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

                                    FORM 10-K

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

                  For the fiscal year ended September 30, 2003,

                                       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 Identification No.)
   incorporation or organization)

    10653 South River Front Parkway, Suite 300
                South Jordan, Utah                        84095
    ------------------------------------------          ----------
     (Address of principal executive offices)           (Zip Code)

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

     Securities registered pursuant to Section 12(b) of the Act: None

     Securities registered pursuant to Section 12(g) of the Act: Common Stock,
$.001 par value

         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 [ ]

         Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]

     Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [X] No [ ]

         The aggregate market value of the voting stock held by non-affiliates
of the registrant as of March 31, 2003 was $374,304,448, based upon the closing
price on the Nasdaq National Market reported for such date. This calculation
does not reflect a determination that persons whose shares are excluded from the
computation are affiliates for any other purpose.

         The number of shares outstanding of the registrant's common stock as of
November 30, 2003 was 28,068,818.
                           ___________________________

                       DOCUMENTS INCORPORATED BY REFERENCE

         Portions of the following document are incorporated herein by
reference: Portions of the registrant's definitive proxy statement to be issued
in connection with registrant's annual stockholders' meeting to be held in 2004.

<PAGE>

                                TABLE OF CONTENTS
                                                                            Page
PART I

ITEM 1.    BUSINESS...........................................................3
ITEM 2.    PROPERTIES........................................................14
ITEM 3.    LEGAL PROCEEDINGS.................................................14
ITEM 4.    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...............16

PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
             STOCKHOLDER MATTERS.............................................16
ITEM 6.    SELECTED FINANCIAL DATA...........................................17
ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
             AND RESULTS OF OPERATIONS.......................................18
ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK........35
ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.......................36
ITEM 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
             AND FINANCIAL DISCLOSURE........................................36
ITEM 9A.   CONTROLS AND PROCEDURES...........................................37


PART III

ITEM 10.   DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT................37
ITEM 11.   EXECUTIVE COMPENSATION............................................37
ITEM 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT....37
ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS....................38
ITEM 14.   PRINCIPAL ACCOUNTING FEES AND SERVICES............................38


PART IV

ITEM 15.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
             ON FORM 8-K.....................................................38

SIGNATURES...................................................................41


Forward-looking Statements

This Annual Report on Form 10-K, contains forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995 regarding future
events and our future results that are based on current expectations, estimates,
forecasts, and projections about the industries in which we operate and the
beliefs and assumptions of our management. Actual results may vary materially
from such expectations. Words such as "expects," "anticipates," "targets,"
"goals," "projects," "believes," "seeks," "estimates," variations of such words
and similar expressions are intended to identify such forward-looking
statements. In addition, any statements that refer to projections of our future
financial performance, our anticipated growth and trends in our businesses, and
other characterizations of future events or circumstances, are forward-looking.
For a discussion of the factors that could cause actual results to differ from
expectations, please see the captions entitled "Forward-looking Statements" and
"Risk Factors" in Item 7 hereof. There can be no assurance that our results of
operations will not be adversely affected by such factors. Unless legally
required, we undertake no obligation to revise or update any forward-looking
statements for any reason. Readers are cautioned not to place undue reliance on
these forward-looking statements, which speak only as of the date of this
report.

Our internet address is www.hdwtrs.com. There we make available, free of charge,
our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports
on Form 8-K and any amendments to those reports, as soon as reasonably
practicable after we electronically file such material with, or furnish it to,
the Securities and Exchange Commission ("SEC"). Our reports can be accessed
through the investor relations section of our web site. The information found on
our web site is not part of this or any report we file or furnish to the SEC.

<PAGE>

                                     PART I

ITEM 1.  BUSINESS

General Development of Business

         Introduction. Headwaters develops and commercializes technologies that
enhance the value of coal, gas, oil and other natural resources. We are the
largest provider of technologies used to produce coal-based solid synthetic
fuels, and we are the industry leader in managing and marketing coal combustion
products ("CCPs") in the United States. We are developing and commercializing
proprietary technologies to convert or upgrade fossil fuels into higher-value
products and are developing nanocatalyst technologies that have multiple
applications. Headwaters has experienced dramatic growth over the last several
years, generated from internal growth as well as through acquisitions. Our
revenues have grown from $6.7 million in 1999 to $387.6 million for the fiscal
year ended September 30, 2003.

         We have successfully commercialized technologies and processes that
enhance the value of coal used to generate electricity. Coal is one of the
world's most abundant and affordable natural resources and is the primary fossil
fuel used world-wide for electricity generation. In 2001, coal represented 62%
of the world's fossil fuel energy reserves, while crude oil and natural gas
represented 20% and 18%, respectively. Coal serves as a primary resource for
baseline electricity production in the United States and was used to produce
approximately half of the electricity generated in the United States during
2002. The United States Department of Energy ("DOE") has predicted that the use
of coal will continue to grow in the United States and throughout the world.

         Headwaters focuses on the "coal value chain" which can be categorized
into three major phases: (i) pre-combustion, which includes coal mining,
preparation, treatment, and transportation; (ii) combustion, which results in
energy generation; and (iii) post-combustion, which includes emissions control
and the utilization and disposal of CCPs which are created when coal is burned,
such as fly ash and bottom ash. In the pre-combustion phase, Headwaters'
proprietary technologies and chemical reagents are used to convert coal into a
solid synthetic fuel intended to generate tax credits under Section 29 of the
Internal Revenue Code ("Section 29"). In the post-combustion phase, Headwaters
manages and markets CCPs which would otherwise be disposed of in landfills and
uses CCPs to produce commercial building products.

         Headwaters' Company History. Headwaters was incorporated in Delaware in
1995 under the name Covol Technologies, Inc. In September 2000, the Company's
name was changed to Headwaters Incorporated. Headwaters' stock trades under the
Nasdaq symbol HDWR.

         As used herein, "Headwaters," "combined company," "company," "we,"
"our" and "us" refers to Headwaters Incorporated and its division Covol Fuels,
together with its consolidated subsidiaries ISG and HTI, unless the context
otherwise requires. "ISG" refers to Headwaters' subsidiary, Headwaters Olysub
Corporation, formerly Industrial Services Group, Inc., and its subsidiary, ISG
Resources, Inc., together with their consolidated subsidiaries, and "HTI" refers
to Headwaters Technology Innovation Group, Inc. together with its consolidated
subsidiaries, unless the context otherwise requires. All of these terms are used
for convenience only, and are not intended as a precise description of any of
the separate companies, each of which manages its own affairs.
                     ______________________________________

Covol Fuels

         Principal Products and their Markets. Through our Covol Fuels operating
division, Headwaters has developed and commercialized technology that interacts
with coal-based feedstocks to produce a solid synthetic fuel intended to be
eligible for Section 29 tax credits. The sale of qualified synthetic fuel
enables facility owners who comply with certain statutory and regulatory
requirements to claim federal tax credits under Section 29, which currently
expires on December 31, 2007. Headwaters has licensed this technology to owners
of solid synthetic fuel facilities for which it receives royalty revenues.
Headwaters also sells proprietary chemical reagents to licensees for use in the
production of the coal-based solid synthetic fuel and to other solid synthetic
fuel facility owners with whom Headwaters has reagent supply agreements.

                                       3
<PAGE>

         Headwaters licenses the Covol Fuels process to owners of synthetic fuel
production facilities and is paid a royalty stream generally based on the tax
credits generated from synthetic fuels sold to utilities and other industrial
coal consumers. Headwaters also receives revenues from the sale of its chemical
reagents. Covol Fuels' licensees and chemical reagent customers include major
utilities in the synthetic fuel industry.

         In addition to technology licensing and chemical reagent sales,
Headwaters provides on-site facility services to licensees of its technology and
purchasers of its reagents. Headwaters has experience in producing synthetic
fuel and optimizing the production capabilities of synthetic fuel facilities.
This experience complements Headwaters' ongoing laboratory testing and
development of synthetic fuels. Headwaters employs chemical, electrical and
mechanical engineers and field personnel with extensive plant and equipment
operating experience to perform these on-site facility services and other
technical support functions.

         Licensing Fees. In fiscal 2001 and 2002, prior to its acquisition of
ISG, Headwaters generated 95% or more of its revenues through license fees from
its technologies and sale of chemical reagents to owners of coal-based solid
synthetic fuel facilities. In fiscal 2003, these license fees and chemical
reagent sales contributed approximately 42% of revenues and ISG contributed
approximately 57%. See Note 4 to the consolidated financial statements for
revenues, profits and total assets set forth by segment. Headwaters currently
licenses its technologies to 28 of a company-estimated total of 75 coal-based
solid synthetic fuel facilities in the United States. In addition, Covol Fuels
sells its proprietary chemical reagents to 19 of these licensee facilities as
well as to more than ten other synthetic fuel facilities.

         Current licensees include electric utility companies, coal companies,
financial institutions and other major businesses in the United States. License
agreements contain a quarterly earned royalty fee generally set at a prescribed
dollar amount per ton or a percentage of the tax credits earned by the licensee.
License agreements generally have a term continuing through the later of January
1, 2008 or the date after which tax credits may not be claimed or are otherwise
not available under Section 29.

         Despite the growth in revenues, there continues to be under-utilization
of production capacity in several facilities employing Headwaters' technologies,
because of factors such as feedstock quality and the inability of certain owners
to utilize all the available Section 29 tax credits. See "ITEM 7. MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS-Risk
Factors."

         Chemical Reagent Sales. The transformation of the feedstock to a
synthetic fuel involves the use of a chemical reagent in a qualified facility.
Headwaters markets two proprietary latex-based chemicals, Covol 298 and Covol
298-1, which are widely used for the production of coal-based solid synthetic
fuel. The chemical reagent alters the molecular structure of the feedstock to
produce a synthetic fuel.

         Covol 298 and Covol 298-1 are produced by Dow Reichhold Specialty Latex
LLC ("Dow Reichhold") under long-term agreements. Headwaters does not maintain
or inventory any chemicals. Instead, Headwaters arranges for the shipping of the
chemical reagents directly from Dow Reichhold's production facilities to the
synthetic fuel plants. The chemical reagents can be manufactured in 13 Dow
Reichhold plants throughout North America, assuring short lead-time deliveries
and the ability to meet increasing reagent demand. Additionally, Headwaters has
an arrangement with Dow Reichhold for technical support services relating to new
product development and manufacture.

         Headwaters believes the benefits of its proprietary chemical reagents
as compared to competitive materials include clean and efficient combustion
characteristics, ease of application, concentrated form of shipment and lack of
damage to material handling, pulverizing or combustion equipment. Headwaters
believes the chemical reagents used in the Covol Fuels process are
environmentally safe, possess superior handling characteristics, burn
efficiently and are competitively priced. Additionally, Headwaters' chemical
reagents have been reviewed by the IRS and tested by independent laboratories.
The parameters of the Covol Fuels process are consistent with the criteria for
future private letter rulings as outlined by the IRS in Revenue Procedure
2001-30, as modified by Revenue Procedure 2001-34.

         On-site Facility Services. In addition to licensing its technology and
supplying chemical reagents, Headwaters also employs hands-on technical account
managers that are available to assist its customers. Headwaters' engineers have
years of experience operating synthetic fuel manufacturing equipment, including

                                       4
<PAGE>

mixers, extruders, pellet mills, briquetters and dryers. Headwaters' employees
are experts in applying our chemical reagents on multiple types of coal
feedstocks. Headwaters has operated synthetic fuel facilities utilizing multiple
types of coal feedstocks, and has developed and demonstrated process
improvements in commercial facilities. Headwaters has also designed and
constructed reagent mixing and application systems and has retrofitted existing
facilities to use our reagents. For new customers, Headwaters has a mobile,
skid-mounted reagent delivery system that allows for on-site demonstration
testing. Headwaters believes that this full spectrum of services makes it unique
in providing goods and services to the coal-based solid synthetic fuel business.

         Headwaters maintains analytical laboratories, including bench-scale
equipment for the production of coal-based solid synthetic fuel and
comprehensive analytical testing equipment for performing standard coal
analyses. We also monitor, document and substantiate the chemical change process
required to obtain Section 29 tax credits.

         Sources of Available Raw Materials and Inventory Requirements. Covol
Fuels' chemical reagents are produced by Dow Reichhold under a long-term
agreement. Covol Fuels does not maintain or inventory any chemicals. Instead,
Covol Fuels arranges for the drop shipping of the chemical reagents directly
from Dow Reichhold's production facilities to the synthetic fuel plants. The
chemical reagents can be manufactured in its Dow Reichhold plants throughout
North America assuring short lead-time deliveries and the ability to meet
increasing reagent demand. Separately, the alternative fuel facility owners have
unrelated feedstock agreements that provide a supply of raw coal for processing
at their facilities. These licensees and customers in turn have production
agreements to supply alternative fuel to end users (usually coal-fired
electricity generating facilities).

         Major Customers. The following table presents revenues for all
customers that accounted for over 10% of total revenue during 2001, 2002 or
2003. Most of the named customers are energy companies. Affiliate relationships
are determined for the period in which events are calculated.
<TABLE>
<CAPTION>
         (thousands of dollars)                                2001            2002             2003
         ------------------------------------------ ---------------- --------------- ----------------
         <S>                                          <C>             <C>              <C>
         DTE Energy Services, Inc. affiliates               $ 5,111         $19,660          $42,013

         TECO Coal Corporation affiliates                    16,044          20,292    Less than 10%

         Marriott International, Inc. affiliates      Less than 10%          19,105    Less than 10%

         AIG Financial Products Corp. affiliates      Less than 10%          16,900    Less than 10%

         PacifiCorp affiliates                                4,978   Less than 10%    Less than 10%

         Pace Carbon Fuels, L.L.C. affiliates                 4,675   Less than 10%    Less than 10%
</TABLE>

ISG

         ISG's Company History. ISG was incorporated in Delaware in 1997.
Beginning in October 1997, ISG acquired through a series of transactions a
number of companies to form a national CCP business. ISG Resources, Inc., which
was incorporated in Utah in August 1998, and its subsidiaries, operate this
business. Headwaters acquired ISG in September 2002.

         Principal Products and their Markets. ISG is currently the largest
manager and marketer of CCPs in the United States and also manages and markets
CCPs in Canada. ISG has long-term exclusive management contracts with coal-fired
electric generating utilities throughout the United States and provides CCP
management services at more than 110 power plants. ISG markets CCPs where
markets exist, and manages much of the disposal of the rest, typically in
landfills. ISG has established long-term relationships with many of the nation's
major utilities.

         ISG markets CCPs as a replacement for manufactured or mined materials,
such as portland cement, lime, agricultural gypsum, fired lightweight aggregate,
granite aggregate and limestone. Additionally, ISG's construction materials
subsidiary, American Construction Materials, Inc., manufactures masonry and
stucco construction materials, packaged products and blocks for the construction
industry, which contain a high percentage content of CCPs.

         Utilities produce CCPs year-round, including in the winter when demand
for electricity increases in many regions. In comparison, sales of CCPs and
construction materials produced using CCPs are keyed to construction market
demands that tend to follow national trends in construction with predictable
increases during temperate seasons. CCPs must be stored, usually in terminals,
during the off-peak sales periods as well as transported to where they are
needed for use in construction materials. In part because of the cost of
transportation, the market for CCPs used in construction materials is generally

                                       5
<PAGE>

regional, although ISG ships products significant distances to states such as
California and Florida that do not have coal-fired electric utilities producing
high quality CCPs. However, ISG enjoys advantages in both logistics and sales
from its status as the largest manager and marketer of CCPs in the United
States. ISG maintains more than 30 stand-alone CCP distribution terminals across
North America, as well as approximately 90 plant site supply facilities. ISG's
operations utilize a fleet of more than 1,000 private railcars and 340 trucks so
that it can meet the transportation needs for both disposing and marketing CCPs.
In addition, ISG has more than 50 area managers and technical sales
representatives nationwide to manage customer relations.

         Fly Ash and Other CCPs. The benefits of CCP use in construction
applications include improved product performance, cost savings and positive
environmental impact. Fly ash improves both the chemical and physical
performance of concrete. Physically, fly ash particles are smaller than cement
particles, allowing them to effectively fill voids and create concrete that is
denser and more durable. Fly ash particles are spherical and they have a "ball
bearing" effect, which lubricates the concrete mix and allows enhanced
workability with less water. Chemically, the requirement of less water
contributes to decreased permeability and greater durability of concrete.
Because fly ash is also typically less expensive than the cement it replaces,
concrete producers are able to improve profitability while improving concrete
quality.

         When fly ash is used in concrete it provides environmental benefits.
According to the EPA, one ton of fly ash used as a replacement for portland
cement eliminates approximately one ton of carbon dioxide emissions, or the
equivalent of retiring an automobile from the road for two months. These
benefits are recognized in major "green building" movements, such as the United
States Green Building Council's LEED classification system. The value of
utilizing fly ash in concrete has been recognized by numerous federal agencies,
including the United States DOE and Environmental Protection Agency ("EPA"),
which has issued comprehensive procurement guidelines directing federal agencies
to utilize fly ash. Almost all states specify or recommend the use of fly ash in
state and federal transportation projects. Other government entities that
frequently specify or recommend the utilization of fly ash in concrete include
the Federal Highway Administration, the United States Army Corps of Engineers
and the United States Bureau of Reclamation. Numerous state departments of
transportation are also increasing their reliance on fly ash as a component for
improving durability in concrete pavements. Several major cement companies have
identified increasing the use of fly ash as a key environmental strategy for the
next two decades.

         High quality fly ash is generally the most profitable CCP, as it has a
variety of higher margin commercial uses. In 2002, ISG sold approximately 5.75
million tons of high quality CCPs, including 5.25 million tons of high quality
fly ash of the approximately 12 million tons of high quality fly ash sold in the
United States. The quality of fly ash produced by the combustion process at
coal-fired facilities varies widely and is affected by the boilers used by the
utilities and by the efficiency of the combustion process. ISG assists its
utility clients in their efforts to improve the production of high quality fly
ash at their facilities. ISG tests the fly ash to certify compliance with
applicable industry standards. A comprehensive quality control system ensures
that customers receive fly ash that conforms to their specifications while ISG's
extensive investment in transportation equipment and terminal facilities
provides reliability of supply.

         ISG supports its marketing sales program by focusing on customer
desires for quality and reliability. Marketing efforts emphasize the performance
value of CCPs, as well as the attendant environmental benefits.

         ISG undertakes a variety of marketing activities to increase fly ash
sales. These activities include:

         o        Professional Outreach. To promote the acceptance of fly ash in
                  construction projects, all levels of ISG's sales and marketing
                  organization are involved in making regular educational
                  presentations such as continuing professional education
                  seminars to architects, engineers, and others engaged in
                  specifying concrete mix designs.

         o        Technical Publications. ISG publishes, in print form and on
                  its web site at www.isgresources.com, extensive technical
                  reference information pertaining to CCPs and CCP applications.
                  ISG also prominently promotes the environmental benefits of
                  CCP use.

         o        Relationships with Industry Organizations. ISG personnel
                  maintain active leadership positions in committees of the
                  American Concrete Institute and the American Society for
                  Testing and Materials, and serve on the boards of the American
                  Coal Ash Association, the Western Region Ash Group, the Texas

                                       6
<PAGE>

                  Coal Ash Utilization Group, the Midwest Coal Ash Association
                  and the American Coal Council. These organizations help
                  establish standards and educate the construction industry and
                  the general public about the benefits of CCP use.

         o        Trade Shows. ISG promotes the use of CCPs at more than 30
                  local and national trade shows and association meetings each
                  year. ISG is also an exhibitor at the nation's leading
                  conferences for utilization of environmentally friendly
                  building products.

         o        Government Affairs. ISG has taken a leadership role in
                  encouraging state and federal legislation and regulations that
                  lead to greater utilization of fly ash by emphasizing its
                  environmental, performance and cost advantages. Legislative
                  recognition of the benefits of fly ash as well as the use of
                  fly ash in governmental projects helps familiarize
                  contractors, architects and engineers with the benefits of the
                  product for other construction uses.

         o        Advertising. ISG advertises for fly ash sales and utilization
                  in a number of publications, including: Architectural Record,
                  Engineering News-Record, Construction Specifier, Concrete
                  Products, Concrete Producer, Concrete International and
                  Environmental Design & Construction. ISG's website is also a
                  source of sales leads.

         o        Creation of Branded Specialty Products. ISG has developed
                  several specialty products that increase market penetration of
                  CCPs and name recognition for ISG's products for road bases,
                  structural fills, industrial fillers and agricultural
                  applications. These include:

                  o        Alsil(R)- Processed fly ash used as an industrial
                           filler;

                  o        C-Stone(TM)- Quality crushed aggregate manufactured
                           from fly ash and used in road base and feedlot
                           applications;

                  o        Flexbase(TM) - FGD scrubber sludge, pond ash, and/or
                           lime proportionally mixed for road base or pond liner
                           material;

                  o        Powerlite(R) - Processed fly ash and bottom ash,
                           meeting American Society for Testing and Materials
                           C331 standards, for use as a high quality aggregate
                           in the concrete block industry; and

                  o        Peanut Maker(R) - A synthetic gypsum used as a land
                           plaster in agricultural applications.

         New Technologies for CCP Utilization. In an effort to maximize the
percentage of CCPs marketed to end users and to minimize the amount of materials
disposed of in landfills, ISG's research and development activities focus on
expanding the use of CCPs by developing new products that utilize high volumes
of CCPs. Through these research and development activities, ISG has developed
FlexCrete(TM), a new commercial and residential building product in its pilot
stages. FlexCrete(TM) is an aerated concrete product with 60% fly ash content
that is cured at lower temperatures and ambient pressure. We expect
FlexCrete(TM) will offer advantages for construction, including low cost, ease
of use, physical strength, durability, energy efficiency, fire resistance and
environmental sensitivity.

         Technologies to Improve Fly Ash Quality. ISG also has developed
technologies that maintain or improve the quality of CCPs, further expanding and
enhancing their marketability. Utilities are switching fuel sources, changing
boiler operations and introducing ammonia into the exhaust gas stream in an
effort to decrease costs and/or to meet increasingly stringent emissions control
regulations. All of these factors can have a negative effect on fly ash quality,
including an increase in the amount of unburned carbon in fly ash and the
presence of ammonia slip. ISG has addressed these challenges with the
development and/or commercialization of two technologies. Designed to be simple,
economical and highly effective, these technologies can be implemented without
the large capital expenditures often associated with controlling quality
problems.

         Carbon Fixation. Under certain conditions, unburned carbon in fly ash
inhibits the entrainment of air in concrete, undermining the strength and
integrity of finished product. Technologies designed to remove residual carbon
are often capital intensive and are therefore rarely used. ISG has the exclusive
license in North America to utilize a carbon fixation technology used to
pre-treat fly ash. The technology uses a liquid reagent to coat unburned carbon
particles in the fly ash and hinder the impact on the concrete mix. Carbon is
not removed, but its effects on air entrainment are minimized. The technology
also renders some ash products usable for the first time without having any
impact on the quality of finished concrete. Full scale carbon fixation units
have been installed and are operating at major power plants.

                                       7
<PAGE>

         Ammonia Slip Mitigation. As electric utilities move to implement
stringent new air pollution controls, many are treating boiler exhaust gases
with ammonia to remove NOx. This can result in unreacted ammonia being deposited
on fly ash. The use of ammonia contaminated fly ash in concrete production can
result in the release of ammonia gas, exposing concrete workers to varying
levels of ammonia. ISG has developed a technology that uses a chemical reagent
to mitigate the ammonia slip effects. When water is added to the concrete mix
containing ammoniated fly ash, the reagent converts ammonia to harmless
compounds. The process allows the reagent to be added and blended with the dry
fly ash at any time from when the fly ash is collected at the power plant to
when the fly ash is used in the production of concrete.

         American Construction Materials. ISG has focused on increasing the
utilization of CCPs in building products that have not traditionally included
CCPs. To accelerate acceptance of CCPs in these markets, ISG created a
construction materials subsidiary, American Construction Materials, which
includes several well-known brands, such as Magna Wall(R) stuccos and BEST(TM)
and Hill Country Mortar Mix(TM) masonry and mortar cements. ISG operates a
network of manufacturing and distribution facilities and retail supply stores
that are strategically located throughout the southern United States and that
provide access to many of the most rapidly growing regions in the nation. ISG
has formulated masonry cements, mortar cements, stucco and block products to
utilize CCPs in residential and commercial building applications. This strategy
has secured an outlet for previously unutilized CCPs while promoting the
increased use of CCPs as components of building products in the future. Unlike
most of its competitors, ISG has dedicated significant resources to the
acquisition and development of new technologies for the use of CCPs in building
products applications. We believe that strong brand recognition and the high
performance characteristics of our products make us a preferred supplier to home
builders and contractors from Florida to Southern California. A key component of
our growth strategy has been the development of superior products utilizing
innovative fly ash-based formulations.

         Sources of Available Raw Materials and Inventory Requirements. Coal is
the largest indigenous fossil fuel resource in the United States, with current
U.S. annual coal production in excess of one billion tons. The use of coal to
generate electricity has nearly tripled in the last 30 years. Coal serves as a
primary resource for baseline electricity production in the United States and
was used to produce approximately half of the electricity generated in the
United States in 2002. The government estimates that annual coal consumption
will increase from 1.06 billion tons to 1.44 billion tons by 2025. The
combustion of coal results in a high percentage of residual materials which
serve as the "raw material" for the CCP industry. According to the American Coal
Ash Association, approximately two-thirds of CCPs produced in 2002 were disposed
of in landfills, providing ample opportunities for continuing increases in CCP
utilization. As long as a significant amount of electricity in this country is
generated from coal-fired generation, ISG believes it will have an adequate
supply of raw materials.

HTI

         HTI provides research and development support to Headwaters. HTI
maintains a staff of engineers, scientists and technicians with expertise in the
design and operation of high-pressure and temperature process plants at its
Lawrenceville, New Jersey pilot plant and laboratory facilities. The following
are some of the technologies currently under development.

         o        Nanocatalyst Technology. HTI has developed the capability to
                  work at the molecular level in the aligning, spacing and
                  adhering of nano-sized crystals of precious metals on
                  substrate materials. The net effect is higher performance with
                  lower precious metal content, and nearly 100% selectivity for
                  certain chemical reactions (i.e., byproducts and waste are
                  minimized and the desired reaction is maximized). Potential
                  applications for this nanotechnology include new processes for
                  direct synthesis of hydrogen peroxide and production of
                  propylene oxide. This same technique can also be used to
                  regenerate spent precious metal catalysts and to improve
                  volatile organic compound oxidation, naphtha reforming and
                  fuel cell catalysts. Headwaters has entered into a preliminary
                  joint venture agreement for fuel cell technology development
                  and commercialization with the Dalian Institute of Chemical
                  Physics of the People's Republic of China.

         o        Direct Coal Liquefaction Technology. Headwaters has developed
                  an advanced technology for producing clean liquid fuels
                  directly from coal. Shenhua Group, China's largest coal
                  company, has purchased elements of Headwaters' direct coal
                  liquefaction technology for its plant to be built in Majata,
                  China. The plant is expected to become the first commercial
                  direct coal liquefaction plant in the world with an ultimate
                  capacity of 50,000 barrels per day.

                                       8
<PAGE>

         o        Heavy Oil Upgrading Technology. HTI has obtained the exclusive
                  worldwide license to develop, market and sublicense an
                  innovative catalytic heavy oil upgrading technology known as
                  (HC)3. This technology is a hydrocracking process used for
                  upgrading heavy oil, bitumen or bottom-of-the-barrel residual
                  oil into synthetic crude or clean liquid fuels. The process
                  uses a proprietary, highly active molecular catalyst. There
                  are several heavy oil upgrading plants located around the
                  world that could immediately apply and benefit from the (HC)3
                  technology with minimal modification to plant and equipment.

         o        Gas-To-Liquids Technology. Commercialization of slurry-phase
                  Fischer-Tropsch ("FT") technology provides a new source of
                  clean diesel fuels from fossil fuel resources. HTI has
                  developed a skeletal-iron FT catalyst specifically designed
                  for slurry-phase reactors that converts gaseous materials into
                  a range of liquid fuels. We believe that HTI's skeletal-iron
                  FT catalyst is stronger and more economical to utilize than
                  conventional FT catalysts, and that existing petrochemical and
                  chemical plants could be adapted to produce diesel fuel.

Research and Development

         In 2001, research and development expenses were $2.4 million,
consisting primarily of acquired in-process research and development related to
the HTI acquisition. In 2002, research and development expenses were $2.3
million, consisting primarily of ongoing activities at HTI. Research and
development expenses increased by $2.4 million to $4.7 million in 2003. The
increase was primarily attributable to the inclusion of additional costs
relating to ISG's research and development activities.

