##### Table of Contents









SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549




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Form 10-Q/ A

(Amendment No. 1)


QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934




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|                                                      |  |                                   
|----------------------------------------------------- |  | ----------------------------------
|For the quarterly period ended
    September 27, 2003 |  | Commission file number
    0-27826

Party City Corporation

(Exact name of registrant as specified in its
charter)


|                                                                                     |  |                                                   
|------------------------------------------------------------------------------------ |  | --------------------------------------------------
|Delaware(State or other jurisdiction of
    incorporation or organization)           |  | 22-3033692(I.R.S. Employer
    Identification No.)
|                                                                                    
|400 Commons Way
    Rockaway, New Jersey(Address of Principal Executive
    Offices) |  | 07866(Zip Code)                                   

973-983-0888

(Registrants telephone number, including
area code)


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 þ          No: o

Indicate
by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange
Act).     Yes þ          No: o

Indicate
the number of shares outstanding of each of the issuers
classes of common stock as of the latest practicable date:

The
number of outstanding shares of the Registrants classes of
common stock, $0.01 par value, as of November 3, 2003
and June 4, 2004 were 16,790,308 and 17,053,694,
respectively.



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TABLE OF CONTENTS

|                                          |  |                                                                                                                                                        |    |          |    | 
|----------------------------------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------ | -- | -------- | -- | 
|                                          |  |                                                                                                                                                        |    | Page No.
|                                          |  |                                                                                                                                                        |    |         
|PART I FINANCIAL
    INFORMATION         
|Item 1.                                   |  | Financial Statements                                                                                                                                   |    |          |    | 
|                                          |  | Condensed Consolidated
    Balance Sheets  (Unaudited) September 27, 2003
    September 28, 2002 and June 28, 2003                                    |    |          | 3  | 
|                                          |  | Condensed Consolidated
    Statements of Operations (Unaudited) for the quarters ended
    September 27, 2003 and September 28, 2002                   |    |          | 4  | 
|                                          |  | Condensed Consolidated
    Statements of Cash Flows (Unaudited) for the quarters ended
    September 27, 2003 and September 28, 2002 (As
    Restated) |    |          | 5  | 
|                                          |  | Notes to Condensed
    Consolidated (Unaudited) Financial Statements                                                                                   |    |          | 6  | 
|Item 2.                                   |  | Managements Discussion and Analysis of
    Financial Condition and Results of Operations                                                              |    |          | 12 | 
|Item 3.                                   |  | Quantitative and Qualitative Disclosures About
    Market Risk                                                                                         |    |          | 20 | 
|Item 4.                                   |  | Controls and Procedures                                                                                                                                |    |          | 20 | 
|PART II OTHER
    INFORMATION            
|Item 1.                                   |  | Legal Proceedings                                                                                                                                      |    |          | 21 | 
|Item 2.                                   |  | Changes in Securities, Use
    of Proceeds and Issuer Purchases of Equity Securities                                                                   |    |          | 22 | 
|Item 3.                                   |  | Defaults Upon Senior
    Securities                                                                                                                    |    |          | 22 | 
|Item 4.                                   |  | Submission of Matters to a
    Vote of Security Holders                                                                                                |    |          | 22 | 
|Item 5.                                   |  | Other Information                                                                                                                                      |    |          | 22 | 
|Item 6.                                   |  | Exhibits and Reports on
    Form 8-K                                                                                                                   |    |          | 22 | 
|Exhibit Index                             |  |                                                                                                                                                        | 23 |         
|Signatures                                |  |                                                                                                                                                        | 24 |         
|AWARENESS LETTER OF DELOITTE & TOUCHE LLP
|CERTIFICATION                            
|CERTIFICATION                            
|CERTIFICATION                            
|CERTIFICATION                            



1



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##### Table of Contents






PART I.

FINANCIAL INFORMATION

Explanatory Note

We are filing this Amendment No. 1 on
Form 10-Q/A (Form 10-Q/A), which amends
and restates our Quarterly Report on Form 10-Q for the
three months ended September 27, 2003 that was originally
filed on November 12, 2003 (the Original 10-Q),
primarily to reflect a restatement of our condensed consolidated
statements of cash flows related to our cash overdraft.
Previously, the change in the cash overdraft account was
classified from year to year in net cash provided by (used in)
operating activities, rather than being classified in net cash
provided by financing activities. The prior treatment resulted
in (i) higher net cash used in operating activities and
higher net cash provided by financing activities of
approximately $2,578,000 for the three months ended
September 27, 2003 and, (ii) lower net cash used in
operating activities and lower net cash provided by financing
activities of approximately $306,000 for the three months ended
September 28, 2002. In this Form 10-Q/A, we have
restated our condensed consolidated statements of cash flows for
the three months ended September 27, 2003 and
September 28, 2002 to reflect this change in cash overdraft
account as a financing activity rather than an operating
activity. For further discussion, see Part I, Item 1.
Financial Statements  Note 11. Restatement
of Statements of Cash Flows and Item 4.
Controls and Procedures.

In addition, pursuant to comments from the
Securities and Exchange Commission (the SEC), we
agreed to make certain revisions in our future filings, which we
made in our Quarterly Report on Form 10-Q for the nine
months ended March 27, 2004 and have made in this
Form 10-Q/A. We have also updated a limited set of
disclosure statements throughout this Form 10-Q/A that we
previously provided in the Original 10-Q as of November 3,
2003, the latest practicable date for which such information was
available as of the filing of the Original 10-Q. The explanatory
caption at the beginning of each revised item of this
Form 10-Q/A sets forth the limited nature of the revisions
therein.

The following sections of this Form 10-Q/A
have been revised from the Original 10-Q:



| |   |                                                                                                                
| | - | ---------------------------------------------------------------------------------------------------------------
| |  | Part I, Item 1.  Financial
    Statements                                                                     
|
| |  | Part I, Item 2. 
    Managements Discussion and Analysis of Financial Condition
    and Results of Operations
|
| |  | Part I, Item 4.  Controls
    and Procedures                                                                  
|
| |  | Part II, Item 1.  Legal
    Proceedings                                                                       
|
| |  | Report of Independent Registered Public
    Accounting Firm                                                    
|
| |  | Signature Page                                                                                                 
|
| |  | Exhibit 31 and 32 Certifications                                                                               

Except as set forth above, this Form 10-Q/A
continues to speak as of the date of the filing of the Original
10-Q, November 12, 2003, and we have not updated the
disclosures contained herein to reflect any events that have
occurred thereafter. For a discussion of events and developments
thereafter, please see our reports filed with the SEC since
November 12, 2003.

Our Quarterly Report on Form 10-Q/A for the
fiscal quarter ended December 27, 2003 and our Annual
Report on Form 10-K/A for the fiscal year ended
June 28, 2003 will also be restated in a similar fashion
and will be filed simultaneously with this Form 10-Q/A. We
are not amending any reports affected by the restatement prior
to the Annual Report on Form 10-K/A for the fiscal year
ended June 28, 2003; therefore, the consolidated statements
of cash flows and related financial information included in such
reports should no longer be relied upon and are hereby
superseded.

2



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##### Table of Contents








|        |                     
|------- | --------------------
|Item 1. | Financial Statements

PARTY CITY CORPORATION AND
SUBSIDIARY



CONDENSED CONSOLIDATED BALANCE
SHEETS


(In thousands, except share
information)

(Unaudited)


|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |        |         | 
|---------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | ------ | ------------- | ------- | -------- | ------ | ------ | ------- |  | ------ | ------ | ------- | 
|                                               |                                                                                                                                        | September 27,                              |        | September 28, |         | June 28,
|                                               |                                                                                                                                        | 2003                                       |        | 2002          |         | 2003(1) 
|                                               |                                                                                                                                        |                                            |        |               |         |         
|ASSETS                                        
|Current assets:                                |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               | Cash and cash equivalents                                                                                                              |                                            | $      | 4,603         |         |          | $      | 5,241  |         |  | $      | 3,372  |        
|                                               | Merchandise inventory                                                                                                                  |                                            |        | 93,227        |         |          |        | 94,760 |         |  |        | 65,908 |        
|                                               | Other current assets, net                                                                                                              |                                            |        | 22,360        |         |          |        | 21,402 |         |  |        | 21,900 |        
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               |                                                                                                                                        | Total current assets                       |        |               | 120,190 |          |        |        | 121,403 |  |        |        | 91,180  | 
|                                               | Property and equipment, net                                                                                                            |                                            |        | 50,495        |         |          |        | 54,941 |         |  |        | 52,819 |        
|                                               | Goodwill                                                                                                                               |                                            |        | 18,614        |         |          |        | 19,062 |         |  |        | 18,614 |        
|                                               | Other assets                                                                                                                           |                                            |        | 5,234         |         |          |        | 4,392  |         |  |        | 5,386  |        
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               |                                                                                                                                        | Total assets                               |        | $             | 194,533 |          |        | $      | 199,798 |  |        | $      | 167,999 | 
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|LIABILITIES AND STOCKHOLDERS
    EQUITY      
|Current liabilities:                           |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               | Accounts payable                                                                                                                       |                                            | $      | 64,841        |         |          | $      | 69,864 |         |  | $      | 37,960 |        
|                                               | Cash overdraft                                                                                                                         |                                            |        | 1,548         |         |          |        | 3,391  |         |  |        | 4,126  |        
|Accrued expenses and other current liabilities |                                                                                                                                        |                                            | 24,823 |               |         |          | 23,893 |        |         |  | 24,998 |       
|                                               | Advances under Loan Agreement                                                                                                          |                                            |        | 15,171        |         |          |        | 16,136 |         |  |        | 11,229 |        
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               |                                                                                                                                        | Total current liabilities                  |        |               | 106,383 |          |        |        | 113,284 |  |        |        | 78,313  | 
|Long-term liabilities:                         |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               | Deferred rent and other long-term liabilities                                                                                          |                                            |        | 10,034        |         |          |        | 10,310 |         |  |        | 10,264 |        
|                                               | Senior Notes                                                                                                                           |                                            |        |              |         |          |        | 9,083  |         |  |        |       |        
|Commitments and contingencies                  |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|Stockholders equity:                          |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               | Common stock, $0.01 par value,
    25,000,000 shares authorized; 17,425,070, 17,010,465 and
    17,296,807 shares issued, respectively |                                            |        | 174           |         |          |        | 170    |         |  |        | 173    |        
|                                               | Additional paid-in capital                                                                                                             |                                            |        | 43,821        |         |          |        | 40,597 |         |  |        | 43,178 |        
|                                               | Retained earnings                                                                                                                      |                                            |        | 40,061        |         |          |        | 28,183 |         |  |        | 42,011 |        
|                                               | Treasury stock, at cost (747,012, 284,000 and
    747,012 shares, respectively)                                                        |                                            |        | (5,940        | )       |          |        | (1,829 | )       |  |        | (5,940 | )      
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               |                                                                                                                                        | Total stockholders equity                 |        |               | 78,116  |          |        |        | 67,121  |  |        |        | 79,422  | 
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       
|                                               |                                                                                                                                        | Total liabilities and stockholders equity |        | $             | 194,533 |          |        | $      | 199,798 |  |        | $      | 167,999 | 
|                                               |                                                                                                                                        |                                            |        |               |         |          |        |        |         |  |        |       



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|    |                                                                                                                                         
|--- | ----------------------------------------------------------------------------------------------------------------------------------------
|(1) | The June 28, 2003 condensed consolidated
    balance sheet was derived from the Companys audited
    consolidated financial statements.

