UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549


                                    FORM 10-Q


[X]      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
         EXCHANGE ACT OF 1934

                  For the quarterly period ended June 30, 2001

                                       or

[ ]      TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
         EXCHANGE ACT OF 1934

                 For the transition period from ______ to ______

                         Commission file number 0-27808


                             HEADWATERS INCORPORATED
              ----------------------------------------------------
             (Exact name of registrant as specified in its charter)


             Delaware                                        87-0547337
  -------------------------------                       --------------------
  (State or other jurisdiction of                         (I.R.S. Employer
   incorporation or organization)                        Identification No.)

        11778 South Election Road, Suite 210
                   Draper, Utah                                   84020
      -----------------------------------------                 ---------
      (Address of principal executive offices)                  (Zip Code)

                                 (801) 984-9400
              ----------------------------------------------------
              (Registrant's telephone number, including area code)


                                 Not applicable
              ----------------------------------------------------
              (Former name, former address and former fiscal year,
                         if changed since last report)


         Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of
1934  during  the  preceding  12 months  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]


The number of shares outstanding of the Registrant's common stock as of July 31,
2001 was 23,475,902.

<PAGE>


                             HEADWATERS INCORPORATED

                                TABLE OF CONTENTS

                                                                        Page No.
PART I - FINANCIAL INFORMATION

     ITEM 1.      FINANCIAL STATEMENTS (Unaudited):

                  Condensed Consolidated Balance Sheets - As of
                     September 30, 2000 and June 30, 2001..................  3

                  Condensed Consolidated Statements of Income -
                     For the three and nine months ended June 30,
                     2000 and 2001.........................................  5

                  Condensed Consolidated Statement of Changes in
                     Stockholders' Equity - For the nine months
                     ended June 30, 2001...................................  6

                  Condensed Consolidated Statements of Cash Flows
                     - For the nine months ended June 30, 2000
                     and 2001..............................................  7

                  Notes to Condensed Consolidated Financial
                     Statements............................................  8

     ITEM 2.      MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                  CONDITION AND RESULTS OF OPERATIONS...................... 13


PART II - OTHER INFORMATION

     ITEM 1.      LEGAL PROCEEDINGS........................................ 18

     ITEM 2.      CHANGES IN SECURITIES AND USE OF PROCEEDS................ 18

     ITEM 3.      DEFAULTS UPON SENIOR SECURITIES.......................... 18

     ITEM 4.      SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...... 18

     ITEM 5.      OTHER INFORMATION........................................ 18

     ITEM 6.      EXHIBITS AND REPORTS ON FORM 8-K......................... 19


SIGNATURES................................................................. 19


Forward Looking Statements

Statements  in this Form  10-Q,  including  those  concerning  the  Registrant's
expectations regarding its business, and certain of the information presented in
this report,  constitute  forward looking  statements  within the meaning of the
Private  Securities  Litigation  Reform Act of 1995. As such, actual results may
vary  materially  from such  expectations.  For a discussion of the factors that
could cause actual results to differ from  expectations,  please see the caption
entitled "Forward Looking Statements" in Part I, Item 2 hereof.  There can be no
assurance  that the  Registrant's  results of  operations  will not be adversely
affected by such  factors.  Registrant  undertakes  no  obligation  to revise or
publicly   release  the  results  of  any  revision  to  these  forward  looking
statements.  Readers are cautioned not to place undue  reliance on these forward
looking  statements,  which  reflect  management's  opinion  only as of the date
hereof.

                                       2
<PAGE>

ITEM 1.  FINANCIAL STATEMENTS (Unaudited)
<TABLE>
<CAPTION>
                                          HEADWATERS INCORPORATED AND SUBSIDIARIES

                                            CONDENSED CONSOLIDATED BALANCE SHEETS
                                                         (Unaudited)

                                                                                              September 30,          June 30,
(thousands of dollars)                                                                                 2000              2001
------------------------------------------------------------------------------------------- ---------------- -----------------

ASSETS
<S>                                                                                         <C>               <C>
Current assets:
     Cash and cash equivalents                                                              $           983             $ 218
     Short-term investments                                                                           6,973             5,207
     Trade receivables, net                                                                           7,298             6,542
     Short-term notes and accrued interest receivable                                                 2,530             1,180
     Other current assets                                                                               387               401
                                                                                            ---------------- -----------------
            Total current assets                                                                     18,171            13,548
                                                                                            ---------------- -----------------

Property, plant and equipment, net of accumulated depreciation                                          552               631
                                                                                            ---------------- -----------------

Other assets:
     Notes and accrued interest receivable                                                            6,598             8,716
     Equity investments, net                                                                          3,259             4,210
     Deferred income taxes                                                                            3,000             3,000
     Intangible assets, net of accumulated amortization                                               1,221             1,094
     Other assets                                                                                       640             1,175
                                                                                            ---------------- -----------------
            Total other assets                                                                       14,718            18,195
                                                                                            ---------------- -----------------

            Total assets                                                                            $33,441           $32,374
                                                                                            ================ =================
                                   (continued)


                     The accompanying notes are an integral
                 part of the consolidated financial statements.

                                       3
<PAGE>
<CAPTION>
                                          HEADWATERS INCORPORATED AND SUBSIDIARIES

                                      CONDENSED CONSOLIDATED BALANCE SHEETS, continued
                                                        (Unaudited)

                                                                                              September 30,         June 30,
(thousands of dollars and shares)                                                                      2000             2001
-------------------------------------------------------------------------------------------- --------------- ----------------

LIABILITIES AND STOCKHOLDERS' EQUITY
<S>                                                                                         <C>               <C>
Current liabilities:
     Accounts payable                                                                                 $ 698          $ 1,025
     Accrued personnel costs                                                                          2,254            1,681
     Other accrued liabilities                                                                        3,786            3,140
     Short-term borrowings                                                                              208              612
                                                                                             --------------- ----------------
            Total current liabilities                                                                 6,946            6,458
                                                                                             --------------- ----------------

Long-term liabilities:
     Notes payable, non-current                                                                       5,055              149
     Other long-term liabilities                                                                        180              149
     Deferred revenue                                                                                10,513            7,187
                                                                                             --------------- ----------------
            Total long-term liabilities                                                              15,748            7,485
                                                                                             --------------- ----------------
            Total liabilities                                                                        22,694           13,943
                                                                                             --------------- ----------------

Commitments and contingencies

Stockholders' equity:
     Convertible preferred stock, $0.001 par value; authorized 10,000 shares, issued
       and outstanding 17 shares at September 30, 2000 and 0 shares at June 30, 2001                      1               --
     Common stock,  $0.001  par  value;  authorized  50,000  shares,  issued and
       outstanding  23,341 shares at September 30, 2000  (including 214 shares
       held in treasury) and 23,472 shares at June 30, 2001 (including 568 shares
       held in treasury)                                                                                 23               23
     Capital in excess of par value                                                                  82,659           78,521
     Accumulated deficit                                                                            (70,221)         (55,978)
     Other, primarily treasury stock                                                                 (1,715)          (4,135)
                                                                                             --------------- ----------------
            Total stockholders' equity                                                               10,747           18,431
                                                                                             --------------- ----------------

            Total liabilities and stockholders' equity                                              $33,441          $32,374
                                                                                             =============== ================
</TABLE>

                     The accompanying notes are an integral
                 part of the consolidated financial statements.

