UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                    FORM 10-K

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

                     For the fiscal year ended June 30, 2002

                                       OR

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

           For the transition period from ___________ to _____________

                                AKI HOLDING CORP.
             (Exact name of registrant as specified in its charter)

                        Commission File Number: 333-60991

            Delaware                                           74-288316
 (State or other jurisdiction of                            (I.R.S. Employer
  incorporation or organization)                           Identification No.)


                                    AKI, INC.
             (Exact name of registrant as specified in its charter)

                        Commission File Number: 333-60989

            Delaware                                           13-3785856
 (State or other jurisdiction of                            (I.R.S. Employer
  incorporation or organization)                           Identification No.)

                              1815 East Main Street
                              Chattanooga, TN 37404
                                 (423) 624-3301
     (Address, including zip code and telephone number, including area code,
                        of principal executive offices)


           Securities Registered Pursuant to Section 12(b) of the Act:
                                      None.

           Securities Registered Pursuant to Section 12(g) of the Act:
                                      None.


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Indicate  by check mark  whether  the  registrants  (1) have  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) have been subject to such
filing requirements for the past 90 days. (X) Yes ( ) No

As of  September  17, 2002,  1,000 shares of common stock of AKI Holding  Corp.,
$0.01 par value, were outstanding and 1,000 shares of common stock of AKI, Inc.,
$0.01 par value, were outstanding.

Indicate  by check mark if  disclosure  of  delinquent  filers is not  contained
herein,  and will not be contained,  to the best of registrants'  knowledge,  in
definitive proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form 10-K. (X)

AKI, Inc. meets the requirements set forth in General Instruction I 1(a) and (b)
of Form 10-K and is therefore filing this form with reduced disclosure format.

                      DOCUMENTS INCORPORATED BY REFERENCE:

                                      None.


<PAGE>


     As used within this report, the term "company" refers to AKI Holding Corp.,
a Delaware  corporation,  and its subsidiaries,  including AKI, Inc., a Delaware
corporation ("AKI"). The term "Holding" refers solely to AKI Holding Corp.

                                     PART I

     Part I is  presented  with  respect  to both  registrants  submitting  this
filing, Holding and AKI.

ITEM 1.  BUSINESS

GENERAL

     Our Company is a leading global marketer and manufacturer of multi-sensory,
interactive  advertising and sampling systems that utilize various  technologies
that engage the senses of touch, sight and olfactory.  Our sampling vehicles are
widely recognized in the fragrance,  cosmetics and personal care industries,  as
well as the  household  products and food and beverage  industries.  We offer an
extensive  portfolio of proprietary,  patented and  patent-pending  technologies
that can be incorporated  into various  advertising  media designed to reach the
consumer  at home  or  in-store,  such as  magazine  inserts,  catalog  inserts,
remittance envelopes,  statement enclosures,  blow-ins, direct mail, direct sell
and   point-of-sale   materials  and   gift-with-purchase/purchase-with-purchase
programs.

     We are a fully integrated  multi-sensory  advertising and sampling company,
conducting our business under the Arcade  Marketing name. We believe that we are
well  positioned  to provide  complete,  interactive  advertising  and  sampling
programs to our customers, including creative content and product sample systems
and distribution.

     We believe product  sampling is one of the most effective,  widely used and
fastest growing forms of promotional activity.  Product sampling is particularly
crucial to the fragrance and cosmetics industries where consumers  traditionally
"try  before they buy" due to the highly  personal  nature of the  products.  We
believe that our introduction in 1979 of the  ScentStrip(R)  Sampler,  the first
pull-apart,  microencapsulated scent sampling system,  transformed the fragrance
sampling industry.  By combining  advertising with a sampling system,  marketers
were afforded the first  cost-effective  means to reach consumers in their homes
on a mass scale.  We have a diverse  portfolio  of  alternative  scent  sampling
systems,  all designed for cost-effective mass distribution,  and we continue to
be a leading innovator in sampling system technologies.

     In  recent  years,  we  have  expanded  our  sampling  system  business  by
developing and acquiring new  technologies  in the olfactory and beauty sampling
system categories. Although product sampling is critical to the success of these
markets,  sampling programs for these products historically have been too costly
for mass  production  and  incapable  of  efficiently  being  incorporated  into
magazines,  catalogs,  direct  mail  and  other  printed  vehicles.  Many of our
innovative sampling systems are designed to fill the needs of these marketers by
providing a cost-effective  means of reaching consumers in their homes on a mass
scale with quality  renditions of skincare  products,  foundation,  lipstick and
cosmetic powders. Management


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believes  that our  innovative  sampling  systems have altered the economics and
efficiencies of product sampling in the cosmetics market.

     In December 1997, DLJ Merchant  Banking Partners II, L.P. and other related
investors (collectively,  "DLJMBII") and certain members of our prior management
organized AHC I Acquisition Corp., a Delaware  corporation  ("AHC"),  to acquire
all of the outstanding  equity interests of AKI. Holding was formed as a holding
company  in 1998 and its only  significant  asset is the  capital  stock of AKI.
Holding conducts all of its business through AKI. As of August 31, 2002, DLJMBII
owned approximately 98.8% of the outstanding common stock of AHC.

     On November 6, 2000,  Credit  Suisse Group  completed the merger of Diamond
Restructuring Corp., an indirect wholly owned subsidiary of Credit Suisse Group,
with and into Donaldson,  Lufkin & Jenrette,  Inc.  ("DLJ").  As a result of the
merger,  DLJ is now an indirect  subsidiary of Credit Suisse First Boston,  Inc.
("CSFB").  All  references  to DLJ in this  annual  report on Form 10-K refer to
entities now controlled by or affiliated with CSFB.

     On September 15, 1999, we acquired all of the issued and outstanding shares
of capital stock of RetCom Holdings Ltd. ("RetCom"), a Delaware corporation, and
refinanced  $4.5  million  indebtedness  of  RetCom  and its  subsidiaries.  The
acquired  businesses  of RetCom  and its  subsidiaries  include a  portfolio  of
proprietary,  patented  and  patent-pending  sampling  systems  catering  to the
fragrance, cosmetics and personal care industries, as well as microencapsulation
products  and   processes.   Such  sampling   systems   include   MicroSilk(TM),
MicroDot(TM)  and  Aromalacquer(TM).  The  acquired  businesses  also  include a
creative service division that engages in marketing communications and catalogs.

     On December 18, 2001, we acquired, through a newly formed subsidiary,  IST,
Corp., the business including certain assets and assumed certain  liabilities of
Color  Prelude,   Inc.  (such  business  referred  to  hereafter  as  "CP").  CP
manufactures  interactive  advertising  and  sampling  products for cosmetic and
consumer products companies. The acquired business offers proprietary,  patented
and  patent-pending  sampling  systems  including  the  ShadeSeal(R)  family  of
products primarily for lipstick and powder sampling,  BeautiPak(TM) for sampling
certain lipstick  products,  LiquiSeal(TM) for sampling skin care and foundation
products,   PowdaScent(TM)   for  the   sampling  of   fragrance   products  and
SelectaShade(TM)  which  is  a  unique  beauty  tool  for  shade  selection  for
foundation.

PRODUCTS

     We offer a broad  and  diversified  portfolio  of  innovative,  interactive
sampling  systems and  advertising  formats  for the  fragrance,  cosmetics  and
personal care markets as well as other  consumer  products  markets and the food
and beverage markets.  Our major  technologies are described below,  including a
description  of the patent  protection of each product  technology.  Each of our
sample  systems is generally sold to the same category of  manufacturers  of the
product being advertised.


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OLFACTORY SAMPLING SYSTEMS

     Our diverse portfolio of fragrance  sampling systems,  which uses a variety
of  proprietary  chemistries  and  processes,  historically  has  represented  a
significant portion of our annual sales. While  ScentStrip(R)  continues to be a
widely  used  technology  for  sampling  products  for the  fragrance  industry,
management  believes that our new and recently  acquired  sampling  systems have
enabled us to maintain a  competitive  advantage  and affirm our  position as an
innovator in the sampling industry. In recent years, our products have been used
in many major new fragrance launches that have utilized sampling systems.

     o    ScentStrip(R):  A proprietary  technology introduced by our Company in
          1979,  ScentStrip(R)  is  microencapsulated  essential  oil  deposited
          between  two layers of paper  which  "snap"  open to release a quality
          fragrance   rendition.   ScentStrip(R)   can  deliver   quality  aroma
          renditions of fine  fragrance,  personal  care,  sun care and consumer
          products.  ScentStrip(R)  is  available  in  many  formats,  including
          magazine and catalogue  inserts,  blow-ins,  enclosures and remittance
          envelopes,  among  others,  all of which can be  customized to include
          multiple fragrances in ScentStrip(R) form.

     o    ScentStrip(R) Plus: Combines the traditional ScentStrip(R) format with
          perfume  "pearls"  in  a  proprietary  technology  wherein  powder  is
          deposited  between  two layers of paper that "snap" open to deliver an
          olfactory sample and wearable on-skin trial when "pearls" are touched.

     o    DiscCover(R):  A peel-and-reveal,  non-encapsulated  patented sampling
          system that opens and reseals, delivering a quality aroma rendition up
          to 25 times. This technology is  color-printable,  affixable to nearly
          any surface, including plastic and glass, and can be die-cut in nearly
          any shape and size.  This technology  keeps fragrance  locked-in until
          "lift off" with no  pre-release  and can be utilized not only for fine
          fragrances  but can deliver a quality  aroma for a variety of personal
          care products in addition to food and beverage products.

     o    DiscCover(R)More:  This  patented  sampling  system  offers all of the
          attributes of the original DiscCover(R) technology enhanced to offer a
          single, wearable, on-skin trial of the fragrance.

     o    ScentSeal(R): A patented,  pouch-like,  pressure sensitive format that
          incorporates a product rendition  deposited between two layers of foil
          laminate.   When   pulled   open,   ScentSeal(R)   reveals   a  moist,
          alcohol-based gel applicable to skin for wearable-trial.  ScentSeal(R)
          can contain quality  fragrance,  fragrance  ancillary or personal care
          product  renditions.  The product offers  customers the opportunity to
          deliver  moist,  on-skin  trial via its "wet  delivery  system" and is
          available  in many  shapes and sizes  compatible  with brand image and
          creative design.

     o    LiquaTouch(R):  This  patented  technology  delivers  a  rendition  of
          finished  fragrance  product (e.g., eau de parfum,  eau de toilette or
          after  shave),  any liquid  treatment  or  personal  care  product and
          contains an applicator. LiquaTouch(R) is hermetically sealed


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          with no  pre-release  and  delivers a spill proof trial of any alcohol
          formulated fragrance product.  The product is available in a single or
          dual chamber  pressure-sensitive  format  and has been approved by the
          U.S.  Postal  Service  for  subscription  magazine  periodical  rates.
          LiquaTouch(R)  is also  available  in  a stand-alone version, which is
          a  cost-effective  alternative to fragrance vials.

     o    MicroDot(TM):   A  proprietary   technology,   uses  microencapsulated
          fragrance oil, delivered in powder form,  deposited between two layers
          of paper which pull apart to deliver superior on-skin fragrance trial.
          The  technology  is  available as a stand alone  product,  as pressure
          sensitive labels or as pressure sensitive labels on perforated sheets.

     o    PowdaScent(TM):   A  patented  technology  in  which  an  encapsulated
          fragrance oil, in a powder format,  is  hygienically  sealed between a
          board stock and a see-thru layer of transparent film. This transparent
          film displays the powder which can be produced in any size,  shape and
          color.  Once peeled  open,  and the  capsules  are  touched,  an aroma
          rendition is delivered.

     o    AromaLacquer(TM):  Scented  varnish  that  delivers a  superior  aroma
          rendition of nearly any  fragrance,  personal care,  household,  food,
          beverage, pharmaceutical or novelty product. When rubbed or scratched,
          AromaLacquer(TM) releases the aroma rendition.

     o    Microfragrance(R)  Scratch  `n  Sniff:   Microfragrance  capsules  are
          applied  to paper or  stickers  which  affix to  nearly  any  surface,
          delivering an accurate  aroma  rendition of any product where scent is
          part of the message such as flowers,  shampoos, etc. When the sampling
          system is  scratched,  capsules  release a  quality  aroma  rendition.
          Through a strategic  relationship with the 3M Company,  the product is
          also available  applied to the familiar 3M Post-it(R) Notes to deliver
          an aroma rendition of almost any scent.

BEAUTY SAMPLING SYSTEMS

     Our  portfolio  also  includes   non-fragrance  sampling  system  products,
primarily for the beauty industry,  which represent a growing  percentage of our
sales.  These sampling  systems are utilized to sample cosmetics and beauty care
products including foundation,  creams and lotions, lipstick and powders. Almost
all of these  sampling  systems have been designed to meet U.S.  Postal  Service
approval for subscription magazine periodical rates.

     o    BeautiSeal(R): A proprietary, patented technology is a sampling system
          for quality  renditions  of creams,  lotion or gel products  which are
          deposited between the foil layers of a heat-sealed, pressure sensitive
          well.  BeautiSeal(R)  is  hermetically  sealed,  designed to withstand
          significant  pressure and is approved by the U.S.  Postal  Service for
          subscription  magazine  periodical  rates.  BeautiSeal(R)  can contain
          renditions of liquid  foundation,  as well as creams,  lotions and gel
          treatment  and  personal  care  products  such  as  moisturizers,  eye
          treatments,  body,  hand and foot lotions and hair


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          gel, among  others.  BeautiSeal(R) is ideal for magazine and catalogue
          inserts, bind-in cards, direct mailers, brochures and in-store handout
          and regimen cards.

     o    ActiSeal(TM):  A patented technology,  with characteristics similar to
          BeautiSeal(R)  , which is peeled  open to reveal two  adjacent  wells,
          each well containing a formula component which are blended together by
          the consumer upon application.

     o    LiquiSeal(TM):  A patented clear top packette which can be utilized to
          sample  liquid,  cream,  lotion or gel  products.  The patented  clear
          laminate  has unique  barrier  characteristics  which allow it to pass
          stringent stability tests. The product sample can contain makeup, hair
          care, skin care,  fragranced  ancillaries  and body care,  among other
          products.

     o    PowdaTouch(R): A proprietary, patented technology is a sampling system
          wherein  cosmetic  powder is  deposited  between  two layers of paper,
          die-cut with a tab that lifts up to reveal the powder  rendition area.
          PowdaTouch(R)  can contain  quality  renditions of eye shadow,  powder
          blush, face powder or bronzer. PowdaTouch(R) is ideal for magazine and
          catalogue  inserts,  blow-ins,  and bind-in  cards among others and is
          approved by the Postal Service for  subscription  magazine  periodical
          rates.

     o    ShadeSeal(R): This patented technology is used to sample renditions of
          cosmetic powders or lip products.  The product  rendition is deposited
          between two substrates  which pull apart to offer a trial sample while
          a  transparent  "window"  displays  the  shade.  This  product  can be
          utilized in many  different  formats to  accommodate  either  multiple
          shades or a variety of cosmetic  products  including both long-lasting
          and conventional lipsticks.

     o    LipSeal(R):  A patented  technology  with  characteristics  similar to
          BeautiSeal(R)  this  product  provides  a  sampling  system  wherein a
          lipstick rendition is deposited into the well of a  pressure-sensitive
          format that easily pulls apart to offer user-friendly, hygienic trial.
          LipSeal(R)  offers trial of any lipstick shade,  finish and texture in
          any lipstick formula, including long-lasting formulas.

     o    BeautiPak(TM):  A proprietary "windowed" sampling system for a variety
          of  lipstick  formulations.  Product  is  sealed  into  one  well of a
          thermoformed  "tray" while a second well  contains a flocked  lipstick
          applicator.

     o    BeautiTouch(R)  Multi-Well  Sampler:  A  proprietary,   patent-pending
          technology,  is a sampling system for cream,  lotion,  lipstick or gel
          product renditions which are deposited into individually-sealed,  foil
          laminate "pouches". Heat-sealed "pouches" which share a common backing
          easily  pull apart to provide  trial of multiple  shades or  formulas.
          BeautiTouch(R)   offers  ideal,   multiple  shade   demonstration   by
          delivering  trial of 8, 10, 12 or more  foundation  shades on a single
          carrier with no cross-contamination.


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     o    SelectaShade(TM):   A  proprietary   beauty  tool  used  to  determine
          foundation  shades that precisely match  consumers'  skin tones.  This
          transparent  strip of polyester film is printed with special inks that
          replicate foundation shades exactly.  When  SelectaShade(TM) is placed
          against  face or hand,  the shade that best matches the users own skin
          will become  invisible on the chart to give each  consumer an accurate
          shade match.

OTHER PRODUCTS & SERVICES

     o    Arcade Direct: This full service division of our Company offers a full
          range of  creative  services  to our  customers  in the  cosmetic  and
          fragrance  industry,  and has  established a niche presence in various
          industries including retail and specialty stores,  fashion catalogues,
          buying  offices,  direct  marketers,  hotels and spas.  This dedicated
          division offers complete turnkey marketing and creative services up to
          and including electronic production.

     o    Arcade  Product   Technologies:   This  division  employs  proprietary
          chemistries to manufacture  and market  microencapsulated  ingredients
          used in the formulation of various  personal care products.  Fragrance
          oil,  whether   customer-supplied   or  selected  from  our  Company's
          extensive aroma library,  can be encapsulated  using these proprietary
          systems and supplied in powder form,  resulting in a scent that can be
          renewed as the capsules are sheared. In addition, the technologies can
          be used to encapsulate a wide range of cosmetic formulation  materials
          which provide consumers with additional,  longer-lasting  benefits due
          to ingredients  that re-release  over time and which enhance  texture,
          application and overall product stability.

FORMATS

         Mail Formats

     We  produce a wide and  versatile  range of  formats  approved  by the U.S.
Postal  Service  for  subscription  magazine  periodical  rates and which can be
incorporated  into  almost any print  media.  The most  common  formats  for our
products are described below.

     Magazine Inserts:  Magazine inserts are available in half-, full-, two- and
four-page  formats,  can be  die-cut,  can  contain  nearly all of our  sampling
systems and are the most commonly produced among our sampling formats.

     Catalog  Inserts:  Full color formats can be produced in a variety of sizes
and inserted into retail or mail order catalogs. Catalog inserts can be produced
with or without an  attached  envelope,  provided  to  facilitate  the return of
merchandise  order forms to the store. We have the ability to create and produce
special  formats,  to custom imprint with store  information  and to incorporate
most of our sampling systems.

     Remittance Envelopes:  Remittance envelopes,  which are inserted into store
statement mailings, can be customized with a store logo and can be produced with
or without sampling


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systems.  We believe that we are the only company in the sampling  industry that
can produce remittance envelopes in-house. Remittance envelope production, which
is a highly  customized  service  business,  reinforces  our position as a fully
integrated enterprise.

     Statement Enclosures: Statement enclosures are available in various formats
and sizes.  Fragrance  statement  enclosures may contain a single scent in their
fold,  one or two scents under the  fragrance  panel,  or they may be die-cut so
that the fragrance can be sampled by removing the desired die shape.  Enclosures
are normally  imprinted  with store logo and product  pricing  information.  The
six-inch format is our design and has become the leading industry format.

     Blow-ins:  Blow-ins,  which are  available  in all formats  and sizes,  can
accommodate  nearly all of our sampling  systems and are loosely inserted (blown
in) rather than bound into store catalogues, newspapers and magazines.

     Direct Mail:  Full color,  direct mail formats can be produced in a variety
of sizes,  weights and designs,  including  single,  double and triple folds, as
well as standard and oversized postcards.  Direct mailers can be customized with
store or  manufacturer  logo and can  accommodate  virtually all of our sampling
technologies.

         Other Formats

     Direct  Sell:  Many of our  Company's  sampling  systems are widely used in
direct  sales  campaigns.  Beauty  companies,  whose  treatment,   cosmetic  and
fragrance products are sold directly to the consumer by representatives, use our
sampling technologies to promote their product offerings.

     Point-of-Sale Materials: We have made significant advances in replacing and
expanding  current methods of in-store cosmetic and fragrance  sampling.  Due to
the lower cost and design  flexibility of our products,  marketers have expanded
the number  and type of  in-store  vehicles.  Working  in  partnership  with our
customers,  new  and  creative  formats  have  been  developed.   These  formats
incorporate many of our sampling systems and items such as postcards,  stickers,
wristbands, bookmarks and CD inserts. Many of our other technologies,  including
LiquaTouch(R),  BeautiSeal(R),  BeautiPak(TM),  MicroDot(TM),  LiquiSeal(TM) and
PowdaTouch(R) are becoming more widely accepted for point-of-sale handouts as an
alternative to more traditional sampling methods and for salable unit doses.

     Gift-with-Purchase/Purchase-with-Purchase  Programs:  Many of our fragrance
and cosmetic  customers promote new product offerings with our sampling systems.
LiquaTouch(R)  stand  alones and  DiscCover(R)More  offer  single,  long-lasting
wearable  fragrance  trial  samples.  BeautiPak(TM)  gives the  consumer  a full
application  of a  lipstick  formula or shade and  LiquiSeal(TM)  can be used to
offer a full application of up to four foundation or treatment product samples.

INTELLECTUAL PROPERTY

     We  currently  hold  patents  covering the  proprietary  processes  used to
produce  many of our  products  in both the  United  States  and abroad and have
submitted  applications  for  many  of  our  manufacturing  processes.  We  have
trademarks registered in the United States and we have


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also filed and  registered  trademarks  in over 15  countries  around the world,
including countries in the European Union, Australia, Japan and Brazil.

     We have ongoing research  efforts and expect to seek additional  patents in
the future  covering  results  of our  research.  We cannot  assure you that any
pending patent applications filed by our Company:

     o    will  result  in  patents  being  issued  or that any  patents  now or
          hereafter  owned  by  our  Company  will  afford  protection   against
          competitors with similar technology;

     o    will not be infringed upon or designed around by others; or

     o    will  not  be   challenged   by  others  or  held  to  be  invalid  or
          unenforceable.

     In addition,  many of our  manufacturing  processes  are not covered by any
patent or  patent  application.  As a  result,  our  business  may be  adversely
affected by competitors who  independently  develop  technologies  substantially
equivalent to those employed by our Company.

CUSTOMERS

     We sell our products to prestige and mass cosmetic,  fragrance and consumer
products  companies,  department  stores,  home shopping retailers and specialty
retailers including Avon Products,  Inc., Calvin Klein Cosmetics (Unilever plc),
Chanel, Inc., Coty, Inc.,  Cosmair/L'Oreal  S.A., Elizabeth Arden, Estee Lauder,
Inc., Mary Kay,  Victoria's Secret Beauty and The Procter & Gamble Company.  Our
top ten customers accounted for approximately 69% of sales in fiscal 2002. Estee
Lauder and Mary Kay were the only  customers  that  accounted for 10% or more of
net sales in fiscal 2002. We believe that our technical expertise, manufacturing
reliability and customer support  capabilities have enabled us to develop strong
relationships  with our customers.  We employ sales and marketing  personnel who
possess the requisite technical backgrounds to communicate effectively with both
prospective customers and our manufacturing personnel. Historically, we have had
long-term relationships with our major customers.

SALES AND MARKETING

     Our sales and  marketing  efforts are  organized  geographically.  The U.S.
sales group is supervised by our Senior Vice President of U.S. Sales,  while our
European sales executives are based in Paris, France and London, England and are
managed by an executive based in Paris,  France. We also have representatives in
Australia,  Brazil,  Canada, Mexico and Japan. Each sales executive is dedicated
to a certain number of identified  customers.  In addition,  these sales efforts
are supported by production managers/customer service representatives, which are
based in  Chattanooga,  Tennessee,  Baltimore,  Maryland  and Paris,  France.  A
portion of the compensation for sales executives is commission-based.

     Our marketing  activities  include direct contact with senior executives in
the  cosmetic  and  fragrance  industry,  major  support of industry  events and
extensive joint marketing programs with magazines,  retailers and oil houses. We
also provide press coverage in industry trade


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publications,  attend industry  seminars,  advertise in trade  publications  and
sponsor promotional pieces. In addition, we focus our sales efforts toward three
principal groups within our customers'  organizations  that management  believes
influence our customers' purchasing decisions:

     o    marketing,  which selects the sampling system technology and typically
          controls the promotional budget;

     o    product development,  which approves our sampling system rendition and
          conducts stability testing; and

     o    purchasing,  which  buys  the  sampling  system  pieces  and  controls
          quality.

     Management believes that as the pressure for creativity increases with each
new product  introduction,  cosmetic and fragrance  marketers  are  increasingly
looking for their vendors to contribute to the overall  strategy-building effort
to introduce a new product.  Our  executives  routinely  introduce  new sampling
system formats and ideas based on our technologies to the marketing  departments
of our customers.  Our in-house creative and marketing know-how,  as well as our
complete product line of sampling  technologies  provides customers with maximum
flexibility in designing promotional programs.

MANUFACTURING

     Our manufacturing  processes are highly technical and largely  proprietary.
Our sampling systems must meet demanding  performance  specifications  regarding
fidelity to the product being  sampled,  shelf life,  resistance to pressure and
temperature  variations  and  various  other  requirements.   Our  manufacturing
processes are composed of one or more of the following:

     o    formulating  cosmetic and fragrance product renditions in our in-house
          laboratories;

     o    printing advertising pages and other media;

     o    manufacturing the sampling product,  which consists of either applying
          an  encapsulated  slurry onto paper or producing  sampling labels that
          contain fragrance or other cosmetic product renditions; and

     o    affixing our label products onto a preprinted advertising carrier.

