**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, 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 periodended October 2, 2004

| o | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|---|------------|-------------------------------------------------------------------------------------------------------------------|

 

For the transition periodfrom               to

**Commission file number: 1-14330**

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POLYMER GROUP, INC.

**(Exact name of registrant asspecified in its charter)**

| **Delaware******(State or other jurisdiction of   incorporation or organization)                                     | ** ** | **57-1003983**(I.R.S. Employer Identification No.) |
|----------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------|
| **4055 Faber Place Drive, Suite 201  North Charleston, South Carolina**(Address of principal executive offices) | ** ** | **29405**(Zip Code)                                |

 

**Registrant’s telephone number, including area code:**(843) 329-5151

Indicate by check markwhether the 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 periodthat the registrant was required to file such reports), and (2) has beensubject to the filing requirements for the past 90 days. Yes x  No o

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2of the Exchange Act) Yes o   No x

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

On November 5, 2004there were 10,053,027 shares of Class A common stock, 270,783 sharesof Class B common stock and 54,251 shares of Class C commonstock outstanding. No shares of Class D or Class E common stock were outstanding asof such date. The par value for each class of common shares is $.01 pershare.

 

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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 |       | 24       |
| Item  3.                                        |       | Quantitative  and Qualitative Disclosures About Market Risk                                  |       | 36       |
| Item 4.                                         |       | Controls and Procedures                                                                      |       | 37       |
| **PART II. OTHER  INFORMATION**            |       |                                                                                         |
| Item 1.                                         |       | Legal Proceedings                                                                            |       | 38       |
| Item 2.                                         |       | Unregistered Sales of Equity Securities and Use  of Proceeds                                 |       | 38       |
| Item 3.                                         |       | Defaults Upon  Senior Securities                                                             |       | 38       |
| Item  4.                                        |       | Submission  of Matters To a Vote of Security Holders                                         |       | 38       |
| Item 5.                                         |       | Other Information                                                                            |       | 38       |
| Item 6.                                         |       | Exhibits                                                                                     |       | 38       |
| Signatures                                      |       | 39                                                                                           |

 

1

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**IMPORTANTINFORMATION REGARDING THIS FORM **10-Q

Readers should considerthe following information as they review this Form 10-Q:

**Safe Harbor-Forward-Looking Statements**

From time to time, the Company may publish forward-lookingstatements relative to matters such as, including, without limitation,anticipated financial performance, business prospects, technologicaldevelopments, new products, research and development activities and similarmatters. The Private Securities Litigation Reform Act of 1995 provides a safeharbor for forward-looking statements. Forward-looking statementsare generally accompanied by words such as “estimate,” “project,” “predict,” “believe,”“expect,” “anticipate” or other words that convey the uncertainty of futureevents or outcomes.

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 of 1933, as amended, and Section 21Eof the Securities Exchange Act of 1934, asamended. These forward-looking statements speak only asof the date of this report. Unless required by law, the Company does notundertake any obligation to update these statements and cautions against anyundue reliance on them. These forward-looking statements are based oncurrent expectations and assumptions about future events. While managementconsiders these expectations and assumptions to be reasonable, they areinherently subject to significant business, economic, competitive, regulatoryand other risks, contingencies and uncertainties, most of which are difficultto predict and many of which are beyond the Company’s control.

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;

·                    costand availability of raw materials, labor and natural and other resources and the inability to pass raw material costincreases along to customers;

·                    domesticand foreign competition;

·                    relianceon major customers and suppliers; and

·                    risksrelating to operations in foreign jurisdictions.

2

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**ITEM 1. FINANCIAL STATEMENTS**

**POLYMER GROUP, INC.CONSOLIDATED BALANCE SHEETS(In Thousands, Except Share Data)**
| ** **                                                                                                                                                    | ** ** | **October 2,  2004** | ** ** | ** January 3,   2004** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------|------------|---------------------------------------|------------|
| ** **                                                                                                                                                    | ** ** | **(Unaudited)**           | ** ** | ** **                            | ** ** |
| **ASSETS**                                                                                                                                                    |       |                      |       |                                  |       |   |   |   |   |
| Current assets:                                                                                                                                               |       |                      |       |                                  |       |   |   |   |   |
| Cash and cash equivalents                                                                                                                                     |       |                      | $          | 29,553                                |       |   |   | $ | 21,336 |   |   |
| Accounts receivable, net                                                                                                                                      |       |                      | 128,473    |                                  |       |   | 121,146 |   |   |
| Inventories                                                                                                                                                   |       |                      | 99,797     |                                  |       |   | 96,513 |   |   |
| Deferred income taxes                                                                                                                                         |       |                      | 266        |                                  |       |   | 143 |   |   |
| Other current assets                                                                                                                                          |       |                      | 20,187     |                                  |       |   | 20,554 |   |   |
| Total current assets                                                                                                                                          |       |                      | 278,276    |                                  |       |   | 259,692 |   |   |
| Property, plant and equipment, net                                                                                                                            |       |                      | 393,110    |                                  |       |   | 416,508 |   |   |
| Intangibles and loan acquisition costs, net                                                                                                                   |       |                      | 57,171     |                                  |       |   | 33,560 |   |   |
| Deferred income taxes                                                                                                                                         |       |                      | 2,370      |                                  |       |   | 2,335 |   |   |
| Other assets                                                                                                                                                  |       |                      | 3,925      |                                  |       |   | 6,967 |   |   |
| Total assets                                                                                                                                                  |       |                      | $          | 734,852                               |       |   |   | $ | 719,062 |   |   |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                                                 |       |                      |       |                                  |       |   |   |   |   |
| Current liabilities:                                                                                                                                          |       |                      |       |                                  |       |   |   |   |   |
| Short-term borrowings                                                                                                                                         |       |                      | $          | 5,831                                 |       |   |   | $ | 8,454 |   |   |
| Accounts payable                                                                                                                                              |       |                      | 58,622     |                                  |       |   | 57,091 |   |   |
| Accrued liabilities                                                                                                                                           |       |                      | 31,390     |                                  |       |   | 39,850 |   |   |
| Income taxes payable                                                                                                                                          |       |                      | 1,083      |                                  |       |   | 1,190 |   |   |
| Current portion of long-term debt                                                                                                                             |       |                      | 4,045      |                                  |       |   | 34,001 |   |   |
| Total current liabilities                                                                                                                                     |       |                      | 100,971    |                                  |       |   | 140,586 |   |   |
| Long-term debt, less current portion                                                                                                                          |       |                      | 416,301    |                                  |       |   | 440,992 |   |   |
| Deferred income taxes                                                                                                                                         |       |                      | 55,627     |                                  |       |   | 28,711 |   |   |
| Other noncurrent liabilities                                                                                                                                  |       |                      | 34,034     |                                  |       |   | 35,422 |   |   |
| Total liabilities                                                                                                                                             |       |                      | 606,933    |                                  |       |   | 645,711 |   |   |
| Minority interests                                                                                                                                            |       |                      | 15,610     |                                  |       |   | 14,151 |   |   |
| 16% Series A convertible pay-in-kind preferred  shares—52,716 shares issued and outstanding at October 2, 2004                                 |       |                      | 55,944     |                                  |       |   | — |   |   |
| Shareholders’  equity:                                                                                                                                   |       |                      |       |                                  |       |   |   |   |   |
| Class A common stock—10,053,027 and 8,228,425  shares issued and outstanding at October 2, 2004 and January 3,  2004, respectively        |       |                      | 100        |                                  |       |   | 82 |   |   |
| Class B convertible common stock—270,783 and  389,977 shares issued and outstanding at October 2, 2004 and  January 3, 2004, respectively |       |                      | 3          |                                  |       |   | 4 |   |   |
| Class C convertible common stock—54,251 and  34,892 shares issued and outstanding at October 2, 2004 and  January 3, 2004, respectively   |       |                      | 1          |                                  |       |   | — |   |   |
| Class D convertible common stock—0 shares issued  and outstanding                                                                                   |       |                      | —     |                                  |       |   | — |   |   |
| Class E convertible common stock—0 shares issued  and outstanding                                                                                   |       |                      | —     |                                  |       |   | — |   |   |
| Additional paid in capital                                                                                                                                    |       |                      | 76,473     |                                  |       |   | 73,304 |   |   |
| Retained earnings (deficit)                                                                                                                                   |       |                      | (39,852    | )                                     |       |   | (32,987 | ) |   |
| Accumulated other comprehensive income                                                                                                                        |       |                      | 19,640     |                                  |       |   | 18,797 |   |   |
| Total shareholders’ equity                                                                                                                               |       |                      | 56,365     |                                  |       |   | 59,200 |   |   |
| Total liabilities  and shareholders’ equity                                                                                                              |       |                      | $          | 734,852                               |       |   |   | $ | 719,062 |   |   |

 

See Accompanying Notes.

3

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**POLYMER GROUP, INC.CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)Three Months Ended October 2, 2004 and September 27, 2003(In Thousands, Except Per Share Data)**
| ** **                                            | ** ** | **Successor**                                           | ** ** |
|-------------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                                            | ** ** | **Three Months  Ended  October 2, 2004** | ** ** | **Three Months  Ended  September 27, 2003** | ** ** |
| Net sales                                             |       |                                                    | $          | 205,066 |   |   |   | $ | 185,063 |   |   |
| Cost of goods  sold                                   |       |                                                    | 169,018    |   |   |   | 152,207 |   |   |
| Gross profit                                          |       |                                                    | 36,048     |   |   |   | 32,856 |   |   |
| Selling, general  and administrative expenses         |       |                                                    | 23,075     |   |   |   | 21,479 |   |   |
| Plant realignment  costs                              |       |                                                    | 222        |   |   |   | 1,235 |   |   |
| Asset impairment  charges                             |       |                                                    | 1,710      |   |   |   | — |   |   |
| Arbitration  settlement, net                          |       |                                                    | 282        |   |   |   | — |   |   |
| Operating income                                      |       |                                                    | 10,759     |   |   |   | 10,142 |   |   |
| Other expense (income):                               |       |                                                    |       |   |   |   |   |   |   |
| Interest expense, net                                 |       |                                                    | 7,783      |   |   |   | 14,409 |   |   |
| Investment gain, net                                  |       |                                                    | —     |   |   |   | (3 | ) |   |
| Minority interests                                    |       |                                                    | 415        |   |   |   | 510 |   |   |
| Foreign currency and other                            |       |                                                    | 1,105      |   |   |   | 2,530 |   |   |
|                                                  |       |                                                    | 9,303      |   |   |   | 17,446 |   |   |
| Income (loss)  before income tax expense              |       |                                                    | 1,456      |   |   |   | (7,304 | ) |   |
| Income tax  expense (benefit)                         |       |                                                    | 2,052      |   |   |   | (40 | ) |   |
| Net income (loss)                                     |       |                                                    | (596       | ) |   |   | (7,264 | ) |   |
| Accrued dividends  on PIK preferred shares            |       |                                                    | 1,953      |   |   |   | — |   |   |
| Earnings (losses)  applicable to common  shareholders |       |                                                    | $          | (2,549 | ) |   |   | $ | (7,264 | ) |   |
| Net earnings (losses) per common share:               |       |                                                    |       |   |   |   |   |   |   |
| Basic                                                 |       |                                                    | $          | (0.25 | ) |   |   | $ | (0.84 | ) |   |
| Diluted                                               |       |                                                    | $          | (0.25 | ) |   |   | $ | (0.84 | ) |   |

 

See Accompanying Notes.

4

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**POLYMER GROUP, INC.**

**CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)**

**Nine Months EndedOctober 2, 2004,Seven Months Ended September 27, 2003 andTwo Months Ended March 1, 2003**

**(InThousands, Except Per Share Data)**
| ** **                                                                                           | ** ** | **Successor**                                          | ** ** | **Predecessor**                                            | ** ** |
|------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                                                                                           | ** ** | **Nine Months  Ended  October 2, 2004** | ** ** | **Seven Months  Ended  September 27, 2003** | ** ** | **Two Months  Ended  March 1, 2003** | ** ** |
| Net sales                                                                                            |       |                                                   | $          | 622,400                                                    |       |   |   | $ | 447,887 |   |   |   | $ | 132,909 |   |   |
| Cost of goods  sold                                                                                  |       |                                                   | 510,905    |                                                       |       |   | 369,875 |   |   |   | 111,075 |   |   |
| Gross profit                                                                                         |       |                                                   | 111,495    |                                                       |       |   | 78,012 |   |   |   | 21,834 |   |   |
| Selling, general  and administrative expenses                                                        |       |                                                   | 74,837     |                                                       |       |   | 54,346 |   |   |   | 16,004 |   |   |
| Plant realignment  costs                                                                             |       |                                                   | 1,463      |                                                       |       |   | 3,651 |   |   |   | 4 |   |   |
| Asset impairment  charges                                                                            |       |                                                   | 1,710      |                                                       |       |   | — |   |   |   | — |   |   |
| Arbitration  settlement, net                                                                         |       |                                                   | (13,112    | )                                                          |       |   | — |   |   |   | — |   |   |
| Operating income                                                                                     |       |                                                   | 46,597     |                                                       |       |   | 20,015 |   |   |   | 5,826 |   |   |
| Other expense (income):                                                                              |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Interest expense, net (contractual interest of  $20,306 for the two months ended March 1, 2003) |       |                                                   | 32,317     |                                                       |       |   | 33,131 |   |   |   | 10,665 |   |   |
| Investment gain, net                                                                                 |       |                                                   | —     |                                                       |       |   | (3 | ) |   |   | (291 | ) |   |
| Minority interests                                                                                   |       |                                                   | 1,522      |                                                       |       |   | 1,249 |   |   |   | 441 |   |   |
| Foreign currency and other                                                                           |       |                                                   | 8,222      |                                                       |       |   | 1,680 |   |   |   | 1,434 |   |   |
|                                                                                                 |       |                                                   | 42,061     |                                                       |       |   | 36,057 |   |   |   | 12,249 |   |   |
| Income (loss)  before reorganization items and income taxes                                          |       |                                                   | 4,536      |                                                       |       |   | (16,042 | ) |   |   | (6,423 | ) |   |
| Reorganization  items, net gain                                                                      |       |                                                   | —     |                                                       |       |   | — |   |   |   | (540,479 | ) |   |
| Income (loss)  before income tax expense                                                             |       |                                                   | 4,536      |                                                       |       |   | (16,042 | ) |   |   | 534,056 |   |   |
| Income tax  expense                                                                                  |       |                                                   | 8,177      |                                                       |       |   | 3,686 |   |   |   | 1,692 |   |   |
| Net income (loss)                                                                                    |       |                                                   | (3,641     | )                                                          |       |   | (19,728 | ) |   |   | 532,364 |   |   |
| Accrued dividends  on PIK preferred shares                                                           |       |                                                   | 3,224      |                                                       |       |   | — |   |   |   | — |   |   |
| Earnings (losses)  applicable to common  shareholders                                                |       |                                                   | $          | (6,865                                                     | )          |   |   | $ | (19,728 | ) |   |   | $ | 532,364 |   |   |
| Net earnings (losses) per common share:                                                              |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Basic                                                                                                |       |                                                   | $          | (0.71                                                      | )          |   |   | $ | (2.28 | ) |   |   | $ | 16.63 |   |   |
| Diluted                                                                                              |       |                                                   | $          | (0.71                                                      | )          |   |   | $ | (2.28 | ) |   |   | $ | 16.63 |   |   |

 

See Accompanying Notes.