See accompanying notes to condensed consolidated
financial statements.

3



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY



CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS


(In thousands, except per share
data)

(Unaudited)


|                         |                                                    |                                                             |        |               |         |   |        |        |        | 
|------------------------ | -------------------------------------------------- | ----------------------------------------------------------- | ------ | ------------- | ------- | - | ------ | ------ | ------ | 
|                         |                                                    |                                                            
|                         |                                                    | Quarter Ended                                              
|                         |                                                    |                                                            
|                         |                                                    | September 27,                                               |        | September 28,
|                         |                                                    | 2003                                                        |        | 2002         
|                         |                                                    |                                                             |        |              
|Revenues:                |                                                    |                                                             |        |               |         |   |        |       
|                         | Net sales                                          |                                                             | $      | 102,620       |         |   | $      | 91,124 |       
|                         | Royalty fees                                       |                                                             |        | 3,908         |         |   |        | 3,647  |       
|                         | Franchise fees                                     |                                                             |        | 447           |         |   |        | 235    |       
|                         |                                                    |                                                             |        |               |         |   |        |       
|                         |                                                    | Total revenues                                              |        |               | 106,975 |   |        |        | 95,006 | 
|Expenses:                |                                                    |                                                             |        |               |         |   |        |       
|                         | Cost of goods sold and occupancy costs             |                                                             |        | 74,328        |         |   |        | 64,425 |       
|                         | Company-owned stores operating and selling expense |                                                             |        | 25,879        |         |   |        | 23,698 |       
|                         | Franchise expense                                  |                                                             |        | 1,659         |         |   |        | 1,562  |       
|                         | General and administrative expense                 |                                                             |        | 8,159         |         |   |        | 7,302  |       
|                         |                                                    |                                                             |        |               |         |   |        |       
|                         |                                                    | Total expenses                                              |        |               | 110,025 |   |        |        | 96,987 | 
|                         |                                                    |                                                             |        |               |         |   |        |       
|Operating loss           |                                                    |                                                             | (3,050 | )             |         |   | (1,981 | )     
|                         | Interest income                                    |                                                             |        | (4            | )       |   |        | (7     | )     
|                         | Interest expense                                   |                                                             |        | 204           |         |   |        | 892    |       
|                         |                                                    |                                                             |        |               |         |   |        |       
|                         | Interest expense, net                              |                                                             |        | 200           |         |   |        | 885    |       
|                         |                                                    |                                                             |        |               |         |   |        |       
|Loss before income taxes |                                                    |                                                             | (3,250 | )             |         |   | (2,866 | )     
|                         | Benefit for income taxes                           |                                                             |        | (1,300        | )       |   |        | (1,130 | )     
|                         |                                                    |                                                             |        |               |         |   |        |       
|Net loss                 |                                                    | $                                                           | (1,950 | )             |         | $ | (1,736 | )     
|                         |                                                    |                                                             |        |               |         |   |        |       
|                         | Basic and diluted loss per share                   |                                                             | $      | (0.12         | )       |   | $      | (0.11  | )     
|                         |                                                    |                                                             |        |               |         |   |        |       
|                         |                                                    | Weighted average shares outstanding 
    basic and diluted |        |               | 16,599  |   |        |        | 16,396 | 
|                         |                                                    |                                                             |        |               |         |   |        |       

See accompanying notes to condensed consolidated
financial statements.

4



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY



CONDENSED CONSOLIDATED STATEMENTS OF CASH
FLOWS


(In thousands)

(Unaudited)


|                                                                                              |                                                                      |                                                             |        |               |        |   |        |         |         |  
|--------------------------------------------------------------------------------------------- | -------------------------------------------------------------------- | ----------------------------------------------------------- | ------ | ------------- | ------ | - | ------ | ------- | ------- | -
|                                                                                              |                                                                      | Quarter Ended                                               |        | Quarter Ended
|                                                                                              |                                                                      | September 27,                                               |        | September 28,
|                                                                                              |                                                                      | 2003                                                        |        | 2002         
|                                                                                              |                                                                      |                                                             |        |              
|                                                                                              |                                                                      | (As Restated,                                               |        | (As Restated,
|                                                                                              |                                                                      | see Note 11)                                                |        | see Note 11) 
|Cash flow from operating activities:                                                          |                                                                      |                                                             |        |               |        |   |        |        
|Net loss                                                                                      |                                                                      | $                                                           | (1,950 | )             |        | $ | (1,736 | )      
|Adjustments to reconcile net loss to net cash
    provided by (used in) operating activities: |                                                                      |                                                             |        |               |        |   |        |        
|Depreciation and amortization                                                                 |                                                                      |                                                             | 3,802  |               |        |   | 3,372  |        
|Non-cash interest and financing costs                                                         |                                                                      |                                                             | 40     |               |        |   | 250    |        
|Deferred rent                                                                                 |                                                                      |                                                             | (123   | )             |        |   | 259    |        
|Stock based compensation                                                                      |                                                                      |                                                             | 124    |               |        |   | 138    |        
|Provision for doubtful accounts                                                               |                                                                      |                                                             | (63    | )             |        |   | (301   | )      
|Other                                                                                         |                                                                      |                                                             | 4      |               |        |   | (312   | )      
|Changes in assets and liabilities:                                                            |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              | Merchandise inventory                                                |                                                             |        | (27,319       | )      |   |        | (38,487 | )      
|                                                                                              | Accounts payable, accrued expenses and other
    current liabilities |                                                             |        | 26,706        |        |   |        | 34,599  |        
|                                                                                              | Other long-term liabilities                                          |                                                             |        | (107          | )      |   |        | 37      |        
|                                                                                              | Other current assets and other assets                                |                                                             |        | (319          | )      |   |        | (2,939  | )      
|                                                                                              |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              |                                                                      | Net cash provided by (used in) operating
    activities     |        |               | 795    |   |        |         | (5,120  | )
|Cash flow from investing activities:                                                          |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              | Purchases of property and equipment                                  |                                                             |        | (1,448        | )      |   |        | (8,737  | )      
|                                                                                              | Stores acquired                                                      |                                                             |        |              |        |   |        | (1,648  | )      
|                                                                                              |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              |                                                                      | Net cash used in investing activities                       |        |               | (1,448 | ) |        |         | (10,385 | )
|Cash flow from financing activities:                                                          |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              | Net proceeds from Loan Agreement                                     |                                                             |        | 3,942         |        |   |        | 16,136  |        
|                                                                                              | Cash overdrafts                                                      |                                                             |        | (2,578        | )      |   |        | 306     |        
|                                                                                              | Proceeds from exercise of stock options and
    warrants             |                                                             |        | 520           |        |   |        | 837     |        
|                                                                                              |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              |                                                                      | Net cash provided by financing activities                   |        |               | 1,884  |   |        |         | 17,279  |  
|                                                                                              |                                                                      |                                                             |        |               |        |   |        |        
|Net increase in cash and cash equivalents                                                     |                                                                      |                                                             | 1,231  |               |        |   | 1,774  |        
|Cash and cash equivalents, beginning of period                                                |                                                                      |                                                             | 3,372  |               |        |   | 3,467  |        
|                                                                                              |                                                                      |                                                             |        |               |        |   |        |        
|Cash and cash equivalents, end of period                                                      |                                                                      | $                                                           | 4,603  |               |        | $ | 5,241  |        
|                                                                                              |                                                                      |                                                             |        |               |        |   |        |        
|                                                                                              | Supplemental disclosure of cash flow information:                    |                                                             |        |               |        |   |        |         |        
|                                                                                              |                                                                      | Income taxes paid                                           |        | $             | 788    |   |        | $       | 2,167   |  
|                                                                                              |                                                                      | Interest paid                                               |        |               | 165    |   |        |         | 642     |  
|                                                                                              |                                                                      | Supplemental disclosure of non-cash financing
    activity: |        |               |        |   |        |         |         |  
|                                                                                              |                                                                      | Issuance of shares under employee stock purchase
    plan   |        | $             |       |   |        | $       |        |  
|                                                                                              |                                                                      | Issuance of shares under management stock
    purchase plan |        |               | 87     |   |        |         | 282     |  
|                                                                                              |                                                                      | Issuance of warrants                                        |        |               |       |   |        |         | 245     |  

See accompanying notes to condensed consolidated
financial statements.

5



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY



NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS




|   |                      
|-- | ---------------------
|1. | Basis of Presentation

The condensed consolidated financial statements
are unaudited. In the opinion of management, the accompanying
condensed consolidated financial statements contain all
adjustments (consisting only of normal recurring accruals)
necessary to present fairly the financial position of the
Company as of September 27, 2003 and September 28,
2002 and the results of operations and cash flows for the
quarters ended September 27, 2003 and September 28,
2002. Because of the seasonality of the party goods industry,
operating results of the Company on a quarterly basis may not be
indicative of operating results for the full fiscal year.

These condensed consolidated financial statements
should be read in conjunction with the Companys audited
consolidated financial statements for the year ended
June 28, 2003, which are included in the Companys
Annual Report on Form 10-K/A with respect to such period
filed with the Securities and Exchange Commission. All
significant intercompany accounts and transactions have been
eliminated. The June 28, 2003 consolidated balance sheet
amounts are derived from the Companys audited consolidated
financial statements.

The Companys Fiscal Year (Fiscal
Year or Fiscal) refers to the 52 or
53 weeks, as applicable, ending the Saturday nearest to
June 30, unless otherwise noted. The year ended
July 3, 2004 (Fiscal 2004) is a 53 week
year as compared to the years ended June 28, 2003
(Fiscal 2003) and June 29, 2002 (Fiscal
2002), which were 52 week years.

Certain reclassifications have been made to the
consolidated financial statements in prior periods to conform to
the current period presentation.



|   |                         
|-- | ------------------------
|2. | Stock-Based Compensation

The Company periodically grants stock options to
employees. Pursuant to Accounting Principles Board Opinion
No. 25, Accounting for Stock Issued to
Employees (APB 25), the Company accounts
for stock-based employee compensation arrangements using the
intrinsic value method. If the options are granted to employees
below fair market value, compensation expense is recognized. The
Company has adopted the disclosure only provisions of Statement
of Financial Accounting Standards (SFAS)
No. 123, Accounting for Stock Based
Compensation (SFAS No. 123), as
amended by SFAS No. 148, Accounting for Stock
Based Compensation  Transition and Disclosure, an
Amendment of SFAS No. 123. If compensation cost
for the Companys plans had been determined in accordance
with the fair value method prescribed by SFAS No. 123
the Companys net loss would have been (in thousands,
except per share data):

|                                  |                                                                                                                    |               |        |               |   |   |        |        |  
|--------------------------------- | ------------------------------------------------------------------------------------------------------------------ | ------------- | ------ | ------------- | - | - | ------ | ------ | -
|                                  |                                                                                                                    |              
|                                  |                                                                                                                    | Quarter Ended
|                                  |                                                                                                                    |              
|                                  |                                                                                                                    | September 27, |        | September 28,
|                                  |                                                                                                                    | 2003          |        | 2002         
|                                  |                                                                                                                    |               |        |              
|Net loss as reported              |                                                                                                                    | $             | (1,950 | )             |   | $ | (1,736 | )     
|                                  | Add: Stock-based employee compensation expense
    determined under APB 25, net of taxes                           |               |        | 22            |   |   |        | 83     |  
|                                  | Deduct: Total stock-based employee compensation
    expense determined under fair value based method, net of taxes |               |        | (136          | ) |   |        | (271   | )
|                                  |                                                                                                                    |               |        |               |   |   |        |       
|                                  | Pro-forma net loss                                                                                                 |               | $      | (2,064        | ) |   | $      | (1,924 | )
|                                  |                                                                                                                    |               |        |               |   |   |        |       
|Basic and diluted loss per share: |                                                                                                                    |               |        |               |   |   |        |       
|                                  | As reported                                                                                                        |               | $      | (0.12         | ) |   | $      | (0.11  | )
|                                  | Pro-forma net loss                                                                                                 |               |        | (0.12         | ) |   |        | (0.12  | )

The weighted average fair value of options
granted during the first quarter of Fiscal 2004 and 2003 was
$3.94 and $7.92, respectively.