     ISO 9001  Registration:  During 2001, the  International  Organization  for
Standardization awarded three of the Company's manufacturing facilities with ISO
9001 registration.  These facilities produce many of the Company's  proprietary,
patented and patent-pending  products,  as well as several of our other sampling
systems.  The  registration  was  awarded  following  an  extensive  examination
incorporating  20 elements that outline the  requirements  for  documenting  and
implementing  our Company's  overall  philosophy as it pertains to quality,  its
policies,  systems and  procedures.  The ISO standards  serve as guidelines  for
businesses  interested in assuring that their processes  result in products that
reflect the highest level of quality. The ISO


                                       9


<PAGE>


9001  section  of the series  applies to  organizations  that  design,  develop,
produce, install and service products.

     Management  believes that our formulation  capabilities are the best in the
cosmetics and fragrance  sampling  industry.  The formulation  process is highly
complex  because we strive to replicate  the  fragrance of a product in a bottle
containing an alcohol solution.  Formulation  approval is an interactive process
between  our  Company  and  our  customers.  We have  more  than  125  different
proprietary    formulations   that   we   utilize   in   replicating   different
characteristics of over 500 fragrances to obtain a customer-approved  rendition.
A number of these  formulations are patented and the majority of the formulation
process is based on unique and proprietary methods. Formulation of the fragrance
and cosmetic product  rendition is performed under very strict tolerances and in
complete   conformity  to  the  formula  that  the  customer  has  pre-approved.
Formulation is conducted in our specially designed  formulation  laboratories by
trained specialists.

     The artwork for substantially all printed pieces is typically  furnished by
the customer or its advertising agency. Our digital prepress department utilizes
state-of-the-art  technology  to receive  customer-supplied  computer  disks and
transfers this material  directly to our printing plates. We have the capability
to produce high quality printed materials, including the covers of major fashion
magazines, in connection with fragrance sampling systems.

     Our formulated offset paper samplers  (ScentStrip(R),  ScentStrip(R)  Plus,
PowdaTouch(R)) are produced in our primary facility in Chattanooga, Tennessee in
a  continuous  in-line  operation.  Our  formulated  letterpress  or flexo label
samplers (DiscCover(R),  BeautiSeal(R),  LipSeal(R), LiquaTouch(R)) are produced
on specially  modified label and finishing  equipment in our second  Chattanooga
facility while the Microfragrance(R)  Scratch `n Sniff operation is conducted in
a third facility in  Chattanooga,  Tennessee.  Our  specialized  screen printing
manufacturing   process  which  produces  our  ShadeSeal(R)  and  PowdaScent(TM)
technologies  takes place in our facility in  Baltimore,  Maryland.  In addition
BeautiPak(TM) our proprietary  thermoformed  technology for sampling lipstick is
produced  in our  Baltimore,  Maryland  facility.  At each  facility,  a 24-hour
quality control function and hourly accountability  provide significant value to
our customers' product development personnel,  who are typically responsible for
sample  system  quality.  In addition to the patents  pending on a number of our
manufacturing  processes, we use a number of proprietary techniques in producing
label samplers.  Similar to the formulated  paper  operation,  sampling  quality
control  personnel  evaluate  all  sample  systems  by  roll  and  provide  full
accountability for our production.

     We also have  agreements  with  North  American,  European  and  Australian
printers and labelers,  that we contract with to produce some  materials for our
customers.  These arrangements are typically utilized when foreign  distribution
is required or demand exceeds our internal capacity.  Each of these arrangements
is protected by non-competition agreements.

     Both our Chattanooga and Baltimore operations have been awarded The Procter
& Gamble Triple Pinnacle  Award,  which is presented to companies as recognition
for having met certain quality requirements and having demonstrated  outstanding
quality  assurance.  Both  operations are also registered with the Food and Drug
Administration  for the packaging of


                                       10


<PAGE>


regulated  cosmetic  products and we maintain  environmentally  controlled  cGMP
(current good manufacturing practice) compliant facilities.

SOURCES AND AVAILABILITY OF RAW MATERIALS

     Generally,  the raw materials used by our Company in the  manufacturing  of
our products have been readily  available from numerous  suppliers and have been
purchased by our Company at prices that we believe are competitive. However, our
encapsulated  paper products  utilize specific grades of paper which we purchase
primarily   from  one   manufacturer.   These  paper  products  are  subject  to
comprehensive  evaluation and  certification by us for quality,  consistency and
fit.  Some of our  laminates  are  purchased  from single  sources under certain
specifications.  We have not experienced  any material  supply  shortages in the
past, nor are any anticipated.

COMPETITION

     Our competitors,  some of whom have substantially greater capital resources
than our Company, are actively engaged in manufacturing  products similar to, or
in  competition  with,  our products.  Competition  in our markets is based upon
product  quality,  product  technologies,   customer  relationships,  price  and
customer  service.  Our  principal  competitors  in the  printed  fragrance  and
cosmetic samplers market are the fragrance  division of Vertis,  Inc.,  Orlandi,
Inc., Delta Graphics,  Inc., Nord'est,  Marietta Corp., Klocke,  Rotakan,  Manka
Creations  and  Appliquesence.  We also compete with numerous  manufacturers  of
miniatures,  vials,  packets,  sachets,  blister  packs  and  scratch  and sniff
products.  In addition,  some cosmetics  companies produce sampling products for
their own cosmetic  products.  We also compete with numerous other marketing and
advertising venues for marketing dollars our customers allocate to various types
of advertising,  marketing and promotional efforts such as print, television and
in-store promotions.

ENVIRONMENTAL AND SAFETY REGULATION

     Our operations are subject to extensive  laws and  regulations  relating to
the storage, handling, emission,  transportation and discharge of materials into
the environment  and the  maintenance of safe  conditions in the workplace.  Our
policy is to comply with all legal  requirements  of  applicable  environmental,
health  and  safety  laws and  regulations.  We  believe  that we are in general
compliance  with such  requirements  and have  adequate  professional  staff and
systems in place to remain in  compliance,  although  there can be no assurances
that this is the case. We consider  costs for  environmental  compliance to be a
normal cost of doing business and include such costs in pricing decisions.

EMPLOYEES

     As of August 31, 2002, we employed 497 persons,  which  included 287 hourly
and 210 salaried and management  personnel.  A substantial  number of our hourly
employees are  represented by the Graphics  Communications  International  Union
(GCIU) local 197-M.  Management  considers  our  relations  with the union to be
good.  The current union contract was signed in April 1999 and will be in effect
through March 31, 2003.


                                       11


<PAGE>


                                  RISK FACTORS

Our substantial  indebtedness and restrictive  covenants imposed by the terms of
our  indebtedness  could  adversely  affect  our cash flow and  prevent  us from
fulfilling our obligations under our notes and debentures.

     We have substantial  indebtedness and debt service obligations.  As of June
30, 2002, Holding and AKI had total  consolidated  indebtedness of approximately
$131.7 million and $115.8 million,  respectively. As of August 31, 2002, AKI had
outstanding  borrowings  of  $9.5  million  under  its  term  loan  with  Heller
Financial,  Inc., $6.3 million under its revolving  credit agreement with Heller
Financial,  Inc. and $0.4 million under a promissory note with AHC. In addition,
as of such date, additional borrowings of up to approximately $13.5 million were
available under the revolving loan commitment of the credit  agreement,  subject
to  specified  conditions.  The  indenture  governing  Holding's  13 1/2% Senior
Discount  Debentures due 2009 and the indenture  governing  AKI's 10 1/2% Senior
Notes due 2008 and the credit  agreement  permit our Company and its  restricted
subsidiaries,  as defined in the indentures,  in each case, to incur  additional
indebtedness if we meet specified requirements.

     The level of our indebtedness  could have negative  consequences to holders
of the notes and the debentures, including, but not limited to, the following:

     o    a substantial  portion of cash flow from  operations must be dedicated
          to debt service and will not be available for other purposes;

     o    additional debt financing in the future for working  capital,  capital
          expenditures or acquisitions may be limited;

     o    our level of  indebtedness  could  limit  flexibility  in  reacting to
          changes  in  the  operating   environment   and  economic   conditions
          generally;

     o    our level of  indebtedness  could  restrict  our  ability to  increase
          manufacturing capacity;

     o    we may face difficulties in satisfying our obligations with respect to
          our indebtedness; and

     o    a  portion  of our  borrowings  bear  interest  at  variable  rates of
          interest,  which could result in higher interest  expense in the event
          of an increase in market interest rates.

     The indentures and the credit agreement contain covenants that, among other
things, limit the ability of our Company and its restricted subsidiaries to:

     o    pay dividends or make certain restricted payments;

     o    incur additional indebtedness and issue preferred stock;

     o    create liens;


                                       12


<PAGE>


     o    incur dividend and other payment restrictions affecting subsidiaries;

     o    enter into mergers,  consolidations  or sales of all or  substantially
          all of the assets of our Company;

     o    enter into certain transactions with affiliates; and

     o    sell certain assets.

     In  addition,  the  credit  agreement  requires  us to  maintain  specified
financial ratios and satisfy specified financial condition tests. Our ability to
meet those  financial  ratios  and tests can be  affected  by events  beyond our
control,  and there can be no  assurance  that we will meet  those  tests in the
future.

To service our  indebtedness  we will require a significant  amount of cash. Our
ability to generate cash depends on many factors beyond our control.

     The ability of our Company to pay  principal  and  interest on the notes or
principal  on the  debentures  and to satisfy  our other debt  obligations  will
depend  upon  AKI's  future  operating   performance.   AKI's  future  operating
performance  will be affected by prevailing  economic  conditions and financial,
business  and other  factors,  which  factors  may be  beyond  our  control.  We
anticipate  that our operating  cash flow,  together with  available  borrowings
under the credit  agreement,  will be sufficient to meet our operating  expenses
and to service our debt  requirements  as they become  due.  However,  if we are
unable to service  our  indebtedness,  we may be required to take action such as
reducing or delaying  capital  expenditures,  selling assets,  restructuring  or
refinancing our indebtedness or seeking additional equity capital.  There can be
no assurance that any of these remedies can be effected on  satisfactory  terms,
if at all.  If we are  unable to  maintain  the  specified  financial  ratios or
generate  sufficient  cash flow or  otherwise  obtain  funds  necessary  to make
required  payments,  we would be in default under the terms of our indebtedness,
which would permit the holders of such  indebtedness  to accelerate the maturity
of the indebtedness.

Holding Company Structure - Holding's  debentures are structurally  subordinated
to indebtedness of its subsidiaries.

     Holding is a holding  company and does not have any material  operations or
assets other than ownership of all of the capital stock of AKI. Accordingly, its
debentures are effectively  subordinated to all existing and future  liabilities
of Holding's subsidiaries, including indebtedness under the credit agreement and
AKI's notes. As of June 30, 2002,  Holding's  subsidiaries had $115.8 million of
indebtedness and $26.0 million of other outstanding liabilities (including trade
payables,  accrued  liabilities and deferred taxes).  As of August 31, 2002, AKI
had  outstanding  borrowings of $9.5 million  under its term loan,  $6.3 million
under the revolving  loan  commitment  of the credit  agreement and $0.4 million
under a promissory note with AHC. In addition, as of August 31, 2002, additional
borrowings  of up to  approximately  $13.5  million  were  available  under  the
revolving  loan  commitment  of  the  credit  agreement,  subject  to  specified
conditions.   All  such  indebtedness  effectively  ranks  senior  to  Holding's
debentures.  At  June  30,  2002,  Holding  had no  accrued  liabilities  and no
outstanding indebtedness other than the


                                       13


<PAGE>


debentures.  Holding and its subsidiaries  may incur additional  indebtedness in
the future,  subject to the limitations  contained in the instruments  governing
their indebtedness.

     Any right of Holding to  participate in any  distribution  of assets of its
subsidiaries  upon the  liquidation,  reorganization  or  insolvency of any such
subsidiary  (and  the  consequent  right of the  holders  of the  debentures  to
participate  in the  distribution  of those assets) will be subject to the prior
claims of the respective subsidiary's creditors.

Holding's  ability to repay its  debentures  may depend on its  ability to raise
cash other than through its subsidiaries.

     Holding's  cash  flow,  and  consequently  its  ability  to  service  debt,
including its obligations under its debentures, is dependent upon the cash flows
of its  subsidiaries  and the payment of funds by the subsidiaries to Holding in
the form of  loans,  dividends  or  otherwise.  Holding's  subsidiaries  have no
obligations,  contingent  or  otherwise,  to pay any amounts due pursuant to the
debentures  or to make any funds  available  for payment of the  debentures.  In
addition,  AKI's credit agreement and its note indenture impose,  and agreements
entered into in the future may impose,  significant  restrictions on the payment
of  dividends  and the making of loans by AKI and its  subsidiaries  to Holding.
Accordingly,  repayment of the debentures may depend upon the ability of Holding
to affect an equity offering or to refinance the debentures.

Your  right to receive  payments  on the notes and  debentures  is junior to our
existing and future secured indebtedness.

     Under the terms of our credit agreement, Heller Financial, Inc., the lender
under the credit agreement,  has a security interest in substantially all of the
current  and  future  assets of AKI.  In the event of  default  under the credit
agreement,  whether as a result of the failure to comply with a payment or other
covenant,  a  cross-default  or otherwise,  the lender will have a prior secured
claim on the capital stock of AKI and our encumbered  assets.  As a result,  our
encumbered  assets would be available  to pay  obligations  on the notes and the
debentures  only  after  borrowings  under the  credit  agreement  and any other
secured  indebtedness  have been paid in full. If the lender  should  attempt to
foreclose  on its  collateral,  our  financial  condition  would  be  materially
adversely  affected  and the  value of the  debentures  and the  notes  could be
eliminated.  As of August 31, 2002,  AKI had  outstanding  borrowings  under the
credit  agreement  consisting  of a $9.5  million  term loan and a $6.3  million
revolving loan and could borrow an additional  $13.5 million under the revolving
loan commitment of the credit agreement, subject to specified conditions.

Our results of operations could be adversely affected if the U.S. Postal Service
reclassifies our sampling systems or the sampling products of our competitors.

     Most of our  sampling  systems  are  approved  by the U.S.  Postal  Service
("USPS") for inclusion in subscription  magazines  mailed at periodical  postage
rates. The USPS approved sampling systems have a significant cost advantage over
other competing sampling products, such as miniatures, vials, packettes, sachets
and blister  packs,  because  these  competing  products  cause an increase from
periodical  postage  rates to the higher  third-class  rates for the  magazine's


                                       14


<PAGE>


entire  circulation.   Subscription   magazine  sampling  inserts  delivered  to
consumers  through the USPS accounted for  approximately 20% of our net sales in
fiscal  2002.  There can be no  assurance  that the USPS will not approve  other
competing types of sampling  systems for use in subscription  magazines  without
requiring a postal surcharge,  or that the USPS will not reclassify our sampling
systems  such that they would incur a postal  surcharge.  Any such action by the
USPS could have a  material  adverse  effect on our  results of  operations  and
financial condition.

We rely on a small number of customers for a large portion of our revenues.

     Our top ten customers by sales revenue  accounted for  approximately 69% of
our net sales in fiscal 2002. None of our customers, other than Estee Lauder and
Mary Kay,  accounted  for 10% or more of net sales in fiscal  2002.  Although we
have long-established  relationships with most of our major customers, we do not
have long-term  contracts with any of our customers.  We may be required by some
customers  to qualify our  manufacturing  operations  under  specified  supplier
standards.  There can be no assurance  that we will be able to qualify under any
supplier  standards or that our  customers  will  continue to purchase  sampling
systems from us if our manufacturing operations are not so qualified. An adverse
change in our relationship with significant customers, including Estee Lauder or
Mary Kay, would have a material  adverse effect on our results of operations and
financial condition.

Our ability to compete with other companies depends,  in part, on our ability to
meet customer needs on a cost-effective and timely basis.

     Our  competitors,   some  of  whom  have  substantially  greater  financial
resources  than our Company,  are  actively  engaged in  manufacturing  products
similar to those of our  Company.  Our  principal  competitors  in the  cosmetic
sampling market are the fragrance division of Vertis,  Inc., Orlandi Inc., Delta
Graphics,  Nord'est,  Marietta Corp., Klocke, Rotocon, Ascent and Appliquesence.
We also compete with numerous  manufacturers  of miniatures,  vials,  packettes,
sachets,  blister  packs and scratch and sniff  products.  In addition,  certain
cosmetic companies produce sampling products for their own cosmetic products. We
also compete with numerous other marketing and advertising  venues for marketing
dollars our customers  allocate to various types of  advertising,  marketing and
promotional  efforts  such  as  print,   television  and  in-store   promotions.
Competition  in our market is  primarily  based upon  product  quality,  product
technologies,  customer  relationships,  price and customer service.  The future
success of our business will depend in large part upon our ability to market and
manufacture  products and services that meet customer needs on a  cost-effective
and timely basis.  There can be no assurance  that capital will be available for
these purposes,  that  investments in new technology will result in commercially
viable  products  or  that  we  will  be  successful  in  generating   sales  on
commercially favorable terms, if at all.

We must protect our intellectual property to be successful.

     Our success,  competitive  position and revenues will depend, in part, upon
our ability to protect our proprietary and patented  technologies and to operate
without infringing on the proprietary rights of others. Although we have certain
patents  and  have  filed,   and  expect  to  continue  to  file,  other  patent
applications,  there can be no assurance that our issued patents are


                                       15


<PAGE>


enforceable or that our patent applications will mature into issued patents. The
expense  involved  in  litigation  regarding  patent  protection  or a challenge
thereto  has been and could be  significant  and we cannot  estimate  any future
expense. A portion of our manufacturing  processes are not covered by any patent
or patent  application.  As a result,  our business may be adversely affected by
competitors who independently develop technologies  substantially  equivalent to
those employed by us.

Our  business is affected by the  advertising  budgets of our  customers  and is
seasonal in nature.

     The advertising and marketing  budgets of our customers,  and therefore our
revenues,  are  susceptible to prevailing  economic and market  conditions  that
affect advertising and marketing  expenditures,  the performance of the products
of our customers in the marketplace and other related  factors.  There can be no
assurance that  reductions in advertising  spending will not occur,  which could
have a material  adverse  effect on our  results  of  operations  and  financial
condition.

     In addition,  our sales and operating results have  historically  reflected
seasonal  variations.  These seasonal  variations are based on the timing of our
customers'  advertising and marketing  campaigns,  which have traditionally been
concentrated  prior to the Christmas and spring holiday seasons.  As a result, a
higher  level of sales are  reflected  in our first  and third  fiscal  quarters
ending September 30 and March 31, respectively, when sales from such advertising
campaigns are principally recognized while our fourth fiscal quarter ending June
30 typically  reflects the lowest sales level of the fiscal year. These seasonal
fluctuations  require us to  accurately  allocate  our  resources  to manage our
manufacturing  capacity,  which  often  operates  at full  capacity  during peak
seasonal  demand  periods.  The severity of our seasonal sales  variations  have
decreased   over  time  as  we  have   developed  and  acquired  other  sampling
technologies for advertising and marketing of cosmetic and consumer products.

Our results of operations and financial  condition may be adversely  affected by
an increase in raw material prices or a decrease in raw material supply.

     Paper is the primary raw material  utilized by our Company in producing our
sampling systems. Paper costs represented approximately 18% of our cost of goods
sold in fiscal 2002 and 28% of our cost of goods sold in each of fiscal 2001 and
2000.  Significant increases in paper costs could have a material adverse effect
on our results of operations  and financial  condition to the extent that we are
unable  to price  our  products  to  reflect  such  increases.  There  can be no
assurance that our customers  would accept such price increases or the extent to
which such price  increases  would impact their decision to utilize our sampling
systems.

     Substantially all of our encapsulated sampling systems, which accounted for
approximately  39% of our net sales in fiscal 2002,  utilize  specific grades of
paper that are subject to comprehensive  evaluation and  certification by us for
quality, consistency and fit. These grades of paper are produced exclusively for
us by one  domestic  supplier.  We do not  have a  purchase  agreement  with the
supplier and are not aware of any other  suppliers of these  specific  grades of
paper. Although our products can be manufactured using other grades of paper, we
believe that the  specific  grades  currently  used provide us with an advantage
over our


                                       16


<PAGE>


competitors.  We continue to research  methods of replicating  the advantages of
these  specific  grades of paper with  other  available  grades of paper.  Until
alternative  methods  are  developed,  a loss of our  supply  of  paper  and the
resulting  competitive  advantage  could have a material  adverse  effect on our
results of operations  and financial  condition to the extent that we are unable
to obtain such paper elsewhere.

     Certain of our label sampling  systems,  which accounted for  approximately
26% of our net  sales in  fiscal  2002,  utilize  component  materials  that are
sourced from one qualified vendor. Although alternative sources are being sought
for  the  component  materials,  there  can be no  assurance  that  we  will  be
successful in locating  another vendor. A loss of supply of materials could have
a material  adverse effect on our results of operations and financial  condition
to the extent we are unable to obtain materials elsewhere.

We receive a portion of our revenue from foreign  countries  which is subject to
foreign laws and regulations and political and economic events.

     Approximately 21% of our net sales in fiscal 2002 was generated outside the
United  States.  Foreign  operations are subject to risks inherent in conducting
business  abroad,   including,   among  others,  exposure  to  foreign  currency
fluctuations  and  devaluations or  restrictions on money supplies,  foreign and
domestic export law and regulations,  price controls,  taxation, tariffs, import
restrictions and other political and economic events beyond our control. We have
not experienced any material  effects of these risks as of yet, but there can be
no assurance that they will not have such an effect in the future.

We are controlled by DLJMBII whose  interests may conflict with the interests of
the holders of the notes and debentures.

     DLJMBII  has the  power to elect a  majority  of the  directors  of AHC and
generally exercises significant control over the business,  policies and affairs
of AHC, Holding,  AKI and its subsidiaries through its ownership of AHC. DLJMBII
currently owns approximately  98.8% of AHC's outstanding  common stock.  DLJMBII
may have  interests  that could be in conflict  with those of the holders of the
notes or the debentures and may take actions that adversely affect the interests
of the holders of the notes or debentures.

Our business may be adversely affected by a labor dispute.

     As of August 31, 2002,  approximately  46% of our employees  worked under a
collective bargaining agreement that expires on March 31, 2003. While we believe
that our relations  with our employees are good,  there can be no assurance that
our collective  bargaining  agreement will be renewed in the future. A prolonged
labor  dispute  (which  could  include a work  stoppage)  could  have a material
adverse effect on our business, financial condition and results of operations.


                                       17


<PAGE>


ITEM 2.  PROPERTIES

     We own land and  buildings  in  Chattanooga,  Tennessee,  that are used for
production,  administration  and warehousing.  Our executive offices and primary
facility  at 1815  East Main  Street  are  located  on 2.55  acres and  encloses
approximately  67,900 square feet. A second facility housing product development
and  additional  manufacturing  areas at 1600 East Main Street is located  three
blocks away on 2.49 acres and encloses approximately 36,700 square feet. We have
a third  facility at 3501 St. Elmo Avenue in  Chattanooga,  Tennessee,  which is
used for production and warehousing. This facility is located on 1.875 acres and
encloses approximately 29,500 square feet.

     We lease buildings in Baltimore, Maryland, that are used for production and
warehousing.   The  production   facility  at  7600  Energy   Parkway   encloses
approximately  50,000  square feet and its lease  expires in August,  2004.  The
warehouse facility at 7525 Perryman Court encloses  approximately  13,000 square
feet and its lease  expires in May, 2003 with options to renew the lease for two
additional one year periods.

     We also  lease  sales  offices  in New York,  New York,  Paris,  France and
London, England.

ITEM 3.  LEGAL PROCEEDINGS

     We do not believe that there are any pending  legal  proceedings  that,  if
adversely  determined,  would have a material  adverse  effect on our  financial
condition or results of operations, taken as a whole.

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

     None.


                                       18


<PAGE>


                                     PART II

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

     There is no established public trading market for Holding's or AKI's common
stock.  As of August 31,  2002,  AHC was the sole holder of record of  Holding's
common  stock and Holding was the sole holder of record of AKI's  common  stock.
Generally,  neither Holding nor AKI pays dividends on its shares of common stock
and  neither  expects  to pay  dividends  on its  shares of common  stock in the
foreseeable future. The debentures contain  restrictions on Holding's ability to
pay dividends on its common stock.  The notes and the credit  agreement  contain
restrictions on AKI's ability to pay dividends on its common stock.


                                       19


<PAGE>


ITEM 6.  SELECTED FINANCIAL DATA

     The selected historical  consolidated  financial data presented below as of
June 30,  2002,  2001,  2000,  1999 and 1998 and the years ended June 30,  2002,
2001,  2000 and 1999 and for the period from  December 16, 1997 to June 30, 1998
have been derived from the historical  consolidated  financial statements of our
company. The selected historical  consolidated financial data presented below as
of December  15, 1997 and for the period from July 1, 1997 to December  15, 1997
have been derived  from the  historical  consolidated  financial  statements  of
Arcade Holding Corporation,  our predecessor.  The information contained in this
table should be read in conjunction  with "Item 7.  Management's  Discussion and
Analysis of Financial Condition and Results of Operations," and our Consolidated
Financial Statements and the notes thereto included elsewhere in this report.