Headwaters' Business Strategy

         Headwaters intends to pursue the following business strategy:

o        Enable Customers to Maximize Production and Value of Synthetic Fuel
         Facilities. In order for our customers to maximize the production and
         value of their coal-based synthetic fuel facilities, we will continue
         to assist them in operating their facilities more efficiently, and we
         will actively market the benefits of synthetic fuel to electric power
         generators. Covol Fuels intends to continue to develop technologies
         that improve coal handling, enhance coal combustion characteristics and
         reduce air emissions.

o        Expand Consumption and Enhance Quality of CCPs. We intend to expand our
         market presence geographically and continue to seek increased market
         acceptance of CCPs through targeted marketing of industry decision
         makers, such as architects and engineers, and through efforts to
         increase governmental recommendations and mandates to use CCPs. An
         important part of our strategy is to focus on alternative uses of CCPs,
         including road beds, embankments, building products and waste
         stabilization. ISG also intends to continue to seek new business
         opportunities with other utilities.

o        Leverage Complementary Relationships and Capabilities. Covol Fuels and
         ISG each maintains long-standing relationships with many of the largest
         coal-fired electricity producers in the United States. Headwaters
         believes these complementary relationships will provide opportunities
         to expand and strengthen its position among coal-fired power generation
         utilities. Headwaters intends to market new technologies and services
         to its existing client base, as well as other utilities.

o        Develop and License New Technologies. Headwaters will continue to
         develop and commercialize technologies that add value to coal, gas, oil
         and other natural resources. These efforts will focus on upgrading
         heavy oil to lighter fuel, gas-to-liquid fuels conversion and
         converting or upgrading fossil fuels into higher value products. In
         addition, ISG is developing and/or commercializing new technologies
         such as carbon fixation and ammonia removal to improve the quality of
         fly ash. HTI's nanocatalyst technologies should provide us with an
         opportunity for commercialization of multiple custom designed
         catalysts. Headwaters will seek to develop strategic relationships with
         major companies in the energy and chemical industries to accelerate
         commercialization of its energy and catalyst technologies.

o        Pursue Complementary and Expansionary Acquisitions. Headwaters intends
         to identify and analyze additional acquisition opportunities to
         strengthen its position as a leading value enhancer of fossil fuels and

                                       9
<PAGE>

         other natural resources. Headwaters will evaluate possible acquisitions
         of complementary businesses in the chemical, energy, building products
         and related industries. Significant acquisitions may be financed with
         additional indebtedness.

Competition

         Headwaters experiences competition from traditional coal and fuel
suppliers and natural resource producers, in addition to those companies that
specialize in the use and upgrading of industrial byproducts. Many of these
companies have greater financial, management and other resources than
Headwaters, and may be able to take advantage of acquisitions and other
opportunities more readily.

         Coal-based solid synthetic fuels made using Covol Fuels' technologies,
from which Covol Fuels derives license revenues and revenues from sales of
chemical reagents, compete with other synthetic fuel products, as well as
traditional fuels. For Covol Fuels competition may come in the form of the
marketing of competitive chemical reagents and the marketing of end products
qualifying as synthetic fuel. Covol Fuels competes with other companies
possessing technologies to produce coal-based solid synthetic fuels and
companies that produce chemical reagents such as Nalco Chemical Company and
Accretion Technologies, LLC.

         Covol Fuels also experiences competition from traditional coal and fuel
suppliers and natural resource producers, in addition to those companies that
specialize in the use and upgrading of industrial byproducts. These companies
may have greater financial, management and other resources than Headwaters has.
Further, many industrial coal users are limited in the amount of synthetic fuel
product they can purchase from Covol Fuels' licensees because they have
committed to purchase a substantial portion of their coal requirements through
long-term contracts for standard coal.

         Generally, the business of marketing traditional CCPs and construction
materials is intensely competitive. ISG has substantial competition in three
main areas: obtaining CCP management contracts with utility and other industrial
companies; marketing CCPs and related industrial materials; and marketing its
construction materials. ISG has a presence in every region in the United States
but, because the market for the management of CCPs is highly fragmented and
because the costs of transportation are high relative to sales prices, most of
the competition in the CCP management industry is regional. There are many
local, regional and national companies that compete for market share in these
areas with similar products and with numerous other substitute products.
Although ISG typically has long-term CCP management contracts with its clients,
some of such contracts provide for the termination of such contract at the
convenience of the utility company upon a minimum 90-day notice. Moreover,
certain of ISG's most significant regional CCP competitors appear to be seeking
a broader national presence. These competitors include Lafarge North America
Inc., Boral Material Technologies Inc. and Cemex. Construction materials are
produced and sold regionally by the numerous owners and operators of concrete
ready-mix plants. Producers with sand and gravel sources near growing
metropolitan areas have important transportation advantages. In Texas, ISG's
most important construction materials market, Featherlite Building Products is
among ISG's competitors.

         Many of the world's major chemical companies are devoting significant
resources to researching and developing nanocatalysts and catalytic processes.
These companies have greater financial, management and other resources than
Headwaters has. Headwaters' strategy is to enter into license agreements or
joint ventures with major chemical companies for the further development and
commercialization of Headwaters' nanocatalyst technologies.

Intellectual Property

         Headwaters itself has one registered trademark and one pending
trademark application.

         ISG has 13 U.S. patents that expire between 2009 and 2017 and over 10
U.S. patent applications pending. ISG has 14 registered trademarks and two
pending trademark applications. While these collective patents and trademarks
are important to ISG's competitive position, no single patent or trademark is
material to ISG.

         Covol Fuels has nine U.S. patents that expire between 2011 and 2014.
Covol Fuels has one registered trademark.

                                       10
<PAGE>

         HTI has 17 U.S. patents that expire between 2011 and 2022 and over 15
U.S. patent applications pending. HTI has three registered trademarks and four
pending trademark applications.

         There can be no assurance as to the scope of protection afforded by the
patents. In addition, there are other technologies in use and others may
subsequently be developed, which do not, or will not, utilize processes covered
by the patents. There can be no assurance that Headwaters' patents will not be
infringed or challenged by other parties or that Headwaters will not infringe on
patents held by other parties. Because many of these patents represent new
technology, the importance of the patents to Headwaters' business will depend on
its ability to commercialize these technologies successfully, as well as its
ability to protect its technology from infringement or challenge by other
parties.

         In addition to patent protection, Headwaters also relies on trade
secrets, know-how, and confidentiality agreements to protect these technologies.
Despite these safeguards, such methods may not afford complete protection and
there can be no assurance that others will not either independently develop such
know-how or unlawfully obtain access to Headwaters' know-how, concepts, ideas,
and documentation.

         Since Headwaters' proprietary information is important to its business,
failure to protect ownership of its proprietary information would likely have a
material adverse effect on Headwaters. Headwaters' current revenues are
dependent upon license fees and chemical sales. Headwaters believes that its
patents, trade secrets, know-how and confidential information are the basis upon
which it obtains and secures licensing agreements.

Effect of Federal, State and Local Laws

         Section 29. Headwaters' coal-based solid synthetic fuel business is
subject to compliance with the terms of Section 29. The issuance of private
letter rulings ("PLRs") under Section 29 by the Internal Revenue Service ("IRS")
is important to the willingness of the owners of synthetic fuel facilities to
operate and to their ability to transfer ownership of those facilities. The IRS
has suspended the issuance of PLRs to synthetic fuel facility owners several
times in the past, and there can be no assurance that the IRS will not suspend
the issuance of PLRs in the future. Most recently, in June 2003, the IRS stated,
in summary, in Announcement 2003-46 that it "has had reason to question the
scientific validity of test procedures and results that have been presented as
evidence that fuel underwent a significant chemical change, and is currently
reviewing information regarding these test procedures and results," and that
pending its review of the issue it was suspending the issuance of new PLRs
regarding significant chemical change.

         The IRS release of Announcement 2003-46 caused certain of Headwaters'
licensees to reduce or cease synthetic fuel production, which resulted in a
material adverse impact on Headwaters' revenues and net income. In October 2003,
the IRS stated in summary in Announcement 2003-70 that it continues to question
whether processes it had approved under its long-standing ruling practice
produce the necessary level of chemical change required under Section 29 and
Revenue Ruling 86-100. Nonetheless, the IRS indicated that it would continue to
issue PLRs regarding chemical change under the standards set forth in Revenue
Procedures 2001-30 and 2001-34, and that the industry's chemical change test
procedures and results are scientifically valid if applied in a consistent and
unbiased manner. Although the IRS resumed its practice of issuing PLRs, it
expressed continuing concerns regarding the sampling and data/record retention
practices prevalent in the synthetic fuels industry.

         Also on October 29, 2003, the United States Senate Permanent
Subcommittee on Investigations issued a notification of pending investigations.
The notification listed the synthetic fuel tax credit as a new item, stating:

         The Subcommittee has initiated an investigation of potential abuses of
         tax credits for producers of synthetic fuel under Section 29 of the
         Internal Revenue Code. The Subcommittee anticipates that this
         investigation will focus on whether certain synthetic fuel producers
         are claiming tax credits under Section 29, even though their product is
         not a qualified synthetic fuel under Section 29 and IRS regulations. In
         addition, the investigation will address whether certain corporations
         are engaging in transactions solely to take advantage of unused Section
         29 credits, with no other business purpose. Lastly, the investigation
         will address the IRS's efforts to curb abuses related to the Section 29
         tax credits.

         The effect that the Senate subcommittee investigation of synthetic fuel
tax credits may have on the industry is unknown.

                                       11
<PAGE>

         Environmental. The coal-based solid synthetic fuel operations of
Headwaters and its licensees are subject to federal, state and local
environmental regulations that impose limitations on the discharge of pollutants
into the air and water and establish standards for the treatment, storage and
disposal of waste products. Moreover, in order to establish and operate the
synthetic fuel plants, power plants and operations to collect and transport CCPs
and bottom ash, we and our licensees and customers have obtained various state
and local permits and must comply with processes and procedures that have been
approved by regulatory authorities. Compliance with permits, regulations and the
approved processes and procedures help protect against pollution and
contamination. We believe that all required permits to construct and operate
these solid synthetic fuel facilities have been obtained and believe they are in
substantial compliance with all relevant laws and regulations governing
synthetic fuel operations.

         In spite of safeguards, our operations entail risks of regulatory
noncompliance or accidental discharge that could create an environmental
liability because hazardous materials are used or stored during normal business
operations. For example, we and our subsidiaries use and share other hazardous
chemicals in order to conduct operations involving distillation to purify
products, analysis, packaging of chemicals and the selling and manufacturing of
chemicals in small research volumes. Our subsidiaries also use their facilities
to perform research and development activities involving coal, oil, chemicals
and industrial gases such as hydrogen. As a result, petroleum and other
hazardous materials have been and are present in and on their properties. We
generally hire independent contractors to transport and dispose of any hazardous
materials generated and send any hazardous wastes only to federally approved,
large scale and reputable off-site waste facilities.

         The federal Clean Air Act of 1970 and subsequent amendments
(particularly the Clean Air Act Amendments of 1990), and corresponding state
laws, which regulate the emissions of materials into the air, affect the coal
industry both directly and indirectly. The coal industry is directly affected by
Clean Air Act permitting requirements and/or emissions control requirements,
including requirements relating to particulate matter (such as, "fugitive
dust"). The coal industry may also be impacted by future regulation of fine
particulate matter measuring 2.5 micrometers in diameter or smaller. In July
1997, the EPA adopted new, more stringent National Ambient Air Quality
Standards, or NAAQS, for particulate matter and ozone. Although the NAAQS have
been challenged in litigation, slowing their implementation, the standards were
upheld by the United States Supreme Court, and states will ultimately be
required to revise their existing state implementation plans ("SIPs") to attain
and maintain compliance with the new NAAQS. Because electric utilities emit
nitrogen oxide ("NOx"), which are precursors to ozone and particulate matter,
ISG's utility customers are likely to be affected when the new NAAQS are
implemented by the states. State and federal regulations relating to fugitive
dust and the implementation of the new NAAQS may reduce ISG's sources for its
products. The extent of the potential impact of the new NAAQS on the coal
industry will depend on the policies and control strategies associated with the
state implementation process under the Clean Air Act.

         The 1990 Clean Air Act Amendments require utilities that are currently
major sources of NOx in moderate or higher ozone non-attainment areas to install
reasonably available control technology for NOx. EPA currently plans to finalize
stricter ozone NAAQS (discussed above) by 2004. EPA promulgated a rule (the "NOx
SIP call") in 1998 requiring 22 eastern states to make substantial reductions in
NOx emissions. Under this rule, EPA expects that states will achieve these
reductions by requiring power plants to make substantial reductions in their NOx
emissions. The NOx SIP call must be implemented by May 31, 2004. In addition to
the NOx SIP call, by May 31, 2004, EPA must directly regulate NOx emissions from
states upwind of four eastern states that petitioned EPA (pursuant to section
126 of the Clean Air Act). The section 126 rule will be withdrawn in any state
that submits an approvable NOx SIP. Installation of reasonably available control
technology and additional control measures required under the NOx SIP call or
the section 126 rule will make it more costly to operate coal-fired utility
power plants and, depending on the requirements of individual SIPs, could make
coal a less attractive fuel alternative in the planning and building of utility
power plants in the future. The effect such regulation or other requirements
that may be imposed in the future could have on the coal industry in general and
on ISG in particular cannot be predicted with certainty. No assurance can be
given that the ongoing implementation of the Clean Air Act (including the 1990
Amendments) or any future regulatory provisions will not materially adversely
affect ISG.

         In addition, the 1990 Clean Air Act Amendments require a study of
utility power plant emissions of certain toxic substances, including mercury,
and direct EPA to regulate emissions of these substances, if warranted. EPA has
submitted reports to Congress on Mercury (1997) and Utility Air Toxics (1998).
On December 14, 2000, EPA announced its finding that regulation of hazardous air
pollutant emissions from oil- and coal-fired electric utility steam generating
units is necessary and appropriate. EPA expects to propose emission standards by

                                       12
<PAGE>

December 15, 2003 and to finalize them by December 15, 2004. These regulations
are likely to require reductions in mercury emissions, and such requirements, if
promulgated, could result in reduced use of coal if utilities switch to other
sources of fuel.

         The Clear Skies Initiative, announced by the Bush Administration in
February 2002 (S.485 and H.R. 999, and revised by S.1844), seeks to develop
strategies for reducing emissions of sulfur dioxide ("SOx"), NOx and mercury
from power plants. Because the Initiative must be implemented by legislation
that has not yet been enacted, its effect on ISG cannot be determined at this
time. However, in February and April 2003, two four-pollutant bills (S.366 and
S.843, respectively) for power plants were referred to the Senate Environment
and Public Works Committee. In addition to the three pollutants covered under
the Clear Skies Initiative, these bills include the greenhouse gas carbon
dioxide. If enacted as written, these bills could result in reduced use of coal
if utilities switch to other sources of fuel as a means of complying with more
stringent emission limits.

         Coal-fired boilers have been impacted by regulations under the 1990
Clean Air Act Amendments, which established specific emissions levels for SOx
and NOx in order to reduce acid rain. These emissions levels have required
utilities to undertake many of the following changes: change their fuel
source(s), add scrubbers to capture SOx, add new boiler burner systems to
control NOx, add or modify fuel pulverizers/air handling systems to control NOx,
introduce flue gas conditioning materials to control particulate emissions in
conjunction with meeting SOx emissions targets and in some very isolated cases
shut down a plant. All of these changes can impact the quantity and quality of
CCPs produced at a power plant and can add to the costs of operating a power
plant. Furthermore, proposed regulations to control mercury emissions could
result in implementation of additional technologies at power plants that could
negatively affect fly ash quality.

         Further, inappropriate use of CCPs can result in faulty end products.
Since most of the products marketed by ISG typically consist of a mixture of
client-supplied CCPs, ISG does not control the quality of the final end product,
but may share such control with the manufacturer of the ingredient materials.
Therefore, there is a risk of liability regarding the quality of the materials
and end products marketed by ISG. In cases where ISG is responsible for
end-product quality, such as a structural fill (where material is used to fill a
cavity or designated area), ISG depends solely on its own quality assurance
program.

         Materials sold by ISG vary in chemical composition. Fossil fuel
combustion wastes have been excluded from regulation as "hazardous wastes" under
subtitle C of the Resource Conservation and Recovery Act ("RCRA"). However, EPA
has determined that national regulations under subtitle D of RCRA (dealing with
state and regional solid waste plans) are warranted for coal combustion
byproducts disposed of in landfills or surface impoundments, or used to fill
surface or underground mines. EPA is planning to publish a proposed rulemaking
under subtitle D of RCRA in January 2004. ISG manages a number of landfill and
pond operations that may be affected by EPA's proposed regulations. In most of
these operations the permitting is contractually retained by the client and the
client would be liable for any costs associated with new permitting
requirements. The effect of such regulations on ISG cannot be completely
ascertained at this time.

         ISG is engaged in providing services at one landfill operation that is
permitted and managed as a hazardous waste landfill. ISG provides the services
necessary to landfill the client's hazardous wastes and operates certain
in-plant equipment and systems for the client. Accordingly, there can be no
assurance that ISG will not be named in third-party claims relating to the
project.

         CCPs contain small concentrations of metals that are considered as
"hazardous substances" under CERCLA. Land application of CCPs is regulated by a
variety of federal and state statutes, which impose testing and management
requirements to ensure environmental protection. Under limited circumstances,
mismanagement of CCPs can give rise to CERCLA liability.

         Electric utility deregulation has slowed substantially from previous
years' predictions. Deregulation could negatively impact ISG because it could
result in some sources of CCPs being put out of service because they are not
economically competitive. On the other hand, deregulation efforts have spurred
renewed interest in construction of new coal-fired electricity generating
capacity. We believe no significant changes to the sources of CCPs under
contract will occur. However, since this change to the industry continues to
evolve, the impact of deregulation cannot be accurately projected, and
Headwaters could be materially adversely affected if major changes occur to
specific sources.

                                       13
<PAGE>

Employees

         Headwaters currently employs approximately 800 employees full-time. Of
these employees, approximately 43 are in corporate administration, 34 are
employed by Headwaters' Covol Fuels division, 41 are employed by HTI, 487 are
employed by ISG's CCP division and 192 are employed by ISG's construction
materials division. ISG has more than 50 area managers and technical sales
representatives nationwide. Approximately 19 employees work under collective
bargaining agreements.

ITEM 2.  PROPERTIES

         Headwaters' headquarters are located at 10653 South River Front
Parkway, Suite 300, South Jordan, Utah 84095. The lease for this office space of
approximately 26,500 square feet provides for a six-year term. The monthly rent
is approximately $41,000, with certain adjustments for inflation plus expenses.

         ISG owns or leases approximately 20 parcels of real property in 17
states for its fly ash storage and distribution operations. ISG also owns or
leases approximately ten properties in three states for its building products
manufacturing and sales operations.

         In 1995, HTI purchased approximately six acres in Lawrenceville, New
Jersey, where its headquarters and research facilities are now located.

ITEM 3.  LEGAL PROCEEDINGS

         Headwaters has ongoing litigation and claims incurred during the normal
course of business, including the items discussed below. Headwaters intends to
vigorously defend and/or pursue its rights in these actions. Management does not
currently believe that the outcome of these actions will have a material adverse
effect on Headwaters' operations, cash flows or financial position; however, it
is possible that a change in the estimates of probable liability could occur,
and the change could be significant. Additionally, as with any litigation, these
proceedings will require that Headwaters incur substantial costs, including
attorneys' fees, managerial time, and other personnel resources and costs in
pursuing resolution.

         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 a synthetic fuel
technology invented by Davidson. (This technology is distinct from the
technology developed by Headwaters.) 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 alleged that the
technology purchase transaction was an unauthorized corporate action and that
Davidson and Headwaters conspired together to affect the transfer. In August
2001, the trial court granted Headwaters' motion to dismiss the complaint.
Plaintiffs appealed the case to the Sixth Circuit Court of Appeals. In 2002, the
Sixth Circuit Court of Appeals issued an order i) affirming the District Court's
judgment and order of dismissal, and ii) transferring to the Federal Circuit
Court of Appeals plaintiff's appeal of the District Court's order denying the
motion for relief from judgment. The Federal Circuit Court of Appeals has
affirmed the District Court's order denying the motion for relief from judgment
and the case is now fully resolved.

         Boynton. This action is factually related to the Adtech matter. In the
Adtech case, the alleged claims are asserted by certain purported officers and
directors of Adtech, Inc. In the Boynton action, the allegations arise from the
same facts, but the claims are asserted by certain purported stockholders of
Adtech. In June 2002, Headwaters received a summons and complaint from the
United States District Court for the Western District of Tennessee alleging,
among other things, fraud, conspiracy, constructive trust, conversion, patent
infringement and interference with contract arising out of the 1998 technology
purchase agreement entered into between Davidson and Adtech on the one hand, and
Headwaters on the other. The complaint seeks declaratory relief and compensatory
and punitive damages. Because the resolution of the litigation is uncertain,
legal counsel cannot express an opinion as to the ultimate amount, if any, of
Headwaters' liability.

         AGTC. In March 1996, Headwaters entered into an agreement with AGTC and
its associates for certain services related to the identification and selection
of synthetic fuel projects. In March 2002, AGTC filed an arbitration demand
claiming that it is owed a commission under the 1996 agreement for 8% of the

                                       14
<PAGE>

revenues received by Headwaters from the Port Hodder project. Headwaters asserts
that AGTC did not perform under the agreement and that the agreement was
terminated and the disputes were settled in July 1996. Headwaters has filed an
answer in the arbitration, denying AGTC's claims and has asserted counterclaims
against AGTC. Because the resolution of the arbitration is uncertain, legal
counsel cannot express an opinion as to the ultimate amount, if any, of
Headwaters' liability.

         AJG. In December 1996, Headwaters entered into a technology license and
proprietary chemical reagent sale agreement with AJG Financial Services, Inc.
The agreement called for AJG to pay royalties and to purchase proprietary
chemical reagent 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 had failed to make payments and to perform other obligations
under the agreement. Headwaters asserts claims including breach of contract,
declaratory judgment, unjust enrichment and accounting and seeks money damages
as well as other relief. AJG's answer to the complaint denied Headwaters' claims
and asserted counter-claims based upon allegations of misrepresentation and
breach of contract. AJG seeks compensatory damages as well as punitive damages.
Headwaters has denied the allegations of AJG's counter-claims. Because the
resolution of the litigation is uncertain, legal counsel cannot express an
opinion as to the ultimate amount of recovery or liability.

         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 alleged that Nalco, by its sale and marketing of materials
for use in creating synthetic fuel, breached a non-disclosure agreement,
misappropriated trade secrets, and violated patent rights of Headwaters. Nalco
filed an answer denying the allegations in the complaint and asserting
counter-claims alleging patent invalidity, antitrust violations, and
interference with economic relations. Headwaters denied the counter-claims.
Effective in January 2003, the parties settled the dispute and the case was
dismissed. There was no material effect on Headwaters' operations, cash flows or
financial position as a result of the settlement.

         ISG Matters. There is litigation and pending and threatened claims made
against certain subsidiaries of ISG with respect to several types of exterior
stucco finish systems manufactured and/or sold by its subsidiaries for
application by contractors, developers and owners on residential and commercial
buildings. This litigation and these claims are controlled by such subsidiaries'
insurance carriers. The plaintiffs and/or claimants in these matters have
alleged that due to some failure of the stucco system itself and/or its
application, the buildings have suffered damage due to the progressive, latent
effects of water penetration through the building's exterior. The most prevalent
type of claim involves alleged defects associated with an artificial stucco
system manufactured by one of ISG's subsidiaries, Best Masonry. Best Masonry
continued to manufacture this system through 1997, and there is a 10-year
projected claim period following discontinuation of the product.

         Typically, the claims cite damages for alleged personal injuries and
punitive damages for alleged unfair business practices in addition to asserting
more conventional damage claims for alleged economic loss and injury to
property. To date, claims made against such subsidiaries have been paid by their
insurers, with the exception of minor deductibles, although such insurance
carriers typically have provided "reservation of rights" letters. None of the
cases has gone to trial, and while two such cases involve 100 and 800 homes,
respectively, none of the cases includes any claims formally asserted on behalf
of a class. While, to date, none of these proceedings have required that ISG
incur substantial costs, there is no guarantee of coverage or continuing
coverage. These and future proceedings may result in substantial costs to ISG,
including attorneys' fees, managerial time and other personnel resources and
costs. Adverse resolution of these proceedings could have a materially negative
effect on ISG's business, financial condition and results of operation, and its
ability to meet its financial obligations. Although ISG carries general and
product liability insurance, ISG cannot assure that such insurance coverage will
remain available, that ISG's insurance carrier will remain viable or that the
insured amounts will cover all future claims in excess of ISG's uninsured
retention. Future rate increases may also make such insurance uneconomical for
ISG to maintain. In addition, the insurance policies maintained by ISG exclude
claims for damages resulting from exterior insulating finish systems, or EIFS,
that have manifested after March 2003. Because much of the litigation and claims
are at an early stage and resolution is uncertain, legal counsel cannot express
an opinion as to the ultimate amount, if any, of the liability resulting to
Headwaters.

         Former Director. Headwaters granted stock options to a member of its
board of directors in 1995. The director resigned from the board in 1996.
Headwaters believes that most of the former director's options terminated

                                       15
<PAGE>

unexercised. The former director has claimed that he is entitled to exercise the
options. No lawsuit has been filed in this matter. Resolution is uncertain and
legal counsel cannot express an opinion as to the ultimate amount, if any, of
Headwaters' liability.

         Other. Headwaters and its subsidiaries are also involved in other legal
proceedings that have arisen in the normal course of business.

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

         None.


                                     PART II

ITEM 5.  MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

         The shares of Headwaters' common stock trade on the Nasdaq National
Market under the symbol "HDWR." Options on Headwaters' common stock are traded
on the Chicago Board Options Exchange under the symbol "HQK." The following
table sets forth for the periods presented, the high and low trading prices of
Headwaters' common stock as reported by Nasdaq.

Fiscal 2002                                         Low           High
-----------                                         ---           ----

Quarter ended December 31, 2001                   $ 9.10        $13.10
Quarter ended March 31, 2002                       11.16         15.55
Quarter ended June 30, 2002                        11.37         19.15
Quarter ended September 30, 2002                   11.87         16.74

Fiscal 2003
-----------

Quarter ended December 31, 2002                   $12.81        $18.03
Quarter ended March 31, 2003                       13.50         16.64
Quarter ended June 30, 2003                        13.25         20.25
Quarter ended September 30, 2003                   12.86         16.30


         As of November 30, 2003, there were approximately 366 stockholders of
record of Headwaters' common stock. Headwaters has not paid dividends on its
common stock to date and does not intend to pay dividends on its common stock in
the foreseeable future. Pursuant to debt agreements Headwaters entered into in
September 2002, Headwaters is prohibited from paying cash dividends so long as
any of the long-term debt is outstanding. Headwaters intends to retain earnings
to finance the development and expansion of its business. Payment of common
stock dividends in the future will depend, among other things, upon Headwaters'
debt covenants, its ability to generate earnings, its need for capital, its
investment opportunities and its overall financial condition. . See Note 12 to
the consolidated financial statements for a description of securities authorized
for issuance under equity compensation plans.

Recent Sales of Unregistered Securities

         The following sets forth all securities issued by Headwaters during the
year ended September 30, 2003 without registration under the Securities Act of
1933, as amended. No underwriters were involved in any stock issuances nor were
any commissions paid in connection therewith.

         During the year ended September 30, 2003, pursuant to the exercise of
options and warrants, approximately 236,000 shares of Headwaters restricted
common stock were issued. Headwaters has several outstanding effective
registration statements filed on Forms S-3 and Forms S-8. All of shares of
restricted common stock issued during the year have been registered under one of
these registration statements

                                       16
<PAGE>

ITEM 6.  SELECTED FINANCIAL DATA

         The following selected financial data are derived from the consolidated
financial statements of Headwaters. This information should be read in
conjunction with the consolidated financial statements, related notes and other
financial information included herein.

         As more fully described in Note 3 to the consolidated financial
statements, in August 2001, Headwaters acquired HTI, the financial statements of
which are consolidated with Headwaters' financial statements using a one-month
lag. Accordingly, no results of operations of HTI were included in the
consolidated statement of income for 2001. HTI's August 31, 2001, 2002 and 2003
balance sheets were consolidated with Headwaters' September 30, 2001, 2002 and
2003 balance sheets and HTI's results of operations for the twelve months ended
August 31, 2002 and 2003 were consolidated with Headwaters' 2002 and 2003
results. Also, as more fully described in Note 3 to the consolidated financial
statements, Headwaters acquired ISG on September 19, 2002 and accordingly, ISG's
results of operations for the period from September 19, 2002 through September
30, 2003 have been consolidated with Headwaters' 2002 and 2003 results. ISG's
results of operations up to September 18, 2002 have not been included in
Headwaters' consolidated results for any period. As more fully described in Note
11 to the consolidated financial statements, in 2001, Headwaters recorded
approximately $7.5 million of income tax benefit primarily related to the
reduction of its deferred tax asset valuation allowance.

         The selected financial data as of and for the years ended September 30,
1999 and 2000 and as of September 30, 2001 are derived from audited financial
statements not included herein. The selected financial data as of September 30,
2002 and 2003 and for the years ended September 30, 2001, 2002, and 2003 were
derived from the audited financial statements of Headwaters included elsewhere
herein.
<TABLE>
<CAPTION>
                                                                       Year ended September 30,
                                                  -----------------------------------------------------------------
(in thousands)                                       1999         2000         2001         2002          2003
------------------------------------------------- ------------ ------------ ------------ ------------ -------------
<S>                                                <C>           <C>          <C>          <C>           <C>
OPERATING DATA:
     Total revenue                                 $    6,719    $  27,886    $  45,464    $ 119,345     $ 387,630
     Net income (loss)                                (28,393)       3,682       21,517       24,286        36,631
     Diluted earnings (loss) per share                                0.07         0.87         0.94          1.30
                                                        (2.39)
<CAPTION>
                                                                           As of September 30,
                                                  -----------------------------------------------------------------
(in thousands)                                       1999         2000         2001         2002          2003
------------------------------------------------- ------------ ------------ ------------ ------------ -------------
<S>                                                <C>           <C>          <C>          <C>           <C>
BALANCE SHEET DATA:
     Working capital (deficit)                     $   (2,721)   $   8,393    $   8,619    $  15,023     $  14,176
     Net property, plant and equipment                 14,182          552        2,680       50,549        52,743
     Total assets                                      58,095       33,441       55,375      372,857       373,275
     Long-term obligations:
         Long-term debt                                17,887        5,055          149      154,552       104,044
         Unamortized non-refundable license
            fees and other long-term liabilities        8,036        7,861        8,711        5,442         4,703
         Redeemable convertible preferred
            stock                                       4,332           --           --           --            --
         Deferred income taxes                             --           --           --       51,357        50,663
     Total long-term obligations                       30,255       12,916        8,860      211,351       159,410
     Total stockholders' equity (deficit)              (1,028)      10,747       31,086       98,596       140,157
</TABLE>

                                       17
<PAGE>

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
         OF OPERATIONS

         The following discussion and analysis should be read in conjunction
with the information set forth under the caption entitled "ITEM 6. SELECTED
FINANCIAL DATA" and the consolidated financial statements and notes thereto
included elsewhere herein. Headwaters' fiscal year ends on September 30 and
unless otherwise noted, future references to years refer to Headwaters' fiscal
year rather than a calendar year.