                                       4
<PAGE>
<TABLE>
<CAPTION>
                                            HEADWATERS INCORPORATED AND SUBSIDIARIES

                                           CONDENSED CONSOLIDATED STATEMENTS OF INCOME
                                                           (Unaudited)



                                                                    Three Months Ended June 30,        Nine months Ended June 30,
(thousands of dollars, except per-share data)                             2000             2001           2000               2001
-------------------------------------------------------------- ---------------- ---------------- -------------- ------------------
<S>                                                            <C>              <C>             <C>             <C>
Revenue:
     License fees                                                      $ 3,591          $ 4,336        $12,424            $15,770
     Chemical sales                                                      2,709            5,777          5,945             15,432
     Gains on sale of facilities                                         8,527               --         13,868                 --
     Gains on non-recurring transactions                                    --               --          1,079                 --
     Other                                                                 173              586            633              1,566
                                                               ---------------- ---------------- -------------- ------------------
          Total revenue                                                 15,000           10,699         33,949             32,768
                                                               ---------------- ---------------- -------------- ------------------

Operating costs and expenses:
     Cost of chemical                                                    1,860            3,610          4,088              9,889
     Cost of operations                                                  1,006              489          3,488              2,446
     Selling, general and administrative                                 1,215              730          3,112              3,828
     Asset write-offs and other non-recurring charges                    2,111               --         13,973                 --
     Loss on sale of facilities, net                                        --               --            598                 --
                                                               ---------------- ---------------- -------------- ------------------
        Total operating costs and expenses                               6,192            4,829         25,259             16,163
                                                               ---------------- ---------------- -------------- ------------------

Operating income                                                         8,808            5,870          8,690             16,605
                                                               ---------------- ---------------- -------------- ------------------

Other income (expense):
     Interest and investment income                                        324              170          1,434                511
     Interest expense                                                     (951)             (33)        (4,716)              (179)
     Other, net                                                             78           (1,033)            62             (1,859)
                                                               ---------------- ---------------- -------------- ------------------
          Total other income (expense), net                               (549)            (896)        (3,220)            (1,527)
                                                               ---------------- ---------------- -------------- ------------------

Income before income taxes and extraordinary item                        8,259            4,974          5,470             15,078

Income tax benefit (expense)                                                --             (18)          3,000               (140)
                                                               ---------------- ---------------- -------------- ------------------

Income before extraordinary item                                         8,259            4,956          8,470             14,938

Extraordinary loss on early extinguishment of debt                      (6,037)              --         (7,860)                --
                                                               ---------------- ---------------- -------------- ------------------

Net income                                                             $ 2,222          $ 4,956          $ 610            $14,938
                                                               ================ ================ ============== ==================

Basic net income per common share                                         $.09             $.22           $.01               $.65
                                                               ================ ================ ============== ==================

Diluted net income per common share                                       $.09             $.20           $.01               $.61
                                                               ================ ================ ============== ==================
</TABLE>

                     The accompanying notes are an integral
                 part of the consolidated financial statements.

                                       5
<PAGE>
<TABLE>
<CAPTION>
                                       HEADWATERS INCORPORATED AND SUBSIDIARIES

                           CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
                                          For the Nine Months Ended June 30, 2001
                                                        (Unaudited)




                                                                                                               Other
                                                                                             --------------------------------------
                                                                                             Related party
                                                                                                  note
                                   Convertible                                                 receivable     Deferred
                                 Preferred Stock   Common Stock    Capital in               collateralized compensation Common stock
(thousands of dollars            ---------------- ----------------    excess    Accumulated        by        from stock    held in
and shares)                      Shares    Amount Shares    Amount of par value   deficit     common stock    options     treasury
-------------------------------- ------    ------ ------    ------ ------------ ------------ -------------- ----------- -----------
<S>                              <C>       <C>   <C>        <C>      <C>         <C>          <C>          <C>         <C>
Balances at September 30, 2000      17        $1  23,341      $23     $82,659     $(70,221)       $(466)       $(515)      $(734)

Exercise of stock options                            255       --         383

Write-up of related party note
 receivable to collateral value                                                                    (541)

Cancellation of related party
 note receivable and
 transfer of collateral shares
 to treasury stock                                                                                1,007                   (1,007)

Amortization of deferred
 compensation from stock options                                                                                   46

Purchase of treasury stock,
 at cost                                                                                                                  (2,968)

Treasury stock transferred to
 employee stock purchase plan                                                                                                 70

Cancellation of treasury stock                      (762)      --      (2,753)                                             2,753

Net income                                                                           9,982
                               ------- --------- ------- -------- ----------- ------------ ------------ ------------ -----------
Balances at March 31, 2001          17         1  22,834       23      80,289      (60,239)          --         (469)     (1,886)

Common stock issued on
 conversion of convertible
 preferred stock                   (17)       (1)    443       --          --

Preferred stock dividends
 redeemed for cash                                                                    (695)

Exercise of stock options
 and warrants                                        553       --       1,325

Amortization of deferred
 compensation from stock
 options                                                                                                          24

Purchase of treasury stock,
 at cost                                                                                                                  (4,915)

Treasury stock transferred to
 employee stock purchase
 plan                                                                                                                         18

Cancellation of treasury stock                      (357)      --      (3,093)                                             3,093

Net income                                                                           4,956
                               ------- --------- ------- -------- ----------- ------------ ------------ ------------ -----------
Balances at June 30, 2001           --      $ --  23,473      $23     $78,521     $(55,978)        $ --        $(445)    $(3,690)
                               ======= ========= ======= ======== =========== ============ ============ ============ ===========
</TABLE>

                     The accompanying notes are an integral
                 part of the consolidated financial statements.

                                        6
<PAGE>
<TABLE>
<CAPTION>
                    HEADWATERS INCORPORATED AND SUBSIDIARIES

                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (Unaudited)


                                                                                                      Nine months Ended June 30,
     (thousands of dollars)                                                                                   2000          2001
----------------------------------------------------------------------------------------------- ------------------- -------------
<S>                                                                                                    <C>         <C>
     Cash flows from operating activities:
     Net income                                                                                              $ 610       $14,938
     Adjustments to reconcile net income to net cash provided by operating activities:
        Recognition of deferred revenue                                                                       (490)       (1,739)
        Depreciation and amortization                                                                          912           196
        Deferred income tax benefit                                                                         (3,000)           --
        Losses in equity investments, write-offs and provisions for unrealizable investments                    --         1,428
        Write-down of notes receivable and related accrued interest                                             --         1,025
        Net gains on sale of facilities and disposition of equipment                                       (13,355)          (42)
        Amortization of deferred compensation from stock options                                               683            70
        Interest expense related to amortization of debt discount and debt issuance costs                    2,990            57
        Write-down (write-up) of related party note receivable                                                  82          (541)
        Gains on non-recurring transactions                                                                 (1,079)           --
        Asset write-offs and other non-recurring charges                                                    11,680            --
        Extraordinary loss on early extinguishment of debt                                                   7,860            --
        Other changes in operating assets and liabilities                                                    3,762        (1,444)
                                                                                                ------------------- -------------
   Net cash provided by operating activities                                                                10,655        13,948
                                                                                                ------------------- -------------

   Cash flows from investing activities:
        Net proceeds from sale of short-term investments                                                        --         1,766
        Investments in and loans to non-affiliated companies                                                  (450)       (4,562)
        Proceeds from sale of facilities and equipment                                                      34,579            42
        Purchase of facilities held for sale and equipment                                                    (551)         (148)
        Net increase in other assets                                                                           (75)         (527)
        Decrease in restricted assets                                                                          589            --
                                                                                                ------------------- -------------
   Net cash provided by (used in) investing activities                                                      34,092        (3,429)
                                                                                                ------------------- -------------

   Cash flows from financing activities:
        Net proceeds from issuance of notes payable and warrants and other borrowings                        6,980         8,148
        Payments on notes payable, including redemption premiums, and other borrowings                     (41,754)      (12,650)
        Purchase of common stock for the treasury, net of employee stock purchases                             (32)       (7,795)
        Proceeds from exercise of options and warrants                                                         421         1,708
        Preferred stock dividends                                                                             (297)         (695)
        Net proceeds from issuance of common stock and warrants                                              5,254            --
        Preferred stock redemption                                                                          (4,454)           --
                                                                                                ------------------- -------------
   Net cash used in financing activities                                                                   (33,882)      (11,284)
                                                                                                ------------------- -------------

   Net increase (decrease) in cash and cash equivalents                                                     10,865          (765)

   Cash and cash equivalents, beginning of period                                                              461           983
                                                                                                ------------------- -------------

   Cash and cash equivalents, end of period                                                                $11,326         $ 218
                                                                                                =================== =============

   Supplemental schedule of non-cash investing and financing activities:
        Cancellation of treasury stock                                                                       $  --       $(5,846)
        Common stock issued on conversion of convertible preferred stock and in
          payment of dividends                                                                               1,634         3,100
        Cancellation of related party notes receivable and the common stock
          collateralizing the notes                                                                          6,164            --
        Common stock issued on conversion of convertible debt and related
          accrued interest                                                                                   3,104            --
        Reclassification of redeemable convertible preferred stock to convertible
          preferred stock                                                                                    2,710            --

</TABLE>

                     The accompanying notes are an integral
                 part of the consolidated financial statements.