<TABLE>
<CAPTION>

                                                                 Holding                                    Predecessor
                                -------------------------------------------------------------------------   -----------
                                                                                             December 16,   July 1, 1997
                                                                                               1997 to           to
                                 June 30,        June 30,       June 30,       June 30,        June 30,     December 15,
(dollars in thousands)             2002            2001           2000           1999            1998           1997
                                   ----            ----           ----           ----            ----           ----
<S>                             <C>            <C>             <C>            <C>            <C>              <C>
Statement of Operations Data:
Net sales (1)                   $ 120,893      $ 115,395       $  99,811      $  87,169      $  36,694        $  36,003
Cost of goods sold (1)             73,888         71,336          61,552         56,401         25,146           23,626
                                ---------      ---------       ---------      ---------      ---------        ---------
Gross profit                       47,005         44,059          38,259         30,768         11,548           12,377
Selling, general and
  administrative expenses          18,943         18,199          16,980         14,500          5,587            5,703
Amortization of goodwill            6,451          5,757           5,336          4,606          2,101              568
Gain from settlement, net            (992)             -            (858)             -              -                -
                                ----------     ---------       ---------      ---------      ---------        ---------
Income from operations             22,603         20,103          16,801         11,662          3,860            6,106
Interest expense, net              15,633         16,911          17,401         16,740         11,327            2,646
Management fees                       250            250             250            250            125              215
Other, net                              -              -               -            128            (47)              11
Income tax expense (benefit)        4,658          3,449           1,596           (340)        (2,052)           1,441
                                ---------      ---------       ---------      ---------      ---------        ---------
Income (loss) before
  extraordinary item                2,062           (507)         (2,446)        (5,116)        (5,493)           1,793
Extraordinary gain, net             2,675          2,016           1,089              -              -                -
                                ---------      ---------       ---------      ---------      ---------        ---------
  Net income (loss)             $   4,737      $   1,509       $  (1,357)     $  (5,116)     $  (5,493)       $   1,793
                                =========      =========       =========      =========      =========        =========

Balance Sheet Data (at end
of period):
Cash and cash equivalents       $   1,875      $   4,654       $   1,158      $   7,015      $   3,842        $   4,481
Working capital (deficit)          11,571         10,169          13,759         14,853         15,046           (4,959)
Total assets                      226,279        214,184         223,274        210,386        214,521           77,399
Total debt and redeemable
  preferred stock                 131,661        127,939         145,722        146,688        144,448           55,408
Total stockholder's equity         69,897         64,769          58,834         49,797         57,084           12,716

Other Data:
Capital expenditures            $   1,338      $   3,015       $   2,782      $   2,856      $     514        $     807
Ratio of earnings to fixed
charges (2)                          1.4x           1.2x             ---            ---            ---             2.2x

------------

</TABLE>

     (1)  Net sales and cost of goods sold have been  restated  to conform  with
          current year presentation.

     (2)  For purposes of  calculating  the ratio of earnings to fixed  charges,
          "earnings"  represent  income  (loss)  before  income taxes plus fixed
          charges.  "Fixed charges"  consist of interest on all indebtedness and
          amortization of deferred financing costs. Earnings were not sufficient
          to cover fixed charges by $850,  $5,456 and $7,545 for the years ended
          June 30, 2000 and 1999 and the period from  December  16, 1997 to June
          30, 1998, respectively.


                                       20


<PAGE>


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

GENERAL

     Our  sales are  primarily  derived  from the sale of  sampling  systems  to
cosmetics,  fragrance and consumer products companies.  Substantially all of our
sales are made directly to our customers  while a small portion are made through
advertising agencies.  Each customer's sampling program is unique and pricing is
negotiated  based on  estimated  costs plus a margin.  While our Company and our
customers  generally  do  not  enter  into  long-term  contracts,  we  have  had
long-standing relationships with the majority of our customer base.

THE ACQUISITION

     DLJMBII and certain members of our prior management  organized AHC I Merger
Corp. for purposes of acquiring Arcade Holding Corporation,  our predecessor. On
December 15, 1997, the merger  corporation  acquired all of the equity interests
of the predecessor corporation (the "Acquisition") for $205.7 million (including
related fees, expenses and cash for working capital). Included in the total cost
of the Acquisition were  approximately  $6.2 million in non-cash costs comprised
of (1) the assumption of a promissory note issued by the predecessor corporation
in connection with the 1995 acquisition of Scent Seal, Inc., and certain capital
lease  obligations and (2) the exchange of stock options to acquire common stock
in the predecessor corporation by the predecessor  corporation's chief executive
officer for an option to acquire preferred stock in AHC.

     To provide the $199.5  million of cash  necessary to fund the  Acquisition,
including  the  equity  purchase  price  and the  retirement  of all  previously
existing  preferred stock and debt of the  predecessor  corporation not assumed,
(1) the merger  corporation  issued $123.5 million of its Senior Increasing Rate
Notes to Scratch & Sniff  Funding,  Inc.,  an affiliate of DLJMBII,  and (2) AHC
received $76.0 million from debt and equity  (common and preferred)  financings,
including  equity  investments  by  certain   stockholders  of  the  predecessor
corporation,  which  was  contributed  to the  merger  corporation.  Immediately
following  the  Acquisition,  the merger  corporation  merged  with and into the
predecessor  corporation  and the combined entity assumed the name AKI, Inc. AHC
then contributed $1 of cash and all of its ownership  interest in AKI to Holding
for 1,000 shares of Holding's common stock.

     The merger  corporation's  senior  increasing rate notes were  subsequently
repaid on June 25, 1998 from the proceeds of AKI's issuance of $115.0 million of
AKI's notes and from a capital  contribution  from  Holding.  On June 25,  1998,
Holding  issued and sold its  debentures  totaling  $50.0  million in  aggregate
principal  amount at maturity for gross proceeds of $26.0 million,  the majority
of which were used to fund Holding's equity contribution to AKI.

     The  Acquisition  was accounted for using the purchase method of accounting
and resulted in the  recognition of $153.9 million of goodwill and a significant
increase in amortization expense.


                                       21


<PAGE>


3M ACQUISITION

     On June 22,  1998,  we  acquired  the  fragrance  sampling  business of the
Industrial and Consumer  Products division of Minnesota Mining and Manufacturing
Company (3M) for $7.3 million in cash and the  assumption of a liability of $0.2
million to one of the customers of the business.  We financed the 3M acquisition
with borrowings under the credit  agreement.  These borrowings were subsequently
repaid.

RETCOM ACQUISITION

     On September 15, 1999, we acquired all of the issued and outstanding shares
of capital stock of RetCom at a purchase  price of  approximately  $12.5 million
and refinanced  working capital  indebtedness of  approximately  $4.5 million of
RetCom and its subsidiaries.  The purchase price and refinancing of indebtedness
were financed by borrowings under the credit agreement.

COLOR PRELUDE ACQUISITION

     On December 18, 2001,  we acquired  the CP business for $19.4  million.  We
financed the CP acquisition with borrowings under our credit agreement.

RESULTS OF OPERATIONS

  Fiscal Year Ended June 30, 2002 Compared to Fiscal Year Ended June 30, 2001

     Net Sales. Net sales for the fiscal year ended June 30, 2002 increased $5.5
million, or 4.8%, to $120.9 million as compared to $115.4 million for the fiscal
year ended June 30, 2001.  The increase  was  attributable  to sales of sampling
technologies  for advertising and marketing of cosmetics by CP, partially offset
by  decreases  in volume of core  product  sales of  sampling  technologies  for
advertising  and  marketing of  fragrance,  cosmetic and consumer  products.  We
believe the decline in core product sales is  predominately  attributable to the
weak economic  conditions in the United States,  particularly in the advertising
industry. We cannot predict if this trend will worsen or when sales may increase
in the  future.  Sales of the CP products in the fiscal year ended June 30, 2002
totaled $24.0 million, a significant increase compared to CP's historical levels
due to sales related to a new sampling  technology and the major introduction of
new  products  by Mary Kay.  We do not  believe  that  sales  increases  of this
magnitude will continue long-term.

     Gross  Profit.  Gross  profit  for the  fiscal  year  ended  June 30,  2002
increased  $2.9 million,  or 6.6%, to $47.0 million as compared to $44.1 million
for fiscal year ended June 30, 2001.  Gross profit as a percentage  of net sales
increased  to 38.9% in the fiscal  year ended June 30,  2002,  from 38.2% in the
fiscal year ended June 30,  2001.  The increase in gross profit and gross profit
as a percentage  of net sales is  primarily  due to the increase in sales volume
and to a lessor extent manufacturing  scheduling  efficiencies,  reduced premium
labor and certain material costs.


                                       22


<PAGE>


     Selling,  General  and  Administrative   Expenses.   Selling,  general  and
administrative  expenses for the fiscal year ended June 30, 2002  increased $0.7
million,  or 3.9% to $18.9  million as compared to $18.2  million for the fiscal
year ended June 30, 2001.  The increase in selling,  general and  administrative
expenses was primarily due to increased expenses related to the CP operation and
acquisition,  an increase in legal fees related to a patent infringement lawsuit
brought by AKI, an estimated loss on office lease  abandonment  and an estimated
loss to settle a foreign value added tax audit partially offset by a decrease in
personnel in fiscal year 2002,  a decrease in sales  commissions  and  incentive
bonuses  and  foreign  exchange   transaction   gains.   Selling,   general  and
administrative  expenses  as a percent  of net sales  decreased  to 15.6% in the
fiscal  year  ended June 30,  2002 from 15.8% in the fiscal  year ended June 30,
2001.

     Income from  Operations.  Income from  operations for the fiscal year ended
June 30, 2002 increased $2.5 million,  or 12.4%, to $22.6 million as compared to
$20.1 million for the fiscal year ended June 30, 2001. Income from operations as
a percentage  of net sales  increased to 18.7% in the fiscal year ended June 30,
2002 from 17.4% in the fiscal year ended June 30, 2001,  principally as a result
of the factors  described above and the net settlement of the RCC purchase price
dispute.

     Interest Expense.  Interest expense for the fiscal year ended June 30, 2002
decreased $1.3 million,  or 7.7% to $15.6 million,  as compared to $16.9 million
for the fiscal year ended June 30, 2001. Interest expense as a percentage of net
sales  decreased  to 12.9% in the fiscal  year ended June 30, 2002 from 14.6% in
the fiscal year ended June 30, 2001. The decrease in interest expense, including
the amortization of deferred  financing costs, is primarily due to a decrease in
interest  expense  related  to  the  repurchased  and  retired  Senior  Discount
Debentures  and Senior Notes and reduced  average  borrowings and lower interest
rates  under  the  revolving  loan  and the  promissory  note  to a  stockholder
partially  offset by the additional term loan incurred in connection with the CP
acquisition.

     Interest  expense for AKI for the fiscal year ended June 30, 2002 decreased
$0.7 million,  or 5.3%, to $12.5  million,  as compared to $13.2 million for the
fiscal year ended June 30, 2001.  Interest  expense as a percentage of net sales
decreased  to 10.3% in the fiscal  year  ended  June 30,  2002 from 11.4% in the
fiscal year ended June 30, 2001. The decrease in interest expense, including the
amortization  of deferred  financing  costs,  is primarily  due to a decrease in
interest expense related to the repurchased and retired Senior Notes and reduced
average  borrowings  and lower  interest  rates under the revolving loan and the
promissory  note to an affiliate  partially  offset by the additional  term loan
incurred in connection with the CP acquisition.

     Income Tax  Expense.  The income tax expense for the fiscal year ended June
30, 2002  increased $1.3 million to $4.7 million as compared to $3.4 million for
the fiscal year ended June 30,  2001.  The  increase  is due to the  increase in
income before income taxes and extraordinary gain.

     Income  tax  expense  for AKI for the  fiscal  year  ended  June  30,  2002
increased  $1.0  million to $5.7  million as  compared  to $4.7  million for the
fiscal year ended June 30,  2001.  The increase is due to the increase in income
before income taxes and extraordinary gain.


                                       23


<PAGE>


     Extraordinary  gain from early  retirement of debt. An  extraordinary  gain
from early retirement of debt of $2.7 million for the fiscal year ended June 30,
2002 and $2.0 million for the fiscal year ended June 30, 2001  resulted from the
purchase of Senior Discount Debentures in fiscal year 2002 and from the purchase
and subsequent contribution in fiscal 2001 of Senior Discount Debentures by AHC,
and the purchase of Senior Notes in fiscal 2001.  The purchased and  contributed
securities were subsequently retired.

     An extraordinary gain from early retirement of debt for AKI of $0.5 for the
fiscal year ended June 30, 2001  resulted  from the purchase in fiscal year 2001
of Senior Notes. The purchased securities were subsequently retired.

     EBITDA.  EBITDA for the fiscal  year ended June 30,  2002,  increased  $3.5
million,  or 11.6%, to $33.7 million as compared to $30.2 million for the fiscal
year ended June 30,  2001.  The  increase  in EBITDA  principally  reflects  the
increase in gross profit  partially  offset by the increase in selling,  general
and administrative expenses discussed above. EBITDA as a percentage of net sales
was  27.9%  and  26.2%  for the  fiscal  year  ended  June 30,  2002  and  2001,
respectively.   EBITDA  is  income  from   operations  plus   depreciation   and
amortization of goodwill and other  intangibles less net gain from settlement of
purchase price dispute.

  Fiscal Year Ended June 30, 2001 Compared to Fiscal Year Ended June 30, 2000

     Net Sales.  Net sales for the fiscal  year  ended June 30,  2001  increased
$15.6 million,  or 15.6%, to $115.4 million as compared to $99.8 million for the
fiscal year ended June 30,  2000.  The increase was  primarily  attributable  to
volume  and  favorable  pricing  mix  in  sales  of  sampling  technologies  for
advertising and marketing of fragrance products, and domestic cosmetic products,
partially  offset  by a  decrease  in the  sales of  sampling  technologies  for
advertising and marketing of consumer  products and the unfavorable  effect of a
stronger U.S. dollar against foreign currencies, primarily the French Franc.

     Gross  Profit.  Gross  profit  for the  fiscal  year  ended  June 30,  2001
increased $5.8 million,  or 15.1%, to $44.1 million as compared to $38.3 million
for fiscal year ended June 30,  2000.  The increase in gross profit is primarily
attributable to the increase in net sales discussed above and changes in product
mix,  offset by increased raw material  costs,  additional  premium labor costs,
increased  overhead  costs  and  foreign  exchange  rates.  Gross  profit  as  a
percentage  of net sales  decreased  to 38.2% in the fiscal  year ended June 30,
2001, from 38.4% in the fiscal year ended June 30, 2000.

     Selling,  General  and  Administrative   Expenses.   Selling,  general  and
administrative  expenses for the fiscal year ended June 30, 2001  increased $1.2
million,  or 7.1% to $18.2  million as compared to $17.0  million for the fiscal
year ended June 30, 2000.  The increase in selling,  general and  administrative
expenses  was  primarily  due to  increased  staffing  levels and  compensation,
including  increased sales  commissions and incentive bonuses as a result of the
increase in sales volume and other  quantitative  incentive  measures.  Selling,
general and administrative expenses as a percent of net sales decreased to 15.8%
in the fiscal  year ended June 30, 2001 from 17.0% in the fiscal year ended June
30, 2000.


                                       24


<PAGE>


     Income from  Operations.  Income from  operations for the fiscal year ended
June 30, 2001 increased $3.3 million,  or 19.6%, to $20.1 million as compared to
$16.8  million for the fiscal year ended June 30, 2000.  Income from  operations
for  2000  included  a net  gain  of $0.9  million  resulting  from a  favorable
litigation  settlement  with the  sellers of Arcade  Holding  Corp.  Income from
operations  as a percentage  of net sales  increased to 17.4% in the fiscal year
ended  June 30,  2001  from  16.8%  in the  fiscal  year  ended  June 30,  2000,
principally as a result of the factors described above.

     Interest Expense.  Interest expense for the fiscal year ended June 30, 2001
decreased $0.5 million,  or 2.9% to $16.9 million,  as compared to $17.4 million
for the fiscal year ended June 30, 2000. Interest expense as a percentage of net
sales  decreased  to 14.6% in the fiscal  year ended June 30, 2001 from 17.4% in
the fiscal year ended June 30, 2000. The decrease in interest expense, including
the amortization of deferred  financing costs, is primarily due to a decrease in
interest  expense  related  to  the  repurchased  and  retired  Senior  Discount
Debentures and Senior Notes, partially offset by an increase in interest expense
related to use of the credit  line and the  promissory  note to AHC for  working
capital and the RetCom acquisition.

     Interest  expense for AKI for the fiscal year ended June 30, 2001 decreased
$0.5 million,  or 3.7%, to $13.2  million,  as compared to $13.7 million for the
fiscal year ended June 30, 2000.  Interest  expense as a percentage of net sales
decreased  to 11.4% in the fiscal  year  ended  June 30,  2001 from 13.7% in the
fiscal year ended June 30, 2000. The decrease in interest expense, including the
amortization  of deferred  financing  costs,  is primarily  due to a decrease in
interest expense related to the repurchased and retired Senior Notes,  partially
offset by use of the revolving  credit line and the  promissory  note to AHC for
working capital and the RetCom acquisition.

     Income Tax  Expense.  The income tax expense for the fiscal year ended June
30, 2001  increased $1.8 million to $3.4 million as compared to $1.6 million for
the fiscal year ended June 30,  2000.  The  increase  is due to the  increase in
income before income taxes and extraordinary gain.

     Income  tax  expense  for AKI for the  fiscal  year  ended  June  30,  2001
increased  $1.9  million to $4.7  million as  compared  to $2.8  million for the
fiscal year ended June 30,  2000.  The increase is due to the increase in income
before income taxes and extraordinary gain.

     Extraordinary  gain from early  retirement of debt. An  extraordinary  gain
from early retirement of debt of $2.0 million for the fiscal year ended June 30,
2001 and $1.1 million for the fiscal year ended June 30, 2000  resulted from the
purchase  and  subsequent   contribution  in  fiscal  2001  of  Senior  Discount
Debentures  by AHC,  and the  purchase  of  Senior  Notes and the  purchase  and
subsequent  contribution in fiscal year 2000 of Senior Notes and Senior Discount
Debentures by AHC. The purchased and contributed  securities  were  subsequently
retired.

     An extraordinary gain from early retirement of debt for AKI of $0.5 million
for the fiscal  year ended June 30,  2001 and $0.4  million  for the fiscal year
ended June 30,  2000  resulted  from the  purchase in fiscal year 2001 of Senior
Notes and the purchase in fiscal year 2000 of Senior


                                       25


<PAGE>


Notes  by  AHC  and  subsequent  contribution  by  Holding.  The  purchased  and
contributed securities were subsequently retired.

     EBITDA.  EBITDA for the fiscal  year ended June 30,  2001,  increased  $4.5
million,  or 17.5%, to $30.2 million as compared to $25.7 million for the fiscal
year ended June 30,  2000.  The  increase  in EBITDA  principally  reflects  the
increase in gross profit  partially  offset by the increase in selling,  general
and administrative expenses discussed above. EBITDA as a percentage of net sales
was  26.2%  and  25.8%  for the  fiscal  year  ended  June 30,  2001  and  2000,
respectively.   EBITDA  is  income  from   operations  plus   depreciation   and
amortization of goodwill and other  intangibles less net gain from settlement of
litigation.

COMMITMENTS AND CONTINGENCIES

     The following  table  summarizes  our  contractural  obligations  and other
contingencies as of June 30, 2002:

<TABLE>
<CAPTION>


                                                              Payments due by fiscal year
                                 ---------------------------------------------------------------------------------------
                                     2003           2004           2005          2006           2007       Thereafter
                                     ----           ----           ----          ----           ----       ----------

<S>                              <C>            <C>            <C>           <C>            <C>           <C>
Debt obligations:
    Principal................    $     1,375    $     1,875    $     2,125   $     2,625    $     4,250   $   121,630
    Interest*................         11,694         14,041         13,919        13,780         13,483        15,762
Standby letter of credit.....              -              -             87             -              -           291
Operating leases.............          1,212          1,281          1,001           728            557         2,100
Minimum royalties............          1,125          1,125          1,125         1,125          1,125         7,049
Unconditional raw material
purchase obligations.........          5,211          1,062              -             -              -             -
Other long-term obligations..            750            750            750             -              -             -

</TABLE>

         *  Interest for floating rate obligations has been calculated using the
            rates in effect as of June 30, 2002.

LIQUIDITY AND CAPITAL RESOURCES

     We have substantial  indebtedness and significant debt service obligations.
As of June 30, 2002, we had consolidated  indebtedness in an aggregate amount of
$131.7 million  (excluding  trade  payables,  accrued  liabilities  and deferred
taxes),  of which (1)  approximately  $15.9  million is a direct  obligation  of
Holding  relating to its  debentures and (2)  approximately  $115.8 million is a
direct  obligation of AKI relating to its notes,  term loan and revolving credit
line. At June 30, 2002, Holding had $24.7 million of accrued liabilities and AKI
had $26.0 million in accrued  liabilities  (including  trade  payables,  accrued
liabilities,  deferred taxes and other liabilities).  As of August 31, 2002, AKI
had  outstanding  borrowings  of $9.5 million  under the term loan of the credit
agreement,  $6.3  million  under the  revolving  loan  commitment  of the credit
agreement and $0.4 million under a promissory note with AHC.


                                       26


<PAGE>


     Borrowings  under the revolving credit line are limited to a maximum amount
equal to $20.0 million.  At June 30, 2002 and August 31, 2002, AKI had borrowing
availability  of  approximately  $17.0 million and $13.5 million,  respectively,
subject  to a  borrowing  base  calculation  and the  achievement  of  specified
financial ratios and compliance with specified conditions. The interest rate for
borrowings  under the credit agreement are determined from time to time based on
our choice of  formulas,  plus a margin.  The credit  agreement  will  mature on
December 31, 2006.

     The indentures and the credit agreement permit Holding and its subsidiaries
to incur additional indebtedness, subject to specified limitations. In addition,
the indentures contain restrictive covenants that, among other things, limit the
ability of Holding and its  subsidiaries  to: (i) pay  dividends or make certain
restricted  payments;  (ii) incur  additional  indebtedness  and issue preferred
stock;  (iii) create liens;  (iv) incur dividend and other payment  restrictions
affecting subsidiaries;  (v) enter into mergers,  consolidations or sales of all
or  substantially  all of the assets of our  company;  (vi)  enter into  certain
transactions with affiliates; and (vii) sell certain assets.

     Payment of  Holding's  debentures  is not  guaranteed  by AKI or any of its
subsidiaries.   Because  Holding  is  a  holding  company  with  no  substantive
operations,  it is dependent upon the cash flows of AKI and its subsidiaries and
the  payment  of funds by AKI and its  subsidiaries  to  Holding  in the form of
loans, dividends or otherwise to pay its obligations.

     Holding's   principal   liquidity   requirements   are  for  debt   service
requirements under the debentures.  AKI's principal  liquidity  requirements are
for operating  working  capital,  debt service  requirements  and fees under the
notes and the credit agreement.  Historically,  we have funded our capital, debt
service and operating  requirements  with a combination  of net cash provided by
operating activities,  which was $13.8 million and $19.6 million for fiscal 2002
and  2001,  respectively,   together  with  borrowings  under  revolving  credit
facilities.  Net cash  provided  by  operating  activities  during  fiscal  2002
resulted  primarily from net income before  depreciation  and amortization and a
decrease  in  inventory  levels,  net of CP  acquisition,  partially  offset  by
increased  accounts  receivable  and a decrease in accounts  payable and accrued
expenses.

     In  fiscal  2002  and  fiscal  2001,   we  had  capital   expenditures   of
approximately  $1.3  million  and  $3.0  million,  respectively.  These  capital
expenditures   consisted   primarily  of  the  purchase   and   maintenance   of
manufacturing equipment and furniture and fixtures and maintaining and upgrading
our computer systems.

     On September 15, 1999, we acquired all of the issued and outstanding shares
of capital stock of RetCom at a purchase  price of  approximately  $12.5 million
and refinanced  working capital  indebtedness of  approximately  $4.5 million of
RetCom and its subsidiaries.  The purchase price and refinancing of indebtedness
were  financed  by  borrowings  under the credit  agreement.  In fiscal  2002 we
received  $1.0  million as a result of the  purchase  price  reduction  from the
sellers of RetCom.

     On December 18, 2001,  we acquired  the CP business for $19.4  million.  We
financed the CP acquisition with borrowings under our credit agreement.


                                       27


<PAGE>


     We may from time to time evaluate additional potential acquisitions.  There
can be no assurance that  additional  capital sources will be available to us to
fund additional acquisitions on terms that we find acceptable, or at all.

     At June 30, 2002,  AHC had  outstanding  $53.6  million of Notes which bear
interest at  approximately  16% per annum and mature on December 15,  2009,  and
approximately  $98.4 million of Senior Preferred Stock which accrue dividends at
15% per annum and must be redeemed by December 15,  2012.  Interest on the notes
and dividends on the senior  preferred stock may be settled through the issuance
of additional floating rate notes and senior preferred stock through maturity or
redemption,  respectively.  The  floating  rate  notes  are  general,  unsecured
obligations of AHC and are not obligations of, or guaranteed by Holding,  AKI or
any of its subsidiaries. AHC is a holding company and is dependent upon the cash
flows of its  subsidiaries  and the payment to it of funds by its  subsidiaries.
The indenture  relating to the debentures limits the payment of dividends or the
making of other restricted payments by Holding to AHC.