Acquisitions of ISG and HTI and Segments

         The consolidated financial statements include the accounts of
Headwaters and all of its subsidiaries, only two of which have significant
operations, ISG and HTI. All significant intercompany transactions and accounts
are eliminated in consolidation. ISG was acquired on September 19, 2002 and
accordingly, ISG's results of operations for the period from September 19, 2002
through September 30, 2003 have been consolidated with Headwaters' 2002 and 2003
results. HTI was acquired in August 2001. Due to the time required to obtain
accurate financial information related to HTI's foreign contracts, for financial
reporting purposes HTI's financial statements are consolidated with Headwaters'
financial statements using a one-month lag. Accordingly, no results of
operations of HTI were included in the consolidated statement of income for
2001. HTI's August 31, 2002 and 2003 balance sheets were consolidated with
Headwaters' September 30, 2002 and 2003 balance sheets and HTI's results of
operations for the twelve months ended August 31, 2002 and 2003 were
consolidated with Headwaters' 2002 and 2003 results.

         ISG Acquisition. On September 19, 2002, Headwaters acquired 100% of the
common stock of ISG, assumed or paid off all of ISG's outstanding debt and
redeemed all of ISG's outstanding preferred stock. ISG is the leading provider
of high quality fly ash to the building products and ready mix concrete
industries in the United States. ISG also develops, manufactures and distributes
value-added bagged concrete, stucco, mortar and block products that utilize fly
ash through its construction materials segment. Headwaters' historical focus has
been on using technology to add value to fossil fuels, particularly coal. The
acquisition of ISG provided Headwaters with a significant position in the last
phase of the coal value chain due to ISG's competencies in managing CCPs. The
acquisition of ISG also brought to Headwaters substantial management depth,
comprehensive corporate infrastructure and critical mass in revenues and
operating income.

         In order to obtain the cash necessary to acquire ISG and retire the ISG
debt, Headwaters issued $175.0 million of new debt consisting of $155.0 million
of senior secured debt with a five-year term and a variable interest rate and
$20.0 million of subordinated debt with an approximate five-year term and a
fixed interest rate (see Note 9 to the consolidated financial statements). ISG
management participated in one-half, or $10.0 million, of the subordinated debt.
Total cash proceeds from the issuance of new debt, net of debt discounts, was
$170.0 million. Headwaters also incurred approximately $6.2 million of debt
issuance costs to place the new debt, which had an initial combined effective
weighted-average interest rate of approximately 9.0%. The total consideration
paid for ISG was $257.9 million and is described in more detail in Note 3 to the
consolidated financial statements.

         The ISG acquisition was accounted for using the purchase method of
accounting as required by SFAS No. 141, "Business Combinations." Assets acquired
and liabilities assumed were recorded at their fair values as of September 19,
2002. Approximately $109.2 million of the purchase price was allocated to
identifiable intangible assets consisting primarily of contracts with coal-fired
electric power generation plants and patents. This amount is being amortized
over the estimated combined useful life of 20 years. The remaining purchase
price not attributable to the tangible and identifiable intangible assets was
allocated to goodwill, none of which is tax deductible. All of the intangible
assets and all of the goodwill were allocated to the CCP segment.

         HTI Acquisition. In August 2001, Headwaters acquired 100% of the common
stock of HTI, a New Jersey-based company. HTI's activities are directed at
catalyst technologies to convert coal and heavy oil into
environmentally-friendly, higher-value liquid fuels, as well as nanocatalyst
processes and applications. The total consideration paid for HTI was $15.0
million and is described in more detail in Note 3 to the consolidated financial
statements.

         The HTI acquisition was accounted for using the purchase method of
accounting. Assets acquired and liabilities assumed were recorded at their fair
values as of the acquisition date. Approximately $9.7 million of the purchase
price was allocated to identifiable intangible assets consisting of existing
patented technology with an estimated useful life of 15 years. Approximately
$2.4 million of the purchase price was allocated to purchased in-process
research and development, consisting primarily of efforts focused on developing
catalysts and catalytic processes to lower the cost of producing synthetic fuels

                                       18
<PAGE>

and chemicals while improving energy efficiency and reducing environmental
risks. This amount represented projects that had not reached technological
feasibility and had no alternative use as of the acquisition date, and was
expensed in 2001.

         Segments. Until Headwaters acquired ISG in September 2002, Headwaters
operated in and reported as a single industry segment, alternative energy. With
the acquisition of ISG, Headwaters now operates in three business segments,
alternative energy, CCPs, and construction materials. These segments are managed
and evaluated separately by management based on fundamental differences in their
operations, products and services.

         The alternative energy segment includes Headwaters' traditional
coal-based solid synthetic fuels business and HTI's business of developing
catalyst technologies to convert coal and heavy oil into
environmentally-friendly, higher-value liquid fuels as well as nanocatalyst
processes and applications. Revenues for this segment primarily include sales of
chemical reagents and license fees.

         The CCP segment includes ISG's business of providing fly ash to the
building products and ready mix concrete industries. This segment markets coal
combustion products such as fly ash and bottom ash, known as CCPs. ISG has
long-term contracts, primarily with coal-fired electric power generation plants,
pursuant to which it manages the post-combustion operations for the utilities.
ISG markets CCPs to replace manufactured or mined materials, such as portland
cement, lime, agricultural gypsum, fired lightweight aggregate, granite
aggregate and limestone. CCP revenues consist primarily of the sale of products,
with a small amount of service revenue.

         The construction materials segment manufactures and distributes
value-added bagged concrete, stucco, mortar and block products. ISG has
introduced high volumes of CCPs as substitute ingredients in the products the
construction materials segment produces.

Critical Accounting Policies and Estimates

         Headwaters' significant accounting policies are identified and
described in Note 2 to the consolidated financial statements. The preparation of
financial statements in conformity with accounting principles generally accepted
in the United States requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements, and
the reported amounts of revenue and expenses during the reporting period.

         Headwaters continually evaluates its policies and estimation
procedures. Estimates are often based on historical experience and on
assumptions that are believed to be reasonable under the circumstances, but
which could change in the future. Some of Headwaters' accounting policies and
estimation procedures require the use of substantial judgment, and actual
results could differ materially from the estimates underlying the amounts
reported in the consolidated financial statements. Such policies and estimation
procedures have been reviewed with Headwaters' audit committee. The following is
a discussion of critical accounting policies and estimates.

         License Fee Revenue Recognition. Headwaters currently licenses its
technologies to the owners of 28 of a company-estimated 75 coal-based solid
synthetic fuel facilities in the United States. Recurring license fees or
royalty payments are recognized in the period when earned, which generally
coincides with the sale of synthetic fuel by Headwaters' licensees. In most
instances, Headwaters receives timely reports from licensees notifying
Headwaters of the amount of solid synthetic fuel sold and the royalty due
Headwaters under the terms of the respective license fee agreements.
Additionally, Headwaters has experienced a regular pattern of payment by these
licensees of the reported amounts.

         Generally, estimates of license fee revenue earned, where required, can
be reliably made based upon historical experience and/or communications from
licensees for whom an established pattern exists. In some cases, however, such
as when a licensee is beginning to produce and sell synthetic fuel or when a
synthetic fuel facility is sold by a licensee to another entity, and for which
there is no pattern or knowledge of past or current production and sales
activity, there may be more limited information upon which to estimate the
license fee revenue earned. In these situations, Headwaters uses such
information as is available and where possible, substantiates the information
through such procedures as observing the levels of chemical reagents purchased
by the licensee and used in the production of the solid synthetic fuel. In
certain limited situations, Headwaters is unable to reliably estimate the
license fee revenues earned during a period, and therefore revenue recognition
is delayed until a future date when sufficient information is known from which
to make a reasonable estimation.

         Realizability of Receivables. Allowances are provided for uncollectible
accounts and notes receivable when deemed necessary. Such allowances are based
on an account-by-account analysis of collectibility or impairment. Collateral is
not required for trade receivables, but Headwaters performs periodic credit
evaluations of its customers. Collateral is generally required for notes
receivable and has historically consisted of most or all assets of the debtor.

                                       19
<PAGE>

         With regard to Headwaters' trade receivables from the alternative
energy segment, past allowances have been minimal as have any required
write-offs. Trade receivables from the CCP and construction materials segments
involve substantially more customers, and receivable allowances are required.
Headwaters reviews the collectibility of its trade receivables as of the end of
each reporting period.

         Net losses recognized on notes receivable were approximately $3.7
million in 2001, $0.7 million in 2002 and $2.1 million in 2003. Notes receivable
generally relate to nonoperating activities and accordingly, losses are included
in other expense in the consolidated statements of income. The losses on notes
receivable in 2001 consisted entirely of write-offs or impairments of notes from
unrelated, high-risk entities to which Headwaters loaned funds in late fiscal
2000 and early fiscal 2001, which amounts were determined to be uncollectible or
worthless. Headwaters no longer makes these loans, and in September 2001,
Headwaters sold all its remaining loans and equity investments in these entities
to a limited liability company, in exchange for a $4.0 million note receivable,
due no later than September 2004. This note is being accounted for on the cost
recovery basis. Headwaters reviews collectibility of this note receivable at the
end of each reporting period. This collectibility review consists of
consideration of payments of required interest and principal and the sufficiency
of the collateral to support the outstanding note receivable balance. If an
impairment is indicated, Headwaters writes down the note receivable to its
estimated net realizable value. Impairment losses of approximately $1.0 million
and $2.1 million were recorded in 2002 and 2003, respectively, due to declines
in the value of the underlying collateral, which management deemed other than
temporary, during those periods.

         Headwaters considers its receivable allowances adequate as of September
30, 2003; however, changes in economic conditions generally or in specific
markets in which Headwaters operates could have a material effect on required
reserve balances.

         Valuation of Long-Lived Assets, including Intangible Assets and
Goodwill. Long-lived assets consist primarily of property, plant and equipment,
intangible assets and goodwill. Intangible assets consist primarily of
identifiable intangible assets obtained in connection with the acquisitions of
ISG (long-term contracts and patents) and HTI (existing patented technology).
These intangible assets are being amortized on the straight-line method over
their remaining estimated useful lives. Goodwill consists of the excess of the
purchase price for ISG and HTI over the fair value of identified assets
acquired, net of liabilities assumed. In accordance with Statement of Financial
Accounting Standards ("SFAS") No. 142, "Accounting for Goodwill and Intangible
Assets," goodwill is not amortized, but is tested at least annually for
impairment. Goodwill is normally tested as of June 30, using a two-step process
that begins with an estimation of the fair value of the reporting unit giving
rise to the goodwill.

         Headwaters periodically evaluates the carrying value of long-lived
assets, including intangible assets and goodwill, as well as the related
amortization periods, to determine whether adjustments to these amounts or to
the useful lives are required based on current events and circumstances. Changes
in circumstances such as technological advances, changes to Headwaters' business
model or changes in Headwaters' capital strategy could result in the actual
useful lives differing from Headwaters' current estimates. In those cases where
Headwaters determines that the useful life of property, plant and equipment or
intangible assets should be shortened, Headwaters would amortize the net book
value in excess of salvage value over its revised remaining useful life, thereby
increasing depreciation or amortization expense.

         The carrying value of a long-lived asset is considered impaired when
the anticipated cumulative undiscounted cash flow from that asset is less than
its carrying value. In that event, a loss is recognized based on the amount by
which the carrying value exceeds the fair market value of the long-lived asset.
There were no impairment losses recorded for long-lived assets in any of the
years presented. Indicators of impairment include such things as a significant
adverse change in legal factors or in the general business climate or an
expectation that significant assets will be sold or otherwise disposed of.

         In accordance with the requirements of SFAS No. 142, Headwaters does
not amortize goodwill. SFAS No. 142 requires Headwaters to periodically perform
tests for goodwill impairment. Step 1 of the initial impairment test was
required to be performed no later than March 31, 2003; thereafter impairment
testing is required to be performed no less often than annually, or sooner if
evidence of possible impairment arises. Impairment testing is performed at the
reporting unit level and Headwaters has identified four reporting units: (i) the
Covol Fuels division and (ii) HTI (which together comprise the alternative
energy segment), (iii) CCPs and (iv) Construction Materials. Currently, goodwill
exists only in the CCPs and HTI reporting units.

         Step 1 of impairment testing consists of determining and comparing the
fair values of the reporting units to the carrying values of those reporting
units. If step 1 were to be failed for either the CCPs or HTI reporting units,
indicating a potential impairment, Headwaters would be required to complete step
2, which is a more detailed test to calculate the implied fair value of
goodwill, and compare that value to the carrying value of the goodwill. If the
carrying value of the goodwill exceeds the implied fair value of the goodwill,
an impairment loss is required to be recorded.

                                       20
<PAGE>

         Headwaters performed step 1 impairment tests of the recorded goodwill
in the CCPs and HTI reporting units as of October 1, 2002, the beginning of
fiscal year 2003. Headwaters performed its annual, recurring tests for potential
impairment using the date of June 30, 2003. The tests indicated that the fair
values of the reporting units exceeded their carrying values as of both October
1, 2002 and June 30, 2003. Accordingly, step 2 of the impairment tests was not
required to be performed, and no impairment charge was necessary.

         It is possible that some of Headwaters' tangible or intangible
long-lived assets or goodwill could be impaired in the future and that the
resulting write-downs could be material.

         Legal Matters. Headwaters and its subsidiaries are involved in several
legal proceedings and contractual matters that have arisen in the normal course
of business, all as explained in more detail in "ITEM 3. LEGAL PROCEEDINGS" and
Note 14 to the consolidated financial statements. Management in all cases
intends to vigorously defend Headwaters' position. In regards to all of the
unsettled legal matters, legal counsel cannot express an opinion as to the
ultimate amount of recovery or liability. Management does not believe that the
outcome of these matters will have a significant adverse effect upon the
operations, cash flows 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.

         In accounting for legal matters, Headwaters follows the guidance in
SFAS No. 5, "Accounting for Contingencies," under which loss contingencies are
accounted for based upon the likelihood of an impairment of an asset or the
incurrence of a liability. If a loss contingency is "probable" and the amount of
loss can be reasonably estimated, it is accrued. If a loss contingency is
"probable," but the amount of loss cannot be reasonably estimated, or if a loss
contingency is "reasonably possible," disclosure is made. Loss contingencies
that are "remote" are neither accounted for nor disclosed. Gain contingencies
are given no accounting recognition, but are disclosed if material.

Year Ended September 30, 2003 Compared to Year Ended September 30, 2002

         The information set forth below compares Headwaters' operating results
for the year ended September 30, 2003 ("2003") with operating results for the
year ended September 30, 2002 ("2002").

         Revenue. Total revenue for 2003 increased by $268.3 million or 225% to
$387.6 million as compared to $119.3 million for 2002. The major components of
revenue are discussed in the sections below.

         Sales of Chemical Reagents. Chemical reagent sales during 2003 were
$128.4 million with a corresponding direct cost of $87.4 million. Chemical
reagent sales during 2002 were $74.4 million with a corresponding direct cost of
$50.1 million. The increase in chemical reagent sales during 2003 was due to
increased synthetic fuel production by Headwaters' licensees, as well as sales
of chemical reagents to new customers with which Headwaters does not have a
license agreement.

         License Fees. During 2003, Headwaters recognized license fee revenue
totaling $35.7 million, an increase of $5.2 million or 17% over $30.5 million of
license fee revenue recognized during 2002. License fees in 2003 consisted of
recurring license fees or royalty payments of $34.5 million and deferred revenue
amortization of $1.2 million. License fees in 2002 consisted of recurring
license fees of $29.0 million and deferred revenue amortization of $1.5 million.
The primary reason for the increase in license fee revenue in 2003 compared to
2002 was a major licensee that purchased four facilities from a former licensee
in October 2001, but did not begin operating those facilities until early
calendar 2002. Headwaters earned approximately $11.3 million in license fees
from this licensee in 2003 and $7.4 million in 2002.

         Pursuant to the contractual terms of an agreement with a certain
licensee, the cumulative license fees owed to Headwaters have been placed in
escrow for the benefit of Headwaters pending resolution of certain
contingencies. Headwaters currently expects the escrowed amounts to increase as
additional license fees are generated and that most, if not all, of such amounts
will be recognized as revenue at some future date. As of September 30, 2003, the
license fees, net of anticipated expenses, total approximately $20.0 million.
Certain accounting rules governing revenue recognition require that the seller's
price to the buyer be "fixed or determinable" as well as reasonably certain of
collection. In this situation, those rules appear to currently preclude revenue
recognition. Accordingly, none of the escrowed amounts have been recognized as
revenue in the consolidated statements of income. In addition to these escrowed
amounts, this same licensee has also set aside substantial amounts for various
operational contingencies as provided for in the contractual agreements. These
reserves, if not needed, will eventually be paid out to various parties having
an interest in the cash flows from the licensee's operations, including
Headwaters. As a result, Headwaters currently expects to receive at some future
date a portion of those reserves, the amount of which is not currently
determinable and therefore, not recognizable.

                                       21
<PAGE>

         ISG Revenues and Cost of Revenues. CCP revenues and sales of
construction materials and the related cost of revenue captions represent ISG's
revenues and cost of revenues. Because ISG was purchased on September 19, 2002,
there were only 12 days of operations included in 2002 compared to a full year
in 2003.

         Depreciation and Amortization. These costs increased by $11.2 million
to $13.0 million in 2003 from $1.8 million in 2002. The increase was primarily
attributable to depreciation and amortization of ISG's tangible and intangible
assets.

         Research and Development. Research and development expenses increased
by $2.4 million to $4.7 million in 2003 from $2.3 million in 2002. The increase
was primarily attributable to the inclusion of additional costs relating to
ISG's research and development activities. In 2002, research and development
expenses represented primarily costs related to HTI's activities, which remained
relatively unchanged during 2003.

         Selling, General and Administrative Expenses. These expenses increased
$27.0 million to $40.7 million for 2003 from $13.7 million for 2002. The
increase in 2003 was due primarily to the inclusion of ISG's costs, and to a
lesser extent, an increase in professional services expenses of approximately
$1.1 million related to legal actions in which Headwaters is currently involved.

         Other Income and Expense. During 2003, Headwaters reported net other
expense of $17.0 million compared to net other expense of $0.8 million during
2002. The change of $16.2 million was attributable to i) an increase in interest
expense of $15.1 million, ii) a decrease in interest income of $0.7 million, and
iii) an increase in net losses on notes receivable and investments of $1.7
million, substantially offset by an increase in net other income of $1.3
million.

         Interest expense increased in 2003 due to the substantial increase in
debt incurred in September 2002 to finance the acquisition of ISG. Interest
expense in 2003 includes $1.5 million related to accelerated amortization of
debt discount and debt issue costs associated with $25.5 million of early
repayments of senior debt principal. Interest income decreased from 2002 to 2003
primarily due to lower average balances of cash and short-term investments as a
result of Headwaters using a substantial amount of cash to purchase ISG and
applying available cash generated in 2003 to repay long-term debt. Lower
interest rates in 2003 also affected interest income.

         Losses on notes receivable were $1.4 million higher in 2003 as compared
to 2002. In both years, the majority of the losses represented write-downs of a
note receivable which is being accounted for on the cost recovery method. The
write-downs in both years were necessary due to declines in the value of the
underlying collateral. The carrying value of this note receivable at September
30, 2003 was $0.5 million. In 2003, Headwaters also recorded a $0.3 million loss
on an investment.

         Net other income increased by $1.3 million in 2003 compared to 2002
primarily due to two non-recurring transactions in 2002. A $1.3 million gain on
sale of assets resulted from the sale of a 50% interest in one of Headwaters'
original synthetic fuel facilities. Also, Headwaters recorded approximately $2.6
million of losses related to the write-off of deferred project / financing costs
resulting from the abandonment of certain projects or the postponement or
redirection of activities for which costs had previously been deferred.

         Income Tax Provision. In 2003, Headwaters recorded an income tax
provision at an effective tax rate of approximately 39%. In 2002, the effective
tax rate was approximately 40%.

         Year Ended September 30, 2002 Compared to Year Ended September 30, 2001

         The information set forth below compares Headwaters' operating results
for the year ended September 30, 2002 ("2002") with operating results for the
year ended September 30, 2001 ("2001").

         Revenue. Total revenue for 2002 increased by $73.8 million or 162% to
$119.3 million as compared to $45.5 million for 2001. The major components of
revenue are discussed in the sections below.

         Sales of Chemical Reagents. Chemical reagent sales during 2002 were
$74.4 million with a corresponding direct cost of $50.1 million. Chemical
reagent sales during 2001 were $22.4 million with a corresponding direct cost of
$14.5 million. The increase in chemical reagent sales in 2002 over 2001 was due
to increased synthetic fuel production by Headwaters' licensees, as well as
sales of chemical reagents to new customers.

         License Fees. During 2002, Headwaters recognized license fee revenue
totaling $30.5 million, an increase of $9.7 million or 47% over $20.8 million of
license fee revenue recognized during 2001. License fees in 2002 consisted of
recurring license fees or royalty payments of $29.0 million and deferred revenue
amortization of $1.5 million. License fees in 2001 consisted of recurring
license fees of $18.8 million and deferred revenue amortization of $2.0 million.

                                       22
<PAGE>

         A major licensee significantly reduced its production and sale of
synthetic fuel in early 2001 and did not operate its four facilities for most of
2001. This licensee sold the facilities in October 2001, and Headwaters earned
approximately $3.7 million more in license fees from these facilities in 2002
than in 2001. This factor, combined with increased synthetic fuel sales by most
other licensees, caused the increase in license fee revenue for 2002 over 2001.

         Other Revenues and Cost of Revenues. CCP revenues and sales of
construction materials and the related cost of revenue captions represent ISG's
revenues and cost of revenues. ISG was purchased on September 19, 2002, and
accordingly, there were only 12 days of operations included in 2002.
Approximately $2.9 million of other revenues and $5.2 million of cost of other
revenues represent HTI's revenues and cost of revenues for 2002. There were no
comparable revenues and cost of revenues for either ISG or HTI in 2001.

         Depreciation and Amortization. These costs increased by $1.4 million to
$1.8 million in 2002 from $0.4 million in 2001. The increase was primarily
attributable to the depreciation and amortization of the tangible and intangible
assets acquired in the HTI acquisition in August 2001 ($1.0 million) and the
depreciation and amortization of the tangible and intangible assets acquired in
the ISG acquisition in September 2002 ($0.4 million).

         Research and Development. Approximately $2.4 million of the HTI
purchase price was allocated to purchased in-process research and development,
all of which was expensed in 2001. In 2002, research and development expenses of
$2.3 million represented primarily $2.1 million of costs related to HTI
activities.

         Selling, General and Administrative Expenses. These expenses increased
$5.1 million or 59% to $13.7 million for 2002 from $8.6 million for 2001. The
increase in 2002 was due primarily to ISG costs of approximately $1.6 million,
an increase in compensation-related costs of approximately $1.2 million, an
increase in professional services expenses of approximately $1.1 million and
smaller increases in most of the other expense categories. The increase in
compensation-related costs related primarily to an increase in incentive-based
pay as a result of improved operating results. The increase in professional
services expenses was due primarily to legal costs associated with legal actions
in which Headwaters is currently involved. The increases in other expense
categories were due primarily to the growth of Headwaters' business during 2002.

         Other Income and Expense. During 2002, Headwaters reported net other
expenses of $0.8 million compared to net other expenses of $5.2 million during
2001. The change of $4.4 million or 85% is primarily attributable to i) an
increase in interest and net investment income of $0.3 million, ii) a decrease
in equity and debt investment-related losses of approximately $5.5 million, and
iii) a gain on the sale of assets of approximately $1.3 million; partially
offset by the write-off of deferred project / financing costs of approximately
$2.6 million and an increase in interest expense of approximately $0.3 million.

         The increase in interest income from 2001 to 2002 was primarily related
to an increase in the average balance of short-term investments in 2002 over
2001, partially offset by a decrease in interest income from a $6.5 million note
receivable from a licensee that was collected in October 2001.

         During 2000, Headwaters made several equity investments in and loans to
unrelated, high-risk entities, and in 2001, Headwaters recorded losses totaling
approximately $6.3 million related to write-offs of these investments and loans.
In September 2001, Headwaters sold all of its remaining high-risk investments in
exchange for a $4.0 million note receivable from a limited liability
corporation. Headwaters wrote down this note receivable as of September 30, 2002
and recorded an impairment loss of approximately $1.0 million in 2002 due to a
decline in the value of the underlying collateral.

         The $1.3 million gain on sale of assets resulted from the sale of a 50%
interest in one of Headwaters' original synthetic fuel facilities. Headwaters
recorded approximately $2.6 million of losses related to the write-off of
deferred project / financing costs in 2002 resulting from the abandonment of
certain projects or the postponement or redirection of activities for which
costs had previously been deferred pending the ultimate outcome of the projects
and activities. Interest expense increased in 2002 due to the substantial
increase in outstanding debt incurred in September 2002 to finance the
acquisition of ISG.

         Income Taxes. In 2001, Headwaters reported a net income tax benefit of
$7.1 million, consisting of the recognition of $7.5 million of its deferred tax
asset, reduced by $0.1 million of federal alternative minimum tax and $0.3
million of current state income tax expense. In 2002, as a result of recording
the full value of its deferred tax asset in 2001, Headwaters recorded an income
tax provision with an effective tax rate of approximately 40%.

                                       23
<PAGE>

Liquidity and Capital Resources

         Net cash provided by operations during the fiscal year ended September
30, 2003 ("2003") was $56.4 million compared to $42.8 million of net cash
provided by operations during the fiscal year ended September 30, 2002 ("2002").
Most of the cash flow from operating activities in both periods was attributable
to net income. Consistent with Headwaters' strategic priority to repay debt and
de-leverage its balance sheet, Headwaters used most of the cash generated during
the year ended September 30, 2003 to repay debt. During 2003, investing
activities consisted primarily of payments for the purchase of property, plant
and equipment and proceeds from disposition of property, plant and equipment.
Investing activities in 2002 consisted primarily of cash payments for the
acquisition of ISG of $205.9 million and the collection of a $6.5 million note
receivable. Financing activities in both 2003 and 2002 consisted primarily of
proceeds from and repayments of long-term debt and short-term borrowings, and
proceeds from exercise of options, warrants and employee stock purchases. More
details about these activities are provided in the following paragraphs.

         Operating Activities. Cash provided from operations in 2003 of $56.4
million resulted primarily from net income of $36.6 million plus depreciation
and amortization of $13.0 million.

         Investing Activities. In 2003, payments for the purchase of property,
plant and equipment totaled $9.7 million. These capital expenditures primarily
related to ISG's business, in particular the CCP segment. Capital expenditures
for 2004 are expected to be comparable with 2003 levels.

         In September 2001, Headwaters sold all of its remaining high-risk
investments in exchange for a $4.0 million note receivable from a limited
liability corporation. This note is due no later than September 2004, is
collateralized by the bridge loans and equity investments sold and is being
accounted for on the cost recovery method. In 2003, Headwaters recorded a $2.1
million write-down of this note and as of September 30, 2003 this note has a
carrying value of $0.5 million. Headwaters could incur additional losses if the
remaining balance on the note is not repaid or if the collateral value declines.
At September 30, 2001, Headwaters had outstanding one other note receivable in
the amount of $6.5 million. This note and the related accrued interest were
collected in 2002.

         Financing Activities. Headwaters acquired ISG in September 2002. In
order to obtain the cash necessary to acquire ISG and retire the ISG debt,
Headwaters issued $175.0 million of new debt consisting of $155.0 million of
senior secured debt and $20.0 million of subordinated debt (see Note 9 to the
consolidated financial statements). During 2003, principal repayments of the
senior debt totaling $40.1 million were made, including $25.5 million of
optional prepayments. Subsequent to September 30, 2003 and through November 30,
2003, principal repayments totaling $9.7 million have been made, including
optional prepayments of $3.5 million.

         In 2003, cash proceeds from the exercise of options, warrants and
employee stock purchases totaled $2.9 million, compared to $5.7 million in 2002.
Option and warrant exercise activity is largely dependent on Headwaters' stock
price and is not predictable. To the extent non-qualified stock options are
exercised, or there are disqualifying dispositions of shares obtained upon the
exercise of incentive stock options, Headwaters receives a tax benefit generally
equal to the income recognized by the optionee. Such amounts, reflected in cash
flows from operations in the consolidated statements of cash flows, were $3.0
million in 2002 and $2.1 million in 2003.

         Headwaters intends to continue to expand its business through growth of
existing operations, commercialization of technologies currently being
developed, and strategic acquisitions of entities that operate in adjacent
industries. Currently the senior secured credit facility requires approval for
acquisitions funded with aggregate cash consideration in excess of $50.0
million.

         Headwaters has an effective $150.0 million universal shelf registration
statement on file with the SEC that can be used for the sale of common stock,
preferred stock, convertible debt and other securities. The most likely use of
the shelf registration statement would be to issue equity securities to reduce
long-term debt and for general corporate purposes, including acquisitions. A
prospectus supplement describing the terms of any securities to be issued is
required to be filed before any offering would commence under the registration
statement.

