and subject to examination by the relevant tax authorities for thetax years 2001 through 2006.

The Company continues torecognize interest and/or penalties related to income taxes as a component ofincome tax expense.

*Accumulated OtherComprehensive Income*

Accumulated othercomprehensive income of $34.9 million at June 30, 2007 consisted of$38.3 million of currency translation gains (net of income taxes of $6.3million), $4.2 million of transition net assets, gains or losses and priorservice costs not recognized as components of net periodic benefit costs (netof income taxes of $1.3 million) and $0.8 million of cash flow hedgegains. Accumulated other comprehensive income of $24.9 million at December 30,2006 consisted of $31.4 million of currency translation gains (net ofincome taxes of $6.9 million), $8.0 million of transition net assets,gains or losses and prior service costs not recognized as components of netperiodic benefit costs (net of income taxes of $2.1 million) and$1.5 million of cash flow hedge gains. Comprehensive income for the sixmonths ended June 30, 2007 amounted to $11.5 million and is net 

9

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

ofreclassification adjustments pertaining to the cash flow hedge adjustment andto the amortization of actuarial losses under the Company’s defined benefitplans of $1.6 million and $3.8 million, respectively.

*Recent AccountingStandards*

In September 2006, the FASB issued SFAS No. 157,“Fair Value Measurements” (“SFAS No. 157”). This standard establishes aframework for measuring fair value and also provides guidance for an expandedset of disclosure requirements related to fair value. The Company expects toadopt SFAS No. 157 effective in the first quarter of fiscal 2008 and iscontinuing to evaluate the impact of SFAS No. 157 on the ConsolidatedFinancial Statements.

In February 2007, the FASBissued SFAS No. 159, “The Fair Value Option for Financial Assets andFinancial Liabilities, including an amendment of FASB Statement No. 115” (“SFASNo. 159”). SFAS No. 159 permits companies to choose to measure certainfinancial instruments and other items at fair value, with unrealized gains andlosses on items for which the fair value option has been elected reported inearnings at each subsequent reporting date. The Company is continuing to reviewthe provisions of SFAS No. 159, which is effective in the first quarter offiscal 2008, and currently does not expect this new accounting standard to havea significant impact on the Consolidated Financial Statements.

**Note 2.**   Concentrationof Credit Risks and Accounts Receivable Factoring Agreements

Accounts receivable potentially expose the Company toconcentration of credit risk, as defined by SFAS No. 105, “Disclosure ofInformation about Financial Instruments with Off-Balance Sheet Risk andFinancial Instruments with Concentration of Credit Risk.” The Company providescredit in the normal course of business and performs ongoing credit evaluationson its customers’ financial condition as deemed necessary, but generally does notrequire collateral to support such receivables. Customer balances areconsidered past due based on contractual terms and the Company does not accrueinterest on the past due balances. The provision for losses on uncollectibleaccounts is determined principally on the basis of past collection experienceapplied to ongoing evaluations of receivables and the risk of repayment. Theallowance for doubtful accounts was approximately $5.9 million and$7.6 million at June 30, 2007 and December 30, 2006, respectively,which management believes is adequate to provide for credit loss in the normalcourse of business, as well as losses for customers who have filed forprotection under bankruptcy laws. Once management determines that thereceivables are not recoverable, the amounts are removed from the financialrecords along with the corresponding reserve balance. With respect to the $1.7million decrease in the allowance for doubtful accounts, $1.3 million of suchdecrease related to the write-off of specifically identified uncollectibleaccounts receivable and the corresponding reserves. Sales to the Procter &Gamble Company (“P&G”) accounted for approximately 11% and 12% of theCompany’s sales in the first six months of fiscal 2007 and 2006, respectively.

The Company has entered into a factoring agreement tosell, without recourse or discount, certain U.S. company-based receivables toan unrelated third-party financial institution. Under the current terms of thefactoring agreement, the maximum amount of outstanding advances at any one timeis $20.0 million, which limitation was subject to change based on thelevel of eligible receivables, restrictions on concentrations of receivablesand the historical performance of the receivables sold. Additionally, theCompany has entered into a factoring agreement to sell, without recourse or 

10

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

discount, certain non-U.S.company-based receivables to an unrelated third-party financialinstitution. Under the terms of the factoring agreement, the maximum amount ofoutstanding advances at any one time is $10.0 million, which limitation issubject to change based on the level of eligible receivables, restrictions onconcentrations of receivables and the historical performance of the receivablessold.

During the first six months offiscal 2007, approximately $97.5 million of receivables have been soldunder the terms of the factoring agreements, compared to approximately $91.3 millionduring the first six months of fiscal 2006. The sale of these receivablesaccelerated the collection of the Company’s cash, reduced credit exposure andlowered the Company’s net borrowing costs. Sales of accounts receivable arereflected as a reduction of *Accountsreceivable, net* in the Consolidated Balance Sheets and meet theapplicable criteria of SFAS No. 140, ”Accounting for Transfers andServicing of Financial Assets and Extinguishment of Liabilities” (“SFAS No. 140”).The amount due from the factoring companies, net of advances received from thefactoring companies, was $7.0 million and $6.6 million at June 30,2007 and December 30, 2006, respectively, and is shown in *Other current assets* in the ConsolidatedBalance Sheets. The Company pays factoring fees associated with the sale ofreceivables based on the dollar value of the receivables sold. Such fees, whichare considered to be primarily related to the Company’s financing activities,are immaterial and are included in *Foreign currency and other(gain) loss, net* in the Consolidated Statements of Operations.

**Note 3.**   Special Charges, Net

TheCompany’s operating income includes special charges, net resulting fromcorporate-level decisions or Board actions, such as to consolidate and relocateits corporate offices, restructure certain operations or pursue certaintransaction opportunities. Additionally, the Company evaluates its long-livedassets for impairment whenever events or changes in circumstances, includingthose aforementioned, indicate that the carrying amounts may not berecoverable. A summary of such charges, net is presented in the following table(in thousands):

| ** **                                 | ** ** | **Three Months** | ** ** | **Three Months** | ** ** | **Six Months** | ** ** | **Six Months** | ** ** |
|--------------------------------------------|------------|-----------------------|------------|-----------------------|------------|---------------------|------------|---------------------|------------|
| ** **                                 | ** ** | **Ended**             | ** ** | **Ended**             | ** ** | **Ended**           | ** ** | **Ended**           | ** ** |
| ** **                                 | ** ** | **June 30,**     | ** ** | **July 1,**      | ** ** | **June 30,**   | ** ** | **July 1,**    | ** ** |
| ** **                                 | ** ** | **2007**              | ** ** | **2006**              | ** ** | **2007**            | ** ** | **2006**            | ** ** |
| Asset impairment  charges                  |       |                  | $          | 335                   |       |                |       | $                   | 7,856      |   |   |   | $ | 335 |   |   |   | $ | 7,856 |   |   |
| Restructuring and  plant realignment costs |       |                  | 3,068      |                  |       |                | 2,740      |                |       |   | 9,275 |   |   |   | 4,373 |   |   |
| Abandoned acquisition  costs               |       |                  | —     |                  |       |                | 3,670      |                |       |   | — |   |   |   | 3,670 |   |   |
| Other costs                                |       |                  | 117        |                  |       |                | —     |                |       |   | 287 |   |   |   | — |   |   |
|                                       |       |                  | $          | 3,520                 |       |                |       | $                   | 14,266     |   |   |   | $ | 9,897 |   |   |   | $ | 15,899 |   |   |

 

*Asset impairmentcharges*

During the second quarter of fiscal 2007, the Companyannounced further plans to reorganize and consolidate certain of its operationsin Europe. Such plans call for the closure of the Company’s Neunkirchen,Germany plant, and the subsequent transfer of the business and certainequipment to the Company’s plant in Cuijk, The Netherlands, with the buildingand the remainder of the equipment being offered for sale. See *Restructuring and plant realignment costs* below. As aresult, the Company evaluated the Neunkirchen assets for impairment, consistentwith the provisions of Statement of Financial Accounting Standards No. 144,“Accounting for the Impairment or Disposal of Long-Lived 

11

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

Assets,” (“SFAS No. 144”)and recorded a non-cash charge of approximately $0.3 million in the secondquarter of fiscal 2007 associated with the write-down of certain of such assets,included in the nonwovens segment, to estimated fair value less costs to sell.

During the second quarter offiscal 2006, the Company experienced a continued weakening of earnings and cashflows in certain of its Canadian operations. As a result, the Company evaluatedsuch assets for impairment, consistent with the provisions of SFAS No. 144and recorded a non-cash charge of approximately $5.6 millionassociated with the write-down of such assets to estimated fair value. The Companyalso recorded a non-cash charge in the amount of approximately $2.3 millionassociated with the write-down of assets located in Sweden to estimated fairvalue less costs to sell, as such assets were expected to be removed fromservice in 2006 as a result of initiating the Company’s European restructuringand consolidation strategies. Of the total asset impairment charge of $7.9 million,$5.6 million was attributable to the Oriented Polymers segment and $2.3 millionto the nonwovens segment.

*Restructuring and plantrealignment costs*

Accruedcosts for restructuring efforts are included in *Accruedliabilities* in the Consolidated Balance Sheets. These costsgenerally arise from restructuring initiatives intended to result in lowerworking capital levels and improved operating performance and profitabilitythrough: (i) reducing headcount at both the plant and corporate levels; (ii) improvingmanufacturing productivity and reducing corporate costs; and (iii) rationalizingcertain assets, businesses and employee benefit programs. The following tablesummarizes the components of the accrued liability with respect to the Company’sbusiness restructuring activities accounted for in accordance with SFASStatement No. 146 “Accounting for Costs Associated with Exit or DisposalActivities” (“SFAS No. 146”) and SFAS Statement No. 88 “EmployerAccounting for Settlements and Curtailments of Defined Benefit Pension Plansand for Termination Benefits” (“SFAS No. 88”) as of and for the six monthperiod ended June 30, 2007 (in thousands):

| Balance accrued at  beginning of year           |   | $      | 2,044  |   |
|-------------------------------------------------|--------|--------|--------|--------|
| 2007 restructuring  and plant realignment costs |   | 9,275  |   |
| Cash payments                                   |   | (2,996 | )      |
| Pension settlement  loss                        |   | (3,849 | )      |
| Adjustments                                     |   | 2      |   |
| Balance accrued at end of  period               |   | $      | 4,476  |   |

 

The restructuring and plantrealignment activities in the first six months of fiscal 2007 primarily relateto: (i) the Company’s closure of two of its plants in the United States,which was communicated to affected employees in January 2007, (ii) asettlement loss associated with a partial curtailment of a defined benefitpension plan at one of the Company’s Canadian operations, and (iii) the closure,announced in June 2007, of the Neunkirchen, Germany facility.

*U.S. restructuring*

In January 2007, the Companycommunicated a plan to affected employees that it planned to close two of itsplants in the United States, with the planned transfer of certain of thebusiness and equipment to other Company facilities in North America and Asia.The plant closures are expected to 

12

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

include thereduction of approximately 170 positions when such consolidation efforts arecompleted. The Company estimates that it will recognize cash restructuringcharges of approximately $7.0 million, which is expected to be incurred infiscal 2007. During the first six months of fiscal 2007, approximately $4.7 millionof employee severance and equipment relocation costs were recognized relatingto these plant closures for which manufacturing activities have ceased as ofJuly 31, 2007. Additionally, the Company has incurred during fiscal 2007 approximately$0.8 million of costs related to the corporate headquarters relocationinitially undertaken in fiscal 2006 and other U.S. initiatives.

*Canadian restructuring*

During the first quarter offiscal 2006, as part of its restructuring and related cost reduction initiatives,the Company negotiated certain changes with the union representing theemployees of one of the Company’s Canadian operations, including a partialcurtailment of a defined benefit pension plan. No net gain or loss was incurredas a result of the partial curtailment. However, based on elections made byplan participants during the second quarter of fiscal 2006, and as approved byCanadian regulatory authorities on January 16, 2007, the Company incurreda settlement loss associated with employees who have exited the plan. The lossincurred as a result of the partial settlement of the defined benefit pensionplan, consisting of the recognition of previously unamortized actuarial lossesin the amount of approximately $3.8 million, was recognized in the firstquarter of fiscal 2007 commensurate with governmental approval of the terms ofthe settlement and upon fulfillment by the Company of its funding requirementsin February 2007.

*European restructuring*

In June 2007, the Companyannounced a plan to close its Neunkirchen, Germany plant. The plant closurewill include the reduction of approximately 72 positions when suchconsolidation efforts are completed in early fiscal 2008. The Company expects toincur approximately $5.5 million in severance costs related to thisrestructuring. However, as the details of the severance packages were neithercommunicated to, nor agreed to by, the affected employees until July 2007,therefore  the Company, consistent withthe provisions of SFAS No. 146, did not record any severance costs in thesecond quarter of fiscal 2007 relating to this planned closure. The Companyexpects to recognize the majority of such severance costs during the third andfourth quarters of fiscal 2007, as such severance benefits are generallycontingent on the continuation of employment through the plant closure date.Additionally, the Company expects to incur approximately $2.5 million ofequipment removal and relocation and related costs, primarily during theremainder of fiscal 2007, associated with the relocation of certain equipment,and the transfer of the business, to the Company’s plant in Cuijk, TheNetherlands. Such costs will be accrued and expensed consistent with theprovisions of SFAS No. 146.

*Restructuring in priorperiods*

The restructuring and plantrealignment costs for the first six months of fiscal 2006 were principallyassociated with (i) the Company’s restructuring and consolidation plan forEurope, which included termination benefits provided to an executive officer ofthe Company, pursuant to Dutch law, in the amount of $2.1 million and costsassociated with the planned closure of the Sweden plant of $0.3 million, (ii) costsrelated to the relocation of the corporate headquarters to Charlotte, NorthCarolina in the amount of $1.8 million, and (iii) downsizing certainCanadian operations resulting in severance costs of $0.2 million.

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

*Abandoned acquisitioncosts*

During the first six months offiscal 2006, the Company incurred $3.7 million of costs, which wereprimarily comprised of third-party professional fees, in connection with apotential acquisition. When the negotiations with the acquisition target reachedan impasse in the second quarter of fiscal 2006, the Company abandoned itsefforts to consummate the acquisition and, accordingly, charged all costs withrespect to the acquisition to the Consolidated Statement of Operations.

*Other costs*

During the first six months offiscal 2007, the Company incurred approximately $0.3 million of additionalthird-party costs associated with the investigation by the Board of Directorsin fiscal 2006 that led to the departure of the Company’s then Chief ExecutiveOfficer and the Vice President, Global Purchasing, and the resulting hiring ofits current Chief Executive Officer.

**Note 4.**   Inventories

Inventoriesare stated at the lower of cost or market primarily using the first-in,first-out method of accounting and consist of the following (in thousands):

| ** **      | ** ** | **June 30,  2007** | ** ** | **December 30,  2006** | ** ** |
|-----------------|------------|-------------------------|------------|-----------------------------|------------|
| Finished goods  |       | $                       | 74,271     |                        |       | $ | 64,897 |   |   |
| Work in process |       | 21,284                  |       |                        | 17,462     |   |   |
| Raw materials   |       | 44,842                  |       |                        | 50,171     |   |   |
|            |       | $                       | 140,397    |                        |       | $ | 132,530 |   |   |

 

Inventories are net ofreserves, primarily for obsolete and slow-moving inventories, of approximately $10.2 millionand $9.6 million at June 30, 2007 and December 30, 2006,respectively. Management believes that the reserves are adequate to provide forlosses in the normal course of business.