     In  September  1999,  AHC  consummated  a private  placement  to DLJMBII of
15,000,000  shares of its common  stock at a purchase  price of $1.00 per share.
Substantially  all of the  proceeds  were used in fiscal 2001 and 2000 to reduce
outstanding  indebtedness  of Holding and AKI.  The balance of the  proceeds may
become available to us to reduce  outstanding  indebtedness of Holding or AKI or
for  working  capital  or other  general  corporate  purposes,  but  there is no
obligation on the part of AHC to make any of these funds available.

     Capital  expenditures for the fiscal year ending June 30, 2003 are budgeted
to be approximately  $4.0 million.  Based on borrowings  outstanding (other than
pursuant to the revolving  credit  agreement) as of June 30, 2002 and borrowings
outstanding  under the  revolving  credit  agreement as of August 31,  2002,  we
expect total cash  payments for debt service in fiscal 2003 to be  approximately
$13.4 million, consisting of $1.4 million in term loan principal payments, $10.9
million in interest  payments on the notes and $1.1 million in interest and fees
under  the  credit  agreement.  We also  expect  to  make  royalty  payments  of
approximately $1.1 million during fiscal 2003.

     We believe  that,  in the absence of future  acquisitions,  cash flows from
existing operations and available borrowings will be sufficient to fund budgeted
capital  expenditures,  working capital  requirements and interest and principal
payments on our indebtedness,  including the debentures and the notes for fiscal
2003.  In the  event we  consummate  any  additional  acquisitions,  we may seek
additional debt or equity financings subject to compliance with the terms of the
indentures.

     At June 30, 2002, Holding's  consolidated cash and cash equivalents and net
working capital were $1.9 million and $11.6 million, respectively,  representing
a decrease in cash and cash  equivalents  of $2.8 million and an increase in net
working capital of $1.4 million from June 30, 2001. Account receivables, net, at
June 30, 2002 increased 32.1% or $5.8 million over the June 30, 2001 amount, due
to a comparative  increase in fourth quarter sales primarily  resulting from the
CP acquisition.


                                       28


<PAGE>


SEASONALITY

     Our  sales of  sampling  technologies  for  advertising  and  marketing  of
fragrance  products  have  historically  reflected  seasonal  variations.   Such
seasonal  variations  are  based on the  timing  of our  customers'  advertising
campaigns, which have traditionally been concentrated prior to the Christmas and
spring  holiday  seasons.  As a result,  a higher  level of sales are  generally
reflected in our first and third fiscal quarters ended September 30 and March 31
when sales from such  advertising  campaigns are principally  recognized.  These
seasonal  fluctuations  require  us to  allocate  our  resources  to manage  our
manufacturing  capacity,  which  often  operates  at full  capacity  during peak
seasonal  demand  periods.  The severity of our seasonal  sales  variations  has
decreased   over  time  as  we  have   developed  and  acquired  other  sampling
technologies for advertising and marketing of cosmetic and consumer products.

RECENTLY ISSUED ACCOUNTING STANDARDS

     FASB  Statement  of  Financial   Accounting  Standards  No.  141  "Business
Combinations"  ("SFAS  141")  was  issued in June  2001.  SFAS 141  changes  the
accounting  and reporting for business  combinations.  SFAS 141 is effective for
all business combinations initiated after June 30, 2001, and accordingly, the CP
acquisition has been accounted for and reported in accordance with SFAS 141.

     FASB  Statement of Financial  Accounting  Standards  No. 142  "Goodwill and
Other Intangible  Assets" ("SFAS 142") was issued in June 2001. SFAS 142 changes
the accounting and reporting for acquired goodwill and other intangible  assets.
SFAS 142 is effective  for fiscal years  beginning  after  December 15, 2001 and
must be applied at the  beginning of an entity's  fiscal  year.  The adoption of
SFAS 142 in future  financial  statements  will  eliminate the  amortization  of
goodwill,  approximately  $4.8 million in fiscal 2002,  while  requiring  annual
tests for impairment of goodwill.

     FASB Statement of Financial  Accounting  Standards No. 144  "Accounting for
the  Impairment  of Disposal of  Long-Lived  Assets"  ("SFAS 144") was issued in
August 2001. SFAS 144 requires that long-lived assets that are to be disposed of
by sale be  measured at the lower of book value or fair value less cost to sell.
SFAS 144 is effective for financial statements issued for fiscal years beginning
after  December  15,  2001.  The  Company  does not expect a material  impact in
implementing SFAS 144 on its future financial statements.

     FASB  Statement of Financial  Accounting  Standards No. 145  "Rescission of
FASB  Statements  No. 4, 44, and 64,  Amendment  of FASB  Statement  No. 13, and
Technical  Corrections"  ("SFAS  145")  was  issued  in  April  2002.  The  most
significant aspects of this  pronouncement,  with respect to the Company, is the
elimination of SFAS No. 4, "Reporting  Gains and Losses from  Extinguishment  of
Debt".  As a result of the  elimination  of SFAS No. 4,  gains and  losses  from
extinguishment of debt should be classified as extraordinary  items only if they
meet the  criteria  in APB No.  30,  "Reporting  the  Results  of  Operations  -
Discontinued Events and Extraordinary Items". The implementation of SFAS No. 145
will  require  future  early  retirements  of debt to be included in income from
continuing  operations which could materially


                                       29


<PAGE>


affect  our  income  from  continuing  operations.  In fiscal  2002 the  Company
reported an approximate $2.7 million extraordinary gain from early retirement of
debt, net of tax.

     FASB Statement of Financial  Accounting  Standards No. 146  "Accounting for
Costs  Associated with Exit or Disposal  Activities"  ("SFAS 146") was issued in
June 2002.  SFAS 146  addresses  financial  accounting  and  reporting for costs
associated with exit or disposal  activities.  SFAS 146 is effective for exit or
disposal  activities  that are initiated  after  December 31, 2002.  The Company
adopted SFAS 146 in fiscal 2002 and did not consider the impact to be material.

CRITICAL ACCOUNTING POLICIES

     We have  chosen  accounting  policies  that we believe are  appropriate  to
accurately and fairly report our operating results and financial  position,  and
we apply those  accounting  policies in a  consistent  manner.  The  significant
accounting  policies  are  summarized  in Note 2 to the  consolidated  financial
statements.

     The  preparation  of financial  statements  in  conformity  with  generally
accepted  accounting  principles requires that we make estimates and assumptions
that affect the reported amounts of assets, liabilities,  revenues and expenses.
These  estimates  and  assumptions  are based on  historical  and other  factors
believed to be reasonable under the  circumstances.  We evaluate these estimates
and assumptions on an ongoing basis and may retain outside professional advisors
to assist in our evaluation.  We believe the following  accounting  policies are
the most  critical  because  they  involve the most  significant  judgments  and
estimates used in preparation of our consolidated financial statements:

     o    Allowance for doubtful accounts. We maintain an allowance for doubtful
          receivables for estimated  losses  resulting from the inability of our
          trade customers to make required payments. We provide an allowance for
          specific  customer  accounts  where  collection  is doubtful  and also
          provide a general  allowance  for other  accounts  based on historical
          collection and write-off experience.  Judgment is necessary and if the
          financial  condition  of our  customers  were  to  worsen,  additional
          allowances may be required.

     o    Inventories.  Our  inventories,  which  consist of raw  materials  and
          work-in-process,  are valued at the lower of cost or market value.  We
          evaluate all of our raw  material  inventory  for slow moving  product
          based on  recent  usage,  projections  of  future  demand  and  market
          conditions.  For those units in inventory that are so  identified,  we
          estimate their market value based on current  realization  trends.  If
          the  projected  net  realizable  value is less than cost, we provide a
          provision  to  reflect  the  lower  value  of  that  inventory.   This
          methodology  recognizes  projected  inventory  losses at the time such
          losses are evident.

     o    Intangible  assets.  When we acquire other  companies or businesses we
          allocate  the   purchase   price,   including   expenses  and  assumed
          liabilities,   to  the  assets  and  liabilities   acquired  including
          intangible  assets and  goodwill.  We estimate the useful lives of the
          intangible assets by factoring in the  characteristics  of the related
          products  such  as:


                                       30


<PAGE>


          existing  sales  contracts,   patent   protection,   estimated  future
          introductions of competing products and other issues. The factors that
          drive the estimate of the life of the asset are inherently uncertain.

     o    Long-lived  assets.  We review  our  property,  intangible  assets and
          goodwill  for possible  impairment  whenever  events or  circumstances
          indicate that the carrying  amount of an asset may not be recoverable.
          Assumptions  and estimates  used in the  evaluation of impairment  may
          affect the carrying value of long-lived assets,  which could result in
          impairment  charges  in  future  periods.   Such  assumptions  include
          projections of future cash flows and, in some cases,  the current fair
          value of the asset. In addition,  our  depreciation  and  amortization
          policies reflect judgments on the estimated useful lives of assets.

     o    Revenue  recognition.  We recognize revenue when the risks and rewards
          of  ownership  are assumed by the buyer.  This  generally  occurs upon
          delivery of product to the buyer.

     o    Deferred  income tax  assets.  We have  recorded  deferred  income tax
          assets related to the temporary  differences between the tax bases and
          financial reporting bases of assets and liabilities.  An adjustment to
          income  tax  expense  would  be  required  in a  future  period  if we
          determine  that the  amount of  deferred  tax  assets  to be  realized
          differs from the net recorded amount.

FORWARD-LOOKING STATEMENTS

     The  information   provided  in  this  document  contains   forward-looking
statements that involve a number of risks and uncertainties. A number of factors
could  cause  actual  results,  performance  or  achievements  of our Company or
industry results to be materially different from any future results, performance
or achievements expressed or implied by such forward-looking  statements.  These
factors include,  but are not limited to: (1) economic conditions in general and
in our specific market areas;  (2) the significant  indebtedness of our company;
(3) changes in operating  strategy or  development  plans;  (4) the  competitive
environment  in the  sampling  industry  in general and in our  specific  market
areas;  (5) changes in prevailing  interest rates;  (6) changes in or failure to
comply with postal  regulations or other federal,  state and/or local government
regulations;  (7)  changes  in cost of goods and  services;  (8)  changes in our
capital  expenditure  plans;  (9) the  ability to attract  and retain  qualified
personnel;  (10) inflation; (11) liability and other claims asserted against us;
(12) labor disturbances and other factors.

     In addition, such forward-looking statements are necessarily dependent upon
assumptions,  estimates and dates that may be incorrect or imprecise and involve
known and  unknown  risk,  uncertainties  and other  factors.  Accordingly,  any
forward-looking  statements  included herein do not purport to be predictions of
future  events  or  circumstances  and  may  not  be  realized.  Forward-looking
statements can be identified by, among other things,  the use of forward-looking
terminology  such as  "believes,"  "expects,"  "may,"  "should,"  "seeks,"  "pro
forma,"  "anticipates,"  "intends"  or the  negative of any such word,  or other
variations  or  comparable  terminology,   or  by  discussions  of  strategy  or
intentions. Given these uncertainties,


                                       31


<PAGE>


readers  are  cautioned  not  place  undue   reliance  on  any   forward-looking
statements.  We disclaim  any  obligations  to update any factors or to publicly
announce the results of any revisions to any of the  forward-looking  statements
contained in this document to reflect future events or developments.

ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

     In fiscal 2002, we generated  approximately 21% of our sales from customers
outside  the  United  States,  principally  in Europe.  International  sales are
generated  primarily  from our  foreign  subsidiary  located  in France  and are
primarily denominated in the local currency.  Our foreign subsidiary also incurs
the majority of its expenses in the local  currency and uses the local  currency
as its functional currency.

     Our major principal cash balances are held in U.S.  dollars.  Cash balances
in foreign  currencies are held to minimum balances for working capital purposes
and therefore have a minimum risk to currency fluctuations.

     We periodically  enter into forward foreign currency exchange  contracts to
hedge certain  exposures  related to selected  transactions  that are relatively
certain as to both  timing  and amount and to hedge a portion of the  production
costs expected to be denominated in foreign currencies.  The purpose of entering
into these  hedge  transactions  is to minimize  the impact of foreign  currency
fluctuations  on the results of operations  and cash flows.  Gains and losses on
the hedging  activities  are recognized  concurrently  with the gains and losses
from the  underlying  transactions.  At June 30,  2002,  there  were no  forward
exchange contracts outstanding.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

     Reference  is  made to the  Consolidated  Financial  Statements  of each of
Holding and AKI, the related notes and the Report of Independent Accountants for
each of Holding and AKI commencing at page F-1 of this report,  which  financial
statements, notes and reports are incorporated by reference into this report.

ITEM 9.  CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL DISCLOSURE

     None.


                                       32


<PAGE>


                                    PART III

ITEM 10.  EXECUTIVE OFFICERS AND DIRECTORS OF REGISTRANT

     The  following  table sets forth  certain  information  with respect to the
directors and executive officers of Holding as of September 1, 2002.

Name                       Age              Position
----                       ---              --------
Thompson Dean              44               Chairman of the Board and Director
William J. Fox             46               President, Chief Executive Officer
                                            and Director
Kenneth A. Budde           53               Senior Vice President, Chief
                                            Financial Officer and Secretary
A. Bruce Prashker          40               Senior Vice President and Assistant
                                            Secretary
Hugh R. Kirkpatrick        65               Director
David M. Wittels           38               Director
David A. Durkin            33               Director

     Thompson Dean has served as Chairman of the Board and a Director of Holding
since  December  1997.  Mr. Dean has been Head of  Leveraged  Corporate  Private
Equity for Credit  Suisse  First Boston since  November  2000.  He has also been
Investment  Committee  Co-Chairman and Managing  Partner of DLJ Merchant Banking
Partners  since  1995.  Previously,  Mr.  Dean was a  Managing  Director  of DLJ
Merchant  Banking  and its  predecessor  since  1991.  Mr. Dean also serves as a
director of DeCrane Aircraft  Holdings,  Inc., Von Hoffmann Press, Inc., Formica
Corporation,  Insilco Holding Company,  Manufactures'  Services Ltd. and Mueller
Holdings (N.A.), Inc.

     William J. Fox has  served as  President,  Chief  Executive  Officer  and a
Director of Holding and as Chairman, President and Chief Executive Officer and a
Director of AKI, Inc. since February 1999. Mr. Fox was President,  Strategic and
Corporate  Development of Revlon  Worldwide,  Senior Executive Vice President of
Revlon, Inc. and Revlon Consumer Products  Corporation  ("RCPC")  (collectively,
"Revlon")  and Chief  Executive  Officer,  Revlon  Technologies,  a division  of
Revlon,  from January 1998 through January 1999. He was Executive Vice President
from 1991 through January 1997 and Senior  Executive Vice President from January
1997 through  January 1999  and Chief  Financial  Officer of Revlon from 1991 to
1997.  Mr. Fox served as a director from November 1995 of Revlon,  Inc. and from
September  1994 of RCPC,  until April  1999.  He was Senior  Vice  President  of
MacAndrews and Forbes Holding Inc., the indirect majority shareholder of Revlon,
from August  1990  through  January  1999.  Mr. Fox also serves as Director  and
Co-Chairman of the Board of Loehmann's Holdings, Inc.

     Kenneth  A. Budde has served as Chief  Financial  Officer of Holding  since
November  1994.  From October 1988 to June 1994,  Mr. Budde served as Controller
and Chief Financial Officer of Southwestern  Publishing Company.  Prior to that,
Mr. Budde spent 12 years with KPMG Peat Marwick.


                                       33


<PAGE>


     A. Bruce  Prashker  has served as Senior Vice  President  of Holding  since
April 2000. Prior to joining the Company, Mr. Prashker was Managing Principal of
the Capital  Markets  Company  N.V.  from April 1999  through  April  2000.  Mr.
Prashker served as Vice President & Controller of the International  Division of
RCPC from January 1996 through April 1999,  Vice  President and Chief  Financial
Officer of the Licensing  Division of RCPC from August 1994 through January 1996
and held various other  executive  positions at RCPC and  MacAndrews  and Forbes
Holding Inc. from April 1990 through August 1994.

     Hugh R.  Kirkpatrick  has served as a director of Holding  since June 1998.
Mr. Kirkpatrick is a former director of International Flavors & Fragrances, Inc.
where he served as Senior Vice  President  and  President,  Worldwide  Fragrance
Division, from 1991 through his retirement in 1996.

     David M. Wittels has served as a director of Holding since  December  1997.
Mr. Wittels has been a Managing  Director of DLJ Merchant  Banking since January
2001 and has served in various capacities with DLJ Merchant Banking for the past
five years.  Mr. Wittels also serves as a director of Mueller  Holdings  (N.A.),
Inc., Ziff Davis Holdings,  Inc., Advanstar,  Inc. and Advanstar  Communications
Inc.

     David A.  Durkin has served as a director  of Holding  since May 2002.  Mr.
Durkin has been a Vice  President of DLJ Merchant  Banking since 2000.  Prior to
that,  he served as a Vice  President in the  Leveraged  Finance Group and other
roles in the Investment Banking  Department of DLJ Securities  Corporation since
1996. Mr. Durkin also serves as a director of Seabulk International, Inc.

COMPENSATION OF DIRECTORS

     Except  for  Mr.  Kirkpatrick,  who  receives  an  annual  fee of  $20,000,
directors of Holding  will not receive  compensation  for services  rendered but
will be reimbursed  for  out-of-pocket  expenses  incurred by them in connection
with their travel to and  attendance  at board  meetings and  committees  of the
board.  Mr.  Kirkpatrick  also received a grant of 5,000 stock options in fiscal
2000.

APPROVAL OF NON-AUDIT SERVICES

     The board of  directors  has  approved  the  provision  of tax  services by
PricewaterhouseCoopers,  the Company's independent auditors, for the fiscal year
ended June 30, 2002 and the fiscal year ending June 30, 2003.


                                       34


<PAGE>


ITEM 11.  EXECUTIVE COMPENSATION

     The  following  table sets  forth  certain  information  for the three most
recently  completed  fiscal years with respect to the  compensation of our chief
executive officer and our other most highly compensated executive officers whose
total annual  compensation  exceeded $100,000.  We refer to these individuals as
our named executive officers.

<TABLE>
<CAPTION>

                           Summary Compensation Table

                                                                                             Long Term
                                                   Annual Compensation                      Compensation
                                                   -------------------                      ------------

                                              Fiscal                                         Securities             All Other
        Name and Principal Position            Year        Salary          Bonus         Underlying Options     Compensation(1)
        ---------------------------            ----        ------          -----         ------------------     ---------------

<S>                                            <C>     <C>             <C>                      <C>                   <C>
William J. Fox                                 2002    $   775,000     $   1,190,724                --                8,545
   President, Chief Executive Officer          2001        700,000         1,125,000                --                8,545
   And Director                                2000        650,000         1,214,000            888,000(2)            8,145

Kenneth A. Budde                               2002        210,000           121,653                --                6,800
   Chief Financial Officer                     2001        190,000           135,000                --                6,800
                                               2000        175,000           102,500            160,000               7,090

A. Bruce Prashker                              2002        205,000            77,613                --                6,800
  Senior Vice President                        2001        190,000            90,000                --                4,787
                                               2000         34,346                --             50,000                  --


</TABLE>

     (1)  Represents  amounts  contributed  on behalf of the named  executive to
          401(k) retirement  savings plan and amounts paid for supplemental life
          insurance premiums.

     (2)  Pursuant to the terms of his  employment  agreement,  Mr. Fox received
          options to acquire 5% of AHC's issued and outstanding  common stock on
          a pro forma fully diluted basis.  As of June 30, 2000,  888,000 shares
          of common stock represented 5% of AHC's issued and outstanding  common
          stock on a pro forma fully diluted basis.


OPTION GRANTS IN LAST FISCAL YEAR

     There were no stock options  granted during fiscal 2002 to any of the named
executive officers.

FISCAL YEAR END OPTION VALUES

     The following  table sets forth  information  about the number and value of
options held by the named executive  officers as of June 30, 2002. The values of
the  in-the-money  options have been  calculated on the basis of $1.00 per share
fair  market  value of our  common  stock as of that  date  less the  applicable
exercise price.


                                       35


<PAGE>


<TABLE>
<CAPTION>

                             Year End Option Values

                                             Number of securities
                                            underlying unexercised           Value of unexercised in-the-
                                           options at June 30, 2002          money options at June 30, 2002
                                         --------------------------------- ---------------------------------


                 Name                       Exercisable    Unexercisable      Exercisable    Unexercisable
                 ----                       -----------    -------------      -----------    -------------

<S>                                           <C>             <C>                  <C>              <C>
William J. Fox                                666,000         222,000              --               --
   President, Chief Executive Officer
   And Director

Kenneth A. Budde                              126,667          33,333              --               --
   Chief Financial Officer

A. Bruce Prashker                              41,667           8,333              --               --
   Senior Vice President

</TABLE>


EQUITY-BASED COMPENSATION

     AHC adopted the 1998 Stock Option Plan for  employees  and directors of AHC
and any parent or subsidiary  corporation  of AHC. The  objectives of the option
plan are (1) to retain the  services  of persons  holding key  positions  and to
secure the  services of persons  capable of filling  such  positions  and (2) to
provide  persons  responsible  for the future  growth of AHC an  opportunity  to
acquire  a  proprietary  interest  in our  Company  and thus  create in such key
employees an increased  interest in and a greater concern for the welfare of our
Company.

     The  option  plan  authorizes  the  issuance  of  options  to acquire up to
1,650,000  shares of common stock of AHC. The option plan is administered by the
board of directors or a compensation  committee to be designated by the board of
directors. Pursuant to the option plan, AHC may grant options, including options
that become exercisable as performance standards determined by the committee are
met,  to key  employees  and  directors  of AHC and  any  parent  or  subsidiary
corporation.  The terms of any grant will be determined by the committee and set
forth in a separate grant  agreement.  The exercise price will be at least equal
to the fair  market  value per share of AHC  common  stock on the date of grant,
provided that the exercise price shall not be less than $1.00 per share. Options
may be  exercisable  for  up to ten  years.  The  committee  has  the  right  to
accelerate  the right to  exercise  any option  granted  under the  option  plan
without  effecting the expiration date thereof.  Upon the occurrence of a change
in control  (as  defined in the option  plan) of AHC,  each  option  may, at the
discretion of the  committee,  be terminated  upon notice to the holder and each
such holder will receive, in respect of each share of AHC common stock for which
such option is then exercisable,  an amount equal to the excess of the then fair
market  value of such  share of AHC  common  stock  over the per share  exercise
price.

     AHC granted  21,000  options for shares of capital stock in fiscal 2002 and
no options for shares of capital  stock of AHC were  exercised  in fiscal  2002.
These options vest over a three year period.


                                       36


<PAGE>


EMPLOYMENT AGREEMENTS

Fox Agreement

     On January 27, 1999,  William J. Fox entered into an  employment  agreement
with us effective  February 1, 1999 and as amended  effective  July 1, 2001. The
agreement  initially  ended on February 1, 2002,  the third  anniversary  of the
effective  date,  subject to  extension  for one  additional  day each day after
February  1,  2000,   unless  either  party  provides   notice  not  to  extend.
Accordingly, as of September 1, 2002 the agreement ends on September 1, 2004.

     Mr.  Fox's  base  salary  is  $788,175  and he is  eligible  to  receive  a
performance-based  bonus of between  50% to 100% or between  100% to 200% of his
base salary upon achievement of targeted goals, and other incentive payments.

     Pursuant to the terms of his employment agreement, Mr. Fox received options
to acquire 5% of AHC's issued and outstanding  common stock on a pro forma fully
diluted basis, subject to anti-dilution  protection.  These options will vest at
specified  dates and upon the occurrence of specified  conditions.  In addition,
upon a change in control  (as  defined in the  employment  agreement),  all time
vested options vest and all performance  vested options vest if the DLJ Entities
(as defined in the  employment  agreement)  achieve  certain levels of return on
their equity investments.

     If Mr. Fox's employment is terminated by us without cause or by Mr. Fox for
good reason,  we will pay Mr. Fox two times his base salary,  50% of such amount
on termination of employment and 50% paid in equal monthly  installments  over a
six-month  period following the date of termination.  However,  in the event Mr.
Fox's  employment  is  terminated  by us  without  cause or by Mr.  Fox for good
reason, in either case within sixteen months following a change of control,  Mr.
Fox is  entitled  to an amount  equal to two times the  highest  aggregate  base
salary  and  performance-based  bonus  amount  paid  to him in any of the  three
calendar years prior to the effective date of any change of control, 50% of such
amount on termination  of employment and 50% paid in equal monthly  installments
over a six-month period following the date of termination.  In addition, Mr. Fox
will receive a pro-rata  bonus for the year of termination if he would have been
entitled  to  such  a  bonus  had  he  remained  employed  during  the  year  of
termination.  If such  termination  occurs  within  6 months  of a time  where a
tranche of  time-vested  options  would  otherwise  become  exercisable,  then a
pro-rata portion of such tranche will become exercisable.

     The  employment  agreement  contains  confidentiality,  noncompetition  and
nonsolicitation   provisions.  The  restricted  period  for  the  noncompetition
provisions upon  termination of employment is two years if Mr. Fox's  employment
is terminated by us without cause or by us for good reason,  and one year if Mr.
Fox's employment is terminated for any other reason.


                                       37


<PAGE>


Budde Agreement

     Mr. Budde is presently  retained as chief financial  officer pursuant to an
employment  agreement that provides for an annual base salary of $220,500 and he
is eligible to receive a performance-based  bonus of 60% of his base salary upon
achievement  of  targeted  goals and up to 100% of his base  salary  for  higher
performance.  The term of the employment agreement with Mr. Budde, which expires
on June 30, 2003, automatically renews for additional twelve-month terms, unless
either party elects otherwise. If Mr. Budde is terminated by us without cause or
if we elect not to renew Mr. Budde's employment, we will pay Mr. Budde an amount
equal  to his base  salary  over a  twelve-month  period  following  the date of
termination.