5

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**POLYMER GROUP, INC.CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’EQUITY AND COMPREHENSIVE INCOME (LOSS) (Unaudited)For the Nine Months Ended October 2, 2004(In Thousands)**
| ** **                                                                                        | ** ** | ** ** | ** ** | ** **     | ** ** | ** **    | ** ** | **Accumulated**   | ** ** | ** ** | ** ** | ** ** | ** **        | ** ** |
|---------------------------------------------------------------------------------------------------|------------|------------|------------|----------------|------------|---------------|------------|-------------------|------------|------------|------------|------------|-------------------|------------|
| ** **                                                                                        | ** ** | ** ** | ** ** | ** **     | ** ** | ** **    | ** ** | **Other**         | ** ** | ** ** | ** ** | ** ** | ** **        | ** ** |
| ** **                                                                                        | ** ** | ** ** | ** ** | **Additional** | ** ** | **Retained**  | ** ** | **Comprehensive** | ** ** | ** ** | ** ** | ** ** | ** **        | ** ** |
| ** **                                                                                        | ** ** | **Common** | ** ** | **Paid-in**    | ** ** | **Earnings/** | ** ** | **Income/**       | ** ** | ** ** | ** ** | ** ** | **Comprehensive** | ** ** |
| ** **                                                                                        | ** ** | **Stock**  | ** ** | **Capital**    | ** ** | **(Deficit)** | ** ** | **(Loss)**        | ** ** | **Total**  | ** ** | ** ** | **Income/(Loss)** | ** ** |
| Balance,  January 3, 2004, audited                                                           |       |       | $          | 86             |       |          | $          | 73,304            |       | $          | (32,987    | )          |              | $          | 18,797 |   |   | $ | 59,200 |   |   |   |   |   |   |
| Net income (loss)                                                                                 |       |       | —     |           |       | —        |       | (3,641            | )          |       | —     |       |              | (3,641     | ) |   |   | $ | (3,641 | ) |   |
| Accrued dividends  on PIK preferred shares                                                        |       |       | —     |           |       | —        |       | (3,224            | )          |       | —     |       |              | (3,224     | ) |   |   | — |   |   |
| Currency  translation adjustment                                                                  |       |       | —     |           |       | —        |       | —            |       |       | 2,368      |       |              | 2,368      |   |   |   | 2,368 |   |   |
| Cash flow hedge  adjustment, net of reclassification adjustment                              |       |       | —     |           |       | —        |       | —            |       |       | (1,525     | )          |              | (1,525     | ) |   |   | (1,525 | ) |   |
| Compensation  recognized on stock options and restricted stock grants                             |       |       | —     |           |       | 431           |       | —            |       |       | —     |       |              | 431        |   |   |   | — |   |   |
| Class A and  Class C common stock issued under order of United States Bankruptcy  Court |       |       | 14         |           |       | (14           | )          | —            |       |       | —     |       |              | —     |   |   |   | — |   |   |
| Conversion of  junior notes to Class A common stock                                          |       |       | 4          |           |       | 2,752         |       | —            |       |       | —     |       |              | 2,756      |   |   |   | — |   |   |
| Balance,  October 2, 2004                                                                    |       |       | $          | 104            |       |          | $          | 76,473            |       | $          | (39,852    | )          |              | $          | 19,640 |   |   | $ | 56,365 |   |   |   | $ | (2,798 | ) |   |

 

See Accompanying Notes.

6

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**POLYMER GROUP, INC.CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)(In Thousands)**
| ** **                                                                                           | ** ** | **Successor**                                          | ** ** | **Predecessor**                                            | ** ** |
|------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                                                                                           | ** ** | **Nine Months  Ended  October 2, 2004** | ** ** | **Seven Months  Ended  September 27, 2003** | ** ** | **Two Months  Ended  March 1, 2003** | ** ** |
| Operating activities:                                                                                |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Net income (loss)                                                                                    |       |                                                   | $          | (3,641                                                     | )          |   |   | $ | (19,728 | ) |   |   | $ | 532,364 |   |   |
| Adjustments to  reconcile net income (loss) to net cash provided by (used in) operating  activities: |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Gain on investments                                                                                  |       |                                                   | —     |                                                       |       |   | (3 | ) |   |   | (291 | ) |   |
| Gain on cancellation of prepetition indebtedness                                                     |       |                                                   | —     |                                                       |       |   | — |   |   |   | (619,913 | ) |   |
| Deferred income taxes                                                                                |       |                                                   | 1,074      |                                                       |       |   | — |   |   |   | 3,010 |   |   |
| Fresh start adjustments                                                                              |       |                                                   | —     |                                                       |       |   | — |   |   |   | 47,460 |   |   |
| Write-off of loan acquisition costs                                                                  |       |                                                   | 5,022      |                                                       |       |   | — |   |   |   | 10,217 |   |   |
| Asset impairment charges                                                                             |       |                                                   | 1,710      |                                                       |       |   | — |   |   |   | — |   |   |
| Depreciation and amortization                                                                        |       |                                                   | 39,547     |                                                       |       |   | 27,676 |   |   |   | 8,812 |   |   |
| Noncash interest and compensation                                                                    |       |                                                   | 2,190      |                                                       |       |   | 1,368 |   |   |   | — |   |   |
| Changes in  operating assets and liabilities, net of effect of acquisitions:                         |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Accounts receivable, net                                                                             |       |                                                   | (7,454     | )                                                          |       |   | 7,994 |   |   |   | (8,195 | ) |   |
| Inventories                                                                                          |       |                                                   | (3,484     | )                                                          |       |   | 20,250 |   |   |   | (887 | ) |   |
| Other current assets                                                                                 |       |                                                   | 367        |                                                       |       |   | (5,288 | ) |   |   | 6,675 |   |   |
| Accounts payable and accrued liabilities                                                             |       |                                                   | (3,525     | )                                                          |       |   | (12,737 | ) |   |   | 13,027 |   |   |
| Other, net                                                                                           |       |                                                   | 4,480      |                                                       |       |   | 3,706 |   |   |   | (5,180 | ) |   |
| Net cash provided by (used in)  operating activities                                                 |       |                                                   | 36,286     |                                                       |       |   | 23,238 |   |   |   | (12,901 | ) |   |
| Investing activities:                                                                                |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Purchases of property, plant and equipment                                                           |       |                                                   | (13,206    | )                                                          |       |   | (22,209 | ) |   |   | (3,062 | ) |   |
| Proceeds from sale of marketable securities                                                          |       |                                                   | —     |                                                       |       |   | — |   |   |   | 11,867 |   |   |
| Proceeds from sale of other assets                                                                   |       |                                                   | 783        |                                                       |       |   | 2,766 |   |   |   | — |   |   |
| Other, net                                                                                           |       |                                                   | —     |                                                       |       |   | 3 |   |   |   | 15 |   |   |
| Net cash provided by (used in) investing activities                                                  |       |                                                   | (12,423    | )                                                          |       |   | (19,440 | ) |   |   | 8,820 |   |   |
| Financing activities:                                                                                |       |                                                   |       |                                                       |       |   |   |   |   |   |   |   |   |
| Proceeds from issuance of debt                                                                       |       |                                                   | 485,217    |                                                       |       |   | 9,718 |   |   |   | 535,310 |   |   |
| Repayment of debt                                                                                    |       |                                                   | (488,770   | )                                                          |       |   | (15,739 | ) |   |   | (549,031 | ) |   |
| Loan acquisition costs and other                                                                     |       |                                                   | (12,051    | )                                                          |       |   | (821 | ) |   |   | (948 | ) |   |
| Net cash provided by (used in)  financing activities                                                 |       |                                                   | (15,604    | )                                                          |       |   | (6,842 | ) |   |   | (14,669 | ) |   |
| Effect of  exchange rate change on cash                                                              |       |                                                   | (42        | )                                                          |       |   | 883 |   |   |   | 4,632 |   |   |
| Net increase  (decrease) in cash and cash equivalents                                                |       |                                                   | 8,217      |                                                       |       |   | (2,161 | ) |   |   | (14,118 | ) |   |
| Cash and cash  equivalents at beginning of period                                                    |       |                                                   | 21,336     |                                                       |       |   | 31,783 |   |   |   | 45,901 |   |   |
| Cash and cash  equivalents at end of period                                                          |       |                                                   | $          | 29,553                                                     |       |   |   | $ | 29,622 |   |   |   | $ | 31,783 |   |   |

 

See Accompanying Notes.

7

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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. (which together with itssubsidiaries is referred to herein as the Company) is a publicly-traded,multinational manufacturer, marketer and seller of nonwoven and orientedpolyolefin products. The Company’s main sources of revenue are the sales ofprimary and intermediate products to the Consumer and Industrial &Specialty segments.

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 three months or less prior to the dates ofthe consolidated balance sheets. All amounts are presented in U.S. dollars,unless otherwise noted. Investments in 20% to 50% owned affiliates where theCompany is able to exercise significant influence, but not control, areaccounted for by the equity method and, accordingly, the consolidated resultsof operations include the Company’s share of the affiliates’ income or loss.

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 for theperiod ended January 3, 2004. In the judgment of management, theseunaudited interim consolidated financial statements include all adjustments ofa normal recurring nature and accruals necessary for a fair presentation ofsuch statements.

*Basis ofPresentation*

After extensivereorganization efforts, the Company and each of its domestic subsidiaries filedvoluntary petitions for Chapter 11 reorganization under the United StatesBankruptcy Code in the South Carolina Bankruptcy Court on May 11, 2002 (April 25,2002 as to Bonlam (S.C.), Inc.). In its efforts to emerge from Chapter 11,the Company filed a Modified Plan (as defined) on November 27, 2002 thatwas approved by the Bankruptcy Court on January 16, 2003 and, accordingly,the Company emerged from Chapter 11 effective March 5, 2003 (the “EffectiveDate”). For accounting purposes the Company recognized the emergence on March 1,2003, which was the end of the February 2003 accounting period. TheCompany adopted “fresh-start accounting” as of March 1, 2003, andthe Company’s emergence from Chapter 11 resulted in a new reporting entity. Thereorganization value of the Company has been allocated to the underlying assetsand liabilities based on their respective fair values at the date of emergence.References to “Predecessor” refer to the old Polymer Group and its subsidiarieson and prior to March 1, 2003, and references to “Successor” refer toPolymer Group and its subsidiaries as of and subsequent to March 2, 2003,after giving effect to the implementation of fresh start accounting. Inaccordance with financial reporting requirements for companies emerging from Chapter 11,financial information for the nine months ended September 27, 2003 is not presented in theconsolidated financial statements since such information would combine theresults of the Predecessor and Successor.

*Reclassification*

Certain amounts previouslypresented in the consolidated financial statements for prior periods have beenreclassified to conform with current period classification.

8

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

*New AccountingPronouncements*

In January 2003, the Financial AccountingStandards Board (“FASB”) released Interpretation No. 46, “Consolidation ofVariable Interest Entities (revised December 2003)” (“FIN 46”). FIN 46requires that all primary beneficiaries of variable interest entities (“VIE’s”)consolidate that entity. The provisions of FIN 46 related to VIE’s created or acquired after January 31,2003 were effective and adopted by the Company in fiscal year 2003. Theprovisions of FIN 46 related to VIE’s in which an enterprise holds an interestit acquired before February 1, 2003 were effective for the Company in thefirst quarter of fiscal 2004. The Company has determined that it does not haveany relationships or contracts that constitute a variable interest.

In May 2003, the FASBissued Statement of Financial Accounting Standards (“SFAS”) No. 150, “Accountingfor Certain Financial Instruments with Characteristics of both Liabilities andEquity.”  SFAS No. 150 requires thatcertain financial instruments, which under previous guidance could be accountedfor as equity, be classified as liabilities in the statement of financialposition. SFAS No. 150 is effective for financial instruments entered intoor modified after May 31, 2003. The Company has determined that it doesnot have any financial instruments that are within the scope of SFAS No. 150.

**Note 2.**   AccountsReceivable and Concentration of Credit Risks

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 doesnot require 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. Once management determines that thereceivables are not recoverable, the amounts are removed from the financialrecords along with the corresponding reserve balance. The allowance fordoubtful accounts was approximately $12.6 million and $13.6 million at October 2,2004 and January 3, 2004, respectively, which management believes isadequate to provide for credit loss in the normal course of business, as wellas losses for customers who have filed for protection under bankruptcy laws.Several of the individual customer balances specifically provided for in theallowance for doubtful accounts have improved their payment trend and reportedimproving financial results. Accordingly, the Company recorded a reduction inthe provision for doubtful accounts of $1.0 million during the nine monthsended October 2, 2004.

In the first nine monthsof 2004 and 2003, The Procter & Gamble Company (“P&G”) accountedfor approximately 12% and 13%, respectively, of the Company’s sales.

9

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

**Note 3.**   Inventories

Inventoriesare stated at the lower of cost or market using the first-in, first-out methodof accounting and consist of the following (in thousands):
| ** **      | ** ** | **October 2,  2004** | ** ** | **January 3,  2004** | ** ** |
|-----------------|------------|---------------------------|------------|---------------------------|------------|
| ** **      | ** ** | **(Unaudited)**           | ** ** | ** **                | ** ** |
| Finished goods  |       |                      | $          | 47,827                    |       |   | $ | 47,288 |   |
| Work in process |       |                      | 15,420     |                      |       | 16,579 |   |
| Raw materials   |       |                      | 36,550     |                      |       | 32,646 |   |
|            |       |                      | $          | 99,797                    |       |   | $ | 96,513 |   |

 

**Note 4.**   BusinessRestructuring

In 2003, the Company implemented a businessrestructuring initiative. This initiative encompassed a reduction in workingcapital levels and operating cost reductions through: (i) reducingheadcount at both the plant and corporate levels; (ii) improvingmanufacturing productivity and reducing component costs; (iii) implementingglobal purchasing initiatives; and (iv) rationalizing certain assetsand/or businesses. Approximately 230 positions were eliminated in fiscal 2003.

Accruedcosts for restructuring efforts are included in accrued liabilities in theaccompanying balance sheet. A summary of the business restructuring activity duringthe first nine months of fiscal 2004 is presented in the following table (inthousands):
| Balance accrued  at beginning of year |   | $      | 4,564  |   |
|---------------------------------------|--------|--------|--------|--------|
|                                  |   |   |   |
| 2004 plant  realignment costs         |   | 1,463  |   |
| Cash payments                         |   | (4,707 | )      |
| Adjustments                           |   | 39     |   |
| Balance accrued at end  of period     |   | $      | 1,359  |   |

 

In December 2003, theCompany made the business decision to discontinue one of its production linesin the European operations. Accordingly, in addition to certain costs recordedin 2003, plant realignment costs of $1.2 million, which include severance andother cash costs, were charged to the results of operations in the first ninemonths of 2004. Also, the Company decided to close certain lines in itsCanadian operations in July 2004 and charged plant realignment costs of$0.3 million for estimated severance and other cash costs. In conjunction with this closing, the Company recordedan asset impairment charge of $1.7 million, which included the writedown of theaffected lines to estimated net realizable value.