**Note 5.**   Intangiblesand Loan Acquisition Costs

Intangiblesand loan acquisition costs consist of the following (in thousands):

| ** **                     | ** ** | **June 30,** | ** ** | **December 30,** | ** ** |
|--------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                     | ** ** | **2007**          | ** ** | **2006**              | ** ** |
| Cost:                          |       |              |       |                  |       |   |   |   |   |
| Proprietary technology         |       |              | $          | 1,573                 |       |   |   | $ | 1,352 |   |   |
| Loan acquisition costs         |       |              | 9,191      |                  |       |   | 9,191 |   |   |
| Other                          |       |              | 1,871      |                  |       |   | 1,817 |   |   |
|                           |       |              | 12,635     |                  |       |   | 12,360 |   |   |
| Less accumulated  amortization |       |              | (3,115     | )                     |       |   | (2,154 | ) |   |
|                           |       |              | $          | 9,520                 |       |   |   | $ | 10,206 |   |   |

 

14

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

Componentsof amortization expense are shown in the table below (in thousands):

| ** **                                                                                          | ** ** | **Three Months** | ** ** | **Three Months** | ** ** | **Six Months** | ** ** | **Six Months** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|-----------------------|------------|-----------------------|------------|---------------------|------------|---------------------|------------|
| ** **                                                                                          | ** ** | **Ended**             | ** ** | **Ended**             | ** ** | **Ended**           | ** ** | **Ended**           | ** ** |
| ** **                                                                                          | ** ** | **June 30,**     | ** ** | **July 1,**      | ** ** | **June 30,**   | ** ** | **July 1,**    | ** ** |
| ** **                                                                                          | ** ** | **2007**              | ** ** | **2006**              | ** ** | **2007**            | ** ** | **2006**            | ** ** |
| Amortization of:                                                                                    |       |                  |       |                  |       |                |       |                |       |   |   |   |   |   |   |   |   |
| Intangibles with  finite lives, included in selling, general and  administrative expenses |       |                  | $          | 144                   |       |                |       | $                   | 1,110      |   |   |   | $ | 269 |   |   |   | $ | 2,202 |   |   |
| Loan acquisition  costs included in interest expense, net                                           |       |                  | 344        |                  |       |                | 345        |                |       |   | 689 |   |   |   | 669 |   |   |
| Total amortization expense                                                                          |       |                  | $          | 488                   |       |                |       | $                   | 1,455      |   |   |   | $ | 958 |   |   |   | $ | 2,871 |   |   |

 

Intangibles are amortized overperiods ranging from 5 to 15 years. Loan acquisition costs are amortizedover the life of the related debt.

**Note 6.**   AccruedLiabilities

Accrued liabilities in theConsolidated Balance Sheets include salaries, wages and other fringe benefitsof $19.3 million and $15.6 million as of June 30, 2007 and December 30,2006, respectively.

**Note 7.**   Debt

Long-termdebt consists of the following (in thousands):

| ** **                                                                                                                                                                                                                                                                                                                     | ** ** | **June 30,** | ** ** | **December 30,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                                                                                                                                                     | ** ** | **2007**          | ** ** | **2006**              | ** ** |
| Credit Facility, as  defined below, interest rates for U.S. dollar borrowings are based on a  specified base plus a specified margin and are subject to certain terms and  conditions:                                                                                                                                         |       |              |       |                  |       |   |   |
| First Lien Term Loan—interest at 7.61% as of both June 30, 2007  and December 30, 2006; due in mandatory quarterly payments of  approximately $1.0 million, subject to additional payments from annual  excess cash flows, as defined by the Credit Facility, with the balance due  November 22, 2012 |       | $                 | 403,850    |                  |       | $ | 405,900 |   |   |
| Argentine Facility:                                                                                                                                                                                                                                                                                                            |       |              |       |                  |       |   |   |
| Argentine Peso Loan—interest at 13.23% as of June 30, 2007;  denominated in Argentine pesos with quarterly principal payments scheduled to  begin in June 2008                                                                                                                                                  |       | 3,839             |       |                  | —     |   |   |
| United States Dollar Loan—interest at 8.26% as of June 30, 2007;  denominated in U.S. dollars with quarterly principal payments scheduled to  begin in June 2008                                                                                                                                                |       | 12,554            |       |                  | —     |   |   |
| Other                                                                                                                                                                                                                                                                                                                          |       | 695               |       |                  | 686        |   |   |
|                                                                                                                                                                                                                                                                                                                           |       | 420,938           |       |                  | 406,586    |   |   |
| Less: Current  maturities                                                                                                                                                                                                                                                                                                      |       | (19,655           | )          |                  | (4,170     | ) |   |
|                                                                                                                                                                                                                                                                                                                           |       | $                 | 401,283    |                  |       | $ | 402,416 |   |   |

 

15

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

*Credit Facility*

The Company’s Credit Facility (the “Credit Facility”),which was entered into on November 22, 2005 and amended as of December 8,2006, consists of a $45.0 million secured revolving credit facility and a$410.0 million first-lien term loan.

All borrowings under the Credit Facility are U.S.dollar denominated and are guaranteed, on a joint and several basis, by eachand all of the direct and indirect domestic subsidiaries of the Company. The CreditFacility and the related guarantees are secured by (i) a lien onsubstantially all of the assets of the Company, its domestic subsidiaries andcertain of its non-domestic subsidiaries, (ii) a pledge of all or aportion of the stock of the domestic subsidiaries of the Company and of certainnon-domestic subsidiaries of the Company, and (iii) a pledge of certainsecured intercompany notes. Commitment fees under the Credit Facility are equalto 0.50% of the daily unused amount of the revolving credit commitment. TheCredit Facility limits restricted payments to $5.0 million, including cashdividends, in the aggregate since the effective date of the Credit Facility.The Credit Facility contains covenants and events of default customary forfinancings of this type, including leverage and interest expense coveragecovenants. The Company was in compliance with all such financial covenants at June 30,2007 and expects to remain in compliance through the remainder of fiscal 2007.

The first-lien term loan requires mandatory paymentsof approximately $1.0 million per quarter and requires the Company toapply a percentage of proceeds from excess cash flows, as defined by the CreditFacility and determined based on year-end results, to reduce its thenoutstanding balances under the Credit Facility. Excess cash flows required tobe applied to the repayment of the Credit Facility are generally calculated as50.0% of the net amount of the Company’s available cash generated fromoperations adjusted for the cash effects of interest, taxes, capitalexpenditures, changes in working capital and certain other items. The amountsof excess cash flows for future periods are based on year-end results; however,the Company currently estimates that the excess cash flow payment with respectto fiscal 2007, which would be payable in March 2008, will beapproximately $15.0 million and has classified this amount, in addition tothe mandatory payments of approximately $1.0 million per quarter, in the *Current portion of long-term debt* in the ConsolidatedBalance Sheet as of June 30, 2007. No excess cash flow payment wasrequired to be made with respect to fiscal 2006.

The interest rate applicable to borrowings under theCredit Facility is based on three-month London Interbank Offered Rate (“LIBOR”)plus a specified margin. The applicable margin for borrowings under both thefirst-lien term loan and the revolving credit facility is 225 basispoints. The Company may, from time to time, elect to use an Alternate Base Rate(“ABR”) for its borrowings under the revolving credit facility based on thebank’s base rate plus a margin of 75 to 125 basis points based on theCompany’s total leverage ratio. There were no borrowings under the revolvingcredit facility as of June 30, 2007 or as of December 30, 2006. As ofJune 30, 2007, capacity under the revolving credit facility had beenreserved for outstanding letters of credit in the amount of $12.2 million,as described below. Average daily borrowings under the revolving creditfacility, which were largely ABR-based borrowings, for the period from December 31,2006 to June 30, 2007 were $4.2 million at an average rate of 9.50%.The revolving credit portion of the Credit Facility matures on November 22,2010.

Inaccordance with the terms of the Credit Facility, the Company maintained itsposition in a cash flow hedge agreement originally entered into in May 2004.This cash flow hedge agreement effectively converted $212.5 million ofnotional principal amount of debt from a variable LIBOR rate to a fixed 

16

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

LIBOR rate of 3.383%. This cash flow hedge agreementterminated on May 8, 2007 and is described more fully in Note 11 tothe Consolidated Financial Statements. Additionally, in February 2007, theCompany entered into another cash flow hedge agreement, which was effective May 8,2007, matures June 29, 2009 and effectively converts $240.0 millionof notional principal amount of debt from a variable LIBOR rate to a fixedLIBOR rate of 5.085%.

TheCompany capitalized approximately $0.3 million and $0.5 million ofinterest costs for the three and six months ended June 30, 2007,respectively. For the three and six month periods ended July 1, 2006, the Companycapitalized interest costs of $1.4 million and $2.5 million,respectively.

Subject to certain terms and conditions, a maximum of$25.0 million of the Credit Facility may be used for revolving letters ofcredit. As of June 30, 2007, the Company had $12.2 million of standbyand documentary letters of credit outstanding under the Credit Facility.Letters of credit are in place to provide added assurance for certain rawmaterial vendors and administrative service providers. None of these letters ofcredit had been drawn on at June 30, 2007.

*Subsidiary Indebtedness*

Infiscal 2006, the Company’s operations in China entered into short-term creditfacilities denominated in Chinese renminbi with financial institutions inChina. These short-term credit facilities are intended to finance workingcapital requirements. Outstanding indebtedness under these facilities was $2.7 millionand $4.6 million at June 30, 2007 and December 30, 2006,respectively, which facilities mature at various dates through June 2008. Borrowingsunder these facilities are shown in *Short-term borrowings*in the Consolidated Balance Sheets.

In January 2007,the Company’s joint venture in Argentina entered into an arrangement withbanking institutions in Argentina to finance the installation of a new spunmeltline at the joint venture facility near Buenos Aires, Argentina. The maximumborrowings available under the arrangement amount to $38.4 million and aresecured by pledges covering (i) the joint venture’s existing equipmentlines; (ii) the outstanding stock of the joint venture; and (iii) thenew machinery and equipment being purchased, as well as a trust assignmentagreement related to a portion of receivables due from certain major customersof the joint venture. As of June 30, 2007, the outstanding indebtednesswas approximately $16.4 million, consisting of a $3.8 millionArgentine peso-denominated loan and a $12.6 million U.S.dollar-denominated loan. Accrued interest on these loans, which is shown in *Accrued liabilities* in the Consolidated Balance Sheets, willbecome part of the loan principal balance at the conclusion of the constructionperiod, at which time the principal payment amounts will be finalized. Theinterest rate applicable to borrowings under these term loans is based on LIBORplus 290 basis points for the U.S. dollar-denominated loan and BuenosAires Interbanking Offered Rate (“BAIBOR”) plus 475 basis points for theArgentine peso-denominated loan. Principal payments are scheduled to begin in June 2008with the loans maturing in March 2018. These dates are subject to changebased on the date of the last loan advance. Additionally, in March 2007,the Company’s operations in Argentina entered into a short-term credit facilitydenominated in U.S. dollars with a financial institution in Argentina. Thisshort-term credit facility is intended to finance working capital requirementsand had an outstanding balance of $0.4 million at June 30, 2007 andmatures on September 4, 2007. This borrowing is shown in *Short-term borrowings* in the Consolidated Balance Sheets.

In March 2006, one of the Company’s wholly-ownedCanadian subsidiaries entered into a term loan totaling approximately $0.6 millionwith an agency of the Canadian government, which agency focuses on generatingcapital investment in the country. The principal of the term loan is due September 1,2008. Provided that the term loan is repaid on September 1, 2008, nointerest is due. However, if the Company elects not to repay the loan on September 1,2008, the Company will begin making monthly payments of principal and interestat 6.25% per year.

17

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

**Note 8.**   IncomeTaxes

During the three and six months ended June 30,2007, the Company recognized income tax expense of $2.5 million and $7.1 million,respectively, on consolidated income before income taxes of $4.4 millionand $9.8 million, respectively. This income tax expense was significantlydifferent than such expense determined at the U.S. federal statutory rateprimarily due to losses in the U.S. and certain foreign jurisdictions for whichno income tax benefits were recognized or where recognition was limited to theextent of existing deferred tax liabilities. Additionally, the income tax expensewas impacted by foreign withholding taxes, for which tax credits are notanticipated, U.S. state income taxes and foreign taxes calculated at statutoryrates less than the U.S. federal statutory rate.

During the three and six months ended July 1,2006, the Company recognized an income tax benefit of $1.5 million and anincome tax expense of $1.1 million, respectively, on consolidated pre-taxlosses of $13.4 million and $11.8 million, respectively. This incometax benefit and expense was significantly different than such taxes determinedat the U.S. federal statutory rate primarily due to losses in the U.S. andcertain foreign jurisdictions for which no income tax benefits were recognized.Additionally, the income tax benefit and expense was impacted by foreignwithholding taxes, for which tax credits are not anticipated, U.S. state incometaxes, and foreign taxes calculated at statutory rates less than the U.S.federal statutory rate.

See Note 1 to the Consolidated Financial Statementsfor a discussion of the adoption of FIN 48.

Management judgment isrequired in determining tax provisions and evaluating tax positions. Althoughmanagement believes its tax positions and related provisions reflected in theConsolidated Financial Statements are fully supportable, it recognizes thatthese tax positions and related provisions may be challenged by various taxauthorities. These tax positions and related provisions are reviewed on anongoing basis and are adjusted as additional facts and information becomeavailable, including progress on tax audits, changes in interpretations of taxlaws, developments in case law and closing of statute of limitations. During2007, the Company concluded the tax examination by the U.S. Internal RevenueService for the tax years 2003 and 2004. As of June 30, 2007, the Companyhas one tax audit in process and has open tax years with various taxingjurisdictions that generally range from 2001 to 2006. Although the results ofthe current tax audit have not been finalized, management believes that theultimate outcome will not have a material adverse effect on the Company’sfinancial position, results of operations or cash flows.

**Note 9.**   Pensionand Postretirement Benefit Plans

The Company and its subsidiaries sponsor multipledefined benefit plans and other postretirement benefits that cover certainemployees. Benefits are primarily based on years of service and the employee’scompensation. It is the Company’s policy to fund such plans in accordance withapplicable laws and regulations.

18

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

Componentsof net periodic benefit costs for the three and six months ended June 30,2007 and July 1, 2006 are as follows (in thousands):

| ** **                                                | ** ** | **Pension Benefits**        | ** ** |
|-----------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
| ** **                                                | ** ** | **June 30,  2007**          | ** ** | **July 1,  2006** | ** ** | **June 30,  2007** | ** ** | **July 1,  2006** | ** ** |
| Current service costs                                     |       | $                                | 596        |   | $ | 929 |   | $ | 1,184 |   | $ | 1,842 |   |
| Interest costs on  projected benefit obligation and other |       | 1,397                            |       | 1,552 |   | 2,773 |   | 3,081 |   |
| Return on plan assets                                     |       | (1,708                           | )          | (1,781 | ) | (3,389 | ) | (3,530 | ) |
| Amortization of  transition obligation and other          |       | (23                              | )          | 111 |   | (48 | ) | 221 |   |
| Settlement loss                                           |       | —                           |       | — |   | 3,849 |   | — |   |
| Periodic benefit cost, net                                |       | $                                | 262        |   | $ | 811 |   | $ | 4,369 |   | $ | 1,614 |   |

 

| ** **                                                | ** ** | **Postretirement Benefits** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
| ** **                                                | ** ** | **June 30,  2007**          | ** ** | **July 1,  2006** | ** ** | **June 30,  2007** | ** ** | **July 1,  2006** | ** ** |
| Current service costs                                     |       |                             | $          | 45 |   |   |   | $ | 59 |   |   |   | $ | 88 |   |   |   | $ | 117 |   |   |
| Interest costs on  projected benefit obligation and other |       |                             | 116        |   |   |   | 133 |   |   |   | 230 |   |   |   | 265 |   |   |
| Amortization of  transition obligation and other          |       |                             | (71        | ) |   |   | (31 | ) |   |   | (139 | ) |   |   | (62 | ) |   |
| Periodic benefit cost, net                                |       |                             | $          | 90 |   |   |   | $ | 161 |   |   |   | $ | 179 |   |   |   | $ | 320 |   |   |

 

As of June 30, 2007, theCompany had contributed $4.9 million to its pension and postretirement benefitplans for the 2007 benefit year. The Company presently anticipates contributingan additional $2.4 million to fund its plans in 2007, for a total of$7.3 million.

During the first quarter offiscal 2006, as part of its restructuring and related cost reduction initiativesthe Company negotiated certain changes with the union representing theemployees of one of the Company’s Canadian operations, including a partialcurtailment of a defined benefit pension plan. No net gain or loss was incurredas a result of the partial curtailment. However, based on elections made byplan participants during the second quarter of fiscal 2006, and as approved byCanadian regulatory authorities on January 16, 2007, the Company incurreda settlement loss associated with employees who have exited the plan. The lossincurred as a result of the partial settlement of the defined benefit pensionplan, consisting of the recognition of previously unamortized actuarial lossesin the amount of approximately $3.8 million, was recognized in the firstquarter of fiscal 2007 commensurate with governmental approval of the terms ofthe settlement and upon fulfillment by the Company of its funding requirementsin February 2007.