                                       7
<PAGE>

                    HEADWATERS INCORPORATED AND SUBSIDIARIES

              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)
                                   ----------


1.   Nature of Operations and Basis of Presentation

     Headwaters  Incorporated  and  its  Subsidiaries'  primary  business  is to
     commercialize its chemical  technologies  used to produce  alternative fuel
     from coal  derivatives  and to  develop  and deploy  related  technologies.
     Currently,  Headwaters  has  licensed  its  technology  to the owners of 28
     alternative  fuel  facilities  which are  operating  at  various  levels of
     production  in eight  states.  During the fiscal year ended  September  30,
     2000,  Headwaters  began evaluating and pursuing  investment  alternatives.
     Headwaters invested excess cash in high-grade  government backed securities
     and made several  equity  investments  in and loans to unrelated  high-risk
     entities.  Headwaters  does not  currently  intend to make any  significant
     additional  equity  investments  or  loans to any new  unrelated  entities.
     Headwaters is interested in possible  strategic  acquisitions  of operating
     entities that would be synergistic to Headwaters' current operations.

     The accompanying unaudited condensed consolidated financial statements have
     been  prepared  in  accordance  with  the  rules  and  regulations  of  the
     Securities and Exchange  Commission for quarterly  reports on Form 10-Q. In
     the opinion of management,  all adjustments considered necessary for a fair
     presentation have been included. All adjustments except the items described
     in  Note  5  consist  of  normal  recurring  adjustments.  The  results  of
     operations  for the three- and  nine-month  periods ended June 30, 2001 are
     not  necessarily  indicative  of the  results to be  expected  for the full
     fiscal 2001 year.  Certain  information and footnote  disclosures  normally
     included in financial  statements  prepared in accordance  with  accounting
     principles  generally  accepted in the United States have been condensed or
     omitted.  It is  suggested  that  these  financial  statements  be  read in
     conjunction  with the consolidated  financial  statements and notes thereto
     included  in  Headwaters'  Annual  Report on Form  10-K for the year  ended
     September 30, 2000 and in  Headwaters'  Quarterly  Reports on Form 10-Q for
     the quarters  ended  December 31, 2000 and March 31,  2001.  Certain  prior
     period amounts have been  reclassified to conform with the current periods'
     presentation.  The  reclassifications  had no effect on net income or total
     assets.

2.   Equity Transactions

     During the quarter ended June 30, 2001, Headwaters completed several equity
     transactions, including the following.

     Treasury  Stock -  During  the  quarter  ended  June 30,  2001,  Headwaters
     continued acquiring shares of its common stock in connection with the stock
     repurchase  program  announced in May 2000 and  expanded in June 2001.  The
     program,  as revised,  authorizes  Headwaters to purchase stock in the open
     market or through  negotiated block  transactions up to an aggregate of 20%
     of the  outstanding  common stock,  3,000,000  shares of common  stock,  or
     $15,000,000,  whichever is greater. During the quarter ended June 30, 2001,
     Headwaters  purchased   approximately   455,000  shares  for  approximately
     $4,915,000.  Also  during  the  quarter,  approximately  357,000  shares of
     treasury stock were cancelled.

     Common Stock Options - During the quarter ended June 30, 2001,  options and
     warrants for the purchase of  approximately  553,000 shares of common stock
     were exercised for cash proceeds of approximately $1,325,000.

     Convertible Preferred Stock - In May 2001, all of the remaining outstanding
     shares  of  preferred  stock,  consisting  of 3,000  shares of Series A and
     14,310  shares of Series B, were  converted  into a total of  approximately
     443,000 shares of common stock  (representing  a conversion  price of $7.00
     per common share). Headwaters redeemed the accrued but undeclared dividends
     of  approximately  $695,000 for cash rather than allowing  conversion  into
     common stock.

                                       8
<PAGE>

                    HEADWATERS INCORPORATED AND SUBSIDIARIES

              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)
                                   ----------


3.   Notes Payable and Other Borrowings
<TABLE>
<CAPTION>
     Notes payable and other borrowings consisted of the following:
                                                                                                 September 30,        June 30,
  (thousands of dollars)                                                                                  2000            2001
  ---------------------------------------------------------------------------------------------- -------------- ---------------
<S>                                                                                              <C>             <C>
  Short-term borrowings from an investment company, bearing interest at a
  floating rate (4.7% as of June 30, 2001), collateralized by investments with
  the investment company with a carrying value of approximately $5,175,000.                             $   --            $509

  Note payable to a bank, bearing interest at prime plus 2%, repaid with
  proceeds from a long-term line of credit with this bank obtained in October 2000.                      3,000              --

  Note payable to a corporation bearing interest at 6%, repaid in October 2000
  with funds obtained from a long-term bank line of credit obtained in October 2000.                     1,838              --

  Other                                                                                                    425             252
                                                                                                 -------------- ---------------
                                                                                                         5,263             761
       Less: current portion                                                                              (208)           (612)
                                                                                                 -------------- ---------------
       Total non-current                                                                                $5,055            $149
                                                                                                 ============== ===============
</TABLE>

     The  weighted-average  interest rate on the above  obligations  was 9.7% at
     September 30, 2000 and 7.5% at June 30, 2001.

4.   Basic and Diluted Earnings per Share
<TABLE>
<CAPTION>
                                                              Three  Months Ended June 30,     Nine  Months Ended June 30,
    (thousands of dollars and shares, except per-share data)        2000          2001            2000            2001
    -------------------------------------------------------- ------------- ---------------- --------------- ---------------
<S>                                                            <C>              <C>             <C>            <C>
    Numerator:
         Income before extraordinary item                          $8,259           $4,956          $8,470         $14,938
         Extraordinary item                                        (6,037)              --          (7,860)             --
                                                             ------------- ---------------- --------------- ---------------
         Net income                                                 2,222            4,956             610          14,938
         Preferred stock dividends                                    (66)             (19)           (331)           (113)
         Imputed preferred stock dividends                             --               --             (58)             --
                                                             ------------- ---------------- --------------- ---------------
    Numerator for basic earnings per share -- net income
      attributable to common stockholders                           2,156            4,937             221          14,825
    Effect of dilutive securities - preferred stock dividends          19               19              92             113
                                                             ------------- ---------------- --------------- ---------------
    Numerator for diluted earnings per share -- net income
      attributable to common stockholders after assumed
      conversions                                                  $2,175           $4,956            $313         $14,938
                                                             ============= ================ =============== ===============

    Denominator:
    Denominator for basic earnings per share -- weighted-
      average shares outstanding                                   22,988           22,730          18,208          22,723
    Effect of dilutive securities:
      Shares issuable upon exercise of options and warrants           226            2,220             188           1,445
      Shares issuable upon conversion of preferred stock            1,052              187           3,020             357
                                                             ------------- ---------------- --------------- ---------------
    Total dilutive potential shares                                 1,278            2,407           3,208           1,802
                                                             ------------- ---------------- --------------- ---------------
    Denominator for diluted earnings per share -- weighted-
      average shares outstanding after assumed exercises
      and conversions                                              24,266           25,137          21,416          24,525
                                                             ============= ================ =============== ===============