         Working Capital. Headwaters' working capital decreased by $0.8 million
from September 30, 2002, to $14.2 million as of September 30, 2003. The most
significant changes in the components of working capital were an increase of
$8.5 million in cash and investments and an increase of $11.9 million in the
current portion of long-term debt, reflecting senior debt repayment obligations
that are higher for 2004 than for 2003. Headwaters expects operations to produce
positive cash flows in future periods, which, combined with current working
capital and the $20.0 million revolving line of credit described below, is
expected to be sufficient for operating needs for the next 12 months.

                                       24
<PAGE>

         Long-term Debt. In connection with the ISG acquisition, Headwaters
entered into a $175.0 million senior secured credit agreement with a syndication
of lenders, under which a total of $155.0 million was borrowed as a term loan on
the acquisition date. The credit agreement also allows up to $20.0 million to be
borrowed under a revolving credit arrangement. The debt was issued at a 3%
discount and Headwaters received net cash proceeds of $150.4 million. The
original issue discount is being accreted using the effective interest method
and the accretion is recorded as interest expense. The debt is secured by all
assets of Headwaters, bears interest at a variable rate (approximately 5.4% at
September 30, 2003), and is repayable in quarterly installments through August
30, 2007.

         In 2003, principal repayments totaling $40.1 million were made, which
included $25.5 million of optional early repayments. Subsequent to September 30,
2003 and through November 30, 2003, principal repayments totaling $9.7 million
were made, which included early repayments of $3.5 million. In certain
situations, for example when Headwaters receives "excess cash flow," as defined,
mandatory prepayments in excess of the scheduled payments are required.
Mandatory prepayments are calculated as a percentage of "excess cash flow,"
ranging up to 100%, which percentage is based on Headwaters' "leverage ratio."
When prepayments are made, required principal repayments for all future periods
are reduced. Headwaters may, in the future, make additional optional prepayments
of the senior debt depending on actual cash flows, Headwaters' current and
expected cash requirements and other factors deemed significant by management.

         The credit agreement contains restrictions and covenants common to such
agreements, including limitations on the incurrence of additional debt,
investments, merger and acquisition activity, asset liens, capital expenditures
in excess of $15.0 million in any fiscal year and the payment of dividends,
among others. In addition, Headwaters must maintain certain financial ratios,
including leverage ratios and in respect of interest coverage, as those terms
are defined in the credit agreement. As of September 30, 2003, Headwaters must
maintain a total leverage ratio of 2.5:1.0 or less. The maximum ratio declines
over time until June 30, 2004, at which time the ratio must remain at 2.0:1.0 or
less. There is a similar leverage ratio requirement for the senior debt alone,
which at September 30, 2003 must be 2.0:1.0 or less, declining over time through
June 30, 2004, at which time it must be maintained at 1.5:1.0 or less. The
interest coverage requirement at September 30, 2003 was 4.0:1.0 or more.
Beginning December 31, 2003, the ratio must be maintained at a level of 5.0:1.0
or more. Headwaters is in compliance with all debt covenants.

         Under the terms of the senior secured credit agreement, Headwaters may
borrow up to a total of $175.0 million; provided however, except for the initial
$20.0 million of available revolving credit, the maximum borrowing limit is
permanently reduced by the amount of any repayments of the initial $155.0
million term loan borrowed in September 2002. Terms of any additional borrowings
under the credit agreement are generally the same as those described in the
preceding paragraphs. Finally, the credit agreement allows for the issuance of
letters of credit, provided there is capacity under the revolving credit
arrangement. Currently two letters of credit totaling $2.0 million are
outstanding, with expiration dates in March 2004 and November 2004. There have
been no other letters of credit issued and no funds have been borrowed under the
revolving credit arrangement. Headwaters pays a fee of 5/8% on the unused
portion of the revolving credit arrangement.

         In connection with the ISG acquisition, Headwaters also entered into a
$20.0 million subordinated loan agreement, under which senior subordinated
debentures were issued at a 2% discount, with Headwaters receiving net cash
proceeds of $19.6 million. The original issue discount is being accreted using
the effective interest method and the accretion is recorded as interest expense.
ISG management participated in one-half, or $10.0 million, of the $20.0 million
of debt issued. The other half was issued to a corporation. The debt is not
secured, bears interest at a rate of 18% per annum payable quarterly, and is due
on September 16, 2007. It is senior to all other debt except the senior secured
debt described previously. The debt agreement allows for optional prepayments.
Any prepayments paid to the corporation are subject to a prepayment charge,
which ranges from 5% of the principal prepaid in the first year to 1% of the
principal prepaid in the last year of the five-year term of the subordinated
loan agreement.

         The loan agreement contains restrictions and covenants common to such
agreements, and these are generally consistent with those described above for
the senior secured debt. As of September 30, 2003, Headwaters must maintain a
total leverage ratio of 2.75:1.0 or less. The maximum ratio declines over time
until June 2004, at which time the ratio must remain at 2.25:1.0 or less. The
interest coverage requirement at September 30, 2003 was 3.75:1.0 or more.
Beginning in December 2003, the ratio must be maintained at a level of 4.75:1.0
or more. Headwaters is in compliance with all debt covenants.

         Income Taxes. In 2002, Headwaters' cash requirements for income taxes
were not significant due to the availability and utilization of net operating
loss carryforwards ("NOLs"). Most of Headwaters' NOLs were utilized in 2002 and,
accordingly, 2003 cash requirements for income taxes were significant, totaling
$19.4 million. Cash payments for income taxes are reduced for disqualifying
dispositions of shares obtained upon the exercise of stock options as discussed

                                       25
<PAGE>

previously which totaled $2.1 million for 2003. As of September 30, 2003,
remaining NOLs are not material. Headwaters' cash requirements for income taxes
in 2004 are expected to approximate the income tax provision, with some lag due
to the seasonality of operations and because estimated income tax payments are
typically based on annualizing the fiscal year's income based on year-to-date
results.

         Summary of Future Cash Requirements. Significant future cash needs, in
addition to operational working capital requirements, are currently expected to
consist primarily of debt service payments on outstanding long-term debt, income
taxes and capital expenditures.

         Contractual Obligations and Contingent Liabilities and Commitments

         Other than operating leases for certain equipment and real estate,
Headwaters has no significant off-balance sheet transactions, derivatives or
similar instruments and is not a guarantor of any third-party debt or other
financial obligations. The following table presents a summary of Headwaters'
contractual obligations by period as of September 30, 2003.
<TABLE>
<CAPTION>
                                                                     Payments due by Period
                                                   -----------------------------------------------------------
                                                                                                     After 5
       (millions of dollars)                          Total       1 Year    2 -3 Years  4 -5 Years    Years
       ------------------------------------------- ----------- ----------- ----------- ----------- -----------
       <S>                                            <C>          <C>         <C>         <C>         <C>
       Senior secured debt                            $ 114.8      $ 27.4      $ 49.9      $ 37.5      $   --
       Senior subordinated debt                          20.0          --          --        20.0          --
       Other long-term debt                               0.1         0.1          --          --          --
                                                   ----------- ----------- ----------- ----------- -----------
            Total long-term debt                        134.9        27.5        49.9        57.5          --
       Operating lease obligations                       38.0        10.8        14.6         7.8         4.8
       Unconditional purchase obligations                35.7        10.6        11.5         5.9         7.7
       Capital expenditures                               6.0         6.0          --          --          --
       Other long-term obligations                        1.1         1.0         0.1          --          --
                                                   ----------- ----------- ----------- ----------- -----------
       Total contractual cash obligations             $ 215.7      $ 55.9      $ 76.1      $ 71.2      $ 12.5
                                                   =========== =========== =========== =========== ===========
</TABLE>

         Subsequent to September 30, 2003, one of ISG's minimum purchase
contracts was amended. The amendment extended the term of the contract for
several years and increased ISG's total future minimum purchase requirements by
approximately $17.9 million during 2004 through 2011. Under the terms of the
senior secured credit agreement, Headwaters may borrow up to a total of $175.0
million; provided however, except for the initial $20.0 million of available
revolving credit, the maximum borrowing limit is permanently reduced by the
amount of any repayments of the initial $155.0 million borrowed in September
2002. The credit agreement allows for the issuance of letters of credit,
provided there is capacity under the available revolving credit arrangement.
Currently, two letters of credit totaling $2.0 million are outstanding, with
expiration dates in March 2004 and November 2004. There have been no other
letters of credit issued and no funds have been borrowed under the revolving
credit arrangement.

         As indicated previously, Headwaters and its subsidiaries are involved
in several legal proceedings and contractual matters that have arisen in the
normal course of business, all as explained in more detail in "Critical
Accounting Policies and Estimates - Legal Matters," above, "ITEM 3. LEGAL
PROCEEDINGS" and Note 14 to the consolidated financial statements.

Senate Permanent Subcommittee on Investigations

         On October 29, 2003, the Permanent Subcommittee on Investigations of
the Government Affairs Committee of the United States issued a notification of
pending investigations. The notification listed the synthetic fuel tax credit as
a new item, stating: "The Subcommittee has initiated an investigation of
potential abuses of tax credits by producers of synthetic fuel under Section 29
of the Internal Revenue Code. The Subcommittee anticipates that this
investigation will focus on whether certain synthetic fuel producers are
claiming tax credits under Section 29, even though their product is not a
qualified synthetic fuel under Section 29 and IRS regulations. In addition, the
investigation will address whether certain corporations are engaging in
transactions solely to take advantage of unused Section 29 credits, with no
other business purpose. Lastly, the investigation will address the IRS's efforts
to curb abuses related to the Section 29 tax credits."

         The effect that the Senate subcommittee investigation of synthetic fuel
tax credits may have on the industry is unknown. While the investigation is
pending, buyers may be unwilling to engage in transactions to purchase synthetic
fuel facilities. If current owners are unable to sell their facilities,
production may not be maximized, materially adversely affecting Headwaters'
revenues.

                                       26
<PAGE>

Recent Accounting Pronouncements

          Headwaters has reviewed all recently issued accounting standards,
which have not yet been adopted in order to determine their potential effect, if
any, on the results of operations or financial position of Headwaters. Based on
that review, Headwaters does not currently believe that any of these recent
accounting pronouncements will have a significant effect on its current or
future financial position, results of operations, cash flows or disclosures.

Impact of Inflation

         Headwaters' operations were not materially impacted by inflation in
2003.

Forward-looking Statements

         Statements in this Annual Report on Form 10-K regarding Headwaters'
expectations as to the managing and marketing of coal combustion products,
operation of facilities utilizing alternative fuel technologies, the marketing
of synthetic fuels, the receipt of licensing fees, royalties, and product sales
revenues, the development, commercialization and financing of new 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 tax credits, the availability of feedstocks, and
the marketability of the coal combustion products and synthetic fuel, 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 coal combustion products and synthetic fuel industries or the
economy generally, factors which could cause actual results to differ from
expectations stated in these forward-looking statements include, among others,
the Risk Factors described in the following section.

Risk Factors

The profitability of Covol Fuels depends on the continued existence of tax
credits under Section 29 of the Internal Revenue Code, which is scheduled to
expire on December 31, 2007.

         Covol Fuels' license fees and revenues from sales of chemical reagents
depend on the ability of our licensees and customers to manufacture and sell
qualified synthetic fuels that generate tax credits. Under current law, Section
29 tax credits are not available for synthetic fuel sold after December 31,
2007. In addition, there have been initiatives from time to time to consider the
early repeal or modification of Section 29. If Section 29 expires at the end of
2007or if it is repealed or adversely modified, synthetic fuel facilities would
probably either close or substantially curtail production. At this time, given
current prices of coal and costs of synthetic fuel production, we do not believe
that production of synthetic fuel will be profitable absent the tax credits. In
addition, if our licensees close their facilities or materially reduce
production activities (whether after 2007, upon earlier repeal or adverse
modification of Section 29 or for any other reason), it would have a material
adverse effect on the revenues and net income of Headwaters.

         Furthermore, Section 29 tax credits are subject to phase-out after the
unregulated oil price reaches $49.75 per barrel (the current trading price is
approximately $22.50 per barrel), adjusted annually for inflation.

Ongoing financial profitability of Covol Fuels depends upon our licensees'
demand for Section 29 tax credits, which in turn depends on our licensees'
taxable income.

         Covol Fuels' business depends upon the ability of our licensees and
chemical reagent customers to utilize Section 29 tax credits. Their ability to
utilize tax credits, in turn, depends upon their other taxable income. A decline
in the profitability of our licensees could reduce their ability to utilize tax
credits, and, in turn, could lead to a reduction in the production of synthetic
fuel at their facilities. Such licensees could sell their facilities to a
taxpayer with more capacity to utilize the tax credits, but any such transfer
could result in short-term or long-term disruption of operations. Accordingly,
the decline in profitability of our licensees or chemical reagent customers
could have a material adverse effect on the revenues and net income of
Headwaters.

                                       27
<PAGE>

IRS reviews under Section 29 may adversely affect our licensees' production of
synthetic fuel.

         The issuance of PLRs under Section 29 by the IRS is important to the
willingness of the owners of synthetic fuel facilities to operate and to their
ability to transfer ownership of those facilities. However, PLRs may be modified
or revoked by the IRS.

         The IRS has suspended the issuance of PLRs to synthetic fuel facility
owners several times in the past, and there can be no assurance that the IRS
will not suspend the issuance of PLRs in the future. Most recently, in June
2003, the IRS stated in summary in Announcement 2003-46 that it "has had reason
to question the scientific validity of test procedures and results that have
been presented as evidence that fuel underwent a significant chemical change,
and is currently reviewing information regarding these test procedures and
results," and that pending its review of the issue it was suspending the
issuance of new PLRs regarding significant chemical change.

         The IRS release of Announcement 2003-46 caused certain of Headwaters'
licensees to reduce or cease synthetic fuel production, which resulted in a
material adverse impact on Headwaters' revenues and net income. In October 2003,
the IRS stated, in summary, in Announcement 2003-70 that it continues to
question whether the processes it had approved under its long-standing ruling
practice produce the necessary level of chemical change required under Section
29 and Revenue Ruling 86-100. Nonetheless, the IRS indicated that it would
continue to issue PLRs regarding chemical change under the standards set forth
in Revenue Procedures 2001-30 and 2001-34, and that the industry's chemical
change test procedures and results are scientifically valid if applied in a
consistent and unbiased manner. Although the IRS resumed its practice of issuing
PLRs, it expressed continuing concerns regarding the sampling and data/record
retention practices prevalent in the synthetic fuels industry.

         The full effect that Announcement 2003-70 (or future suspensions or
pronouncements similar to Announcement 2003-46) may have on the industry is
unknown. The expression of IRS concern regarding current practices in the
industry may have a material adverse effect on the willingness of buyers to
engage in transactions or on the willingness of current owners to operate their
facilities. If current owners are unable to sell their facilities or are
unwilling to operate them, production will not be maximized, materially
adversely affecting our revenues and net income. We cannot predict whether the
IRS may conduct reviews or investigations of Section 29 tax credits in the
future, or whether the outcome of IRS audits involving licensees would be
favorable.

Senate investigation of Section 29 tax credits may adversely affect Covol Fuels.

         On October 30, 2003, the Permanent Subcommittee on Investigations of
the Government Affairs Committee of the United States Senate issued a
notification of pending investigations. The notification listed, among others,
the synthetic fuel tax credit as a new item, stating:

         The Subcommittee has initiated an investigation of potential abuses of
         tax credits for producers of synthetic fuel under Section 29 of the
         Internal Revenue Code. The Subcommittee anticipates that this
         investigation will focus on whether certain synthetic fuel producers
         are claiming tax credits under Section 29, even though their product is
         not a qualified synthetic fuel under Section 29 and IRS regulations. In
         addition, the investigation will address whether certain corporations
         are engaging in transactions solely to take advantage of unused Section
         29 credits, with no other business purpose. Lastly, the investigation
         will address the IRS's efforts to curb abuses related to the Section 29
         tax credits.

         The effect that the Senate subcommittee investigation of synthetic fuel
tax credits may have on the industry is unknown. While the investigation is
pending, it may have a material adverse effect on the willingness of buyers to
engage in transactions to purchase synthetic fuel facilities or on the
willingness of current owners to operate their facilities, and may materially
adversely affect our revenues and net income. We cannot make any assurances as
to the timing or ultimate outcome of the subcommittee investigation, nor can we
predict whether Congress or others may conduct investigations of Section 29 tax
credits in the future.

                                       28
<PAGE>

Covol Fuels' licensees are subject to audit by the IRS, and the IRS may
challenge or disallow Section 29 tax credits claimed.

         Licensees are subject to audit by the IRS. The IRS may challenge
whether Covol Fuels' licensees satisfy the requirements of Section 29, or
applicable PLRs, or may attempt to disallow Section 29 tax credits for some
other reason. Headwaters understands that the IRS has recently initiated audits
of certain taxpayers who claimed Section 29 tax credits during open tax years,
and the outcome of any such audit is uncertain. In the event that tax credits
are disallowed, licensees may seek recovery from Covol Fuels for operational or
other reasons, although we believe there would be no basis for such claims. The
inability of a licensee to claim Section 29 tax credits also would reduce our
future income from the licensee. In addition, IRS audit activity may have a
material adverse effect on the willingness of buyers to engage in transactions
to purchase synthetic fuel facilities or on the willingness of current owners to
operate their facilities. If current owners are unable to sell their facilities
or are unwilling to operate them at full capacity, production will not be
maximized, materially adversely affecting our revenues and net income.

Demand for Section 29 tax credits may be influenced by negative publicity
involving the industry or transactions principally motivated by the reduction of
taxes.

         There has been recent public scrutiny, by the media and by
policymakers, of Section 29. Outside the Section 29 context, there has been
increased public scrutiny of transactions motivated principally by the reduction
of federal income taxes. Our licensees could determine that the risk of negative
publicity or public scrutiny associated with the Section 29 tax credits exceeds
the financial benefits from the utilization of the credits. Such licensees may
seek to mitigate or eliminate such risk by reducing or ceasing production of
synthetic fuel or disposing of their facilities, resulting in short-term or
long-term disruption of operations, in which case our revenues could be
materially adversely affected.

Ongoing financial profitability of Covol Fuels depends on a small number of
licensees.

         Covol Fuels has licensed its coal-based solid synthetic fuel technology
to a limited number of licensees. Under current law, facilities must have been
placed into service prior to July 1, 1998 to be eligible for Section 29 tax
credits, so Covol Fuels' business primarily depends on existing licensees and
chemical reagent customers. If any of Covol Fuels' significant licensees or
chemical reagent customers shuts down its facilities, operates its facilities at
low production levels or sells its facilities resulting in short-term or
long-term disruption of operations, our revenues and net income could be
materially adversely affected. Covol Fuels' licensees must address all
operational issues including, but not limited to, feedstock availability, cost,
moisture content, Btu content, correct chemical reagent formulation and
application, operability of equipment, product durability and overall costs of
operations. In some cases, licensees may be forced to relocate plants and enter
into new strategic contracts to address marketing and operational issues.
Licensee plant relocations disrupt production and delay generation of license
fees paid to us.

         The growth of Covol Fuels' revenues has depended in part on increased
production over time of coal-based solid synthetic fuel by its licensees. While
to date efficiencies in production and improvements in equipment and processes
used at facilities have allowed increased production, capacity is ultimately
finite for the specific facilities and could limit growth in the future.

Covol Fuels must be able to develop and improve synthetic fuel technologies.

         For Covol Fuels to remain competitive, we must be able to develop or
refine our technologies to keep up with future synthetic fuel requirements. As
licensees develop and modify their operations and choices of coal feedstocks, we
will need to modify existing methods or find new methods, know-how, additives
and other techniques to meet licensee and customer demands, such as demands for
improved efficiencies, lower costs and improvements in synthetic fuel products,
including chemical change and improved combustion characteristics. If we are
unable to develop or refine our technologies, the revenues and business of Covol
Fuels could be materially harmed.

ISG's growth is dependent upon increased use and market acceptance of fly ash.

         ISG's growth has been and continues to be dependent upon the increased
use of fly ash in the production of concrete. ISG's marketing initiatives

                                       29
<PAGE>

emphasize the environmental, cost and performance advantages of replacing
portland cement with fly ash in the production of concrete. If ISG's marketing
initiatives are not successful, ISG may not be able to sustain its growth.

ISG's business is dependent upon the price and supply of fly ash alternatives.

         A significant portion of ISG's business is based on the use of fly ash
as a replacement for portland cement in concrete products. There is currently an
overcapacity of cement in the world market, causing potential price decreases.
The markets for ISG's products are regional, in part because of the costs in
transporting CCPs, and ISG's business is affected by the availability and cost
of competing products in the specific regions where it conducts business. If
competing products become available at more competitive costs, ISG's sales,
revenue and net income could decrease.

ISG's business could be adversely affected by fluctuations in weather and
construction cycles.

         ISG manages and markets CCPs and uses CCPs to produce construction
materials. Utilities produce CCPs year-round, including in the winter when
electricity demands increase. In comparison, sales of CCPs are generally keyed
to construction market demands that tend to follow national trends in
construction with predictable increases during temperate seasons. ISG's CCP
sales have historically reflected these seasonal trends, with the largest
percentage of total annual revenues being realized in the quarters ended June 30
and September 30. Low seasonal demand normally results in reduced shipments and
revenues in the quarter ended March 31.

         The CCP industry is cyclical because of its dependence on building
construction and highway construction, including infrastructure repair, and is
affected by changes in general and local economic conditions. State construction
budgets are affected adversely by economic downturns. A downturn in the economy
in one or more markets that ISG serves could have a material adverse effect on
ISG's sales.

If ISG's coal-fired electric utility industry suppliers fail to provide ISG with
high quality CCPs on a timely basis, ISG's costs could increase and our growth
could be hindered.

         ISG relies on the production of CCPs by coal-fired electric utilities.
ISG has occasionally experienced delays and other problems in obtaining high
quality CCPs from its suppliers and may in the future be unable to obtain high
quality CCPs on the scale and within the time frames required by ISG to meet its
customers' needs. If ISG is unable to obtain CCPs, or if it experiences a delay
in the delivery of high quality CCPs, ISG may be forced to incur significant
unanticipated expenses to secure alternative sources or to otherwise maintain
supply to its customers. Moreover, its revenues could be adversely affected if
these customers choose to find alternatives to ISG products.

HTI's technologies may not be commercially developed and marketed profitably.

         Although HTI has developed and patented several technologies,
commercialization of these technologies is in initial stages. Market acceptance
of these technologies will depend on our ability to enter into agreements with
licensees or joint venturers to further develop and provide adequate funding to
commercialize the technologies. We can give no assurance that we will be able to
enter into these agreements or that adequate funding will be available to fully
develop and successfully commercialize its technologies or that they can be
marketed profitably.

HTI will conduct business in China, where intellectual property and other laws,
as well as business conditions, could create risks.

         HTI has entered into agreements with Shenhua Group, the largest coal
company in the People's Republic of China, to license its direct coal
liquefaction technology for use in a plant in China. We have entered into a
preliminary joint venture agreement for fuel cell technology development and
commercialization with the Dalian Institute of Chemical Physics in China, using
our nanotechnology. In addition, other HTI activities are likely to involve
licensing of other technologies in China. There is the risk that foreign
intellectual property laws will not protect our intellectual property to the
same extent as under United States laws, leaving us vulnerable to competitors
who may attempt to copy our products, processes or technologies. Further, the
legal system of China is based on statutory law. Under this system, prior court
decisions may be cited as persuasive authority but do not have binding
precedential effect. Since 1979, the Chinese government has been developing a
comprehensive system of commercial laws and considerable progress has been made
in the promulgation of laws and regulations dealing with economic matters, such

                                       30
<PAGE>

as corporate organization and governance, foreign investment, commerce, taxation
and trade. As these laws, regulations and legal requirements are relatively new
and because of the limited volume of published case law and judicial
interpretations and the non-binding nature of prior court decisions, the
interpretation and enforcement of these laws, regulations and legal requirements
involve some uncertainty. These uncertainties could limit the legal protection
or recourse available to us. In addition, dependence on foreign licenses and
conducting foreign operations may subject us to increased risk from political
change, ownership issues or repatriation or currency exchange concerns.

Environmental regulations could adversely affect our business.

         Our operations and those of our suppliers and customers involved in
coal-based energy generation, primarily utilities, are subject to federal, state
and local environmental regulation. See "ITEM 1. BUSINESS--Effect of Federal
State and Local Laws" for a broader discussion of regulation issues affecting
Headwaters.

         The coal-based solid synthetic fuel operations of Headwaters and its
licensees are subject to federal, state and local environmental regulations that
impose limitations on the discharge of pollutants into the air and water and
establish standards for the treatment, storage and disposal of waste products.
In order to establish and operate the synthetic fuel plants, power plants and
operations to collect and transport CCPs and bottom ash, we and our licensees
and customers have obtained various state and local permits and must comply with
processes and procedures that have been approved by regulatory authorities.
Compliance with permits, regulations and the approved processes and procedures
help protect against pollution and contamination, and are critical to our
business. Although we believe that we and our licensees and customers are in
substantial compliance with environmental regulations, permits and approved
processes and procedures, any failure to comply could result in the issuance of
substantial fines and penalties and cause us to incur environmental liabilities.

         The federal Clean Air Act of 1970 and subsequent amendments
(particularly the Clean Air Act Amendments of 1990), and corresponding state
laws, regulate the emissions of materials into the air, and in certain
circumstances require installation of emission control technologies that affect
the operation of coal-fired utility power plants. Current and future emission
regulations may have an adverse impact on the quantity and quality of CCPs
produced by utilities and may add to the costs of operating a power plant.
Because ISG manages and markets CCPs produced by coal-fired utilities,
regulations that restrict coal-burning, or make it more expensive or affect the
quantity and quality of CCPs produced by utilities could adversely affect ISG's
business.

         Materials sold by ISG vary in chemical composition. While CCPs
generally have been excluded from regulation as "hazardous wastes," the EPA is
planning to publish proposed rules in January 2004 which will address, among
other things, state and regional solid waste plans for CCPs disposed of in
landfills or surface impoundments, or used to fill surface or underground mines.
These proposed rules could make coal burning more expensive or less attractive
to ISG's utility clients. ISG manages a number of landfill and pond operations
that may be affected by EPA's proposed regulations. ISG is engaged in providing
services at one landfill operation that is permitted and managed as a hazardous
waste landfill. ISG provides the services necessary to landfill the client's
hazardous wastes and operates certain in-plant equipment and systems for the
client. Accordingly, there can be no assurance that ISG will not be named in any
third-party claims relating to the project.

         CCPs contain small concentrations of metals that are considered as
"hazardous substances" under CERCLA. Land application of CCPs is regulated by a
variety of federal and state statutes, which impose testing and management
requirements to ensure environmental protection. Under certain circumstances,
mismanagement of CCPs could give rise to CERCLA liability.

         HTI's ordinary course of business requires using its facilities to
perform research and development activities involving coal, oil, chemicals and
energy technologies, including liquefaction of coal. As a result, petroleum and
other hazardous materials have been and are present in and on HTI's properties.
Regulatory noncompliance or accidental discharges, in spite of safeguards, could
create an environmental liability. Therefore our operations entail risk of
environmental damage, and we could incur liabilities in the future arising from
the discharge of pollutants into the environment or from waste disposal
practices.

                                       31
<PAGE>

We are involved in significant litigation and are subject to potential claims
relating to our business.

         We are a party to some significant legal proceedings and are subject to
potential claims regarding operation of our business. These proceedings will
require that we incur substantial costs, including attorneys' fees, managerial
time and other personnel resources and costs in pursuing resolution. Adverse
resolution of these proceedings could have a materially negative effect on our
business. See "Legal Proceedings" for a description of the material pending
legal proceedings and potential claims regarding our business.

We have significant competition.

         Headwaters experiences competition from traditional coal and fuel
suppliers and natural resource producers, in addition to those companies that
specialize in the use and upgrading of industrial byproducts. Many of these
companies have greater financial, management and other resources than Headwaters
and may be able to take advantage of acquisitions and other opportunities more
readily. There can be no assurance that Headwaters will be able to do so
successfully.

         Coal-based solid synthetic fuels made using Covol Fuels' technologies,
from which Covol Fuels derives license revenues and revenues from sales of
chemical reagents, compete with other synthetic fuel products, as well as
traditional fuels. For Covol Fuels competition may come in the form of the
marketing of competitive chemical reagents and the marketing of end products
qualifying as synthetic fuel. Covol Fuels competes with other companies
possessing technologies to produce coal-based solid synthetic fuels and
companies that produce chemical reagents such as Nalco Chemical Company and
Accretion Technologies, LLC.

         Covol Fuels also experiences competition from traditional coal and fuel
suppliers and natural resource producers, in addition to those companies that
specialize in the use and upgrading of industrial byproducts. These companies
may have greater financial, management and other resources than Headwaters has.
Further, many industrial coal users are limited in the amount of synthetic fuel
product they can purchase from Covol Fuels' licensees because they have
committed to purchase a substantial portion of their coal requirements through
long-term contracts for standard coal.

         Synthetic fuel technology and the use of CCPs are the subject of
extensive research and development by our competitors. If competitive
technologies are developed that greatly increase the demand for CCPs or reduce
the costs of synthetic fuels or other resources, the economic viability of our
technologies and business could be adversely affected.

         Generally, the business of marketing traditional CCPs and construction
materials is intensely competitive. ISG has substantial competition in three
main areas: obtaining CCP management contracts with utility and other industrial
companies; marketing CCPs and related industrial materials; and marketing its
construction materials. ISG has a presence in every region in the United States,
but because the market for the management of CCPs is highly fragmented and
because the costs of transportation are high relative to sales prices, most of
the competition in the CCP management industry is regional. There are many
local, regional and national companies that compete for market share in these
areas with similar products and with numerous other substitute products.
Although ISG typically has long-term CCP management contracts with its clients,
some of such contracts provide for the termination of such contract at the
convenience of the utility company upon a minimum 90-day notice. Moreover,
certain of ISG's most significant regional CCP competitors appear to be seeking
a broader national presence. These competitors include Lafarge North America
Inc., Boral Material Technologies Inc. and Cemex. Construction materials are
produced and sold regionally by the numerous owners and operators of concrete
ready-mix plants. Producers with sand and gravel sources near growing
metropolitan areas have important transportation advantages. In Texas, ISG's
most important construction materials market, Featherlite Building Products is
among ISG's competitors. Certain of these competitors have substantially greater
resources than Headwaters and ISG. If they were to begin to compete in the
national market, or in regions where they currently do not have operations,
ISG's business may be materially adversely affected.