**Note 10.**   StockOption and Restricted Stock Plans

*Stock Option Plans*

The 2003 Option Plan, which expires December 3, 2013,was approved by the Company’s Board of Directors and shareholders and isadministered by the Compensation Committee of the Board of 

19

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

Directors. The 2003 OptionPlan approved for issuance up to 400,000 non-qualified stock options to acquireshares of the Company’s Class A Common Stock. The stock options have afive-year life and vest, based on the achievement of various service andfinancial performance criteria, over a four-year period. Vesting of the stockoptions is accelerated on the occurrence of a change in control, as defined.With respect to post-vesting restrictions, the 2003 Option Plan provides thateach option must be exercised, if at all, upon the earlier to occur of (i) thedate that is five years after the award date of the option or (ii) concurrentlyupon the consummation of a change in control, as defined. As of June 30,2007 and December 30, 2006, the Company had awarded grants ofnon-qualified stock options to purchase 381,275 shares and 310,500 sharesof the Company’s Class A Common Stock, respectively. Accordingly, at June 30,2007, there remain 18,725 stock options available to be awarded pursuant to the2003 Option Plan.

The Company accounts for the 2003 Option Plan inaccordance with the methodology defined in SFAS No. 123(R). As of June 30,2007, of the 381,275 options to purchase Class A Common Stock awardedunder the 2003 Option Plan, 53,775 are subject to future vesting based on theattainment of future performance targets, which targets had not been establishedas of June 30, 2007. Accordingly, pursuant to the provisions of SFAS No. 123(R),327,500 options to purchase Class A Common Stock have been consideredgranted under the 2003 Option Plan as of June 30, 2007. The compensationcosts related to the 2003 Option Plan were $0.4 million and $0.8 millionfor the three and six months ended June 30, 2007, respectively, and wereincluded in *Selling, general andadministrative expenses* in the Consolidated Statements ofOperations. For the three and six months ended July 1, 2006, such costswere $0.2 million and $0.5 million, respectively.

Informationregarding the Company’s stock options granted, as defined by SFAS No. 123(R),and outstanding as of June 30, 2007 is as follows:

| ** **                                      | ** ** | **Vested** | ** ** | **Expected  to Vest** | ** ** |
|-------------------------------------------------|------------|------------|------------|----------------------------|------------|
| For options granted  and outstanding:           |       |       |       |                       |       |
| Number of options                               |       | 178,506    |       | 148,994                    |       |
| Weighted average exercise price                 |       | $          | 6.00       |                       | $          | 6.00 |   |
| Aggregate intrinsic value (in $000s)            |       | $          | 4,197      |                       | $          | 3,503 |   |
| For nonvested  options:                         |       |       |       |                       |       |
| Compensation cost not yet recognized (in $000s) |       |       |       | $                          | 2,148      |   |
| Weighted average period  of recognition (years) |       |       |       | 0.9                        |       |

 

No options granted under the2003 Option Plan were exercisable as of June 30, 2007. See Note 17 to theConsolidated Financial Statements.

*Restricted Stock Plans*

*2004 Restricted Stock Plan for Directors*

The Company’s shareholders andBoard of Directors approved the 2004 Polymer Group, Inc. Restricted StockPlan (the “2004 Restricted Plan”), which expires in 2014, for the issuance ofrestricted shares of the Company’s Class A Common Stock to Directors of theCompany, as defined in the 2004 Restricted Plan. The 2004 Restricted Planapproved for issuance up to 200,000 restricted shares and is administered bythe Restricted Stock Committee, which is a committee of the Company’s Board ofDirectors not eligible to receive restricted shares under the 2004 RestrictedPlan.

20

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

In the first six months offiscal years 2007 and 2006, the Company awarded 5,073 and 5,660 restrictedshares, respectively, to members of the Company’s Board of Directors for theirBoard service to the Company. The cost associated with these restricted stockgrants, which vest over periods ranging to eighteen months, totaledapproximately $0.1 million and $0.2 million for the three and sixmonths ended June 30, 2007, respectively, and was included in *Selling, general and administrative expenses*in the Consolidated Statement of Operations. For the three and six months endedJuly 1, 2006, these costs also approximated $0.1 million and $0.2 million,respectively.

Additionally, in April 2007,50,000 restricted shares were issued pursuant to the terms of the ExecutiveEmployment Agreement entered into with the Company’s Chief Executive Officer. Suchshares vest over a four year service period effective April 23, 2007, andsuch vesting will be accelerated upon a change in control and the completion ofa minimum service period, as defined. The compensation costs associated withsuch restricted shares issued under the terms of the Executive EmploymentAgreement totaled $0.1 million for the three and six months ended June 30,2007 and were included in *Selling, generaland administrative expenses* in the Consolidated Statement ofOperations. Compensation cost not yet recognized for such non vested restrictedshares issued under the terms of the Executive Employment Agreement wasapproximately $1.2 million as of June 30, 2007, and the weightedaverage period of recognition for such compensation was 1.9 years as of June 30,2007. As of June 30, 2007, there remain 77,234 shares of the Company’sClass A Common Stock available to be awarded under the 2004 RestrictedPlan.

*2005 Employee Restricted Stock Plan*

The Polymer Group, Inc. 2005Employee Restricted Stock Plan (the “2005 Stock Plan”) was approved by theCompany’s shareholders and Board of Directors and is administered by theCompensation Committee of the Company’s Board of Directors. The 2005 StockPlan, which expires in 2015, approved for issuance up to 482,000 restrictedshares to employees of the Company. The Compensation Committee may, from timeto time, award up to 384,000 shares of restricted stock under the 2005 StockPlan to such employees and in such amounts and with specified restrictions asit determines appropriate in the circumstances. The award of restricted stockby the Compensation Committee in excess of the 384,000 shares will also requirethe approval of the Board of Directors of the Company. Other than for certainshares initially awarded and immediately vested on January 20, 2006,shares awarded under the 2005 Stock Plan primarily vest 25% on each of thegrant’s anniversary dates based on a combination of service and/or theachievement of certain performance targets. Vesting of the restricted shares,other than those shares issued pursuant to the terms of the ExecutiveEmployment Agreement entered into with the Company’s Chief Executive Officer, willbe accelerated on the occurrence of a change in control, as defined. Vesting ofshares awarded under the Executive Employment Agreement will be acceleratedunder a change in control and the completion of a minimum service period, asdefined.

During fiscal 2006, 291,500restricted shares were awarded to certain employees of the Company. Inaddition, 47,688 shares were surrendered during fiscal 2006 by employees tosatisfy withholding requirements and 25,144 shares were forfeited during fiscal2006. As of December 30, 2006, awards for 218,668 shares of the Company’s Class ACommon Stock were outstanding and 263,332 shares were available for future awardunder the 2005 Stock Plan. For the three and six months ended July 1,2006, compensation costs pertaining to the 2005 Stock Plan were $0.3 millionand $3.8 million, respectively.

21

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

During the first six months offiscal 2007, 50,800 restricted shares were awarded to certain employees of theCompany, of which, 50,000 shares were awarded under the terms of the ExecutiveEmployment Agreement entered into with the Company’s Chief Executive Officer.In addition, during the first six months of fiscal 2007, 12,453 shares weresurrendered by employees to satisfy withholding requirements and 3,510 shareswere forfeited.

The compensation costsassociated with the 2005 Stock Plan totaled $0.3 million and$0.6 million for the three and six months ended June 30, 2007,respectively, and were included in *Selling,general and administrative expenses* in the Consolidated Statement ofOperations. As of June 30, 2007, awards for 253,519 shares of the Company’sClass A Common Stock were outstanding and 228,481 shares wereavailable for future award under the 2005 Stock Plan.

The Company accounts for the2005 Stock Plan in accordance with the methodology defined in SFAS No. 123(R).As of June 30, 2007, of the 253,519 shares awarded and outstanding underthe 2005 Stock Plan, 45,105 shares are subject to future vesting based onthe attainment of future performance targets, which targets had not beenestablished as of June 30, 2007. Accordingly, pursuant to the provisionsof SFAS 123(R), 208,414 restricted shares are considered granted under the2005 Stock Plan as of June 30, 2007. Compensation cost not yet recognizedfor non vested restricted shares under the 2005 Stock Plan was approximately$2.3 million as of June 30, 2007, and the weighted average period ofrecognition for such compensation was 1.2 years as of June 30, 2007.See Note 17 to the Consolidated Financial Statements.

**Note 11.**   Derivativeand Other Financial Instruments and Hedging Activities

The Company uses derivativefinancial instruments to manage market risks and reduce its exposure tofluctuations in interest rates and foreign currencies. All hedging transactionsare authorized and executed under clearly defined policies and procedures,which prohibit the use of financial instruments for trading purposes.

The Company uses interest-ratederivative instruments to manage its exposure related to movements in interestrates with respect to its debt instruments. As indicated in Note 7 to theConsolidated Financial Statements, to mitigate its interest rate exposure asrequired by the Credit Facility, the Company has entered into a pay-fixed,receive-variable interest rate swap, effectively converting the variableLIBOR-based interest payments associated with $240.0 million of the debtto fixed amounts at a LIBOR rate of 5.085%. The notional amount of thiscontract, which became effective on May 8, 2007 and expires on June 29,2009, was $240.0 million. Cash settlements are made quarterly and thefloating rate is reset quarterly, coinciding with the reset dates of thecurrent Credit Facility. Previously, the Company had a similar pay-fixed,receive-variable interest rate swap contract, which effectively converted thevariable LIBOR-based interest payments associated with $212.5 million ofthe debt to fixed amounts at a LIBOR rate of 3.383%. The notional amount ofthis contract, which expired on May 8, 2007, was $212.5 million. Cashsettlements were made quarterly and the floating rate was reset quarterly,coinciding with the reset dates of the current Credit Facility.

22

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

In accordance with SFAS No. 133, the Companydesignated these swaps as cash flow hedges of the variability of interestpayments with changes in the fair value of the swap recorded to *Accumulated other comprehensive income* in the ConsolidatedBalance Sheets. The fair value of the interest rate swap that expires onJune 29, 2009, based on current settlement values, was $0.8 millionas of June 30, 2007. The fair value of the interest rate swap that expiredon May 8, 2007 was $1.5 million as of December 30, 2006. Theseamounts are included in *Other noncurrentassets* in the Consolidated Balance Sheets.

The impact of these swaps on *Interest expense, net* in the ConsolidatedStatements of Operations was a decrease of $0.5 million and a decrease of$1.6 million for the three and six months ended June 30, 2007,respectively. For the three and six months ended July 1, 2006, the impactwas a decrease of $0.9 million and $1.5 million, respectively.

**Note 12.****   EarningsPer Share and Shareholders’ Equity**

The following is areconciliation of basic net earnings per common share to diluted net earningsper common share for the quarter ended June 30, 2007 (in thousands, exceptper share data):

| ** **                                                                | ** ** | **Net Income  (EPS Numerator)** | ** ** | **Average Shares  Outstanding  (EPS Denominator)** | ** ** | **Earnings Per  Common Share** | ** ** |
|---------------------------------------------------------------------------|------------|-------------------------------------------|------------|--------------------------------------------------------------|------------|------------------------------------------|------------|
| Basic                                                                     |       |                                      | $          | 1,243                                                        |       |                                     |       | 19,300.3 |   |   |   | $ | 0.06 |   |   |
| Potential shares  exercisable under share-based plans                     |       |                                      |       |                                                         |       |                                     | 233.1      |   |   |   |   |   |   |
| Less: shares which  could be repurchased under treasury stock method |       |                                      |       |                                                         |       |                                     | (69.4      | ) |   |   |   |   |   |
| Diluted                                                                   |       |                                      | $          | 1,243                                                        |       |                                     |       | 19,464.0 |   |   |   | $ | 0.06 |   |   |

 

Thefollowing is a reconciliation of basic net earnings per common share to dilutednet earnings per common share for the six months ended June 30, 2007 (inthousands, except per share data):

| ** **                                                                | ** ** | **Net Income  (EPS Numerator)** | ** ** | **Average Shares  Outstanding  (EPS Denominator)** | ** ** | **Earnings Per  Common Share** | ** ** |
|---------------------------------------------------------------------------|------------|-------------------------------------------|------------|--------------------------------------------------------------|------------|------------------------------------------|------------|
| Basic                                                                     |       |                                      | $          | 1,533                                                        |       |                                     |       | 19,281.5 |   |   |   | $ | 0.08 |   |   |
| Potential shares  exercisable under share-based plans                     |       |                                      |       |                                                         |       |                                     | 233.1      |   |   |   |   |   |   |
| Less: shares which  could be repurchased under treasury stock method |       |                                      |       |                                                         |       |                                     | (75.2      | ) |   |   |   |   |   |
| Diluted                                                                   |       |                                      | $          | 1,533                                                        |       |                                     |       | 19,439.4 |   |   |   | $ | 0.08 |   |   |

 

Calculations have not beenpresented to reconcile basic earnings per common share to diluted earnings percommon share for the three and six months ended July 1, 2006 as the impactof such calculations are anti-dilutive. Average shares outstanding for thethree and six months ended July 1, 2006 were 19,246,662 and 19,500,000,respectively.

23

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

As of June 30, 2007, theCompany’s authorized capital stock consisted of the following classes of stock:

| **Type**                               | ** ** | ** ** | ** ** | **Par Value** | ** ** | **Authorized Shares** | ** ** |
|----------------------------------------|------------|------------|------------|--------------------|------------|----------------------------|------------|
| Preferred stock                        |       |       | $          | .01                |       |                       |       | 173,000 |   |   |
| Class A common  stock             |       |       | $          | .01                |       |                       |       | 39,200,000 |   |   |
| Class B  convertible common stock |       |       | $          | .01                |       |                       |       | 800,000 |   |   |
| Class C  convertible common stock |       |       | $          | .01                |       |                       |       | 118,453 |   |   |
| Class D  convertible common stock |       |       | $          | .01                |       |                       |       | 498,688 |   |   |
| Class E convertible  common stock |       |       | $          | .01                |       |                       |       | 523,557 |   |   |

 

All classes of the common stock have similar votingrights. In accordance with the Amended and Restated Certificate ofIncorporation, all shares of Class B, C, D and E Common Stock may beconverted into an equal number of shares of Class A Common Stock. Theshares of preferred stock may be issued from time to time with suchdesignation, preferences, participation rights and optional or special rights(including, but not limited to, dividend rates, voting rights, maturity datesand the like) as determined by the Board of Directors.

**Note 13.**   SegmentInformation

The Company’s reportable segments consist of its twooperating divisions—Nonwovens and Oriented Polymers. This reflects how theoverall business is managed on a regular basis by the Company’s seniormanagement and the Board of Directors. Each of these businesses sells todifferent end-use markets, such as hygiene, medical, wipes and industrial andspecialty markets. Sales to P&G accounted for more than 10% of the Company’ssales in each of the periods presented. Sales to this customer are reportedprimarily in the Nonwovens segment and the loss of these sales would have amaterial adverse effect on this segment. The Company recorded charges and/orincome in the Consolidated Statements of Operations during the three and sixmonths ended June 30, 2007 and July 1, 2006 relating to specialcharges, net that have not been allocated to the segment data.