6



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



|   |                   
|-- | ------------------
|3. | Earnings Per Share

The following table sets forth the computations
of basic and diluted loss per share (in thousands, except per
share amounts):

|                                                                            |  |               |        |               |  |   |        |    
|--------------------------------------------------------------------------- |  | ------------- | ------ | ------------- |  | - | ------ | ---
|                                                                            |  |              
|                                                                            |  | Quarter Ended
|                                                                            |  |              
|                                                                            |  | September 27, |        | September 28,
|                                                                            |  | 2003          |        | 2002         
|                                                                            |  |               |        |              
|Net loss                                                                    |  | $             | (1,950 | )             |  | $ | (1,736 | )  
|Loss per share  basic                                                      |  |               | (0.12  | )             |  |   | (0.11  | )  
|Loss per share  diluted                                                    |  |               | (0.12  | )             |  |   | (0.11  | )  
|Weighted average common shares outstanding                                  |  |               | 16,599 |               |  |   | 16,396 |    
|Dilutive effect of warrants                                                 |  |               |       | (a)           |  |   |       | (b)
|Dilutive effect of stock options                                            |  |               |       | (a)           |  |   |       | (b)
|Restricted stock units                                                      |  |               |       | (c)           |  |   |       | (c)
|                                                                            |  |               |        |               |  |   |        |    
|Weighted average common shares and common
    equivalent shares outstanding |  |               | 16,599 |               |  |   | 16,396 |    
|                                                                            |  |               |        |               |  |   |        |    



---



|    |  |                                                                                                                                                                                                                                                                                                                                                                                                                                  
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) |  | Options to purchase 2,080,618 shares of
    common stock at prices ranging from $1.71 to $30.88 per
    share were outstanding at September 27, 2003 and warrants
    to purchase 2,496,000 shares of common stock at
    $1.07 per share were outstanding at September 27, 2003
    and September 28, 2002 but were not included in the
    computation of earnings per share because to do so would have
    been antidilutive.
|   
|(b) |  | Options to purchase 2,320,586 shares of
    common stock at prices ranging from $1.71 to $32.50 per
    share were outstanding at September 28, 2002 and warrants
    to purchase 2,496,000 shares of common stock at
    $1.07 per share were outstanding at September 28, 2002
    but were not included in the computation of earnings per share
    because to do so would have been antidilutive.                           
|   
|(c) |  | Restricted shares of 17,396 and
    97,398 shares of common stock were outstanding at
    September 27, 2003 and September 28, 2002,
    respectively, related to the Management Stock Purchase Plan
    which were not included in the computation of earnings per share
    because to do so would have been antidilutive.                                                                                                     



|   |                     
|-- | --------------------
|4. | Financing Agreements

In January 2003, the Company entered into a
$65 million revolving credit facility (Loan
Agreement) with Wells Fargo Retail Finance, LLC, as the
arranger, collateral agent and administrative agent, and Fleet
Retail Finance, Inc., as the documentation agent. Under the
terms of the Loan Agreement, the Company may borrow amounts
based on a percentage of its eligible inventory and credit card
receivables, subject to certain borrowing conditions and
customary sub-limits, reserves and other limitations. Interest
on advances is charged, at the Companys option,
(i) at the adjusted Eurodollar rate plus the applicable
margin, which was set initially at 1.50% and is currently at
1.25%, per annum or (ii) at the prime rate less the
applicable margin, which was initially set at and is currently
0.25% per annum. The term of the Loan Agreement is through
April 30, 2006 and is secured by a lien on substantially
all of the Companys assets. The Company had a standby
letter of credit of $3.1 million outstanding at
September 27, 2003. At September 27, 2003 and
November 3, 2003, the Company had $15.2 million and no
borrowings outstanding under the Loan Agreement, respectively.
The Company had $35.2 million available to be borrowed
under the Loan Agreement at November 3, 2003.

7



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



|   |                     
|-- | --------------------
|5. | Stockholders Equity



| |                   
| | ------------------
| | Shares Outstanding

The Companys authorized capital stock is
25,000,000 shares of its common stock, $0.01 par value
per share. There were 17,425,070 shares and
17,010,465 shares of the Companys common stock issued
at September 27, 2003 and September 28, 2002,
respectively.



| |                 
| | ----------------
| | Stock Repurchase

In September 2001, the Board of Directors
authorized the Company to repurchase up to $15 million of
its outstanding common stock. The stock repurchases are made at
the discretion of management. There was no stock repurchase
activity for the first quarter of Fiscal 2004 or Fiscal 2003. As
of September 27, 2003, the Company had purchased
747,012 shares for an aggregate amount of $5.9 million
or 39.6% of the total amount authorized to be purchased.



| |         
| | --------
| | Warrants

There were no warrant exercises in the first
quarter of fiscal 2004. In the first quarter of fiscal 2003,
688,000 warrants to purchase the Companys common stock
were exercised. This included an exercise of 458,667 warrants
for which proceeds of $490,774 were received and a cashless
exercise of the remaining 229,333 warrants for which the warrant
holders received 213,792 shares of common stock. The
remaining 15,541 shares were surrendered in connection with
this exercise. These 15,541 shares of the Companys
common stock had a market value of $245,386 at the time of
surrender.



|   |                  
|-- | -----------------
|6. | Legal Proceedings

A lawsuit was filed on September 25, 2001
against the Company in Los Angeles Superior Court by an
assistant manager in one of the Companys California stores
for himself and on behalf of other members of an alleged class
of Party City store managers (the Class) who claim
the Company misclassified the Class members as exempt from
California overtime wage and hour laws. The Class members seek
the disgorgement of overtime wages allegedly owed by the Company
to them but not paid and they also seek punitive damages and
statutory penalties. If a class is certified, liability is
found, and a judgment is entered, such a judgment may adversely
affect the Company.

In addition to the foregoing, from time to time
the Company is involved in routine litigation incidental to the
conduct of the business. The Company is aware of no other
material existing or threatened litigation to which the Company
is or may be a party.

8



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



|   |                    
|-- | -------------------
|7. | Segment Information

The following table contains key financial
information of the Companys business segments (in
thousands):

|                                         |  |               |         |               |  |   |         |  
|---------------------------------------- |  | ------------- | ------- | ------------- |  | - | ------- | -
|                                         |  | Quarter Ended |         | Quarter Ended
|                                         |  | September 27, |         | September 28,
|                                         |  | 2003          |         | 2002         
|                                         |  |               |         |              
|Retail:                                  |  |               |         |               |  |   |         |  
|Net sales                                |  | $             | 102,620 |               |  | $ | 91,124  |  
|Cost of goods sold and occupancy costs   |  |               | 74,328  |               |  |   | 64,425  |  
|                                         |  |               |         |               |  |   |         |  
|Gross profit                             |  |               | 28,292  |               |  |   | 26,699  |  
|Store operating and selling expense      |  |               | 25,879  |               |  |   | 23,698  |  
|                                         |  |               |         |               |  |   |         |  
|Company-owned stores profit contribution |  |               | 2,413   |               |  |   | 3,001   |  
|General and administrative expense       |  |               | 8,159   |               |  |   | 7,302   |  
|                                         |  |               |         |               |  |   |         |  
|Retail loss contribution                 |  | $             | (5,746  | )             |  | $ | (4,301  | )
|                                        
|Identifiable assets                      |  | $             | 177,030 |               |  | $ | 180,219 |  
|Depreciation/amortization                |  | $             | 2,418   |               |  | $ | 2,034   |  
|Capital expenditures                     |  | $             | 460     |               |  | $ | 9,830   |  
|Franchise:                               |  |               |         |               |  |   |         |  
|Royalty fees                             |  | $             | 3,908   |               |  | $ | 3,647   |  
|Franchise fees                           |  |               | 447     |               |  |   | 235     |  
|                                         |  |               |         |               |  |   |         |  
|Total franchise revenues                 |  |               | 4,355   |               |  |   | 3,882   |  
|Total franchise expense                  |  |               | 1,659   |               |  |   | 1,562   |  
|                                         |  |               |         |               |  |   |         |  
|Franchise profit contribution            |  |               | 2,696   |               |  |   | 2,320   |  
|                                         |  |               |         |               |  |   |         |  
|                                        
|Identifiable assets                      |  | $             | 2,402   |               |  | $ | 1,942   |  
|Depreciation/amortization                |  |               |        |               |  |   |        |  
|Capital expenditures                     |  |               |        |               |  |   |        |  
|                                        
|Operating loss                           |  | $             | (3,050  | )             |  | $ | (1,981  | )
|Interest expense, net                    |  |               | 200     |               |  |   | 885     |  
|                                         |  |               |         |               |  |   |         |  
|Loss before income taxes                 |  |               | (3,250  | )             |  |   | (2,866  | )
|Benefit for income taxes                 |  |               | (1,300  | )             |  |   | (1,130  | )
|                                         |  |               |         |               |  |   |         |  
|Net loss                                 |  | $             | (1,950  | )             |  | $ | (1,736  | )
|                                         |  |               |         |               |  |   |         |  



|   |                       
|-- | ----------------------
|8. | Acquisitions of Stores

During Fiscal 2003, the Company acquired two
stores from a franchisee. The aggregate consideration paid in
connection with this acquisition was $1,603,000. The
consolidated balance sheets include allocations of the purchase
price related to this transaction resulting in the recording of
approximately $1,002,000 in goodwill, $195,000 in fixed assets
and $406,000 in inventory.

In Fiscal 2002, the Company completed the
acquisition of thirteen stores in the Seattle, Washington market
from Paper Warehouse, Inc. The conversion of these locations to
the Party City store format was

9



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

completed and all stores were opened by the first
quarter of Fiscal 2003. Additional goodwill of $154,000 was
recorded in Fiscal 2003 related to the completion of the
conversion of these locations.

The acquisitions have been accounted for under
the purchase method of accounting. The results of operations of
the acquired stores are included in the financial statements
from the date the stores were opened.

The purchase price of these acquisitions was
determined by applying a multiple to the acquired business
proforma earnings before depreciation, amortization, and taxes.
The range of multiples the Company uses has generally resulted
in an acceptable return on its investment compared to the
opening of a new site as the customer and sales base is
established.

The were no changes in the carrying amount of
goodwill of $18.6 million for the three months ended
September 27, 2003.