         Many of the world's major chemical companies are devoting significant
resources to researching and developing nanocatalysts and catalytic processes.
These companies have greater financial, management and other resources than
Headwaters has. Headwaters' strategy is to enter into license agreements or
joint ventures with major chemical companies for the further development and
commercialization of Headwaters' nanocatalyst technologies.

                                       32
<PAGE>

Our business strategy to grow through acquisitions may not be successful.

         An important business strategy of Headwaters is growth through
acquisitions. Our ability to successfully implement our strategy is subject to a
number of risks, including difficulties in identifying acceptable acquisition
candidates, consummating acquisitions on favorable terms and obtaining adequate
financing, which may adversely affect our ability to develop new products and
services and to compete in our rapidly changing marketplace. In addition, if we
consummate acquisitions through an exchange of our securities, our existing
stockholders could suffer dilution. Successful management and integration of
acquisitions are subject to a number of risks, including difficulties in
assimilating acquired operations, including loss of key employees, diversion of
management's attention from core business operations, assumption of contingent
liabilities, and incurrence of potentially significant write-offs. There can be
no assurance that we will be successful in implementing our acquisition
strategy, that such strategy will improve our operating results or that these
activities will not have a dilutive effect on existing stockholders.

If we are unable to manage the growth of our business successfully, our revenues
and business prospects could suffer.

         We have experienced significant growth recently, both internally and
through acquisitions. We may not be able to successfully manage the increased
scope of our operations or a significantly larger and more geographically
diverse workforce as we expand. Any failure to successfully manage growth could
harm our business and financial results. Additionally, growth increases the
demands on our management, our internal systems, procedures and controls. To
successfully manage growth, we must add administrative staff and periodically
update and strengthen our operating, financial and other systems, procedures and
controls, which will increase our costs and may reduce our profitability. We may
be unable to successfully implement improvements to our information and control
systems in an efficient or timely manner and may discover deficiencies in
existing systems and controls.

Our business could be harmed if we are unable to protect our proprietary
intellectual property.

         We rely primarily on a combination of trade secrets, patents, copyright
and trademark laws and confidentiality procedures to protect our intellectual
property. Despite these precautions, unauthorized third parties may
misappropriate, infringe upon, copy or reverse engineer portions of our
technology. We do not know if current or future patent applications will be
issued with the scope of the claims sought, if at all, or whether any patents
issued will be challenged or invalidated. Our business could be harmed if we
infringe upon the intellectual property rights of others. We have been, and may
be in the future, notified that we may be infringing intellectual property
rights possessed by third parties. If any such claims are asserted against us,
we may seek to enter into royalty or licensing arrangements. There is a risk in
these situations that no license will be available or that a license will not be
available on reasonable terms, precluding our use of the applicable technology.
Alternatively, we may decide to litigate such claims or attempt to design around
the patented technology. These actions could be costly and would divert the
efforts and attention of our management and technical personnel. As a result,
any infringement claims by third parties or claims for indemnification by
customers resulting from infringement claims, whether or not proven to be true,
may materially harm our business and prospects.

We have significant debt service requirements.

         As of November 30, 2003, we had approximately $125.2 million of total
debt outstanding, including approximately $3.2 million of original issue
discount, substantially all of which was incurred in connection with the
acquisition of ISG. Subject to restrictions in our senior secured credit
facility and our senior subordinated debentures, we may also incur significant
amounts of additional debt for working capital, capital expenditures and other
purposes. Our combined debt total could have important consequences for our
company, including the following:

         o        we may have difficulty borrowing money for working capital,
                  capital expenditures, acquisitions or other purposes;

         o        we will need to use a large portion of our cash flow to pay
                  interest and the required principal payments on borrowings
                  under our senior secured credit facility, which will reduce
                  the amount of money available to finance our operations,
                  capital expenditures and other activities;

                                       33
<PAGE>

         o        our senior debt has a variable rate of interest, which exposes
                  us to the risk of increased interest rates;

         o        borrowings under our senior secured credit facility are
                  secured by all our assets;

         o        we may be more vulnerable to economic downturns and adverse
                  developments in our business;

         o        we may be less flexible in responding to changing business and
                  economic conditions, including increased competition and
                  demand for new products and services; and

         o        we may not be able to implement our business plans.

         Our ability to make scheduled payments of the principal of, to pay
interest on or to refinance our indebtedness depends on our future performance,
which to a certain extent is subject to economic, financial, competitive and
other factors beyond our control. There can be no assurance that our business
will continue to generate cash flow from operations in the future sufficient to
service our debt and make necessary capital expenditures. If unable to generate
such cash flow, we may be required to adopt one or more alternatives, such as
selling assets, restructuring debt or obtaining additional equity capital. There
can be no assurance that any of these strategies could be effected on
satisfactory terms or without substantial additional expense to us. Significant
acquisitions may be funded with additional indebtedness, which would increase
debt service requirements. These and other factors could have a material adverse
effect on our results of operations, liquidity and financial condition.

Covenant restrictions under our senior secured credit facility and senior
subordinated debentures may limit our ability to operate our business.

         Our senior secured credit facility and senior subordinated debentures
contain, among other things, covenants that may restrict our ability to finance
future operations or capital needs, to acquire additional businesses or to
engage in other business activities. Currently the senior secured credit
facility requires approval for acquisitions funded with aggregate cash
consideration in excess of $50 million. In addition, our senior secured credit
facility and senior subordinated debentures sets forth covenants requiring us to
maintain specified financial ratios and satisfy certain financial condition
tests which may require that we take action to reduce our debt or to act in a
manner contrary to our business objectives. A breach of any of these covenants
could result in a default under our senior secured credit facility and senior
subordinated debentures, in which event our lenders could elect to declare all
amounts outstanding to be immediately due and payable, which could materially
adversely affect our business.

Our stock price has been and could remain volatile.

         The market price for our common stock has been and may continue to be
volatile and subject to significant price and volume fluctuations in response to
market and other factors, including the following, some of which are beyond our
control:

         o        variations in our quarterly operating results from our
                  expectations or those of securities analysts or investors;

         o        downward revisions in securities analysts' estimates or
                  changes in general market conditions;

         o        IRS or other governmental actions, including Congressional
                  hearings and investigations relating to Section 29 tax credits
                  and media coverage relating thereto;

         o        announcement by us or our competitors of significant
                  acquisitions, strategic partnerships, joint ventures or
                  capital commitments;

         o        additions or departures of key personnel;

         o        insider selling or buying;

         o        regulatory developments affecting our industry;

         o        general technological or economic trends; and

         o        other matters discussed in "Risk Factors."

                                       34
<PAGE>

         In the past, following periods of volatility in the market price of
their stock, many companies have been the subject of securities class action
litigation. If we became involved in securities class action litigation in the
future, it could result in substantial costs and diversion of our management's
attention and resources and could harm our stock price, business, prospects,
results of operations and financial condition.

Future sales of our common stock could adversely affect our stock price.

         Substantial sales of our common stock in the public market, or the
perception by the market that such sales could occur, could lower our stock
price or make it difficult for us to raise additional equity capital in the
future. As of November 30, 2003, we had 28,068,818 shares of common stock
outstanding.

         As of November 30, 2003, options and warrants to purchase 3,432,046
shares of our common stock were issued and outstanding at a weighted average
exercise price of $10.60 per share, of which options and warrants to purchase
1,886,325 shares had vested.

         Headwaters has in place a registration statement registering up to $150
million in securities. The securities registered under the registration
statement may be offered to the public in the future by means of a prospectus
supplement.

         We cannot predict if future sales of our common stock, or the
availability of our common stock for sale, will harm the market price for our
common stock or our ability to raise capital by offering equity securities.

We have never paid dividends and do not anticipate paying any dividends on our
common stock in the future, so any short-term return on your investment will
depend on the market price of our capital stock.

         We currently intend to retain any earnings to finance our operations
and growth. The terms and conditions of our senior secured credit facility and
senior subordinated debentures restrict and limit payments or distributions in
respect of our capital stock.

Delaware law and our charter documents may impede or discourage a takeover,
which could cause the market price of our shares to decline.

         We are a Delaware corporation, and the anti-takeover provisions of
Delaware law impose various impediments to the ability of a third party to
acquire control of us, even if a change in control would be beneficial to our
existing stockholders. In addition, our board of directors has the power,
without stockholder approval, to designate the terms of one or more series of
preferred stock and issue shares of preferred stock, which could be used
defensively if a takeover is threatened. The ability of our board of directors
to create and issue a new series of preferred stock and certain provisions of
Delaware law and our certificate of incorporation and bylaws could impede a
merger, takeover or other business combination involving us or discourage a
potential acquirer from making a tender offer for our common stock, which, under
certain circumstances, could reduce the market price of our common stock.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

         Headwaters is exposed to financial market risks, primarily related to
changes in interest rates. Headwaters does not use derivative financial
instruments for speculative or trading purposes, and no significant derivative
financial instruments were outstanding as of September 30, 2003 or subsequent
thereto.

         The majority of Headwaters' short-term investments, all of which are
classified as trading securities, consist of fixed-rate U.S. government
securities or securities backed by the U.S. government. Changes in interest
rates can affect the market value of these investments, which are carried at
market value in the consolidated balance sheets. The periodic adjustments to
reflect changes in market value are included in interest and net investment
income in the consolidated statements of income. Based on the current amount of
short-term investments and expected near-term changes in the amount of
short-term investments, Headwaters does not expect any material near-term
investment losses to result from changes in interest rates.

                                       35
<PAGE>

         As described in more detail in Note 9 to the consolidated financial
statements, Headwaters has outstanding $114.9 million of variable-rate long-term
debt as of September 30, 2003, which is repayable through August 2007. The
interest rate on this debt as of September 30, 2003 was approximately 5.4%. In
October 2003, Headwaters locked in a rate of 5.4% for three months and in
January 2004, Headwaters can lock in a new rate for one, three, or six months. A
change in the interest rate of 1% would change interest expense by approximately
$1.0 million during the next 12 months, considering required principal
repayments.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         The financial statements and supplementary financial data required by
this Item 8 are set forth in Item 15 of this Form 10-K. All information that has
been omitted is either inapplicable or not required.

ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
         FINANCIAL DISCLOSURE

         As described in more detail in the following paragraphs, Headwaters
dismissed Arthur Andersen LLP ("AA") as its independent accountants on May 10,
2002 and appointed PricewaterhouseCoopers LLP ("PwC"). On October 14, 2002,
Headwaters dismissed PwC and appointed Ernst & Young LLP ("E&Y").

         On September 19, 2002, Headwaters acquired 100% of the common stock of
ISG. E&Y audited ISG since its inception. ISG's revenues comprised approximately
65% of the consolidated revenues of the combined entity and ISG operated in 35
states and Canada. In addition, approximately 85% of Headwaters' employees came
from the ISG acquisition. On October 14, 2002, Headwaters decided to retain E&Y
as its independent accountants for the new combined company and accordingly
dismissed PwC. Headwaters' Audit Committee participated in and approved the
decision to change independent accountants.

         Headwaters did not consult with E&Y on any application of accounting
principles or any other matter during the two fiscal years ended September 30,
2001 or subsequent thereto.

         The reports of PwC on the financial statements for the fiscal years
audited by them contained no adverse opinion or disclaimer of opinion and were
not qualified or modified as to uncertainty, audit scope or accounting
principle.

         In connection with its audits for the two most recent fiscal years and
through October 14, 2002, there were no disagreements with PwC on any matter of
accounting principles or practices, financial statement disclosure, or auditing
scope or procedure, which disagreements if not resolved to the satisfaction of
PwC would have caused them to make reference thereto in their reports on the
financial statements for such years.

         During the two most recent fiscal years and through October 14, 2002,
there were no reportable events (as defined in Regulation S-K Item
304(a)(1)(v)).

         The Registrant requested that PwC furnish it with a letter addressed to
the Securities and Exchange Commission stating whether or not it agrees with the
above statements. A copy of such letter is filed as Exhibit 16 to this Form
10-K.

         Due to events involving Headwaters' former auditors, AA, on May 10,
2002 Headwaters Incorporated dismissed AA as its independent accountants. The
Registrant's Audit Committee participated in and approved the decision to change
independent accountants.

         The reports of AA on the financial statements for the two fiscal years
audited by them (fiscal 2000 and fiscal 2001) contained no adverse opinion or
disclaimer of opinion and were not qualified or modified as to uncertainty,
audit scope or accounting principle.

         In connection with its audits for those two fiscal years and through
May 10, 2002, there were no disagreements with AA on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedure, which disagreements if not resolved to the satisfaction of AA would
have caused them to make reference thereto in their reports on the financial
statements for such years.

                                       36
<PAGE>

         During fiscal 2000 and fiscal 2001 and through May 10, 2002, there were
no reportable events (as defined in Regulation S-K Item 304(a)(1)(v)).

         The Registrant requested that AA furnish it with a letter addressed to
the Securities and Exchange Commission stating whether or not it agrees with the
above statements. A copy of such letter is filed as Exhibit 16.1 to this Form
10-K.

         On May 10, 2002, the Audit Committee appointed PwC as Headwaters'
independent accountants. Headwaters has not consulted with PwC on any
application of accounting principles or any other matter during the two fiscal
years ended September 30, 2001 or subsequent thereto, except for consultations
in the capacity as Headwaters' independent accountants up to July 19, 2000.

         There were no disagreements with accountants on accounting or financial
statement disclosure subsequent to the appointment of AA on July 19, 2000.

ITEM 9A. CONTROLS AND PROCEDURES

         Disclosure controls are procedures that are designed with an objective
of ensuring that information required to be disclosed in Headwaters' periodic
reports filed with the SEC, such as this Annual Report on Form 10-K, is
recorded, processed, summarized and reported within the time periods specified
by SEC rules and forms. Disclosure controls include, without limitation,
controls and procedures designed to ensure that such information is accumulated
and communicated to Headwaters' management, including the Chief Executive
Officer ("CEO") and the Chief Financial Officer ("CFO"), in order to allow
timely consideration regarding required disclosures.

         The evaluation of Headwaters' disclosure controls by the CEO and CFO
included a review of the controls' objectives and design, the operation of the
controls, and the effect of the controls on the information presented in this
Annual Report. Headwaters' management, including the CEO and CFO, does not
expect that disclosure controls can or will prevent or detect all errors and all
fraud, if any. A control system, no matter how well designed and operated, can
provide only reasonable, not absolute, assurance that the objectives of the
control system are met. Also, projections of any evaluation of the disclosure
controls and procedures to future periods are subject to the risk that the
disclosure controls and procedures may become inadequate because of changes in
conditions, or that the degree of compliance with the policies or procedures may
deteriorate.

         Based on their review and evaluation as of September 30, 2003, and
subject to the inherent limitations as described above, Headwaters' CEO and CFO
have concluded that Headwaters' disclosure controls and procedures (as defined
in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) are
effective. In addition, they are not aware of any change in Headwaters' internal
control over financial reporting during the quarter ended September 30, 2003
that has materially affected, or is reasonably likely to materially affect,
Headwaters' internal control over financial reporting.


                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

         The information to be set forth under the captions "Executive Officers"
and "Proposal No. 1 - Election of Directors" in Headwaters' Proxy Statement to
be filed in January 2003 for the Annual Meeting of Stockholders to be held in
2004 (the "Proxy Statement"), is incorporated herein by reference.

ITEM 11. EXECUTIVE COMPENSATION

         The information to be set forth under the caption "Executive
Compensation and Related Information" in the Proxy Statement is incorporated
herein by reference; provided, however, that Headwaters specifically excludes
from such incorporation by reference any information set forth under the
captions "Compensation Committee Report on Executive Compensation" and
"Stockholder Return Performance Graph" in the Proxy Statement.

                                       37
<PAGE>

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

         Security ownership of certain beneficial owners and management to be
set forth under the caption "Security Ownership of Certain Beneficial Owners and
Management" in the Proxy Statement is incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         The information to be set forth under the caption "Transactions with
Related Parties" in the Proxy Statement is incorporated herein by reference.

ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES

         The information to be set forth under the caption "Accounting Fees and
Services" in the Proxy Statement is incorporated herein by reference.


                                     PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)  1.  Financial Statements

         Consolidated Financial Statements of Headwaters Incorporated     Page

         Report of Independent Auditors for 2002 and 2003                  F-1
         Report of Former Independent Auditors for 2001                    F-2
         Consolidated Balance Sheets as of September 30, 2002 and 2003     F-3
         Consolidated Statements of Income for the years ended
           September 30, 2001, 2002 and 2003                               F-4
         Consolidated Statements of Changes in Stockholders' Equity
           for the years ended September 30, 2001, 2002 and 2003           F-5
         Consolidated Statements of Cash Flows for the years ended
           September 30, 2001, 2002 and 2003                               F-7
         Notes to Consolidated Financial Statements                        F-9

     2.  Financial Statement Schedules

         All financial statement schedules for which provision is made in the
applicable accounting regulations of the Securities and Exchange Commission are
not required under the related instructions, are inapplicable, or the required
information has been provided in the consolidated financial statements or notes
thereto.

     3.  Listing of Exhibits

         Certain other instruments which would otherwise be required to be
listed below have not been so listed because such instruments do not authorize
securities in an amount which exceeds 10% of the total assets of Headwaters and
its subsidiaries on a consolidated basis and Headwaters agrees to furnish a copy
of any such instrument to the Commission upon request.

         For convenience, the name Headwaters is used throughout this listing
although in some cases the name Covol was used in the original instrument.
<TABLE>
<CAPTION>
Exhibit No.                                        Description                                          Location
-----------                                        -----------                                          --------

<S>              <C>                                                                                     <C>
3.1.9            Restated Certificate of Incorporation of Headwaters dated August 14, 2001                 (4)
3.2.4            Restated By-Laws of Headwaters                                                            (12)
10.54            Employment Agreement effective May 1, 1998 with Steven G. Stewart                         (2)
10.60            Employment Agreement dated October 25, 2002 with Kirk A. Benson                           (12)

                                       38
<PAGE>

10.60.0          Amendment to Employment Agreement with Kirk A. Benson dated July 9, 2003                  (14)
10.60.3          ISG Employment Agreement dated October 1, 2001 with Raul Deju                             (12)
10.72            Agreement and Plan of Reorganization between Headwaters and Hydrocarbon                   (3)
                 Technologies, Inc. dated May 2, 2001
10.72.1          Share Exchange Agreement between Headwaters and Hydrocarbon Technologies, Inc.            (3)
                 dated May 2, 2001
10.72.2          Amendment No. 1 to Agreement and Plan of Reorganization between Headwaters and            (4)
                 Hydrocarbon Technologies, Inc. dated August 21, 2001
10.72.3          Amendment No. 1 to Share Exchange Agreement between Headwaters and Hydrocarbon            (4)
                 Technologies, Inc. dated August 21, 2001
10.73            Contribution and Subscription Agreement among Headwaters and Avintaquin Capital,          (5)
                 LLC dated September 24, 2001
10.73.1          Promissory Note from Avintaquin Capital, LLC in favor of Headwaters dated                 (5)
                 September 24, 2001
10.74            Asset Purchase Agreement between Headwaters and Red Hawk Energy, LLC dated                (7)
                 December 28, 2001
10.75            Agreement and Plan of Merger between Headwaters and Industrial Services Group,            (9)
                 Inc. dated July 15, 2002
10.75.1          Form of Registration Rights Agreement between Headwaters and the Stockholders of          (9)
                 Industrial Services Group, dated as of September 19, 2002
10.75.2          First Amendment to Agreement and Plan of Merger and Equityholder Agreements among         (10)
                 Headwaters, Industrial Services Group, Inc. and Equityholders of Industrial
                 Services Group, Inc. dated September 19, 2002
10.76            Senior Credit Agreement for $175,000,000 among Headwaters and various lenders             (10)
                 dated September 19, 2002
10.77            Loan Agreement for $20,000,000 between Headwaters and Allied Capital Corporation          (10)
                 dated September 19, 2002
10.77.1          Participation Agreement among Allied Capital Corporation, Headwaters and other            (10)
                 Participants dated September 19, 2002
10.83            Incentive Agreement between Headwaters and Raul A. Deju dated as of November 12,          (13)
                 2002
12               Computation of ratio of earnings to combined fixed charges and preferred stock             *
                 dividends
14               Code of Ethics                                                                             *
16.1             Letter regarding change in certifying accountant                                          (11)
16.2             Letter regarding change in certifying accountant (Originally designated as                (8)
                 Exhibit No. 16)
21               List of Subsidiaries of Headwaters                                                         *
23.1             Consent of Ernst & Young LLP                                                               *
23.2             Consent of PricewaterhouseCoopers LLP                                                      *
31.1             Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer                          *
31.2             Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer                          *
32               Section 1350 Certifications of Chief Executive Officer and Chief Financial Officer         *
99.1             Amended 2000 Employee Stock Purchase Plan (originally designated as Exhibit No.           (6)
                 99.2)
99.2             1995 Stock Option Plan (originally designated as Exhibit No. 10.5)                        (1)
99.2.1           First Amendment to the 1995 Stock Option Plan (originally designated as Exhibit           (1)
                 10.5.1)
99.2.2           1996 Stock Option Agreement                                                               (12)
99.2.3           1998 Stock Option Agreement                                                               (12)
99.2.4           2001 Stock Option Agreement                                                               (12)
99.2.5           2002 Stock Option Agreement                                                               (12)
99.3             Incentive Bonus Plan dated 1 October 2003                                                  *
99.7             2003 Stock Incentive Plan                                                                 (13)
99.8             General Employee Bonus Plan dated 1 October 2003                                           *
</TABLE>
-----------------

* Filed herewith.

Unless another exhibit number is indicated as the exhibit number for the exhibit
as "originally filed," the exhibit number in the filing in which any exhibit was
originally filed and to which reference is made hereby is the same as the
exhibit number assigned herein to the exhibit.

<PAGE>

(1)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Registration Statement on Form 10, filed February 26, 1996.
(2)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Annual Report on Form 10-K, for the fiscal year ended
         September 30, 1998.

                                       39
<PAGE>

(3)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Quarterly Report on Form 10-Q, for the quarter ended June
         30, 2001.
(4)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Current Report on Form 8-K, for events dated August 14,
         2001 and August 28, 2001, filed September 12, 2001.
(5)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Annual Report on Form 10-K, for the fiscal year ended
         September 30, 2001.
(6)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Quarterly Report on Form 10-Q, for the quarter ended
         December 31, 2001.
(7)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Quarterly Report on Form 10-Q, for the quarter ended March
         31, 2002.
(8)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Current Report on Form 8-K, for the event dated May 10,
         2002, filed May 10, 2002.
(9)      Incorporated by reference to the indicated exhibit filed with
         Headwaters' Current Report on Form 8-K, for the event dated July 15,
         2002, filed July 18, 2002.
(10)     Incorporated by reference to the indicated exhibit filed with
         Headwaters' Current Report on Form 8-K, for the event dated September
         19, 2002, filed October 4, 2002.
(11)     Incorporated by reference to the indicated exhibit filed with
         Headwaters' Current Report on Form 8-K, for the event dated October 14,
         2002, filed October 18, 2002.
(12)     Incorporated by reference to the indicated exhibit filed with
         Headwaters' Annual Report on Form 10-K, for the fiscal year ended
         September 30, 2002.
(13)     Incorporated by reference to the indicated exhibit filed with
         Headwaters' Quarterly Report on Form 10-Q, for the quarter ended
         December 31, 2002.
(14)     Incorporated by reference to the indicated exhibit filed with
         Headwaters' Quarterly Report on Form 10-Q, for the quarter ended June
         30, 2003.


Report on Form 8-K

         The following report on Form 8-K was filed during the quarter ended
September 30, 2003:

         Form 8-K filed on July 23, 2003 to furnish information announcing
Headwaters' results for the quarter ended June 30, 2003.


Exhibits

         The response to this portion of Item 15 is submitted as a separate
section of this report. See Item 15 (a) 3 above.


Financial Statement Schedules

         The response to this portion of Item 15 is submitted as a separate
section of this report. See Item 15 (a) 2 above.

                                       40
<PAGE>

                                   SIGNATURES

         Pursuant to the requirements of Section 13 or 15(d) 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

                                             By: /s/ Kirk A. Benson
                                             -----------------------------------
                                             Kirk A. Benson
                                             Chief Executive Officer
                                             (Principal Executive Officer)

                                             By: /s/ Steven G. Stewart
                                             -----------------------------------
                                             Steven G. Stewart
                                             Chief Financial Officer (Principal
                                             Financial and Accounting Officer)

                                             Date: December 5, 2003


Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.

       SIGNATURE                         TITLE                       DATE
       ---------                         -----                       ----

 /s/ Kirk A. Benson          Director and Chief Executive      December 5, 2003
-----------------------      Officer (Principal Executive
Kirk A. Benson               Officer)


/s/ Steven G. Stewart        Chief Financial Officer           December 5, 2003
-----------------------      (Principal Financial and
Steven G. Stewart            Accounting Officer)


/s/ James A. Herickhoff      Director                          December 5, 2003
-----------------------
James A. Herickhoff


/s/ Raymond J. Weller        Director                          December 5, 2003
-----------------------
Raymond J. Weller


/s/ E. J. "Jake" Garn        Director                          December 5, 2003
-----------------------
E. J. "Jake" Garn


/s/ R. Sam Christensen       Director                          December 5, 2003
-----------------------
R. Sam Christensen


/s/ William S. Dickinson     Director                          December 5, 2003
-----------------------
William S. Dickinson


/s/ Malyn K. Malquist        Director                          December 5, 2003
-----------------------
Malyn K. Malquist

                                       41
<PAGE>

                         Report of Independent Auditors


The Board of Directors and Stockholders
Headwaters Incorporated

We have audited the accompanying consolidated balance sheets of Headwaters
Incorporated as of September 30, 2002 and 2003, and the related consolidated
statements of income, changes in stockholders' equity, and cash flows for each
of the two years in the period ended September 30, 2003. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

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

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Headwaters
Incorporated at September 30, 2002 and 2003, and the consolidated results of its
operations and its cash flows for each of the two years in the period ended
September 30, 2003, in conformity with accounting principles generally accepted
in the United States.

/s/ Ernst & Young LLP

Salt Lake City, Utah
October 31, 2003


                                      F-1
<PAGE>

                      Report of Former Independent Auditors


To the Board of Directors and Stockholders
of Headwaters Incorporated:

In our opinion, the accompanying consolidated statements of income, changes in
stockholders' equity, and cash flows of Headwaters Incorporated and its
subsidiaries present fairly, in all material respects, the results of their
operations and their cash flows for the year ended September 30, 2001 in
conformity with accounting principles generally accepted in the United States of
America. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audit. We conducted our audit of these statements in
accordance with auditing standards generally accepted in the United States of
America, which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion.

/s/ PricewaterhouseCoopers LLP

Salt Lake City, Utah
July 15, 2002

                                      F-2
<PAGE>
<TABLE>
<CAPTION>
                                             HEADWATERS INCORPORATED

                                           CONSOLIDATED BALANCE SHEETS


                                                                                            As of September 30,
                                                                                     -----------------------------
(thousands of dollars and shares, except per-share data)                                      2002            2003
------------------------------------------------------------------------------------------------------------------
<S>                                                                                  <C>             <C>
ASSETS

Current assets:
     Cash and cash equivalents                                                       $       7,284   $      18,732
     Short-term trading investments                                                          5,907           2,921
     Trade receivables, net                                                                 50,331          52,399
     Inventories                                                                             8,442           7,827
     Other current assets                                                                    5,969           6,005
                                                                                     -------------   -------------
            Total current assets                                                            77,933          87,884
                                                                                     -------------   -------------

Property, plant and equipment, net                                                          50,549          52,743
                                                                                     -------------   -------------

Other assets:
     Intangible assets, net                                                                118,918         112,414
     Goodwill                                                                              113,367         112,131
     Debt issue costs and other assets                                                      12,090           8,103
                                                                                     -------------   -------------
            Total other assets                                                             244,375         232,648
                                                                                     -------------   -------------

            Total assets                                                             $     372,857   $     373,275
                                                                                     =============   =============


LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
     Accounts payable                                                                $      17,215   $      17,177
     Accrued personnel costs                                                                 8,773           8,669
     Other accrued liabilities                                                              16,966          16,522
     Current portion of long-term debt                                                      15,578          27,475
     Current portion of unamortized non-refundable license fees                              4,378           3,865
                                                                                     -------------   -------------
            Total current liabilities                                                       62,910          73,708
                                                                                     -------------   -------------

Long-term liabilities:
     Long-term debt                                                                        154,552         104,044
     Deferred income taxes                                                                  51,357          50,663
     Unamortized non-refundable license fees and other long-term liabilities                 5,442           4,703
                                                                                     -------------   -------------
            Total long-term liabilities                                                    211,351         159,410
                                                                                     -------------   -------------
            Total liabilities                                                              274,261         233,118
                                                                                     -------------   -------------

Commitments and contingencies

Stockholders' equity:
     Common stock, $0.001 par value; authorized 50,000 shares; issued and
       outstanding 27,327 shares at September 30, 2002 (including 526 shares
       held in treasury), and 27,878 shares at September 30, 2003 (including
       467 shares held in treasury)                                                             27              28
     Capital in excess of par value                                                        126,265         130,936
     Retained earnings (accumulated deficit)                                               (24,418)         12,213
     Treasury stock, at cost                                                                (3,013)        (2,783)
     Other                                                                                    (265)          (237)
                                                                                     -------------   -------------
            Total stockholders' equity                                                      98,596         140,157
                                                                                     -------------   -------------

            Total liabilities and stockholders' equity                               $     372,857   $     373,275
                                                                                     =============   =============



                                             See accompanying notes.