10

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

**Note 5.**   Intangiblesand Loan Acquisition Costs

Intangiblesand loan acquisition costs consist of the following (in thousands):
| ** **                       | ** ** | **October 2,** | ** ** | **January 3,** | ** ** |
|----------------------------------|------------|---------------------|------------|---------------------|------------|
| ** **                       | ** ** | **2004**            | ** ** | **2004**            | ** ** |
| ** **                       | ** ** | **(Unaudited)**     | ** ** | ** **          | ** ** |
| Cost:                            |       |                |       |                |       |   |   |
| Proprietary technology           |       |                | $          | 26,596              |       |   | $ | 26,533 |   |
| Goodwill                         |       |                | 22,351     |                |       | — |   |
| Loan acquisition costs and other |       |                | 18,440     |                |       | 13,534 |   |
|                             |       |                | 67,387     |                |       | 40,067 |   |
| Less accumulated  amortization   |       |                | (10,216    | )                   |       | (6,507 | ) |
|                             |       |                | $          | 57,171              |       |   | $ | 33,560 |   |

 

Componentsof amortization expense are shown in the table below (in thousands):
| ** **                                                                               | ** ** | **Successor**       | ** ** | **Predecessor**        | ** ** |
|------------------------------------------------------------------------------------------|------------|---------------------|------------|------------------------|------------|
| ** **                                                                               | ** ** | **Three**           | ** ** | **Three**              | ** ** | **Nine** | ** ** | **Seven** | ** ** | **Two** | ** ** |
| ** **                                                                               | ** ** | **Months**          | ** ** | **Months**             | ** ** | **Months** | ** ** | **Months** | ** ** | **Months** | ** ** |
| ** **                                                                               | ** ** | **Ended**           | ** ** | **Ended**              | ** ** | **Ended** | ** ** | **Ended** | ** ** | **Ended** | ** ** |
| ** **                                                                               | ** ** | **October 2,** | ** ** | **September 27,** | ** ** | **October 2,** | ** ** | **September 27,** | ** ** | **March 1,** | ** ** |
| ** **                                                                               | ** ** | **2004**            | ** ** | **2003**               | ** ** | **2004** | ** ** | **2003** | ** ** | **2003** | ** ** |
| Amortization of:                                                                         |       |                |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Intangibles with finite lives, included in selling,  general and administrative expenses |       |                | $          | 1,428                  |       |   |   | $ | 1,783 |   |   |   | $ | 4,314 |   |   |   | $ | 3,756 |   |   |   | $ | 220 |   |   |
| Loan acquisition costs included in interest expense,  net                                |       |                | 486        |                   |       |   | 504 |   |   |   | 1,456 |   |   |   | 1,135 |   |   |   | 1,425 |   |   |
| Total  amortization expense                                                              |       |                | $          | 1,914                  |       |   |   | $ | 2,287 |   |   |   | $ | 5,770 |   |   |   | $ | 4,891 |   |   |   | $ | 1,645 |   |   |

 

Intangibles are amortized over periods ranging from 2to 7 years. Loan acquisition costs are amortized over the life of therelated debt.

As further described inNote 8 of the Consolidated Financial Statements, during the third quarterof fiscal 2004, the Company recorded goodwill of $22.4 million related tothe allocation of the reorganization value to the underlying assets andliabilities as of the Effective Date. Such goodwill is not amortizable, but issubject to tests of impairment at least annually.

In conjunction with therefinancing of the Restructured Credit Facility on April 27, 2004, theCompany charged the unamortized balance of the loan acquisition costs relatedto that debt of $5.0 million to *Foreign currency and other*in April 2004. Additionally, with the issuance of the new Senior SecuredBank Facility, the Company capitalized approximately $12.0 million of loanacquisition costs, which were primarily bank arrangement and legal fees; these fees are being amortized over the relatedloan term.

11

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

**Note 6.**   AccruedLiabilities

Accruedliabilities consist of the following (in thousands):
| ** **                           | ** ** | **October 2,** | ** ** | ** January 3, ** | ** ** |
|--------------------------------------|------------|---------------------|------------|---------------------------------|------------|
| ** **                           | ** ** | **2004**            | ** ** | **2004**                        | ** ** |
| ** **                           | ** ** | **(Unaudited)**     | ** ** | ** **                      | ** ** |
| Salaries, wages  and fringe benefits |       |                | $          | 15,425                          |       |   |   | $ | 15,443 |   |   |
| Professional fees                    |       |                | 2,294      |                            |       |   | 4,074 |   |   |
| Sales commissions  and promotions    |       |                | 2,241      |                            |       |   | 2,070 |   |   |
| Restructuring                        |       |                | 1,359      |                            |       |   | 4,564 |   |   |
| Interest                             |       |                | 473        |                            |       |   | 1,877 |   |   |
| Other                                |       |                | 9,598      |                            |       |   | 11,822 |   |   |
|                                 |       |                | $          | 31,390                          |       |   |   | $ | 39,850 |   |   |

 

**Note 7.**   Debt

The Company had outstanding short-term borrowingsdenominated in U.S. dollars and Chinese rmb of $5.8 million (at an averageannual interest rate of approximately 4.49%) and $8.5 million (at an averageannual interest rate of approximately 5.31%) as of October 2, 2004 and January 3,2004, respectively.

Long-termdebt consists of the following (in thousands):
| ** **                                                                                                                                                                                                                                     | ** ** | **October 2,** | ** ** | **January 3,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------|------------|---------------------|------------|
| ** **                                                                                                                                                                                                                                     | ** ** | **2004**            | ** ** | **2004**            | ** ** |
| ** **                                                                                                                                                                                                                                     | ** ** | **(Unaudited)**     | ** ** | ** **          | ** ** |
| Senior Secured Bank  Facility, 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 5.21% as of  October 2, 2004; due in quarterly payments of $750 thousand  beginning in September 2004 with the balance due April 27, 2010                                            |       |                | $          | 294,250             |       |   | — |   |
| Second Lien Term Loan—interest at 8.21% as of  October 2, 2004; due April 27, 2011                                                                                                                                              |       |                | 125,000    |                |       | — |   |
| Restructured Credit  Facility, interest rates for U.S. dollar borrowings are based on a specified  base plus a specified margin, are capped at 12.00% and are subject to certain  terms and conditions; terminating on December 31, 2006: |       |                |       |                |       |   |   |
| Term Loans—interest at 12.00%; due December 31,  2006                                                                                                                                                                                |       |                | —     |                |       | $ | 416,834 |   |
| Junior  Notes—interest at 10.00%; due December 31, 2007                                                                                                                                                                              |       |                | —     |                |       | 53,717 |   |
| Other                                                                                                                                                                                                                                          |       |                | 1,096      |                |       | 4,442 |   |
|                                                                                                                                                                                                                                           |       |                | 420,346    |                |       | 474,993 |   |
| Less: Current  maturities                                                                                                                                                                                                                      |       |                | (4,045     | )                   |       | (34,001 | ) |
|                                                                                                                                                                                                                                           |       |                | $          | 416,301             |       |   | $ | 440,992 |   |

 

*Senior Secured BankFacility*

The Company’s Senior Secured Bank Facility (the “BankFacility”), which was entered into on April 27, 2004, consists of a $50.0million secured revolving credit facility, a $300.0 million senior securedfirst lien term loan and a $125.0 million senior secured second lien term loan.The proceeds therefrom 

12

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

were used to fully repayindebtedness under the Company’s previous Restructured Credit Facility and payrelated fees and expenses.

All borrowings under the Bank Facility are U.S. dollardenominated and are guaranteed, on a joint and several basis, by each and allof the direct and indirect domestic subsidiaries of the Company and supportedby the pledge of stock of certain non-domestic subsidiaries of the Company. TheBank Facility 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 a portionof 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 issued to the Company or one or more of itssubsidiaries by non-domestic subsidiaries. Commitment fees under the BankFacility are equal to 0.50% of the daily unused amount of the revolving creditcommitment. The Bank Facility contains covenants and events of defaultcustomary for financings of this type, including leverage and interest expensecoverage covenants. At October 2, 2004, the Company is in compliance withall such covenants and expects to remain in compliance through fiscal 2004. Theloans require the Company to use a percentage of proceeds from excess cashflows, as defined by the agreement and determined based on year-end results, toreduce its debt balances. Since this amount is not yet determinable, only themandatory payments of $750,000 per quarter have been classified as a currentliability. As of October 2, 2004, the Company had made an optionalrepayment of debt of $5.0 million, which amount will be used to reduce theexcess cash flow amount, if any, to be calculated as of January 1, 2005.

The interest rate applicable to borrowings under theBank Facility is based on three-month LIBOR plus a specified margin. Theapplicable margin for borrowings under the revolving credit facility is 300basis points, the margin for the first lien term loan is 325 basis points andthe margin for the second-lien term loan is 625 basis points. Although notanticipated, the Company may elect to use an alternate base rate for itsborrowings under the revolving credit facility ranging from 2.25% to 6.25% withsuch alternate base rates including a margin based on the Company’s totalleverage ratio. The Company had no outstanding borrowings at October 2,2004 under the revolving credit facility. Average daily borrowings under therevolving credit facility for the period from April 28, 2004 to October 2,2004 were $7.3 million at an average rateof 5.80%. The revolving portion of the credit facility matures on April 27,2009.

In accordance with the terms of the Bank Facility, theCompany entered a cash flow hedge agreement, effectively converting $212.5million of notional principal amount of debt from a variable LIBOR rate to afixed LIBOR rate of 3.383%. The cash flow hedge agreement terminates on May 8,2007 and is described more fully in Note 12 of the Consolidated FinancialStatements.

Subject to certain termsand conditions, a portion of the Bank Facility may be used for revolvingletters of credit. As of October 2, 2004, the Company had $10.8 million ofletters of credit outstanding under this facility. Approximately $7.1 million was related to the short-termborrowings of the Company’s China-based majority owned subsidiary (“Nanhai”).

*Restructured CreditFacility*

Until it was refinanced onApril 27, 2004, the Company’s Restructured Credit Facility consisted ofsecured revolving credit borrowings with aggregate commitments of up to$50.0 million and aggregate term loans and term letters of credit of$435.3 million. All borrowings under the Restructured Credit Facility wereU.S. dollar denominated and were guaranteed, on a joint and several basis, byeach and all of the direct and indirect domestic subsidiaries of the Companyand certain non-domestic subsidiaries of the 

13

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

Company.The Restructured Credit Facility contained covenants and events of defaultcustomary for financings of this type, including leverage, senior leverage,interest coverage and adjusted interest coverage. The Company was in compliancewith all such covenants through the date of the refinancing. The interest rateapplicable to borrowings under the Restructured Credit Facility wasbased on a specified base rate or a specified Eurodollar base rate, at theCompany’s option, plus a specified margin. The effective rate on the term loanswas 12.00%, which was the cap on the sum of the interest payable in respect ofterm loans or term letters of credit plus the senior leverage ratio fee. TheCompany’s average daily borrowings under the revolving credit agreement, whichhad an effective interest rate of 6.75%, were $8.7 million for the period from January 4,2004 to April 27, 2004.

*ConvertibleSubordinated Notes*

In connection with the emergence from Chapter 11, theCompany issued $50.0 million of 10% Convertible Subordinated Notes due2007 (the “Junior Notes”) pursuant to an indenture dated as of March 5,2003 (the “Junior Indenture”). The Junior Notes were unsecured subordinated indebtednessof the Company and subordinatedin right of payment to all existing and future indebtedness of the Companywhich is not, by its terms, expressly junior to, or *pari passu* with, the Junior Notes. Under the terms of theJunior Notes, the holders could elect to increase theprincipal amount of the notes in lieu of receiving semi-annual interestpayments in cash. The Junior Notes were convertible into shares of Class ACommon Stock, at an initial conversion price equal to $7.29 per share. TheJunior Indenture contained several covenants, includinglimitations on: (i) indebtedness; certain restricted payments; liens;transactions with affiliates; dividend and other payment restrictions affectingcertain subsidiaries; guarantees by certain subsidiaries; certain transactionsincluding merger and asset sales; and (ii) certain restrictions regardingthe disposition of proceeds of asset sales.

During the first quarter of 2004, $2.7 million of theCompany’s Junior Notes were converted into approximately 371,500 shares of theCompany’s Class A Common Stock. During the second quarter of 2004, inconjunction with the refinancing of the Company’s long-term debt, the Company’smajority shareholder exchanged an additional $42.6 million in aggregate principalamount of the Company’s Junior Notes it controlled for 42,633 shares of theCompany’s 16% Series A Convertible Pay-in-kind Preferred Stock (the “PIKPreferred Shares”).

During the third quarterof 2004, $10.1 million in aggregate principal amount ofthe Company’s Junior Notes were exchanged for 10,083 shares of the Company’sPIK Preferred Shares and 6,719 shares of the Company’s Class A CommonStock. As of October 2, 2004,there were no Junior Notes outstanding. For further discussionof the Company’s PIK Preferred Shares, see Note 11 of the ConsolidatedFinancial Statements.

*SubsidiaryIndebtedness*

Nanhai has a credit facility with a financialinstitution in China which is scheduled to mature in June 2005. The amountof outstanding indebtedness under the facility was $5.8 million and$8.5 million at October 2, 2004 and January 3, 2004,respectively. The Nanhai indebtedness is guaranteed 100% by the Company and tosupport this guarantee, a letter of credit has been issued by the Company’sagent bank in the amount of $7.1 million.

The Company’s Argentina-basedmajority owned subsidiary (“DNS”) has two credit facilities denominated in U.S.dollars totaling approximately $1.0 million (all with current maturities)at October 2, 

14

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

2004 and$3.4 million (with current maturities of approximately $3.1 million)at January 3, 2004, respectively.

**Note 8.**   Income Taxes

The Company recognized income tax expense of $2.1million and $8.2 million for the three and nine months ended October 2,2004, respectively, on consolidated income before income taxes of $1.5 millionand $4.5 million for the three and nine months ended October 2, 2004,respectively. This tax expense in excess of income before income tax expenseprimarily resulted from income taxes attributable to the earnings generated bycertain foreign operations as well as state income taxes in the United States,with no federal income tax benefit being recognized for the pre-tax lossesincurred in the United States and certain foreign operations. During the threemonths and nine months ended September 27, 2003, the Company recognized anincome tax benefit of $0.1 million and an income tax expense of $5.4 million,respectively.

During the third quarter of fiscal 2004, the Company filed its initial federal and state income tax returns for periods including and subsequent to itsemergence from the Chapter 11 process.In conjunction with filing its returns, the Company reassessed its estimationof the temporary differences related to its investments in domesticsubsidiaries that existed at the Effective Date and the effects of thecancellation of indebtedness on the tax basis of such investments, as well aslimitations on other tax attributes. The Company has provided deferred income taxesreflecting the net tax effect of temporary differences between the carryingamounts of assets and liabilities for financial reporting purposes and thecarrying amounts used for income taxes purposes, and in accordance with EITF 93-7“Uncertainties Related toIncome Taxes in a Business Combination”, recorded an incremental net deferred taxliability of $25.7 million at October 2, 2004. As such increased estimates of deferred tax liabilities affect the allocation of the reorganization value to the underlying assets and liabilities of the Company as of the Effective Date, theCompany has recorded a corresponding increase in goodwill. Such deferred taxassets and liabilities may be subsequently adjusted upon the further refinement of anyattribute reduction and the impact of tax limitations, if any. Any future changes in the net deferred tax assetsand liabilities as of the Effective Date will be adjusted to reorganization value and not through income, also in accordance with EITF 93-7.

The Company is currently evaluating the impact of the American JobsCreation Act of 2004, enacted October 22,2004.

15

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

**Note 9.**   PensionBenefits and Postretirement Plans

The Company and its subsidiaries sponsor multipledefined benefit plans and other postretirement benefits that cover certainemployees. Benefits are 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. The following disclosures regarding definedbenefit plans and other postretirement plans for the fiscal 2003 period reflectthe combined data of the Successor for the seven months ended September 27,2003 with that of the Predecessor for the two months ended March 1, 2003.