Prashker Agreement

     Mr.  Prashker is presently  retained as senior vice  president at an annual
salary base of  $215,300.  Mr.  Prashker  has a salary  continuation  agreement,
whereby,  if Mr. Prashker is terminated by us without cause within one year of a
change of control,  Mr.  Prashker  is  entitled  to an amount  equal to his base
salary over a twelve-month period following the date of termination.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

     None of AHC,  Holding or AKI had a  compensation  committee  during  fiscal
2002.  Certain  members  of  our  board  of  directors,   other  than  Mr.  Fox,
participated in deliberations  regarding compensation to be paid to Mr. Fox. Mr.
Fox determined  the  compensation  to be paid to other  executive  officers,  in
consultation with certain members of our Board of Directors.


                                       38


<PAGE>


ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     All of AKI's issued and outstanding capital stock is owned by Holding.  All
of Holding's issued and outstanding capital stock is owned by AHC. The following
table sets forth  certain  information  as of September 12, 2002 with respect to
the  beneficial  ownership  of AHC common stock by (1) owners of more than 5% of
such AHC common stock, (2) each director and named executive  officer of Holding
and (3) all directors and executive officers of Holding, as a group.

<TABLE>
<CAPTION>

                                                                                     Shares           Percentage of
                                                                                  Beneficially       Outstanding AHC
                               Beneficial Owner                                      Owned             Common Stock
                               ----------------                                      -----             ------------

<S>                                                                                  <C>                    <C>
DLJ Merchant Banking Partners, II, L.P. and affiliated entities (1)                  15,921,111             98.8%
William J. Fox (2)                                                                      888,000              5.2%
Thompson Dean (3)                                                                             -                -
Hugh R. Kirpatrick (2)                                                                    5,000                *
David A. Durkin (3)                                                                           -                -
David M. Wittels (3)                                                                          -                -
Kenneth A. Budde (2)                                                                    160,000                *
A. Bruce Prashker (2)                                                                    41,667                *
All directors and executive officers as a group (2)                                   1,094,667             6.4%

-------------

</TABLE>

     * Less than one percent.

     (1)  Consists  of  shares  held  directly  by  the   following   affiliated
          investors: DLJ Merchant Banking Partners II, L.P; DLJ Merchant Banking
          Partners  II-A,  LP  ("DLJMBII-A);  DLJ  Offshore  Partners  II,  C.V.
          ("Offshore Partners II"); DLJ Diversified Partners, L.P. ("Diversified
          Partners");    DLJ   Diversified    Partners-A,    L.P   ("Diversified
          Partners-A");   DLJMB  Funding  II,  Inc.   ("DLJ  Funding  II");  DLJ
          Millennium  Partners,  L.P.  ("Millennium  Partners");  DLJ Millennium
          Partners-A,  L.P,  ("Millennium  Partners-A");  DLJ EAB Partners,  L.P
          ("EAB  Partners");  UK Investment Plan 1997 Partners ("UK  Partners");
          and DLJ First ESC L.P ("First  ESC").  The address of each of DLJMBII,
          DLJMBII-A,  Diversified Partners,  Diversified Partners-A, DLJ Funding
          II, Scratch & Sniff, Millennium Partners,  Millennium Partners-A,  EAB
          Partners and First ESC is Eleven  Madison  Avenue,  New York, New York
          10010.  The address of Offshore  Partners II is John B. Gorsiraweg 14,
          Willemstad,  Curacao, Netherlands Antilles. The address of UK Partners
          is 2121  Avenue of the Stars,  Fox Plaza,  Suite  3000,  Los  Angeles,
          California  90067.  Does not include 18,000 shares of AHC Common Stock
          held  directly by the Scratch & Sniff  Funding,  Inc., an affiliate of
          DLJMBII.

     (2)  Includes  shares of common stock  issuable  upon the exercise of stock
          options exercisable within 60 days of September 12, 2002.

     (3)  Messrs. Dean, Durkin and Wittels are officers of DLJ Merchant Banking,
          an  affiliate  of  DLJMBII.  Share  data  shown  for such  individuals
          excludes  shares  shown as held by  DLJMBII or its  affiliates,  as to
          which


                                       39


<PAGE>


          such individuals disclaim beneficial ownership. The address of each of
          Messrs.  Dean, Durkin and Wittels is  Eleven Madison Avenue, New York,
          New York 10010.


ITEM 13. RELATED PARTY TRANSACTIONS

TRANSACTIONS WITH DLJMBII AND THEIR AFFILIATES

     Messrs.  Dean  and  Wittels,  who are  directors  of AKI and  officers  and
directors of Holding and AHC, are officers of DLJ Merchant Banking. DLJ Merchant
Banking,   together  with   DLJMBII,   beneficially   own,  in  the   aggregate,
approximately 98.8% of the outstanding common stock of AHC.

     Pursuant to an agreement between  Donaldson,  Lufkin & Jenrette  Securities
Corporation  ("DLJ") and AHC,  DLJ receives an annual fee of $250,000 for acting
as the exclusive  financial and  investment  banking  advisor until December 31,
2002. Our Company has agreed to indemnify DLJ in connection  with its actions as
our financial advisor.

STOCKHOLDERS AGREEMENT

     In connection with the acquisition of our Company, AHC, DLJMBII and certain
investors in our Company prior to the  acquisition  entered into a  stockholders
agreement,  dated as of December 15, 1997,  that sets forth  certain  rights and
restrictions  relating to the ownership of the capital  stock of AHC  (including
securities  exercisable for or convertible or exchangeable into capital stock of
AHC) and agreements  among the parties  thereto as to the governance of AHC and,
indirectly, Holding and AKI.

     Pursuant  to the  stockholders  agreement,  the board of  directors  of AHC
consists of six  members,  of which four may  currently be nominated by DLJMBII.
The Chief Executive Officer of our Company is also to be a member of the board.

     The stockholders agreement contains (1) certain restrictions on the ability
of each holder of capital stock of AHC to transfer any capital stock of AHC, (2)
certain  preemptive  rights to the  holders of capital  stock of AHC,  (3) "drag
along"  rights to DLJMBII to require the  remaining  holders of capital stock of
AHC to sell a percentage  of their  ownership  and (4) "tag along" rights to the
holders of capital stock of AHC,  other than  DLJMBII,  with respect to sales of
capital stock of AHC by DLJMBII.

     DLJMBII  is  entitled  to demand and piggy back  registration  rights  with
regard to its shares of our common stock.

STOCKHOLDER NOTES

     Our Company has a promissory  note payable to AHC which allows us to borrow
up to $10 million at such  interest  rates and due as agreed upon by the Company
and AHC.  Interest paid to AHC in connection  with the  promissory  note totaled
approximately  $14,000,  $320,000 and $22,000 for the years ended June 30, 2002,
2001 and 2000, respectively.


                                       40


<PAGE>


TRANSACTIONS WITH LOEHMANN'S, INC.

     In fiscal 2002 we performed  marketing and design  services for Loehmann's,
Inc.  totaling  approximately  $47,000  and  are in the  process  of  performing
additional services with anticipated revenues of approximately $86,000. Mr. Fox,
our President and Chief Executive Officer,  is also on the Board of Directors of
Loehmann's,  Inc. We believe that our services provided to Loehmann's,  Inc. are
on terms no less  favorable  than could have been  provided  to an  unaffiliated
third party.


                                       41


<PAGE>


                                     PART IV


ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

          (a)     1.     Financial Statements.

                         The financial statements listed on the accompanying
                         index to such financial statements are filed as part
                         of this report.

                  2.     Financial Statement Schedule.

                         None.

                  3.     Exhibits and Exhibit Index.



3.1             Certificate of Incorporation of Holding. (1)

3.2             Certificate of Incorporation of AKI. (2)

3.3             Bylaws of Holding. (1)

3.4             Bylaws of AKI. (2)

4.1             Indenture  dated as of June 25, 1998  between  Holding and State
                Street Bank and Trust  Company,  as Trustee. (1)

4.2             Indenture dated as of June 25, 1998 between AKI and IBJ Schroder
                Trust Company, as Trustee. (2)

4.3             Form of 13 1/2% Senior Discount Debentures due July 1, 2009
                (included in Exhibit 4.1).

4.4             Form of 10 1/2% Senior Discount Notes due July 1, 2008
                (included in Exhibit 4.2).

10.1            Registration Rights Agreement of Holding, dated as of
                June 25, 1998 between Holding and DLJMBII. (1)

10.2            Registration Rights Agreement of AKI, dated as of June 25, 1998,
                between AKI and DLJMBII. (2)

10.3            AHC Stock Option Plan. (1)

10.4            Employment Agreement dated as of February 1, 1999 between
                Holding and William J. Fox. (3) +

10.5            Amendment to Employment Agreement dated as of September 17, 2001
                between Holding and William J. Fox. (4) +

10.6            Salary  Continuation  Agreement dated as of October 1, 2001
                between Arcade Marketing, Inc. and Bruce Prashker. (5) +

10.7            Employment Agreement dated as of July 1, 2000 between Holding
                and Kenneth A. Budde. (6) +


                                       42


<PAGE>


10.8            Amended and Restated Credit Agreement dated as of December 8,
                2001 between the Company and Heller Financial, Inc. (7)

10.9            Financial Advisory Agreement dated as of December 12, 1997
                between AHC and DLJ. (1)

12.1            Computation of Ratio of Earnings to Fixed Charges. *

21.1            Subsidiaries of Holding. *

99.1            Certification by Chief Executive Officer.

99.2            Certification by Chief Financial Officer.

--------------

(1)      Incorporated by reference from Registrant's Registration Statement on
         Form S-4, File No. 333-60991 filed with the Securities and Exchange
         Commission on August 7, 1998.

(2)      Incorporated by reference from Registrant's Registration Statement on
         Form S-4, File No. 333-60989 filed with the Securities and Exchange
         Commission on August 7, 1998.

(3)      Incorporated by reference from Registrant's Current Report on Form 8-K
         filed with the Securities and Exchange Commission on February 4, 1999.

(4)      Incorporated by reference from Registrant's Annual Report on Form 10-K
         filed with the Securities and Exchange Commission on September 18,
         2001.

(5)      Incorporated by reference from Registrant's Quarterly Report on Form
         10-Q filed with the Securities and Exchange Commission on November 9,
         2001.

(6)      Incorporated by reference from Registrant's Annual Report on Form 10-K
         filed with the Securities and Exchange Commission on September 28,
         2000.

(7)      Incorporated by reference from Registrant's Report on Form 8-K filed
         with the Securities and Exchange Commission on December 26, 2001.

*        Filed herewith

+        Compensatory Contract


         (b)      Reports on Form 8-K.

                  No reports on Form 8-K were filed during the three months
                  ended June 30, 2002.


                                       43


<PAGE>


                                   SIGNATURES

     Pursuant  to the  requirements  of  Section  13 or 15(d) of the  Securities
Exchange Act of 1934, AKI Holding Corp. has duly caused this report to be signed
on its behalf by the  undersigned,  thereunto duly authorized on the 24th day of
September, 2002.

                                       AKI HOLDING CORP.

                                           (Registrant)


                                       By: /S/ William J. Fox
                                           -------------------------------------
                                           William J. Fox
                                           President and Chief Executive Officer

     Each person whose signature  appears below hereby  appoints  William J. Fox
and  Kenneth  A.  Budde,  or any of  them,  as such  person's  true  and  lawful
attorney-in-fact,  with full power of  substitution or  resubstitution  for such
person and in such person's name, place and stead, in any and all capacities, to
sign on such person's  behalf,  individually  and in each capacity stated below,
any and all amendments to this Report on Form 10-K,  with all exhibits  thereto,
and other  documents in connection  therewith,  with the Securities and Exchange
Commission, granting unto said attorneys-in-fact, full power and authority to do
and perform  each and every act and thing  requisite  or necessary to be done in
and about the  premises,  as fully to all  intents  and  purposes as such person
might or could do in  person,  hereby  ratifying  and  confirming  all that said
attorneys-in-fact,  or their substitute or substitutes, may lawfully do or cause
to be done by virtue hereof.

     Pursuant to the  requirements of the Securities  Exchange Act of 1934, this
report has been signed by the following  persons in the capacities  indicated on
the 24th day of September, 2002.

        SIGNATURE                                         TITLE
        ---------                                         -----

/S/ Thompson Dean                            Chairman and Director
--------------------------------
Thompson Dean

                                             President, Chief Executive Officer
/S/ William J. Fox                           and Director  (Principal Executive
--------------------------------             Officer)
William J. Fox


/S/ Kenneth A. Budde                         Senior Vice President, Chief
--------------------------------             Financial Officer and Secretary
Kenneth A. Budde                             (Principal Financial and
                                             Accounting Officer)

/S/ David A. Durkin                          Director
--------------------------------
David A. Durkin


                                       44


<PAGE>


/S/ Hugh R. Kirkpatrick                      Director
--------------------------------
Hugh R. Kirkpatrick


/S/ David M. Wittels                         Director
--------------------------------
David M. Wittels


CERTIFICATIONS

I, William J. Fox, certify that:

     1.   I have reviewed this annual report on Form 10-K of AKI Holding Corp.;

     2.   Based on my knowledge,  this annual report does not contain any untrue
          statement  of a  material  fact  or  omit to  state  a  material  fact
          necessary to make the statements  made, in light of the  circumstances
          under which such  statements were made, not misleading with respect to
          the period covered by this annual report; and

     3.   Based on my knowledge,  the financial statements,  and other financial
          information  included in this  annual  report,  fairly  present in all
          material respects the financial  condition,  results of operations and
          cash flows of the registrant as of, and for, the periods  presented in
          this annual report.

Date: September 24, 2002
/S/ William J. Fox
---------------------------------
William J. Fox
Chief Executive Officer

I, Kenneth A. Budde, certify that:

     1.   I have reviewed this annual report on Form 10-K of AKI Holding Corp.;

     2.   Based on my knowledge,  this annual report does not contain any untrue
          statement  of a  material  fact  or  omit to  state  a  material  fact
          necessary to make the statements  made, in light of the  circumstances
          under which such  statements were made, not misleading with respect to
          the period covered by this annual report; and

     3.   Based on my knowledge,  the financial statements,  and other financial
          information  included in this  annual  report,  fairly  present in all
          material respects the financial  condition,  results of operations and
          cash flows of the registrant as of, and for, the periods  presented in
          this annual report.

Date: September 24, 2002
/S/ Kenneth A. Budde
---------------------------------
Kenneth A. Budde
Chief Financial Officer


                                       45


<PAGE>



                                   SIGNATURES

     Pursuant  to the  requirements  of  Section  13 or 15(d) of the  Securities
Exchange Act of 1934,  AKI, Inc. has duly caused this report to be signed on its
behalf  by  the  undersigned,  thereunto  duly  authorized  on the  24th  day of
September, 2002.

                                       AKI, INC.

                                           (Registrant)


                                       By: /S/ William J. Fox
                                           -------------------------------------
                                           William J. Fox
                                           President, Chief Executive Officer
                                           and Chairman

     Each person whose signature  appears below hereby  appoints  William J. Fox
and  Kenneth  A.  Budde,  or any of  them,  as such  person's  true  and  lawful
attorney-in-fact,  with full power of  substitution or  resubstitution  for such
person and in such person's name, place and stead, in any and all capacities, to
sign on such person's  behalf,  individually  and in each capacity stated below,
any and all amendments to this Report on Form 10-K,  with all exhibits  thereto,
and other  documents in connection  therewith,  with the Securities and Exchange
Commission, granting unto said attorneys-in-fact, full power and authority to do
and perform  each and every act and thing  requisite  or necessary to be done in
and about the  premises,  as fully to all  intents  and  purposes as such person
might or could do in  person,  hereby  ratifying  and  confirming  all that said
attorneys-in-fact,  or their substitute or substitutes, may lawfully do or cause
to be done by virtue hereof.

     Pursuant to the  requirements of the Securities  Exchange Act of 1934, this
report has been signed by the following  persons in the capacities  indicated on
the 24th day of September, 2002.

        SIGNATURE                                         TITLE
        ---------                                         -----

/S/ William J. Fox                           President, Chief Executive Officer,
--------------------------------             Chairman and Director  (Principal
William J. Fox                               Executive Officer)

/S/ Kenneth A. Budde                         Senior Vice President, Chief
--------------------------------             Financial Officer and Secretary
Kenneth A. Budde                             (Principal Financial and
                                             Accounting Officer)

/S/ Thompson Dean                            Director
--------------------------------
Thompson Dean

/S/ David A. Durkin                          Director
--------------------------------
David A. Durkin


                                       46


<PAGE>


/S/ Hugh R. Kirkpatrick                      Director
--------------------------------
Hugh R. Kirkpatrick

/S/ David M. Wittels                         Director
--------------------------------
David M. Wittels


CERTIFICATIONS:

I, William J. Fox, certify that:

     1.   I have reviewed this annual report on Form 10-K of AKI, Inc.;

     2.   Based on my knowledge,  this annual report does not contain any untrue
          statement  of a  material  fact  or  omit to  state  a  material  fact
          necessary to make the statements  made, in light of the  circumstances
          under which such  statements were made, not misleading with respect to
          the period covered by this annual report; and

     3.   Based on my knowledge,  the financial statements,  and other financial
          information  included in this  annual  report,  fairly  present in all
          material respects the financial  condition,  results of operations and
          cash flows of the registrant as of, and for, the periods  presented in
          this annual report.

Date: September 24, 2002
/S/ William J. Fox
--------------------------------
William J. Fox
Chief Executive Officer

I, Kenneth A. Budde, certify that:

     1.   I have reviewed this annual report on Form 10-K of AKI, Inc.;

     2.   Based on my knowledge,  this annual report does not contain any untrue
          statement  of a  material  fact  or  omit to  state  a  material  fact
          necessary to make the statements  made, in light of the  circumstances
          under which such  statements were made, not misleading with respect to
          the period covered by this annual report; and

     3.   Based on my knowledge,  the financial statements,  and other financial
          information  included in this  annual  report,  fairly  present in all
          material respects the financial  condition,  results of operations and
          cash flows of the registrant as of, and for, the periods  presented in
          this annual report.

Date: September 24, 2002
/S/ Kenneth A. Budde
--------------------------------
Kenneth A. Budde
Chief Financial Officer


                                       47


<PAGE>


SUPPLEMENTAL  INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO SECTION
15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO
SECTION 12 OF THE ACT.

     No annual  report or proxy  material  has been or is expected to be sent to
security holders of the registrants.


                                       48


<PAGE>


                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

CONSOLIDATED FINANCIAL STATEMENTS OF AKI HOLDING CORP.:

   Report of Independent Accountants.....................................   F-2

   Consolidated Balance Sheets at June 30, 2002 and 2001.................   F-3

   Consolidated Statements of Operations for the years ended
       June 30, 2002, 2001 and 2000 .....................................   F-4

   Consolidated Statements of Stockholder's Equity
       for the years ended June 30, 2002, 2001 and 2000 .................   F-5

   Consolidated Statements of Cash Flows for the years ended
       June 30, 2002, 2001 and 2000 .....................................   F-6

   Notes to Consolidated Financial Statements............................   F-7

CONSOLIDATED FINANCIAL STATEMENTS OF AKI, INC.:

   Report of Independent Accountants.....................................  F-24

   Consolidated Balance Sheets at June 30, 2002 and 2001 ................  F-25

   Consolidated Statements of Operations for the years ended
       June 30, 2002, 2001 and 2000 .....................................  F-26

   Consolidated Statements of Stockholder's Equity
       for the years ended June 30, 2002, 2001 and 2000 .................  F-27

   Consolidated Statements of Cash Flows for the years ended
       June 30, 2002, 2001 and 2000 .....................................  F-28

   Notes to Consolidated Financial Statements............................  F-29


                                      F-1


<PAGE>


                        REPORT OF INDEPENDENT ACCOUNTANTS


To the Board of Directors and Stockholder of
  AKI Holding Corp. and Subsidiaries

     In our  opinion,  the  accompanying  consolidated  balance  sheets  and the
related  consolidated  statements of operations,  stockholder's  equity and cash
flows present fairly, in all material  respects,  the financial  position of AKI
Holding Corp.  and  Subsidiaries  at June 30, 2002 and 2001,  and the results of
their  operations and their cash flows for each of the three years in the period
ended June 30, 2002 in conformity with generally accepted accounting  principles
in  the  United  States  of  America.   These   financial   statements  are  the
responsibility  of management;  our  responsibility  is to express an opinion on
these financial statements based on our audits. We conducted our audits of these
statements  in  accordance  with auditing  standards  generally  accepted in the
United  States of America,  which  require that we plan and perform the audit to
obtain reasonable  assurance about whether the financial  statements are free of
material  misstatement.  An audit includes examining,  on a test basis, evidence
supporting the amounts and  disclosures in the financial  statements,  assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall  financial  statement  presentation.  We believe that our
audits provide a reasonable basis for our opinion.






PricewaterhouseCoopers LLP
Knoxville, Tennessee
August 2, 2002


                                      F-2


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
             (in thousands, except share and per share information)


<TABLE>
<CAPTION>
                                                                                              June 30,
                                                                                    ----------------------------
                                                                                        2002             2001
                                                                                        ----             ----

<S>                                                                                 <C>              <C>
ASSETS
Current assets
Cash and cash equivalents..............................................             $     1,875      $     4,654
Accounts receivable, net...............................................                  23,796           18,020
Inventory, net.........................................................                   8,014            6,330
Prepaid expenses.......................................................                     667              492
Deferred income taxes..................................................                     977              770
                                                                                    -----------      -----------
      Total current assets.............................................                  35,329           30,266

Property, plant and equipment, net.....................................                  19,616           15,778
Goodwill, net .........................................................                 153,277          157,334
Other intangible assets, net...........................................                  13,142            6,337
Deferred charges, net..................................................                   4,059            4,381
Deferred income taxes..................................................                     692                -
Other assets...........................................................                     164               88
                                                                                    -----------      -----------
      Total assets.....................................................             $   226,279      $   214,184
                                                                                    ===========      ===========

LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities
Current portion of capital lease obligations...........................             $         -      $       503
Current portion of long-term debt......................................                   1,375                -
Accounts payable, trade................................................                   5,826            3,886
Accrued income taxes...................................................                   2,007            1,642
Accrued compensation...................................................                   5,338            4,715
Accrued interest.......................................................                   5,570            5,443
Accrued expenses.......................................................                   3,642            3,908
                                                                                    -----------      -----------
      Total current liabilities........................................                  23,758           20,097

Revolving credit line..................................................                   2,750                -
Term loan..............................................................                   8,125                -
Senior notes...........................................................                 103,510          103,510
Senior discount debentures.............................................                  15,901           23,926
Deferred income taxes..................................................                       -               19
Other non-current liabilities..........................................                   2,338            1,863
                                                                                    -----------      -----------
      Total liabilities................................................                 156,382          149,415

Commitments and contingencies

Stockholder's equity
Common stock, $0.01 par, 1,000 shares authorized; 1,000
    shares issued and outstanding......................................                       -                -
Additional paid-in capital.............................................                  93,656           93,656
Accumulated deficit....................................................                  (7,583)         (12,320)
Accumulated other comprehensive loss...................................                    (446)            (837)
Carryover basis adjustment.............................................                 (15,730)         (15,730)
                                                                                    ------------     -----------
      Total stockholder's equity.......................................                  69,897           64,769
                                                                                    -----------      -----------

      Total liabilities and stockholder's equity.......................             $   226,279      $   214,184
                                                                                    ===========      ===========

</TABLE>


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


                                      F-3


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                 (in thousands)

<TABLE>
<CAPTION>

                                                                                      Year Ended June 30,
                                                                           ----------------------------------------
                                                                              2002           2001           2000
                                                                              ----           ----           ----

<S>                                                                        <C>            <C>             <C>
Net sales.....................................................             $ 120,893      $ 115,395       $  99,811
Cost of goods sold............................................                73,888         71,336          61,552
                                                                           ---------      ---------       ---------

     Gross profit.............................................                47,005         44,059          38,259

Selling, general and administrative expenses .................                18,943         18,199          16,980
Amortization of goodwill and other intangible assets..........                 6,451          5,757           5,336
Gain from settlement of purchase price dispute, net...........                  (992)             -            (858)
                                                                           ----------     ---------       ----------

     Income from operations...................................                22,603         20,103          16,801

Other expenses (income):
   Interest expense...........................................                15,633         16,911          17,401
   Management fees to stockholders and affiliate..............                   250            250             250
                                                                           ---------      ---------       ---------

     Income (loss) before income taxes and extraordinary gain.                 6,720          2,942            (850)

Income tax expense............................................                 4,658          3,449           1,596
                                                                           ---------      ---------       ---------

     Income (loss) before extraordinary gain..................                 2,062           (507)         (2,446)

Extraordinary gain from early retirement of debt, net of tax..                 2,675          2,016           1,089
                                                                           ---------      ---------       ---------

   Net income (loss)..........................................             $   4,737      $   1,509       $  (1,357)
                                                                           =========      =========       =========

</TABLE>

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


                                      F-4


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                 CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
                    (in thousands, except share information)

<TABLE>
<CAPTION>

                                                                                                   Accumulated
                                                       Additional                      Other        Carryover
                                       Common Stock      Paid-in     Accumulated   Comprehensive      Basis
                                      Shares  Amount     Capital       Deficit          Loss        Adjustment      Total
                                      ------  ------     -------       -------          ----        ----------      -----