    Basic net income per share:
    Income before extraordinary item                                 $.35             $.22            $.44            $.65
    Extraordinary item                                               (.26)              --            (.43)             --
                                                             ------------- ---------------- --------------- ---------------
    Net income  per common share                                     $.09             $.22            $.01            $.65
                                                             ============= ================ =============== ===============
    Diluted net income per share:
    Income before extraordinary item                                 $.34             $.20            $.38            $.61
    Extraordinary item                                               (.25)              --            (.37)             --
                                                             ------------- ---------------- --------------- ---------------
    Net income per common share                                      $.09             $.20            $.01            $.61
                                                             ============= ================ =============== ===============
</TABLE>
                                       9
<PAGE>

                    HEADWATERS INCORPORATED AND SUBSIDIARIES

              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)
                                   ----------


     During  the nine  months  ended  June  30,  2000,  Headwaters'  potentially
     dilutive  securities  consisted of options and warrants for the purchase of
     common stock,  convertible debt and convertible  preferred  stock,  many of
     which were  anti-dilutive  and were therefore omitted in the calculation of
     diluted  earnings  per  share.  For all other  periods  presented,  certain
     potentially  dilutive  securities,  primarily  options and  warrants,  were
     anti-dilutive  and were also omitted in the calculation of diluted earnings
     per share.  The amount of  anti-dilutive  securities  not considered in the
     diluted  earnings per share  calculation  totaled  approximately  5,100,000
     shares and  700,000  shares for the three  months  ended June 30,  2000 and
     2001, respectively, and approximately 8,200,000 shares and 1,600,000 shares
     for the nine months ended June 30, 2000 and 2001, respectively.

5.   Non-recurring Items

     In December 1999,  Headwaters sold one of the three  remaining  alternative
     fuel  facilities it owned at that time. In January  2000,  Headwaters  sold
     another  alternative  fuel  facility  and an option to  acquire a  licensee
     facility,  and in April 2000, Headwaters sold its remaining owned facility.
     During the nine months ended June 30, 2000,  Headwaters  reported net gains
     on all facility sale transactions of approximately $13,270,000. Also during
     the nine months  ended June 30,  2000,  Headwaters  recorded  non-recurring
     gains  of  approximately  $1,079,000  related  to  the  satisfaction  of  a
     contingent  contract  liability and a gain  recognized on a note receivable
     transaction.

     In  the  June  2000  quarter,   Headwaters  recorded   non-recurring  asset
     write-offs   and  employee   severance   charges   totaling   approximately
     $2,111,000.  In  addition,  during the six  months  ended  March 31,  2000,
     Headwaters  recorded  impairment charges and other  non-recurring  employee
     severance and settlement charges totaling  approximately  $11,862,000.  The
     impairment  charges related  primarily to assets located at the Price, Utah
     site and consisted of a write-down to net realizable value of certain plant
     and  equipment  which  remained on the site and became idle when a facility
     was sold,  plus a  write-off  of an  intangible  asset  which was no longer
     considered  recoverable  due  to the  relocation  of a  licensee  facility.
     Approximately  $11,680,000  of the  total  impairment  charges  in the nine
     months ended June 30, 2000 did not involve the use of cash.

     During the nine months ended June 30, 2000,  Headwaters redeemed two series
     of  convertible   debt.  Early  prepayment  costs  totaling   approximately
     $7,860,000  were  recognized  as an  extraordinary  item as a result of the
     redemption  consideration paid plus the acceleration of amortization of the
     unamortized  debt  discount and debt  issuance  costs in excess of the debt
     carrying value.

     There were no non-recurring  gains or losses recorded during the quarter or
     nine months ended June 30, 2001.

6.   Income Taxes

     In the quarter ended June 30, 2001,  Headwaters  incurred  $18,000 of state
     income tax expense.  In  addition,  in the six months ended March 31, 2001,
     Headwaters reported $100,000 of federal alternative minimum tax expense and
     $22,000 of state  income tax  expense.  There was no income tax expense for
     the quarter ended June 30, 2000; however, Headwaters reported an income tax
     benefit of  $3,000,000,  consisting of the  recognition of a portion of its
     deferred  tax  asset,  in  the  nine-month  period  ended  June  30,  2000.
     Headwaters  believes it is more  likely  than not that this  portion of the
     total  deferred  tax  asset  will be  realized  as a result of income to be
     recognized from the amortization in subsequent  periods of deferred revenue
     currently recorded in the consolidated balance sheet.

     As of June 30, 2001,  Headwaters  has net operating loss  carryforwards  of
     approximately  $31,500,000  which  can be used  to  offset  future  taxable
     income.  Headwaters has not  recognized  any additional  deferred tax asset
     related to these net operating loss  carryforwards  due to various factors,
     including its short history of profitability,  the significant  variability
     of  licensee  production  levels,  and other  uncertainties  related to the
     future recoverability of a potential tax asset.

                                       10
<PAGE>

                    HEADWATERS INCORPORATED AND SUBSIDIARIES

              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)
                                   ----------

7.   Hydrocarbon Technologies, Inc. Acquisition

     In May 2001,  Headwaters  announced it had signed definitive  agreements to
     acquire Hydrocarbon Technologies,  Inc. ("HTI"), a New Jersey-based company
     that  has  technologies   related  to  heavy  oil,  clean  coal  and  other
     alternative  energy  processes.  The  purchase  price will be  comprised of
     approximately   $14,500,000  of  stock  (80%)  and  cash  (20%),  plus  the
     assumption of  approximately  $1,500,000 of HTI debt.  Fifty percent of the
     purchase  price is  contingent  upon HTI  accomplishing  certain  financial
     milestones  over the  next  two  years  as it  further  commercializes  its
     technologies.  The acquisition is expected to be consummated  during August
     2001. As of July 31, 2001,  Headwaters has loaned HTI $600,000 and incurred
     approximately $500,000 in costs in connection with the acquisition.

8.   Commitments and Contingencies

     Commitments and contingencies, consisting of legal and contractual matters,
     as of June 30, 2001 not disclosed elsewhere, are as follows:

     Adtech.  In October  1998,  Headwaters  entered into a technology  purchase
     agreement  with  James  G.  Davidson  and  Adtech,   Inc.  The  transaction
     transferred  certain patent and royalty rights to Headwaters  related to an
     alternative  fuel  technology  invented by  Davidson.  In  September  2000,
     Headwaters received a summons and complaint from the United States District
     Court for the Western  District of Tennessee filed by Adtech,  Inc. against
     Davidson  and  Headwaters.  In the action  certain  purported  officers and
     directors of Adtech allege that the technology purchase  transaction was an
     unauthorized  corporate  action and that Davidson and Headwaters  conspired
     together to effect the transfer.  The complaint  asserts  related causes of
     action in fraud,  conversion,  patent  infringement,  conspiracy and unfair
     competition  seeking  unspecified  money  damages  to be  proven  at trial,
     accounting,  disgorgement,  recission of contracts,  punitive damages,  and
     other relief.  Headwaters  denies these allegations and is asking the court
     to dismiss the  action.  Because  the  litigation  is at an early stage and
     resolution is uncertain,  legal counsel cannot express an opinion as to the
     ultimate amount, if any, of Headwaters' liability.