Components of net periodicbenefit costs for the three and nine months ended October 2, 2004 and September 27,2003 are as follows:
| ** **                                                      | ** ** | **Pension Benefit Plans** | ** ** |
|-----------------------------------------------------------------|------------|-------------------------------------|------------|
| ** **                                                      | ** ** | **Three Months Ended**    | ** ** | **Nine Months Ended** | ** ** |
| ** **                                                      | ** ** | **October 2,  2004**           | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** | **September 27,  2003** | ** ** |
| Current service  costs                                          |       | $                                   | 583        |   |   | $ | 654 |   |   | $ | 1,743 |   |   | $ | 1,930 |   |   |
| Interest costs on  projected benefit obligation and other  |       | 1,242                               |       |   | 1,298 |   |   | 3,713 |   |   | 3,833 |   |   |
| Return on plan  assets                                          |       | (1,321                              | )          |   | (1,263 | ) |   | (3,950 | ) |   | (3,726 | ) |   |
| Amortization of  transition obligation and other                |       | (3                                  | )          |   | 63 |   |   | (9 | ) |   | 185 |   |   |
| Periodic benefit cost,  net                                     |       | $                                   | 501        |   |   | $ | 752 |   |   | $ | 1,497 |   |   | $ | 2,222 |   |   |

 
| ** **                                                      | ** ** | **Postretirement Benefit Plans** | ** ** |
|-----------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                      | ** ** | **Three Months Ended**           | ** ** | **Nine Months Ended** | ** ** |
| ** **                                                      | ** ** | ** October 2,  2004**            | ** ** | **September 27,  2003** | ** ** | ** October 2,  2004** | ** ** | **September 27,  2003** | ** ** |
| Current service  costs                                          |       |                                       | $          | 101 |   |   |   | $ | 98 |   |   |   | $ | 303 |   |   |   | $ | 294 |   |   |
| Interest costs on  projected benefit obligation and other  |       |                                       | 216        |   |   |   | 238 |   |   |   | 644 |   |   |   | 702 |   |   |
| Periodic benefit cost,  net                                     |       |                                       | $          | 317 |   |   |   | $ | 336 |   |   |   | $ | 947 |   |   |   | $ | 996 |   |   |

 

As of October 2, 2004, the Company hascontributed $4.3 million to its pension plans forthe 2004 benefit year. The Company presently anticipates contributing anadditional $2.7 million to fund its pensionplans in 2004 for a total of $7.0 million.

On December 8, 2003,the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the “Act”)was enacted and introduced a prescription drug benefit under Medicare as wellas a subsidy to sponsors of retiree health care benefit plans. The Company haselected to defer the recognition of the Act until the authoritative guidance onthe accounting for the federal subsidy under the Act is issued. When theguidance is issued, the Company could be required to change previously reportedinformation. Any measure of the periodic benefit cost, benefit obligation andrelated disclosures for the U.S. and other postretirement benefit plans do notreflect the effect of the Act.

**Note 10.**   Stock Option Plans

On December 11, 2003, the Company awarded theinitial non-qualified stock options under the 2003 Stock Option Plan (the “2003Plan”). The 2003 Plan was approved by the Company’s Board of Directors 

16

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

and shareholders and is administeredby the Compensation Committee of the Board of Directors. The options have aten-year life and vest, based on the achievement of various service andfinancial performance criteria, over a five-year period beginning January 1,2004. As of  October 2, 2004, 400,000shares of the Company’s Class A common stock were reserved for issuanceunder the 2003 Plan, of which 160,000 shares are available for future grants.

The Company has elected to account for the 2003 Planin accordance with the intrinsic value method as prescribed by AccountingPrinciples Board Opinion No. 25, “Accounting for Stock Issued to Employees”and permitted under Statement of Financial Accounting Standards No. 123, “Accountingfor Stock-Based Compensation” (“SFAS No. 123”). All options granted underthe 2003 Plan had an exercise price equal to the market value of the underlyingcommon stock on the date of grant. However, as a percentage of the options vestbased on achievement of financial performance criteria, compensation costs willbe recognized when it becomes probable that such performance criteria will beachieved. Accordingly, during the three months and nine months ended October 2,2004, the Company recognized compensation expense associated with such plans of$3,600 and $183,600, respectively.

If the Company applied thefair value recognition provision of SFAS No. 123, as amended, the amount ofstock-based compensation for the nine months ended October 2, 2004 wouldhave approximately equaled the amount charged to operations.

**Note 11.**   16% Series A ConvertiblePay-in-kind Preferred Shares

In conjunction with the Company’s refinancing of theRestructured Credit Facility, the Company’s majority shareholder exchangedapproximately $42.6 million in aggregate principal amount of the Junior Notesit controlled for 42,633 shares of the Company’s PIK Preferred Shares. Also,during the third quarter of 2004,$10.1 million in aggregate principal amount of the Company’s Junior Notes wereexchanged for 10,083 shares of the Company’s PIK Preferred Shares. Thedividends on the PIK Preferred Shares accrue at an annual rate of 16% and arepayable semi-annually in arrears on each January 1 and July 1,commencing with July 1, 2004, at the option of the Company, (i) throughthe issuance of additional shares of PIK Preferred Stock;(ii) in cash; or (iii) in a combination thereof. Dividends arecumulative and accrue from the most recent dividend payment date to whichdividends have been paid or, if no dividends have been paid, from the date oforiginal issuance.

On June 30, 2012, the Company must redeem all ofthe PIK Preferred Shares then outstanding at a price equal to $1,000 per shareplus $1,000 per share for all unpaid dividends thereon whether or not declared,which amount will be payable by the Company, at theoption of the Company,  (i) in cash; (ii) throughthe issuance of shares of Class A Common Stock; or (iii) through acombination thereof. If paid in stock, the number of shares to be delivered bythe Company will be the mandatory redemption price (as defined earlier) dividedby the then current marketprice of a share of Class A Common Stock.

At any time priorto June 30, 2012, the holders of the PIK Preferred Shares may elect toconvert any or all of their PIK Preferred Shares into shares of the Company’s Class ACommon Stock at a conversion price equal to $7.29 per share. Also, at any timeprior to June 30, 2012, provided certain conditions have been met, theCompany may elect to redeem the shares, which redemption price may be paid bythe Company, at the option of theCompany,  (i) in cash; (ii) throughthe issuance of shares of Class A Common Stock; or (iii) through acombination thereof. If paid in stock, the number of shares to be delivered bythe Company will be the optional redemption price (as defined by the preferredstock agreement) divided by the then currentmarket price of a share of Class A Common Stock.

17

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

As of October 2,2004, the Company has accrued dividends ofapproximately $3.2 million. The Company expects to settle this liabilityin the form of additional PIK Preferred Shares and, accordingly, has classifiedthe accrued dividends as a component of the Company’s PIK Preferred Shares.

**Note 12.**   Derivative andOther Financial Instruments and Hedging Activities

The Company uses derivative financial instruments tomanage market risks and reduce its exposure from fluctuations in interestrates. All hedging transactions are authorized and executed under clearlydefined policies and procedures, which prohibit the use of financialinstruments for trading purposes. SFAS No. 133, “Accounting for DerivativeInstruments and Hedging Activities,” as amended by SFAS No. 138, “Accountingfor Certain Derivative Instruments and Certain Hedging Activities (an Amendmentof SFAS No. 133)” requires the Company to recognize all derivatives on thebalance sheet at fair value and establish criteria for designation andeffectiveness of hedging relationships.

The Company uses interest-rate derivative instrumentsto manage its exposure on its debt instruments. As indicated in Note 7 to theConsolidated Financial Statements, to mitigate its interest rate exposure asrequired by the Bank Facility, the Company entered into a pay-fixed,receive-variable interest rate swap, thus effectively converting the interestpayments associated with approximately 50% of the debt to fixed amounts at aLIBOR rate of 3.383%. As of October 2, 2004, the notional amount of thesecontracts, which expire on May 8, 2007, was $212.5 million. Cashsettlements are made quarterly and the floating rate is reset quarterly,coinciding with the reset dates of the Bank Facility debt.

In accordance with SFAS No. 133, the Companydesignated the swap as a cash flow hedge of the variability of payments underthe senior secured term loans and applied the shortcut method of assessingeffectiveness. The agreement’s terms ensure complete effectiveness inoffsetting the interest component associated with the Bank Facility. As such,there is no ineffectiveness and changes in the fair value of the swap arerecorded to accumulated other comprehensive income (loss). The fair value ofthe interest rate swap as of October 2, 2004 of $1.5 million was based oncurrent settlement values and was recorded in *Othernoncurrent liabilities* on the Consolidated Balance Sheet.

The impact of these swapson *Interest expense, net* for the three and nine months ended October 2,2004 was an increase of $1.0 million and an increase of $1.6 million,respectively.

**Note 13.**   SegmentInformation

The Company primarily manages the business’profitability and resource allocations basedon the Company’s operatingdivisions, consisting of Nonwovens and Oriented Polymers, and the geographicregions in which these divisions are located around the world. In addition, theCompany evaluates its operating performance on itsend use market segments consisting of Consumer and Industrial &Specialty reflecting the management of the Company’s business based on productsales. Therefore, both disclosures are included in the following table. Salesto P&G account for more than 10% of the Company’s sales in each of theperiods presented. Sales to this customer are reported primarily in the Nonwovens operating division and Consumermarket segment and the loss of these sales would have a material adverse effecton these segments. Generally, theCompany’s nonwoven products can be manufactured on more than one type ofproduction line. Accordingly, certain costs attributed to each segment of thebusiness were determined on an allocation basis. Production times have asimilar relationship to net sales and the Company believes a reasonable basisfor allocating certain costs is the percent of net sales method for marketsegment data. During the three and nine months ended October 2, 2004, thethree and seven 

18

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

months ended September 27,2003 and the two months ended March 1, 2003, the Company recorded plantrealignment costs and asset impairment charges which have not been allocated tothe segment data. Additionally, the arbitration settlement, net has not beenallocated to the segment data.

Financial data by marketsegment is as follows (in thousands):
| ** **                                                               | ** ** | **Successor**                | ** ** | **Predecessor**              | ** ** |
|--------------------------------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **                                                               | ** ** | **Three Months  Ended** | ** ** | **Nine Months  Ended**  | ** ** | **Seven Months  Ended** | ** ** | **Two months  Ended** | ** ** |
| ** **                                                               | ** ** | **October 2,  2004**    | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** | **September 27,  2003** | ** ** | **March 1,  2003** | ** ** |
| **Net sales:**                                                           |       |                         |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Consumer                                                                 |       | $                            | 113,842    |                         |       | $ | 102,029 |   |   |   | $ | 335,297 |   |   |   | $ | 245,710 |   |   |   | $ | 74,956 |   |   |
| Industrial & specialty                                          |       | 91,224                       |       |                         | 83,034     |   |   |   | 287,103 |   |   |   | 202,177 |   |   |   | 57,953 |   |   |
|                                                                     |       | $                            | 205,066    |                         |       | $ | 185,063 |   |   |   | $ | 622,400 |   |   |   | $ | 447,887 |   |   |   | $ | 132,909 |   |   |
| **Operating  income:**                                                   |       |                         |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Consumer                                                                 |       | $                            | 4,876      |                         |       | $ | 4,354 |   |   |   | $ | 12,515 |   |   |   | $ | 9,538 |   |   |   | $ | 3,105 |   |   |
| Industrial & specialty                                          |       | 8,097                        |       |                         | 7,023      |   |   |   | 24,143 |   |   |   | 14,128 |   |   |   | 2,725 |   |   |
|                                                                     |       | 12,973                       |       |                         | 11,377     |   |   |   | 36,658 |   |   |   | 23,666 |   |   |   | 5,830 |   |   |
| Plant realignment costs                                                  |       | (222                         | )          |                         | (1,235     | ) |   |   | (1,463 | ) |   |   | (3,651 | ) |   |   | (4 | ) |   |
| Asset impairment charges                                                 |       | (1,710                       | )          |                         | —     |   |   |   | (1,710 | ) |   |   | — |   |   |   | — |   |   |
| Arbitration settlement, net                                              |       | (282                         | )          |                         | —     |   |   |   | 13,112 |   |   |   | — |   |   |   | — |   |   |
|                                                                     |       | $                            | 10,759     |                         |       | $ | 10,142 |   |   |   | $ | 46,597 |   |   |   | $ | 20,015 |   |   |   | $ | 5,826 |   |   |
| **Depreciation  and amortization expense included in operating income:** |       |                         |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Consumer                                                                 |       | $                            | 7,658      |                         |       | $ | 7,334 |   |   |   | $ | 23,059 |   |   |   | $ | 17,416 |   |   |   | $ | 4,375 |   |   |
| Industrial & specialty                                          |       | 4,933                        |       |                         | 4,987      |   |   |   | 15,031 |   |   |   | 11,024 |   |   |   | 3,012 |   |   |
|                                                                     |       | $                            | 12,591     |                         |       | $ | 12,321 |   |   |   | $ | 38,090 |   |   |   | $ | 28,440 |   |   |   | $ | 7,387 |   |   |
| ** **                                                               | ** ** | ** **                   | ** ** | ** **                   | ** ** | ** ** | ** ** | ** ** | **October 2,  2004** | ** ** | ** ** | ** ** | **January 3,  2004** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Segment assets:**                                                      |       |                         |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Consumer                                                                 |       |                         |       |                         |       |   |   |   | $ | 381,091 |   |   |   | $ | 391,184 |   |   |   |   |   |   |
| Industrial & specialty                                          |       |                         |       |                         |       |   |   |   | 326,314 |   |   |   | 320,838 |   |   |   |   |   |   |
| Corporate                                                                |       |                         |       |                         |       |   |   |   | 27,447 |   |   |   | 7,040 |   |   |   |   |   |   |
|                                                                     |       |                         |       |                         |       |   |   |   | $ | 734,852 |   |   |   | $ | 719,062 |   |   |   |   |   |   |

 