Assuming the stores acquired during the quarter
ended September 28, 2002 were acquired on June 30,
2002, the beginning of Fiscal 2003, the pro forma results would
have been as follows (in thousands, except per share amounts):

|                                   |  |               |         |               |  |   |        |  
|---------------------------------- |  | ------------- | ------- | ------------- |  | - | ------ | -
|                                   |  |              
|                                   |  | Quarter Ended
|                                   |  |              
|                                   |  | September 27, |         | September 28,
|                                   |  | 2003          |         | 2002         
|                                   |  |               |         |              
|Net sales                          |  | $             | 106,975 |               |  | $ | 96,281 |  
|Net loss                           |  | $             | (1,950  | )             |  | $ | (1,395 | )
|Loss per share  basic and diluted |  | $             | (0.12   | )             |  | $ | (0.08  | )



|   |           
|-- | ----------
|9. | Guarantees

In November 2002, the Financial Accounting
Standards Board (FASB) issued FASB Interpretation
No. 45, Guarantors Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others. The Interpretation elaborates on
the existing disclosure requirements for most guarantees,
including loan guarantees such as standby letters of credit. It
also clarifies that at the time a company issues a guarantee,
the company must recognize an initial liability for the fair
value, or market value, of the obligations it assumes under the
guarantee and must disclose that information in its interim and
annual financial statements. The provisions related to
recognizing a liability at inception of the guarantee for the
fair value of the guarantors obligations do not apply to
product warranties or to guarantees accounted for as
derivatives. The initial recognition and initial measurement
provisions apply on a prospective basis to guarantees issued or
modified after December 31, 2002.

The Company has unconditionally guaranteed the
lease payments of 24 leases associated with franchise stores and
locations sublet. The majority of the guarantees were given when
the Company sold stores in 1999 as part of its restructuring.
The guarantees continue until the leases, which range from 2004
through 2011, expire. The maximum amount of the guarantees may
vary, but is limited to the sum of the total amount due under
the lease. As of September 27, 2003, the maximum amount of
the guarantees was approximately $19.5 million.



|    |                                 
|--- | --------------------------------
|10. | Recent Accounting Pronouncements

In January 2003, the FASB issued FASB
Interpretation No. 46, Consolidation of Variable
Interest Entities (FIN 46). FIN 46
addresses how to identify variable interest entities and
provides guidance as to how a company may assess its interests
in a variable interest entity for purposes of deciding whether
consolidation of that entity is required. FIN 46 is
effective for all variable interest entities created after
January 31, 2003. The Company is required to adopt the
provisions of FIN 46 for any variable interest entity
created prior to February 1, 2003 by the end of the current
fiscal year. The Company has evaluated the

10



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##### Table of Contents



PARTY CITY CORPORATION AND
SUBSIDIARY


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

accounting provisions of the interpretations and
determined that there was no material impact on its financial
condition, results of operations or cash flows, since the
Company is not the primary beneficiary of any variable interest
entities.



|    |                                            
|--- | -------------------------------------------
|11. | Restatement of Statements of Cash
    Flows

Subsequent to the issuance of the condensed
consolidated financial statements for the period ended
September 27, 2003 the Company determined that the cash
flow related to the Companys cash overdraft should have
been classified as a financing activity rather than an operating
activity. As a result, the condensed consolidated statements of
cash flows for the three months ended September 27, 2003
and September 28, 2002 have been restated to reflect the
cash flows related to the Companys cash overdraft as a
financing activity rather than an operating activity. A summary
of the effect of the restatement on cash flows provided by (used
in) operating and financing activities is as follows (in
thousands):

|                                                          |  |            |        |          |  |   |        |  
|--------------------------------------------------------- |  | ---------- | ------ | -------- |  | - | ------ | -
|                                                          |  | As         |        |         
|                                                          |  | Previously |        | As      
|                                                          |  | Reported   |        | Restated
|                                                          |  |            |        |         
|Three months ended September 27, 2003:                    |  |            |        |          |  |   |        |  
|Cash flows (used in) provided by operating
    activities |  | $          | (1,783 | )        |  | $ | 795    |  
|Cash flows provided by financing activities               |  | $          | 4,462  |          |  | $ | 1,884  |  
|Three months ended September 28, 2002:                    |  |            |        |          |  |   |        |  
|Cash flows used in operating activities                   |  | $          | (4,814 | )        |  | $ | (5,120 | )
|Cash flows provided by financing activities               |  | $          | 16,973 |          |  | $ | 17,279 |  

11



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##### Table of Contents








|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|Item 2. | Managements Discussion and Analysis
    of Financial Condition and Results of Operations

This section has been updated to give effect
to the restatement as discussed in Note 11 to the condensed
consolidated financial statements included in Item 1, and
should be read in conjunction with the accompanying condensed
consolidated financial statements prepared in accordance with
accounting principles generally accepted in the United States of
America.

Pursuant to the SEC comments, we agreed to
make certain revisions in our future filings, which we made in
our Quarterly Report on Form 10-Q for the three months
ended March 27, 2004 and have made herein. Except for the
formatting revisions we made pursuant to SEC comments, we did
not alter the presentation herein to conform to the improved
format we set forth in our Quarterly Report on Form 10-Q
for the three months ended March 27, 2004. We have also
updated certain disclosure statements in Liquidity and
Capital Resources that were made as of November 3,
2003, the latest practicable date for which such information was
available as of the filing of the Original 10-Q.

Critical Accounting Policies and
Estimates

The preparation of financial statements in
conformity with accounting principles generally accepted in the
United States of America requires the appropriate application of
certain accounting policies, many of which require estimates and
assumptions about future events and their impact on amounts
reported in the financial statements and related notes. Since
future events and their impact cannot be determined with
certainty, the actual results will inevitably differ from our
estimates. Such differences could be material to the
consolidated financial statements.

We believe our application of accounting
policies, and the estimates inherently required by the policies,
are reasonable. These accounting policies and estimates are
constantly reevaluated and adjustments are made when facts and
circumstances dictate a change. Historically, we have found the
application of accounting policies to be appropriate, and actual
results generally do not differ materially from those determined
using necessary estimates.

Our accounting policies are more fully described
in Note 1 to the consolidated financial statements
contained in our Annual Report on Form 10-K/ A filed with
the SEC. We have identified certain critical accounting policies
that are described below.

Merchandise
inventory.Inventory is valued using
the cost method which values inventory at the lower of the
actual cost or market, at the individual item level. Cost is
determined using the weighted average method. Inventory levels
are reviewed to identify slow-moving and closeout merchandise
that will no longer be carried. Market is determined by the
estimated net realizable value, based upon the merchandise
selling price.

Finite long-lived
assets.In the evaluation of the fair
value and future benefits of finite long-lived assets, we
perform an analysis of the anticipated undiscounted future net
cash flows of the related finite long-lived assets. Various
factors including future sales growth and profit margins are
included in this analysis. To the extent these future
projections or strategies change, the conclusion regarding
impairment may differ from the current estimates.

Insurance accruals.Our consolidated balance sheets include liabilities with respect
to self-insured workers compensation and general liability
claims. We estimate the required liability of such claims
utilizing an actuarial method, based upon various assumptions,
which include, but are not limited to, our historical loss
experience, projected loss development factors, actual payroll
and other data. The required liability is also subject to
adjustment in the future based upon the changes in claims
experience, including changes in the number of incidents
(frequency) and changes in the ultimate cost per incident
(severity).

Goodwill.All of our
goodwill is associated with our retail segment. We evaluate
goodwill annually or whenever events and changes in
circumstances suggest that the carrying amount may not be
recoverable from its estimated future cash flows. In making this
assessment, management relies on a number of factors including
operating results, business plans, economic projections,
anticipated future cash flows and market-

12



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##### Table of Contents



place data. A change in these underlying
assumptions may cause a change in the results of the tests and,
as such, could cause fair value to be less than the carrying
value. In such event, we would then be required to record a
charge, which would impact earnings.


Sales Returns.We
estimate future sales returns and, when material, record a
provision in the period that the related sales are recorded
based on historical information. Should actual returns differ
from our estimates, we would be required to revise estimated
sales returns.

Store Closure Costs.We will record estimated store closure costs, estimated lease
commitment costs net of estimated sublease income and other
miscellaneous store closing costs, when the liability is
incurred. Such estimates may be subject to change should actual
costs differ.

Results of Operations

|                                                            |                                                |               |         |               |   |   |        |        |  
|----------------------------------------------------------- | ---------------------------------------------- | ------------- | ------- | ------------- | - | - | ------ | ------ | -
|                                                            |                                                |              
|                                                            |                                                | Quarter Ended
|                                                            |                                                |              
|                                                            |                                                | September 27, |         | September 28,
|                                                            |                                                | 2003(e)       |         | 2002(e)      
|                                                            |                                                |               |         |              
|                                                            |                                                | (As           |         | (As          
|                                                            |                                                | Restated)     |         | Restated)    
|Statement of Operations Data:                               |                                                |               |         |               |   |   |        |       
|Total revenues                                              |                                                | $             | 106,975 |               |   | $ | 95,006 |       
|                                                            |                                                |               |         |               |   |   |        |       
|Company-owned stores:                                       |                                                |               |         |               |   |   |        |       
|                                                            | Net sales                                      |               | $       | 102,620       |   |   | $      | 91,124 |  
|                                                            | Cost of goods sold and occupancy costs         |               |         | 74,328        |   |   |        | 64,425 |  
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Gross profit                                   |               |         | 28,292        |   |   |        | 26,699 |  
|                                                            | Store operating and selling expense            |               |         | 25,879        |   |   |        | 23,698 |  
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Company-owned stores profit contribution       |               |         | 2,413         |   |   |        | 3,001  |  
|                                                            | General and administrative expense             |               |         | 8,159         |   |   |        | 7,302  |  
|                                                            |                                                |               |         |               |   |   |        |       
|Retail loss contribution                                    |                                                |               | (5,746  | )             |   |   | (4,301 | )     
|                                                            |                                                |               |         |               |   |   |        |       
|Franchise stores:                                           |                                                |               |         |               |   |   |        |       
|                                                            | Royalty fees                                   |               |         | 3,908         |   |   |        | 3,647  |  
|                                                            | Franchise fees                                 |               |         | 447           |   |   |        | 235    |  
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Total franchise revenues                       |               |         | 4,355         |   |   |        | 3,882  |  
|                                                            | Total franchise expense                        |               |         | 1,659         |   |   |        | 1,562  |  
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Franchise profit contribution                  |               |         | 2,696         |   |   |        | 2,320  |  
|                                                            |                                                |               |         |               |   |   |        |       
|Operating loss                                              |                                                |               | (3,050  | )             |   |   | (1,981 | )     
|Interest expense, net                                       |                                                |               | 200     |               |   |   | 885    |       
|                                                            |                                                |               |         |               |   |   |        |       
|Loss before income taxes                                    |                                                |               | (3,250  | )             |   |   | (2,866 | )     
|Benefit for income taxes                                    |                                                |               | (1,300  | )             |   |   | (1,130 | )     
|                                                            |                                                |               |         |               |   |   |        |       
|Net loss                                                    |                                                | $             | (1,950  | )             |   | $ | (1,736 | )     
|                                                            |                                                |               |         |               |   |   |        |       
|Basic and diluted loss per share(a)                         |                                                | $             | (0.12   | )             |   | $ | (0.11  | )     
|                                                            |                                                |               |         |               |   |   |        |       
|Weighted average shares outstanding 
    basic and diluted |                                                |               | 16,599  |               |   |   | 16,396 |       
|                                                            |                                                |               |         |               |   |   |        |       
|Operating Data:                                             |                                                |               |         |               |   |   |        |       
|                                                            | Number of Company-owned stores (end of period) |               |         | 247           |   |   |        | 234    |  
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Increase in Company-owned same store sales(b)  |               |         | 3.9           | % |   |        | 3.4    | %
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Number of franchise stores (end of period)     |               |         | 253           |   |   |        | 247    |  
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Increase in franchise same store sales(b)      |               |         | 3.3           | % |   |        | 5.9    | %
|                                                            |                                                |               |         |               |   |   |        |       
|                                                            | Average sales per Company-owned store          |               | $       | 429           |   |   | $      | 427    |  
|                                                            |                                                |               |         |               |   |   |        |       
|Other Information:                                          |                                                |               |         |               |   |   |        |       
|                                                            | Depreciation and amortization                  |               | $       | 3,802         |   |   | $      | 3,372  |  
|                                                            |                                                |               |         |               |   |   |        |       