     Levy and Klein. In March 1999, Headwaters sold convertible preferred stock,
     warrants,  and a  convertible  promissory  note to OZ Master Fund,  Ltd. In
     September 2000, Headwaters received a summons and complaint from the United
     States  District Court for the Southern  District of New York filed by Mark
     Levy against OZ Master Fund and related entities ("OZ") and Headwaters.  In
     January 2001,  Headwaters  received a summons and  complaint  from the same
     court  filed by Terry  Klein  against  OZ and  Headwaters  making  the same
     claims. The parties in the two cases agreed to consolidate. In the actions,
     purported  shareholders of Headwaters allege that OZ violated section 16(b)
     of the Securities  Exchange Act of 1934 by converting  preferred stock into
     Headwaters  common  stock  and then  selling  the same  within a six  month
     period, and further, that Headwaters' redemption of the preferred stock and
     the note  constituted  a sale of common  stock for which OZ is liable under
     section  16(b).  The  complaints  seek  on  behalf  of  Headwaters  from OZ
     unspecified  money damages to be proven at trial,  attorney fees, and other
     relief.  In July  2001,  the  case was  dismissed  by the  District  Court;
     however, the ruling can be appealed. Because final resolution is uncertain,
     legal counsel cannot express an opinion as to the ultimate amount,  if any,
     that might be recovered.

     AJG. In December  1996,  Headwaters  entered into a technology  license and
     proprietary  chemical sale agreement with AJG Financial Services,  Inc. The
     agreement  called  for AJG to pay  royalties  and to  purchase  proprietary
     chemical  material from  Headwaters.  In October 2000,  Headwaters  filed a
     complaint  in the Fourth  District  Court for the State of Utah against AJG
     alleging  that  it  has  failed  to  make  payments  and to  perform  other
     obligations under the agreement. Headwaters asserts claims including breach
     of contract, declaratory judgment, unjust enrichment, and for an accounting
     and seeks money  damages in the amount of $750,000 plus other damages to be
     proven at trial,  as well as other  relief.  AJG has answered the complaint
     denying  Headwaters'  claims  and  asserting   counter-claims   based  upon
     allegations  of   misrepresentation   and  breach.  AJG  seeks  unspecified
     compensatory  damages as well as punitive  damages.  Headwaters  denies the
     allegations  of  AJG's  counter-claims.  In May  2001,  Headwaters  filed a
     separate  complaint  against AJG alleging that AJG's  counterclaims  in the
     first action breached a previous settlement  agreement between the parties.
     AJG  answered  the  complaint  denying  Headwaters'  claims.   Because  the
     litigation is at an early stage and resolution is uncertain,  legal counsel
     cannot  express  an  opinion  as to the  ultimate  amount  of  recovery  or
     liability.

                                       11
<PAGE>

                    HEADWATERS INCORPORATED AND SUBSIDIARIES

              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)
                                   ----------


     Nalco. In October 2000,  Headwaters  filed a complaint in the United States
     District  Court for the District of Utah  against  Nalco  Chemical  Company
     ("Nalco").  Headwaters  alleges  that Nalco,  by its sale and  marketing of
     materials for use in creating  alternative fuel,  breached a non-disclosure
     agreement,  misappropriated  trade secrets,  and violated  patent rights of
     Headwaters. Headwaters seeks by its complaint injunctive relief and damages
     to be proven at trial. Nalco filed an answer denying the allegations in the
     complaint  and  asserting   counter-claims   alleging  patent   invalidity.
     Headwaters  denies the  counter-claims;  however,  if Nalco prevails on its
     counter-claims,  the  result  could  have  a  material  adverse  effect  on
     Headwaters'  business.  Because  the  litigation  is at an early  stage and
     resolution is uncertain,  legal counsel cannot express an opinion as to the
     ultimate amount, if any, that might be recovered by Headwaters.

     Headwaters is also involved in other legal  proceedings that have arisen in
     the normal course of business.  Management believes that in cases involving
     claims against Headwaters,  many of the claims are without merit and in all
     cases  intends to vigorously  prosecute or defend its position.  Management
     does not believe  that the  outcome of these cases will have a  significant
     effect  upon  the  operations  or the  financial  position  of  Headwaters;
     however, it is possible that a change in management's estimates of probable
     liability could occur and the change could be significant.

                                       12
<PAGE>

ITEM 2. MANAGEMENT'S  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS

The following  discussion and analysis  should be read in  conjunction  with the
accompanying unaudited consolidated financial statements and notes thereto.

Three Months Ended June 30, 2001 Compared to Three Months Ended June 30, 2000

The information set forth below compares  Headwaters'  operating results for the
three months ended June 30, 2001 ("2001") with  operating  results for the three
months ended June 30, 2000 ("2000").

Revenue.  Total  revenue for 2001  decreased by  $4,301,000  to  $10,699,000  as
compared to $15,000,000 for 2000. However, there was $8,527,000 of non-recurring
gains  on  sale of  facilities  included  in  revenue  for  2000.  There  was no
non-recurring  revenue in 2001. The major components of revenue are discussed in
the sections below.

License  Fees.  During  2001,   Headwaters   recognized  license  fees  totaling
$4,336,000  while  $3,591,000 of license fees were  recognized  during 2000. The
license  fees in 2001  consisted  of  recurring  earned  license fees or royalty
payments of $4,060,000 and deferred  revenue  amortization of $276,000.  License
fees in 2000  consisted of recurring  license  fees of  $3,562,000  and deferred
revenue amortization of $230,000,  reduced by a one-time adjustment of $201,000.
Deferred  revenue  consists  primarily of initial license fees paid by licensees
and is being  amortized  on a  straight-line  basis over the  period  covered by
Headwaters' license agreements with the related licensees.

Recurring  earned license fees or royalty  payments are due quarterly based upon
alternative  fuel sold by  licensees.  The 2000  earned  license  fees  included
$2,400,000 related to a single licensee that owns four facilities. This licensee
significantly reduced its production and sale of alternative fuel in 2001 and is
not currently  operating the four  facilities,  resulting in a decline in earned
license fees in 2001 as compared to 2000. This licensee  continues to pursue the
sale of its four  facilities  and following the sale,  possible  relocation  and
ramp-up of the facilities,  Headwaters  expects to receive increased license fee
revenues from these  facilities  in the future.  The ultimate  consummation  and
timing of these events however can not be predicted.

There was an increase of more than  $2,500,000  in earned  license fees from all
other  licensees in 2001 over 2000 (due to increased  alternative  fuel sales by
those licensees), including approximately $557,000 from a licensee that recently
relocated and began operating its facility. Headwaters expects license fees from
its licensees to increase in future years as additional facilities not currently
operating or not operating at normal levels begin to operate at expected levels,
and as certain other  licensees  begin paying license fees that in prior periods
were not yet  contractually  due.  Headwaters  expects  fluctuations  in  future
periods  in  individual  licensee  alternative  fuel  sales  with  corresponding
fluctuations in Headwaters' license fees due to feedstock availability and other
licensee  operational  issues,  marketing  issues,  the ability of  licensees to
utilize the income tax  credits  earned  from the sale of  alternative  fuel and
other  factors,  many of which are  beyond the  direct  control  of  Headwaters.
Headwaters also expects fluctuations in aggregate license fee revenue.  However,
at the current time,  Headwaters  expects its annual license fee revenue for the
current  fiscal  year to be higher than for fiscal 2000 and that this trend will
continue in future fiscal years.

Chemical Sales.  Headwaters provides chemical reagent to its licensees either at
a fixed  price or at  Headwaters'  cost  plus a  contracted  markup.  Headwaters
purchases  the  chemical  materials  under  a  long-term  contract  with a large
chemical   company.   Chemical  sales  during  2001  were   $5,777,000   with  a
corresponding  direct  cost of  $3,610,000.  Chemical  sales  during  2000  were
$2,709,000  with a  corresponding  direct cost of  $1,860,000.  The  increase in
chemical  sales  in  2001  over  2000  was  due to  increased  alternative  fuel
production by Headwaters' licensees.

Gains on  Non-recurring  Transactions.  In 2000,  Headwaters sold an alternative
fuel  facility  and  recognized  a  gain  of  $1,227,000.  Also,  $6,500,000  of
contingent  sales  proceeds  related to the January  2000 sale of a facility and
sale of an option to acquire a facility were received and recognized as revenue.
Finally,  Headwaters  received  approximately  $3,777,000  of  contingent  sales
proceeds related to the sale of a facility in August 1999, of which $800,000 was
recognized as revenue in 2000 and the balance  deferred.  There were no facility
sales or non-recurring gains recorded in 2001.