                                                      F-3
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
                                                     HEADWATERS INCORPORATED

                                                CONSOLIDATED STATEMENTS OF INCOME


                                                                                         Year ended September 30,
                                                                             -----------------------------------------------
(thousands of dollars, except per-share data)                                          2001            2002             2003
----------------------------------------------------------------------------------------------------------------------------
<S>                                                                          <C>             <C>              <C>
Revenue:
     Sales of chemical reagents                                              $       22,407  $       74,419   $      128,375
     License fees                                                                    20,765          30,456           35,726
     Coal combustion products revenues                                                   --           6,818          169,938
     Sales of construction materials                                                     --           1,774           49,350
     Other revenues                                                                   2,292           5,878            4,241
                                                                             --------------  --------------   --------------
          Total revenue                                                              45,464         119,345          387,630
                                                                             --------------  --------------   --------------

Operating costs and expenses:
     Cost of chemical reagents sold                                                  14,524          50,134           87,386
     Cost of coal combustion products revenues                                           --           3,764          123,146
     Cost of construction materials sold                                                 --           1,388           37,689
     Cost of other revenues                                                              --           5,244            3,919
     Depreciation and amortization                                                      355           1,760           12,982
     Research and development                                                         2,400           2,322            4,674
     Selling, general and administrative                                              8,554          13,699           40,715
                                                                             --------------  --------------   --------------
        Total operating costs and expenses                                           25,833          78,311          310,511
                                                                             --------------  --------------   --------------
Operating income                                                                     19,631          41,034           77,119
                                                                             --------------  --------------   --------------

Other income (expense):
     Interest and net investment income                                                 726           1,000              310
     Interest expense                                                                  (224)           (553)         (15,687)
     Losses on notes receivable and investments                                      (6,265)           (743)          (2,436)
     Other, net                                                                         600            (502)             775
                                                                             --------------  --------------   --------------
          Total other income (expense), net                                          (5,163)           (798)         (17,038)
                                                                             --------------  --------------   --------------

Income before income taxes                                                           14,468          40,236           60,081

Income tax benefit (provision)                                                        7,049         (15,950)         (23,450)
                                                                             --------------  --------------   --------------

Net income                                                                   $       21,517  $       24,286   $       36,631
                                                                             ==============  ==============   ==============

Basic earnings per share                                                     $         0.94  $         1.00   $         1.35
                                                                             ==============  ==============   ==============

Diluted earnings per share                                                   $         0.87  $         0.94   $         1.30
                                                                             ==============  ==============   ==============


                                                     See accompanying notes.

                                                               F-4
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
                                                     HEADWATERS INCORPORATED

                                   CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY


                                           Convertible
                                            preferred      Common                       Retained      Common
                                             stock          stock         Capital in    earnings       stock              Total
                                         -------------- --------------      excess    (accumulated    held in          stockholders'
(thousands of dollars and shares)      Shares  Amount  Shares  Amount   of par value    deficit)     treasury   Other    equity
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                    <C>     <C>     <C>      <C>       <C>          <C>          <C>        <C>        <C>
Balances as of
 September 30, 2000                       17   $    1   23,341  $  23     $  82,659    $ (70,221)   $    (734) $  (981)   $ 10,747

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

Preferred stock cash dividends                                                 (695)                                          (695)

Exercise of stock options
 and warrants                                              860      1         1,925                                          1,926

Tax benefit from exercise
 of stock options                                                             1,690                                          1,690

Common stock issued in
 connection with purchase of
 Hydrocarbon Technologies, Inc.,
 net of estimated registration costs                       593      1         5,434                                          5,435

Common stock options issued in
 connection with purchase of
 Hydrocarbon Technologies, Inc.                                               1,325                                          1,325

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

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

Purchase of 1,648 shares of treasury
 stock, at cost                                                                                       (10,510)             (10,510)

34 shares of treasury stock
 transferred to employee stock
 purchase plan, at cost                                                                                   101                  101

Cancellation of 1,430 shares
 of treasury stock                                      (1,430)    (1)       (9,112)                    9,112                   (1)

Amortization of deferred
 compensation from stock options                                                                                    93          93

Net income for the year
 ended September 30, 2001                                                                 21,517                            21,517
                                        ----   ------  -------  -----     ---------    ---------    ---------  -------    --------
Balances as of September 30, 2001         --   $   --   23,807  $  24     $  83,226    $ (48,704)   $  (3,038) $  (422)   $ 31,086
                                        ====   ======  =======  =====     =========    =========    =========  =======    ========


                                                        See accompanying notes.

                                                                  F-5
<PAGE>
<CAPTION>
                                                     HEADWATERS INCORPORATED

                             CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY, continued

                                           Convertible
                                            preferred      Common                       Retained      Common
                                             stock          stock         Capital in    earnings       stock              Total
                                         -------------- --------------      excess    (accumulated    held in          stockholders'
(thousands of dollars and shares)      Shares  Amount  Shares  Amount   of par value    deficit)     treasury   Other    equity
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                    <C>     <C>     <C>      <C>       <C>          <C>          <C>        <C>        <C>
Balances as of September 30, 2001         --   $   --   23,807  $  24     $  83,226    $ (48,704)   $  (3,038) $  (422)   $ 31,086

Exercise of stock options and
 warrants                                                1,315      1         5,383                                          5,384

Tax benefit from exercise of
 stock options                                                                2,990                                          2,990

Common stock issued in connection
 with acquisition of Hydrocarbon
 Technologies, Inc.                                        178     --         2,823                                          2,823

Common stock issued in connection
 with acquisition of Industrial
 Services Group, Inc.                                    2,100      2        32,716                                         32,718

Purchase of 83 shares of treasury
 stock, at cost                                                                                        (1,188)              (1,188)

32 shares of treasury stock
 transferred to employee stock
 purchase plan, at cost                                                         214                       126                  340

Cancellation of 73 shares of
 treasury stock                                            (73)    --        (1,087)                    1,087                   --

Amortization of deferred
 compensation from stock
 options and other                                                                                                 157         157

Net income for the year ended
 September 30, 2002                                                                       24,286                            24,286
                                        ----   ------  -------  -----     ---------    ---------    ---------  -------    --------
Balances as of September 30, 2002         --       --   27,327     27       126,265      (24,418)      (3,013)    (265)     98,596
                                        ----   ------  -------  -----     ---------    ---------    ---------  -------    --------

Exercise of stock options
 and warrants                                              551      1         2,139                                          2,140

Tax benefit from exercise of
 stock options                                                                2,050                                          2,050

59 shares of treasury stock
 transferred to employee stock
 purchase plan, at cost                                                         482                       230                  712

Amortization of deferred
 compensation from stock
 options and other                                                                                                  28          28

Net income for the year
 ended September 30, 2003                                                                 36,631                            36,631
                                        ----   ------  -------  -----     ---------    ---------    ---------  -------    --------
Balances as of September 30, 2003         --      $--   27,878    $28      $130,936     $ 12,213      $(2,783)   $(237)   $140,157
                                        ====   ======  =======  =====     =========    =========    =========  =======    ========


                                                    See accompanying notes.

                                                             F-6
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
                                                     HEADWATERS INCORPORATED

                                              CONSOLIDATED STATEMENTS OF CASH FLOWS


                                                                                                  Year ended September 30,
                                                                                         --------------------------------------
(thousands of dollars)                                                                          2001         2002          2003
-------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                      <C>          <C>           <C>
Cash flows from operating activities:
Net income                                                                               $    21,517  $    24,286   $    36,631
  Adjustments to reconcile net income to net cash provided
   by operating activities:
     Depreciation and amortization                                                               355        1,760        12,982
     Interest expense related to amortization of debt discount and
       debt issue costs                                                                           79          136         3,857
     Deferred income taxes                                                                    (9,160)      11,540          (878)
     Income tax benefit from exercise of stock options                                         1,690        2,990         2,050
     Amortization of non-refundable license fees                                              (2,015)      (1,471)       (1,178)
     Net gain on disposition of property, plant and equipment                                    (42)      (1,249)         (188)
     Write-downs of notes receivable and related accrued interest                              3,200          986         2,142
     Losses on investments                                                                     3,018           --           294
     Acquired in-process research and development                                              2,400           --            --
     Write-up of related party note receivable                                                  (541)          --            --
     Other changes in operating assets and liabilities, net of effect of
       acquisitions of Industrial Services Group, Inc. and Hydrocarbon
       Technologies, Inc.:
         Short-term trading investments                                                          925          141         2,986
         Receivables                                                                            (987)      (7,742)       (2,068)
         Inventories and other current assets                                                     26          351          (463)
         Accounts payable and accrued liabilities                                                958        7,193         1,373
         Unamortized non-refundable license fees                                              (1,587)       3,982          (513)
         Other, net                                                                              (29)        (126)         (636)
                                                                                         -----------  -----------   -----------
              Net cash provided by operating activities                                       19,807       42,777        56,391
                                                                                         -----------  -----------   -----------

Cash flows from investing activities:
  Payments for acquisition of Industrial Services Group, Inc.,
    net of cash acquired                                                                          --     (205,900)           --
  Payments for acquisition of Hydrocarbon Technologies, Inc.,
    net of cash acquired                                                                      (4,845)        (419)           --
  Purchase of property, plant and equipment                                                     (170)        (796)       (9,716)
  Proceeds from disposition of property, plant and equipment                                     168          115         2,685
  Collections on notes receivable                                                                 --        6,912            54
  Net increase in other assets                                                                  (180)         (40)         (594)
  Investments in and loans to non-affiliated companies                                        (4,636)        (294)           --
                                                                                         -----------  -----------   -----------
               Net cash used in investing activities                                          (9,663)    (200,422)       (7,571)
                                                                                         -----------  -----------   -----------

Cash flows from financing activities:
  Payments on long-term debt and short-term borrowings                                        (9,941)      (6,412)      (40,224)
  Net proceeds from issuance of long-term debt and short-term borrowings                       8,991      165,806            --
  Proceeds from exercise of options and warrants                                               1,926        5,384         2,140
  Employee stock purchases                                                                       101          340           712
  Purchase of common stock for the treasury                                                  (10,510)      (1,188)           --
  Preferred stock dividends                                                                     (695)          --            --
                                                                                         -----------  -----------   -----------
     Net cash provided by (used in) financing activities                                     (10,128)     163,930       (37,372)
                                                                                         -----------  -----------   -----------

Net increase in cash and cash equivalents                                                         16        6,285        11,448

Cash and cash equivalents, beginning of year                                                     983          999         7,284
                                                                                         -----------  -----------   -----------

Cash and cash equivalents, end of year                                                   $       999  $     7,284   $    18,732
                                                                                         ===========  ===========   ===========


                                                        See accompanying notes.

                                                                  F-7
<PAGE>
<CAPTION>
                                                        HEADWATERS INCORPORATED

                                           CONSOLIDATED STATEMENTS OF CASH FLOWS, continued


                                                                                                  Year ended September 30,
                                                                                         --------------------------------------
(thousands of dollars)                                                                          2001         2002          2003
-------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                      <C>          <C>           <C>
Supplemental schedule of non-cash investing and financing activities:
  Common stock issued in connection with acquisition of Industrial
    Services Group, Inc.                                                                 $        --  $    32,718   $        --
  Common stock issued in connection with acquisition of Hydrocarbon
    Technologies, Inc.                                                                         5,435        2,823            --
  Common stock options issued in connection with acquisition of Hydrocarbon
    Technologies, Inc.                                                                         1,325           --            --
  Cancellation of treasury stock                                                              (9,112)      (1,087)           --
  Exchange of equity investments in and loans to non-affiliated companies for
    long-term note receivable from non-affiliate                                               4,000           --            --
  Common stock issued on conversion of convertible preferred stock and in
    payment of dividends                                                                       3,100           --            --
  Cancellation of related party note receivable and transfer of the collateral
    shares to treasury stock                                                                   1,007           --            --



Supplemental disclosure of cash flow information:
  Cash paid for interest                                                                 $       269  $        39   $    10,054
  Cash paid for income taxes                                                                     283          322        19,356


                                                        See accompanying notes.

                                                                  F-8
</TABLE>
<PAGE>

                             HEADWATERS INCORPORATED

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                               September 30, 2003
                                   ___________


1.   Organization and Description of Business

     Headwaters Incorporated is incorporated in Delaware. Headwaters owns 100%
     of Industrial Services Group, Inc. ("ISG"), a Utah-based company formed in
     1997 and acquired by Headwaters in September 2002 (see Note 3). Headwaters
     also owns 100% of Headwaters Technology Innovation Group, Inc. ("HTI")
     (formerly Hydrocarbon Technologies, Inc.), a New Jersey company formed in
     1995 and acquired by Headwaters in August 2001. Headwaters' fiscal year
     ends on September 30 and unless otherwise noted, future references to years
     refer to Headwaters' fiscal year rather than a calendar year. Headwaters'
     focus is on enhancing the value of coal, gas, oil and other natural
     resources. Headwaters currently generates revenue from licensing its
     chemical technologies to produce synthetic fuel and from managing coal
     combustion products ("CCPs"). Headwaters intends to continue to expand its
     business through growth of existing operations, commercialization of
     technologies currently being developed, and strategic acquisitions of
     entities that operate in adjacent industries.

     Through its proprietary Covol Fuels process, Headwaters adds value to the
     production of coal-based solid synthetic fuels primarily for use in
     electric power generation plants. Headwaters currently licenses its
     technologies to the owners of 28 of a company-estimated 75 coal-based solid
     synthetic fuel facilities in the United States. ISG, through its
     wholly-owned subsidiary ISG Resources, Inc., is the nation's largest
     provider of CCP management and marketing services to the electric power
     industry, serving more than 100 coal-fired electric power generation plants
     nationwide. Through its distribution network of over 130 locations, ISG is
     the leading provider of high quality fly ash to the building products and
     ready mix concrete industries in the United States. ISG's construction
     materials segment develops, manufactures and distributes value-added bagged
     concrete, stucco, mortar and block products that utilize fly ash. ISG also
     develops and deploys technologies for maintaining and improving fly ash
     quality. Headwaters, through its wholly-owned subsidiary HTI, conducts
     research and development activities directed at catalyst technologies to
     convert coal and heavy oil into environmentally-friendly, high-value liquid
     fuels. In addition, HTI has developed a unique process to custom design
     nanocatalysts that could be used in multiple industrial applications.

2.   Summary of Significant Accounting Policies

     Principles of Consolidation - The consolidated financial statements include
     the accounts of Headwaters and all of its subsidiaries, only two of which
     have significant operations, ISG and HTI. All significant intercompany
     transactions and accounts are eliminated in consolidation. ISG was acquired
     on September 19, 2002 and accordingly, ISG's results of operations for the
     period from September 19, 2002 through September 30, 2003 have been
     consolidated with Headwaters' 2002 and 2003 results. HTI was acquired in
     August 2001. Due to the time required to obtain accurate financial
     information related to HTI's foreign contracts, for financial reporting
     purposes HTI's financial statements are consolidated with Headwaters'
     financial statements using a one-month lag. Accordingly, no results of
     operations of HTI were included in the consolidated statement of income for
     2001. HTI's August 31, 2002 and 2003 balance sheets were consolidated with
     Headwaters' September 30, 2002 and 2003 balance sheets and HTI's results of
     operations for the twelve months ended August 31, 2002 and 2003 were
     consolidated with Headwaters' 2002 and 2003 results.

     Segment Reporting, Major Customers and Other Concentrations of Risk - Until
     Headwaters acquired ISG in September 2002, Headwaters operated in and
     reported as a single industry segment, alternative energy. With the
     acquisition of ISG in September 2002, Headwaters now operates in three
     business segments, alternative energy, CCPs, and construction materials
     (formerly "manufactured products"). Additional information about these
     segments is presented in Note 4. The following table presents revenues for
     all customers that accounted for over 10% of total revenue during 2001,
     2002 or 2003. All of these revenues are attributable to the alternative
     energy segment, and most of the customers are energy companies.
<TABLE>
<CAPTION>
     (thousands of dollars)                              2001           2002           2003
     ---------------------------------------- ---------------- -------------- --------------
     <S>                                         <C>           <C>            <C>
     DTE Energy Services, Inc. affiliates             $ 5,111        $19,660        $42,013

     TECO Coal Corporation affiliates                  16,044         20,292  Less than 10%

     Marriott International, Inc. affiliates    Less than 10%         19,105  Less than 10%

     AIG Financial Products Corp. affiliates    Less than 10%         16,900  Less than 10%

     PacifiCorp affiliates                              4,978  Less than 10%  Less than 10%

     Pace Carbon Fuels, L.L.C. affiliates               4,675  Less than 10%  Less than 10%
</TABLE>
                                      F-9
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________



     At September 30, 2003, Headwaters had trade receivable balances totaling
     approximately $1,895,000 from DTE Energy Services, Inc. affiliates.
     Substantially all of Headwaters' revenues were generated from sales in the
     United States. Headwaters purchases all of the chemical reagent that is
     sold to licensees and other customers from a single large international
     chemical company. Management believes that if necessary, the chemical
     reagent could be obtained from other suppliers. Headwaters has no other
     significant unusual credit risks or concentrations.

     Revenue Recognition - Alternative Energy Segment. Headwaters currently
     licenses its technologies to the owners of 28 coal-based solid synthetic
     fuel facilities from which Headwaters earns license fees and/or profits
     from the sales of chemical reagents. Non-refundable advance license fees
     and royalty payments have been received from certain licensees under
     various terms and conditions. These non-refundable license fees and
     royalties have been deferred and are being recognized on a straight-line
     basis over the period covered by the related license and royalty
     agreements, generally through calendar 2007. Recurring license fees or
     royalty payments are recognized in the period when earned, which generally
     coincides with the sale of synthetic fuel by Headwaters' licensees. In
     certain instances, Headwaters is required to pay to third parties a portion
     of license fees received or cash proceeds from the sale of chemical
     reagents. In such cases, Headwaters records the net proceeds as revenue.
     Revenues from the sales of chemical reagents are recognized upon delivery
     of product to the licensee or non-licensee customer.

     HTI's revenue consists of contract services for businesses and U.S.
     government agencies and is included in the caption "Other revenues" in the
     consolidated statements of income. HTI's costs related to this revenue are
     included in "Cost of other revenues." In accounting for long-term
     contracts, HTI primarily uses the percentage of completion method of
     accounting, on the basis of the relationship between effort expended and
     total estimated effort for the contract. If estimates of costs to complete
     a contract indicate a loss, a provision is made for the total anticipated
     loss.

     CCP and Construction Materials Segments. Revenue from the sale of CCPs and
     construction materials is recognized upon passage of title to the customer,
     which generally coincides with physical delivery and acceptance. CCP
     revenues also include transportation charges associated with delivering
     material to customers when the transportation is contractually provided for
     between the customer and ISG. Service revenues include revenues earned
     under long-term contracts to dispose of residual materials created by
     coal-fired electric power generation and revenues earned in connection with
     certain construction-related projects that are incidental to ISG's primary
     business. Service revenues under long-term contracts are recognized
     concurrently with the removal of the material and are typically based on
     the number of tons of material removed at an established price per ton.
     Contracts generally range from five to fifteen years, with most contracts
     being renewed upon expiration. Construction-related projects are generally
     billed on a time and materials basis; therefore, the revenues and related
     costs are recognized when the time is incurred and the materials are
     consumed.

     The cost of CCPs sold primarily represents amounts paid to utility
     companies to purchase product together with storage and transportation
     costs to deliver the product to customers. In accordance with certain
     utility company contracts, the cost of CCPs purchased from those utilities
     is based on a percentage of the "net revenues" from the sale of the CCPs
     purchased. Cost of services sold includes landfill fees and transportation
     charges to deliver the product to the landfill.

     Cash and Cash Equivalents - Headwaters considers all highly liquid debt
     instruments with an original maturity of three months or less to be cash
     equivalents. Certain cash and cash equivalents are deposited with financial
     institutions, and at times such amounts may exceed insured depository
     limits.

     Short-term Investments - Short-term investments consist primarily of
     mortgage- and other asset-backed securities, corporate bonds, U.S.
     government securities and equity securities. By policy, Headwaters invests
     primarily in U.S. government securities or securities backed by the U.S.
     government. All investments are defined as trading securities and are
     stated at market value as determined by the most recently traded price of
     each security at the balance sheet date. Unrealized gains and losses are
     included in earnings. Approximately $285,000 of investment gains in 2002
     and $7,000 of investment losses in 2003 related to securities held at
     September 30, 2002 and 2003, respectively.

     Receivables - Allowances are provided for uncollectible accounts when
     deemed necessary. Such allowances are based on an account-by-account
     analysis of collectibility or impairment. Collateral is not required for

                                      F-10
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     trade receivables, but Headwaters performs periodic credit evaluations of
     its customers. Collateral is generally required for notes receivable and
     has historically consisted of most or all assets of the debtor.

     Inventories - Inventories are stated at the lower of cost or market (net
     realizable value). For the CCPs segment, cost is determined using the
     first-in, first-out method. For the construction materials and alternative
     energy segments, cost is determined using the weighted-average cost method.

     Property, Plant and Equipment - Property, plant and equipment are recorded
     at cost. Major improvements are capitalized; maintenance, repairs and minor
     improvements are charged to expense as incurred. Assets are depreciated
     using the straight-line method over their estimated useful lives, limited
     to the lease terms for improvements to leased assets. Upon the sale or
     retirement of property, plant and equipment, any gain or loss on
     disposition is reflected in results of operations, and the related asset
     cost and accumulated depreciation are removed from the respective accounts.

     Intangible Assets and Goodwill - Intangible assets consist primarily of
     identifiable intangible assets obtained in connection with the acquisitions
     of ISG (long-term contracts and patents) and HTI (existing patented
     technology). These intangible assets are being amortized on the
     straight-line method over their remaining estimated useful lives. Goodwill
     consists of the excess of the purchase price for ISG and HTI over the fair
     value of identified assets acquired, net of liabilities assumed. In
     accordance with Statement of Financial Accounting Standards ("SFAS") No.
     142, "Accounting for Goodwill and Intangible Assets," goodwill is not
     amortized, but is tested at least annually for impairment. Goodwill is
     normally tested as of June 30, using a two-step process that begins with an
     estimation of the fair value of the reporting unit giving rise to the
     goodwill (see Note 8).

     Valuation of Long-Lived Assets - Headwaters periodically evaluates the
     carrying value of long-lived assets, including intangible assets and
     goodwill, as well as the related amortization periods, to determine whether
     adjustments to these amounts or to the useful lives are required based on
     current events and circumstances. The carrying value of a long-lived asset
     is considered impaired when the anticipated cumulative undiscounted cash
     flow from that asset is less than its carrying value. In that event, a loss
     is recognized based on the amount by which the carrying value exceeds the
     fair market value of the long-lived asset. There were no impairment losses
     recorded for long-lived assets in any of the years presented.

     Debt Issue Costs - Debt issue costs represent direct costs incurred related
     to the issuance of the long-term debt used to acquire ISG. These costs are
     amortized to interest expense over the lives of the respective debt issues
     using the effective interest method.

     Equity Investments - In 2001, Headwaters recognized approximately
     $2,607,000 of losses related to its equity in investments accounted for
     using the equity method. These losses are included in other expense in the
     consolidated statement of income. Headwaters has had no equity investments
     since 2001.

     Research and Development Costs - Research and development costs are
     expensed as incurred.

     Income Taxes - Headwaters accounts for income taxes using the asset and
     liability approach. Headwaters recognizes deferred income tax assets or
     liabilities for the expected future tax consequences of events that have
     been recognized in the financial statements or income tax returns. Deferred
     income tax assets or liabilities are determined based upon the differences
     between the financial statement and tax bases of assets and liabilities
     using enacted tax rates expected to apply when the differences are expected
     to be settled or realized. Deferred income tax assets are reviewed
     periodically for recoverability and valuation allowances are provided as
     necessary. Headwaters files a consolidated tax return with its
     subsidiaries.

     Common Stock Options - Headwaters has elected to continue to apply the
     intrinsic value method as prescribed by APB 25 in accounting for options
     granted to employees, officers and directors and does not currently plan to
     change to the fair value method. The alternative fair value method of
     accounting prescribed by SFAS No. 123, "Accounting for Stock-Based
     Compensation" ("SFAS 123"), requires the use of option valuation models
     that were not developed for use in valuing employee stock options, as
     discussed below. Under APB 25, no compensation expense is recognized for

                                      F-11
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     stock option grants to employees, officers and directors when the exercise
     price of stock options equals or exceeds the market price of Headwaters'
     common stock on the date of grant.

     In years prior to 1998, certain options were granted with terms considered
     compensatory. In such instances, the related compensation cost is amortized
     to expense over the applicable vesting period on a straight-line basis.
     Amortized compensation expense related to compensatory options granted in
     prior years was approximately $93,000 in 2001 and 2002 and $91,000 in 2003.
     If the fair value provision of SFAS No. 123 would have been applied to all
     options granted, compensation expense would have been approximately
     $2,553,000, $2,479,000 and $4,097,000 for 2001, 2002 and 2003,
     respectively, and net income and earnings per share would have been changed
     to the pro forma amounts shown in the table below:
<TABLE>
<CAPTION>
     (thousands of dollars, except per-share data)                           2001          2002         2003
     ---------------------------------------------------------------- ------------ ------------- ------------
     <S>                                                                  <C>           <C>          <C>
     Net income attributable to common stockholders - as reported         $21,404       $24,286      $36,631

     Pro forma additional compensation expense                             (2,460)      (2,386)       (4,006)
                                                                      ------------ ------------- ------------
     Net income attributable to common stockholders - pro forma           $18,944       $21,900      $32,625
                                                                      ============ ============= ============

     Basic earnings per share - as reported                                 $0.94         $1.00        $1.35

                              - pro forma                                   $0.83         $0.90        $1.20

     Diluted earnings per share - as reported                               $0.87         $0.94        $1.30

                               - pro forma                                  $0.77         $0.85        $1.16
</TABLE>

     The fair values of stock option grants for 2001, 2002 and 2003 were
     determined using the Black-Scholes option pricing model and the following
     assumptions: expected stock price volatility of 40% to 90%, risk-free
     interest rates ranging from 1.3% to 5.0%, weighted average expected option
     lives of 4 to 5 years, and no dividend yield. The Black-Scholes option
     valuation model was developed for use in estimating the fair value of
     traded options that have no vesting restrictions and that are fully
     transferable. In addition, option valuation models require the input of
     highly subjective assumptions including expected stock price volatility.
     Because Headwaters' stock options have characteristics significantly
     different from those of traded options, and because changes in the
     subjective input assumptions can materially affect their fair value, in
     management's opinion, the existing models do not necessarily provide a
     reliable measure of the fair value of stock options.

     Earnings per Share Calculation - Earnings per share has been computed based
     on the weighted-average number of common shares outstanding. Diluted
     earnings per share computations reflect the increase in weighted-average
     common shares outstanding that would result from the assumed exercise of
     outstanding stock options and warrants, calculated using the treasury stock
     method, and the assumed conversion of convertible securities, using the
     if-converted method, where such options, warrants, and convertible
     securities are dilutive.

     Use of Estimates - The preparation of financial statements in conformity
     with accounting principles generally accepted in the United States requires
     management to make estimates and assumptions that affect the reported
     amounts of assets and liabilities and disclosures of contingent assets and
     liabilities at the date of the financial statements, and the reported
     amounts of revenue and expenses during the reporting period. Actual results
     could differ materially from those estimates.

     Recent Accounting Pronouncements - Headwaters has reviewed all recently
     issued accounting standards, which have not yet been adopted in order to
     determine their potential effect, if any, on the results of operations or
     financial position of Headwaters. Based on that review, Headwaters does not
     currently believe that any of these recent accounting pronouncements will
     have a significant effect on its current or future financial position,
     results of operations, cash flows or disclosures.

     Reclassifications - Certain prior year amounts have been reclassified to
     conform with the current year's presentation. The reclassifications had no
     effect on net income or total assets.

                                      F-12
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


3.   Acquisitions of ISG and HTI

     ISG Acquisition - On September 19, 2002, Headwaters acquired 100% of the
     common stock of ISG, assumed or paid off all of ISG's outstanding debt and
     redeemed all of ISG's outstanding preferred stock. ISG is the leading
     provider of high quality fly ash to the building products and ready mix
     concrete industries in the United States. ISG also develops, manufactures
     and distributes value-added bagged concrete, stucco, mortar and block
     products that utilize fly ash through its construction materials segment.
     Headwaters' historical focus has been on using technology to add value to
     fossil fuels, particularly coal. The acquisition of ISG provided Headwaters
     with a significant position in the last phase of the coal value chain due
     to ISG's competencies in managing CCPs. The acquisition of ISG also brought
     to Headwaters substantial management depth, comprehensive corporate
     infrastructure and critical mass in revenues and operating income.

     In order to obtain the cash necessary to acquire ISG and retire the ISG
     debt, Headwaters issued $175,000,000 of new debt consisting of $155,000,000
     of senior secured debt with a five-year term and a variable interest rate
     and $20,000,000 of subordinated debt with an approximate five-year term and
     a fixed interest rate (see Note 9). ISG management participated in
     one-half, or $10,000,000, of the subordinated debt. Total cash proceeds
     from the issuance of new debt, net of debt discounts, was $169,950,000.
     Headwaters also incurred approximately $6,200,000 of debt issuance costs to
     place the new debt, which had an initial combined effective
     weighted-average interest rate of approximately 9.0%.