13



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|                                            |                                   |                      |     |               |     |   |       |         |        |  
|------------------------------------------- | --------------------------------- | -------------------- | --- | ------------- | --- | - | ----- | ------- | ------ | -
|                                            |                                   |                     
|                                            |                                   | Quarter Ended       
|                                            |                                   |                     
|                                            |                                   | September 27,        |     | September 28,
|                                            |                                   | 2003(e)              |     | 2002(e)      
|                                            |                                   |                      |     |              
|                                            |                                   | (As                  |     | (As          
|                                            |                                   | Restated)            |     | Restated)    
|Cash flow provided by (used in):            |                                   |                      |     |               |     |   |       |        
|                                            | Investing activities              |                      | $   | (1,448        | )   |   | $     | (10,385 | )     
|                                            |                                   |                      |     |               |     |   |       |        
|                                            | Financing activities              |                      |     | 1,884         |     |   |       | 17,279  |       
|                                            |                                   |                      |     |               |     |   |       |        
|Balance Sheet Data:                         |                                   |                      |     |               |     |   |       |        
|                                            | Working capital                   |                      | $   | 13,807        |     |   | $     | 8,119   |       
|                                            |                                   |                      |     |               |     |   |       |        
|                                            | Total assets                      |                      |     | 194,533       |     |   |       | 199,798 |       
|                                            |                                   |                      |     |               |     |   |       |        
|                                            | Borrowings(c)                     |                      |     | 15,171        |     |   |       | 25,219  |       
|                                            |                                   |                      |     |               |     |   |       |        
|                                            | Stockholders equity              |                      |     | 78,116        |     |   |       | 67,121  |       
|                                            |                                   |                      |     |               |     |   |       |        
|EBITDA:                                     |                                   |                      |     |               |     |   |       |        
|EBITDA(d)                                   |                                   | $                    | 752 |               |     | $ | 1,391 |        
|                                            |                                   |                      |     |               |     |   |       |        
|Most directly comparable GAAP
    measures: |                                   |                      |     |               |     |   |       |        
|                                            | Net loss                          |                      | $   | (1,950        | )   |   | $     | (1,736  | )     
|                                            |                                   |                      |     |               |     |   |       |        
|                                            | Cash flows provided by (used in): |                      |     |               |     |   |       |         |       
|                                            |                                   | operating activities |     | $             | 795 |   |       | $       | (5,120 | )
|                                            |                                   |                      |     |               |     |   |       |        



---



|    |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) |  | Options, warrants and restricted stock units
    related to the Management Stock Purchase Plan were not included
    in the computation of diluted earnings per share for the
    quarters ended September 27, 2003 and September 28,
    2002 because to do so would have been antidilutive.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   
|(b) |  | Same store sales for Company-owned and franchise
    stores are subject to material differences based on the age of
    the respective stores for each group. New stores historically
    have had higher same store comparable sales.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   
|(c) |  | The borrowings at September 27, 2003 and
    September 28, 2002, respectively, are net of an unamortized
    debt discount of $0 and $1.1 million, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   
|(d) |  | Our definition of EBITDA is earnings before
    interest, taxes, depreciation and amortization. We believe
    EBITDA provides additional information for determining our
    ability to meet future debt service requirements. EBITDA should
    not be construed as a substitute for net income or cash flow
    from operating activities (all as determined in accordance with
    generally accepted accounting principles) for the purpose of
    analyzing our operating performance, financial position and cash
    flows as EBITDA is not defined by generally accepted accounting
    principles. We have presented EBITDA, however, because it is
    commonly used by certain investors and analysts to analyze and
    compare companies on the basis of operating performance and to
    determine a companys ability to service and/or incur debt.
    Our computation of EBITDA may not be comparable to similar
    titled measures of other companies.
|   
|    |  | A reconciliation of EBITDA to net loss follows
    for the periods indicated:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             

|                              |  |               |        |               |  |   |        |  
|----------------------------- |  | ------------- | ------ | ------------- |  | - | ------ | -
|                              |  |              
|                              |  | Quarter Ended
|                              |  |              
|                              |  | September 27, |        | September 28,
|                              |  | 2003          |        | 2002         
|                              |  |               |        |              
|EBITDA                        |  | $             | 752    |               |  | $ | 1,391  |  
|Depreciation and amortization |  |               | (3,802 | )             |  |   | (3,372 | )
|Interest expense, net         |  |               | (200   | )             |  |   | (885   | )
|Benefit for income taxes      |  |               | 1,300  |               |  |   | 1,130  |  
|                              |  |               |        |               |  |   |        |  
|Net loss                      |  | $             | (1,950 | )             |  | $ | (1,736 | )
|                              |  |               |        |               |  |   |        |  

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| |  |                                                                                                                                                                                          
| |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Because we also consider EBITDA useful as a
    liquidity measure, we present the following reconciliation of
    EBITDA to our cash flow provided by (used in) operating
    activities:

|                                   |                                                                      |                                                         |       |               |     |   |       |         |        |  
|---------------------------------- | -------------------------------------------------------------------- | ------------------------------------------------------- | ----- | ------------- | --- | - | ----- | ------- | ------ | -
|                                   |                                                                      |                                                        
|                                   |                                                                      | Quarter Ended                                          
|                                   |                                                                      |                                                        
|                                   |                                                                      | September 27,                                           |       | September 28,
|                                   |                                                                      | 2003                                                    |       | 2002         
|                                   |                                                                      |                                                         |       |              
|EBITDA                             |                                                                      | $                                                       | 752   |               |     | $ | 1,391 |        
|Interest expense, net              |                                                                      |                                                         | (200  | )             |     |   | (885  | )      
|Benefit for income taxes           |                                                                      |                                                         | 1,300 |               |     |   | 1,130 |        
|Non-cash interest                  |                                                                      |                                                         | 40    |               |     |   | 250   |        
|Deferred rent                      |                                                                      |                                                         | (123  | )             |     |   | 259   |        
|Stock based compensation           |                                                                      |                                                         | 124   |               |     |   | 138   |        
|Provision for doubtful accounts    |                                                                      |                                                         | (63   | )             |     |   | (301  | )      
|Other                              |                                                                      |                                                         | 4     |               |     |   | (312  | )      
|Changes in assets and liabilities: |                                                                      |                                                         |       |               |     |   |       |        
|                                   | Accounts payable, accrued expenses and other
    current liabilities |                                                         |       | 26,706        |     |   |       | 34,599  |       
|                                   | Merchandise inventory                                                |                                                         |       | (27,319       | )   |   |       | (38,487 | )     
|                                   | Other long-term liabilities                                          |                                                         |       | (107          | )   |   |       | 37      |       
|                                   | Other current assets and other assets                                |                                                         |       | (319          | )   |   |       | (2,939  | )     
|                                   |                                                                      |                                                         |       |               |     |   |       |        
|                                   |                                                                      | Net cash provided by (used in) operating
    activities |       | $             | 795 |   |       | $       | (5,120 | )
|                                   |                                                                      |                                                         |       |               |     |   |       |        



|    |  |                                                                                                                                                                                                                                                                                             
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    |  | We use EBITDA to determine our executive
    compensation which bases incentive compensation payments on our
    EBITDA performance measured against budget. EBITDA is also
    widely used by us and others in our industry to evaluate and
    price potential acquisitions.              
|   
|    |  | EBITDA has limitations as an analytical tool, and
    you should not consider it in isolation, or as a substitute for
    analysis of our results as reported under GAAP. Some of these
    limitations are:                                                                                
|   
|    |  |  EBITDA does not reflect our current
    expenditures, or future requirements, for capital expenditures
    or contractual commitments;                                                                                                                                                    
|   
|    |  |  EBITDA does not reflect changes in,
    or cash requirements for, our working capital needs;                                                                                                                                                                                              
|   
|    |  |  EBITDA does not reflect the interest
    expense, or the cash requirements necessary to service interest
    or principal payments, on our debts;                                                                                                                                         
|   
|    |  |  Although depreciation and
    amortization are non-cash charges, the assets being depreciated
    and amortized will often have to be replaced in the future, and
    EBITDA does not reflect any cash requirements for such
    replacements;                                            
|   
|    |  |  Other companies in our industry may
    calculate EBITDA differently than we do, limiting its usefulness
    as a comparative measure.                                                                                                                                                    
|   
|    |  | Because of these limitations, EBITDA should not
    be considered as a measure of discretionary cash available to us
    to invest in the growth of our business. We compensate for these
    limitations by relying primarily on our GAAP results and using
    EBITDA only supplementally.
|   
|(e) |  | See Note 11 to the condensed consolidated
    financial statements included in Item 1.                                                                                                                                                                                                      

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|                   | 
|------------------ | 
|Other Information: | 

|            |                |                                             |                                    |               |     |     |   |  |     |     |  
|----------- | -------------- | ------------------------------------------- | ---------------------------------- | ------------- | --- | --- | - |  | --- | --- | -
|            |                |                                            
|            |                | Quarter Ended                              
|            |                |                                            
|            |                | September 27,                               |                                    | September 28,
|            |                | 2003                                        |                                    | 2002         
|            |                |                                             |                                    |              
|Store Data: |                |                                             |                                    |               |     |     |   | 
|            | Company-owned: |                                             |                                    |               |     |     |   |  |    
|            |                |                                             | Stores open at beginning of period |               |     | 242 |   |  |     | 209 |  
|            |                |                                             | Stores opened                      |               |     | 6   |   |  |     | 23  |  
|            |                |                                             | Stores closed                      |               |     | (1  | ) |  |     |    |  
|            |                |                                             | Stores acquired from franchisees   |               |     |    |   |  |     | 2   |  
|            |                |                                             |                                    |               |     |     |   | 
|            |                |                                             | Stores open at end of period       |               |     | 247 |   |  |     | 234 |  
|            |                |                                             |                                    |               |     |     |   | 
|            |                | Average Company-owned stores open in period |                                    |               | 245 |     |   |  | 224 |    
|            |                |                                             |                                    |               |     |     |   | 
|            | Franchise:     |                                             |                                    |               |     |     |   |  |    
|            |                |                                             | Stores open at beginning of period |               |     | 241 |   |  |     | 242 |  
|            |                |                                             | Stores opened                      |               |     | 12  |   |  |     | 7   |  
|            |                |                                             | Stores sold to Company             |               |     |    |   |  |     | (2  | )
|            |                |                                             |                                    |               |     |     |   | 
|            |                |                                             | Stores open at end of period       |               |     | 253 |   |  |     | 247 |  
|            |                |                                             |                                    |               |     |     |   | 
|            |                | Average Franchise stores open in period     |                                    |               | 248 |     |   |  | 244 |    
|            |                |                                             |                                    |               |     |     |   | 
|            |                | Total stores chainwide                      |                                    |               | 500 |     |   |  | 481 |    
|            |                |                                             |                                    |               |     |     |   | 



| |        
| | -------
| | General

Net Sales.Net sales
include same store sales and new store sales. Same store sales
include sales for those stores that were in operation for a full
period in both the current month and the corresponding month for
the prior year. New store sales include sales in the current
fiscal year from stores opened during the previous fiscal year
before they are considered same stores and new stores opened in
the current fiscal year.