Cost of Operations.  These costs  decreased by $517,000 to $489,000 in 2001 from
$1,006,000  in  2000,  primarily  as a  result  of  the  resolution  of  certain
contingent liabilities for amounts less than previously recorded.

                                       13
<PAGE>

Selling,  General and Administrative Expenses. These expenses decreased $485,000
to $730,000  during 2001 from  $1,215,000 for 2000. The decrease in 2001 was due
to a decrease in  compensation-related  costs of approximately  $472,000 and the
resolution of certain  contingent  liabilities for $175,000 less than previously
recorded.  These decreases were partially  offset by an increase in professional
services  expenses of approximately  $206,000,  with a net decrease in all other
cost categories of approximately  $44,000. The increase in professional services
expenses was due  primarily  to legal costs  associated  with the current  legal
actions Headwaters is involved in.

Asset Write-offs and Other Non-recurring  Charges. In 2000,  Headwaters recorded
non-recurring   asset  write-offs  and  employee   severance   charges  totaling
approximately $2,111,000. There were no similar charges in 2001.

Other Income and Expense. During 2001, Headwaters reported net other expenses of
$896,000  compared  to net  expenses  of  $549,000  for 2000.  This  increase of
$347,000  relates  primarily  to an  increase of  $1,040,000  in equity and debt
investment-related losses and a decrease of $154,000 in interest income, reduced
by a decrease in interest expense of $918,000.

Beginning in June 2000,  Headwaters made debt and equity  investments in several
less than 50%-owned affiliates.  Allowances are provided on a case-by-case basis
when management first determines that the investment has been impaired. Gains on
these same  investments  cannot be recognized  until  realized,  which  normally
occurs at a much later date.  During 2001,  the  write-offs of debt  investments
totaled approximately  $660,000. The equity in losses of investees accounted for
using the equity method,  including  amortization  of the  investment  amount in
excess  of  Headwaters'   portion  of  one   investee's   net  equity,   totaled
approximately $380,000. There were no such expenses in 2000.

The  decrease  in  interest  income  from 2000 to 2001  primarily  related  to a
decrease in average cash and investment balances in 2001 as compared to 2000 and
a decrease in the interest  rate,  effective in May 2000,  on a $6,500,000  note
receivable from a licensee.  Interest expense decreased in 2001 primarily due to
the reduction in borrowings from 2000 to 2001.

Income Taxes. In 2001,  Headwaters incurred $18,000 of state income tax expense.
There  was no  income  tax  expense  recognized  in 2000.  As of June 30,  2001,
Headwaters has net operating loss  carryforwards  of  approximately  $31,500,000
which can be used to offset future taxable income. Headwaters has not recognized
the deferred tax asset related to these net operating loss  carryforwards due to
various factors,  including its short history of profitability,  the significant
variability of licensee production levels and other uncertainties related to the
future recoverability of a potential tax asset.

Extraordinary  Item. In 2000,  Headwaters  redeemed all of its convertible  debt
issued  in  March  1999.  The loss  recognized  as a  result  of the  redemption
consideration paid plus the acceleration of amortization of the unamortized debt
discount and debt issuance costs totaled approximately $6,037,000.  This loss is
reflected as an extraordinary item in the 2000 consolidated statement of income.

Net Income. For 2001, net income of $4,956,000  increased by $2,734,000 from net
income of $2,222,000 in 2000 as a result of the factors described above.

Nine months Ended June 30, 2001 Compared to Nine months Ended June 30, 2000

The information set forth below compares  Headwaters'  operating results for the
nine months ended June 30, 2001  ("2001")  with  operating  results for the nine
months ended June 30, 2000 ("2000").

Revenue.  Total  revenue for 2001  decreased by  $1,181,000  to  $32,768,000  as
compared to $33,949,000 for 2000. There was $13,868,000 of  non-recurring  gains
on sale of facilities  and  $1,079,000 of other  non-recurring  revenue in 2000.
There was no  non-recurring  revenue  recorded in 2001. The major  components of
revenue are discussed in the sections below.

License  Fees.  During  2001,   Headwaters   recognized  license  fees  totaling
$15,770,000  while  $12,424,000 of license fees were recognized during 2000. The
license  fees in 2001  consisted  of  recurring  earned  license fees or royalty
payments of $14,031,000 and deferred revenue amortization of $1,739,000. License
fees in 2000  consisted of recurring  license fees of  $11,934,000  and deferred
revenue amortization of $691,000, reduced by a one-time adjustment of $201,000.

The 2000 earned license fees included  $8,980,000  related to a single  licensee
that owns four  facilities.  This  licensee did not report and pay certain prior
period royalty  obligations to Headwaters  timely,  resulting in some "catch-up"
revenue  recognition  in 2000 for  royalties  relating to periods other than the
nine-month period ended June 30, 2000. This licensee  significantly  reduced its
production and sale of alternative  fuel in 2001 and is not currently  operating
the four  facilities,  resulting  in a decline in earned  license  fees from the
licensee of approximately $5,285,000 in 2001 as compared to 2000.

                                       14
<PAGE>

There was an increase of  approximately  $7,382,000 in earned  license fees from
all other licensees in 2001 over 2000 (due to increased  alternative  fuel sales
by those  licensees),  including  approximately  $557,000  from a licensee  that
recently relocated and began operating its facility.

Chemical Sales. Chemical sales during 2001 were $15,432,000 with a corresponding
direct cost of  $9,889,000.  Chemical sales during 2000 were  $5,945,000  with a
corresponding direct cost of $4,088,000.  The increase in chemical sales in 2001
over  2000 was due to  increased  alternative  fuel  production  by  Headwaters'
licensees.  Currently,  Headwaters  expects its chemical  sales revenue from all
licensees for the  remainder of the fiscal year ending  September 30, 2001 to be
higher than the amounts  reported for the  comparable  period in the fiscal year
ended  September  30, 2000.  Headwaters  expects the gross profit margin for the
fiscal  2001 year to be  comparable  to the profit  margin  reported in the nine
month period ended June 30, 2001.

Gains on Non-recurring  Transactions.  In December 1999,  Headwaters sold one of
the  three  remaining  alternative  fuel  facilities  it owned at that  time and
reported a gain of approximately  $5,341,000.  In April 2000,  Headwaters sold a
alternative fuel facility and recognized a gain of $1,227,000.  Also, $6,500,000
of contingent  sales  proceeds  related to a January 2000 sale of a facility and
sale of an option to acquire a facility were received and recognized as revenue.
Finally,  Headwaters  received  approximately  $3,777,000  of  contingent  sales
proceeds related to the sale of a facility in August 1999, of which $800,000 was
recognized  as  revenue  and the  balance  deferred.  Also in  2000,  Headwaters
recorded other  non-recurring  gains of approximately  $1,079,000 related to the
satisfaction of a contingent  contract liability and a gain recognized on a note
receivable  transaction.  There were no facility  sales or  non-recurring  gains
recorded in 2001.

Cost of  Operations.  These costs  decreased by $1,042,000 to $2,446,000 in 2001
from $3,488,000 in 2000. The decrease was primarily  attributable to the sale of
owned  facilities in 2000 and the resolution of certain  contingent  liabilities
for  amounts  less than  previously  recorded,  partially  offset  by  increased
personnel  costs in 2001.  During  2001,  Headwaters  incurred  lower  operating
expenses in connection with the continued  refinement and  implementation of the
alternative fuel process  associated with  licensee-owned  facilities.  Also, in
2001 there were no operating costs associated with the three facilities owned by
Headwaters which were sold in December 1999 through April 2000. In 2000, cost of
operations  included labor and operating  expenses at the owned alternative fuel
facilities and the wash plant located in Utah. There were no such costs in 2001.