24

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

Financialdata by segment is as follows (in thousands):

| ** **                                                               | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                               | ** ** | **June 30,  2007**          | ** ** | **July 1,  2006**         | ** ** | **June 30,  2007** | ** ** | **July 1,  2006** | ** ** |
| **Net sales**                                                            | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Nonwovens                                                                |       | $                                | 225,565    |                           | $          | 203,619 |   | $ | 449,078 |   | $ | 414,271 |   |
| Oriented Polymers                                                        |       | 45,450                           |       | 45,087                         |       | 88,974 |   | 94,876 |   |
|                                                                     |       | $                                | 271,015    |                           | $          | 248,706 |   | $ | 538,052 |   | $ | 509,147 |   |
| **Operating  income (loss)**                                             | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Nonwovens                                                                |       | $                                | 20,046     |                           | $          | 12,252 |   | $ | 41,489 |   | $ | 29,559 |   |
| Oriented Polymers                                                        |       | 537                              |       | (211                           | )          | 2,312 |   | 3,198 |   |
| Unallocated Corporate                                                    |       | (4,165                           | )          | (3,548                         | )          | (9,285 | ) | (14,026 | ) |
|                                                                     |       | 16,418                           |       | 8,493                          |       | 34,516 |   | 18,731 |   |
| Special charges, net                                                     |       | (3,520                           | )          | (14,266                        | )          | (9,897 | ) | (15,899 | ) |
|                                                                     |       | $                                | 12,898     |                           | $          | (5,773 | ) | $ | 24,619 |   | $ | 2,832 |   |
| **Depreciation  and amortization expense**                               | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Nonwovens                                                                |       | $                                | 11,638     |                           | $          | 11,759 |   | $ | 23,165 |   | $ | 23,461 |   |
| Oriented Polymers                                                        |       | 2,596                            |       | 2,860                          |       | 5,050 |   | 5,605 |   |
| Unallocated Corporate                                                    |       | 122                              |       | (56                            | )          | 345 |   | (74 | ) |
| Depreciation and amortization expense included in operating  income |       | 14,356                           |       | 14,563                         |       | 28,560 |   | 28,992 |   |
| Amortization of loan acquisition costs                                   |       | 344                              |       | 345                            |       | 689 |   | 669 |   |
|                                                                     |       | $                                | 14,700     |                           | $          | 14,908 |   | $ | 29,249 |   | $ | 29,661 |   |
| **Capital  spending**                                                    | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Nonwovens                                                                |       | $                                | 8,772      |                           | $          | 14,345 |   | $ | 19,577 |   | $ | 44,640 |   |
| Oriented Polymers                                                        |       | 267                              |       | 979                            |       | 520 |   | 1,499 |   |
| Corporate                                                                |       | 308                              |       | 267                            |       | 213 |   | 297 |   |
|                                                                     |       | $                                | 9,347      |                           | $          | 15,591 |   | $ | 20,310 |   | $ | 46,436 |   |

 

| ** **           | ** ** | **June 30,   2007** | ** ** | **December 30,  2006** | ** ** |
|----------------------|------------|-------------------------------|------------|-----------------------------|------------|
| **Division  assets** | ** ** | ** **                    | ** ** |                        | ** ** | ** ** |   |
| Nonwovens            |       | $                             | 745,356    |                        |       | $ | 735,315 |   |   |
| Oriented Polymers    |       | 119,214                       |       |                        | 116,839    |   |   |
| Corporate            |       | 6,100                         |       |                        | 390        |   |   |
| Eliminations         |       | (105,579                      | )          |                        | (110,447   | ) |   |
| ** **           |       | $                             | 765,091    |                        |       | $ | 742,097 |   |   |

 

25

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements (Continued)**

**Geographic Data:**

Geographicdata for the Company’s operations, based on the geographic region that salesare made from, are presented in the following table (in thousands):

| ** **                                                               | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                               | ** ** | **June 30,  2007**          | ** ** | **July 1,  2006**         | ** ** | **June 30,  2007** | ** ** | **July 1,  2006** | ** ** |
| **Net sales**                                                            | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| United States                                                            |       | $                                | 123,371    |                           | $          | 113,681 |   | $ | 242,952 |   | $ | 235,269 |   |
| Canada                                                                   |       | 26,429                           |       | 28,132                         |       | 54,721 |   | 59,611 |   |
| Europe                                                                   |       | 49,960                           |       | 46,803                         |       | 102,903 |   | 93,832 |   |
| Asia                                                                     |       | 19,854                           |       | 11,528                         |       | 38,032 |   | 23,083 |   |
| Latin America                                                            |       | 51,401                           |       | 48,562                         |       | 99,444 |   | 97,352 |   |
|                                                                     |       | $                                | 271,015    |                           | $          | 248,706 |   | $ | 538,052 |   | $ | 509,147 |   |
| **Operating  income (loss)**                                             | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| United States                                                            |       | $                                | 3,382      |                           | $          | (43 | ) | $ | 5,310 |   | $ | (3,607 | ) |
| Canada                                                                   |       | (1,408                           | )          | (1,799                         | )          | (230 | ) | (717 | ) |
| Europe                                                                   |       | 3,051                            |       | 3,659                          |       | 7,313 |   | 7,593 |   |
| Asia                                                                     |       | 2,645                            |       | 1,367                          |       | 4,705 |   | 2,763 |   |
| Latin America                                                            |       | 8,748                            |       | 5,309                          |       | 17,418 |   | 12,699 |   |
|                                                                     |       | 16,418                           |       | 8,493                          |       | 34,516 |   | 18,731 |   |
| Special charges, net                                                     |       | (3,520                           | )          | (14,266                        | )          | (9,897 | ) | (15,899 | ) |
|                                                                     |       | $                                | 12,898     |                           | $          | (5,773 | ) | $ | 24,619 |   | $ | 2,832 |   |
| **Depreciation  and amortization expense**                               | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| United States                                                            |       | $                                | 4,656      |                           | $          | 5,941 |   | $ | 9,911 |   | $ | 11,963 |   |
| Canada                                                                   |       | 2,045                            |       | 2,246                          |       | 3,960 |   | 4,439 |   |
| Europe                                                                   |       | 2,315                            |       | 2,494                          |       | 4,557 |   | 4,866 |   |
| Asia                                                                     |       | 1,923                            |       | 1,036                          |       | 3,788 |   | 2,092 |   |
| Latin America                                                            |       | 3,417                            |       | 2,846                          |       | 6,344 |   | 5,632 |   |
| Depreciation and amortization expense included in operating  income |       | 14,356                           |       | 14,563                         |       | 28,560 |   | 28,992 |   |
| Amortization of loan acquisition costs                                   |       | 344                              |       | 345                            |       | 689 |   | 669 |   |
|                                                                     |       | $                                | 14,700     |                           | $          | 14,908 |   | $ | 29,249 |   | $ | 29,661 |   |

 

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements  (Continued)**

|                                                        | ** ** | **June 30,  2007** | ** ** | **December 30,  2006** | ** ** |
|--------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| **Identifiable  assets (including intangible assets)** | ** ** | ** **              | ** ** |                        | ** ** | ** ** |   |
| United States                                          |       | $                       | 299,685    |                        |       | $ | 303,728 |   |   |
| Canada                                                 |       | 80,998                  |       |                        | 76,640     |   |   |
| Europe                                                 |       | 198,736                 |       |                        | 193,666    |   |   |
| Asia                                                   |       | 96,866                  |       |                        | 91,914     |   |   |
| Latin America                                          |       | 194,388                 |       |                        | 186,596    |   |   |
| Eliminations                                           |       | (105,582                | )          |                        | (110,447   | ) |   |
|                                                   |       | $                       | 765,091    |                        |       | $ | 742,097 |   |   |

 

**Note 14.**   ForeignCurrency and Other (Gain) Loss, Net

Componentsof foreign currency (gain) loss are shown in the table below (in thousands):

| ** **                                                              | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                              | ** ** | **June 30,  2007**          | ** ** | **July 1,  2006**         | ** ** | **June 30,  2007** | ** ** | **July 1,  2006** | ** ** |
| Included in operating income                             |       |                             | $          | (398                           | )          |   | $ | 2,405 |   |   | $ | (900 | ) |   | $ | 2,972 |   |
| Included in foreign  currency and other (gain) loss, net |       |                             | 191        |                           |       | 407 |   |   | 151 |   |   | 783 |   |
|                                                                    |       |                             | $          | (207                           | )          |   | $ | 2,812 |   |   | $ | (749 | ) |   | $ | 3,755 |   |

 

For international subsidiaries which have the U.S.dollar as their functional currency, local currency transactions are remeasuredinto U.S. dollars, using current rates of exchange for monetary assets andliabilities. Gains and losses from the remeasurement of such monetary assetsand liabilities are reported in *Foreign currency (gain)loss, net* in the Consolidated Statements of Operations. Likewise,for international subsidiaries which have the local currency as theirfunctional currency, gains and losses from the remeasurement of monetary assetsand liabilities not denominated in the local currency are reported in *Foreign currency (gain) loss, net* in the ConsolidatedStatements of Operations. Additionally, currency gains and losses have beenincurred on intercompany loans between subsidiaries, and to the extent that suchloans are not deemed to be permanently invested, such currency gains and lossesare also reflected in *Foreign currency and other(gain) loss, net* in the Consolidated Statement of Operations.

The Company includes gains and losses on receivables,payables and other operating transactions as a component of operating income in*Foreign currency (gain) loss, net*. Otherforeign currency gains and losses, primarily related to intercompany loans anddebt, are included in *Foreign currency and other(gain) loss, net*.

Additionally, included in *Foreign currency and other (gain) loss, net* for the sixmonths ended June 30, 2007 is the cash recovery from the minorityshareholder of the Company’s Argentine subsidiary of legal and other costsassociated with a prior period legal action of approximately $1.8 million.

**Note 15.**   LegalProceedings, Commitments and Contingencies

The Company is not currently a party to any materialpending legal proceedings other than routine litigation incidental to thebusiness of the Company. During 2005, the Company was served 

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**POLYMER GROUP, INC. Notes to Consolidated Financial Statements  (Continued)**

with a lawsuit by a customeralleging breach of contract and other charges. The discovery phase iscontinuing and the Company intends to vigorously defend this action andbelieves that it has reasonable arguments available in its defense. However,there is a possibility that resolution of this matter, or others that may arisein the normal course of business, could result in a loss in excess ofestablished reserves.

The Company has several major committedcapital projects, including the installation of a new spunmelt line at the Company’sfacility near Buenos Aires, Argentina and the retrofit of an existinghydroentanglement line at the Benson, North Carolina plant to produce Spinlace® products. Total expected costs of these twocapital projects amount to $59.1 million and the remaining payments duerelated to these planned capital expenditures as of June 30, 2007 totaledapproximately $38.2 million, which is expected to be substantially expendedover the remainder of fiscal 2007.

**Note 16.**   SupplementalCash Flow Information

Noncash investing or financing activities in the firstsix months of fiscal 2007 included the surrender of 12,439 shares of theCompany’s Class A Common Stock to the Company by participants in the 2005Stock Plan in the amount of $0.3 million to satisfy employee withholdingtax obligations.

During the first six months of2006, noncash investing or financing activities included the surrender of36,996 shares of the Company’s Class A Common Stock to the Company byparticipants in the 2005 Stock Plan in the amount of $1.0 million tosatisfy employee withholding tax obligations. Also, the Company recorded $1.9 millionof fixed assets, for which payment had not been made as of July 1, 2006,and $2.3 million for proceeds not yet received from the sale of fixedassets.

**Note 17.**   SubsequentEvent

On August 6, 2007, the Company filed a RegistrationStatement on Form S-3 with the Securities and Exchange Commission.The shelf registration statement will permit the sale, from time to time, ofshares of the Company’s Class A Common Stock held by the Company’smajority shareholder and certain other shareholders, but they are under noobligation to do so. The Company will not receive any proceeds from the sale ofsuch shares, but will bear certain of the expenses in connection with the sale.

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**ITEM 2.  MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

The following discussion and analysis providesinformation which management believes is relevant to an assessment andunderstanding of the Company’s consolidated results of operations and financialcondition. The discussion should be read in conjunction with the consolidatedfinancial statements and notes thereto contained in this Quarterly Report onForm 10-Q and in the Company’s Annual Report on Form 10-K, as amended, for the fiscal year ended December 30, 2006. In addition, itshould be noted that the Company’s gross profit margins may not be comparableto other companies since some entities classify shipping and handling costs incost of goods sold and others, including the Company, include such costs inselling, general and administrative expenses. Similarly, some entities,including the Company, include foreign currency gains and losses resulting fromoperating activities as a component of operating income, and some entitiesclassify all foreign currency gains and losses outside of operating income.

During the two-year period ended December 30,2006, the Company was engaged in a major capital expansion program whichincluded adding new spunmelt capacity in Cali, Colombia, in Mooresville, NorthCarolina and in Suzhou, China. Capital expenditures during this period totaled$147.1 million and consisted primarily of the aforementioned three newspunmelt facilities. The new capacity installations have resulted in improvementsin sales and profitability. The Cali line, which was installed in the latterpart of fiscal 2005, experienced several quarters of suboptimal manufacturingperformance associated with equipment issues which hindered production outputand sales. These issues were resolved, and the Cali line has performed atexpected levels since the second quarter of fiscal 2006.

The Mooresville line initiated production in thelatter part of the second quarter of fiscal 2006 and has performed withinexpected levels since its start up. The Mooresville line has performed atplanned levels from a productivity and profitability perspective since thefourth quarter of fiscal 2006.

The Suzhou line initiated operations in the latterpart of the third quarter of fiscal 2006 and commenced production without anysignificant manufacturing complications. As such, the Suzhou line onlycontributed marginally to sales and profitability during the fourth quarter offiscal 2006. Sales and profitability for the first six months of fiscal 2007were slightly below the Company’s expectations as the Suzhou line’squalification process with customers for high grade finished medical fabric hastaken longer than originally expected. The current expectation is that thequalification process for currently planned sales will be substantiallycomplete by the end of the third quarter of fiscal 2007, allowing for thetransition from hygiene and lower grades of medical fabrics to a moreprofitable mix of finished medical fabric sales.

Additionally, in fiscal 2007 the Company has initiatedtwo major capital projects, including: (a) construction of a new spunmeltline at the Company’s facility near Buenos Aires, Argentina, which is expectedto initiate operations late in the fourth quarter of fiscal 2007, and (b) theretrofit of an existing hydroentanglement line at the Benson, North Carolinafacility to produce Spinlace® products, which isexpected to initiate operations late in the third quarter of fiscal 2007. Thetotal expected costs of these two capital projects amount to$59.1 million. The Spinlace® project will only marginally contribute tosales and profitability during fiscal 2007 and the spunmelt line is not expectedto contribute to sales and profitability during fiscal 2007; however, both areexpected to make significant contributions in fiscal 2008.

With respect to major capital expansion projects,previously described in the preceding paragraphs, the Company generally targetsto recover its investment in periods ranging from three to four years followingthe start-up of the productive assets.

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The Company reviews itsbusiness on an ongoing basis relative to current and expected marketconditions, attempting to match its production capacity and cost structure tothe demands of the markets in which it participates, and strives tocontinuously streamline its manufacturing operations consistent withworld-class standards. Accordingly, in the future the Company may or may notdecide to undertake certain restructuring efforts to improve its competitiveposition, especially in the more mature markets of the U.S., Europe and Canada.In such mature markets, the prices for commodity roll goods continue tofluctuate based on supply and demand dynamics relative to the assets employedin those geographic regions. The Company actively and continuously pursuesinitiatives to prolong the useful life of its long-lived assets through productand process innovation. In some instances the Company may decide, as was thecase with its current plans to consolidate certain operations in the U.S. andEurope, as further described in Note 3 to the Consolidated FinancialStatements included in Item 1 of Part I to this Quarterly Report onForm 10-Q, that its fixed cost structure will be enhanced throughconsolidation. To the extent further decisions are made to improve theCompany’s long-term performance, such actions could result in the incurrence ofcash restructuring charges and asset impairment charges associated with theconsolidation, and such charges could be material.