19

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

Financialdata by operating division is as follows (in thousands):
| ** **                                                               | ** ** | **Successor**                | ** ** | **Predecessor**                                    | ** ** |
|--------------------------------------------------------------------------|------------|------------------------------|------------|----------------------------------------------------|------------|
| ** **                                                               | ** ** | **Three Months  Ended** | ** ** | **Nine Months  Ended  October 2,  2004** | ** ** | **Seven Months  Ended  September 27,  2003** | ** ** | **Two months  Ended  March 1,  2003** | ** ** |
| ** **                                                               | ** ** | **October 2,  2004**    | ** ** | **September 27,  2003**                       | ** ** | ** ** | ** ** | ** ** |
| **Net sales:**                                                           |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Nonwovens                                                                |       | $                            | 165,678    |                                               |       | $ | 149,697 |   |   | $ | 494,149 |   |   | $ | 358,092 |   |   |   | $ | 108,373 |   |   |
| Oriented Polymers                                                        |       | 39,483                       |       |                                               | 35,366     |   |   | 128,574 |   |   | 89,795 |   |   |   | 24,536 |   |   |
| Eliminations                                                             |       | (95                          | )          |                                               | —     |   |   | (323 | ) |   | — |   |   |   | — |   |   |
|                                                                     |       | $                            | 205,066    |                                               |       | $ | 185,063 |   |   | $ | 622,400 |   |   | $ | 447,887 |   |   |   | $ | 132,909 |   |   |
| **Operating  income:**                                                   |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Nonwovens                                                                |       | $                            | 14,627     |                                               |       | $ | 11,588 |   |   | $ | 38,401 |   |   | $ | 25,755 |   |   |   | $ | 7,852 |   |   |
| Oriented Polymers                                                        |       | 2,583                        |       |                                               | 2,938      |   |   | 10,809 |   |   | 6,735 |   |   |   | 1,461 |   |   |
| Unallocated Corporate                                                    |       | (4,143                       | )          |                                               | (3,112     | ) |   | (12,850 | ) |   | (8,623 | ) |   |   | (3,598 | ) |   |
| Eliminations                                                             |       | (94                          | )          |                                               | (37        | ) |   | 298 |   |   | (201 | ) |   |   | 115 |   |   |
|                                                                     |       | 12,973                       |       |                                               | 11,377     |   |   | 36,658 |   |   | 23,666 |   |   |   | 5,830 |   |   |
| Plant realignment costs                                                  |       | (222                         | )          |                                               | (1,235     | ) |   | (1,463 | ) |   | (3,651 | ) |   |   | (4 | ) |   |
| Asset impairment charges                                                 |       | (1,710                       | )          |                                               | —     |   |   | (1,710 | ) |   | — |   |   |   | — |   |   |
| Arbitration settlement, net                                              |       | (282                         | )          |                                               | —     |   |   | 13,112 |   |   | — |   |   |   | — |   |   |
|                                                                     |       | $                            | 10,759     |                                               |       | $ | 10,142 |   |   | $ | 46,597 |   |   | $ | 20,015 |   |   |   | $ | 5,826 |   |   |
| **Depreciation  and amortization expense included in operating income:** |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Nonwovens                                                                |       | $                            | 10,133     |                                               |       | $ | 10,180 |   |   | $ | 31,206 |   |   | $ | 23,777 |   |   |   | $ | 5,766 |   |   |
| Oriented Polymers                                                        |       | 2,042                        |       |                                               | 2,104      |   |   | 6,114 |   |   | 4,847 |   |   |   | 1,349 |   |   |
| Unallocated Corporate                                                    |       | 481                          |       |                                               | —     |   |   | 1,245 |   |   | — |   |   |   | 272 |   |   |
| Eliminations                                                             |       | (65                          | )          |                                               | 37         |   |   | (475 | ) |   | (184 | ) |   |   | — |   |   |
|                                                                     |       | $                            | 12,591     |                                               |       | $ | 12,321 |   |   | $ | 38,090 |   |   | $ | 28,440 |   |   |   | $ | 7,387 |   |   |
| ** **                                                               | ** ** | ** **                   | ** ** | ** **                                         | ** ** | ** ** | ** ** | **October 2,  2004** | ** ** | ** ** | **January 3,  2004** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Segment assets:**                                                      |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Nonwovens                                                                |       |                         |       |                                               |       |   |   | $ | 685,967 |   |   | $ | 706,347 |   |   |   |   |   |   |
| Oriented Polymers                                                        |       |                         |       |                                               |       |   |   | 141,105 |   |   | 147,075 |   |   |   |   |   |   |
| Corporate                                                                |       |                         |       |                                               |       |   |   | 27,447 |   |   | 7,040 |   |   |   |   |   |   |
| Eliminations                                                             |       |                         |       |                                               |       |   |   | (119,667 | ) |   | (141,400 | ) |   |   |   |   |   |
|                                                                     |       |                         |       |                                               |       |   |   | $ | 734,852 |   |   | $ | 719,062 |   |   |   |   |   |   |

 

20

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

**Geographic Data:**

Geographicdata for the Company’s operations is presented in the following table (inthousands):
| ** **                                                                      | ** ** | **Successor**                | ** ** | **Predecessor**                                    | ** ** |
|---------------------------------------------------------------------------------|------------|------------------------------|------------|----------------------------------------------------|------------|
| ** **                                                                      | ** ** | **Three Months  Ended** | ** ** | **Nine Months  Ended  October 2,  2004** | ** ** | **Seven Months  Ended  September 27,  2003** | ** ** | **Two months  Ended  March 1,  2003** | ** ** |
| ** **                                                                      | ** ** | **October 2,  2004**    | ** ** | **September 27,  2003**                       | ** ** | ** ** | ** ** | ** ** |
| **Net sales:**                                                             |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| United States                                                                   |       | $                            | 91,691     |                                               |       | $ | 82,557 |   |   |   | $ | 275,735 |   |   |   | $ | 194,435 |   |   |   | $ | 58,992 |   |   |
| Canada                                                                          |       | 26,224                       |       |                                               | 24,242     |   |   |   | 82,539 |   |   |   | 60,057 |   |   |   | 16,416 |   |   |
| Europe                                                                          |       | 43,943                       |       |                                               | 43,685     |   |   |   | 144,638 |   |   |   | 112,862 |   |   |   | 33,936 |   |   |
| Asia                                                                            |       | 8,786                        |       |                                               | 7,770      |   |   |   | 24,407 |   |   |   | 17,790 |   |   |   | 4,773 |   |   |
| Latin America                                                                   |       | 34,422                       |       |                                               | 26,809     |   |   |   | 95,081 |   |   |   | 62,743 |   |   |   | 18,792 |   |   |
|                                                                            |       | $                            | 205,066    |                                               |       | $ | 185,063 |   |   |   | $ | 622,400 |   |   |   | $ | 447,887 |   |   |   | $ | 132,909 |   |   |
| **Operating  income (loss):**                                                   |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| United States                                                                   |       | $                            | 103        |                                               |       | $ | 989 |   |   |   | $ | (545 | ) |   |   | $ | (2,084 | ) |   |   | $ | (1,582 | ) |   |
| Canada                                                                          |       | 1,033                        |       |                                               | 1,728      |   |   |   | 5,062 |   |   |   | 3,910 |   |   |   | 1,233 |   |   |
| Europe                                                                          |       | 4,162                        |       |                                               | 3,375      |   |   |   | 12,572 |   |   |   | 10,010 |   |   |   | 2,330 |   |   |
| Asia                                                                            |       | 1,041                        |       |                                               | 943        |   |   |   | 2,641 |   |   |   | 2,024 |   |   |   | 848 |   |   |
| Latin America                                                                   |       | 6,634                        |       |                                               | 4,342      |   |   |   | 16,928 |   |   |   | 9,806 |   |   |   | 3,001 |   |   |
|                                                                            |       | 12,973                       |       |                                               | 11,377     |   |   |   | 36,658 |   |   |   | 23,666 |   |   |   | 5,830 |   |   |
| Plant realignment costs                                                         |       | (222                         | )          |                                               | (1,235     | ) |   |   | (1,463 | ) |   |   | (3,651 | ) |   |   | (4 | ) |   |
| Asset impairment charges                                                        |       | (1,710                       | )          |                                               | —     |   |   |   | (1,710 | ) |   |   | — |   |   |   | — |   |   |
| Arbitration settlement, net                                                     |       | (282                         | )          |                                               | —     |   |   |   | 13,112 |   |   |   | — |   |   |   | — |   |   |
|                                                                            |       | $                            | 10,759     |                                               |       | $ | 10,142 |   |   |   | $ | 46,597 |   |   |   | $ | 20,015 |   |   |   | $ | 5,826 |   |   |
| **Depreciation  and amortization expense included in operating income (loss):** |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| United States                                                                   |       | $                            | 6,114      |                                               |       | $ | 6,155 |   |   |   | $ | 18,031 |   |   |   | $ | 14,310 |   |   |   | $ | 3,658 |   |   |
| Canada                                                                          |       | 1,498                        |       |                                               | 1,549      |   |   |   | 4,455 |   |   |   | 3,527 |   |   |   | 950 |   |   |
| Europe                                                                          |       | 1,990                        |       |                                               | 2,209      |   |   |   | 6,585 |   |   |   | 5,048 |   |   |   | 1,166 |   |   |
| Asia                                                                            |       | 1,007                        |       |                                               | 901        |   |   |   | 2,999 |   |   |   | 2,079 |   |   |   | 628 |   |   |
| Latin America                                                                   |       | 1,982                        |       |                                               | 1,507      |   |   |   | 6,020 |   |   |   | 3,476 |   |   |   | 985 |   |   |
|                                                                            |       | $                            | 12,591     |                                               |       | $ | 12,321 |   |   |   | $ | 38,090 |   |   |   | $ | 28,440 |   |   |   | $ | 7,387 |   |   |
| ** **                                                                      | ** ** | ** **                   | ** ** | ** **                                         | ** ** | ** ** | ** ** | ** ** | **October 2,  2004 ** | ** ** | ** ** | ** ** | **January 3,  2004** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Region assets:**                                                              |       |                         |       |                                               |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| United States                                                                   |       |                         |       |                                               |       |   |   |   | $ | 190,476 |   |   |   | $ | 153,437 |   |   |   |   |   |   |
| Canada                                                                          |       |                         |       |                                               |       |   |   |   | 96,520 |   |   |   | 106,428 |   |   |   |   |   |   |
| Europe                                                                          |       |                         |       |                                               |       |   |   |   | 266,074 |   |   |   | 279,269 |   |   |   |   |   |   |
| Asia                                                                            |       |                         |       |                                               |       |   |   |   | 35,267 |   |   |   | 37,987 |   |   |   |   |   |   |
| Latin America                                                                   |       |                         |       |                                               |       |   |   |   | 146,515 |   |   |   | 141,941 |   |   |   |   |   |   |
|                                                                            |       |                         |       |                                               |       |   |   |   | $ | 734,852 |   |   |   | $ | 719,062 |   |   |   |   |   |   |

 

21

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

**Note 14.**   ForeignCurrency and Other

Componentsof foreign currency and other are shown in the table below (in thousands):
| ** **                                                                   | ** ** | **Successor**                                                   | ** ** | **Predecessor**                                                    | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **Three Months   Ended  October 2,   2004** | ** ** | **Three Months   Ended  September 27,   2003** | ** ** | **Nine Months   Ended  October 2,   2004** | ** ** | **Seven Months   Ended  September 27,   2003** | ** ** | **Two Months  Ended   March 1,   2003** | ** ** |
| Foreign currency  loss (gain)                                                |       |                                                            | $          | 996                                                                |       |   |   | $ | 1,147 |   |   |   | $ | 3,013 |   |   |   | $ | 221 |   |   |   | $ | 1,814 |   |   |
| Write-off of loan  acquisition costs related to Restructured Credit Facility |       |                                                            | —     |                                                               |       |   | — |   |   |   | 5,022 |   |   |   | — |   |   |   | — |   |   |
| Other, net                                                                   |       |                                                            | 109        |                                                               |       |   | 1,383 |   |   |   | 187 |   |   |   | 1,459 |   |   |   | (380 | ) |   |
|                                                                         |       |                                                            | $          | 1,105                                                              |       |   |   | $ | 2,530 |   |   |   | $ | 8,222 |   |   |   | $ | 1,680 |   |   |   | $ | 1,434 |   |   |

 

Other, net for the three and seven months ended September 27,2003 included $1.1 million of costs related to a refinancing plan that wascancelled.

**Note 15.**   Earnings Per Share and Shareholders’Equity

Reconciliations between basic and diluted earningsavailable forcommon shareholdersand average shares outstanding have not been presented for the three and nine months ended October 2,2004 and the three and seven months ended September 27,2003 as the Company has reported net losses for each of these periods and the impact of such calculationswould be anti-dilutive. Average shares outstanding were 10,372,228, 9,661,025, 8,653,230 and 8,648,754for each of those periods, respectively. Additionally, no  reconciliationhas been presented for the two months ended March 1, 2003 as there were noconvertible or potentially dilutive securities in existence during that period.Average shares outstanding were 32,004,000 for the two months ended March 1,2003.

As of October 2,2004, the Company’s authorized capital stock consisted of the following classesof stock:
| **Type**                               | ** ** | ** ** | ** ** | **Par Value** | ** ** | **Authorized Shares** | ** ** |
|----------------------------------------|------------|------------|------------|--------------------|------------|----------------------------|------------|
| PIK 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, Class C common stock has special rights to annual dividendsand all shares of Class B, C, D and E common stock may be converted intoan equal number of shares of Class A common stock. See Note 11 foradditional information related to the Company’s PIK Preferred Stock.

In April 2004, theUnited States Bankruptcy Court for the District of South Carolina resolvedcertain pending claims filed against the Company in connection with theModified Plan and, as a result, approved the issuance of 1,327,177 shares ofthe Company’s Class A Common Stock and 19,359 shares of the 

22

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

Company’sClass C Common Stock which were issued on a pro rata basis to holders ofthe Predecessor Company’s Class 4 General Unsecured Claims per thePredecessor Company’s Chapter 11 Plan of Reorganization. If these shares hadbeen outstanding for all Successor periods presented, the pro forma earnings(losses) available per common share would be $(0.25) (basic and diluted) forthe three months ended October 2, 2004 and $(0.73) (basic and diluted) forthe three months ended September 27, 2003. If these shares had beenoutstanding for all Successor periods presented, the pro forma net loss percommon share for the nine months ended October 2, 2004 and the sevenmonths ended September 27, 2003 would have been $(0.67) per share and $(1.97) pershare, respectively.

**Note 16.**   LegalProceedings and Commitments

On August 18, 2003 an affiliate (“Affiliate”) ofthe former Chief Executive Officer of the Company filed a claim seeking damagesassociated with a lease agreement and an alleged services agreement, betweenthe Company and the Affiliate, associated with the lease by the Company of itsformer corporate headquarters and the provision of shared administrativeservices. The damages sought in the complaint total $7.7 million, plusattorney’s fees. The Company intendsto vigorously defend this action and believes that theultimate outcome will not have a material adverse effect on its financialposition or results of operations.

On April 23, 2002, the Company filed a demand forarbitration against Johnson & Johnson (J&J). The primary issue inthe arbitration was the Company’s assertion that J&J breached a supplyagreement when J&J and certain of its affiliates failed to purchase certainproducts from the Company and to allow the Company a reasonable opportunity tocompete for certain sales. On June 28, 2004, the Company entered into anew supply agreement with a subsidiary of J&J. The Company also ended thearbitration and received approximately $17.0 million from J&J as settlementof the arbitration issues. Net settlement proceeds of $13.1 million, afterproviding for $3.9 million of costs and expenses associated with thearbitration, were included in *Operating income*in the nine months ended October 2, 2004.

As part of its efforts toenhance the business, the Company has made commitmentsto expand its worldwide capacity. Currently, the Company has several major committedprojects, including the installation of a new line in the Cali, Colombiafacility,  an adhesive bond line inNanhai, China and line enhancements in Benson, North Carolina. As of October 2,2004, these commitments totaled approximately $36.0 million and are expected tobe expended over the next two years.

**Note 17.**   Supplemental Cash Flow Information

Noncash transactions in the first nine months of 2004included the issuance of 1,327,177 shares of the Company’s Class A CommonStock and 19,359 shares of the Company’s Class C Common Stock inaccordance with the ruling of the United States Bankruptcy Court for theDistrict of South Carolina, the conversion of $2.7 million of the Company’sJunior Notes into 371,382 shares of the Company’s Class ACommon Stock, the exchange of $42.6 million of the Company’sJunior Notes into 42,633 shares of the Company’s PIKPreferred Shares, the exchange of$10.1 million of the Company’s Junior Notes into 10,083 shares of theCompany’s PIK Preferred Shares and 6,719 shares of the Company’s Class ACommon Stock,and the accrual of $3.2 million of dividends on the PIK Preferred Shares.