<S>                                    <C>    <C>       <C>            <C>           <C>            <C>           <C>
Balances, June 30, 1999...........     1,000  $   -     $  78,364      $(12,472)     $    (365)     $ (15,730)    $ 49,797
Equity contribution by AHC I
  Acquisition Corp................         -      -        10,571             -              -              -       10,571
Net loss..........................         -      -             -        (1,357)             -              -       (1,357)
Other comprehensive loss, net
  of tax:
   Foreign currency translation
     adjustment...................         -      -             -             -           (177)             -         (177)
                                                                                                                  --------
Comprehensive loss................                                                                                  (1,534)
                                      ------  -----     ---------      --------      ---------      ---------     --------

Balances, June 30, 2000...........     1,000      -        88,935       (13,829)          (542)       (15,730)      58,834
Equity contribution by AHC I
  Acquisition Corp................         -      -         4,721             -              -              -        4,721
Net income........................         -      -             -         1,509              -              -        1,509
Other comprehensive loss, net
  of tax:
   Foreign currency translation
     adjustment...................         -      -             -             -           (295)             -         (295)
                                                                                                                  --------
Comprehensive income..............                                                                                   1,214
                                      ------  -----     ---------      --------      ---------      ---------     --------

Balances, June 30, 2001...........     1,000      -        93,656       (12,320)          (837)       (15,730)      64,769
Net income........................         -      -             -         4,737              -              -        4,737
Other comprehensive loss, net
  of tax:
   Foreign currency translation
     adjustment...................         -      -             -             -            391              -          391
                                                                                                                  --------
Comprehensive income..............                                                                                   5,128
                                     -------  -----     ---------      --------      ---------      ---------     --------

Balances, June 30, 2002...........     1,000  $   -     $  93,656      $ (7,583)     $    (446)     $ (15,730)    $ 69,897
                                     =======  =====     =========      ========      =========      =========     ========

</TABLE>


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


                                      F-5


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (in thousands)

<TABLE>
<CAPTION>

                                                                                      Year Ended June 30,
                                                                        --------------------------------------------
                                                                           2002              2001             2000
                                                                           ----              ----             ----
<S>                                                                     <C>               <C>              <C>
Cash flows from operating activities:
   Net income (loss)..........................................          $   4,737         $   1,509        $  (1,357)
   Adjustment to reconcile net income (loss) to net cash
    provided by operating activities:
     Depreciation and amortization of goodwill and other
       intangibles............................................             12,096            10,119            9,738
     Amortization of debt discount............................              3,029             3,610            3,639
     Amortization of loan closing costs.......................                693               808            1,050
     Deferred income taxes....................................               (918)             (712)           1,359
     Gain from early retirement of debt.......................             (3,941)           (3,446)          (2,087)
     Other....................................................                472               (84)              (1)
     Changes in operating assets and liabilities:
       Accounts receivable....................................             (2,541)            3,502           (2,576)
       Inventory..............................................                690             1,427           (2,496)
       Prepaid expenses, deferred charges and other assets....               (131)             (400)             450
       Accounts payable and accrued expenses..................               (754)            1,939           (2,637)
       Income taxes...........................................                365             1,332             (155)
                                                                        ---------         ---------        ---------

       Net cash provided by operating activities..............             13,797            19,604            4,927
                                                                        ---------         ---------        ---------

Cash flows from investing activities:
   Purchases of equipment.....................................             (1,338)           (3,015)          (2,782)
   Payments for acquisitions, net of cash acquired............            (19,422)                -          (16,164)
   Patents....................................................                (79)             (137)            (150)
                                                                        ---------         ---------       ----------
       Net cash used in investing activities..................            (20,839)           (3,152)         (19,096)
                                                                        ---------         ---------       ----------

Cash flows from financing activities:
   Payments under capital leases for equipment................               (503)             (846)            (688)
   Repayments of long-term debt...............................             (6,805)           (3,110)               -
   Net proceeds (repayments) on revolving loan................              2,750            (9,000)           9,000
   Proceeds from term loan, net of repayment of $500 in 2002..              9,500                 -                -
   Payments of loan closing costs.............................               (679)                -                -
                                                                        ---------         ---------        ---------

       Net cash provided by (used in) financing activities....              4,263           (12,956)           8,312
                                                                        ---------         ---------        ---------

Net increase (decrease) in cash and cash equivalents..........             (2,779)            3,496           (5,857)
Cash and cash equivalents, beginning of period................              4,654             1,158            7,015
                                                                        ---------         ---------        ---------
Cash and cash equivalents, end of period......................          $   1,875         $   4,654        $   1,158
                                                                        =========         =========        =========

Supplemental information:
   Cash paid (received) during the period for:
       Interest to stockholder(s) and affiliate...............          $      14         $     320        $      22
       Interest, other........................................             11,600            12,233           13,188
       Income taxes...........................................              6,857             4,115            1,264

Significant non-cash activities:
   Contribution of equity and retirement of senior
     discount debentures and senior notes.....................          $       -         $   4,721        $  10,571

</TABLE>


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


                                      F-6


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

1.   ORGANIZATION AND BUSINESS

          Arcade Holding  Corporation (the  "Predecessor") was organized for the
     purpose  of  acquiring  all the  issued and  outstanding  capital  stock of
     Arcade,  Inc.  ("Arcade") on November 4, 1993.  As more fully  described in
     Note 3,  DLJ  Merchant  Banking  Partners  II,  L.P.  and  certain  related
     investors (collectively,  "DLJMBII") and certain members of the Predecessor
     organized AHC I Acquisition Corp.  ("AHC") and AHC I Merger Corp.  ("Merger
     Corp.") for purposes of acquiring the Predecessor (the  "Acquisition").  On
     December 15, 1997, Merger Corp. acquired all of the equity interests of the
     Predecessor  and then merged with and into the Predecessor and the combined
     entity assumed the name AKI, Inc. and Subsidiaries  ("AKI").  Subsequent to
     the  Acquisition,  AHC  contributed  $1 of cash  and  all of its  ownership
     interest in AKI to AKI Holding Corp.  ("Holding,"  the  "Successor"  or the
     "Company") for all of the outstanding equity of Holding.  AKI is engaged in
     interactive advertising for consumer products companies and has a specialty
     in the design,  production and  distribution  of sampling  systems from its
     Chattanooga,  Tennessee and Baltimore,  Maryland facilities and distributes
     its  products  in Europe  through  its  French  subsidiary,  Arcade  Europe
     S.A.R.L.

          Unless otherwise indicated, all references to years refer to AKI's and
     Holding's fiscal year, June 30.

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     Principles of Consolidation

          The  accompanying   consolidated   financial  statements  include  the
     accounts of the Company and its wholly owned subsidiaries.  All significant
     intercompany transactions have been eliminated.

     Reclassification

          Certain prior year amounts have been  reclassified to conform with the
     current year presentation.

     Cash and Cash Equivalents

          For purposes of the consolidated statements of cash flows, the Company
     considers all highly liquid  investments with an original maturity of three
     months or less at the time of purchase to be cash equivalents.

     Concentration of Credit Risk

          The Company  maintains  its cash in bank deposit  accounts  which,  at
     times, may exceed federally insured limits. The Company has not experienced
     any losses in such accounts;  in addition,  the Company  believes it is not
     exposed to any significant  credit risk on cash and cash  equivalents.  The
     Company  grants  credit  terms in the  normal  course  of  business  to its
     customers and as part of its ongoing  procedures,  the Company monitors the
     credit worthiness of its customers. The Company does not believe that it is
     subject to any unusual  credit risk beyond the normal credit risk attendant
     in its business.

          Two  customers  accounted for 31.3% of net sales during the year ended
     June 30,  2002.  One  customer  accounted  for 14.9% and 15.3% of net sales
     during the years ended June 30, 2001 and June 30, 2000, respectively.


                                      F-7


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

     Concentration of Purchasing

          Products  accounting  for a  significant  portion of the Company's net
     sales utilize  specific  grades of paper that are produced  exclusively for
     the Company by one domestic supplier.  The Company does not have a purchase
     agreement  with the  supplier  and is not aware of any other  suppliers  of
     these specific grades of paper.  These products can be  manufactured  using
     other grades of paper; however, the Company believes the specific grades of
     paper  utilized by the Company  provide the Company with an advantage  over
     its  competitors.   The  Company  is  currently   researching   methods  of
     replicating  the  advantages of these  specific  grades of paper with other
     grades of paper available from multiple  suppliers.  Until such methods are
     developed,  a loss of  supply  of these  specific  grades  of paper and the
     resulting competitive advantage could cause a possible loss of sales, which
     could adversely affect operating results.

     Revenue Recognition and Accounts Receivable

          Product sales are recognized at the time risk of ownership  transfers,
     net of estimated  discounts.  Accounts  receivable  is accounted for net of
     allowances  for  doubtful   accounts.   Under   arrangements  with  certain
     customers, custom product which is stored for future delivery is recognized
     as revenue when title and risk of ownership has passed to the customer.

     Inventory

          Paper  inventory  is stated  at the lower of cost or market  using the
     last-in,  first-out (LIFO) method;  all other inventories are stated at the
     lower of cost or market using the first-in, first-out (FIFO) method.

     Property, Plant and Equipment

          Property,  plant and equipment are stated at cost.  Expenditures  that
     extend the  economic  lives or improve  the  efficiency  of  equipment  are
     capitalized. The costs of maintenance and repairs are expensed as incurred.
     Upon retirement or disposal, the related cost and accumulated  depreciation
     are removed from the respective accounts and any gain or loss is recorded.

          Depreciation is computed using the  straight-line  method based on the
     estimated  useful lives of the assets as indicated in Note 6 for  financial
     reporting  purposes and  accelerated  methods for tax  purposes.  Leasehold
     improvements  are depreciated  over the shorter of their  estimated  useful
     lives or the lease term.

     Goodwill

          The aggregate purchase price of business acquisitions was allocated to
     the  assets  and  liabilities  of the  acquired  companies  based  on their
     respective fair values as of the acquisition dates. Goodwill represents the
     excess purchase price paid over the fair value of net  identifiable  assets
     acquired and for  acquisitions  prior to July 1, 2001 is  amortized  over a
     period of up to forty years  using the  straight-line  method.  Accumulated
     amortization  was $20,159  and $15,353 at June 30, 2002 and June 30,  2001,
     respectively.

          Management  periodically  reviews the value of its  goodwill and other
     long-lived assets to determine if an impairment has occurred. The potential
     impairment of recorded goodwill and other long-lived assets is


                                      F-8


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

     measured by the undiscounted  value of expected future operating cash flows
     in relation to its net capital investment.  Based on its review, management
     does not believe that an  impairment  of its  goodwill or other  long-lived
     assets has occurred.

     Deferred Charges

          Deferred charges are primarily  comprised of debt issuance costs which
     are being amortized  using the effective  interest method over the terms of
     the related debt. Such costs are included in the accompanying  consolidated
     balance sheets, net of accumulated amortization.

     Other Intangible Assets

          Other intangible assets include covenants not to compete,  patents and
     other intangible  assets and are being amortized over their estimated lives
     using the straight-line method.  Accumulated  amortization related to these
     intangibles  assets was  $4,530  and  $2,442 at June 30,  2002 and June 30,
     2001, respectively.

     Fair Value of Financial Instruments

          SFAS  No.   107,   "Disclosures   About  Fair   Values  of   Financial
     Instruments,"  requires  the  disclosure  of the fair  value  of  financial
     instruments,  for assets and  liabilities  recognized and not recognized on
     the balance sheet,  for which it is practicable to estimate fair value. The
     fair value of the Company's Senior Notes and Senior Discount Debentures, as
     determined  from quoted market  prices,  was $98,459 and $7,067 at June 30,
     2002 compared to a carrying value of $103,510 and $15,901 respectively. The
     carrying value of all other financial  instruments  approximated fair value
     at June 30, 2002.

     Foreign Currency Transactions

          Gains and (losses) on foreign currency transactions have been included
     in the determination of net income in accordance with SFAS No. 52, "Foreign
     Currency  Translation."  Foreign  currency  gains and (losses)  amounted to
     $301,  ($403) and ($51) for the years ended June 30,  2002,  2001 and 2000,
     respectively.

     Research and Development Expenses

          Research and development  expenditures are charged to selling, general
     and   administrative   expenses  in  the  period  incurred.   Research  and
     development expenses totaled $1,766,  $1,591 and $1,309 for the years ended
     June 30, 2002, 2001 and 2000, respectively.

     Income Taxes

          Income taxes are provided in  accordance  with  Statement of Financial
     Accounting  Standards No. 109,  "Accounting for Income Taxes." Accordingly,
     deferred tax assets and liabilities are recognized at the applicable income
     tax rates  based upon  future tax  consequences  of  temporary  differences
     between  the  tax  bases  and  financial  reporting  bases  of  assets  and
     liabilities  using  enacted  tax  rates in effect in the years in which the
     differences  are expected to reverse.  Deferred tax assets are reduced,  if
     necessary,  by the  amount of any tax  benefits  that,  based on  available
     evidence,  are not  expected  to be  realized.


                                      F-9


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)


2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

     Use of Estimates

          The  preparation of financial  statements in conformity with generally
     accepted  accounting  principles  requires management to make estimates and
     assumptions  that affect the reported amounts of assets and liabilities and
     disclosures  of  contingent  assets  and  liabilities  at the  date  of the
     financial  statements  and the  reported  amounts of revenues  and expenses
     during the reporting period.  Management makes significant estimates in the
     areas of accounts  receivable,  inventory,  intangible  assets,  long-lived
     assets and  deferred  income tax.  Actual  results  could differ from those
     estimates.

     Recently Issued Accounting Standards

          FASB  Statement of Financial  Accounting  Standards  No. 141 "Business
     Combinations"  ("SFAS  141") was issued in June 2001.  SFAS 141 changes the
     accounting and reporting for business  combinations.  SFAS 141 is effective
     for  all  business   combinations   initiated  after  June  30,  2001,  and
     accordingly,  the CP  acquisition  has been  accounted  for and reported in
     accordance with SFAS 141.

          FASB Statement of Financial Accounting Standards No. 142 "Goodwill and
     Other  Intangible  Assets"  ("SFAS 142") was issued in June 2001.  SFAS 142
     changes the  accounting  and  reporting  for  acquired  goodwill  and other
     intangible  assets.  SFAS 142 is effective for fiscal years beginning after
     December  15,  2001 and must be applied  at the  beginning  of an  entity's
     fiscal year. The adoption of SFAS 142 in future  financial  statements will
     eliminate  the  amortization  of goodwill,  approximately  $4,800 in fiscal
     2002, while requiring annual tests for impairment of goodwill.

          FASB Statement of Financial  Accounting  Standards No. 144 "Accounting
     for the  Impairment  of Disposal of  Long-Lived  Assets"  ("SFAS  144") was
     issued in August 2001. SFAS 144 requires that long-lived assets that are to
     be disposed of by sale be measured at the lower of book value or fair value
     less cost to sell.  SFAS 144 is effective for financial  statements  issued
     for fiscal years  beginning  after  December 15, 2001. The Company does not
     expect a material impact in implementing  SFAS 144 on its future  financial
     statements.

          FASB Statement of Financial  Accounting  Standards No. 145 "Rescission
     of FASB  Statements No. 4, 44, and 64,  Amendment of FASB Statement No. 13,
     and Technical  Corrections" ("SFAS 145") was issued in April 2002. The most
     significant aspects of this pronouncement,  with respect to the Company, is
     the  elimination  of  SFAS  No.  4,   "Reporting   Gains  and  Losses  from
     Extinguishment  of  Debt".  As a result of the  elimination  of SFAS No. 4,
     gains and  losses  from  extinguishment  of debt  should be  classified  as
     extraordinary  items  only  if  they  meet  the  criteria  in APB  No.  30,
     "Reporting   the  Results  of   Operations   -   Discontinued   Events  and
     Extraordinary  Items".  The  implementation  of SFAS No.  145 will  require
     future early  retirements of debt to be included in income from  operations
     which could materially  affect income from  operations.  In fiscal 2002 the
     Company  reported  an  approximate  $2,700  extraordinary  gain from  early
     retirement of debt, net of tax.

          FASB Statement of Financial  Accounting  Standards No. 146 "Accounting
     for Costs  Associated  with Exit or Disposal  Activities"  ("SFAS 146") was
     issued in June 2002. SFAS 146 addresses financial  accounting and reporting
     for  costs  associated  with  exit  or  disposal  activities.  SFAS  146 is
     effective for exit or disposal activities that are initiated after December
     31, 2002. The Company  adopted SFAS 146 in fiscal 2002 and did not consider
     the impact to be material.


                                      F-10


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

3.   SIGNIFICANT ACQUISITIONS

          On December 18,  2001,  the Company  acquired  the business  including
     certain  assets and assumed  certain  liabilities  of Color  Prelude,  Inc.
     ("CP")  for  $19,423  including  direct  acquisition  costs  of  $540.  The
     acquisition  was accounted  for using the purchase  method of accounting in
     accordance with Statement of Financial Accounting Standards (SFAS) No. 141,
     "Business  Combinations".  The  purchase  price has been  allocated  to the
     assets and liabilities  acquired using estimated fair values at the date of
     acquisition and resulted in assigning value to goodwill totaling $407 which
     will not be amortized in accordance with Statement of Financial  Accounting
     Standards  (SFAS) No.  142  "Goodwill  and Other  Intangible  Assets".  The
     following shows the allocation of the purchase price:

              Cash............................................   $         1
              Other current assets............................         5,680
              Property, plant and equipment...................         7,695
              Patents.........................................         7,750
              Other intangible assets.........................         1,069
              Goodwill........................................           407
                                                                 -----------

              Total allocation to assets......................   $    22,602
                                                                 ===========

              Current liabilities.............................   $     3,179
                                                                 ===========

          Patents  are  being  amortized  over  a  ten  year  period  and  other
     intangible assets are being amortized over periods ranging from one to four
     years.

          The results of the acquired  operations  are included in the financial
     statements  since the date of acquisition.  The following pro forma results
     include cost savings and other effects of the planned  integration  and are
     not necessarily  indicative of the results which would have occurred if the
     business  combination had been in effect on the dates indicated.  Pro forma
     results  had CP been  acquired  at the  beginning  of  fiscal  2001  are as
     follows:

                                                          2002          2001
                                                          ----          ----
                                                       (unaudited)   (unaudited)

         Revenue.................................... $   127,226    $   129,122
         Income (loss) before extraordinary items...       4,110            291
         Net income (loss)..........................       4,110          2,307


          On  September  15,  1999,  the  Company  acquired  all of  the  equity
     interests in RetCom  Holdings  Ltd.  and its  subsidiaries  ("RetCom")  for
     approximately  $12,500  and  refinanced  working  capital  indebtedness  of
     approximately $4,500 of RetCom. The acquisition was accounted for using the
     purchase method of accounting. The purchase price has been allocated to the
     assets and liabilities  acquired using estimated fair values at the date of
     acquisition   and  resulted  in  assigning   value  to  goodwill   totaling
     approximately  $19,100  which is being  amortized on a straight  line basis
     over a period of twenty years.  The results of the acquired  operations are
     included in the financial statements since the date of acquisition.


                                      F-11


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

3.   SIGNIFICANT ACQUISITIONS (Continued)

          In April 2002 the Company  settled a dispute with the former owners of
     RetCom.   In  connection   with  the   settlement   the  Company   received
     approximately $1,000 and has included this settlement amount net of related
     expenses in income from operations.

          In December 1999 the Company  settled a dispute with the former owners
     of the Predecessor.  In connection with the settlement the Company received
     approximately $1,200 and has included this settlement amount net of related
     expenses in income from operations.

4.   ACCOUNTS RECEIVABLE

     The following table details the components of accounts receivable:

                                                             June 30,
                                                   ----------------------------
                                                        2002            2001
                                                        ----            ----

         Trade accounts receivable...............  $   24,083        $   18,487
         Allowance for doubtful accounts.........        (608)             (836)
                                                   -----------       ----------
                                                       23,475            17,651
         Other accounts receivable...............         321               369
                                                   ----------        ----------

                                                   $   23,796        $   18,020
                                                   ==========        ==========

5.   INVENTORY

     The following table details the components of inventory:

                                                             June 30,
                                                   ----------------------------
                                                        2002            2001
                                                        ----            ----
         Raw materials
           Paper.................................  $    2,180        $    1,796
           Other raw materials...................       4,216             2,697
                                                   ----------        ----------
              Total raw materials................       6,396             4,493
         Work in process.........................       2,468             2,587
         Reserve for obsolescence................        (850)             (750)
                                                   ----------        ----------

          Total inventory......................... $    8,014        $    6,330
                                                   ==========        ==========

          The difference between the carrying value of paper inventory using the
     FIFO method as compared to the LIFO method was not  significant at June 30,
     2002 or June 30,  2001.  During  the year  ended  June  30,  2001,  certain
     inventory quantity reductions caused a liquidation of LIFO inventory values
     which were immaterial.


                                      F-12


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

6.   PROPERTY, PLANT AND EQUIPMENT

          The  following  table details the  components  of property,  plant and
     equipment as well as their estimated useful lives:

<TABLE>
<CAPTION>

                                                                                      June 30,
                                                       Estimated             -------------------------
                                                      Useful Lives               2002           2001
                                                      ------------               ----           ----

<S>                                                   <C>                    <C>            <C>
         Land......................................                          $     258      $     258
         Building..................................   7 - 15 years               2,690          1,851
         Leasehold improvements....................   1 -  3 years                 353            651
         Machinery and equipment...................   5 -  7 years              32,000         23,622
         Furniture and fixtures....................   3 -  5 years               3,609          3,370
         Construction in progress..................                                255            405
                                                                             ---------      ---------
                                                                                39,165         30,157
         Accumulated depreciation..................                            (19,549)       (14,379)
                                                                             ---------      ---------
                                                                             $  19,616      $  15,778
                                                                             =========      =========
</TABLE>



          Depreciation  expense  amounted  to $5,197,  $4,341 and $4,381 for the
     years ended June 30, 2002, 2001 and 2000, respectively.

          Property  held  under  capital  lease is  included  in the  respective
     property, plant and equipment category as follows:

                                                                     June 30,
                                                                       2001
                                                                       ----

         Building...............................................    $     600
                                                                    ---------
                                                                          600
         Less accumulated depreciation..........................         (500)
                                                                    ---------
                                                                    $     100
                                                                    =========

          Depreciation of assets under capital lease totaled $100, $200 and $600
     for the years ended June 30, 2002, 2001 and 2000, respectively.

7.   CREDIT AGREEMENT

          On December  18,  2001,  the Company  amended and  restated its Credit
     Agreement.  The Credit  Agreement  provides  for a $10,000  term loan which
     matures on December 31, 2006 with varying quarterly principal payments and,
     under certain  circumstances,  payments of "excess cash flow" as defined in
     the Credit  Agreement.  Interest on amounts  borrowed  accrue at a floating
     rate based upon either prime or LIBOR (the weighted  average  interest rate
     on the outstanding balance under the term loan was 6.15% at June 30, 2002).
     The weighted  average  interest rate on the  outstanding  balance under the
     term loan was 5.96%  for the year  ending  June 30,  2002.  Future  minimum
     principal payments under the term loan are as follows:


                                      F-13


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)


7.   CREDIT AGREEMENT (Continued)

                                           Principal
                                            Payment
                                            -------
                  2003................  $     1,375
                  2004................        1,875
                  2005................        2,125
                  2006................        2,625
                  2007................        1,500
                                        -----------
                                        $     9,500
                                        ===========

          The Credit  Agreement also provides for a revolving loan commitment up
     to a maximum of $20,000 and expires on December  31, 2006.  Borrowings  are
     limited to a borrowing base  consisting of accounts  receivable,  inventory
     and  property,  plant  and  equipment  which  serve as  collateral  for the
     borrowings.  As  of  June  30,  2002,  the  Company's  borrowing  base  was
     approximately  $27,289.  Interest on amounts  borrowed accrue at a floating
     rate based upon either prime or LIBOR (the weighted  average  interest rate
     on the outstanding  balance under the revolving loan was 6.49% and 7.75% at
     June 30, 2002 and 2001,  respectively).  The weighted average interest rate
     on the  outstanding  balance under the revolving loan was 6.45%,  9.58% and
     9.12% for the years ended June 30, 2002, 2001 and 2000, respectively.

          The Company is required to pay  commitment  fees on the unused portion
     of the revolving loan commitment at a rate of approximately 0.5% per annum.
     In  addition,  the  Company  is  required  to pay fees equal to 2.5% of the
     average daily outstanding amount of lender guarantees. The Company had $291
     of lender guarantees  outstanding at June 30, 2002. These fees totaled $65,
     $59 and $69 for the years ended June 30, 2002, 2001 and 2000, respectively.
     The  Credit  Agreement  contains  certain  financial  covenants  and  other
     restrictions   including   restrictions  on  additional   indebtedness  and
     restrictions on the payment of dividends.  As of June 30, 2002, the Company
     was in compliance with all debt covenants.

8.   LOANS PAYABLE TO STOCKHOLDER

          In May 2000, the Company signed a promissory note payable to AHC which
     allows the Company to borrow up to $10,000 at such  interest  rates and due
     as agreed  upon by the  Company  and AHC.  At June 30,  2002 no amount  was
     outstanding  under the promissory note.  Interest paid to AHC in connection
     with the promissory note totaled $14, $320 and $22 for the years ended June
     30, 2002, 2001 and 2000, respectively.