     The following table sets forth the total consideration paid for ISG:

     (thousands of dollars and shares, except per-share amount)
     ---------------------------------------------------------------------------

     Fair value of Headwaters stock (2,100 shares at $15.58 per share)  $ 32,718
     Cash paid to ISG stockholders                                        32,700
     Cash paid to retire ISG debt and related accrued interest           184,638
     Costs directly related to acquisition                                 7,800
                                                                        --------
                                                                        $257,856
                                                                        ========

     The value of Headwaters' 2,100,000 shares of common stock issued was
     determined using the average market price of Headwaters' stock over a
     five-day period, consisting of the day the terms of acquisition were agreed
     to and announced and two days prior to and two days subsequent to that day.

     The ISG acquisition was accounted for using the purchase method of
     accounting as required by SFAS No.141, "Business Combinations." Assets
     acquired and liabilities assumed were recorded at their estimated fair
     values as of September 19, 2002. An adjusted allocation of the purchase
     price, which was not materially different from the preliminary allocation,
     was completed in 2003. The adjustments made relate primarily to the
     completion of property, plant and equipment valuations, income tax returns
     for ISG for the period ended September 18, 2002 and certain valuations of
     other liabilities acquired. Approximately $109,164,000 of the purchase
     price was allocated to identifiable intangible assets consisting primarily
     of contracts with coal-fired electric power generation plants and patents.
     This amount is being amortized over the estimated combined useful life of
     20 years. The remaining purchase price not attributable to the tangible and
     identifiable intangible assets was allocated to goodwill, none of which is
     tax deductible. All of the intangible assets and all of the goodwill were
     allocated to the CCP segment.

                                      F-13
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     The following table sets forth the allocation of the total consideration to
     the tangible and intangible assets acquired and liabilities assumed:

      (thousands of dollars)
     -------------------------------------------------------------------------
     Cash                                                            $ 19,238
     Trade receivables                                                 33,820
     Inventory and other assets                                        11,794
     Net property, plant and equipment                                 48,981
     Intangible assets acquired:
          Contracts                                                   106,400
          Patents                                                       2,764
     Goodwill                                                         107,873
     Accounts payable and accrued liabilities                         (24,294)
     Net deferred income tax liabilities                              (48,720)
                                                                  -------------
          Net assets acquired                                        $257,856
                                                                  =============

     HTI Acquisition - In August 2001, Headwaters acquired 100% of the common
     stock of HTI, a New Jersey-based company. HTI's activities are directed at
     catalyst technologies to convert coal and heavy oil into
     environmentally-friendly, higher-value liquid fuels, as well as
     nanocatalyst processes and applications. The following table sets forth the
     total consideration paid for HTI:
<TABLE>
<CAPTION>
     (thousands of dollars and shares, except per-share amounts)
     -----------------------------------------------------------------------------------------------------
     <S>                                                                                          <C>
     Fair value of Headwaters stock issued in 2001 (593 shares at $9.25 per share)                $ 5,485
     Fair value of Headwaters stock issued in 2002  (178 shares at $15.87 per share)                2,823
     Fair value of options to purchase 144 shares of Headwaters' common stock issued in
       exchange for 152 outstanding vested HTI options                                              1,325
     Cash paid to HTI stockholders                                                                  1,814
     Cash paid to retire HTI note payable to a bank, plus pre-acquisition loans by
       Headwaters to HTI                                                                            2,560
     Costs directly related to acquisition                                                          1,009
                                                                                              ------------
                                                                                                  $15,016
                                                                                              ============
</TABLE>

     The value of the 593,000 shares of Headwaters common stock issued at
     closing was determined using the average market price of Headwaters' stock
     over a three-day period, consisting of the day the terms of acquisition
     were agreed to and one day prior to and one day subsequent to that day
     ($9.25). The value of the 178,000 shares of common stock issued in 2002 was
     determined using the average market price of Headwaters' stock over a
     three-day period, consisting of the day a final settlement was reached
     regarding all outstanding contingent payments and one day prior to and one
     day subsequent to that day ($15.87). For purposes of computing the
     estimated fair value of the Headwaters stock options issued in exchange for
     outstanding HTI options, the Black-Scholes model was used with the
     following assumptions: expected stock price volatility of 90%, risk free
     interest rates of 3.5% to 4.0%, weighted-average expected option lives of
     one to three years, no dividend yield, and a fair value of Headwaters'
     stock of $9.25 per share.

     The following table sets forth the allocation of the total consideration to
     the tangible and intangible assets acquired and liabilities assumed:

      (thousands of dollars)
     ---------------------------------------------------------------------------

     Tangible assets acquired, net of liabilities assumed               $ 1,388
     Intangible assets acquired:
          Existing patented technology                                    9,700
          Acquired in-process research and development                    2,400
     Goodwill                                                             4,258
     Net deferred income tax liabilities                                 (2,730)
                                                                    ------------
          Net assets acquired                                           $15,016
                                                                    ============

                                      F-14
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     The HTI acquisition was accounted for using the purchase method of
     accounting. Assets acquired and liabilities assumed were recorded at their
     fair values as of the acquisition date. Approximately $9,700,000 of the
     purchase price was allocated to identifiable intangible assets consisting
     of existing patented technology with an estimated useful life of 15 years.
     Approximately $2,400,000 of the purchase price was allocated to purchased
     in-process research and development, consisting primarily of efforts
     focused on developing catalysts and catalytic processes to lower the cost
     of producing synthetic fuels and chemicals while improving energy
     efficiency and reducing environmental risks. This amount represented
     projects that had not reached technological feasibility and had no
     alternative use as of the acquisition date, and was expensed in 2001.

4.   Segment Reporting

     Until Headwaters acquired ISG in September 2002, Headwaters operated in and
     reported as a single industry segment, alternative energy. With the
     acquisition of ISG, Headwaters now operates in three business segments,
     alternative energy, CCPs, and construction materials. These segments are
     managed and evaluated separately by management based on fundamental
     differences in their operations, products and services.

     The alternative energy segment includes Headwaters' traditional coal-based
     solid synthetic fuels business and HTI's business of developing catalyst
     technologies to convert coal and heavy oil into environmentally-friendly,
     higher-value liquid fuels, as well as nanocatalyst processes and
     applications. Revenues for this segment primarily include sales of chemical
     reagents and license fees.

     The CCP segment includes ISG's business of providing fly ash to the
     building products and ready mix concrete industries. This segment markets
     coal combustion products such as fly ash and bottom ash, known as CCPs. ISG
     has long-term contracts, primarily with coal-fired electric power
     generation plants, pursuant to which it manages the post-combustion
     operations for the utilities. ISG markets CCPs to replace manufactured or
     mined materials, such as portland cement, lime, agricultural gypsum, fired
     lightweight aggregate, granite aggregate and limestone. CCP revenues
     consist primarily of the sale of products, with a small amount of service
     revenue.

     The construction materials segment manufactures and distributes value-added
     bagged concrete, stucco, mortar and block products. ISG has introduced high
     volumes of CCPs as substitute ingredients in the products the construction
     materials segment produces.

     The following segment information for 2002 and 2003 has been prepared in
     accordance with SFAS No. 131, "Disclosure about Segments of an Enterprise
     and Related Information." The accounting policies of the segments are the
     same as those described in Note 2. Performance of the segments is evaluated
     primarily on operating income. Intersegment sales are immaterial. Segment
     costs and expenses considered in deriving segment operating income include
     cost of revenues, depreciation and amortization, research and development,
     and segment-specific selling, general and administrative expenses. Amounts
     included in the "Corporate" column represent expenses not specifically
     attributable to any segment and include administrative departmental costs
     and general corporate overheads. Segment assets reflect those specifically
     attributable to individual segments and primarily include accounts
     receivable, inventories, property, plant and equipment, intangible assets
     and goodwill. Other assets are included in the "Corporate" column.

                                      F-15
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________
<TABLE>
<CAPTION>
                                                                                 2002
                                                 --------------------------------------------------------------------
                                                 Alternative                 Construction
     (thousands of dollars)                         Energy        CCPs        Materials      Corporate     Totals
     ------------------------------------------- ------------- ------------ --------------- ------------ ------------
     <S>                                            <C>          <C>             <C>          <C>          <C>
     Segment revenue                                $ 110,753    $   6,818       $   1,774    $      --    $ 119,345
                                                 ============= ============ =============== ============ ============

     Depreciation and amortization                  $  (1,265)   $    (380)      $    (32)    $     (83)   $  (1,760)
                                                 ============= ============ =============== ============ ============

     Operating income (loss)                        $  48,348    $   1,514       $     118    $  (8,946)   $  41,034
                                                 ============= ============ =============== ============
          Net interest income                                                                                    447
          Other income (expense), net                                                                         (1,245)
          Income tax provision                                                                               (15,950)
                                                                                                         ------------
     Net income                                                                                            $  24,286
                                                                                                         ============

     Capital expenditures                           $     546    $     236       $      --    $      14    $     796
                                                 ============= ============ =============== ============ ============

     Segment assets                                 $  36,060    $ 286,002       $  21,869    $  28,926    $ 372,857
                                                 ============= ============ =============== ============ ============

<CAPTION>
                                                                                2003
                                                 --------------------------------------------------------------------
                                                 Alternative                 Construction
     (thousands of dollars)                         Energy        CCPs        Materials      Corporate     Totals
     ------------------------------------------- ------------- ------------ --------------- ------------ ------------
     <S>                                            <C>          <C>             <C>          <C>          <C>
     Segment revenue                                $ 168,342    $ 169,938       $  49,350    $      --    $ 387,630
                                                 ============= ============ =============== ============ ============

     Depreciation and amortization                  $  (1,254)   $ (10,822)      $   (624)    $    (282)   $ (12,982)
                                                 ============= ============ =============== ============ ============

     Operating income (loss)                        $  68,108    $  16,897       $  11,036    $ (18,922)   $  77,119
                                                 ============= ============ =============== ============
          Net interest expense                                                                               (15,377)
          Other income (expense), net                                                                         (1,661)
          Income tax provision                                                                               (23,450)
                                                                                                         ------------
     Net income                                                                                            $  36,631
                                                                                                         ============


     Capital expenditures                           $     166    $   8,297       $     732    $     521    $   9,716
                                                 ============= ============ =============== ============ ============

     Segment assets                                 $  34,959    $ 283,916       $  22,341    $  32,059    $ 373,275
                                                 ============= ============ =============== ============ ============
<CAPTION>
5.   Receivables

     Activity in the trade receivables allowance account was as follows:

                                                  Balance at   Charges to     Addition                  Balance at
                                                  beginning     bad debt      from ISG      Accounts      end of
     (thousands of dollars)                       of period      expense    acquisition   written off     period
     ------------------------------------------- ------------- ------------ ------------- ------------- ------------
     <S>                                               <C>          <C>           <C>          <C>           <C>
     Fiscal year ended September 30, 2001              $   --       $   --        $   --       $   --        $   --
     Fiscal year ended September 30, 2002                  --           --           412           --           412
     Fiscal year ended September 30, 2003                 412          516            --         (351)          577
</TABLE>

                                      F-16
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     Notes receivable consisted of the following at September 30:
<TABLE>
<CAPTION>
     (thousands of dollars)                                                                  2002         2003
     --------------------------------------------------------------------------------- ----------- ------------
     <S>                                                                                   <C>          <C>
     Unsecured note receivable plus accrued interest arising from the sale of
     assets to a limited liability corporation with an effective 6.35%
     interest rate (which exceeds the stated rate). Principal, along with
     accrued interest, is due in four $500 installments from December 2003
     through December 2006. In 2002, Headwaters recorded a gain of approximately
     $1,342 on the sale of assets.                                                         $1,893       $2,016

     Note receivable from a limited liability company, bearing interest at
     LIBOR plus 0.9% (2.2% at September 30, 2003) payable quarterly, with
     principal due no later than September 2004. This note is collateralized
     by certain bridge loans and equity investments sold by Headwaters to this
     entity in September 2001. Following payment of the note principal,
     Headwaters has the right to receive the first $1,000 plus 20% of any
     additional cash received by the limited liability corporation related to
     the assets sold by Headwaters. This note is being accounted for on the
     cost recovery basis. Impairment losses of approximately $986 and $2,142 were
     recorded in 2002 and 2003, respectively, due to declines in the value of the
     underlying collateral during those periods.                                            2,700          504
                                                                                       ----------- ------------
                                                                                           $4,593       $2,520
     Less amount classified as current                                                         --         (500)
                                                                                       ----------- ------------
          Total long-term notes and accrued interest receivable                            $4,593       $2,020
                                                                                       =========== ============
</TABLE>

     Notes receivable generally relate to nonoperating activities and
     accordingly, losses are included in other expense in the consolidated
     statements of income. Net losses recognized on notes receivable were
     approximately $3,658,000 in 2001, $743,000 in 2002 and $2,142,000 in 2003.

     Notes and Interest Receivable - Related Parties, Collateralized by Common
     Stock - In January 2001, Headwaters accepted from a stockholder as full
     satisfaction of a 6%, collateral-based $5,000,000 note receivable, i)
     150,000 shares of Headwaters stock and options to acquire 25,000 shares of
     Headwaters common stock for $1.50 per share that collateralized the note,
     both of which were cancelled, and ii) a new 6% collateralized promissory
     note receivable in the principal amount of $1,750,000. Prior to this
     transaction, the original note receivable was being carried at the value of
     the underlying collateral. In 2001, Headwaters recognized a gain of
     approximately $541,000, representing the increase in value of that
     collateral from September 30, 2000 to the date the collateral was
     surrendered by the stockholder in payment of the note. Headwaters recorded
     the new note receivable at $0 due to substantial uncertainty of both the
     collectibility of the new note and the value of the new collateral. In
     October 2001, a $750,000 payment was received on the new promissory note,
     which amount, along with certain other assets, was accepted as full
     satisfaction of the new promissory note. The $750,000 gain on this
     transaction was recognized in 2002 and recorded as other income. Due to
     substantial uncertainty regarding both value and realization, Headwaters
     recorded the other assets obtained in that transaction at $0.

6.   Inventories

     Inventories consisted of the following at September 30:

         (thousands of dollars)                                2002       2003
         ----------------------------------------------- ----------- ----------

         Raw materials                                       $1,198     $1,059
         Finished goods                                       7,244      6,768
                                                         ----------- ----------
                                                             $8,442     $7,827
                                                         =========== ==========

                                      F-17
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


7.   Property, Plant and Equipment

     Property, plant and equipment consisted of the following at September 30:
<TABLE>
<CAPTION>
                                                Estimated useful
     (thousands of dollars)                          lives               2002         2003
     ---------------------------------------- ------------------- ----------- ------------
     <S>                                          <C>                <C>          <C>
     Land and improvements                          30 years         $ 9,227      $10,428
     Buildings and improvements                   5 - 40 years        10,488       10,128
     Equipment and vehicles                       3 - 30 years        28,171       31,090
     Construction in progress                                          3,523        7,793
                                                                  ----------- ------------
                                                                      51,409       59,439
      Less accumulated depreciation                                     (860)      (6,696)
                                                                  ----------- ------------
           Net property, plant and equipment                         $50,549      $52,743
                                                                  =========== ============
</TABLE>

     Depreciation expense was approximately $93,000 in 2001, $669,000 in 2002
     and $6,387,000 in 2003.

8.   Intangible Assets and Goodwill

     Intangible Assets - With the exception of certain disclosures that were not
     permitted to be early implemented, Headwaters implemented SFAS No. 142
     effective with the acquisitions of HTI in August 2001 and ISG in September
     2002. Effective October 1, 2002, Headwaters fully implemented SFAS No. 142,
     which mandates the following disclosures.

     Headwaters has no intangible assets that are not being amortized. The
     following table summarizes the gross carrying amounts and the related
     accumulated amortization of all amortizable intangible assets as of
     September 30:
<TABLE>
<CAPTION>
                                                                2002                             2003
                                                  -------------------------------- --------------------------------
                                                      Gross                            Gross
                                     Estimated       Carrying       Accumulated       Carrying       Accumulated
     (thousands of dollars)        useful lives       Amount       Amortization        Amount       Amortization
     ----------------------------- -------------- --------------- ---------------- --------------- ----------------
     <S>                           <C>                  <C>                <C>           <C>                <C>
     ISG contracts                   20 years           $106,400           $  179        $106,400           $5,499
     HTI patented technologies       15 years              9,700              647           9,700            1,293
     ISG patents                   7 1/2 years             2,764                4           2,764              373
     Other                         9 - 10 years            1,522              638           1,522              807
                                                  --------------- ---------------- --------------- ----------------
                                                        $120,386           $1,468        $120,386           $7,972
                                                  =============== ================ =============== ================
</TABLE>

     Total amortization expense related to intangible assets was approximately
     $168,000 in 2001, $998,000 in 2002 and $6,504,000 in 2003. Total estimated
     annual amortization expense for fiscal years 2004 through 2007 is
     approximately $6,500,000 per year. Total estimated annual amortization
     expense for fiscal year 2008 is approximately $6,380,000.

     Goodwill - In accordance with the requirements of SFAS No. 142, Headwaters
     does not amortize goodwill, all of which relates to the acquisitions of ISG
     and HTI. SFAS No. 142 requires Headwaters to periodically perform tests for
     goodwill impairment. Step 1 of the initial impairment test was required to
     be performed no later than March 31, 2003; thereafter impairment testing is
     required to be performed no less often than annually, or sooner if evidence
     of possible impairment arises. Impairment testing is performed at the
     reporting unit level and Headwaters has identified four reporting units:
     (i) the Covol Fuels division and (ii) HTI (which together comprise the
     alternative energy segment), (iii) CCPs and (iv) Construction Materials.
     Currently, goodwill exists only in the CCPs and HTI reporting units.

     Step 1 of impairment testing consists of determining and comparing the fair
     values of the reporting units to the carrying values of those reporting
     units. If step 1 were to be failed for either the CCPs or HTI reporting
     units, indicating a potential impairment, Headwaters would be required to
     complete step 2, which is a more detailed test to calculate the implied
     fair value of goodwill, and compare that value to the carrying value of the
     goodwill. If the carrying value of the goodwill exceeds the implied fair
     value of the goodwill, an impairment loss is required to be recorded.

                                      F-18
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     Headwaters performed step 1 impairment tests of the recorded goodwill in
     the CCPs and HTI reporting units as of October 1, 2002, the beginning of
     fiscal year 2003. Headwaters performed its annual, recurring tests for
     potential impairment using the date of June 30, 2003. The tests indicated
     that the fair values of the reporting units exceeded their carrying values
     as of both October 1, 2002 and June 30, 2003. Accordingly, step 2 of the
     impairment tests was not required to be performed, and no impairment charge
     was necessary.

9.   Liabilities

     Other Accrued Liabilities - Other accrued liabilities consisted of the
     following at September 30:

     (thousands of dollars)                                     2002       2003
     ----------------------------------------------------- ---------- ----------

     Cost of CCPs and chemical reagents not yet invoiced     $ 4,860    $ 5,520
     Interest                                                    394      2,420
     Income taxes                                              1,244      1,561
     Royalties due to third parties                            1,808      1,532
     ISG transportation costs                                  2,542      1,142
     Costs related to ISG acquisition                          1,201         --
     Other                                                     4,917      4,347
                                                           ---------- ----------
                                                             $16,966    $16,522
                                                           ========== ==========

     Long-term Debt - Long-term debt consisted of the following at September 30:
<TABLE>
<CAPTION>
      (thousands of dollars)                                                               2002        2003
     ----------------------------------------------------------------------------- ------------- -----------
     <S>                                                                              <C>         <C>
     Senior secured debt with a face amount totaling $155,000 at September 30,
       2002 and $114,851 at September 30, 2003                                        $ 150,378   $ 111,766

     Senior subordinated debentures with a face amount totaling $20,000                  19,603      19,682

     Other                                                                                  149          71
                                                                                   ------------- -----------
                                                                                        170,130     131,519
          Less: current portion                                                        (15,578)     (27,475)
                                                                                   ------------- -----------
          Long-term debt                                                              $ 154,552   $ 104,044
                                                                                   ============= ===========
</TABLE>

     Senior Secured Debt - In connection with the ISG acquisition, Headwaters
     entered into a $175,000,000 senior secured credit agreement with a
     syndication of lenders, under which a total of $155,000,000 was borrowed as
     a term loan on the acquisition date. The credit agreement also allows up to
     $20,000,000 to be borrowed under a revolving credit arrangement. The debt
     was issued at a 3% discount and Headwaters received net cash proceeds of
     $150,350,000. The original issue discount is being accreted using the
     effective interest method and the accretion is recorded as interest
     expense. The debt is secured by all assets of Headwaters, bears interest at
     a variable rate (approximately 5.4% at September 30, 2003), and is
     repayable in quarterly installments through August 30, 2007.

     In 2003, principal repayments totaling $40,149,000 were made, including
     $25,500,000 of optional prepayments. Subsequent to September 30, 2003 and
     through November 30, 2003, principal repayments totaling $9,714,000 have
     been made, including optional prepayments of $3,471,000. In certain
     situations, for example when Headwaters receives "excess cash flow," as
     defined, mandatory prepayments in excess of the scheduled payments are
     required. Mandatory prepayments are calculated as a percentage of "excess
     cash flow," ranging up to 100%, which percentage is based on Headwaters'
     "leverage ratio." When prepayments are made, required principal repayments
     for all future periods are reduced.

     The credit agreement contains restrictions and covenants common to such
     agreements, including limitations on the incurrence of additional debt,
     investments, merger and acquisition activity, asset liens, capital
     expenditures in excess of $15,000,000 in any fiscal year and the payment of
     dividends, among others. In addition, Headwaters must maintain certain
     financial ratios, including leverage ratios and in respect of interest
     coverage, as those terms are defined in the credit agreement. As of

                                      F-19
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     September 30, 2003, Headwaters must maintain a total leverage ratio of
     2.5:1.0 or less. The maximum ratio declines over time until June 30, 2004,
     at which time the ratio must remain at 2.0:1.0 or less. There is a similar
     leverage ratio requirement for the senior debt alone, which at September
     30, 2003 must be 2.0:1.0 or less, declining over time through June 30,
     2004, at which time it must be maintained at 1.5:1.0 or less. The interest
     coverage requirement at September 30, 2003 was 4.0:1.0 or more. Beginning
     December 31, 2003, the ratio must be maintained at a level of 5.0:1.0 or
     more. Headwaters is in compliance with all debt covenants as of September
     30, 2003.

     Under the terms of the senior secured credit agreement, Headwaters may
     borrow up to a total of $175,000,000; provided however, except for the
     initial $20,000,000 of available revolving credit, the maximum borrowing
     limit is permanently reduced by the amount of any repayments of the initial
     $155,000,000 term loan borrowed in September 2002. Terms of any additional
     borrowings under the credit agreement are generally the same as those
     described in the preceding paragraphs. Finally, the credit agreement allows
     for the issuance of letters of credit, provided there is capacity under the
     revolving credit arrangement. Currently two letters of credit totaling
     $1,970,000 are outstanding, with expiration dates in March 2004 and
     November 2004. There have been no other letters of credit issued and no
     funds have been borrowed under the revolving credit arrangement. Headwaters
     pays a fee of 5/8% on the unused portion of the revolving credit
     arrangement.

     Senior Subordinated Debentures - In connection with the ISG acquisition,
     Headwaters also entered into a $20,000,000 subordinated loan agreement,
     under which senior subordinated debentures were issued at a 2% discount,
     with Headwaters receiving net cash proceeds of $19,600,000. The original
     issue discount is being accreted using the effective interest method and
     the accretion is recorded as interest expense. ISG management participated
     in one-half, or $10,000,000, of the $20,000,000 of debt issued. The other
     half was issued to a corporation. The debt is not secured, bears interest
     at a rate of 18% per annum payable quarterly, and is due on September 16,
     2007. It is senior to all other debt except the senior secured debt
     described previously. The debt agreement allows for optional prepayments.
     Any prepayments paid to the corporation are subject to a prepayment charge,
     which ranges from 5% of the principal prepaid in the first year to 1% of
     the principal prepaid in the last year of the five-year term of the
     subordinated loan agreement.

     The loan agreement contains restrictions and covenants common to such
     agreements, and these are generally consistent with those described above
     for the senior secured debt. As of September 30, 2003, Headwaters must
     maintain a total leverage ratio of 2.75:1.0 or less. The maximum ratio
     declines over time until June 2004, at which time the ratio must remain at
     2.25:1.0 or less. The interest coverage requirement at September 30, 2003
     was 3.75:1.0 or more. Beginning in December 2003, the ratio must be
     maintained at a level of 4.75:1.0 or more. Headwaters is in compliance with
     all debt covenants as of September 30, 2003.

     Interest Rates and Debt Maturities - The weighted-average interest rate on
     the face amount of outstanding long-term debt, disregarding amortization of
     debt issue costs and debt discount, was approximately 7.3% at September 30,
     2002 and 7.2% at September 30, 2003. Future maturities of long-term debt as
     of September 30, 2003 were as follows:

                                                   (thousands
                  Year ending September 30,       of dollars)
               ---------------------------------- -------------
                              2004                    $ 27,475
                              2005                      24,985
                              2006                      24,987
                              2007                      57,474
                              2008                           1
                                                  -------------
                   Total cash payments                 134,922
                   Unamortized debt discount            (3,403)
                                                  -------------
                   Net carrying value                 $131,519
                                                  =============

     Interest Costs - As a result of the early repayments of principal totaling
     $25,500,000 in 2003, additional non-cash interest expense of approximately
     $1,458,000 was incurred, representing accelerated amortization of debt
     discount and debt issue costs associated with those principal amounts.

                                      F-20
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     During 2001, Headwaters incurred total interest costs of approximately
     $224,000, including approximately $79,000 of non-cash interest expense.
     During 2002, Headwaters incurred total interest costs of approximately
     $553,000, including approximately $136,000 of non-cash interest expense.
     During 2003, Headwaters incurred total interest costs of approximately
     $15,917,000, including approximately $3,857,000 of non-cash interest
     expense and approximately $230,000 of interest costs that were capitalized.
     No interest costs were capitalized in 2001 or 2002.

10.  Fair Value of Financial Instruments

     Headwaters' financial instruments consist primarily of cash and cash
     equivalents, short-term investments, trade and notes receivable, accounts
     payable and long-term debt. All of these financial instruments except
     long-term debt are either carried at fair value in the balance sheet or are
     of a short-term nature. Accordingly, the carrying values for these
     financial instruments as reflected in the consolidated balance sheets
     closely approximated their fair values.

     Substantially all of Headwaters' long-term debt consists of debt issued in
     connection with the ISG acquisition in September 2002. Due to the short
     amount of time that elapsed between the issuance of the debt in September
     2002 and September 30, 2002, the fair value of outstanding debt as of
     September 30, 2002 was deemed to approximate the face value of the debt as
     of that date, or approximately $175,000,000. If all of Headwaters'
     outstanding debt carried an average interest rate of 7%, management's
     estimate of the market interest rate as of September 30, 2003, the fair
     value of Headwaters' total long-term debt at September 30, 2003 would be
     approximately $131,500,000.

11.  Income Taxes

     In 2001, Headwaters reported a net income tax benefit of $7,049,000,
     consisting of the recognition of $7,470,000 of its deferred tax asset,
     reduced by $100,000 of federal alternative minimum tax and $321,000 of
     current state income tax expense. Headwaters recorded income tax provisions
     with an effective tax rate of approximately 40% and 39% in 2002 and 2003,
     respectively.

     The income tax provision (benefit) consisted of the following for the years
     ended September 30:
<TABLE>
<CAPTION>
     (thousands of dollars)                                             2001          2002          2003
     --------------------------------------------------------- ------------- ------------- -------------
     <S>                                                            <C>           <C>           <C>
     Current tax provision:
          Federal                                                   $   100       $ 3,490       $20,726
          State                                                         321           920         3,602
                                                               ------------- ------------- -------------
     Total current tax provision                                        421         4,410        24,328

     Deferred tax provision (benefit):
          Federal                                                    (7,870)        9,720          (774)
          State                                                         400         1,820          (104)
                                                               ------------- ------------- -------------
     Total deferred tax provision (benefit)                          (7,470)       11,540          (878)
                                                               ------------- ------------- -------------
     Total income tax provision (benefit)                           $(7,049)      $15,950       $23,450
                                                               ============= ============= =============
</TABLE>

     As of September 30, 2001, Headwaters had net operating loss carryforwards
     ("NOLs") of approximately $24,000,000 and research and development tax
     credit carryforwards of approximately $220,000 for federal income tax
     purposes. During 2002, Headwaters utilized all of those NOLs and tax credit
     carryforwards except for approximately $935,000 of HTI's acquisition date
     NOLs that were subject to an annual limitation following HTI's change in
     ownership. As of September 30, 2003, Headwaters has NOLs for federal income
     tax purposes of approximately $150,000, all of which are expected to be
     utilized in 2004.