23

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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 on Form 10-Qand the annual report on Form 10-K for the period ended January 3,2004.

For accounting purposes,the Company recognized the emergence from Chapter 11 on March 1, 2003,which was the end of the February accounting period. For purposes of the discussion of results ofoperations, the seven months ended September 27, 2003 (Successor) has beencombined with the twomonths ended March 1, 2003 (Predecessor).

**Results of Operations**

Thefollowing table sets forth the percentage relationships to net sales of certainincome statement items.
| ** **                                                  | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|-------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                  | ** ** | **October 2,  2004**        | ** ** | **September 27,  2003**    | ** ** | **October 2,  2004** | ** ** | **September  27,  2003** | ** ** |
| Net sales                                                   |       |                             | 100.0      | %                               |       |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |
| Cost of goods sold                                          |       |                             |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Materials                                                   |       |                             | 49.6       |                            |       |   | 46.6 |   |   |   | 48.1 |   |   |   | 46.8 |   |   |
| Labor                                                       |       |                             | 9.3        |                            |       |   | 10.0 |   |   |   | 9.7 |   |   |   | 10.1 |   |   |
| Overhead                                                    |       |                             | 23.5       |                            |       |   | 25.6 |   |   |   | 24.3 |   |   |   | 25.9 |   |   |
|                                                        |       |                             | 82.4       |                            |       |   | 82.2 |   |   |   | 82.1 |   |   |   | 82.8 |   |   |
| Gross profit                                                |       |                             | 17.6       |                            |       |   | 17.8 |   |   |   | 17.9 |   |   |   | 17.2 |   |   |
| Selling, general  and administrative expenses               |       |                             | 11.3       |                            |       |   | 11.6 |   |   |   | 12.0 |   |   |   | 12.2 |   |   |
| Plant realignment  costs                                    |       |                             | 0.1        |                            |       |   | 0.7 |   |   |   | 0.2 |   |   |   | 0.6 |   |   |
| Asset impairment  charges                                   |       |                             | 0.9        |                            |       |   | — |   |   |   | 0.3 |   |   |   | — |   |   |
| Arbitration  settlement, net                                |       |                             | 0.1        |                            |       |   | — |   |   |   | (2.1 | ) |   |   | — |   |   |
| Operating income                                            |       |                             | 5.2        |                            |       |   | 5.5 |   |   |   | 7.5 |   |   |   | 4.4 |   |   |
| Other expense (income):                                     |       |                             |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest expense, net                                       |       |                             | 3.8        |                            |       |   | 7.8 |   |   |   | 5.2 |   |   |   | 7.5 |   |   |
| Investment gain, net                                        |       |                             | —     |                            |       |   | 0.0 |   |   |   | — |   |   |   | 0.0 |   |   |
| Minority interests                                          |       |                             | 0.2        |                            |       |   | 0.3 |   |   |   | 0.3 |   |   |   | 0.3 |   |   |
| Foreign currency and other                                  |       |                             | 0.5        |                            |       |   | 1.3 |   |   |   | 1.3 |   |   |   | 0.5 |   |   |
|                                                        |       |                             | 4.5        |                            |       |   | 9.4 |   |   |   | 6.8 |   |   |   | 8.3 |   |   |
| Income (loss)  before reorganization items and income taxes |       |                             | 0.7        |                            |       |   | (3.9 | ) |   |   | 0.7 |   |   |   | (3.9 | ) |   |
| Reorganization  items                                       |       |                             | —     |                            |       |   | — |   |   |   | — |   |   |   | 93.1 |   |   |
| Income (loss)  before income tax expense                    |       |                             | 0.7        |                            |       |   | (3.9 | ) |   |   | 0.7 |   |   |   | 89.2 |   |   |
| Income tax  expense                                         |       |                             | 1.0        |                            |       |   | 0.0 |   |   |   | 1.3 |   |   |   | 0.9 |   |   |
| Net income (loss)                                           |       |                             | (0.3       | )                               |       |   | (3.9 | ) |   |   | (0.6 | ) |   |   | 88.3 |   |   |
| Accrued dividends  on PIK preferred shares                  |       |                             | 0.9        |                            |       |   | — |   |   |   | 0.5 |   |   |   | — |   |   |
| Earnings (losses)  available for common shareholders        |       |                             | (1.2       | )%                              |       |   | (3.9 | )% |   |   | (1.1 | )% |   |   | 88.3 | % |   |

 

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**Comparison of Three Months Ended October 2, 2004and September 27, 2003**

Thefollowing table sets forth components of the Company’s net sales and operatingincome by market segment and operating division for the three months ended July 3,2004 and the corresponding change over the comparable period in 2003 (inmillions):
| ** **                      | ** ** | **Three Months Ended** | ** ** | ** **                   | ** ** |
|---------------------------------|------------|----------------------------------|------------|------------------------------|------------|
| ** **                      | ** ** | **October 2,  2004**        | ** ** | **September 27,  2003** | ** ** | ** Change ** | ** ** |
| Market Segments:                |       |                             |       |                         |       |   |   |   |   |   |   |   |   |
| Net Sales                       |       |                             |       |                         |       |   |   |   |   |   |   |   |   |
| Consumer                        |       |                             | $          | 113.9                        |       |   |   | $ | 102.0 |   |   |   | $ | 11.9 |   |   |
| Industrial & Specialty |       |                             | 91.2       |                         |       |   | 83.1 |   |   |   | 8.1 |   |   |
|                            |       |                             | $          | 205.1                        |       |   |   | $ | 185.1 |   |   |   | $ | 20.0 |   |   |
| Operating Income                |       |                             |       |                         |       |   |   |   |   |   |   |   |   |
| Consumer                        |       |                             | $          | 4.9                          |       |   |   | $ | 4.4 |   |   |   | $ | 0.5 |   |   |
| Industrial & Specialty |       |                             | 8.1        |                         |       |   | 7.0 |   |   |   | 1.1 |   |   |
|                            |       |                             | 13.0       |                         |       |   | 11.4 |   |   |   | 1.6 |   |   |
| Plant realignment costs         |       |                             | (0.2       | )                            |       |   | (1.3 | ) |   |   | 1.1 |   |   |
| Asset impairment charges        |       |                             | (1.7       | )                            |       |   | — |   |   |   | (1.7 | ) |   |
| Arbitration settlement, net     |       |                             | (0.3       | )                            |       |   | — |   |   |   | (0.3 | ) |   |
|                            |       |                             | $          | 10.8                         |       |   |   | $ | 10.1 |   |   |   | $ | 0.7 |   |   |
| Operating  Divisions:           |       |                             |       |                         |       |   |   |   |   |   |   |   |   |
| Net Sales                       |       |                             |       |                         |       |   |   |   |   |   |   |   |   |
| Nonwovens                       |       |                             | $          | 165.7                        |       |   |   | $ | 149.7 |   |   |   | $ | 16.0 |   |   |
| Oriented Polymers               |       |                             | 39.5       |                         |       |   | 35.4 |   |   |   | $ | 4.1 |   |   |
| Eliminations                    |       |                             | (0.1       | )                            |       |   | — |   |   |   | (0.1 | ) |   |
|                            |       |                             | $          | 205.1                        |       |   |   | $ | 185.1 |   |   |   | $ | 20.0 |   |   |
| Operating Income                |       |                             |       |                         |       |   |   |   |   |   |   |   |   |
| Nonwovens                       |       |                             | $          | 14.6                         |       |   |   | $ | 11.6 |   |   |   | $ | 3.0 |   |   |
| Oriented Polymers               |       |                             | 2.6        |                         |       |   | 2.9 |   |   |   | (0.3 | ) |   |
| Unallocated Corporate           |       |                             | (4.1       | )                            |       |   | (3.1 | ) |   |   | (1.0 | ) |   |
| Eliminations                    |       |                             | (0.1       | )                            |       |   | — |   |   |   | (0.1 | ) |   |
|                            |       |                             | 13.0       |                         |       |   | 11.4 |   |   |   | 1.6 |   |   |
| Plant realignment costs         |       |                             | (0.2       | )                            |       |   | (1.3 | ) |   |   | 1.1 |   |   |
| Asset impairment charges        |       |                             | (1.7       | )                            |       |   | — |   |   |   | (1.7 | ) |   |
| Arbitration settlement, net     |       |                             | (0.3       | )                            |       |   | — |   |   |   | (0.3 | ) |   |
|                            |       |                             | $          | 10.8                         |       |   |   | $ | 10.1 |   |   |   | $ | 0.7 |   |   |

 

The amounts for plantrealignment costs, asset impairment charges and arbitration settlement, nethave not been allocated to the Company’s reportable business segments, forreporting purposes, because the Company’s management does not evaluate suchcharges or income on a segment-by-segment basis. Segment operating performanceis measured and evaluated before unusual or special items.

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**NetSales**

Areconciliation of the change in net sales between the three months ended October 2,2004 and the three months ended September 27, 2003 is presented in thefollowing table (in millions):
| Net sales—three  months ended September 27, 2003 |   | $      | 185.1  |   |
|------------------------------------------------------------|--------|--------|--------|--------|
| Change in sales  due to:                                   |   |   |   |
| Volume                                                     |   | 14.7   |   |
| Foreign currency                                           |   | 4.1    |   |
| Price/mix                                                  |   | 4.0    |   |
| Businesses sold/exited                                     |   | (2.8   | )      |
| Net sales—three months  ended October 2, 2004    |   | $      | 205.1  |   |

 

Consolidated net sales were approximately$205.1 million for the three months ended October 2, 2004, anincrease of $20.0 million or 10.8% over the prior year comparable period. Theincrease in net sales was due primarily to increased sales volume, especiallyin the United States and Latin America, improvement in sales price/mix duepartially to higher material costs as well as the strengthening of foreigncurrencies, predominantly the Euro and the Canadian dollar, versus the U.S.dollar. These increases were partially offset by decreases associated withbusinesses exited or sold.

Consumer net sales were $113.9 million in thethree months ended October 2, 2004 compared to $102.0 million in2003, an increase of $11.9 million or 11.7%. This segment’s sales werepositively impacted by increased Nonwoven volumesin the United States and Latin America, partially offset by decreasedvolumes in Europe. Industrial & Specialty net sales were $91.2 millionfor the three months ended October 2, 2004 compared to $83.1 millionin the comparable period of 2003, an increase of $8.1 million or 9.8%. Thelargest drivers of the quarter-over-quarter increase were increased volumes andan improved price/mix of sales, especially in Oriented Polymers and LatinAmerica Nonwovens.

Nonwovens net sales were$165.7 million in the three months ended October 2, 2004 compared to$149.7 million in 2003, an increase of $16.0 million or 10.7%. Within thenonwovens business, higher sales volume in the U.S. and Latin American hygienemarkets and the Latin American industrial market were partly offset by volumelosses in the European medical market. The 2004 nonwovens sales were alsofavorably impacted by the strengthening of the Euro versus the U.S. dollar.Oriented Polymers net sales increased $4.1 million in the quarter-to-quartercomparison and benefited from higher volumes, an improved price/mix of salesand the strengthening of the Canadian dollar versus the U.S. dollar.

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**OperatingIncome**

Areconciliation of the change in operating income between the three months endedOctober 2, 2004 and September 27, 2003 is presented in the followingtable (in millions):
| Operating  income—three months ended September 27, 2003 |   | $      | 10.1   |   |
|-------------------------------------------------------------------|--------|--------|--------|--------|
| Change in  operating income due to:                               |   |   |   |
| Volume                                                            |   | 5.5    |   |
| Price/mix                                                         |   | 4.0    |   |
| Lower plant realignment costs                                     |   | 1.1    |   |
| Foreign currency                                                  |   | 0.4    |   |
| Businesses sold/exited                                            |   | 0.3    |   |
| Arbitration settlement, net                                       |   | (0.3   | )      |
| Higher asset impairment charges                                   |   | (1.7   | )      |
| Higher raw material costs                                         |   | (6.6   | )      |
| All other, primarily higher SG&A costs                        |   | (2.0   | )      |
| Operating income—three  months ended October 2, 2004    |   | $      | 10.8   |   |

 

Consolidated operating income was $10.8 millionin the three months ended October 2, 2004 as compared to$10.1 million in 2003. The improvement in operating income in the currentquarter was positively impacted by increased volumes as well as improvedprice/mix of sales and lower plant realignment costs during the third quarterof 2004. Offsetting these favorable impacts were higher raw material costs of$6.6 million, predominantly in the United States and LatinAmerican businesses, and asset impairment charges of $1.7million related to the closing of certain lines in our Canadian operations.

**Interest Expense and Other**

Interest expense decreased$6.6 million from $14.4 million during the three months endedSeptember 27, 2003 to $7.8 million during the same period in 2004.The decrease is primarily due to the lower interest rates obtained byrefinancing the Company’s previous Restructured Credit Facility with the newSenior Secured Bank Facility (“Bank Facility”), effective April 27, 2004.In conjunction with the Company’s refinancing, the Company’s majorityshareholder exchanged on April 27, 2004 approximately $42.6 million inaggregate principal amount of the 10% Convertible Subordinated Notes due 2007(the “Junior Notes”) for 42,633 shares of the Company’s 16% Series AConvertible Pay-in-kind Preferred Stock (the “PIK Preferred Shares”), whichalso contributed to lower interest costs during the period. Foreign currency andother expense decreased approximately $1.4 million, from $2.5 millionduring the three months ended September 27, 2003 to $1.1 million forthe comparable period in 2004. The 2003 other expense amounts includeapproximately $1.1 million of costs related to an aborted refinancing plan.

**IncomeTaxes**

The Company recognizedincome tax expense of $2.1 million for the three months ended October 2,2004 on a consolidated income before income taxes of $1.5 million for suchperiod. Income tax expense was in excessof income before income taxes primarily as a result of income taxes beingaccrued on the earnings generated by certain foreign operations as well asstate income taxes in the United States, with no income tax benefit beingrecognized on the pre-tax losses in the United States and certain foreignoperations. During the three months ended September 27, 2003, the Companyrecognized an income tax benefit of approximately $40,000.

27

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**NetIncome (Loss)**

The Company’s net lossduring the three months ended October 2, 2004 was approximately$0.6 million as a result of the factors described above, as compared to anet loss of $7.3 million during the comparable period in 2003.