9.   SENIOR NOTES

          On June 25,  1998,  AKI  completed a private  placement of $115,000 of
     Senior Notes (the "Senior  Notes") which mature on July 1, 2008. The Senior
     Notes are general  unsecured  obligations of AKI and bear interest at 10.5%
     per annum, payable  semi-annually on January 1 and July 1. The placement of
     the Senior  Notes  yielded AKI net  proceeds of  $110,158  after  deducting
     offering expenses of $4,842,  including $3,450 of underwriting fees paid to
     an affiliate of the  stockholder.  The Senior Notes are  redeemable  at the
     option of the Company,  in whole or part, at any time after July 1, 2003 at
     a price of up to 105.25% of the outstanding  principal balance plus accrued
     and unpaid interest.  Prior to July 1, 2003, AKI is permitted to repurchase
     up to 35% of the Senior Notes at a redemption  price equal to 110.5% of the
     aggregate  principal  amount plus accrued and unpaid  interest with the net
     proceeds of one or more public equity  offerings.  The Senior Notes contain
     certain covenants including  restrictions on the declaration and payment of
     dividends by AKI to Holding and limitations on the


                                      F-14


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

9.   SENIOR NOTES  (Continued)

     incurrence of additional indebtedness.  On December 22, 1998, AKI completed
     the  registration  of its Senior  Notes with the  Securities  and  Exchange
     Commission.  During fiscal 2001,  AKI purchased  $4,000 of the Senior Notes
     for $3,110 and  recognized a gain,  net of income taxes,  of  approximately
     $457. The purchased notes were  subsequently  retired.  During fiscal 2000,
     AHC purchased  $7,490 of the Senior Notes for $6,486 and recognized a gain,
     net of income taxes, of  approximately  $429. The notes were contributed to
     Holding  and  Holding   contributed  the  notes  to  AKI.  The  notes  were
     subsequently retired.

10.  SENIOR DISCOUNT DEBENTURES

          On June 25,  1998,  Holding  completed a private  placement  of Senior
     Discount Debentures (the "Debentures") with a stated value of $50,000.  The
     Debentures are general unsecured  obligations of Holding and mature on July
     1, 2009.  The  Debentures do not accrue or pay interest  until July 1, 2003
     and  were  issued  with an  original  issuance  discount  of  $24,038.  The
     placement  of the  Debentures  yielded the Company net  proceeds of $24,699
     after  deducting   offering   expenses  of  $1,263,   including  $1,038  of
     underwriting  fees paid to an  affiliate of the  stockholder.  The original
     issuance  discount  of $24,038 on the  Debentures  is being  accreted  from
     issuance  through July 1, 2003 at an effective rate of 13.5% per annum. The
     unamortized balance of the original issuance discount was $2,219 and $7,124
     at June 30, 2002 and 2001, respectively. After July 1, 2003, the Debentures
     will accrue interest at a rate of 13.5% per annum,  payable  semi-annually,
     commencing  January 1, 2004. The Debentures are redeemable at the option of
     Holding,  in whole or in part,  at any time on or after  July 1,  2003 at a
     price up to 106.75% of the outstanding  principal  balance plus accrued and
     unpaid interest.  Prior to July 1, 2003, Holding is permitted to repurchase
     up to 35% of the aggregate  principal  amount at maturity of the Debentures
     originally  issued at a  redemption  price equal to 113.5% of the  accreted
     value of the Debentures  with the net proceeds of one or more public equity
     offerings.  The Debentures contain certain covenants including restrictions
     on  the  declaration  and  payment  of  dividends  and  limitations  on the
     incurrence of additional  indebtedness.  On December 22, 1998,  the Company
     completed  the  registration  of its Senior  Discount  Debentures  with the
     Securities and Exchange Commission.  During fiscal 2002, Holding purchased,
     with proceeds from a distribution from AKI, Senior Discount Debentures with
     a carrying value of $11,054 for $6,804 and recognized a gain, net of income
     taxes, of approximately  $2,676. The purchased Debentures were subsequently
     retired.  During fiscal 2001, AHC purchased Senior Discount Debentures with
     a carrying  value of $7,547 for $4,721 and recognized a gain, net of income
     taxes, of  approximately  $1,559.  During fiscal 2000, AHC purchased Senior
     Discount  Debentures  with a  carrying  value  of  $5,426  for  $4,084  and
     recognized  a  gain,  net of  income  taxes,  of  approximately  $660.  The
     Debentures,  purchased by AHC, were contributed to Holding and subsequently
     retired.

11.  INITIAL CAPITALIZATION

          In conjunction  with the  Acquisition,  AHC issued $30,000 of Floating
     Rate Notes,  $50,279 of Mandatorily  Redeemable Senior Preferred Stock (the
     "Senior Preferred Stock") and $1,111 of its Common Stock. The Floating Rate
     Notes were issued with an original  issuance  discount of $5,389.  Interest
     was  payable  quarterly  and  could be  settled  through  the  issuance  of
     additional  Floating  Rate Notes  through  December 15, 2009,  the maturity
     date, at the  discretion of AHC. The original  issuance  discount of $5,389
     was being  amortized  using the effective  interest method over the life of
     the  Floating  Rate  Notes.  On  November  1, 1999 AHC issued  Amended  and
     Restated  Notes  totaling  $35,500 in exchange for the Floating Rate Notes.
     The Amended and Restated


                                      F-15


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

11.  INITIAL CAPITALIZATION (Continued)

     Notes bear a fixed interest rate of approximately  16% per annum and mature
     on  December  15, 2009 and  provide  for the  payment of  stipulated  early
     redemption  premiums.  In  connection  with the  exchange  the  unamortized
     original  issue  discount was expensed by AHC. The Senior  Preferred  Stock
     accretes in value at 15% per annum and must be  redeemed  by  December  15,
     2012. The Amended and Restated Notes and Senior Preferred Stock are general
     unsecured obligations of AHC.

          The cash proceeds from the issuance of the Floating Rate Notes, Senior
     Preferred Stock and Common Stock of approximately $76,000 and a Mandatorily
     Redeemable  Senior Preferred Stock Option of $2,363 were contributed by AHC
     to AKI in exchange for 1,000 shares of AKI's Common  Stock.  Subsequent  to
     the  capitalization  of AKI,  AHC  contributed  $1 of  cash  and all of its
     ownership  interest in AKI to Holding for all of the outstanding  equity of
     Holding.

          AHC has no other operations other than the Company.  Absent additional
     financing  by AHC,  the  Company's  operations  represent  the only current
     source  of  funds   available  to  service  the  Floating  Rate  Notes  and
     Mandatorily  Redeemable Senior Preferred Stock; however, the Company is not
     obligated  to pay or  otherwise  guarantee  the  Floating  Rate  Notes  and
     Mandatorily Redeemable Senior Preferred Stock.

12.  COMMITMENTS AND CONTINGENCIES

     Operating Leases

          Equipment and office,  warehouse and production  space under operating
     leases expire at various  dates.  Rent expense was $559,  $538 and $589 for
     the years ended June 30, 2002, 2001 and 2000, respectively.  Future minimum
     lease payments under the leases are as follows:


                        2003..........   $   1,212
                        2004..........       1,281
                        2005..........       1,001
                        2006..........         728
                        2007..........         557
                        Thereafter....       2,100
                                         ---------
                                         $   6,879
                                         =========

     Royalty Agreements

          Royalty agreements are maintained for certain technologies used in the
     manufacture of certain products.  Under the terms of one royalty agreement,
     payments are required  based on a percentage of net sales of those products
     manufactured with the specific  technology,  or a minimum of $500 per year.
     This  agreement  expires  the  earlier  of (1) when a total of  $11,800  in
     cumulative  royalty  payments has been paid or (2) December 31, 2003 unless
     renewed  by the  Company  for  successive  one-year  periods.  The  Company
     expensed  $500 under this  agreement for each of the three years ended June
     30, 2002. The Company has paid $6,076 in cumulative  royalty payments under
     this agreement through June 30, 2002.


                                      F-16


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

12.  COMMITMENTS AND CONTINGENCIES (Continued)

          Under the terms of another  agreement,  royalty  payments are required
     based on the  number  of  products  sold that  were  manufactured  with the
     specific licensed technology, or a minimum payment of $625 per year through
     the  expiration of the agreement in 2012.  The Company  expensed $625 under
     this agreement for each of the three years ended June 30, 2002.

     Employment Agreements

          The Company has employment  and salary  continuation  agreements  with
     certain executive  officers with terms through June 30, 2003 and 2004. Such
     agreements  provide for base salaries totaling $1,250 per year. One officer
     has an  incentive  bonus of up to 200% of base  salary  which is payable if
     certain  financial  and  management  goals are attained  and certain  other
     incentive  payments.  The  employment  agreements  also  provide  severance
     benefits of up to two years of base salary if the  officers'  services  are
     terminated under certain conditions and one officer's  agreement  provides,
     in the event of termination resulting from a change of control, a severance
     benefit of two times his highest  aggregate amount of base salary and bonus
     in any of  the  three  calendar  years  prior  to  the  effective  date  of
     termination.

     Litigation

          The Company is a party to litigation arising in the ordinary course of
     business  which,  in the  opinion of  management,  will not have a material
     adverse effect on the Company's financial condition,  results of operations
     or cash flows.

     Printing Services Agreement

          In connection with the RetCom acquisition, AKI entered into a Printing
     Services  Agreement,  which  expires  December  31,  2004,  with  a  former
     shareholder of RetCom.  The Printing  Services  Agreement  requires  annual
     purchases  of printing  services  totaling  $5,000 with a 15% charge on the
     amount of any  shortfall.  The  present  value of the costs  related to the
     estimated  shortfall over the life of the Printing  Services  Agreement was
     recorded as a liability in the RetCom  purchase  accounting.  The liability
     balance at June 30, 2002 was approximately $2,600.

13.  RETIREMENT PLANS

          A 401(k)  defined  contribution  plan (the "Plan") is  maintained  for
     substantially all full-time salaried employees and certain non-union hourly
     employees.  Applicable  employees  who have six months of service  and have
     attained  age 21 are eligible to  participate  in the Plan.  Employees  may
     elect  to  contribute  a  percentage  of  their  earnings  to the  Plan  in
     accordance with limits  prescribed by law. The Company makes  contributions
     to the Plan by  matching a  percentage  of  employee  contributions.  Costs
     associated  with the Plan totaled  $323,  $294 and $251 for the years ended
     June 30, 2002, 2001 and 2000, respectively.


                                      F-17


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

13.  RETIREMENT PLANS (Continued)

          Certain  hourly  employees are covered under a  multiemployer  defined
     benefit plan administered under a collective  bargaining  agreement.  Costs
     (determined by union  contract)  under the defined  benefit plan were $221,
     $233  and  $215  for  the  years  ended  June  30,  2002,  2001  and  2000,
     respectively.

14.  INCOME TAXES

          The Company is included in the consolidated  federal income tax return
     filed by AHC.  Income  taxes  related to the  Company are  determined  on a
     separate entity basis.  The Company files separate state income tax returns
     and  calculates its state tax provision on a separate  company  basis.  Any
     income taxes payable or receivable by the consolidated group are settled or
     received by AKI.

          For financial  reporting  purposes,  income (loss) before income taxes
     and extraordinary gain includes the following components:

<TABLE>
<CAPTION>

                                                                               Year Ended June 30,
                                                                  ---------------------------------------------
                                                                     2002             2001              2000
                                                                     ----             ----              ----

<S>                                                               <C>              <C>               <C>
         Income (loss) before income taxes and
           extraordinary gain:
              United States..................................     $   4,578        $   1,481         $  (1,305)
              Foreign........................................         2,142            1,461               455
                                                                  ---------        ---------         ---------

                                                                  $   6,720        $   2,942         $    (850)
                                                                  =========        =========         =========
</TABLE>

          Significant components of the provision (benefit) for income taxes are
     as follows:

<TABLE>
<CAPTION>

                                                                               Year Ended June 30,
                                                                  --------------------------------------------
                                                                     2002             2001              2000
                                                                     ----             ----              ----

<S>                                                               <C>              <C>               <C>
         Current expense:
           Federal........................................        $   5,003        $   4,288         $     480
           Foreign........................................            1,042              526               171
           State..........................................              962              232                 -
                                                                  ---------        ---------         ---------
                                                                      7,007            5,046               651
                                                                  ---------        ---------         ---------

         Deferred expense (benefit):
           Federal........................................           (2,263)          (1,931)              519
           Foreign........................................                -                -                 -
           State..........................................              (86)             334               426
                                                                  ---------        ---------         ---------
                                                                     (2,349)          (1,597)              945
                                                                  ---------        ---------         ---------

                                                                  $   4,658        $   3,449         $   1,596
                                                                  =========        =========         =========

</TABLE>


                                      F-18


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

14.  INCOME TAXES (Continued)

          The  significant  components of deferred tax assets  (liabilities)  at
     June 30, 2002 and 2001, were as follows:

<TABLE>
<CAPTION>

                                                                               June 30,
                                                       -----------------------------------------------------
                                                                2002                          2001
                                                                ----                          ----
                                                        Current     Noncurrent         Current    Noncurrent
                                                        -------     ----------         -------    ----------

<S>                                                    <C>          <C>               <C>         <C>
         Deferred income tax assets:
           Accrued expenses........................    $     483    $   1,923         $     474   $   2,338
           Allowance for doubtful accounts.........          216            -               296           -
           Reserve for inventory obsolescence......          278            -                 -           -
           Amortization of intangibles.............            -          773                 -         421
                                                       ---------    ---------         ---------   ---------
                                                             977        2,696               770       2,759

         Deferred income tax liability:
           Property, plant and equipment...........            -       (2,004)                -      (2,778)
                                                       ---------    ---------         ---------   ---------

              Deferred tax assets (liabilities)....    $     977     $    692         $     770   $     (19)
                                                       =========     ========         =========   =========

</TABLE>


          The income tax provision recognized by the Company for the years ended
     June 30, 2002, 2001 and 2000 differs from the amount determined by applying
     the applicable U.S. statutory federal income tax rate to pretax income as a
     result of the following:

<TABLE>
<CAPTION>

                                                                              Year Ended June 30,
                                                                  -------------------------------------------
                                                                     2002             2001             2000
                                                                     ----             ----             ----

<S>                                                               <C>              <C>              <C>
         Computed tax provision (benefit) at the
           statutory rate.................................        $   2,285        $   1,030        $    (289)
         State income tax provision, net of
           federal effect.................................              570              368              281
         Nondeductible expenses...........................            1,511            2,036            1,588
         Other, net.......................................              292               15               16
                                                                  ---------        ---------        ---------

                                                                  $   4,658        $   3,449        $   1,596
                                                                  =========        =========        =========
</TABLE>


15.  STOCK OPTIONS

          Subsequent to the Acquisition,  AHC adopted the 1998 Stock Option Plan
     ("Option  Plan") for certain  employees and directors of AHC and any parent
     or subsidiary of AHC. The Option Plan authorizes the issuance of options to
     acquire up to 1,650,000  shares of AHC Common Stock. The Board of Directors
     determines the terms of each individual  options grant.  The exercise price
     for each  grant is  required  to be set at least  equal to the fair  market
     value per share of AHC provided  that the exercise  price shall not be less
     than $1.00 per share.  Options vest over periods  ranging from one to eight
     years.  Certain  options are  eligible  for  accelerated  vesting  based on
     targeted EBITDA. Options may be exercisable for up to ten years.


                                      F-19


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

15.  STOCK OPTIONS (Continued)

          A summary of AHC stock option activity and related information for the
     years ended June 30, 2002, 2001 and 2000 follows:


<TABLE>
<CAPTION>

                                              2002                            2001                          2000
                                     ------------------------       ------------------------       ------------------------
                                                    Weighted                        Weighted                      Weighted
                                                     Average                         Average                       Average
                                                    Exercise                        Exercise                      Exercise
                                       Options        Price           Options         Price           Options       Price
                                       -------        -----           -------         -----           -------       -----


<S>                                  <C>            <C>             <C>             <C>            <C>            <C>
Outstanding, beginning of year.....  1,464,850      $  1.00         1,509,450       $  1.00                -      $  1.00
     Granted.......................     21,000         1.00            35,500          1.00        1,519,917         1.00
     Exercised.....................          -           -                  -            -                 -            -
     Forfeited.....................    (16,800)        1.00           (80,100)         1.00          (10,467)        1.00
                                     ---------      -------         ---------       -------        ---------      -------

Outstanding, end of year...........  1,469,050      $  1.00         1,464,850       $  1.00        1,509,450      $  1.00
                                     ---------      =======         ---------       =======        ---------      =======

Exercisable, end of year...........  1,106,343      $  1.00           640,793       $  1.00          273,668      $  1.00
                                     =========      =======         =========       =======        =========      =======

Weighted average remaining
contractual life...................         7.5 years                      8.5 years                      9.5 years

</TABLE>


          The Company  has  elected to account for its stock based  compensation
     with  employees  under the intrinsic  value method as permitted  under SFAS
     123.  Under the  intrinsic  value  method,  because  the stock price of the
     Company's  employee stock options  equaled the fair value of the underlying
     stock on the date of grant, no compensation expense was recognized.  If the
     Company had elected to  recognize  compensation  expense  based on the fair
     value of the  options  at grant  date as  prescribed  by SFAS 123,  the net
     income  (loss) for the years ended June 30, 2002,  2001 and 2000 would have
     been   $4,632,   $1,404  and   ($1,408),   respectively.   In  making  this
     determination,  fair  value was  estimated  on the date of grant  using the
     minimum  value  method and a risk-free  interest  rate ranging from 6.3% to
     6.9%,  estimated life of five years and dividend rate of 0.0%. The weighted
     average fair value at date of grant of options  granted  during 2002,  2001
     and 2000 was  approximately  $0.21,  $0.23  and  $0.27,  respectively,  per
     option.

16.  RELATED PARTY TRANSACTIONS

          The Company made  payments to an  affiliate of DLJMBII for  management
     fees of $250 for each of the three years ended June 30, 2002.


                                      F-20


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

17.  GEOGRAPHIC INFORMATION

          The following table  illustrates  geographic  information for revenues
     and long-lived  assets.  Revenues are attributed to countries  based on the
     receipt of sales orders and long-lived assets are based upon the country of
     domicile.

<TABLE>
<CAPTION>


                                                           United
                                                           States                France                Total
                                                           ------                ------                -----
<S>                                                     <C>                   <C>                   <C>
        Net sales:

        Year ended June 30, 2000...............         $      85,418         $      14,393         $      99,811
        Year ended June 30, 2001...............                96,845                18,550               115,395
        Year ended June 30, 2002...............               103,138                17,755               120,893

        Long-lived assets:

        Year ended June 30, 2000...............               192,262                    87               192,349
        Year ended June 30, 2001...............               183,848                    70               183,918
        Year ended June 30, 2002...............               190,868                    82               190,950

</TABLE>


18.  CONDENSED PARENT COMPANY ONLY FINANCIAL STATEMENTS

          The following  condensed  balance sheets at June 30, 2002 and June 30,
     2001 and condensed statements of operations,  stockholder's equity and cash
     flows for the years ended June 30, 2002,  2001 and 2000 for Holding  should
     be read in conjunction with the consolidated financial statements and notes
     thereto.

<TABLE>
<CAPTION>

                                 BALANCE SHEETS

                                                                                          June 30,
                                                                                ---------------------------
                                                                                    2002             2001
                                                                                    ----             ----
<S>                                                                             <C>              <C>
     Assets
     Investment in subsidiaries........................................         $   99,583       $  102,237
     Income tax receivable.............................................                 46                -
     Deferred charges..................................................                422              806
     Deferred income taxes.............................................              1,923            2,338
                                                                                ----------       ----------
       Total assets....................................................         $  101,974       $  105,381
                                                                                ==========       ==========

     Liabilities
     Accrued income taxes..............................................         $        -       $      119
     Senior discount debentures........................................             15,901           23,926
                                                                                ----------       ----------
       Total liabilities...............................................             15,901           24,045
                                                                                ----------       ----------

     Stockholder's equity
     Common Stock, $0.01 par value, 1,000 shares authorized;
       1,000 shares issued and outstanding.............................                  -                -
     Additional paid-in capital........................................             93,656           93,656
     Accumulated deficit...............................................             (7,583)         (12,320)
                                                                                -----------      ----------
       Total stockholder's equity......................................             86,073           81,336
                                                                                ----------       ----------

       Total liabilities and stockholder's equity......................         $  101,974       $  105,381
                                                                                ==========       ==========

</TABLE>


                                      F-21


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

18.  CONDENSED PARENT COMPANY ONLY FINANCIAL STATEMENTS (Continued)

<TABLE>
<CAPTION>


                             STATEMENT OF OPERATIONS

                                                                                    Year Ended June 30,
                                                                       ----------------------------------------
                                                                          2002            2001            2000
                                                                          ----            ----            ----

<S>                                                                    <C>            <C>            <C>
     Equity in net income of subsidiaries.........................     $    4,151     $    2,439     $      495
     Interest expense, net........................................         (3,105)        (3,699)        (3,733)
                                                                       ----------     ----------     ----------

       Income (loss) before income taxes and extraordinary gain...          1,046         (1,260)        (3,238)

     Income tax benefit...........................................         (1,016)        (1,210)        (1,221)
                                                                       -----------    ----------     ----------

       Income (loss) before extraordinary gain....................          2,062            (50)        (2,017)

     Extraordinary gain from early retirement of debt, net of tax.          2,675          1,559            660
                                                                       ----------     ----------     ----------

       Net income (loss)..........................................     $    4,737     $    1,509     $   (1,357)
                                                                       ==========     ==========     ==========

</TABLE>


<TABLE>
<CAPTION>

                        STATEMENT OF STOCKHOLDER'S EQUITY

                                                                 Additional
                                             Common Stock          Paid-in      Accumulated
                                          Shares     Amount        Capital        Deficit         Total
                                          ------     ------        -------        -------         -----


<S>                                         <C>      <C>        <C>             <C>            <C>
     Balances, June 30, 1999..........      1,000    $     -    $    78,364     $  (12,472)    $    65,892
     Equity contribution by AHC I
       Acquisition Corp...............          -          -         10,571              -          10,571
     Net loss.........................          -          -              -         (1,357)         (1,357)
                                          -------    -------    -----------     ----------     -----------

     Balances, June 30, 2000..........      1,000          -         88,935        (13,829)         75,106
     Equity contribution by AHC I
       Acquisition Corp...............          -          -          4,721              -           4,721
     Net income.......................          -          -              -          1,509           1,509
                                          -------    -------    -----------     ----------     -----------

     Balances, June 30, 2001..........      1,000          -         93,656        (12,320)         81,336
     Net income.......................          -          -              -          4,737           4,737
                                          -------    -------    -----------     ----------     -----------

     Balances, June 30, 2002..........      1,000    $     -    $    93,656     $   (7,583)    $    86,073
                                          =======    =======    ===========     ==========     ===========

</TABLE>


                                      F-22


<PAGE>


                       AKI HOLDING CORP. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

18.  CONDENSED PARENT COMPANY ONLY FINANCIAL STATEMENTS (Continued)


<TABLE>
<CAPTION>


                             STATEMENT OF CASH FLOWS

                                                                                      Year Ended June 30,
                                                                             -----------------------------------
                                                                                 2002         2001         2000
                                                                                 ----         ----         ----
<S>                                                                          <C>          <C>          <C>
     Cash flows from operating activities:
       Net income (loss).................................................    $   4,737    $   1,509    $  (1,357)
       Adjustments to reconcile net income (loss) to
         net cash provided by (used in) operating activities:
           Net change in investment in subsidiaries......................       (4,151)      (2,439)        (495)
           Amortization of original issuance discount....................        3,029        3,610        3,639
           Amortization of loan closing costs............................           76           89           94
           Deferred income taxes.........................................          415         (325)        (807)
           Gain from early retirement of debt............................       (3,941)      (2,554)      (1,083)
           Changes in operating assets and liabilities:
             Income taxes................................................         (165)         110            9
                                                                             ---------    ---------     --------
              Net cash provided by (used in) operating activities........            -            -            -
                                                                             ---------    ---------     --------

     Cash flows from financing activities:
       Repayments of long-term debt......................................       (6,805)           -            -
       Distribution from subsidiary......................................        6,805            -            -
                                                                             ---------    ---------     --------
         Net cash provided by (used in) financing activities.............            -            -            -
                                                                             ---------    ---------     --------

     Net increase (decrease) in cash and cash equivalents................            -            -            -
     Cash and cash equivalents, beginning of period......................            -            -            -
                                                                             ---------    ---------     --------
     Cash and cash equivalents, end of period............................    $       -    $       -     $      -
                                                                             =========    =========     ========

</TABLE>


19.  UNAUDITED QUARTERLY RESULTS OF OPERATIONS

          The  following  is a summary  of the  unaudited  quarterly  results of
     operations for Fiscal 2002 and Fiscal 2001.