Cost of goods sold and occupancy
costs.Cost of goods sold and
occupancy costs includes the cost of merchandise, freight to the
stores and store occupancy costs. Store occupancy costs include
rent, common area maintenance, real estate taxes, repairs and
maintenance, depreciation, insurance and utilities.

Store operating and selling
expenses.Store operating and selling
expenses consist of selling and store management payroll,
employee benefits, medical insurance, employment taxes,
advertising, pre-opening expenses which are expensed when
incurred and other store level expenses.

General and administrative
expenses.General and administrative
expenses include payroll and employee benefits, employment
taxes, management information systems, marketing, insurance,
legal and other corporate level expenses. Corporate level
expenses are primarily attributable to our corporate office in
Rockaway, New Jersey, and district and regional offices
throughout the country.

Franchising.Franchise revenue is composed of the initial franchise fees,
which are recorded as revenue when a franchise store opens, and
ongoing royalty fees, generally 4.0% of the stores net
sales. Franchise expenses include direct and indirect expenses.
The direct expenses include salaries, travel and other direct
expenses of the franchise operations department in addition to
legal fees, bad debt expense, insurance expense and other
miscellaneous charges. The indirect expenses include pro-rata
allocations of corporate expenses for salaries, including
bonuses, occupancy and depreciation, based on time spent on
franchise support.

Interest expense.Interest and debt expense includes interest relating to our
senior notes and credit facility. Interest also includes
amortization of financing intangibles, bank service charges and
interest on capital lease obligations.

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| |                                                                                  
| | ---------------------------------------------------------------------------------
| | Quarter Ended September 27, 2003
    Compared to Quarter Ended September 28, 2002

Retail.Net sales
from company-owned stores increased 12.6% to $102.6 million
in the first quarter of Fiscal 2004 from $91.1 million in
the same period last year. The first quarter of Fiscal 2004
results include 242 stores that were open at the beginning
of Fiscal 2004 and six stores opened during the first quarter.
Of the 12.6% increase in sales, 3.9% resulted from a same store
sales increase and the remaining 8.7% relates to the stores that
have not been open for one year. The customer count in Company
owned stores, on a same store basis, increased 1.4% and the
average sale, on a same store basis, increase 2.5%. With 22
stores joining the same store sales group during the first three
months of fiscal 2004, the same store sales increased 4.7% in
the eastern region, 3.8% in the western region and 3.3% in the
central region.

Gross profit, which is net sales minus cost of
goods sold and occupancy costs, increased 6.0% to
$28.3 million in first quarter of Fiscal 2004 from
$26.7 million in the same period last year. The increase in
the first quarter of Fiscal 2004 was due to increased sales
volume. Gross margin was 27.6% and 29.3% of sales for the first
quarter of Fiscal 2004 and Fiscal 2003, respectively. The
decrease in gross margin percent was related primarily to a high
level of promotional activity in July and August, and the
continued emphasis on the clearance of discontinued merchandise
as part of the Companys strategic focus.

Store operating and selling expenses increased
9.2% to $25.9 million for the first quarter of Fiscal 2004
from $23.7 million in the same period last year. The
increase in store operating expenses of $2.2 million is
primarily attributable to $1.7 million in increased
expenses related to the additional stores opened since the same
period last year. Store operating expenses were 25.2% of sales
for the first quarter of Fiscal 2004 compared with 26.0% of
sales in the same period last year due to a decrease in store
opening expenses and a decrease in grand-opening advertising.
For the first quarter of Fiscal 2004, operating expenses as a
percent of sales were 24.0% for mature stores compared to 31.1%
for our stores open for less than 24 months, including
stores acquired in the Seattle Market.

Pre-opening expenses of $303,000 were recorded in
the first quarter of Fiscal 2004 for six new stores opened
during the first quarter of Fiscal 2004 and three stores
projected to be opened later in the fiscal year. Pre-opening
expenses of $409,000 were recorded in the first quarter of
Fiscal 2003 related to 11 new stores opened during the quarter
and for eight stores projected to be opened later in the fiscal
year.

Company-owned store profit contribution, which is
gross profit minus store operating and selling expenses, was
$2.4 million in the first quarter of Fiscal 2004 compared
with $3.0 million for the same period last year. Store
profit contribution was 2.4% of sales for the first quarter of
Fiscal 2004 compared with 3.3% of sales in the same period last
year for the reasons set forth above.

General and administrative (G&A)
expenses increased 11.7% to $8.2 million in the first
quarter of Fiscal 2004, compared with $7.3 million in the
same period last year. The increase is primarily attributable to
an increased store base which required investments in new
systems and new logistics initiatives. G&A expenses remained
flat at 8.0% of sales for the first quarter of Fiscal 2004 and
Fiscal 2003.

Retail loss contribution, which is store profit
contribution minus general and administrative expenses,
increased by 33.6% to $5.7 million in first quarter of
Fiscal 2004, compared with $4.3 million in the same period
last year. Retail loss contribution as a percent of sales was
5.6% in first quarter of Fiscal 2004 compared with 4.7% in the
same period last year for the reasons set forth above.

Franchising.Royalty
fees increased 7.2% to $3.9 million in the first quarter of
Fiscal 2004 compared some with $3.6 million in the same
period last year which was due to an overall franchise store
sales increase of 6.8% and a franchise same store sales increase
of 3.3%. Franchise fees, recognized on 12 store openings during
the first quarter of Fiscal 2004, increased 90.2% to $447,000
compared with $235,000 during the same period last year
recognized on seven store openings. Franchise same store sales
increased 3.3% in first quarter of Fiscal 2004 as compared with
a 5.9% during the same period last year.

Expenses related to franchise revenue increased
6.2% to $1.7 million in first quarter of Fiscal 2004 from
$1.6 million in the same period last year. As a percentage
of franchise revenue, franchise expenses were 38.1%

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and 40.2% for first quarter of Fiscal 2004 and
Fiscal 2003, respectively. Franchise expenses include direct and
indirect expenses. The direct expenses include salaries, travel
and other direct expenses of the franchise operations department
in addition to legal fees, bad debt expense, insurance expense
and other miscellaneous charges. The indirect expenses include
pro-rata allocations of corporate expenses for salaries,
including bonuses, occupancy and depreciation based on time
spent on franchise support.


Franchise profit contribution, which is franchise
revenue minus expenses related to franchise revenue, increased
16.2% to $2.7 million in first quarter of Fiscal 2004 from
$2.3 million in the same period last year. The increase in
franchise profit contribution is due to the increase in royalty
and franchise fees offset in part by an increase in franchise
expenses.

Interest Expense.Interest expense decreased to $200,000 for the first quarter of
Fiscal 2004 from $885,000 in Fiscal 2003. This decrease in
interest expense is due to lower average borrowings and a lower
average borrowing rate than during the same period last year due
to the repurchase of outstanding senior notes during the first
six months of Fiscal 2003.

Income Taxes.An
income tax benefit of $1.1 million, or 40% of our pre-tax
loss, and $1.1 million, or 39.4% of our pre-tax loss, was
recorded in the first quarter of Fiscal 2004 and Fiscal 2003,
respectively.

Net Loss.As a
result of the above factors, net loss increased to
$2.0 million or $0.12 per basic and diluted share in
the first quarter of Fiscal 2004, as compared to a net loss of
$1.7 million, or $0.11 per basic and diluted share in
Fiscal 2003. Weighted average basic and diluted shares
outstanding increased to 16.6 million in the first quarter
of Fiscal 2004 from 16.4 million in the same period last
year. This increase is mainly due to warrant and stock option
exercises during the past 12 months ending
September 27, 2003.

Liquidity and Capital Resources

The Companys cash requirements are
primarily for working capital, the opening of new stores, the
improvement and expansion of existing facilities and the
improvement of information systems. Historically, these cash
requirements have been met through cash flow from operating
activities and borrowings under credit facilities. At
September 27, 2003, working capital was $13.8 million
compared to $8.1 million in the prior period.

Operating
Activities.For the quarter ended
September 27, 2003, net cash provided by operating
activities was $795,000, compared to net cash used in operating
activities of $5.1 million for the same period of the last
fiscal year. The decrease in cash used in operating activities
was primarily attributable to a decrease in other current assets
of approximately $2.7 million. There was also an increase
in inventory which was offset by an increase in accounts payable
and other current liabilities related to store growth. The
decrease in average inventory level per store of 6.8% from the
same period last year was attributed to managements
efforts to control inventory and enable the Company to focus on
product assortment, merchandise presentation and identify and
discontinue slower moving SKUs.

Investing
Activities.Cash used in investing
activities for the quarter ended September 27, 2003 was
$1.4 million compared to $10.4 million in the same
period in the last fiscal year. The decrease in cash used in
investing activities was primarily attributable to the opening
of six Company-owned stores this year as compared with 23 new
store openings and the acquisition of two stores from a
franchisee during the same period last year.

Financing
Activities.Cash provided by financing
activities was $1.9 million for the quarter ended
September 27, 2003 compared with $17.3 million for the
same period last year. The decrease in borrowing is mainly due
to the lower number of stores opened this year compared to last
year.

Loan Agreement.At
September 27, 2003, the Company had a $15.2 million
balance outstanding under the Loan Agreement. Under the terms of
the Loan Agreement, the Company may from time to time
borrow amounts based on a percentage of its eligible inventory,
up to a maximum of $65 million at any time outstanding.
Advances bear interest, at the Companys option,
(i) at the adjusted Eurodollar rate plus the

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applicable margin, which was set initially at
1.50% and is currently at 1.25%, per annum or (ii) at the
prime rate less the applicable margin, which was initially set
at and is currently 0.25% per annum, totaling 3.75% at
September 27, 2003. The term of the Loan Agreement is three
years, and is secured by a lien on substantially all of the
assets of the Company. At September 27, 20003,
November 3, 2003 and June 4, 2004, the Company had
$15.2 million, $0 and $0 borrowings outstanding under the
Loan Agreement, respectively. The Company had $35.2 million
and $19.4 million available to be borrowed under the Loan
Agreement at November 3, 2003 and June 4, 2004,
respectively.


Company management currently believes that the
cash generated by operating activities, together with the
borrowing availability under the Loan Agreement, will be
sufficient to meet the Companys working capital needs for
the next twelve months, including planned new store openings. We
expect to be substantially free of debt by the end of the
current calendar year, absent any special transactions. This
permits the Company to consider a wider variety of corporate
initiatives intended to improve shareholder value, although
there is no assurance that any specific initiative will be
pursued or consummated.