**Comparison of Nine Months Ended October 2, 2004and September 27, 2003**

Thefollowing table sets forth components of the Company’s net sales and operatingincome by market segment and operating division for the nine months endedOctober 2, 2004 and the corresponding change over the comparable period in2003 (in millions):
| ** **                      | ** ** | **Nine Months Ended** | ** ** | ** **                   | ** ** |
|---------------------------------|------------|---------------------------------|------------|------------------------------|------------|
| ** **                      | ** ** | **October 2,  2004**       | ** ** | **September 27,  2003** | ** ** | ** Change ** | ** ** |
| Market Segments:                |       |                            |       |                         |       |   |   |   |   |   |   |   |   |
| Net Sales                       |       |                            |       |                         |       |   |   |   |   |   |   |   |   |
| Consumer                        |       |                            | $          | 335.3                        |       |   |   | $ | 320.6 |   |   |   | $ | 14.7 |   |   |
| Industrial & Specialty |       |                            | 287.1      |                         |       |   | 260.2 |   |   |   | 26.9 |   |   |
|                            |       |                            | $          | 622.4                        |       |   |   | $ | 580.8 |   |   |   | $ | 41.6 |   |   |
| Operating Income                |       |                            |       |                         |       |   |   |   |   |   |   |   |   |
| Consumer                        |       |                            | $          | 12.5                         |       |   |   | $ | 12.7 |   |   |   | $ | (0.2 | ) |   |
| Industrial & Specialty |       |                            | 24.2       |                         |       |   | 16.8 |   |   |   | 7.4 |   |   |
|                            |       |                            | 36.7       |                         |       |   | 29.5 |   |   |   | 7.2 |   |   |
| Plant realignment costs         |       |                            | (1.5       | )                            |       |   | (3.7 | ) |   |   | 2.2 |   |   |
| Asset impairment charges        |       |                            | (1.7       | )                            |       |   | — |   |   |   | (1.7 | ) |   |
| Arbitration settlement, net     |       |                            | 13.1       |                         |       |   | — |   |   |   | 13.1 |   |   |
|                            |       |                            | $          | 46.6                         |       |   |   | $ | 25.8 |   |   |   | $ | 20.8 |   |   |
| Operating  Divisions:           |       |                            |       |                         |       |   |   |   |   |   |   |   |   |
| Net Sales                       |       |                            |       |                         |       |   |   |   |   |   |   |   |   |
| Nonwovens                       |       |                            | $          | 494.1                        |       |   |   | $ | 466.5 |   |   |   | $ | 27.6 |   |   |
| Oriented Polymers               |       |                            | 128.6      |                         |       |   | 114.3 |   |   |   | 14.3 |   |   |
| Eliminations                    |       |                            | (0.3       | )                            |       |   | — |   |   |   | (0.3 | ) |   |
|                            |       |                            | $          | 622.4                        |       |   |   | $ | 580.8 |   |   |   | $ | 41.6 |   |   |
| Operating Income                |       |                            |       |                         |       |   |   |   |   |   |   |   |   |
| Nonwovens                       |       |                            | $          | 38.4                         |       |   |   | $ | 33.6 |   |   |   | $ | 4.8 |   |   |
| Oriented Polymers               |       |                            | 10.8       |                         |       |   | 8.1 |   |   |   | 2.7 |   |   |
| Unallocated Corporate           |       |                            | (12.8      | )                            |       |   | (12.2 | ) |   |   | (0.6 | ) |   |
| Eliminations                    |       |                            | 0.3        |                         |       |   | — |   |   |   | 0.3 |   |   |
|                            |       |                            | 36.7       |                         |       |   | 29.5 |   |   |   | 7.2 |   |   |
| Plant realignment costs         |       |                            | (1.5       | )                            |       |   | (3.7 | ) |   |   | 2.2 |   |   |
| Asset impairment charges        |       |                            | (1.7       | )                            |       |   | — |   |   |   | (1.7 | ) |   |
| Arbitration settlement, net     |       |                            | 13.1       |                         |       |   | — |   |   |   | 13.1 |   |   |
|                            |       |                            | $          | 46.6                         |       |   |   | $ | 25.8 |   |   |   | $ | 20.8 |   |   |

 

The amounts for plantrealignment costs, asset impairment charges and arbitration settlement, net have not been allocated to the Company’sreportable business segments, for reporting purposes, because the Company’smanagement does not evaluate such charges or income on a segment-by-segmentbasis. Segment operating performance is measured and evaluated before unusualor special items.

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**Net Sales**

Areconciliation of the change in net sales between the nine months endedOctober 2, 2004 and the nine months ended September 27, 2003 ispresented in the following table (in millions):
| Net sales—nine  months ended September 27, 2003 |   | $      | 580.8  |   |
|-----------------------------------------------------------|--------|--------|--------|--------|
| Change in sales  due to:                                  |   |   |   |
| Volume                                                    |   | 25.4   |   |
| Foreign currency                                          |   | 18.0   |   |
| Price/mix                                                 |   | 8.5    |   |
| Businesses sold/exited                                    |   | (10.3  | )      |
| Net sales—nine months  ended October 2, 2004    |   | $      | 622.4  |   |

 

Consolidated net sales were approximately$622.4 million for the nine months ended October 2, 2004, an increaseof $41.6 million or 7.2% over the prior year comparable period. The increase innet sales was due primarily to increased sales volumes, especially in the United States and Latin Americanmarkets, and the strengthening of foreign currencies, predominantly the Euroand the Canadian dollar. Improvements in price/mix of sales also contributed tothe increase, which were partially offset by decreases associated withbusinesses exited or sold.

Consumer net sales were $335.3 million in thefirst nine months of 2004 compared to $320.6 million in 2003, an increaseof $14.7 million or 4.6%. This segment’s sales were positively impacted byforeign currencies, predominantly in Europe, where the Euro was strongeragainst the U.S. dollar during 2004 compared to 2003. Increased sales volumes of Nonwovens  inLatin America and the United States were partiallyoffset by declines in Europe. Industrial & Specialty net sales were$287.1 million in the first nine months of 2004 compared to $260.2 millionin the first nine months of 2003, an increase of $26.9 million or 10.3%.The year-over-year increase was due to the volume increases in Latin America Nonwovens and Oriented Polymers,coupled with the strengthening of the Euro and the Canadian dollar compared tothe U.S. dollar.

Nonwovens net sales were$494.1 million in the first nine months of 2004 compared to $466.5 million in2003, an increase of $27.6 million or 5.9%. Within the nonwovens business,higher sales volume in the United States and Latin Americanhygiene markets and the Latin American industrial market were partly offset byvolume losses in United States medical and wipes and European medical markets. The2004 nonwovens sales were also favorably impacted by the strengthening of theEuro versus the U.S. dollar. Oriented Polymers net sales increased $14.3million due to sales volume increases, improved price/mix of sales as well asthe strengthening of the Canadian dollar versus the U.S. dollar.

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**Operating Income**

Areconciliation of the change in operating income between the nine months endedOctober 2, 2004 and September 27, 2003 is presented in the followingtable (in millions):
| Operating  income—nine months ended September 27, 2003 |   | $      | 25.8   |   |
|------------------------------------------------------------------|--------|--------|--------|--------|
| Change in  operating income due to:                              |   |   |   |
| Arbitration settlement, net                                      |   | 13.1   |   |
| Volume                                                           |   | 8.7    |   |
| Price/mix                                                        |   | 8.5    |   |
| Lower manufacturing costs                                        |   | 6.0    |   |
| Lower plant realignment costs                                    |   | 2.2    |   |
| Foreign currency                                                 |   | 1.6    |   |
| Businesses sold/exited                                           |   | 0.5    |   |
| Higher asset impairment charges                                  |   | (1.7   | )      |
| Higher depreciation and amortization                             |   | (2.2   | )      |
| Higher raw material costs                                        |   | (13.3  | )      |
| All other, primarily higher SG&A costs                       |   | (2.6   | )      |
| Operating income—nine  months ended October 2, 2004    |   | $      | 46.6   |   |

 

Consolidated operatingincome was $46.6 million in the first nine months of 2004 as compared to$25.8 million in the first nine months of 2003. The improvement inoperating income in the first nine months was positively impacted by the $17.0million arbitration settlement which was received during the second quarter andreported as operating income net of $3.9 million of legal and other associatedarbitration costs. The improvement in operating income due to lowermanufacturing costs reflects the benefit of the Company’s ongoing efforts toreduce spending and improve operating efficiency. Increased volumes and improved price/mix of saleshave had a favorable impact on operating income in the first nine months of 2004.Lower plant realignment charges and the strengthening offoreign currencies versus theU.S. dollar also contributed favorably to operating income.Offsetting these favorable impacts were higher raw material costs of$13.3 million, predominantly in the United States, Latin American andCanadian businesses, higher asset impairment charges, higher depreciation andamortization charges and increased selling, general and administrativeexpenses. The higher SG&A costs are primarily related toincreased sales levels.

**Interest Expenseand Other**

Interest expense decreased$11.5 million from $43.8 million during the nine months ended September 27,2003 to $32.3 million during the same period in 2004. The decrease wasprimarily due to the lower interest rates obtained by refinancing the Company’sprevious Restructured Credit Facility with the new Bank Facility, effective April 27,2004. In conjunction with the Company’s refinancing, the Company’s majorityshareholder exchanged on April 27, 2004 approximately $42.6 million inaggregate principal amount of the Junior Notes for 42,633 shares of PIKPreferred Shares, which also contributed to lower interest costs during theperiod. If the refinancing and the exchange occurred at the beginning of thecurrent fiscal year, the Company would have realized an approximate$8.6 million additional reductionin interest expense during the nine monthsended October 2, 2004. Foreign currency and other expenseincreased approximately $5.1 million, from $3.1 million during thenine months ended September 27, 2003 to $8.2 million for thecomparable period in 2004. Approximately $5.0 million of the increase inforeign currency and other expense was due to the second quarter 2004 write-offof the loan acquisition costs related to the refinancing of the Company’sprevious Restructured Credit Facility. Additionally, the first nine months of2003 included $1.1 million of costs in other expense related to an aborted refinancing effort.

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**Chapter 11 Reorganization Items**

The Company recognized anet gain of $540.5 million from reorganization items upon its emergence fromChapter 11 during the first nine months of 2003. These reorganization itemsprimarily included gains on cancellation of prepetition indebtedness of $619.9million, offset by fresh start adjustments of $47.5 million and other costsassociated with the reorganization of $31.9 million.

**IncomeTaxes**

The Company recognizedincome tax expense of $8.2 million for the nine months ended October 2,2004 on consolidatedincome before income taxes of $4.5million for such period. The income tax expense in excess of income beforeincome taxes primarily resulted from income taxes accrued on the earningsgenerated by certain foreign operations as well as state income taxes in theUnited States, with no federal income tax benefit being recognized for thepre-tax losses incurred in the United States and certain foreign operations.During the nine months ended September 27, 2003, the Company recognized anincome tax expense of approximately $5.4 million.

**NetIncome (Loss)**

The Company’s net lossduring the nine months ended October 2, 2004 was $3.6 million asa result of the factors described above, as compared to a net income of$512.6 million during the comparable period in 2003.

**Liquidity and Capital Resources**

TheCompany’s principal sources of liquidity for operations and expansions arefunds generated internally and borrowing availabilities under the Company’sBank Facility, whichprovides for secured revolving credit borrowings with aggregate commitments ofup to $50.0 million and aggregate term loans of $425.0 million. 
| ** **                                                                | ** ** | **October 2,   2004** | ** ** | **January 3,   2004** | ** ** |
|---------------------------------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| ** **                                                                | ** ** | **(In Millions)**          | ** ** |
| Balance sheet data:                                                       |       |                            |       |                            |       |   |   |   |   |
| Cash and cash equivalents                                                 |       |                            | $          | 29.6                            |       |   |   | $ | 21.3 |   |   |
| Working capital                                                           |       |                            | 177.3      |                            |       |   | 119.1 |   |   |
| Working capital, excluding current portion of  long-term debt             |       |                            | 181.3      |                            |       |   | 153.1 |   |   |
| Total assets                                                              |       |                            | 734.9      |                            |       |   | 719.1 |   |   |
| Total debt                                                                |       |                            | 426.2      |                            |       |   | 483.4 |   |   |
| PIK Preferred Shares, expected to be settled with  shares of common stock |       |                            | 55.9       |                            |       |   | — |   |   |
| Shareholders’  equity                                                |       |                            | 56.4       |                            |       |   | 59.2 |   |   |
|                                                                           |            |                                 |            |                                 |            |  |  |  |  |  |  |

 
| ** **                                          | ** ** | **Nine Months Ended** | ** ** |
|-----------------------------------------------------|------------|---------------------------------|------------|
| ** **                                          | ** ** | **October 2,   2004** | ** ** | **September 27,   2003** | ** ** |
| ** **                                          | ** ** | **(In Millions)**          | ** ** |
| Cash flow data:                                     |       |                            |       |   |   |   |   |   |   |
| Net cash provided by (used in) operating activities |       |                            | $          | 36.3 |   |   |   | $ | 10.3 |   |   |
| Net cash used in investing activities               |       |                            | (12.4      | ) |   |   | (10.6 | ) |   |
| Net cash used in  financing activities              |       |                            | (15.6      | ) |   |   | (21.5 | ) |   |
|                                                     |            |                                 |            |  |  |  |  |  |  |  |  |

 

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**Operating Activities**

Net cash provided by operating activities was$36.3 million during the nine months ended October 2, 2004, anapproximate $26.0 million improvement from the $10.3 million provided byoperating activities during the nine months ended September 27, 2003. Thecurrent nine-month period was positively impacted by improved operating resultsand the net arbitration settlement of $13.1 million, with such positive impactsbeing partially offset by increases in working capital. The Company had nooutstanding borrowings under its $50.0 million revolving credit facility andcontinues to have access to the entire credit facility to help it to meetshort-term cash requirements. Generally, the Company strives to keep borrowingsunder its revolving credit facility at a minimum.

The Company had workingcapital, excluding the current portion of long-term debt, of $181.3 million at October 2,2004, compared to $153.1 million at January 3, 2004. Excluding the $8.2million increase in cash and cash equivalents, the increase was $20.0 million. Accounts receivableon October 2, 2004 were $128.5 million as compared to$121.1 million on January 3, 2004, an increase of $7.4 million,primarily due to higher sales during the quarter. Accounts receivablerepresented approximately 57 days of sales outstanding at October 2,2004 versus approximately 60 days of sales outstanding on January 3,2004. Inventories at October 2, 2004 were approximately$99.8 million, an increase of $3.3 million from inventories at January 3,2004 of $96.5 million. The Company had inventory representingapproximately 54 days of cost of sales on hand at October 2, 2004versus approximately 59 days of cost of sales on hand at January 3, 2004.Accounts payable at October 2, 2004 was $58.6 million as compared to $57.1million on January 3, 2004, an increase of $1.5 million. The Company hadaccounts payable representing approximately 32 days of cost of salesoutstanding at October 2, 2004, compared to approximately 35 days of costof sales outstanding at January 3, 2004. Other factors affecting theincrease in working capital were attributable to the $2.6 million repayment ofshort-term borrowings and the $8.5 million decrease in accruedliabilities, primarily due to settling obligations related to restructuringsand legal claims.

**Investing and Financing Activities**

Cash used in investing activities amounted to $12.4million during the nine months ended October 2, 2004, compared to the$10.6 million during the nine months ended September 27, 2003. Capitalexpenditures during the first nine months of 2004 totaled $13.2 million, adecrease of $12.1 million from capital spending of $25.3 millionduring the same period in fiscal 2003. Investing activities during the firstnine months of 2004 and 2003 included proceeds from the sale of assets of $0.8million and $14.6 million, respectively.

Cash used in financingactivities amounted to $15.6 million during the nine months ended October 2,2004, compared to the $21.5 million during the nine months ended September 27,2003. During the first nine months of 2004, the Company used $3.6 million ofcash to pay down its debt under its credit facilities, whereas the Company used$19.7 million of cash to pay down its debt during the comparable period of2003. In addition, the Company paid $12.1 million of loan acquisition costsduring the nine months ended October 2, 2004, compared to $1.8 millionduring the same period of 2003.