**Results of Operations**

Thefollowing table sets forth the percentage relationships to net sales of certainconsolidated statement of operations items:

| ** **                                                                | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                                | ** ** | **June 30,  2007**          | ** ** | **July 1,  2006**         | ** ** | **June 30,  2007** | ** ** | **July 1,  2006** | ** ** |
| Net sales                                                                 |       |                             | 100.0      | %                              |       |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |
| Cost of goods sold                                                        |       |                             |       |                           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Materials                                                                 |       |                             | 54.5       |                           |       |   | 53.5 |   |   |   | 53.8 |   |   |   | 53.0 |   |   |
| Labor                                                                     |       |                             | 7.8        |                           |       |   | 8.6 |   |   |   | 7.7 |   |   |   | 8.2 |   |   |
| Overhead                                                                  |       |                             | 21.4       |                           |       |   | 23.2 |   |   |   | 21.7 |   |   |   | 23.1 |   |   |
|                                                                      |       |                             | 83.7       |                           |       |   | 85.3 |   |   |   | 83.2 |   |   |   | 84.3 |   |   |
| Gross profit                                                              |       |                             | 16.3       |                           |       |   | 14.7 |   |   |   | 16.8 |   |   |   | 15.7 |   |   |
| Selling, general and  administrative expenses                             |       |                             | 10.4       |                           |       |   | 10.3 |   |   |   | 10.6 |   |   |   | 11.4 |   |   |
| Special charges, net                                                      |       |                             | 1.3        |                           |       |   | 5.7 |   |   |   | 1.8 |   |   |   | 3.1 |   |   |
| Foreign currency  (gain) loss, net                                        |       |                             | (0.2       | )                              |       |   | 1.0 |   |   |   | (0.2 | ) |   |   | 0.6 |   |   |
| Operating income  (loss)                                                  |       |                             | 4.8        |                           |       |   | (2.3 | ) |   |   | 4.6 |   |   |   | 0.6 |   |   |
| Other expense (income):                                                   |       |                             |       |                           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest expense, net                                                     |       |                             | 3.0        |                           |       |   | 2.8 |   |   |   | 3.0 |   |   |   | 2.7 |   |   |
| Foreign currency and other (gain) loss, net                               |       |                             | 0.2        |                           |       |   | 0.2 |   |   |   | (0.2 | ) |   |   | 0.2 |   |   |
| Income (loss) before  income tax expense (benefit) and minority interests |       |                             | 1.6        |                           |       |   | (5.3 | ) |   |   | 1.8 |   |   |   | (2.3 | ) |   |
| Income tax expense  (benefit)                                             |       |                             | 0.9        |                           |       |   | (0.6 | ) |   |   | 1.3 |   |   |   | 0.2 |   |   |
| Minority interests,  net of tax                                           |       |                             | 0.2        |                           |       |   | 0.3 |   |   |   | 0.2 |   |   |   | 0.3 |   |   |
| Net income (loss)                                                         |       |                             | 0.5        | %                              |       |   | (5.0 | )% |   |   | 0.3 | % |   |   | (2.8 | )% |   |

 

**Comparison of ThreeMonths Ended June 30, 2007 and July 1, 2006**

TheCompany’s reportable segments consist of its two operating divisions, Nonwovensand Oriented Polymers. For additional information regarding segment data, seeNote 13 to the Consolidated Financial Statements included in Item 1of Part I to this Quarterly Report on Form 10-Q. The followingtable sets forth components of the Company’s net sales and operating income by 

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operating division for the three months endedJune 30, 2007, the three months ended July 1, 2006 and thecorresponding change (in millions):

| ** **                                 | ** ** | **Three Months  Ended  June 30, 2007** | ** ** | **Three Months  Ended  July 1, 2006** | ** ** | **Change** | ** ** |
|--------------------------------------------|------------|-------------------------------------------------------|------------|------------------------------------------------------|------------|------------|------------|
| Net sales                                  |       |                                                  |       |                                                 |       |       |       |   |   |   |   |   |   |
| Nonwovens                                  |       |                                                  | $          | 225.6                                                |       |       |       | $ | 203.6 |   |   |   | $ | 22.0 |   |   |
| Oriented Polymers                          |       |                                                  | 45.4       |                                                 |       |       | 45.1       |   |   |   | 0.3 |   |   |
|                                       |       |                                                  | $          | 271.0                                                |       |       |       | $ | 248.7 |   |   |   | $ | 22.3 |   |   |
| Operating income  (loss)                   |       |                                                  |       |                                                 |       |       |       |   |   |   |   |   |   |
| Nonwovens                                  |       |                                                  | $          | 20.0                                                 |       |       |       | $ | 12.3 |   |   |   | $ | 7.7 |   |   |
| Oriented Polymers                          |       |                                                  | 0.5        |                                                 |       |       | (0.2       | ) |   |   | 0.7 |   |   |
| Unallocated Corporate, net of eliminations |       |                                                  | (4.1       | )                                                    |       |       | (3.6       | ) |   |   | (0.5 | ) |   |
|                                       |       |                                                  | 16.4       |                                                 |       |       | 8.5        |   |   |   | 7.9 |   |   |
| Special charges, net                       |       |                                                  | (3.5       | )                                                    |       |       | (14.3      | ) |   |   | 10.8 |   |   |
|                                       |       |                                                  | $          | 12.9                                                 |       |       |       | $ | (5.8 | ) |   |   | $ | 18.7 |   |   |

 

The amounts for specialcharges, net have not been allocated to the Company’s reportable businessdivisions because the Company’s management does not evaluate such charges on adivision-by-division basis. Division operating performance is measured andevaluated before such items.

**Net Sales**

Net saleswere $271.0 million in the second quarter of fiscal 2007, an increase of$22.3 million or 9.0% over second quarter 2006 net sales of$248.7 million. Net sales for 2007 improved in the Nonwovens Division overcomparable 2006 results by 10.8%, and net sales in 2007 in the OrientedPolymers Division increased 0.7% from 2006 results. A reconciliation of thechange in net sales between the three months ended July 1, 2006 and thethree months ended June 30, 2007 is presented in the following table(in millions):

| ** **                                            | ** ** | **Nonwovens** | ** ** | **Oriented  Polymers** | ** ** | **Total** | ** ** |
|-------------------------------------------------------|------------|---------------|------------|------------------------|------------|-----------|------------|
| Net sales—three  months ended July 1, 2006  |       |          | $          | 203.6                  |       |      |       | $ | 45.1 |   |   | $ | 248.7 |   |
| Change in sales due  to:                              |       |          |       |                   |       |      |       |   |   |   |   |
| Volume                                                |       |          | 17.3       |                   |       |      | (0.2       | ) |   | 17.1 |   |
| Price/mix                                             |       |          | 0.8        |                   |       |      | 0.1        |   |   | 0.9 |   |
| Foreign currency translation                          |       |          | 3.9        |                   |       |      | 0.4        |   |   | 4.3 |   |
| Net sales—three months ended  June 30, 2007 |       |          | $          | 225.6                  |       |      |       | $ | 45.4 |   |   | $ | 271.0 |   |

 

As raw material costs have increased, the Company hasattempted to pass raw material costs along to its customers, where allowable bycontract terms and where acceptable based on market conditions. In general,with respect to contracted business, there is usually a one-quarter lag betweenthe change in raw material cost and the change in sales price.

A significant component of the $22.0 millionincrease in nonwovens sales was due to volume growth, with the increaseprimarily attributable to sales from the Company’s new spunmelt facility inSuzhou, China, which commenced production in the fourth quarter of fiscal 2006,and from the new spunmelt facility at Mooresville, North Carolina, whichinitiated operations in the latter part of the second quarter of fiscal 2006.The Latin America region also experienced an improvement in sales 

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volume, which was paced by ayear-over-year increase in hygiene sales. Oriented Polymers’ net sales for thesecond quarter of fiscal 2007 increased $0.3 million from the secondquarter of fiscal 2006. Oriented Polymers’ sales volumes and selling priceshave been negatively impacted by reduced housing starts affecting theirindustrial business and imported commodity products affecting lumberwrapvolumes. 

Both the Canadian dollar andthe Euro were stronger against the U.S. dollar during 2007 compared to2006. As a result, net sales increased $4.3 million due to the favorableforeign currency translation. Further discussion of foreign currency exchangerate risk is contained in “Quantitative and Qualitative Disclosures AboutMarket Risk” included in Item 3 of Part I to this Quarterly Report onForm 10-Q.

**Gross Margin**

Gross margin in the secondquarter of 2007 improved to 16.3% from 14.7% in the second quarter of 2006,driven by improved sales volumes and lower manufacturing costs, which offsetthe impact of the declines in the price/mix of sales and higher raw materialcosts during the first quarter of fiscal 2007. The raw material component ofthe cost of goods sold as a percentage of net sales increased from 53.5% in2006 to 54.5% in 2007. On the strength of improved sales and the initialbenefits from certain of the Company’s consolidation and restructuringinitiatives as well as the generation of sales from the new spunmelt lines, theCompany’s labor and overhead components of the cost of goods sold decreased asa percentage of net sales from the second quarter of 2006 to the comparableperiod of 2007. As a percentage of sales, labor decreased from 8.6% to 7.8%, or0.8%, and overhead decreased from 23.2% to 21.4%, or 1.8%.

**Operating Income**

Areconciliation of the change in operating income between the three months endedJuly 1, 2006 and the three months ended June 30, 2007 is presented inthe following table (in millions):

| Operating loss—three  months ended July 1, 2006    |   | $      | (5.8   | )      |
|--------------------------------------------------------------|--------|--------|--------|--------|
| Change in operating income due to:                           |   |   |   |
| Price/mix                                                    |   | 0.9    |   |
| Higher raw material costs                                    |   | (3.4   | )      |
| Volume                                                       |   | 4.9    |   |
| Lower manufacturing costs                                    |   | 5.3    |   |
| Foreign currency                                             |   | 3.0    |   |
| Lower depreciation and amortization expense                  |   | 0.2    |   |
| Lower special charges, net                                   |   | 10.8   |   |
| Increased share-based compensation costs                     |   | (0.3   | )      |
| All other, including higher SG&A costs                   |   | (2.7   | )      |
| Operating income—three  months ended June 30, 2007 |   | $      | 12.9   |   |

 

Consolidated operating income was $12.9 millionin 2007 as compared to an operating loss of $5.8 million in 2006.Operating income was positively impacted by the volume gains in the nonwovensmarkets. Lower manufacturing costs were also a major contributor to the improvedoperating performance, which was primarily attributable to the improvement inmanufacturing efficiencies, absorption of costs associated with the spunmeltlines operating closer to full manufacturing capacity, and lower costs achievedthrough improved execution of the Company’s outsourcing strategies. Favorableforeign currency movements during the second quarter of fiscal 2007 contributed$3.0 million to the year-over-year improvement.

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The Company experienced higher raw material costs inthe second quarter of fiscal 2007 compared to fiscal 2006 levels primarilyassociated with increased prices for rayon and polyester fiber in certain ofthe Company’s nonwovens businesses in the U.S. and Europe. The OrientedPolymers Division also experienced marginal increases in various raw materials duringthe second quarter of fiscal 2007 compared to the comparable fiscal 2006period.

Special charges, net in the second quarter of fiscal2007 were $10.8 million lower than the amount incurred in the second quarter offiscal 2006. In the second quarter of fiscal 2007, special charges, net wereincurred related to (i) employee severance and equipment relocation costs of$2.6 million associated with the U.S. plant closures, (ii) a noncashcharge of $0.3 million associated with the writedown of nonwovens assets to beremoved from service in the Company’s Neunkirchen, Germany plant, and(iii) other costs of $0.6 million. Further discussion of special charges,net is contained in Note 3 to the Consolidated Financial Statements included inItem 1 of Part I to this Quarterly Report on Form 10-Q.

Selling, general andadministrative expenses increased $2.7 million, from $25.6 million in2006 to $28.3 million in 2007, largely due to higher incentivecompensation costs, including share-based compensation and increasedsales volumes. However, the selling, general and administrative costs as apercentage of net sales remained relatively flat in the quarter over quartercomparison.

**Interest and OtherExpense**

Net interest expense increased $1.0 million, from$7.1 million during the three months ended July 1, 2006 to $8.1 millionduring the three months ended June 30, 2007. The increase in net interestexpense was largely due to the lower interest capitalization of approximately$1.1 million with respect to major capital expenditure projects in the secondquarter of fiscal 2007 compared to the second quarter of fiscal 2006, partiallyoffset by lower interest costs incurred as a result of lower borrowings underthe revolving credit facility. Additionally, the interest costs on theCompany’s long-term debt, net of the effects of the interest rate swapagreements, have increased in 2007 compared to 2006.

During fiscal 2007, the Company entered into a newcash flow hedge agreement, effective May 8, 2007, and maturing onJune 29, 2009, which effectively converted $240.0 million of notionalprincipal amount of debt from a variable LIBOR rate to a fixed LIBOR rate of5.085%. This new agreement replaced the cash flow hedge agreement originallyentered into in fiscal 2004, which agreement terminated on May 8, 2007,and effectively converted $212.5 million of notional principal amount of debtfrom a variable LIBOR rate to a fixed LIBOR rate of 3.383%.

Foreign currency and otherloss, net decreased by $0.2 million, from a loss of $0.6 million inthe second quarter of fiscal 2006 to a loss of $0.4 million in the secondquarter of fiscal 2007.

**Income Tax Expense**

The Company recognized incometax expense of $2.5 million for the three months ended June 30, 2007on consolidated income before income taxes of $4.4 million for such period.The tax expense is significantly different than such expense determined at theU.S. federal statutory tax rate primarily due to losses in the U.S. and certainforeign jurisdictions for which no income tax benefits were recognized or whererecognition was limited to the extent of existing deferred tax liabilities.Additionally, the income tax expense was impacted by foreign withholding taxes,for which tax credits are not anticipated, U.S. state income taxes and foreigntaxes calculated at statutory rates less than the U.S. federal statutory rate.During the three months ended July 1, 2006, the Company recognized anincome tax benefit of $1.5 million on a consolidated pre-tax loss of$13.4 million. This income tax benefit is significantly different than theU.S. federal statutory rate primarily due to losses in the U.S. and certainforeign jurisdictions for which no income tax benefits were recognized or whererecognition was limited to the extent of existing deferred tax liabilities.Additionally, the income tax 

33

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benefit wasimpacted by foreign withholding taxes, for which tax credits are notanticipated, U.S. state income taxes, and foreign taxes calculated at statutoryrates less than the U.S. federal statutory rate.

**Net Income (Loss)**

As a result of the above, theCompany recognized net income of $1.2 million, or $.06 per share, for thethree months ended June 30, 2007 compared to a net loss of$12.6 million, or $.65 per share, for the three months ended July 1,2006.

**Comparison of SixMonths Ended June 30, 2007 and July 1, 2006**

TheCompany’s reportable segments consist of its two operating divisions, Nonwovensand Oriented Polymers. For additional information regarding segment data, seeNote 13 to the Consolidated Financial Statements included in Item 1of Part I to this Quarterly Report on Form 10-Q. The followingtable sets forth components of the Company’s net sales and operating income byoperating division for the six months ended June 30, 2007, the six monthsended July 1, 2006 and the corresponding change (in millions):

| ** **                                 | ** ** | **Six Months  Ended  June 30, 2007** | ** ** | **Six Months  Ended  July 1, 2006** | ** ** | **Change** | ** ** |
|--------------------------------------------|------------|-----------------------------------------------------|------------|----------------------------------------------------|------------|------------|------------|
| Net sales                                  |       |                                                |       |                                               |       |       |       |   |   |   |   |   |   |
| Nonwovens                                  |       |                                                | $          | 449.1                                              |       |       |       | $ | 414.2 |   |   |   | $ | 34.9 |   |   |
| Oriented Polymers                          |       |                                                | 89.0       |                                               |       |       | 94.9       |   |   |   | (5.9 | ) |   |
|                                       |       |                                                | $          | 538.1                                              |       |       |       | $ | 509.1 |   |   |   | $ | 29.0 |   |   |
| Operating income  (loss)                   |       |                                                |       |                                               |       |       |       |   |   |   |   |   |   |
| Nonwovens                                  |       |                                                | $          | 41.5                                               |       |       |       | $ | 29.6 |   |   |   | $ | 11.9 |   |   |
| Oriented Polymers                          |       |                                                | 2.3        |                                               |       |       | 3.2        |   |   |   | (0.9 | ) |   |
| Unallocated Corporate, net of eliminations |       |                                                | (9.3       | )                                                  |       |       | (14.1      | ) |   |   | 4.8 |   |   |
|                                       |       |                                                | 34.5       |                                               |       |       | 18.7       |   |   |   | 15.8 |   |   |
| Special charges, net                       |       |                                                | (9.9       | )                                                  |       |       | (15.9      | ) |   |   | 6.0 |   |   |
|                                       |       |                                                | $          | 24.6                                               |       |       |       | $ | 2.8 |   |   |   | $ | 21.8 |   |   |

 

The amounts for specialcharges, net have not been allocated to the Company’s reportable businessdivisions because the Company’s management does not evaluate such charges on adivision-by-division basis. Division operating performance is measured andevaluated before such items.