Contractual Obligations and Commercial
Commitments

To facilitate an understanding of our contractual
obligations and commercial commitments, the following data is
provided as of September 27, 2003:

|                              |                               |                                       |         |        |         |           |        |           |        |         |        |   |        |   |        |   |        |   |        |   |        | 
|----------------------------- | ----------------------------- | ------------------------------------- | ------- | ------ | ------- | --------- | ------ | --------- | ------ | ------- | ------ | - | ------ | - | ------ | - | ------ | - | ------ | - | ------ | 
|                              |                               |                                      
|                              |                               | Payments Due By Period (in thousands)
|                              |                               |                                      
|                              |                               |                                       |         | After 
|                              |                               | Total                                 |         | 1 Year |         | 2-3 Years |        | 4-5 Years |        | 5 Years
|                              |                               |                                       |         |        |         |           |        |           |        |        
|Contractual Obligations:      |                               |                                       |         |        |         |           |        |           |        |         |        |   |        |   |        |   |        |   |        |  
|                              |                               | Operating leases                      |         | $      | 256,013 |           |        | $         | 34,760 |         |        | $ | 88,891 |   |        | $ | 70,633 |   |        | $ | 61,819 | 
|                              | Advances under Loan Agreement |                                       |         | 15,171 |         |           |        | 15,171    |        |         |        |  |        |   |        |  |        |   |        |  |       
|                              | Severance arrangements        |                                       |         | 149    |         |           |        | 149       |        |         |        |  |        |   |        |  |        |   |        |  |       
|                              | Capital lease obligations     |                                       |         | 21     |         |           |        | 21        |        |         |        |  |        |   |        |  |        |   |        |  |       
|                              |                               |                                       |         |        |         |           |        |           |        |         |        |   |        |   |        |   |        |   |        |  
|Total Contractual Obligations |                               | $                                     | 271,444 |        |         | $         | 50,101 |           |        | $       | 88,891 |   |        | $ | 70,633 |   |        | $ | 61,819 |  
|                              |                               |                                       |         |        |         |           |        |           |        |         |        |   |        |   |        |   |        |   |        |  

As of September 27, 2003 and
November 3, 2003, we had a contingent liability related to
severance payments for 11 employees. The total contingent
liability ranged from zero to approximately $1.1 million.
As of June 4, 2004, we had a contingent liability related
to severance payments to 15 employees which ranged from zero to
approximately $2.1 million. As of September 27, 2003
and November 3, 2003, we were contingently liable under a
standby letter of credit of $3.1 million pursuant to the
Loan Agreement. As of June 4, 2004, we were contingently
liable under a standby letter of credit of $3.7 million
pursuant to the Loan Agreement.

Off-Balance Sheet Arrangements

We have not created, and are not party to, any
special-purpose or off-balance sheet entities for the purpose of
raising capital, incurring debt or operating our business.

Recent Accounting Pronouncements

In January 2003, the FASB issued FASB
Interpretation No. 46, Consolidation of Variable
Interest Entities (FIN 46). FIN 46
addresses how to identify variable interest entities and
provides guidance as to how a company may assess its interests
in a variable interest entity for purposes of deciding whether
consolidation of that entity is required. FIN 46 is
effective for all variable interest entities created after
January 31, 2003. The Company is required to adopt the
provisions of FIN 46 for any variable interest entity
created prior to February 1, 2003 by the end of the current
fiscal year. We have evaluated the accounting provisions of the
interpretations and there was no material impact on our
financial condition, results of operations or cash flows, since
we are not the primary beneficiary of any variable interest
entities.

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Forward-Looking Statements

This Form 10-Q/ A (including the information
incorporated herein by reference) contains forward-looking
statements within the meaning of The Private Securities
Litigation Reform Act of 1995. The statements are made a number
of times throughout the document and may be identified by
forward-looking terminology as estimate,
project, expect, believe,
may, will, intend or similar
statements or variations of such terms. Such forward-looking
statements are based on many assumptions that are subject to
certain risks and uncertainties, and include among others, the
following: levels of sales, store traffic, acceptance of product
offerings, competitive pressures from other party supplies
retailers and other retailers, availability of qualified
personnel, availability of suitable future store locations,
schedules of store expansion plans and other factors beyond our
control. As a result of the foregoing risks and uncertainties,
actual results and performance may differ materially from those
projected or suggested herein. Additional information concerning
certain risks and uncertainties that could cause our actual
results to differ materially from those projected or suggested
may be identified from time to time in our Securities and
Exchange Commission filings and our public announcements.






|        |                                                               
|------- | --------------------------------------------------------------
|Item 3. | Quantitative and Qualitative Disclosures
    About Market Risk

We, in the normal course of doing business, are
exposed to interest rate change and market risk. As borrowing
patterns are cyclical, we are not dependent on borrowing
throughout the year. Therefore, a sudden increase in interest
rates (which under the Loan Agreement is dependent on, at the
Companys option, (i) at the adjusted Eurodollar rate
plus the applicable margin, which was set initially at
1.50% per annum, and is currently at 1.25% per annum,
or (ii) at the prime rate less the applicable margin, which
was set initially at and is 0.25% per annum) may, during
peak borrowing, have a negative impact on short-term results.






|        |                        
|------- | -----------------------
|Item 4. | Controls and Procedures

This section has been updated for events and
developments occurring subsequent to the filing of the Original
10-Q through June 4, 2004.

We maintain disclosure controls and procedures
that are designed to ensure that information required to be
disclosed in our Exchange Act reports is recorded, processed,
summarized and reported within the time periods specified in the
SECs rules and forms and that such information is
accumulated and communicated to our management, including our
Chief Executive Officer and Chief Financial Officer, as
appropriate, to allow for timely decisions regarding required
disclosure. In designing and evaluating the disclosure controls
and procedures, management recognizes that any controls and
procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired
control objectives, and management is required to apply its
judgment in evaluating the cost-benefit relationship of possible
controls and procedures.

We regularly evaluate our internal control over
financial reporting and discuss these matters with our
independent accountants, Deloitte & Touche LLP, and our
audit committee. We concluded in May 2004 that there was a
reportable condition (as defined under standards
established by the American Institute of Certified Public
Accountants) in our internal control over financial reporting
relating to the classification of a financing activity on the
cash flow statement. Previously, the change in the cash
overdraft account was classified from year to year in net cash
provided by (used in) operating activities, rather than being
classified in net cash provided by financing activities. The
prior treatment resulted in (i) higher net cash used in
operating activities and higher net cash provided by financing
activities of approximately $2,578,000 for the three months
ended September 27, 2003 and, (ii) lower net cash used
in operating activities and lower net cash provided by financing
activities of approximately $306,000 for the three months ended
September 28, 2002. Although the dollar amounts relating to
the reportable condition were immaterial to our results of
operations, financial condition and liquidity, our management,
the audit committee and our independent accountants reviewed and
analyzed our internal controls, procedures and policies in
response to this reportable condition. As a result, we enhanced
our internal controls over financial reporting, including hiring
additional financing and accounting staff, enhancing the
training of our finance and accounting staff and requiring
periodic review of a wider variety of current technical
accounting literature.

20



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##### Table of Contents



In this Quarterly Report on Form 10-Q/ A, we
have restated our consolidated statements of cash flows for the
three months ended September 27, 2003 and
September 28, 2002 to reflect the cash flow related to our
cash overdraft in the condensed consolidated statements of cash
flows as a financing activity rather than an operating activity.
While the restatement did not have any effect on our operating
or net income or on our condensed consolidated balance sheets,
it did affect two line items in our condensed consolidated
statements of cash flows: (i) accounts payable, accrued
expenses and other current liabilities relating to net cash
provided by (used in) operating activities and (ii) cash
overdrafts relating to net cash provided by financing activities.

As required by Rule 13a-15(b) under the
Exchange Act and in light of the restatement of our condensed
consolidated statements of cash flows, we conducted an
evaluation, under the supervision and with the participation of
our management, including our Chief Executive Officer and our
Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures as of the
end of the period covered by this report and as of June 4,
2004. Based on the foregoing, our management, including our
Chief Executive Officer and Chief Financial Officer, concluded
that the reportable condition had been remediated and that our
disclosure controls and procedures were effective at the
reasonable assurance level as of the end of the period covered
by this report and as of June 4, 2004.

Other than as described above, there has been no
change in our internal control over financial reporting during
the first quarter ended September 27, 2003 that has
materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting. In
addition, other than as described above, since the most recent
evaluation date, there have been no significant changes in our
internal control structure, policies and procedures or in other
areas that could significantly affect our internal control over
financial reporting.




PART II.

OTHER INFORMATION






|        |                  
|------- | -----------------
|Item 1. | Legal Proceedings

This section has been updated for events and
developments occurring subsequent to the filing of the Original
10-K through June 4, 2004.

A lawsuit was filed on September 25, 2001
against us in Los Angeles Superior Court by an assistant manager
in one of our California stores for himself and on behalf of
other members of an alleged class of Party City store managers
(the Class) who claim we misclassified the Class
members as exempt from California overtime wage and hour laws.
The Class members sought the disgorgement of overtime wages
allegedly owed by us to them but not paid and they also sought
punitive damages and statutory penalties.

On March 30, 2004, the parties reached an
agreement-in-principle to settle this lawsuit for
$5.5 million on a claims made basis, which
means that a payout to class members will only occur when claims
are actually made by Class members. Previously, the Company
recorded a pre-tax charge of $1.4 million related to this
lawsuit. In connection with the agreement-in-principle, the
Company recorded an additional pre-tax charge of
$4.1 million during the third quarter of Fiscal 2004 to
fully cover the settlement payments, attorneys fees and
the estimated expenses of administering the settlement. The
settlement provided for pursuant to the agreement-in-principle
is subject to certain conditions, including the negotiation and
execution of a definitive settlement agreement and the approval
of the terms of the definitive settlement agreement by the
Superior Court after notice to the members of the class who have
the right to object. There can be no assurance that all of these
conditions will be satisfied. If a final settlement is not
consummated and the lawsuit is continued, a class is certified,
liability is found and a judgment is entered, such judgment may
adversely affect the Company.

In addition to the foregoing, from time to time
the Company is involved in routine litigation incidental to the
conduct of the business. The Company is aware of no other
material existing or threatened litigation to which the Company
is or may be a party.

21



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##### Table of Contents








|        |                                                                                     
|------- | ------------------------------------------------------------------------------------
|Item 2. | Changes in Securities, Use of Proceeds and
    Issuer Purchases of Equity Securities

None






|        |                                    
|------- | -----------------------------------
|Item 3. | Defaults Upon Senior
    Securities

None






|        |                                                        
|------- | -------------------------------------------------------
|Item 4. | Submission of Matters to a Vote of Security
    Holders

None






|        |                  
|------- | -----------------
|Item 5. | Other Information

None






|        |                                     
|------- | ------------------------------------
|Item 6. | Exhibits and Reports on
    Form 8-K

(a) The exhibits required to be filed as
part of this report on Form 10-Q/A are listed in the
attached Exhibit Index.