**LiquiditySummary**

As discussed in Note 7 to the Consolidated FinancialStatements, on April 27, 2004, the Company entered into its Bank Facilityconsisting of a $50.0 million revolving credit facility maturing in 2009, a$300.0 million senior secured first lien term loan that matures in 2010 and a$125.0 million senior secured second-lien term loan maturing in 2011. Theproceeds therefrom were used to fully repay indebtedness outstanding under theCompany’s previous Restructured Credit Facility and pay related fees andexpenses. The senior secured first lien term loan requires quarterly paymentsof $750,000 beginning in September 2004 and accrues interest at LIBOR plus325 basis points. The senior secured second lien term 

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loan accrues interest atLIBOR plus 625 basis points. The revolving credit facility initially bearsinterest at LIBOR plus 300 basis points. The Bank Facility provides the Companywith increased flexibility in terms of cash availability, less stringentrequirements for covenant compliance, extended maturity dates and substantiallyreduced net cash interest costs.

The Bank Facility contains covenants and events ofdefault customary in financings of this type, including leverage and interestexpense coverage. The Bank Facility requires the Company to use a percentage ofproceeds from excess cash flows, as defined by the agreement, to reduce itsdebt balances. The Company reduced the first lien term loan with a $5.0 millionpayment, which will be applied to any monies due as part of the calculatedexcess cash flows. Additionally, in accordance with the terms of the Bankfacility, the Company entered a cash flow hedge agreement, effectivelyconverting $212.5 million of notional principal amount of debt from avariable LIBOR rate to a fixed LIBOR rate of 3.383%. The cash flow hedgeagreement terminates on May 8, 2007.

In conjunction with the Company’s refinancing of theRestructured Credit Facility, the Company’s majority shareholder exchangedapproximately $42.6 million in aggregate principal amount of the Junior Notesit controlled for 42,633 shares of the Company’s PIK Preferred Shares.Additionally, in the third quarter,$10.1 million of aggregate principal amount of the Company’s Junior Notes wereexchanged for 10,083 shares of the Company’s PIK Preferred Shares and 6,719shares of the Company’s Class A Common Stock. The dividends on the PIKPreferred Shares accrue at an annual rate of 16% and are payable semi-annuallyin arrears on each January 1 and July 1, commencing with July 1,2004, at the option of the Company, (i) through the issuance of additionalPIK Preferred Shares; (ii) incash; or (iii) in a combination thereof. Dividends are cumulative andaccrue from the most recent dividend payment date to which dividends have beenpaid or, if no dividends have been paid, from the date of original issuance.

On June 30, 2012, the Company must redeem all ofthe PIK Preferred Shares then outstanding at a price equal to $1,000 per shareplus $1,000 per share for all unpaid dividends thereon whether or not declared,which amount will be payable by the Company, at theoption of the Company, (i) in cash; (ii) through theissuance of shares of Class A Common Stock; or (iii) through acombination thereof. If paid in stock, the number of shares to be delivered bythe Company will be the mandatory redemption price (as defined earlier) dividedby the then market price of a share of Class A Common Stock.

At any time prior to June 30,2012, the holders of the PIK Preferred Shares may elect to convert any or allof their PIK Preferred Shares into shares of theCompany’s Class A Common Stock at a conversion price equal to $7.29 per share.Also, at any time prior to June 30, 2012, provided certain conditions havebeen met, the Company may elect to redeem the shares, which redemption pricemay be paid by the Company, (i) in cash; (ii) through the issuance ofshares of Class A Common Stock; or (iii) through a combinationthereof. If paid in stock, the number of shares to be delivered by the Companywill be the optional redemption price (as defined by the preferred stockagreement) divided by the then market price of a share of Class A CommonStock. The Company currently expects to settle the mandatory or optionalredemption with the issuance of shares of Class A Common Stock.

As discussed in Note 16 to the Consolidated FinancialStatements, the Company recently announced its commitment to install a new lineat its Cali, Colombia facility, as well as other ongoing capital commitments. Asof October 2, 2004, these commitments totaled approximately $36.0 millionand are expected to be expended over the next two years.

In October 2004, the Company announced that it willraise prices on its products globally due to significant raw material costincreases, especially for polypropylene, polyester and rayon, and othersignificant cost increases, such as transportation and energy.

Based on the ability togenerate positive cash flows from itsoperations and the improved financial flexibility provided by the BankFacility, the Company believes that it has the financial resources necessary 

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to meetits operating needs, fund its capital expenditures and make all necessarycontributions to its retirement plans. Additionally, based on the refinancingof its debt and the exchange of its Junior Notes to PIK Preferred Shares, theCompany believes that it has significantly reduced its cash interest costs,improved its financial flexibility and strengthened its financial position.

Off-BalanceSheet Arrangements

TheCompany does not have any off-balance sheet arrangements that have, or arereasonably likely to have, a current or future material effect on the Company’s financial condition, results of operations,liquidity, capital expenditures or capital resources.

**Effectof Inflation**

Inflation generallyaffects the Company by increasing the cost of labor, overhead and equipment.The impact of inflation on the Company’s financial position and results ofoperations was minimal during the first nine months of 2004 and 2003.

**Critical Accounting Policies And Other Matters**

The Company’s analysis and discussion of its financialposition and results of operations are based upon its consolidated financialstatements that have been prepared in accordance with generally acceptedaccounting principles 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 could differ from the estimates.The Company evaluates these estimates and assumptions on an ongoing basis,including, but not limited to, those related to sales returns and allowancesand credit risks, inventories, income taxes, impairment of long-livedassets, pension and other post retirement benefits and contingencies. Estimatesand assumptions are based on historical and other factors believed to bereasonable under the circumstances. The impact and any associated risks relatedto estimates, assumptions, and accounting policies are discussed withinManagement’s Discussion and Analysis of Operations and Financial Condition, aswell as in the Notes to the Consolidated Financial Statements, if applicable,where such estimates, assumptions, and accounting policies affect the Company’sreported and expected results.

The Company believes the following accounting policiesare critical to its business operations and the understanding of results ofoperations and affect the more significant judgments and estimates used in thepreparation of its consolidated financial statements:

*Fresh Start Accounting:**  *Inconnection with the Company’s Chapter 11 reorganization, the Company hasapplied Fresh Start Accounting (as defined herein) to its consolidated balancesheet as of March 1, 2003 in accordance with Statement of Position No. 90-7,“Financial Reporting by Entities in Reorganization Under the Bankruptcy Code”as promulgated by the AICPA. Under Fresh Start Accounting, a new reporting entityis considered to be created and the recorded amounts of assets and liabilitiesare adjusted to reflect their estimated fair values at the date Fresh StartAccounting is applied. On March 5, 2003, the Company emerged frombankruptcy. For financial reporting purposes, March 1, 2003 is consideredthe emergence date and the effects of the reorganization have been reflected inthe accompanying financial statements as if the emergence occurred on thatdate.

The reorganization value of the Company’s new commonequity at March 1, 2003 of approximately $73.4 million was determinedbased on an independent valuation by financial specialists after considerationof multiple factors and by using various valuation methodologies and evaluatingother 

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relevant industryinformation. The reorganization value of the Company was allocated to thevarious assets and liabilities based on their respective fair values pursuantto Fresh Start Accounting principles. The calculated reorganization value ofthe Company was based on a variety of estimates and assumptions about futurecircumstances and events. Such estimates and assumptions are inherently subjectto significant economic uncertainties.

*Revenue Recognition:**  *Revenuefrom product sales is recognized at the time ownership of goods transfers tothe customer and the earnings process is complete in accordance with StaffAccounting Bulletin (“SAB”) No. 101, “Revenue Recognition in FinancialStatements”, as updated by SAB No. 104, “Revenue Recognition.” Salesreturns and allowances, a component of net sales, are recorded in the period inwhich the related sales are recorded. Management bases its estimate of theexpense to be recorded each period on historical returns and allowance levels.Management does not believe the likelihood is significant that materiallyhigher deduction levels will result based on prior experience.

*Accounts Receivable and Concentration of CreditRisks:**   Accounts*receivable potentially expose the Company to a concentration of credit risk, asdefined by Statement of Financial Accounting Standards No. 105, “Disclosureof Information 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 doesnot require collateral to support such receivables. The Company alsoestablishes an allowance for doubtful accounts based upon factors surroundingthe credit risk of specific customers, historical trends and other information.At October 2, 2004, a reserve of $12.6 million has been recorded asan allowance against trade accounts receivable. Management believes that theallowance is adequate to cover potential losses resulting from uncollectibleaccounts receivable and deductions resulting from sales returns and allowances.

*Inventory Reserves:**  *TheCompany maintains reserves for inventories valued using the first in, first out(FIFO) method. Such reserves for inventories can be specific to certaininventory or general based on judgments about the overall condition of theinventory. General reserves are established based on percentage write-downsapplied to inventories aged for certain time periods. Specific reserves areestablished based on a determination of the obsolescence of the inventory andwhether the inventory value exceeds amounts to be recovered through expectedsales price, less selling costs. Estimating sales prices, establishing markdownpercentages and evaluating the condition of the inventories require judgmentsand estimates, which may impact the inventory valuation and gross margins.Management believes, based onits prior experience of managing and evaluating the recoverability of its slowmoving or obsolete inventory, thatsuch established reserves are materially adequate.

*Impairment of Long-Lived Assets:**  *Long-livedassets are reviewed for impairment whenever events or changes in circumstancesindicate that the carrying amounts may not be recoverable. For assets held andused, an impairment may occur if projected undiscounted cash flows are notadequate to cover the carrying value of the assets. In such cases, additionalanalysis is conducted to determine the amount of the loss to be recognized. Theimpairment loss is determined by the difference between the carrying amount ofthe asset and the fair value measured by future discounted cash flows. Theanalysis, when conducted, requires estimates of the amount and timing ofprojected cash flows and, where applicable, judgments associated with, amongother factors, the appropriate discount rate. 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. In addition,future events impacting cash flows for existing assets could render a writedownnecessary that previously required no writedown.

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 

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should be recorded and theamount of such charge if an impairment loss is deemed to be necessary. Actualcash flows received or paid could differ from those used in estimating theimpairment loss, which would impact the impairment charge ultimately recognizedand the Company’s cash flows.

*Benefit Plans:**  *TheCompany has pension and postretirementcosts and obligations which are dependent on assumptions used by actuaries incalculating such amounts. These assumptions include discount rates, inflation,salary growth, long-term return on plan assets, retirement rates, mortalityrates and other factors. While the Company believes that the assumptions usedare appropriate, significant differences in actual experience or significantchanges in assumptions would affect its pension costs and obligations.

*IncomeTaxes:**  *TheCompany records an income tax valuation allowance when the realization ofcertain deferred tax assets, net operating losses and capital loss carryforwards is not likely. These deferred tax items represent expenses recognizedfor financial reporting purposes, which will result in tax deductions overvarying future periods. The Company has not provided U.S. income taxes forundistributed earnings of foreign subsidiaries that are considered to beretained indefinitely for reinvestment. Certain judgments, assumptions andestimates may affect the carrying value of the valuation allowance and deferredincome tax expense in the Company’s consolidated financial statements.

**ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUTMARKET RISK**

The overall objective ofthe Company’s financial risk management program is to seek a reduction in thepotential negative earnings impact of changes in interest rates, foreignexchange and raw material pricing arising in our business activities. TheCompany manages these financial exposures through operational means and byusing various financial instruments. These practices may change as economicconditions change.

**Long-Term Debt and Interest Rate Market Risk**

The Company’s long-termborrowings are variable interest rate debt. As such, the Company’s interestexpense will increase as interest rates rise and decrease as interest ratesfall. 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, theCompany entered into an interest rate swap contract to convert $212.5 millionof its variable-rate debt to fixed-rate debt. In addition, the Company includesshort-term borrowings in its debt portfolio, especially in foreign countries,in an effort to minimize interest rate risk. Hypothetically, a 1% change in theinterest rate affecting all of the Company’s financial instruments notprotected by the interest rate swap contract would change interest expense byapproximately $2.3 million.

**Foreign Currency Exchange Rate Risk**

The Company manufactures, markets and distributescertain of its products in Europe, Canada, Latin America and the Far East. As aresult, the Company’s financial statements could be significantly affected byfactors such as changes in foreign currency rates in the foreign markets inwhich the Company maintains a manufacturing or distribution presence. However,such currency fluctuations have much less effect on local operating resultsbecause the Company, to a significant extent, sells its products within thecountries in which they are manufactured. During 2003 and the first nine monthsof 2004, certain currencies of countries in which the Company conducts foreigncurrency denominated business strengthened 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 in Item2 of Part 1 of this Quarterly Report on Form 10-Q.

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The Company has nothistorically hedged its exposure to foreign currency risk, although it hasmitigated its risk of currency losses on foreign monetary assets by sometimesborrowing in foreign currencies as a natural hedge. The Company is also subjectto political risk in certain of its foreign operations.

**Raw Material and Commodity 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 and polyethylene are a function of, among otherthings, manufacturing capacity, demand and the price of crude oil and naturalgas liquids. The Company has not historically hedged its exposure to rawmaterial increases, but has attempted to move more customer programs tocost-plus type contracts, which would allow the Company to pass-throughany cost increases in raw materials. Raw material prices as a percentage ofsales have increased from 46.8% in the first nine months of 2003 to 48.1% forthe comparable period of 2004.

To the extent the Companyis not able to pass along price increases of raw materials, or to the extentany such price increases are delayed, the Company’s cost of goods sold wouldincrease and its operating profit would correspondingly decrease. By way ofexample, if the price of polypropylene were to rise $.01 per pound, and theCompany was not able to pass along any of such increase to its customers, theCompany would realize a decrease of approximately $2.9 million,on an annualized basis, in its reported operating income. Material increases inraw material prices that cannot be passed on to customers could have a materialadverse effect 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 1 of this Quarterly Report on Form 10-Q.

**ITEM 4. CONTROLS AND PROCEDURES**

The Chief Executive Officer andChief Financial Officer have evaluated theCompany’s disclosure controls and procedures as of the end ofthe period covered by this report. Based on that evaluation, the ChiefExecutive Officer and Chief Financial Officer have concluded that thesedisclosure controls and procedures were effective, as of October 2, 2004.

There were no changes inthe Company’s internal controls over financial reporting during the quarterended October 2, 2004 that have materially affected, or are reasonablylikely to materially affect, the Company’s internal controls over financialreporting.

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PART II. OTHER INFORMATION

**ITEM 1. LEGAL PROCEEDINGS**

Other than as reported in the Company’s Form 10-Qfor the period ended July 3, 2004 under the caption “Item 1. LegalProceedings,” the Company is notcurrently a party to any material pending legal proceedings other than routinelitigation incidental to the business of the Company.

****

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

During the third quarter of fiscal 2004, $10.1million of the Company’s Junior Notes were exchanged for approximately 10,083 shares of the Company’s PIKPreferred Shares and 6,719 shares of the Company’s Class A CommonStock.

**ITEM 3. DEFAULTS UPON SENIOR SECURITIES**

Not applicable.

**ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS**

Not applicable.

**ITEM 5. OTHER INFORMATION**

Not applicable.

**ITEM6. EXHIBITS**

****

Exhibitsrequired to be filed with 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                    |

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of1934, the registrant has duly caused this report to be signed on its behalf bythe undersigned, thereunto duly authorized.

|                              |     | POLYMER GROUP, INC. |
|------------------------------|----------|--------------------------|
|                         |     |                     |   |   |
| Date: November 15, 2004 |     | By:                      |   | /s/ JAMES L. SCHAEFFER |
| * *                     | * * | * *                 | * * | James L.  Schaeffer*Chief Executive Officer* |
| * *                     | * * | * *                 | * * | * * |
| Date: November 15, 2004 |     | By:                      |   | /s/ WILLIS C. MOORE III |
| * *                     | * * | * *                 | * * | Willis C. Moore  III*Chief Financial Officer  (Principal Financial Officer)* |

 

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