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**Net Sales**

Net saleswere $538.1 million in the first six months of fiscal 2007, an increase of$29.0 million or 5.7% over first half 2006 net sales of$509.1 million. Net sales for 2007 improved in the Nonwovens Division overcomparable 2006 results by 8.4%, and net sales in 2007 in the Oriented PolymersDivision decreased 6.2% from 2006 results. A reconciliation of the change innet sales between the six months ended July 1, 2006 and the six monthsended June 30, 2007 is presented in the following table(in millions):

| ** **                                          | ** ** | **Nonwovens** | ** ** | **Oriented  Polymers** | ** ** | **Total** | ** ** |
|-----------------------------------------------------|------------|---------------|------------|------------------------|------------|-----------|------------|
| Net sales—six months  ended July 1, 2006  |       |          | $          | 414.2                  |       |      |       | $ | 94.9 |   |   | $ | 509.1 |   |
| Change in sales due  to:                            |       |          |       |                   |       |      |       |   |   |   |   |
| Volume                                              |       |          | 29.1       |                   |       |      | (5.0       | ) |   | 24.1 |   |
| Price/mix                                           |       |          | (2.7       | )                      |       |      | (1.1       | ) |   | (3.8 | ) |
| Foreign currency translation                        |       |          | 8.5        |                   |       |      | 0.2        |   |   | 8.7 |   |
| Net sales—six months ended  June 30, 2007 |       |          | $          | 449.1                  |       |      |       | $ | 89.0 |   |   | $ | 538.1 |   |

 

As raw material costs have increased or decreased, theCompany has attempted to pass raw material costs along to its customers, whereallowable by contract terms and where acceptable based on market conditions. Ingeneral, with respect to contracted business, there is usually a one-quarterlag between the change in raw material cost and the change in sales price.

A significant component of the $34.9 millionincrease in nonwovens sales was due to volume growth, primarily generated inAsia and the U.S. The increases are attributable to sales from the Company’snew spunmelt facility in Suzhou, China, which commenced production in thefourth quarter of fiscal 2006, and from the new spunmelt facility atMooresville, North Carolina, which initiated operations in the latter part ofthe second quarter of fiscal 2006. The Latin America region also experiencedimprovement in sales volume, which was paced by year-over-year increases inhygiene sales. Oriented Polymers’ net sales for 2007 decreased$5.9 million from the first six months of fiscal 2006. Oriented Polymers’sales volumes and selling prices have been negatively impacted by reducedhousing starts affecting their industrial business and imported commodityproducts affecting lumberwrap volumes.

Both the Canadian dollar andthe Euro were stronger against the U.S. dollar during 2007 compared to2006. As a result, net sales increased $8.7 million due to the favorableforeign currency translation. Further discussion of foreign currency exchangerate risk is contained in “Quantitative and Qualitative Disclosures AboutMarket Risk” included in Item 3 of Part I to this Quarterly Report onForm 10-Q.

**Gross Margin**

Gross margin in the first sixmonths of fiscal 2007 improved to 16.8% from 15.7% in the first six months offiscal 2006, driven by improved sales volumes and lower manufacturing costs,which offset the impact of the declines in the price/mix of sales and higherraw material costs during fiscal 2007. The raw material component of the costof goods sold as a percentage of net sales increased from 53.0% in 2006 to53.8% in 2007. On the strength of improved sales and the initial benefits fromcertain of the consolidation and restructuring initiatives as well as thegeneration of sales from the new spunmelt lines, the Company’s labor andoverhead components of the cost of goods sold decreased as a percentage of netsales from the first six months of fiscal 2006 to the comparable period of 2007.As a percentage of sales, labor decreased from 8.2% to 7.7%, or 0.5%, andoverhead decreased from 23.1% to 21.7%, or 1.4%.

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**Operating Income**

Areconciliation of the change in operating income between the six months endedJuly 1, 2006 and the six months ended June 30, 2007 is presented inthe following table (in millions):

| Operating income—six  months ended July 1, 2006  |   | $      | 2.8    |   |
|------------------------------------------------------------|--------|--------|--------|--------|
| Change in operating income due to:                         |   |   |   |
| Price/mix                                                  |   | (3.8   | )      |
| Higher raw material costs                                  |   | (3.2   | )      |
| Volume                                                     |   | 8.1    |   |
| Lower manufacturing costs                                  |   | 8.8    |   |
| Foreign currency                                           |   | 4.5    |   |
| Lower depreciation and amortization expense                |   | 0.4    |   |
| Lower special charges, net                                 |   | 6.0    |   |
| Decreased share-based compensation costs                   |   | 2.8    |   |
| All other, including higher SG&A costs                 |   | (1.8   | )      |
| Operating income—six months  ended June 30, 2007 |   | $      | 24.6   |   |

 

Consolidated operating incomewas $24.6 million in 2007 as compared to $2.8 million in 2006.Operating income was positively impacted by the volume gains in the nonwovensmarkets, partially offset by volume declines in the oriented polymers marketsas noted above in the net sales discussion. The net improvement in operatingincome was also positively impacted by lower noncash compensation costs relatedto share-based awards made under the Company’s stock option and restrictedstock plans and lower manufacturing costs, which were primarily attributable tothe improvement in manufacturing efficiencies and absorption of costsassociated with the spunmelt lines operating closer to full manufacturingcapacity and lower costs achieved through improved execution of the Company’soutsourcing strategies. Favorable foreign currency movement during the firstsix months of fiscal 2007 contributed $4.5 million to the year-over-yearimprovement.

The Company experienced price/mix declines for thefirst six months of fiscal 2007 compared to fiscal 2006 levels primarilyrelated to certain of the Company’s nonwovens businesses in Europe and LatinAmerica.  The Oriented Polymers Divisionalso experienced price/mix declines in the first six months of fiscal 2007compared to the comparable fiscal 2006 period. The Company also experiencedhigher raw material prices in certain of its nonwovens businesses, primarilyattributable to rayon and polyester fiber increases in fiscal 2007 compared tofiscal 2006.

Special charges, net in thefirst six months of fiscal 2007 were $6.0 million lower than in the comparableperiod of fiscal 2006. In the first six months of fiscal 2007, restructuringcosts were incurred related to (i) a settlement loss of $3.8 millionassociated with a partial curtailment of a defined benefit pension plan at oneof the Company’s Canadian operations (ii) employee severance and equipmentrelocation costs associated with the U.S. plant closures of $4.7 million, and (iii) othercosts of $0.8 million. Further discussion of special charges, net iscontained in Note 3 to the Consolidated Financial Statements included in Item 1of Part I to this Quarterly Report on Form 10-Q.

Selling, general andadministrative expenses decreased $1.2 million, from $57.9 million in2006 to $56.7 million in 2007, primarily due to lower noncash stock-basedcompensation costs described in the previous paragraph, partially offset byhigher incentive compensation costs and costs associated with increased salesvolumes during 2007.

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**Interest and OtherExpense**

Net interest expense increased $2.6 million, from$13.6 million during the six months ended July 1, 2006 to$16.2 million during the six months ended June 30, 2007. The increasein net interest expense was largely due to the lower interest capitalization ofapproximately $2.0 million with respect to major capital expenditureprojects in the first six months of fiscal 2007 compared to the first first sixmonths of fiscal 2006, partially offset by lower interest costs incurred as aresult of lower borrowings under the revolving credit facility. Additionally,the interest costs on the Company’s long-term debt, net of the effects of theinterest rate swap agreements, have increased in 2007 compared to 2006.

During fiscal 2007, the Company entered into a newcash flow hedge agreement, effective May 8, 2007 and maturing onJune 29, 2009, which effectively converted $240.0 million of notionalprincipal amount of debt from a variable LIBOR rate to a fixed LIBOR rate of5.085%. This new agreement replaced the cash flow hedge agreement originallyentered into in fiscal 2004, which agreement terminated on May 8, 2007 andeffectively converted $212.5 million of notional principal amount of debt froma variable LIBOR rate to a fixed LIBOR rate of 3.383%.

Foreign currency and other(gain) loss, net improved by $2.5 million, from a loss of$1.1 million in the first six months of fiscal 2006 to a gain of$1.4 million in the first six months of fiscal 2007. Included as a gain inForeign currency and other (gain) loss, net for the six months endedJune 30, 2007 is the cash recovery of approximately $1.8 million froma minority shareholder of the Company’s Argentine subsidiary of legal and othercosts associated with a prior period legal action.

**Income Tax Expense**

The Company recognized incometax expense of $7.1 million for the six months ended June 30, 2007 onconsolidated income before income taxes of $9.8 million for such period.The tax expense is significantly different than such expense determined at theU.S. federal statutory tax rate primarily due to losses in the U.S. and certainforeign jurisdictions for which no income tax benefits were recognized or whererecognition was limited to the extent of existing deferred tax liabilities.Additionally, the income tax expense was impacted by foreign withholding taxes,for which tax credits are not anticipated, U.S. state income taxes and foreigntaxes calculated at statutory rates less than the U.S. federal statutory rate.During the six months ended July 1, 2006, the Company recognized an incometax expense of $1.1 million on a consolidated pre-tax loss of$11.8 million. This income tax expense is significantly different than theU.S. federal statutory rate primarily due to losses in the U.S. and certainforeign jurisdictions for which no income tax benefits were recognized or whererecognition was limited to the extent of existing deferred tax liabilities.Additionally, the income tax expense was impacted by foreign withholding taxes,for which tax credits are not anticipated, U.S. state income taxes, and foreigntaxes calculated at statutory rates less than the U.S. federal statutory rate.

**Net Income (Loss)**

As a result of the above, the Company recognized netincome of $1.5 million, or $.08 per share, for the six months endedJune 30, 2007 compared to a net loss of $14.2 million, or $.73 pershare, for the six months ended July 1, 2006.

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**LIQUIDITY AND CAPITALRESOURCES**

TheCompany’s principal sources of liquidity for operations and expansions arecurrently funds generated from operations and borrowing availabilities underthe Credit Facility, consisting of a revolving credit facility of $45.0 millionand a first-lien term loan of $410.0 million. The revolving credit portionof the Credit Facility terminates on November 22, 2010 and the remainingbalance (after mandatory annual payments of $4.1 million and additional payments,if any, under the excess cash flow provision of the Credit Facility) of thefirst-lien term loan is due November 22, 2012. The Credit Facility, asamended, contains covenants and events of default customary for financings ofthis type, including leverage and interest expense coverage covenants. AtJune 30, 2007, the Company was in compliance with all such financialcovenants. Additionally, as of June 30, 2007, the Company had nooutstanding borrowings under the revolving credit facility and capacity underthe revolving credit facility had been reserved for outstanding letters ofcredit in the amount of $12.2 million.

| ** **                       | ** ** | **June 30,  2007** | ** ** | **December 30,  2006** | ** ** |
|----------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| ** **                       | ** ** | **(In Millions)**  | ** ** |
| **Balance sheet data:**          | ** ** |                    | ** ** | ** **                  |       |   | ** ** | ** ** |   |
| Cash and cash equivalents        |       |                    | $          | 36.0                        | ** ** |   |   | $ | 32.1 | ** ** |   |
| Working capital                  |       |                    | 180.4      | ** **                  |       |   | 159.4 | ** ** |   |
| Total assets                     |       |                    | 765.1      | ** **                  |       |   | 742.1 | ** ** |   |
| Total debt                       |       |                    | 424.1      | ** **                  |       |   | 411.2 | ** ** |   |
| Total shareholders’  equity |       |                    | 129.1      | ** **                  |       |   | 109.1 | ** ** |   |
|                                  |            |                         |            |                             |            |  |  |  |  |  |  |

 

| ** **                                 | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------|------------|--------------------------------|------------|
| ** **                                 | ** ** | **June 30,  2007**        | ** ** | **July 1,  2006** | ** ** |
| ** **                                 | ** ** | **(In Millions)**         | ** ** |
| **Cash  flow data:**                       | ** ** |                           | ** ** | ** ** |   | ** ** | ** ** |
| Net cash provided by operating activities  |       |                           | $          | 13.5 |   |   | $ | 26.6 |   |
| Net cash used in investing activities      |       |                           | (20.1      | ) |   | (45.5 | ) |
| Net cash provided by  financing activities |       |                           | 10.1       |   |   | 7.1 |   |
|                                            |            |                                |            |  |  |  |  |  |  |

 

**Operating Activities**

Net cash provided by operating activities was$13.5 million during the first six months of fiscal 2007, a$13.1 million decrease from the net cash of $26.6 million provided byoperating activities during the first six months of fiscal 2006. Theimprovements in net income during the first six months of fiscal 2007 versusthe comparable period of fiscal 2006, were more than offset by increases inworking capital during the current year period.

The Company had working capital of approximately$180.4 million at June 30, 2007 compared with $159.4 million atDecember 30, 2006. Accounts receivable at June 30, 2007 was$139.4 million as compared to $129.3 million at December 30,2006, an increase of $10.1 million. Accounts receivable representedapproximately 47 days of sales outstanding at June 30, 2007 compared to 45 daysof sales outstanding at December 30, 2006. Inventories at June 30,2007 were $140.4 million, an increase of $7.9 million frominventories at December 30, 2006 of $132.5 million, with componentincreases in finished goods and work-in-process of $9.4 million and $3.8million, respectively, and with a decrease in raw materials of $5.3 million.The Company had inventory representing approximately 57 days of cost ofsales on hand at June 30, 2007 compared to 54 days of cost of sales onhand at December 30, 2006. Accounts payable at June 30, 2007 was$89.4 million as compared to $102.7 million at December 30,2006, a decrease of $13.3 million. Accounts payable representedapproximately 36 days of cost of sales outstanding at June 30, 2007compared to 42 days of cost of sales outstanding at December 30,2006. The absolute dollar increases in accounts receivable and inventories andtheir effects on days sales and cost of sales outstanding at June 30, 2007versus 

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December 30, 2006 werelargely related to sales dollar increases, sales increases in regions withlonger payment cycles, and inventory builds to transition the medical fabricfinishing from the Company’s operations in the United States to China and tofacilitate other plant consolidation efforts. The decrease in accounts payablewas impacted by the reduction of raw materials between December 30, 2006 andJune 30, 2007 of $5.3 million, and by the Company’s decision to take advantageof available vendor discounts related to early payment of trade payables.

The Company’s restructuring and plant realignmentactivities in fiscal 2007 are discussed in Note 3 to the ConsolidatedFinancial Statements included in Item 1 of Part I to this Quarterly Reporton Form 10-Q.

On January 3, 2007, the Board of Directors of theCompany approved a plan that was communicated to affected employees that itintended to close its Rogers, Arkansas and Gainesville, Georgia plants in theUnited States and transfer certain of the business and equipment to otherlocations in North America and Asia. The restructuring plan included thereduction of approximately 170 production and administrative staff positions.As a result of this decision, the Company estimates that it will recognize cashrestructuring charges of approximately $7.0 million during fiscal year 2007.During the first six months of fiscal 2007, approximately $4.7 million has beenrecognized as a restructuring and plant realignment charge with respect to theU. S. plant consolidation plan for which manufacturing in the Rogers and Gainesvillefacilities has ceased as of July 31, 2007. The Company anticipates futureproceeds of approximately $4.0 million to $5.0 million from the ultimate saleof idled facilities and equipment.

In June 2007, the Board of Directors of theCompany announced a plan to close its Neunkirchen, Germany plant and transferthe business and certain equipment to the Company’s plant in Cuijk, TheNetherlands. The restructuring plan included the reduction of approximately 72production and administrative staff positions. As a result of this decision,the Company estimates that it will recognize cash restructuring charges ofapproximately $8.0 million, which will be substantially incurred during fiscal2007. The Company also anticipates future proceeds of approximately $6.0million to $8.0 million from the ultimate sale of idled facilities andequipment.

The Company’s strategy with respect to theconsolidation efforts in the U.S. and Europe is focused on the elimination ofcash fixed costs at the closed plant sites, and the transfer of business andequipment to Company sites in regions with lower variable costs and which arecloser to our customers, as necessary and practical, to retain the existingbusiness with the potential to expand sales volumes. The cash fixed costs ofthe three facilities in the U.S. and Europe discussed in the two previousparagraphs approximated $8.0 million annually.

Also, during the first quarter of fiscal 2006, as partof its restructuring and related cost reduction measures, the Companynegotiated certain changes with the union representing the employees of one ofthe Company’s Canadian operations, including a partial curtailment of a definedbenefit pension plan. No net gain or loss was incurred as a result of thepartial curtailment. However, based on elections made by plan participantsduring the second quarter of fiscal 2006, and as approved by Canadianregulatory authorities on January 16, 2007, the Company incurred asettlement loss associated with employees who have exited the plan. The loss incurredas a result of the partial settlement of the defined benefit pension plan, inthe amount of approximately $3.8 million, was recognized in the firstquarter of fiscal 2007 commensurate with governmental approval of the terms ofthe settlement and upon fulfillment by the Company of its funding requirements.Additionally, the Company has incurred approximately $0.8 million of costs duringfiscal 2007 related to the corporate headquarters relocation initiallyundertaken in fiscal 2006 and other U.S. initiatives.