(b) Reports on Form 8-K:



| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | The Company furnished a Current Report on
    Form 8-K dated August 29, 2003 in reference to a press
    release dated August 29, 2003 reporting certain information
    regarding the Companys search for a new Chief Executive
    Officer (CEO) after Acting CEO Nancy Pedot announced
    she did not wish to be a candidate for the CEO position on a
    permanent basis. In addition, Franklin R. Johnson had been named
    to the Companys Board of Directors to fill a vacancy
    created by the resignation of director Michael Gatto.
|
| | The Company furnished a Current Report on
    Form 8-K dated August 21, 2003 in reference to a press
    release dated August 21, 2003 reporting certain information
    regarding the Companys sales and earnings results for the
    fourth quarter and fiscal year ended June 28, 2003.                                                                                                                                                                                                                                                           
|
| | The Company furnished a Current Report on
    Form 8-K dated July 15, 2003 in reference to a press
    release dated July 10, 2003 reporting certain information
    regarding the Companys sales results for the fourth
    quarter ended June 28, 2003.                                                                                                                                                                                                                                                                                            

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##### Table of Contents






EXHIBIT INDEX

|        |    |     |  |                                                                                                                                                                                                                                                                                                     
|------- | -- | --- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |    
|No.     |    |    
|        |    |    
|        | 3  | .1  |  | Certificate of Incorporation of the Company,
    incorporated by reference from the Companys Registration
    Statement as amended on Form S-1 Number 333-00350 as
    filed with the Commission on January 18, 1996 (the
    S-1).                                                              
|        | 3  | .2  |  | Bylaws of the Company as amended.                                                                                                                                                                                                                                                                   
|        | 4  | .1  |  | Specimen stock certificate evidencing the Common
    Stock, incorporated by reference from the S-1.                                                                                                                                                                                                 
|        | 4  | .2  |  | Form of Amended and Restated Warrant,
    incorporated by reference from the Companys Current Report
    on Form 8-K as filed with the Commission on
    January 19, 2000 (the January 2000 8-K).                                                                                                
|        | 4  | .3  |  | Form of Securities Purchase Agreement, dated as
    of August 16, 1999, by and between the Company and each of
    the Investors, incorporated by reference from the Companys
    Current Report on Form 8-K as filed with the Commission on
    August 25, 1999 (the August 1999 8-K).          
|        | 4  | .4  |  | First Amendment to Securities Purchase Agreement,
    dated as of January 14, 2000, by and between the Company
    and each of the Investors, incorporated by reference from the
    January 2000 8-K.                                                                                              
|        | 4  | .5  |  | Second Amendment to Securities Purchase
    Agreement, dated as of April 1, 2001, by and among the
    Company and each of the Investors, incorporated by reference
    from the Companys Quarterly Report on Form 10-Q as
    filed with the Commission on May 15, 2001 (the May
    2001 10-Q).
|        | 10 | .1  |  | Form of Unit Franchise Agreement entered into by
    the Company and franchisees, incorporated by reference from the
    S-1.                                                                                                                                                                       
|        | 10 | .2  |  | Option Agreement, dated as of June 8, 1999,
    between Steven Mandell and Jack Futterman, incorporated by
    reference from Amendment No. 1 to Schedule 13D as
    filed by Jack Futterman with the Commission on June 17,
    1999 (Futtermans 13D).                                          
|        | 10 | .3  |  | Stock Pledge Agreement, dated as of June 8,
    1999, between Steven Mandell and Jack Futterman, incorporated by
    reference from Futtermans 13D.                                                                                                                                                
|        | 10 | .4  |  | Amended and Restated Investor Rights Agreement,
    dated as of August 18, 2003, by and among the Company and
    the Investors, incorporated by reference from the Companys
    Annual Report on Form 10-K as filed with the Commission on
    September 26, 2003 (the September 2003 10-K).    
|        | 10 | .5  |  | Description of oral consulting agreement between
    the Company and Ralph Dillon, incorporated by reference from the
    Companys Quarterly Report on Form 10-Q as filed with
    the Commission on February 13, 2001 (the February
    2001 10-Q).                                             
|        | 10 | .6  |  | General Release and Severance Agreement of James
    Shea, dated as of May 28, 2003, by and between the Company
    and James Shea, incorporated by reference from the September
    2003 10-K.                                                                                                     
|        | 10 | .7  |  | Separation Agreement of Andrew Bailen, dated as
    of July 14, 2003, by and between the Company and Andrew
    Bailen, incorporated by reference from the September 2003 10-K.                                                                                                                     
|        | 10 | .8  |  | Separation Agreement of Thomas Larson, dated as
    of August 26, 2002, by and between the Company and Thomas
    Larson, incorporated by reference from the September 2003 10-K.                                                                                                                   
|        | 10 | .9  |  | Employment Agreement of Steven Skiba, dated as of
    November 29, 2002, by and between the Company and Steven
    Skiba, incorporated by reference from the September 2003 10-K.                                                                                                                   
|        | 10 | .10 |  | Employment Agreement of Linda Siluk, dated as of
    November 7, 2003, by and between the Company and Linda M.
    Siluk.                                                                                                                                                                           
|        | 10 | .11 |  | Employment Agreement of Warren Jeffrey, dated as
    of November 7, 2003, by and between the Company and Warren
    Jeffery.                                                                                                                                                                        
|        | 10 | .12 |  | Management Stock Purchase Plan of the Company,
    incorporated by reference from the Registration of Form S-8
    as filed with the Commission on July 23, 2001.                                                                                                                                   
|        | 10 | .13 |  | Employee Stock Purchase Plan of the Company,
    incorporated by reference from the Companys Definitive
    Proxy Statement for the 2001 Annual Meeting of Stockholders,
    included within Form 14-A as filed with the Commission on
    October 18, 2001.                                       
|        | 10 | .14 |  | Amended and Restated 1994 Stock Option Plan,
    incorporated by reference from the Registration of Form S-8
    as filed with the Commission on January 9, 1997.                                                                                                                                   

23



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##### Table of Contents



|        |     |     |  |                                                                                                                                                                                                                                                                                                                                                                                                                                  
|------- | --- | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |     |    
|No.     |     |    
|        |     |    
|        | 10  | .15 |  | 1999 Stock Incentive Plan (Amended and Restated
    as of October 25, 2000), incorporated by reference from the
    February 2001 10-Q.                                                                                                                                                                                                                                                                                          
|        | 10  | .16 |  | Loan and Security Agreement (the Loan
    Agreement), dated January 9, 2003, by and between the
    Company and Wells Fargo Retail Finance, LLC (WFRF),
    as the arranger, collateral agent and administrative agent, and
    Fleet Retail Finance, Inc., as the documentation agent,
    incorporated by reference from the Companys Current Report
    on Form 8-K as filed with the Commission on
    January 10, 2003.
|        | 10  | .17 |  | Stock Pledge Agreement, dated January 9,
    2003, by and among the Company, Party City Michigan, Inc.
    (PCMI) and WFRF, as the arranger, collateral agent
    and administrative agent for the lender group under the Loan
    Agreement, incorporated by reference from the September 2003
    10-K.                                                                                                                      
|        | 10  | .18 |  | Trademark Security Agreement, dated
    January 9, 2003, by and between the Company and WFRF, as
    the arranger, collateral agent and administrative agent for the
    lender group under the Loan Agreement, incorporated by reference
    from the September 2003 10-K.                                                                                                                                                      
|        | 10  | .19 |  | Copyright Security Agreement, dated
    January 9, 2003, by and between the Company and WFRF, as
    the arranger, collateral agent and administrative agent for the
    lender group under the Loan Agreement, incorporated by reference
    from the September 2003 10-K.                                                                                                                                                      
|        | 10  | .20 |  | Guaranty and Security Agreement, dated
    January 9, 2003, by and between PCMI and WFRF, as the
    arranger, collateral agent and administrative agent for the
    lender group under the Loan Agreement, incorporated by reference
    from the September 2003 10-K.                                                                                                                                                          
|        | *15 | .1  |  | Awareness Letter of Deloitte & Touche
    LLP.                                                                                                                                                                                                                                                                                                                                                                                   
|        | 21  | .1  |  | Subsidiaries. The wholly owned subsidiary of the
    Company is Party City Michigan, Inc. incorporated on
    October 23, 1997, in the State of Delaware. This subsidiary
    does business under the name Party City Michigan, Inc.                                                                                                                                                                                             
|        | *31 | .1  |  | Certification of Chief Executive Officer pursuant
    to 18 U.S.C. Section 1350, as adopted pursuant to
    Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                       
|        | *31 | .2  |  | Certification of Chief Financial Officer pursuant
    to 18                                                                                                                                                                                                                                                                                                                                                                      
|        |     |     |  | U.S.C. Section 1350, as adopted pursuant to
    Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                   
|        | *32 | .1  |  | Certification of Chief Executive Officer pursuant
    to 18 U.S.C. Section 1350, as adopted pursuant to
    Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                       
|        | *32 | .2  |  | Certification of Chief Financial Officer pursuant
    to 18 U.S.C. Section 1350, as adopted pursuant to
    Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                       



---



|  |                 
|- | ----------------
|* | Included herein.

24



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##### Table of Contents






SIGNATURES

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



| |                       
| | ----------------------
| | PARTY CITY CORPORATION



| |    |                
| | -- | ---------------
| | By | /s/ NANCY PEDOT

| |                        
| | -----------------------
| |                        
| | (Nancy Pedot)          
| | Chief Executive Officer



| |    |                   
| | -- | ------------------
| | By | /s/ LINDA M. SILUK

| |                        
| | -----------------------
| |                        
| | (Linda M. Siluk)       
| | Chief Financial Officer

Date: July 9, 2004

25



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##### Table of Contents



REPORT OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM

To the Board of Directors and Stockholders of

Party City Corporation


Rockaway, New Jersey


We have reviewed the accompanying condensed
consolidated balance sheets of Party City Corporation and
subsidiary as of September 27, 2003 and September 28,
2002, and the related condensed consolidated statements of
operations and of cash flows for the period then ended. These
interim financial statements are the responsibility of the
Companys management.

We conducted our review in accordance with
standards of the Public Company Accounting Oversight Board
(United States). A review of interim financial information
consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an
audit conducted in accordance with standards of the Public
Company Accounting Oversight Board (United States), the
objective of which is the expression of an opinion regarding the
financial statements taken as a whole. Accordingly, we do not
express such an opinion.

Based on our review, we are not aware of any
material modifications that should be made to such condensed
consolidated interim financial statements for them to be in
conformity with accounting principles generally accepted in the
United States of America.

We have previously audited, in accordance with
standards of the Public Company Accounting Oversight Board
(United States), the consolidated balance sheet of Party City
Corporation and subsidiary as of June 28, 2003, and the
related consolidated statements of income, shareholders
equity, and cash flows for the year then ended (not presented
herein); and in our report dated August 21, 2003
(June 30, 2004 as to the effects of the restatement
discussed in Note 17), we expressed an unqualified opinion
(which reports contain an explanatory paragraph that describes
the adoption of a new accounting pronouncement) on those
financial statements. In our opinion, the information set forth
in the accompanying consolidated balance sheet as of
June 28, 2003 is fairly stated, in all material respects,
in relation to the consolidated balance sheet from which it has
been derived.

As discussed in Note 11, the condensed
consolidated statements of cash flows for the three-month
periods ended September 27, 2003 and September 28,
2002 have been restated.



| |                      
| | ---------------------
| | DELOITTE & TOUCHE LLP

Parsippany, New Jersey

November 5, 2003 (June 30, 2004 as to
the effects


of the restatement discussed in Note 11)


26