Selling,  General and Administrative Expenses. These expenses increased $716,000
to $3,828,000 during 2001 from $3,112,000 for 2000. The increase in 2001 was due
primarily  to an increase in  professional  services  expenses of  approximately
$928,000 and an increase in compensation-related costs of approximately $98,000.
These  increases were partially  offset by the resolution of certain  contingent
liabilities  for $175,000 less previously  recorded,  with a net decrease in all
other cost categories of  approximately  $135,000.  The increase in professional
services  expenses was due primarily to legal costs  associated with the current
legal actions Headwaters is involved in.

Asset Write-offs and Other Non-recurring  Charges. In 2000,  Headwaters recorded
asset impairments and write-offs and other non-recurring  employee severance and
settlement charges totaling  approximately  $13,973,000.  The impairment charges
related  primarily to assets located at the Price,  Utah site and consisted of a
write-down to net realizable value of certain plant and equipment which remained
on the site and became idle when a facility  was sold,  plus a  write-off  of an
intangible  asset  which  was  no  longer  considered  recoverable  due  to  the
relocation  of a licensee  facility.  In addition to the sales of  facilities on
which gains were recognized, Headwaters sold an alternative fuel facility and an
option to acquire a licensee  facility in January  2000 and  reported a combined
loss on these  transactions  of  approximately  $598,000.  There were no similar
non-recurring charges recorded in 2001

Other Income and Expense. During 2001, Headwaters reported net other expenses of
$1,527,000  compared to net expenses of  $3,220,000  for 2000.  This decrease of
$1,693,000 relates primarily to a decrease of $4,537,000 in interest expense and
an increase in the mark-to-market  adjustment of the carrying value of a related
party note receivable of $623,000, partially offset by an increase of $2,454,000
in equity  and debt  investment-related  losses and a decrease  of  $923,000  in
interest  income.  Interest  expense  decreased  in  2001  primarily  due to the
reduction in borrowings from 2000 to 2001.

During 1996,  Headwaters  sold certain  construction  companies  and received as
consideration a $5,000,000 note receivable. The note was "marked to market" each
quarter  based  upon  the  market  value of  Headwaters'  common  stock  held as
collateral and was reflected in the consolidated balance sheet at the underlying
value of this  collateral,  $466,000 at  September  30, 2000.  In January  2001,
Headwaters  accepted as full  satisfaction  of the note receivable the shares of
Headwaters' stock  collateralizing  the note and a new note receivable which has
been  fully  reserved.  This  resulted  in  recognition  of a gain  in  2001  of
approximately $541,000 representing the increase in value of the collateral from
September 30, 2000 to the date the collateral was  surrendered in

                                       15
<PAGE>

payment of the note. The corresponding adjustment in 2000 resulted in a
write-down of $82,000 for a net change in other income and expense of $623,000
in 2001 compared to 2000.

During  2001,  the  write-offs  of  debt   investments   totaled   approximately
$1,025,000. The write-offs and equity in losses of investees accounted for using
the equity method,  including amortization of the investment amount in excess of
Headwaters'  portion  of  one  investee's  net  equity,   totaled  approximately
$1,429,000. There were no such expenses in 2000. The decrease in interest income
from 2000 to 2001  primarily  related to a decrease in interest from the related
party note receivable  discussed above from $515,000 in 2000 to $0 in 2001 and a
decrease in the  interest  rate,  effective in May 2000,  on a  $6,500,000  note
receivable from a licensee.

Income Taxes. In 2001,  Headwaters  incurred $40,000 of state income tax expense
and $100,000 of federal  alternative  minimum tax expense.  In 2000,  Headwaters
reported an income tax benefit of $3,000,000, consisting of the recognition of a
portion of its  deferred tax asset.  Headwaters  believes it is more likely than
not that this  portion of the total  deferred  tax asset will be  realized  as a
result of income to be recognized from the amortization in subsequent periods of
deferred revenue currently recorded in the consolidated balance sheet.

Extraordinary Item. In 2000, Headwaters redeemed two series of convertible debt.
Early prepayment costs totaling  approximately  $7,860,000 were recognized as an
extraordinary  item as a result of the  redemption  consideration  paid plus the
acceleration of amortization of the unamortized  debt discount and debt issuance
costs in excess of the debt carrying value.

Net Income.  For 2001, net income of $14,938,000  increased by $14,328,000  from
net income of $610,000 in 2000 as a result of the factors described above.

Liquidity and Capital Resources

Net cash provided by operating  activities during 2001 was $13,948,000  compared
to $10,655,000  during 2000. Most of the cash flow from operating  activities in
2001was  attributable  to net  income of  $14,938,000.  During  2001,  investing
activities  consisted  primarily of investments  in and loans to  non-affiliated
companies  of  approximately   $4,562,000  and  financing  activities  consisted
primarily of proceeds from borrowings of approximately $8,148,000, repayments of
borrowings of approximately  $12,650,000 and the purchase of treasury stock, net
of transfers to Headwaters'  Employee  Stock  Purchase  Plan, for  approximately
$7,795,000.

In 2001,  Headwaters' primary investing activity consisted of investments in and
loans to non-affiliated  companies. As of June 30, 2001, Headwaters owns from 1%
to 33% of the voting securities of four non-public high-risk investee companies.
The carrying  value of current  investments  ranges from  $66,000 to  $1,819,000
each. Headwaters has no future commitments and does not currently expect to make
any significant  additional  investments in any similar entities. As of June 30,
2001,  Headwaters  also had notes  receivable with a total net carrying value of
approximately  $3,299,000,  representing  primarily  loans to private,  emerging
growth  companies.  These loans generally bridge the period between seed funding
and the close of first and  second  rounds  of equity  financing.  Most of these
notes receivable range from $200,000 to $278,000 each and have original terms of
three to four  months,  although  many of these  loans  have been  extended  for
successive  three- to four-month  periods.  Headwaters  also has one  additional
long-term  loan  for  $2,000,000  to  a   longer-established   private  company.
Headwaters does not currently intend to make any additional  equity  investments
or loans,  but could incur losses if the  investments are not recoverable or the
loans are not repaid.  Headwaters  has no current plans to construct  additional
alternative fuel facilities or to incur  significant  costs to acquire property,
plant and equipment,  but is interested in possible  strategic  acquisitions  of
entities that would be synergistic to Headwaters' current operations. Any future
acquisitions  could be funded using Headwaters  stock,  cash or a combination of
stock and cash.

As  described in Note 2 to the  consolidated  financial  statements,  Headwaters
continued  acquiring  shares of its common stock during 2001, in connection with
its stock purchase program. The program authorizes  Headwaters to purchase stock
in the open market or through negotiated block transactions. Purchases under the
plan are at the discretion of Headwaters'  management.  During 2001,  Headwaters
purchased   approximately   1,358,000  shares  for   approximately   $7,795,000.
Headwaters  continually evaluates financial alternatives to the stock repurchase
program and future  purchases  are subject to market  conditions  and  available
cash.

Headwaters'   working  capital  decreased  from  approximately   $11,225,000  at
September 30, 2000 to approximately  $7,090,000 as of June 30, 2001. The primary
reasons  for this  change were the use of cash for the  repayment  of  long-term
debt, for investments in and loans to non-affiliated companies and for purchases
of treasury stock. Cash from operations funded most of these cash  requirements.
Headwaters also expects its operations to produce  positive cash flows in future
periods. In addition to cash

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<PAGE>

provided by operating activities, Headwaters has an arrangement with an
investment company under which Headwaters can borrow up to 90% of the value of
the total portfolio of Headwaters' short-term investments with that investment
company, which investments collateralize any outstanding borrowings. Under this
arrangement, maximum borrowings during 2001 were approximately $3,252,000 of
which approximately $509,000 was outstanding as of June 30, 2001.