Additionally, during the firstsix months of fiscal 2007 the Company has incurred a noncash charge of $0.3million associated with the writedown of Nonwovens assets to be removed fromservice in the Company’s Neunkirchen, Germany plant and other costs of $0.3million.

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**Investing and FinancingActivities**

Net cash used for investing activities amounted to$20.1 million and $45.5 million in the first six months of fiscal2007 and fiscal 2006, respectively. Capital expenditures during 2007 totaled$20.3 million, a decrease of $26.1 million from capital spending of$46.4 million in 2006. A significant portion of the capital expendituresin 2007 related to the construction of a new spunmelt line at the Company’sfacility near Buenos Aires, Argentina. Also, investing activities during 2007and 2006 included proceeds from the sale of assets of $0.2 million and$1.4 million, respectively.

Net cash provided by financingactivities amounted to $10.1 million and $7.1 million in the first sixmonths of fiscal 2007 and fiscal 2006, respectively. In 2007, the Companyborrowed, on a net basis, $12.9 million of debt whereas the Companyborrowed, on a net basis, $7.4 million of debt during 2006. Additionally,in 2007, the Company repaid the remaining balance of $2.8 million related to anadvance received in 2006 from an equipment supplier.

**Dividends**

The Board of Directors has notdeclared a dividend on the Company’s common stock since the Company emergedfrom Chapter 11 bankruptcy proceedings on March 5, 2003. The CreditFacility limits restricted payments, including cash dividends, to$5.0 million in the aggregate since the effective date of the CreditFacility. The Company does not have any plans to pay dividends on its commonstock in future periods.

**Liquidity Summary**

As discussed more fully inNote 7 to the Consolidated Financial Statements included in Item 1 ofPart I to this Quarterly Report on Form 10-Q, the Company has aCredit Facility, which it entered into on November 22, 2005 and amended asof December 8, 2006, which consists of a $45.0 million securedrevolving credit facility maturing in 2010 and a $410.0 million first-lienterm loan maturing in 2012.

All borrowings under theCredit Facility are U.S. dollar denominated and are guaranteed, on a jointand several basis, by each and all of the direct and indirect domesticsubsidiaries of the Company. The Credit Facility and the related guarantees aresecured by (i) a lien on substantially all of the assets of the Company,its domestic subsidiaries and certain of its non-domestic subsidiaries,(ii) a pledge of all or a portion of the stock of the domesticsubsidiaries of the Company and of certain non-domestic subsidiaries of theCompany, and (iii) a pledge of certain secured intercompany notes.Commitment fees under the Credit Facility are equal to 0.50% of the dailyunused amount of the revolving credit commitment. The Credit Facility limitsrestricted payments to $5.0 million, including cash dividends, in theaggregate since the effective date of the Credit Facility. The Credit Facilitycontains covenants and events of default customary for financings of this type,including leverage and interest expense coverage covenants. The Company was incompliance with the financial covenants under the Credit Facility at June 30,2007 and expects to remain in compliance through the remainder of fiscal 2007.

The first-lien term loanrequires mandatory payments of approximately $1.0 million per quarter andrequires the Company to use a percentage of proceeds from excess cash flows, asdefined by the Credit Facility and determined based on year-end results, toreduce its then outstanding balances under the Credit Facility. Excess cashflows required to be applied to the repayment of the Credit Facility aregenerally calculated as 50.0% of the net amount of the Company’s available cashgenerated from operations adjusted for the cash effects of interest, taxes,capital expenditures, changes in working capital and certain other items. TheCompany currently estimates that the excess cash flow payment with respect tofiscal 2007, which would be payable in March 2008, will be approximately$15.0 million and has included such amount, in addition to the mandatorypayments of 

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approximately$1.0 million per quarter, in *Current portion oflong-term debt* in the Consolidated Balance Sheets as ofJune 30, 2007. The Company, at its discretion and based on projectedoperating cash flows and anticipated cash requirements pertaining to capitalexpansion, may elect to make additional repayments of debt under the CreditFacility in excess of the required excess cash flow payments. No excess cashflow payment was required to be made with respect to fiscal 2006.

The interest rate applicableto borrowings under the Credit Facility is based on three-month London InterbankOffered Rate (“LIBOR”) plus a specified margin. The applicable margin forborrowings under both the first-lien term loan and the revolving creditfacility is 225 basis points. The Company may, from time to time, elect touse an Alternate Base Rate (“ABR”) for its borrowings under the revolvingcredit facility based on the bank’s base rate plus a margin of 75 to125 basis points based on the Company’s total leverage ratio. The Companyhad no outstanding borrowings at June 30, 2007 under the revolving creditfacility. As of June 30, 2007, capacity under the revolving creditfacility had been reserved for outstanding letters of credit in the amount of$12.2 million. Average daily borrowings under the revolving creditfacility, which were largely ABR-based borrowings, for the period ofDecember 31, 2006 to June 30, 2007 were $4.2 million at anaverage rate of 9.50%. The revolving credit portion of the Credit Facilitymatures on November 22, 2010.

Additionally, in accordancewith the terms of the Credit Facility, the Company maintained its position in acash flow hedge agreement, effectively converting $240.0 million ofnotional principal amount of debt from a variable LIBOR rate to a fixed LIBORrate of 5.085%. The cash flow hedge agreement, which became effectiveMay 8, 2007, terminates on June 29, 2009. Previously, the Company maintained a position in acash flow hedge agreement, which matured on May 8, 2007, to effectivelyconvert $212.5 million of notional principal amount of debt from avariable LIBOR rate to a fixed LIBOR rate of 3.383%. Solely as a result of thechange in the LIBOR rates fixed pursuant to the interest rate swaps, theCompany estimates that interest costs will increase by approximately$2.4 million in fiscal 2007 versus fiscal 2006.

The Company has entered intofactoring agreements to sell without recourse, certain U.S. and non-U.S.company-based receivables to unrelated third-party financial institutions.Under the terms of the factoring agreement related to the sale of U.S. company-basedreceivables, the maximum amount of outstanding advances at any one time is$20.0 million, which limitation is subject to change based on the level ofeligible receivables, restrictions on concentrations of receivables and thehistorical performance of the receivables sold. Under the terms of thefactoring agreement related to the sale of non-U.S. company-based receivables,the maximum amount of outstanding advances at any one time is$10.0 million, which limitation is subject to change based on the level ofeligible receivables, restrictions on concentrations of receivables and thehistorical performance of the receivables sold. The sale of receivablespursuant to the factoring agreements accelerated the collection of theCompany’s cash, reduced credit exposure and lowered the Company’s net borrowingcosts. The Credit Facility provides the Company the availability to increasethe sale of non-U.S.-based receivables, under factoring agreements, to $20.0million.

As discussed in Note 15to the Consolidated Financial Statements included in Item 1 of Part I tothis Quarterly Report onForm 10-Q, the Company has several major committed capitalprojects, including the installation of a new spunmelt line at the Company’sfacility near Buenos Aires, Argentina and a Spinlace® productionline at the Benson, North Carolina plant. Total expected costs of these twocapital projects amount to $59.1 million and remaining payments duerelated to these planned expansions as of June 30, 2007 totaled approximately$38.2 million, which is expected to be substantially expended over theremainder of fiscal 2007. As discussed more fully in Note 7 to the ConsolidatedFinancial Statements included in Item 1 of Part I to this Quarterly Reporton Form 10-Q, the Company has obtained local financing to fund asubstantial portion of the capital expansion in Argentina.

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As part of its strategic plan,the Company is continually reviewing its assets and businesses, which mayinclude the identification of potential acquisition candidates that are inalignment with the Company’s strategic direction, and may engage in discussionswith such prospects.  In the event thatsuch discussions lead to the acquisition of, or merger with, another Company,such transaction could require the use of cash, the issuance of additionalequity, or the incurrence of additional debt to satisfy any potential purchaseprice and related costs.  The Companyalso continually evaluates assets and businesses that may no longer be inalignment with the Company’s strategic direction, and from time to time, entersinto discussions with prospective purchasers of such businesses.

Based on the ability togenerate positive cash flows from its operations and the financial flexibilityprovided by the Credit Facility, as amended, the Company believes that it hasfinancial resources to meet its operating needs, fund its capital expendituresand make all necessary contributions to its retirement plans in the foreseeablefuture.

**Off-Balance Sheet Arrangements**

The Company does not have anyoff-balance sheet arrangements.

**Effect of Inflation**

Inflation generally affectsthe Company by increasing the costs of labor, overhead and equipment. Theimpact of inflation on the Company’s financial position and results ofoperations was minimal during the first quarter of both 2007 and 2006. However,the Company continues to be impacted significantly by raw material costs. See“Quantitative and Qualitative Disclosures About Market Risk” included inItem 3 of Part I to this Quarterly Report on Form 10-Q.

**New AccountingStandards**

In September 2006, the FASB issued SFASNo. 157, “Fair Value Measurements” (“SFAS No. 157”). This standardestablishes a framework for measuring fair value and also provides guidance foran expanded set of disclosure requirements related to fair value. The Companyexpects to adopt SFAS No. 157 effective in the first quarter of fiscal2008 and is continuing to evaluate the impact of SFAS No. 157 on theConsolidated Financial Statements.

In February 2007, theFASB issued SFAS No. 159, “The Fair Value Option for Financial Assets andFinancial Liabilities, including an amendment of FASB Statement No. 115”(“SFAS No. 159”). SFAS No. 159 permits companies to choose to measurecertain financial instruments and other items at fair value, with unrealizedgains and losses on items for which the fair value option has been electedreported in earnings at each subsequent reporting date. The Company iscontinuing to review the provisions of SFAS No. 159, which is effective inthe first quarter of fiscal 2008, and currently does not expect SFASNo. 159 to have a significant impact on the Consolidated FinancialStatements.

**Critical AccountingPolicies And Other Matters**

The Company’s discussion and analysis of its financialposition and results of operations are based upon its consolidated financialstatements that have been prepared in accordance with accounting principlesgenerally accepted in the United States (“U.S. GAAP”). The preparation offinancial statements in conformity with U.S. GAAP requires the appropriateapplication of certain accounting policies, many of which require management tomake estimates and assumptions about future events that may affect the reportedamounts of assets, liabilities, revenues and expenses, and the disclosure ofcontingent assets and liabilities. Since future events and their impact cannotbe determined with certainty, the actual results will inevitably differ fromthe estimates. The Company evaluates these estimates and assumptions on anongoing basis, including but not limited to those 

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related to revenuerecognition, including the effects of sales returns and allowances and creditrisks, inventories, income taxes, and impairment of long-lived assets.Estimates and assumptions are based on historical and other factors believed tobe reasonable under the circumstances. The impact and any associated risksrelated to estimates, assumptions, and accounting policies are discussed within“Management’s Discussion and Analysis of Operations and Financial Condition,”as well as in the Notes to the Consolidated Financial Statements, ifapplicable, where such estimates, assumptions, and accounting policies affectthe Company’s reported and expected results.

The Company believes the following accounting policiesare critical to its business operations and are essential in understanding theresults of operations; such policies affect the more significant judgments andestimates used in the preparation of its Consolidated Financial Statements:

*RevenueRecognition:*   Revenue from product sales isrecognized when title and risks of ownership pass to the customer. This isgenerally on the date of shipment to the customer, or upon delivery to a placenamed by the customer, dependent upon contract terms and when collectibility isreasonably assured and pricing is fixed or determinable. Revenue includesamounts billed to customers for shipping and handling. Provision for rebates,promotions, product returns and discounts to customers is recorded as a reductionin determining revenue in the same period that the revenue is recognized.Management bases its estimate of the expense to be recorded each period onhistorical returns and allowance levels. Management does not believe thelikelihood is significant that materially higher deduction levels will resultbased on prior experience.

*AccountsReceivable and Concentration of Credit Risks:*   Accountsreceivable potentially expose the Company to a concentration of credit risk, asdefined by Statement of Financial Accounting Standards No. 105,“Disclosure of Information about Financial Instruments with Off-Balance SheetRisk and Financial Instruments with Concentration of Credit Risk.” The Companyprovides credit in the normal course of business and performs ongoing creditevaluations on its customers’ financial condition as deemed necessary, butgenerally does not require collateral to support such receivables. The Companyalso establishes an allowance for doubtful accounts based upon factorssurrounding the credit risk of specific customers, historical trends and otherinformation. Also, in an effort to reduce its credit exposure to certaincustomers, as well as accelerate its cash flows, the Company sells, on a non-recoursebasis, certain of its receivables pursuant to factoring agreements. AtJune 30, 2007, a reserve of $5.9 million has been recorded as anallowance against trade accounts receivable. Management believes that theallowance is adequate to cover potential losses resulting from uncollectible accountsreceivable and deductions resulting from sales returns and allowances. Whilethe Company’s credit losses have historically been within its calculatedestimates, it is possible that future losses could differ significantly fromthese estimates.

*InventoryReserves:*   The Company maintains reserves forinventories valued primarily using the first in, first out (FIFO) method. Suchreserves for inventories can be specific to certain inventory or general basedon judgments about the overall condition of the inventory. General reserves areestablished based on percentage write-downs applied to inventories agedfor certain time periods, or for inventories that are slow-moving. Specificreserves are established based on a determination of the obsolescence of theinventory and whether the inventory value exceeds amounts to be ultimatelyrecovered upon the sale of the goods. Estimating sales prices, establishingmarkdown percentages and evaluating the condition of the inventories requirejudgments and estimates which may impact the inventory valuation and grossprofits. The actual amount of obsolete or unmarketable inventory has beenmaterially consistent with previously established reserves. Managementbelieves, based on its prior experience of managing and evaluating the recoverabilityof its slow moving or obsolete inventory, that such established reserves arematerially adequate. If actual market conditions and product sales are lessfavorable than projected, additional inventory writedowns may be necessary.

*IncomeTaxes:*   The Company records an income taxvaluation allowance when, based on the weight of the evidence, it is morelikely than not that some portion, or all, of the deferred tax asset will 

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not be realized. The ultimate realization of thedeferred tax asset depends on the ability of the Company to generate sufficienttaxable income of the appropriate character in the future and in theappropriate taxing jurisdictions. In assessing the realization of the deferredtax assets, consideration is given to, among other factors, the trend ofhistorical and projected future taxable income, the scheduled reversal ofdeferred tax liabilities, the carryforward period for net operating losses andtax credits, as well as tax planning strategies available to the Company.Additionally, the Company has not provided U.S. income taxes for undistributedearnings of certain foreign subsidiaries that are considered to be retainedindefinitely for reinvestment. Certain judgments, assumptions and estimates arerequired in assessing such factors and significant changes in such judgmentsand estimates may materially affect the carrying value of the valuationallowance and deferred income tax expense or benefit recognized in theCompany’s Consolidated Financial Statements.

The Company adopted FASB Interpretation No. 48,“Accounting for Uncertainty in Income Taxes, an Interpretation of FASBStatement No. 109” (“FIN 48”) effective December 31, 2006, thefirst day of fiscal 2007. In accordance with FIN 48, the Company recognizesa tax benefit associated with an uncertain tax position when, in its judgment,it is more likely than not that the position will be sustained upon examinationby a taxing authority. For a tax position that meets the more-likely-than-notrecognition threshold, the Company initially and subsequently measures the taxbenefit as the largest amount that it judges to have a greater than 50%likelihood of being realized upon ultimate settlement with a taxing authority.The liability associated with unrecognized tax benefits is adjustedperiodically due to changing circumstances, such as the progress of tax audits,case law developments and new or emerging legislation. Such adjustments arerecognized entirely in the period in which they are identified. The effectivetax rate includes the net impact of changes in the liability for unrecognizedtax benefits and subsequent adjustments as considered appropriate bymanagement.

A number of years may elapse before a particularmatter for which a liability related to an unrecognized tax benefit is auditedand finally resolved. The number of years with open tax audits varies byjurisdiction. While it is often difficult to predict the final outcome or thetiming of resolution of any particular tax matter, the Company believes itsliability for unrecognized tax benefits is adequate. Favorable resolution of anunrecognized tax benefit could be recognized as a reduction in the effectivetax rate in the period of resolution. Unfavorable settlement of an unrecognizedtax benefit could increase the effective tax rate and may require the use ofcash in the period of resolution. The liability for unrecognized tax benefitsis generally presented as noncurrent. However, if the Company anticipatespaying cash within one year to settle an uncertain tax position, the liabilityis presented as current.