                                      F-21
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     The provision (benefit) for income taxes differs from the statutory federal
     income tax rate due to the following:
<TABLE>
<CAPTION>
     (thousands of dollars)                                            2001          2002          2003
     --------------------------------------------------------- ------------- ------------- -------------
     <S>                                                          <C>            <C>           <C>
     Tax provision at 35% statutory rate                          $   5,064      $ 14,083      $ 21,028
     State income taxes, net of federal tax effect                      470         1,780         2,352
     Change in valuation allowance                                  (14,200)           --            --
     Alternative minimum tax                                            100            --            --
     Acquired in-process research and development                       918            --            --
     Other, primarily redetermination of prior years'
       tax estimates                                                    599            87            70
                                                               ------------- ------------- -------------
        Income tax provision (benefit)                            $  (7,049)     $ 15,950      $ 23,450
                                                               ============= ============= =============
<CAPTION>

     The valuation allowance decreased by $14,200,000 during 2001, primarily due
     to results of operations in 2001 and expected future results of operations
     as of September 30, 2001. The components of Headwaters' deferred income tax
     assets and liabilities were as follows as of September 30:

     (thousands of dollars)                                            2002          2003
     --------------------------------------------------------- ------------- -------------
     <S>                                                          <C>           <C>
     Deferred tax assets:
          Unamortized non-refundable license fees                 $   2,491     $   1,885
          Write-down of notes receivable                                760         1,606
          Estimated liabilities                                       2,103         1,430
          Federal and state net operating loss carryforwards            411           424
          Allowance for bad debts                                       164           224
          Other                                                          --           225
                                                               ------------- -------------
               Total deferred tax assets                              5,929         5,794
                                                               ------------- -------------

     Deferred tax liabilities:
          Intangible assets                                         (45,128)      (44,439)
          Property, plant and equipment                              (7,401)       (7,679)
          Other                                                      (2,943)       (3,628)
                                                               ------------- -------------
               Total deferred tax liabilities                       (55,472)      (55,746)
                                                               ------------- -------------
     Net deferred tax liability                                   $ (49,543)    $ (49,952)
                                                               ============= =============

12.  Stockholders' Equity

     Preferred Stock - In 2001, all of the outstanding shares of convertible
     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 paid the accrued but undeclared dividends of approximately
     $695,000 in cash rather than allowing conversion into common stock at a
     price below market. Headwaters has 10,000,000 shares of authorized
     preferred stock, none of which was issued or outstanding as of September
     30, 2002 or 2003.

     Stock Options - As of September 30, 2003, Headwaters had three stock option
     plans (the "Option Plans") under which 4,250,000 shares of common stock
     were reserved for ultimate issuance. As of September 30, 2003, options for
     approximately 424,000 shares of common stock could be granted under the
     Plans. A committee of Headwaters' Board of Directors (the "Committee"), or
     in its absence the Board, administers and interprets the Option Plans. This
     Committee is authorized to grant options and other awards both under the
     Option Plans and outside the Option Plans to eligible employees, officers,
     directors, and consultants of Headwaters. Two of the Option Plans provide
     for the granting of both incentive stock options and non-statutory stock
     options; the other Option Plan provides only for the granting of
     non-statutory stock options. Terms of options granted under the Option
     Plans, including vesting requirements, are determined by the Committee.
     Options granted under the Option Plans vest over periods ranging up to ten
     years, expire ten years from the date of grant and are not transferable
     other than by will or by the laws of descent and distribution. Incentive
     stock option grants must meet the requirements of the Internal Revenue
     Code.

                                      F-22
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     The following table is a summary of activity for all of Headwaters' stock
     options, including options not granted under the Option Plans, for the
     years ended September 30:

                                                       2001                   2002                    2003
                                              ----------------------- ---------------------- -----------------------
                                                          Weighted-              Weighted-               Weighted-
                                                           average                average                 average
                                                          exercise               exercise                exercise
     (thousands of shares)                     Shares       price      Shares      price       Shares      price
     ---------------------------------------- ---------- ------------ --------- ------------ ---------- ------------

     Outstanding at beginning of year             3,822        $5.16     3,283       $ 5.80      2,990       $ 7.56
        Granted                                     251         9.15       611        13.38      1,188        16.45
        Granted in exchange for HTI options         144         0.07        --           --         --           --
        Exercised                                  (822)        2.42      (852)        5.02       (514)        4.05
        Canceled                                   (112)        8.42       (52)        6.60        (49)       14.48
                                              ---------- ------------ --------- ------------ ---------- ------------
     Outstanding at end of year                   3,283        $5.80     2,990       $ 7.56      3,615       $10.88
                                              ========== ============ ========= ============ ========== ============

     Exercisable at end of year                   2,171        $5.70     1,898       $ 6.08      1,992       $ 7.51
                                              ========== ============ ========= ============ ========== ============

     Weighted-average fair value of options
       granted during the year below market                    $9.18                   none                    none

     Weighted-average fair value of options
       granted during the year at market                       $5.20                 $ 7.35                  $ 7.16

     Weighted-average fair value of options
       granted during the year above market                     none                   none                    none


     The following table summarizes information about all stock options
     outstanding at September 30, 2003:
<CAPTION>
              (thousands of
                 shares)                        Outstanding options                   Exercisable options
           --------------------- ------------------------------------------------- ----------------------------
                                      Number      Weighted-average    Weighted-        Number      Weighted-
                                  outstanding at      remaining        average     exercisable at    average
            Range of exercise     September 30,    contractual life    exercise    September 30,    exercise
                  prices               2003            in years         price           2003          price
           --------------------- ----------------- ----------------- ------------- --------------- ------------
              <S>                         <C>               <C>         <C>               <C>       <C>
                 $0.01 to $4.13               820               3.2        $ 2.88             783       $ 2.94
                $5.00 to $11.50               602               5.2          7.10             520         6.81
               $12.63 to $12.97               642               5.8         12.86             496        12.90
               $13.56 to $15.48               689               8.9         14.25             193        14.01
               $16.89 to $16.97               862               9.3         16.93               0         0.00
                                 -----------------                                 ---------------
                                            3,615                                           1,992
                                 =================                                 ===============
</TABLE>

     Common Stock Warrants - As of September 30, 2003, there were warrants
     outstanding for the purchase of approximately 56,000 shares of common stock
     at a price of $1.56 per share. The warrants expire in March 2005.

                                      F-23
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     Stockholder Approval of Options and Warrants - The following table presents
     information related to stockholder approval of options and warrants, as of
     September 30, 2003.
<TABLE>
<CAPTION>
     (thousands of shares)
     ---------------------------------- ----------------------- -------------------------- ------------------------------
                                         Shares to be issued        Weighted-average        Shares remaining available
                                           upon exercise of         exercise price of        for future issuance under
               Plan Category             options and warrants    outstanding options and   existing equity compensation
                                                                        warrants                       plans
     ---------------------------------- ----------------------- -------------------------- ------------------------------
     <S>                                             <C>                        <C>                             <C>
     Option plans approved by
        stockholders                                     2,386                     $10.23                            386
     Option plans and warrants
        not approved by stockholders                     1,285                      11.67                             38
                                        ----------------------- -------------------------- ------------------------------
     Total                                               3,671                     $10.73                            424
                                        ======================= ========================== ==============================
</TABLE>

     As discussed above, Headwaters has three primary stock option plans under
     which options have been granted. Headwaters has also issued options and
     warrants not covered by any plan. Stockholders have approved two of the
     three primary stock option plans; stockholders have not approved the other
     stock option plan. The amounts included in the caption "not approved by
     stockholders" in the above table represent amounts applicable under i) the
     stock option plan not approved by stockholders, ii) all stock options
     granted outside of any stock option plan, and iii) all outstanding
     warrants.

13.  Earnings per Share

     The following table sets forth the computation of basic and diluted
     earnings per share for the years ended September 30:
<TABLE>
<CAPTION>
     (thousands of dollars and shares, except per-share data)                  2001        2002        2003
     ------------------------------------------------------------------ ------------ ----------- -----------
     <S>                                                                   <C>         <C>         <C>
     Numerator:
          Net income                                                       $ 21,517    $ 24,286    $ 36,631
          Undeclared preferred stock dividends                                 (113)         --          --
                                                                        ------------ ----------- -----------
     Numerator for basic earnings per share - net income attributable
         to common stockholders                                              21,404      24,286      36,631
     Effect of dilutive securities - preferred stock dividends                  113          --          --
                                                                        ------------ ----------- -----------
     Numerator for diluted earnings per share - net income
       attributable to common stockholders after assumed conversions       $ 21,517    $ 24,286    $ 36,631
                                                                        ============ =========== ===========

     Denominator:
     Denominator for basic earnings per share - weighted-average
       shares outstanding                                                    22,787      24,234      27,083
     Effect of dilutive securities:
          Shares issuable upon exercise of options and warrants               1,582       1,491       1,112
          Shares issuable upon conversion of preferred stock                    268          --          --
                                                                        ------------ ----------- -----------
     Total dilutive potential shares                                          1,850       1,491       1,112
                                                                        ------------ ----------- -----------
     Denominator for diluted earnings per share - weighted-average
       shares outstanding after assumed exercises and conversions            24,637      25,725      28,195
                                                                        ============ =========== ===========

     Basic earnings per share                                              $   0.94    $   1.00    $   1.35
                                                                        ============ =========== ===========

     Diluted earnings per share                                            $   0.87    $   0.94    $   1.30
                                                                        ============ =========== ===========
</TABLE>

     During the periods presented, Headwaters' potentially dilutive securities
     consisted only of options and warrants for the purchase of common stock
     and, for 2001only, convertible preferred stock. Anti-dilutive securities
     not considered in the diluted earnings per share calculation totaled
     approximately 1,375,000 shares in 2001, 210,000 shares in 2002 and 655,000
     shares in 2003.

                                      F-24
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


14.  Commitments and Contingencies

     Commitments and contingencies as of September 30, 2003 not disclosed
     elsewhere, are as follows:

     Leases - Rental expense was approximately $204,000 in 2001, $720,000 in
     2002 and $11,999,000 in 2003. Headwaters has noncancellable operating
     leases for certain facilities and equipment. Most of these leases have
     renewal terms and expire in various years through 2017. As of September 30,
     2003, minimum rental payments due under these leases are as follows:

                                            (thousands
            Year ending September 30:       of dollars)
           ----------------------------- ------------------
                      2004                   $10,841
                      2005                     8,286
                      2006                     6,290
                      2007                     5,091
                      2008                     2,691
                   Thereafter                  4,815
                                         ------------------
                                             $38,014
                                         ==================

     Sale, Purchase and Royalty Commitments - Certain ISG contracts with its
     customers and suppliers require ISG to make minimum sales and purchases.
     Actual sales and purchases under contracts with minimum requirements were
     $895,000 and $11,446,000, respectively, for 2003. At September 30, 2003,
     these minimum requirements are as follows:

                                           (thousands of dollars)
                                        ------------------------------
                                            Minimum        Minimum
           Year ending September 30:          sales       purchases
         ------------------------------ -------------- ---------------
                     2004                  $  599         $10,622
                     2005                     615           7,614
                     2006                     515           3,915
                     2007                     375           2,930
                     2008                     375           2,940
                  Thereafter                  438           7,717
                                        -------------- ---------------
                                           $2,917         $35,738
                                        ============== ===============

     Subsequent to September 30, 2003, one of ISG's minimum purchase contracts
     was amended. The amendment extended the term of the contract for several
     years and increased ISG's total future minimum purchase requirements by
     approximately $17,925,000 during 2004 through 2011.

     ISG has a minimum royalty commitment on certain net sales for calendar
     2003. Remaining minimum royalty commitments as of September 30, 2003 total
     approximately $125,000. If ISG continues the royalty agreement with the
     licensor beyond 2003, minimum royalty payments will be $500,000 per year.
     If ISG terminates the royalty agreement, a one-time payment of $500,000 is
     required.

     Employee Benefit Plans - Headwaters' Board of Directors has approved three
     employee benefit plans that were operative during 2001, 2002 and 2003: the
     Headwaters Incorporated 401(k) Profit Sharing Plan, the 2000 Employee Stock
     Purchase Plan, and the Headwaters Incorporated Incentive Bonus Plan.
     Substantially all employees of Headwaters are eligible to participate in
     the 401(k) and Stock Purchase Plans after meeting certain age and length of
     employment requirements. Only designated employees are eligible to
     participate in the Incentive Bonus Plan.

     401(k) Plan. Under the terms of the 401(k) Plan, eligible employees may
     elect to make tax-deferred contributions of up to 50% of their
     compensation, subject to statutory limitations. Headwaters matches employee
     contributions up to a specified maximum rate and these matching
     contributions vest after a three-year period. Headwaters is not required to
     be profitable to make matching contributions.

                                      F-25
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     Stock Purchase Plan. The 2000 Employee Stock Purchase Plan provides
     eligible employees with an opportunity to increase their proprietary
     interest in Headwaters by purchasing Headwaters common stock on favorable
     terms and to pay for such purchases through payroll deductions. A total of
     500,000 shares of common stock were initially reserved for issuance under
     the Plan, and approximately 360,000 shares are available for future
     issuance as of September 30, 2003. Under the Plan, employees purchase
     shares of stock directly from Headwaters, which shares are made available
     primarily from treasury shares repurchased on the open market or from
     authorized but unissued shares, if necessary. The Plan is intended to
     comply with Section 423 of the Internal Revenue Code, but is not subject to
     the requirements of ERISA. Employees purchase stock through payroll
     deductions of 1% to 10% of cash compensation, subject to certain
     limitations. The stock is purchased in a series of quarterly offerings. The
     cost per share to the employee is 85% of the lesser of the fair market
     value at the beginning or the end of the offering period.

     Incentive Bonus Plan. The Incentive Bonus Plan, approved annually by the
     Compensation Committee of the Board of Directors, provides for annual cash
     bonuses to be paid if Headwaters accomplishes certain financial goals and
     if participating employees meet individual goals. A participant's cash
     bonus is based on Headwaters' success in meeting specified financial
     performance targets approved by the Compensation Committee of the Board of
     Directors, the employee's base pay, and individual performance during the
     year. Headwaters' financial goals are based upon an economic value added
     concept ("EVA") that purports to more closely align with a company's share
     price performance than other measurements of performance.

     Total expense for all of these benefit plans combined was approximately
     $2,082,000 in 2001, $3,300,000 in 2002 and $5,768,000 in 2003. Subsequent
     to September 30, 2003, Headwaters' Board of Directors approved a General
     Employee Bonus Plan covering substantially all employees not otherwise
     eligible to participate in any other performance-based bonus compensation
     arrangement (including the Incentive Bonus Plan described above and sales
     commission arrangements). A participant's cash bonus is based on the
     employee's base pay and individual performance during the year.

     Medical Insurance - Effective January 1, 2003, Headwaters adopted a
     self-insured medical insurance plan for employees of all of its
     subsidiaries. This plan has stop-loss coverage for amounts in excess of
     $75,000 per individual and approximately $6,000,000 in the aggregate for
     the plan year ending December 31, 2003. Headwaters has contracted with a
     third-party administrator to assist in the payment and administration of
     claims. Insurance claims are recognized as expenses when incurred and
     include an estimate of costs for claims incurred but not reported at the
     balance sheet date. As of September 30, 2003, approximately $924,000 is
     accrued for claims incurred from January though September 30, 2003 that
     have not been paid.

     Employment Agreements - Headwaters and its subsidiaries have entered into
     employment agreements with its Chief Executive Officer and 18 other
     officers and employees. The agreements have original terms ranging from two
     to five years and are generally renewable by Headwaters, usually for
     one-year terms. They provide for annual salaries currently ranging from
     approximately $65,000 to $400,000 annually per person. The annual
     commitment under all agreements combined is currently approximately
     $2,800,000. All agreements provide for termination benefits, ranging from
     at least six months' salary, up to a maximum period equal to the remaining
     term of the agreement.

     Incentive Agreements with ISG Principals - In January 2003, Headwaters
     executed incentive agreements, with an effective date of November 2002,
     with three of the former stockholders and officers of ISG, all of whom were
     officers of either Headwaters or ISG following the ISG acquisition. The
     agreements called for contingent payments totaling up to $5,000,000 in the
     event of (i) a change in control, as defined, or (ii) continuing employment
     through September 2004 and an increase in the average stock price for
     Headwaters' common stock for any calendar quarter exceeding $20 per share.
     The maximum payments would be required if there were a change in control
     prior to October 2004, or if the officers remain employed through September
     2004 and the average stock price for any calendar quarter reaches $25 per
     share or more. Subsequent to September 30, 2003, two of the three officers
     resigned their positions. As a result, the maximum payment that could now
     be required under the remaining incentive agreement is $1,500,000.

     Property, Plant and Equipment - As of September 30, 2003, Headwaters was
     committed to spend approximately $6,000,000 to complete capital projects
     that were in various stages of completion.

                                      F-26
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     Legal or Contractual Matters - Headwaters has ongoing litigation and claims
     incurred during the normal course of business, including the items
     discussed below. Headwaters intends to vigorously defend and/or pursue its
     rights in these actions. Management does not currently believe that the
     outcome of these actions will have a material adverse effect on Headwaters'
     operations, cash flows or financial position; however, it is possible that
     a change in the estimates of probable liability could occur, and the change
     could be significant. Additionally, as with any litigation, these
     proceedings will require that Headwaters incur substantial costs, including
     attorneys' fees, managerial time, and other personnel resources and costs
     in pursuing resolution.

     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 a
     synthetic fuel technology invented by Davidson. (This technology is
     distinct from the technology developed by Headwaters.) 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 alleged that the technology purchase transaction was an
     unauthorized corporate action and that Davidson and Headwaters conspired
     together to affect the transfer. In August 2001, the trial court granted
     Headwaters' motion to dismiss the complaint. Plaintiffs appealed the case
     to the Sixth Circuit Court of Appeals. In 2002, the Sixth Circuit Court of
     Appeals issued an order i) affirming the District Court's judgment and
     order of dismissal, and ii) transferring to the Federal Circuit Court of
     Appeals plaintiff's appeal of the District Court's order denying the motion
     for relief from judgment. The Federal Circuit Court of Appeals has affirmed
     the District Court's order denying the motion for relief from judgment and
     the case is now fully resolved.

     Boynton. This action is factually related to the Adtech matter. In the
     Adtech case, the alleged claims are asserted by certain purported officers
     and directors of Adtech, Inc. In the Boynton action, the allegations arise
     from the same facts, but the claims are asserted by certain purported
     stockholders of Adtech. In June 2002, Headwaters received a summons and
     complaint from the United States District Court for the Western District of
     Tennessee alleging, among other things, fraud, conspiracy, constructive
     trust, conversion, patent infringement and interference with contract
     arising out of the 1998 technology purchase agreement entered into between
     Davidson and Adtech on the one hand, and Headwaters on the other. The
     complaint seeks declaratory relief and compensatory and punitive damages.
     Because the resolution of the litigation is uncertain, legal counsel cannot
     express an opinion as to the ultimate amount, if any, of Headwaters'
     liability.

     AGTC. In March 1996, Headwaters entered into an agreement with AGTC and its
     associates for certain services related to the identification and selection
     of synthetic fuel projects. In March 2002, AGTC filed an arbitration demand
     claiming that it is owed a commission under the 1996 agreement for 8% of
     the revenues received by Headwaters from the Port Hodder project.
     Headwaters asserts that AGTC did not perform under the agreement and that
     the agreement was terminated and the disputes were settled in July 1996.
     Headwaters has filed an answer in the arbitration, denying AGTC's claims
     and has asserted counterclaims against AGTC. Because the resolution of the
     arbitration is uncertain, legal counsel cannot express an opinion as to the
     ultimate amount, if any, of Headwaters' liability.

     AJG. In December 1996, Headwaters entered into a technology license and
     proprietary chemical reagent sale agreement with AJG Financial Services,
     Inc. The agreement called for AJG to pay royalties and to purchase
     proprietary chemical reagent 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 had failed to make payments and to
     perform other obligations under the agreement. Headwaters asserts claims
     including breach of contract, declaratory judgment, unjust enrichment and
     accounting and seeks money damages as well as other relief. AJG's answer to
     the complaint denied Headwaters' claims and asserted counter-claims based
     upon allegations of misrepresentation and breach of contract. AJG seeks
     compensatory damages as well as punitive damages. Headwaters has denied the
     allegations of AJG's counter-claims. Because the resolution of the
     litigation is uncertain, legal counsel cannot express an opinion as to the
     ultimate amount of recovery or liability.

                                      F-27
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     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 alleged that Nalco, by its sale and marketing of
     materials for use in creating synthetic fuel, breached a non-disclosure
     agreement, misappropriated trade secrets, and violated patent rights of
     Headwaters. Nalco filed an answer denying the allegations in the complaint
     and asserting counter-claims alleging patent invalidity, antitrust
     violations, and interference with economic relations. Headwaters denied the
     counter-claims. Effective in January 2003, the parties settled the dispute
     and the case was dismissed. There was no material effect on Headwaters'
     operations, cash flows or financial position as a result of the settlement.

     ISG Matters. There is litigation and pending and threatened claims made
     against certain subsidiaries of ISG with respect to several types of
     exterior stucco finish systems manufactured and/or sold by its subsidiaries
     for application by contractors, developers and owners on residential and
     commercial buildings. This litigation and these claims are controlled by
     such subsidiaries' insurance carriers. The plaintiffs and/or claimants in
     these matters have alleged that due to some failure of the stucco system
     itself and/or its application, the buildings have suffered damage due to
     the progressive, latent effects of water penetration through the building's
     exterior. The most prevalent type of claim involves alleged defects
     associated with an artificial stucco system manufactured by one of ISG's
     subsidiaries, Best Masonry. Best Masonry continued to manufacture this
     system through 1997, and there is a 10-year projected claim period
     following discontinuation of the product.

     Typically, the claims cite damages for alleged personal injuries and
     punitive damages for alleged unfair business practices in addition to
     asserting more conventional damage claims for alleged economic loss and
     injury to property. To date, claims made against such subsidiaries have
     been paid by their insurers, with the exception of minor deductibles,
     although such insurance carriers typically have provided "reservation of
     rights" letters. None of the cases has gone to trial, and while two such
     cases involve 100 and 800 homes, respectively, none of the cases includes
     any claims formally asserted on behalf of a class. While, to date, none of
     these proceedings have required that ISG incur substantial costs, there is
     no guarantee of coverage or continuing coverage. These and future
     proceedings may result in substantial costs to ISG, including attorneys'
     fees, managerial time and other personnel resources and costs. Adverse
     resolution of these proceedings could have a materially negative effect on
     ISG's business, financial condition and results of operation, and its
     ability to meet its financial obligations. Although ISG carries general and
     product liability insurance, ISG cannot assure that such insurance coverage
     will remain available, that ISG's insurance carrier will remain viable or
     that the insured amounts will cover all future claims in excess of ISG's
     uninsured retention. Future rate increases may also make such insurance
     uneconomical for ISG to maintain. In addition, the insurance policies
     maintained by ISG exclude claims for damages resulting from exterior
     insulating finish systems, or EIFS, that have manifested after March 2003.
     Because much of the litigation and claims are at an early stage and
     resolution is uncertain, legal counsel cannot express an opinion as to the
     ultimate amount, if any, of the liability resulting to Headwaters.

     Former Director. Headwaters granted stock options to a member of its board
     of directors in 1995. The director resigned from the board in 1996.
     Headwaters believes that most of the former director's options terminated
     unexercised. The former director has claimed that he is entitled to
     exercise the options. No lawsuit has been filed in this matter. Resolution
     is uncertain and legal counsel cannot express an opinion as to the ultimate
     amount, if any, of Headwaters' liability.

     Other. Headwaters and its subsidiaries are also involved in other legal
     perceedings that have arisen in the normal course of business.

     Favorable Resolution to Section 29 Examination by the IRS - An essential
     element for the production of qualified solid synthetic fuel under Section
     29 of the Internal Revenue Code requires that coal undergo significant
     chemical change. In June 2003, the IRS issued Announcement 2003-46 which
     stated that the IRS "had reason to question the scientific validity of test
     procedures and results that have been presented as evidence that fuel
     underwent a significant chemical change, and is currently reviewing
     information regarding these test procedures and results." At the same time,
     the IRS announced that the issuance of new private letter rulings ("PLRs")
     regarding significant chemical change would be suspended during its review.
     PLRs from the IRS are requested by taxpayers to gain assurance that the tax
     treatment proposed by the taxpayer is acceptable to the IRS.

                                      F-28
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


     The June 2003 IRS announcement caused certain Headwaters licensees to
     temporarily reduce or stop synthetic fuel production, which caused a
     decline in reagent sold and license fees, resulting in a material negative
     impact on Headwaters' revenue and net income for the September 2003
     quarter. In response to the IRS review, Headwaters joined with industry
     participants and government officials to address the actions and concerns
     of the IRS. On October 29, 2003, the IRS issued Announcement 2003-70,
     stating that it would resume its issuance of PLRs on significant chemical
     change. Announcement 2003-70 also provides that the industry's chemical
     change test procedures and results are scientifically valid if
     appropriately applied.

     Senate Permanent Subcommittee on Investigations - On October 29, 2003, the
     Permanent Subcommittee on Investigations of the Government Affairs
     Committee of the United States Senate issued a notification of pending
     investigations. The notification listed the synthetic fuel tax credit as a
     new item, stating: "The Subcommittee has initiated an investigation of
     potential abuses of tax credits of producers of synthetic fuel under
     Section 29 of the Internal Revenue Code. The Subcommittee anticipates that
     this investigation will focus on whether certain synthetic fuel producers
     are claiming tax credits under Section 29, even though their product is not
     a qualified synthetic fuel under Section 29 and IRS regulations. In
     addition, the investigation will address whether certain corporations are
     engaging in transactions solely to take advantage of unused Section 29
     credits, with no other business purpose. Lastly, the investigation will
     address the IRS's efforts to curb abuses related to the Section 29 tax
     credits."

     The effect that the Senate subcommittee investigation of synthetic fuel tax
     credits may have on the industry is unknown. While the investigation is
     pending, buyers may be unwilling to engage in transactions to purchase
     synthetic fuel facilities. If current owners are unable to sell their
     facilities, production may not be maximized, materially adversely affecting
     Headwaters' revenues.

     License Fees - Pursuant to the contractual terms of an agreement with a
     certain licensee, the cumulative license fees owed to Headwaters have been
     placed in escrow for the benefit of Headwaters pending resolution of
     certain contingencies. Headwaters currently expects the escrowed amounts to
     increase as additional license fees are generated and that most, if not
     all, of such amounts will be recognized as revenue at some future date. As
     of September 30, 2003, the license fees, net of anticipated expenses, total
     approximately $20,000,000. Certain accounting rules governing revenue
     recognition require that the seller's price to the buyer be "fixed or
     determinable" as well as reasonably certain of collection. In this
     situation, those rules appear to currently preclude revenue recognition.
     Accordingly, none of the escrowed amounts have been recognized as revenue
     in the consolidated statements of income. In addition to these escrowed
     amounts, this same licensee has also set aside substantial amounts for
     various operational contingencies as provided for in the contractual
     agreements. These reserves, if not needed, will eventually be paid out to
     various parties having an interest in the cash flows from the licensee's
     operations, including Headwaters. As a result, Headwaters currently expects
     to receive at some future date a portion of those reserves, the amount of
     which is not currently determinable and therefore, not recognizable.

15.  SEC Shelf Registration

     Headwaters has an effective $150,000,000 universal shelf registration
     statement on file with the SEC that can be used for the sale of common
     stock, preferred stock, convertible debt and other securities. The most
     likely use of the shelf registration statement would be to issue equity
     securities to reduce long-term debt and for general corporate purposes,
     including acquisitions. A prospectus supplement describing the terms of any
     securities to be issued is required to be filed before any offering would
     commence under the registration statement.

16.  Related Party Transactions

     In addition to related party transactions disclosed elsewhere, Headwaters
     purchases certain insurance benefits for its employees from various
     companies for which a director of Headwaters acts as a broker or agent.
     Gross payments to those insurance companies totaled approximately $381,000
     in 2001, $532,000 in 2002 and $510,000 in 2003.

                                      F-29
<PAGE>

                             HEADWATERS INCORPORATED

              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, continued
                               September 30, 2003
                                   ___________


17.  Quarterly Financial Data (unaudited)

     Summarized unaudited quarterly financial data for 2002 and 2003 is as
     follows:
<TABLE>
<CAPTION>
                                                                                   2002
                                                    ----------------------------------------------------------------
                                                      First        Second       Third        Fourth
     (thousands of dollars, except per-share data)   quarter      quarter      quarter     quarter (2)    Full year
     ---------------------------------------------- ----------- ------------ ------------ ------------- ------------
     <S>                                               <C>          <C>          <C>           <C>         <C>
       Net revenue                                     $18,422      $25,256      $31,968       $43,699     $119,345
       Gross profit (1)                                 10,212       11,503       15,661        20,853       58,229
       Net income (2)                                    4,727        5,459        6,736         7,364       24,286
       Basic earnings per share                           0.20         0.23         0.27          0.30         1.00
       Diluted earnings per share                         0.19         0.21         0.26          0.28         0.94

<CAPTION>
                                                                                 2003
                                                    ----------------------------------------------------------------
                                                      First       Second        Third        Fourth
     (thousands of dollars, except per-share data)   quarter      quarter      quarter     quarter (3)    Full year
     ---------------------------------------------- ----------- ------------ ------------ ------------- ------------
     <S>                                               <C>          <C>          <C>           <C>         <C>
       Net revenue                                     $88,709      $86,053     $106,396      $106,472     $387,630
       Gross profit (1)                                 30,733       29,394       34,974        34,284      129,385
       Net income (3)                                    8,052        6,789       10,544        11,246       36,631
       Basic earnings per share                           0.30         0.25         0.39          0.41         1.35
       Diluted earnings per share                         0.29         0.24         0.37          0.40         1.30
</TABLE>
-----------------------

(1)  Gross profit is derived by subtracting cost of revenues and industry
     segment depreciation expense from total revenue.

(2)  In the fourth quarter of 2002, Headwaters recorded approximately $2,568,000
     of losses related to the write-off of deferred project / financing costs
     incurred in 2002 because management decided not to pursue the proposed
     projects / financings. Also, Headwaters recorded an impairment loss of
     approximately $986,000 related to a note receivable (see Note 5).

(3)  In the fourth quarter of 2003, revenue and net income were negatively
     affected by IRS actions (see Note 14 - Favorable Resolution to Section 29
     Examination by the IRS). Also in the fourth quarter of 2003, Headwaters
     recorded income tax expense at an effective income tax rate of
     approximately 37%, compared to an effective income tax rate of
     approximately 40% for the first nine months of the year. The lower rate for
     the fourth quarter was required to reduce the effective income tax rate for
     the year to approximately 39%. This reduction was primarily a result of
     lower expected state income tax expense.

                                      F-30
<PAGE>