Headwaters also has borrowing capability under a revolving line of credit with a
bank which  expires in October  2002.  Borrowings  under the line of credit bear
interest  at prime  plus .75%  (7.5% at June 30,  2001) and are  limited  to the
lesser of $10,000,000 or the "borrowing  base," as defined.  Maximum  borrowings
under  the  line of  credit  during  2001  were  approximately  $4,896,000.  The
borrowing base was  approximately  $7,500,000 at June 30, 2001 and there were no
borrowings  under the line at June 30,  2001.  Headwaters  believes it will have
sufficient  cash reserves to meet its  obligations  during fiscal 2001, and also
believes it has the ability to raise  additional  debt and equity  capital  from
other sources if necessary.

Income  Taxes.  As  of  June  30,  2001,   Headwaters  has  net  operating  loss
carryforwards  of approximately  $31,500,000  which can be used to offset future
taxable income.  Headwaters has not recognized the deferred tax asset related to
these net operating loss  carryforwards  due to various  factors,  including its
short  history  of  profitability,   the  significant  variability  of  licensee
production levels and other uncertainties  related to the future  recoverability
of a  potential  tax asset.  During the  remainder  of fiscal 2001 and in fiscal
2002,  Headwaters  expects to pay some  alternative  minimum taxes and a minimal
amount  of state  income  taxes in  certain  states  where  net  operating  loss
carryforwards aren't available.  However, because of existing net operating loss
carryforwards  for federal  purposes  and in most states where  Headwaters  does
business,  Headwaters does not currently  expect to pay  significant  amounts of
regular income taxes during fiscal 2001 or during most or all of fiscal 2002.

Hydrocarbon Technologies, Inc. Acquisition

In May 2001, Headwaters announced it had signed definitive agreements to acquire
Hydrocarbon  Technologies,  Inc.  ("HTI"),  a New Jersey-based  company that has
technologies  related to heavy  oil,  clean  coal and other  alternative  energy
processes. The purchase price will be comprised of approximately  $14,500,000 of
stock (80%) and cash (20%),  plus the assumption of approximately  $1,500,000 of
HTI  debt.   Fifty  percent  of  the  purchase  price  is  contingent  upon  HTI
accomplishing certain financial milestones over the next two years as it further
commercializes  its technologies.  The acquisition is expected to be consummated
during August 2001. As of July 31, 2001,  Headwaters has loaned HTI $600,000 and
incurred approximately $500,000 in costs in connection with the acquisition.

Other

The Financial  Accounting Standards Board recently issued Statement of Financial
Accounting  Standards No. 142, "Goodwill and Other Intangibles."  Headwaters has
not yet  reviewed  this  statement  to  determine  what  effect it might have on
Headwaters in future periods.

Forward Looking Statements

Statements in this Management's  Discussion and Analysis  regarding  Headwaters'
expectations   as  to  the   operation  of  facilities   utilizing   Headwaters'
technologies,  the  marketing  of  products,  the  receipt  of  licensing  fees,
royalties,  and product sales revenues,  the development,  commercialization and
financing of  non-alternative  fuel  technologies  and other strategic  business
opportunities  and acquisitions and other  information  about Headwaters that is
not  purely   historical  by  nature,   including  those  statements   regarding
Headwaters' future business plans, the operation of facilities, the availability
of  feedstocks,  the  marketability  of the  alternative  fuel and the financial
viability of the facilities,  constitute  forward looking  statements within the
meaning  of the  Private  Securities  Litigation  Reform  Act of 1995.  Although
Headwaters  believes that its expectations  are based on reasonable  assumptions
within the bounds of its knowledge of its business and operations,  there can be
no  assurance  that  actual  results  will  not  differ   materially   from  its
expectations.  In addition to matters affecting the alternative fuel industry or
the economy  generally,  factors which could cause actual results to differ from
expectations stated in these forward looking statements  include,  among others,
the following:

(1)  Operating issues for licensed facilities including feedstock  availability,
     moisture  content,  Btu content,  correct  application of chemical reagent,
     achieving significant chemical change, operability of equipment, production
     capacity, product durability, resistance to water absorption, overall costs
     of  operations  and  other  commercial  factors   surrounding  the  use  of
     Headwaters' technologies.
(2)  Marketing  issues  relating to market  acceptance of products  manufactured
     using Headwaters' technologies.

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<PAGE>

(3)  Securing of suitable  facility sites,  including permits and raw materials,
     for relocation and operation of facilities and product sales.
(4)  The  market   acceptance   of  products   manufactured   with   Headwaters'
     technologies in the face of competition from traditional products.
(5)  Dependence  on licensees to  successfully  implement  Headwaters'  chemical
     technologies and to make license and other payments to Headwaters.
(6)  Maintenance of placed-in-service and other requirements under Section 29 of
     the tax code by alternative fuel manufacturing facilities.
(7)  Changes in  governmental  regulations  or failure to comply  with  existing
     regulations  that may result in  reduction  or  shutdown of  operations  of
     licensee facilities.
(8)  The continued  availability  of tax credits to licensees under the tax code
     and each licensee's ability to use tax credits.
(9)  The commercial  feasibility of Headwaters'  alternative  fuel  technologies
     upon the expiration of tax credits.
(10) Ability  to  meet  financial   commitments   under   existing   contractual
     arrangements.
(11) Ability  to  meet  non-financial  commitments  under  existing  contractual
     arrangements.
(12) Ability to commercialize  non-alternative fuel technologies which have only
     been tested in the laboratory and not in full-scale operations.
(13) Ability to  commercialize  the  technology  of others and to implement  new
     business plans which are at an early stage of investigation  and investment
     and  which  will  require   significant  time,   management,   and  capital
     investment.
(14) Success in the face of competition by others producing alternative fuel and
     other products.
(15) Sufficiency of intellectual property protections.
(16) Satisfactory resolution of disputes in litigation.

                          PART II -- OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

See "ITEM 3: LEGAL  PROCEEDINGS"  in Headwaters'  Annual Report on Form 10-K for
the year ended September 30, 2000 for descriptions of current legal proceedings.
With respect to all of those matters except  NEICO/Earthco  and Levy, there have
been no  material  changes  since  that  report was filed.  NEICO,  Earthco  and
Headwaters  have  settled  their  disputes and on November 30, 2000 the District
Court  entered an order of dismissal  with  prejudice  as to all  parties.  With
respect  to Levy,  an  additional  claimant  has been  added to the case and the
consolidated case was dismissed by the District Court, as described in Note 7 to
the consolidated financial statements.

ITEM 2.  CHANGES IN SECURITIES AND USE OF PROCEEDS

Recent Sales of Unregistered Securities

Other than the issuance of 103,833 shares of restricted common stock issued upon
exercise of options,  there have been no securities  issued by Headwaters within
the past fiscal quarter without  registration  under the Securities Act of 1933,
as amended.  Headwaters has five effective registration statements filed on Form
S-3 and three effective  registration  statements filed on Form S-8. One or more
of these  registration  statements have  registered all of the other  securities
issued  during the  quarter,  which  consisted  solely of the issuance of common
stock upon  exercise of options  and  warrants  and  conversion  of  convertible
preferred  stock,  as  described  in  Note  2  to  the  consolidated   financial
statements.

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

ITEM 5.  OTHER INFORMATION

None.

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<PAGE>

ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

(a)      The following exhibits are included herein:

          10.72     Agreement and Plan of Reorganization between Headwaters and
                    Hydrocarbon Technologies, Inc. dated May 2, 2001
          10.72.1   Share Exchange Agreement between Headwaters and Hydrocarbon
                    Technologies, Inc. dated May 2, 2001
          99.2      Amended 2000 Employee Stock Purchase Plan

(b)      There were no reports filed on Form 8-K during the quarter ended
         June 30, 2001.


                                   SIGNATURES

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

                             HEADWATERS INCORPORATED

Date:  August 3, 2001             By: /s/ Kirk A. Benson
                                     ---------------------------------
                                     Kirk A. Benson, Chief Executive Officer
                                     and Principal Executive Officer

Date:  August 3, 2001             By:  /s/ Steven G. Stewart
                                     ---------------------------------
                                     Steven G. Stewart, Chief Financial Officer
                                     and Principal Financial Officer


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