Additionally, consistent with the provisions ofSOP 90-7, recognition of tax benefits from preconfirmation netoperating loss carryforwards and other deductible temporary differences notpreviously recognized will be applied to reduce goodwill to zero, then toreduce intangible assets that existed at the date of emergence from bankruptcywith any excess tax benefits credited directly to *AdditionalPaid-in Capital*.

*Impairmentof Long-Lived Assets:*   Long-lived assets,excluding goodwill, are reviewed for impairment whenever events or changes incircumstances indicate that the carrying amounts may not be recoverable. Forassets held and used, an impairment may occur if projected undiscounted cashflows are not adequate to cover the carrying value of the assets. In suchcases, additional analysis is conducted to determine the amount of the loss tobe recognized. The impairment loss is determined by the difference between thecarrying amount of the asset and the fair value measured by future discountedcash flows. The analysis, when conducted, requires estimates of the amount andtiming of projected cash flows and, where applicable, judgments associatedwith, among other factors, the appropriate discount rate. Such estimates arecritical in determining whether any impairment charge should be recorded andthe amount of such charge if an impairment loss is deemed to be necessary. 

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In addition, future events impacting cash flows forexisting assets could render a writedown necessary that previously required nowritedown.

For assets held for disposal, an impairment charge isrecognized if the carrying value of the assets exceeds the fair value lesscosts to sell. Estimates are required of fair value, disposal costs and thetime period to dispose of the assets. Such estimates are critical indetermining whether any impairment charge should be recorded and the amount ofsuch charge if an impairment loss is deemed to be necessary. Actual cash flowsreceived or paid could differ from those used in estimating the impairmentloss, which would impact the impairment charge ultimately recognized. As ofJune 30, 2007, based on the Company’s current operating performance, aswell as future expectations for the business, the Company does not anticipateany material writedowns for long-lived asset impairments. However, conditionscould deteriorate, which could impact our future cash flow estimates, and thereexists the potential for further consolidation and restructuring in the moremature markets of the U.S. and Europe, either of which could result in animpairment charge that could have a material effect on the Company’sConsolidated Financial Statements.

*Stock-Based Compensation*:   The Company accounts for stock-basedcompensation related to its employee share-based plans in accordance with themethodology defined in Statement of Financial Accounting StandardsNo. 123(R), “Share-Based Payment” (“SFAS No. 123(R)”). Thecompensation costs recognized subsequent to the adoption of SFASNo. 123(R) related to all new grants and any unvested portion of priorawards have been measured based on the grant-date fair value of the award.Consistent with the provisions of SFAS No. 123(R), awards areconsidered granted when all required approvals are obtained and when theparticipant begins to benefit from, or be adversely affected by, subsequentchanges in the price of the underlying shares and, regarding awards containingperformance conditions, when the Company and the participant reach a mutualunderstanding of the key terms of the performance conditions. Additionally,accruals for compensation costs for share-based awards with performanceconditions are based on the probable outcome of such performance conditions.

The Company has estimated thefair value of each stock option grant by using the Black-Scholes option-pricingmodel. Under SFAS No. 123(R) and the option pricing model, the estimate of fairvalue is based on the share price and other pertinent factors at the grant date(as defined pursuant to SFAS No. 123(R)), such as expected volatility,expected dividend yield, risk-free interest rate, forfeitures and expectedlives. Assumptions are evaluated and revised, as necessary, to reflect marketconditions and experience. Although the Company believes the assumptions areappropriate, differing assumptions would affect compensation costs.

**Recent SEC Review ofPeriodic Reports**

Section 408 of theSarbanes-Oxley Act of 2002 requires that the staff of the Securities andExchange Commission (the “SEC Staff”) review the filings of all reportingcompanies not less frequently than once every three years. In accordance withthat requirement, the SEC Staff recently completed a review of the Company’sAnnual Report on Form 10-K, as amended, for the fiscal year endedDecember 30, 2006 and issued a letter (the “Comment Letter”) commenting oncertain aspects of the Company’s filing. As of June 30, 2007, all issuesraised in the Comment Letter have been resolved to the mutual satisfaction ofthe SEC Staff and the Company.

**Environmental**

The Company is subject to abroad range of federal, foreign, state and local laws and regulations relatingto the pollution and protection of the environment. The Company believes thatit is currently in substantial compliance with applicable environmentalrequirements and does not currently anticipate any material adverse effect onits operations, financial or competitive position as a result of its efforts tocomply with environmental requirements. Some risk of environmental liability isinherent, however, 

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in thenature of the Company’s business and, accordingly, there can be no assurancethat material environmental liabilities will not arise.

**ITEM 3. QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

The Company is exposed tomarket risks for changes in foreign currency rates and interest rates and hasexposure to commodity price risks, including prices of its primary rawmaterials. The overall objective of the Company’s financial risk managementprogram is to seek a reduction in the potential negative earnings impact ofchanges in interest rates, foreign exchange rates and raw material pricingarising in our business activities. The Company manages these financialexposures, where possible, through operational means and by using variousfinancial instruments. These practices may change as economic conditionschange.

**Long-Term Debt andInterest Rate Market Risk**

The Company’s long-termborrowings under the Credit Facility are variable interest rate debt. As such,to the extent not protected by interest rate hedge agreements, the Company’sinterest expense will increase as interest rates rise and decrease as interestrates fall. It is the Company’s policy to enter into interest rate derivativetransactions only to meet its stated overall objective. The Company does notenter into these transactions for speculative purposes. To that end, as furtherdescribed in Notes 7 and 11 to the Consolidated Financial Statementsincluded in Item 1 of Part I to this Quarterly Report on Form 10-Q,the Company has entered into an interest rate swap contract which effectivelyconverts $240.0 million of its variable-rate debt to fixed-rate debt. Theinterest rate swap contract matures on June 29, 2009. Hypothetically, a 1%change in the interest rate affecting all of the Company’s financialinstruments not protected by the interest rate swap contract would changeinterest expense by approximately $1.8 million.

**Foreign CurrencyExchange Rate Risk**

The Company manufactures, markets and distributescertain of its products in Europe, Canada, Latin America and Asia. As a result,the Company’s results of operations could be significantly affected by factorssuch as changes in foreign currency rates in the foreign markets in which theCompany maintains a manufacturing or distribution presence. However, suchcurrency fluctuations have much less effect on local operating results becausethe Company, to a significant extent, sells its products within the countriesin which they are manufactured. During the first six months of both 2007 and2006, certain currencies of countries in which the Company conducts foreigncurrency denominated business moved against the U.S. dollar and had asignificant impact on sales and operating income. See “Management’s Discussionand Analysis of Financial Condition and Results of Operations” included inItem 2 of Part I to this Quarterly Report on Form 10-Q.

The Company has nothistorically hedged its exposure to foreign currency risk. However, in mostforeign operations, there is a partial natural currency hedge due to similaramounts of costs of materials and production as revenues in such localcurrencies. Also, the Company periodically reviews its hedge strategy withrespect to its U.S. dollar exposure on certain foreign currency-basedobligations such as firm commitments related to certain capital expenditureprojects. The Company is also subject to political risk in certain of itsforeign operations and has utilized insurance programs in certain circumstancesto mitigate its political risk.

**Raw Material andCommodity Risks**

The primary raw materials used in the manufacture ofmost of the Company’s products are polypropylene resin, polyester fiber,polyethylene resin, and, to a lesser extent, rayon, tissue paper and cotton.The prices of polypropylene, polyethylene and polyester are a function of,among other things, manufacturing capacity, demand and the price of crude oiland natural gas liquids. The 

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Company has not historicallyhedged its exposure to raw material increases, but has attempted to move morecustomer programs to contracts with price escalation provisions which wouldallow the Company to pass-through any cost increases in raw materials, althoughthere is often a one-quarter lag between the time the Company is required topay the increased raw material price and the time that the Company is able topass the increase on to its customers. Raw material prices as a percentage ofsales have increased from 53.5% in the three months ended July 1, 2006 to54.5% in the three months ended June 30, 2007.

The prices of raw materials in the North Americanmarket rose substantially in the fourth quarter of 2005 as a direct result ofthe hurricanes that impacted the Gulf Coast. The raw material prices in theNorth American markets decreased slightly during fiscal 2006 as the refineriesand chemical processing sites returned to more normal production levels, buthave not returned to their pre-fourth quarter of fiscal 2005 levels. During thefirst six months of fiscal 2007, the North American costs have trended higher.Additionally, on a global basis, raw material costs continue to fluctuate,although in a much narrower range, in response to certain global economicfactors, including regional supply versus demand dynamics for the raw materialsand the volatile price of oil.

To the extent the Company isnot able to pass along price increases of raw materials, or to the extent anysuch price increases are delayed, the Company’s cost of goods sold wouldincrease and its operating profit would correspondingly decrease. By way of example,if the price of polypropylene were to rise $.01 per pound, and the Company wasnot able to pass along any of such increase to its customers, the Company wouldrealize a decrease of approximately $4.0 million, on an annualized basis,in its reported pre-tax operating income. Material increases in raw materialprices that cannot be passed on to customers could have a material adverseeffect on the Company’s results of operations and financial condition. See“Management’s Discussion and Analysis of Financial Condition and Results ofOperations” included in Item 2 of Part I to this Quarterly Report onForm 10-Q.

**ITEM 4. CONTROLSAND PROCEDURES**

Under the direction of our Chief Executive Officer andChief Financial Officer, management has carried out an evaluation of theeffectiveness of the Company’s disclosure controls and procedures, as such itemis defined in Rule 13a-15(e) under the Securities Exchange Actof 1934, as amended (the “Exchange Act”), as of the end of the period coveredby this report. Based on that evaluation, the Chief Executive Officer and ChiefFinancial Officer have concluded that these disclosure controls and procedureswere effective as of June 30, 2007.

There were no changes in the Company’s internalcontrol over financial reporting, as such item is defined in Exchange ActRule 13a-15(f), during the quarter ended June 30, 2007 thathave materially affected, or are reasonably likely to materially affect, theCompany’s internal control over financial reporting.

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**PART II. OTHERINFORMATION**

**ITEM 1. LEGALPROCEEDINGS**

Other than as reported in theCompany’s Form 10-K for the period ended December 30, 2006under the caption “Item 3. Legal Proceedings,” the Company is notcurrently a party to any material pending legal proceedings. See Note 15to the Consolidated Financial Statements included in Item 1 of Part Ito this Quarterly Report of Form 10-Q for additional details.

**ITEM 1A. RISKFACTORS**

The risk factor immediatelyfollowing, which was not included in our 2006 Annual Report on Form 10-K,as amended (“2006 Form 10-K”), is being included herein to provide disclosurerelated to changes in the Company’s risk factors since the Company filed its2006 Form 10-K. See the Company’s 2006 Form 10-K for an expandeddescription of other risks facing the Company.

**The success of ourbusiness depends, in part, on achieving our objectives for strategicacquisitions and dispositions**

The Company may pursue acquisitions or joint venturesas part of its long-term business strategy. These transactions may involvesignificant challenges and risks including that the transaction does notadvance the Company’s business strategy, that the Company doesn’t realize asatisfactory return on the investment made, or that the Company experiencesdifficulty in the integration of new employees, business systems, andtechnology, or diversion of management’s attention from our other businesses.These factors could adversely affect the Company’s operating results orfinancial condition.

The Company may, as part ofits long-term business strategy, evaluate the potential disposition of assetsand businesses that may no longer be in alignment with the Company’s strategicdirection. When the Company decides to sell assets or a business, the Companymay encounter difficulty in finding buyers or alternative exit strategies onacceptable terms in a timely manner, which could delay the accomplishment ofstrategic objectives, or the Company may dispose of a business at a price or onterms, which are less than optimal. In addition, there is a risk that theCompany sells a business whose subsequent performance exceeds expectations, inwhich case the decision would have potentially sacrificed enterprise value.Correspondingly, the Company may be too optimistic about a particularbusiness’s prospects, in which case the Company may be unable to find a buyerat an acceptable price and, therefore, may have potentially sacrificedenterprise value.

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

During the second quarter offiscal 2007, 4,201 shares of the Company’s Class B Common Stock wereconverted into 4,201 shares of the Company’s Class A Common Stock.These conversions were exempt from registration based on Section 3(a)(9) ofthe Securities Act of 1933.

**ITEM 3. DEFAULTSUPON SENIOR SECURITIES**

Not applicable.

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**ITEM 4. SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS**

The Shareholders of the Company at their Annual Meeting held on May 24,2007, considered and voted to adopt and approve the following matters (thenumbers below represent shares of Class A, B and C Common Stock):

The election of nine (9) directorsfor one-year terms or until their successors are duly elected and qualified:

| **Name of Director** | ** ** | ** ** | ** ** | **Votes in Favor** | ** ** | **Votes Withheld** | ** ** |
|--------------------------------|------------|------------|------------|------------------------------|------------|-------------------------|------------|
| Pedro A. Arias                 |       |       | 18,010,558 |                         |       |                    | 50,199     |   |   |
| Ramon Betolaza                 |       |       | 17,520,392 |                         |       |                    | 540,365    |   |   |
| Lap Wai Chan                   |       |       | 17,520,392 |                         |       |                    | 540,365    |   |   |
| Veronica Hagen                 |       |       | 17,520,390 |                         |       |                    | 540,367    |   |   |
| William B. Hewitt              |       |       | 17,520,389 |                         |       |                    | 540,368    |   |   |
| Eugene Linden                  |       |       | 18,016,524 |                         |       |                    | 44,233     |   |   |
| James A. Ovenden               |       |       | 18,017,190 |                         |       |                    | 43,567     |   |   |
| Mark Patterson                 |       |       | 17,520,389 |                         |       |                    | 540,368    |   |   |
| Charles E. Volpe               |       |       | 18,017,192 |                         |       |                    | 43,565     |   |   |

 

**ITEM 5. OTHERINFORMATION**

(a)           On August 6, 2007,the Company announced the filing of a registration statement on Form S-3with the Securities and Exchange Commission for secondary sale of Class A CommonStock. A copy of the press release is furnished as Exhibit 99.1 hereto.

(b)          OnAugust 8, 2007, the Company issued a press release announcing its financialresults for the second quarter and six months ended June 30, 2007. A copyof the press release is furnished as Exhibit 99.2 hereto.

**ITEM 6. EXHIBITS**

Exhibits required to be filedwith this Form 10-Q are listed below:

| Exhibit  Number | ** ** | ** **                                                                                                                                               | **Document Description** | ** ** |
|-----------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------|--------------------------|------------|
| 31.1            |       | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                            |
| 31.2            |       | Certification of Chief Financial Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                            |
| 32.1            |       | Certification by the Chief Executive Officer  pursuant to 18 U.S.C. Section 1350                                                                    |
| 32.2            |       | Certification by the Chief Financial Officer  pursuant to 18 U.S.C. Section 1350                                                                    |
| 99.1            |       | Press release dated August 6, 2007 announcing  the filing of a registration statement on Form S-3 with the  Securities and Exchange Commission |
| 99.2            |       | Press release dated August 9, 2007 reporting  financial results for the second quarter and six months of fiscal 2007                           |

 

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**SIGNATURES**

Pursuant to the requirementsof the Securities Exchange Act of 1934, the registrant has duly caused thisreport to be signed on its behalf by the undersigned thereunto duly authorized.

|                           |     | POLYMER  GROUP, INC. |
|---------------------------|----------|---------------------------|
|                      |     |                      |   |   |
|                      |     |                      |   |   |
|                      |     |                      |   |   |
| Date: August 9, 2007 |     | By:                       |   | /s/ VERONICA M. HAGEN |
| * *                  |     |                      |   | Veronica M. Hagen |
| * *                  | * * | * *                  | * * | *Chief  Executive Officer* |
| * *                  | * * | * *                  | * * | * * |
| * *                  | * * | * *                  | * * | * * |
| Date: August 9, 2007 |     | By:                       |   | /s/ WILLIS C. MOORE, III |
| * *                  | * * | * *                  |   | Willis C.  Moore, III |
| * *                  | * * | * *                  | * * | *Chief  Financial Officer* |

 

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