<TABLE>
<CAPTION>

                                  Quarter Ended     Quarter Ended    Quarter Ended     Quarter Ended
                                  September 30,     December 31,       March 31,         June 30,
     Fiscal 2002                      2001              2001             2002              2002            Total
                                      ----              ----             ----              ----            ------

<S>                                <C>               <C>              <C>               <C>              <C>
     Net sales...............      $  27,381         $  22,329        $  35,472         $  35,711        $ 120,893
     Gross profit............         10,667             6,400           15,115            14,823           47,005
     Income from operations..          5,026               361            8,418             8,798           22,603
     Interest expense, net...          3,871             3,865            4,182             3,715           15,633
     Net income (loss).......            146            (2,697)           2,029             5,259            4,737


                                  Quarter Ended     Quarter Ended    Quarter Ended     Quarter Ended
                                  September 30,     December 31,       March 31,         June 30,
     Fiscal 2001                      2000              2000             2001              2001            Total
                                      ----              ----             ----              ----            ------

     Net sales...............      $  32,353         $  26,180        $  33,094         $  23,768        $  115,395
     Gross profit............         12,805             8,487           13,765             9,002            44,059
     Income from operations..          6,868             2,626            7,298             3,311            20,103
     Interest expense, net...          4,404             4,244            4,269             3,994            16,911
     Net income (loss).......            937              (621)           1,712              (519)            1,509


</TABLE>


                                      F-23


<PAGE>



                        REPORT OF INDEPENDENT ACCOUNTANTS


To the Board of Directors and Stockholder of
  AKI, Inc. and Subsidiaries

     In our  opinion,  the  accompanying  consolidated  balance  sheets  and the
related  consolidated  statements of operations,  stockholder's  equity and cash
flows present fairly, in all material  respects,  the financial position of AKI,
Inc.  and  Subsidiaries  at June 30,  2002 and  2001  and the  results  of their
operations  and their cash flows for each of the three years in the period ended
June 30, 2002 in conformity with generally accepted accounting principles in the
United States of America.  These financial  statements are the responsibility of
management;  our  responsibility  is to express  an  opinion on these  financial
statements  based on our audits.  We conducted our audits of these statements in
accordance with auditing  standards  generally  accepted in the United States of
America,  which require that we plan and perform the audit to obtain  reasonable
assurance   about  whether  the  financial   statements  are  free  of  material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the  amounts  and  disclosures  in  the  financial  statements,   assessing  the
accounting  principles  used and significant  estimates made by management,  and
evaluating the overall  financial  statement  presentation.  We believe that our
audits provide a reasonable basis for our opinion.





PricewaterhouseCoopers LLP
Knoxville, Tennessee
August 2, 2002


                                      F-24


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                           CONSOLIDATED BALANCE SHEETS
             (in thousands, except share and per share information)


<TABLE>
<CAPTION>

                                                                                              June 30,
                                                                                    ----------------------------
                                                                                        2002             2001
                                                                                        ----             ----

<S>                                                                                 <C>              <C>
ASSETS
Current assets
Cash and cash equivalents..............................................             $    1,875       $    4,654
Accounts receivable, net...............................................                 23,796           18,020
Inventory, net.........................................................                  8,014            6,330
Prepaid expenses.......................................................                    667              492
Deferred income taxes..................................................                    977              770
                                                                                    ----------       ----------
      Total current assets.............................................                 35,329           30,266

Property, plant and equipment, net.....................................                 19,616           15,778
Goodwill, net .........................................................                153,277          157,334
Other intangible assets, net...........................................                 13,142            6,337
Deferred charges, net..................................................                  3,637            3,575
Other assets...........................................................                    164               88
                                                                                    ----------       ----------
      Total assets.....................................................             $  225,165       $  213,378
                                                                                    ==========       ==========


LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities
Current portion of capital lease obligation............................             $        -       $      503
Current portion of long-term debt......................................                  1,375                -
Accounts payable, trade................................................                  5,826            3,886
Accrued income taxes...................................................                  2,053            1,523
Accrued compensation...................................................                  5,338            4,715
Accrued interest.......................................................                  5,570            5,443
Accrued expenses.......................................................                  3,642            3,908
                                                                                    ----------       ----------
      Total current liabilities........................................                 23,804           19,978

Revolving credit line..................................................                  2,750                -
Term loan..............................................................                  8,125                -
Senior notes...........................................................                103,510          103,510
Deferred income taxes..................................................                  1,231            2,357
Other non-current liabilities..........................................                  2,338            1,863
                                                                                    ----------       ----------
      Total liabilities................................................                141,758          127,708

Commitments and contingencies

Stockholder's equity
Common stock, $0.01 par, 100,000 shares authorized; 1,000
    shares issued and outstanding......................................                      -                -
Additional paid-in capital............................................                 100,543          107,348
Accumulated deficit....................................................                   (960)          (5,111)
Accumulated other comprehensive loss...................................                   (446)            (837)
Carryover basis adjustment.............................................                (15,730)         (15,730)
                                                                                   -----------       ----------
      Total stockholder's equity.......................................                 83,407           85,670
                                                                                    ----------       ----------

      Total liabilities and stockholder's equity.......................             $  225,165       $  213,378
                                                                                    ==========       ==========

</TABLE>


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


                                      F-25


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                 (in thousands)

<TABLE>
<CAPTION>

                                                                                      Year Ended June 30,
                                                                           ----------------------------------------
                                                                              2002           2001           2000
                                                                              ----           ----           ----

<S>                                                                        <C>            <C>             <C>
Net sales.....................................................             $ 120,893      $ 115,395       $  99,811
Cost of goods sold............................................                73,888         71,336          61,552
                                                                           ---------      ---------       ---------

   Gross profit...............................................                47,005         44,059          38,259

Selling, general and administrative expenses..................                18,943         18,199          16,980
Amortization of goodwill and other intangible assets..........                 6,451          5,757           5,336
Gain from settlement of purchase price dispute, net...........                  (992)             -            (858)
                                                                           ---------      ---------       ---------

   Income from operations.....................................                22,603         20,103          16,801

Other expenses (income):
   Interest expense...........................................                12,528         13,212          13,668
   Management fees to stockholders and affiliate..............                   250            250             250
                                                                           ---------      ---------       ---------

     Income before income taxes and extraordinary gain........                 9,825          6,641           2,883

Income tax expense............................................                 5,674          4,659           2,817
                                                                           ---------      ---------       ---------

     Income before extraordinary gain.........................                 4,151          1,982              66

Extraordinary gain from early retirement of debt, net
  of tax......................................................                     -            457             429
                                                                           ---------      ---------       ---------

   Net income.................................................             $   4,151      $   2,439       $     495
                                                                           =========      =========       =========


</TABLE>


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


                                      F-26


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                 CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
                    (in thousands, except share information)

<TABLE>
<CAPTION>
                                                                                                   Accumulated
                                                       Additional                      Other        Carryover
                                       Common Stock      Paid-in     Accumulated   Comprehensive      Basis
                                      Shares  Amount     Capital       Deficit          Loss        Adjustment      Total
                                      ------  ------     -------       -------          ----        ----------      -----


<S>                                    <C>    <C>       <C>            <C>           <C>            <C>           <C>
Balances, June 30, 1999...........     1,000  $   -     $ 100,862      $ (8,045)     $    (365)     $ (15,730)    $ 76,722
Equity contribution by AKI
  Holding Corp....................         -      -         6,486             -              -              -        6,486
Net income........................         -      -             -           495              -              -          495
Other comprehensive loss, net
  of tax:
   Foreign currency translation
     adjustment...................         -      -             -             -           (177)             -         (177)
                                                                                                                  --------
Comprehensive income..............                                                                                     318
                                      ------  -----     ---------      --------      ---------      ---------     --------

Balances, June 30, 2000...........     1,000      -       107,348        (7,550)          (542)       (15,730)      83,526
Equity contribution by AKI
  Holding Corp....................         -      -             -             -              -              -            -
Net income........................         -      -             -         2,439              -              -        2,439
Other comprehensive loss, net
  of tax:
   Foreign currency translation
     adjustment...................         -      -             -             -           (295)             -         (295)
                                                                                                                  --------
Comprehensive income..............                                                                                   2,144
                                      ------  -----     ---------      --------      ---------      ---------     --------

Balances, June 30, 2001...........     1,000      -       107,348        (5,111)          (837)       (15,730)      85,670
Distribution to AKI Holding Corp..         -      -        (6,805)            -              -              -       (6,805)
Net income........................         -      -             -         4,151              -              -        4,151
Other comprehensive loss, net
  of tax:
   Foreign currency translation
     adjustment...................         -      -             -             -            391              -          391
                                                                                                                  --------
Comprehensive income..............                                                                                   4,542
                                      ------  -----     ---------      --------      ---------      ---------     --------

Balances, June 30, 2002...........     1,000  $   -     $ 100,543      $   (960)     $    (446)     $ (15,730)    $ 83,407
                                      ======  =====     =========      ========      =========      =========     ========


</TABLE>


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


                                      F-27


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (in thousands)

<TABLE>
<CAPTION>


                                                                                      Year Ended June 30,
                                                                        --------------------------------------------
                                                                           2002              2001             2000
                                                                           ----              ----             ----

<S>                                                                     <C>               <C>              <C>
Cash flows from operating activities:
   Net income.................................................          $   4,151         $   2,439        $     495
   Adjustment to reconcile net income to net cash provided
    by operating activities:
     Depreciation and amortization of goodwill and other
       intangibles............................................             12,096            10,119            9,738
     Amortization of loan closing costs.......................                617               719              956
     Deferred income taxes....................................             (1,333)             (387)           2,166
     Gain from early retirement of debt.......................                  -              (892)          (1,004)
     Other....................................................                472               (84)              (1)
     Changes in operating assets and liabilities:
       Accounts receivable....................................             (2,541)            3,502           (2,576)
       Inventory..............................................                690             1,427           (2,496)
       Prepaid expenses, deferred charges and other assets....               (131)             (400)             450
       Accounts payable and accrued expenses..................               (754)            1,939           (2,637)
       Income taxes...........................................                530             1,222             (164)
                                                                        ---------         ---------        ---------

       Net cash provided by operating activities..............             13,797            19,604            4,927
                                                                        ---------         ---------        ---------

Cash flows from investing activities:
   Purchases of equipment.....................................             (1,338)           (3,015)          (2,782)
   Payments for acquisitions, net of cash acquired............            (19,422)                -          (16,164)
   Patents....................................................                (79)             (137)            (150)
                                                                        ---------         ---------        ---------

       Net cash used in investing activities..................            (20,839)           (3,152)         (19,096)
                                                                        ---------         ---------        ---------

Cash flows from financing activities:
   Payments under capital leases for equipment................               (503)             (846)            (688)
   Repayments of long-term debt...............................                  -            (3,110)               -
   Net proceeds (repayments) on revolving loan................              2,750            (9,000)           9,000
   Proceeds from term loan, net of repayment of $500 in 2002..              9,500                 -                -
   Payments of loan closing costs.............................               (679)                -                -
   Distribution to parent.....................................             (6,805)                -                -
                                                                        ---------         ---------        ---------

       Net cash provided by (used in) financing activities....              4,263           (12,956)           8,312
                                                                        ---------         ---------        ---------

Net increase (decrease) in cash and cash equivalents..........             (2,779)            3,496           (5,857)
Cash and cash equivalents, beginning of period................              4,654             1,158            7,015
                                                                        ---------         ---------        ---------
Cash and cash equivalents, end of period......................          $   1,875         $   4,654        $   1,158
                                                                        =========         =========        =========


Supplemental information:
   Cash paid (received) during the period for:
       Interest to stockholder(s).............................          $      14         $     320        $      22
       Interest, other........................................             11,600            12,233           13,188
       Income taxes...........................................              6,857             4,115            1,264

Significant non-cash activities:
   Contribution of equity and retirement of senior notes......          $       -         $       -        $   6,486


</TABLE>


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


                                      F-28


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

1.   ORGANIZATION AND BUSINESS

          Arcade Holding  Corporation (the  "Predecessor") was organized for the
     purpose  of  acquiring  all the  issued and  outstanding  capital  stock of
     Arcade,  Inc.  ("Arcade") on November 4, 1993.  As more fully  described in
     Note 3,  DLJ  Merchant  Banking  Partners  II,  L.P.  and  certain  related
     investors (collectively,  "DLJMBII") and certain members of the Predecessor
     organized AHC I Acquisition Corp.  ("AHC") and AHC I Merger Corp.  ("Merger
     Corp.") for purposes of acquiring the Predecessor (the  "Acquisition").  On
     December 15, 1997, Merger Corp. acquired all of the equity interests of the
     Predecessor  and then merged with and into the Predecessor and the combined
     entity assumed the name AKI, Inc. and Subsidiaries  ("AKI," the "Successor"
     or the  "Company").  Subsequent to the  Acquisition,  AHC contributed $1 of
     cash and all of its  ownership  interest in AKI to AKI Holding  Corporation
     ("Holding") for all of the outstanding equity of Holding. AKI is engaged in
     interactive advertising for consumer products companies and has a specialty
     in the design,  production and  distribution  of sampling  systems from its
     Chattanooga,  Tennessee and Baltimore,  Maryland facilities and distributes
     its  products  in Europe  through  its  French  subsidiary,  Arcade  Europe
     S.A.R.L.

          Unless  otherwise  indicated,  all  references to years refer to AKI's
     fiscal year, June 30.

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     Principles of Consolidation

          The  accompanying   consolidated   financial  statements  include  the
     accounts of the Company and its wholly owned subsidiaries.  All significant
     intercompany transactions have been eliminated.

     Reclassification

          Certain prior year amounts have been  reclassified to conform with the
     current year presentation.

     Cash and Cash Equivalents

          For purposes of the consolidated statements of cash flows, the Company
     considers all highly liquid  investments with an original maturity of three
     months or less at the time of purchase to be cash equivalents.

     Concentration of Credit Risk

          The Company  maintains  its cash in bank deposit  accounts  which,  at
     times, may exceed federally insured limits. The Company has not experienced
     any losses in such accounts;  in addition,  the Company  believes it is not
     exposed to any significant  credit risk on cash and cash  equivalents.  The
     Company  grants  credit  terms in the  normal  course  of  business  to its
     customers and as part of its ongoing  procedures,  the Company monitors the
     credit worthiness of its customers. The Company does not believe that it is
     subject to any unusual  credit risk beyond the normal credit risk attendant
     in its business.

          Two  customers  accounted for 31.3% of net sales during the year ended
     June 30,  2002.  One  customer  accounted  for 14.9% and 15.3% of net sales
     during the years ended June 30, 2001 and June 30, 2000, respectively.


                                      F-29


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)


2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

     Concentration of Purchasing

          Products  accounting  for a  significant  portion of the Company's net
     sales utilize  specific  grades of paper that are produced  exclusively for
     the Company by one domestic supplier.  The Company does not have a purchase
     agreement  with the  supplier  and is not aware of any other  suppliers  of
     these specific grades of paper.  These products can be  manufactured  using
     other grades of paper; however, the Company believes the specific grades of
     paper  utilized by the Company  provide the Company with an advantage  over
     its  competitors.   The  Company  is  currently   researching   methods  of
     replicating  the  advantages of these  specific  grades of paper with other
     grades of paper available from multiple  suppliers.  Until such methods are
     developed,  a loss of  supply  of these  specific  grades  of paper and the
     resulting competitive advantage could cause a possible loss of sales, which
     could adversely affect operating results.

     Revenue Recognition and Accounts Receivable

          Product sales are recognized at the time risk of ownership  transfers,
     net of estimated  discounts.  Accounts  receivable  is accounted for net of
     allowances  for  doubtful   accounts.   Under   arrangements  with  certain
     customers, custom product which is stored for future delivery is recognized
     as revenue when title and risk of ownership has passed to the customer.

     Inventory

          Paper  inventory  is stated  at the lower of cost or market  using the
     last-in,  first-out (LIFO) method;  all other inventories are stated at the
     lower of cost or market using the first-in, first-out (FIFO) method.

     Property, Plant and Equipment

          Property,  plant and equipment are stated at cost.  Expenditures  that
     extend the  economic  lives or improve  the  efficiency  of  equipment  are
     capitalized. The costs of maintenance and repairs are expensed as incurred.
     Upon retirement or disposal, the related cost and accumulated  depreciation
     are removed from the respective accounts and any gain or loss is recorded.

          Depreciation is computed using the  straight-line  method based on the
     estimated  useful lives of the assets as indicated in Note 6 for  financial
     reporting  purposes and  accelerated  methods for tax  purposes.  Leasehold
     improvements  are depreciated  over the shorter of their  estimated  useful
     lives or the lease term.

     Goodwill

          The aggregate purchase price of business acquisitions was allocated to
     the  assets  and  liabilities  of the  acquired  companies  based  on their
     respective fair values as of the acquisition dates. Goodwill represents the
     excess purchase price paid over the fair value of net  identifiable  assets
     acquired and for  acquisitions  prior to July 1, 2001 is  amortized  over a
     period of up to forty years  using the  straight-line  method.  Accumulated
     amortization  was $20,159  and $15,353 at June 30, 2002 and June 30,  2001,
     respectively.


                                      F-30


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)


2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

          Management  periodically  reviews the value of its  goodwill and other
     long-lived assets to determine if an impairment has occurred. The potential
     impairment of recorded  goodwill and other long-lived assets is measured by
     the undiscounted  value of expected future operating cash flows in relation
     to its net capital  investment.  Based on its review,  management  does not
     believe that an impairment of its goodwill or other  long-lived  assets has
     occurred.

     Deferred Charges

          Deferred charges are primarily  comprised of debt issuance costs which
     are being amortized  using the effective  interest method over the terms of
     the related debt. Such costs are included in the accompanying  consolidated
     balance sheets, net of accumulated amortization.

     Other Intangible Assets

          Other intangible assets include covenants not to compete,  patents and
     other intangible  assets and are being amortized over their estimated lives
     using the straight-line method.  Accumulated  amortization related to these
     intangible assets was $4,530 and $2,442 at June 30, 2002 and June 30, 2001,
     respectively.

     Fair Value of Financial Instruments

          SFAS  No.   107,   "Disclosures   About  Fair   Values  of   Financial
     Instruments,"  requires  the  disclosure  of the fair  value  of  financial
     instruments,  for assets and  liabilities  recognized and not recognized on
     the balance sheet,  for which it is practicable to estimate fair value. The
     fair value of the Company's  Senior Notes, as determined from quoted market
     prices,  was  $98,459 at June 30,  2002,  compared  to a carrying  value of
     $103,510.   The  carrying   value  of  all  other   financial   instruments
     approximated fair value at June 30, 2002.

     Foreign Currency Transactions

          Gains and (losses) on foreign currency transactions have been included
     in the determination of net income in accordance with SFAS No. 52, "Foreign
     Currency  Translation."  Foreign  currency  gains and (losses)  amounted to
     $301,  ($403) and ($51) for the years ended June 30,  2002,  2001 and 2000,
     respectively.

     Research and Development Expenses

          Research and development  expenditures are charged to selling, general
     and   administrative   expenses  in  the  period  incurred.   Research  and
     development expenses totaled $1,766,  $1,591 and $1,309 for the years ended
     June 30, 2002, 2001 and 2000, respectively.

     Income Taxes

          Income taxes are provided in  accordance  with  Statement of Financial
     Accounting  Standards No. 109,  "Accounting for Income Taxes." Accordingly,
     deferred tax assets and liabilities are recognized at the applicable income
     tax rates  based upon  future tax  consequences  of  temporary  differences
     between the tax bases and


                                      F-31


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

     financial reporting bases of assets and liabilities using enacted tax rates
     in effect in the years in which the  differences  are  expected to reverse.
     Deferred tax assets are  reduced,  if  necessary,  by the amount of any tax
     benefits  that,  based  on  available  evidence,  are  not  expected  to be
     realized.

     Use of Estimates

          The  preparation of financial  statements in conformity with generally
     accepted  accounting  principles  requires management to make estimates and
     assumptions  that affect the reported amounts of assets and liabilities and
     disclosures  of  contingent  assets  and  liabilities  at the  date  of the
     financial  statements  and the  reported  amounts of revenues  and expenses
     during the reporting period.  Management makes significant estimates in the
     areas of accounts  receivable,  inventory,  intangible  assets,  long-lived
     assets and  deferred  income tax.  Actual  results  could differ from those
     estimates.

     Recently Issued Accounting Standards

          FASB  Statement of Financial  Accounting  Standards  No. 141 "Business
     Combinations"  ("SFAS  141") was issued in June 2001.  SFAS 141 changes the
     accounting and reporting for business  combinations.  SFAS 141 is effective
     for  all  business   combinations   initiated  after  June  30,  2001,  and
     accordingly,  the CP  acquisition  has been  accounted  for and reported in
     accordance with SFAS 141.

          FASB Statement of Financial Accounting Standards No. 142 "Goodwill and
     Other  Intangible  Assets"  ("SFAS 142") was issued in June 2001.  SFAS 142
     changes the  accounting  and  reporting  for  acquired  goodwill  and other
     intangible  assets.  SFAS 142 is effective for fiscal years beginning after
     December  15,  2001 and must be applied  at the  beginning  of an  entity's
     fiscal year. The adoption of SFAS 142 in future  financial  statements will
     eliminate  the  amortization  of goodwill,  approximately  $4,800 in fiscal
     2002, while requiring annual tests for impairment of goodwill.

          FASB Statement of Financial  Accounting  Standards No. 144 "Accounting
     for the  Impairment  of Disposal of  Long-Lived  Assets"  ("SFAS  144") was
     issued in August 2001. SFAS 144 requires that long-lived assets that are to
     be disposed of by sale be measured at the lower of book value or fair value
     less cost to sell.  SFAS 144 is effective for financial  statements  issued
     for fiscal years  beginning  after  December 15, 2001. The Company does not
     expect a material impact in implementing  SFAS 144 on its future  financial
     statements.

          FASB Statement of Financial  Accounting  Standards No. 145 "Rescission
     of FASB  Statements No. 4, 44, and 64,  Amendment of FASB Statement No. 13,
     and Technical  Corrections" ("SFAS 145") was issued in April 2002. The most
     significant aspects of this pronouncement,  with respect to the Company, is
     the  elimination  of  SFAS  No.  4,   "Reporting   Gains  and  Losses  from
     Extinguishment  of  Debt".  As a result of the  elimination  of SFAS No. 4,
     gains and  losses  from  extinguishment  of debt  should be  classified  as
     extraordinary  items  only  if  they  meet  the  criteria  in APB  No.  30,
     "Reporting   the  Results  of   Operations   -   Discontinued   Events  and
     Extraordinary  Items".  The  implementation  of SFAS No.  145 will  require
     future early  retirements of debt to be included in income from  operations
     which  could  materially  affect  income  from  operations.


                                      F-32


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

 2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

          FASB Statement of Financial  Accounting  Standards No. 146 "Accounting
     for Costs  Associated  with Exit or Disposal  Activities"  ("SFAS 146") was
     issued in June 2002. SFAS 146 addresses financial  accounting and reporting
     for  costs  associated  with  exit  or  disposal  activities.  SFAS  146 is
     effective for exit or disposal activities that are initiated after December
     31, 2002. The Company  adopted SFAS 146 in fiscal 2002 and did not consider
     the impact to be material.

3.   SIGNIFICANT ACQUISITIONS

          On December 18,  2001,  the Company  acquired  the business  including
     certain  assets and assumed  certain  liabilities  of Color  Prelude,  Inc.
     ("CP")  for  $19,423  including  direct  acquisition  costs  of  $540.  The
     acquisition  was accounted  for using the purchase  method of accounting in
     accordance with Statement of Financial Accounting Standards (SFAS) No. 141,
     "Business  Combinations".  The  purchase  price has been  allocated  to the
     assets and liabilities  acquired using estimated fair values at the date of
     acquisition and resulted in assigning value to goodwill totaling $407 which
     will not be amortized in accordance with Statement of Financial  Accounting
     Standards  (SFAS) No.  142  "Goodwill  and Other  Intangible  Assets".  The
     following shows the allocation of the purchase price:

              Cash............................................   $         1
              Other current assets............................         5,680
              Property, plant and equipment...................         7,695
              Patents.........................................         7,750
              Other intangible assets.........................         1,069
              Goodwill........................................           407
                                                                 -----------

              Total allocation to assets......................   $    22,602
                                                                 ===========

              Current liabilities.............................   $     3,179
                                                                 ===========

          Patents  are  being  amortized  over  a  ten  year  period  and  other
     intangible assets are being amortized over periods ranging from one to four
     years.

          The results of the acquired  operations  are included in the financial
     statements  since the date of acquisition.  The following pro forma results
     include cost savings and other effects of the planned  integration  and are
     not necessarily  indicative of the results which would have occurred if the
     business  combination had been in effect on the dates indicated.  Pro forma
     results  had CP been  acquired  at the  beginning  of  fiscal  2001  are as
     follows:

                                                          2002          2001
                                                          ----          ----
                                                       (unaudited)   (unaudited)

         Revenue.................................... $   127,226    $   129,122
         Income (loss) before extraordinary items...       4,110          2,780
         Net income (loss)..........................       4,110          3,237


                                      F-33


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

3.   SIGNIFICANT ACQUISITIONS (Continued)

          On  September  15,  1999,  the  Company  acquired  all of  the  equity
     interests in RetCom  Holdings  Ltd.  and its  subsidiaries  ("RetCom")  for
     approximately  $12,500  and  refinanced  working  capital  indebtedness  of
     approximately $4,500 of RetCom. The acquisition was accounted for using the
     purchase method of accounting. The purchase price has been allocated to the
     assets and liabilities  acquired using estimated fair values at the date of
     acquisition   and  resulted  in  assigning   value  to  goodwill   totaling
     approximately  $19,100  which is being  amortized on a straight  line basis
     over a period of twenty years.  The results of the acquired  operations are
     included in the financial statements since the date of acquisition.

          In April 2002 the Company  settled a dispute with the former owners of
     RetCom.   In  connection   with  the   settlement   the  Company   received
     approximately $1,000 and has included this settlement amount net of related
     expenses in income from operations.

          In December 1999 the Company  settled a dispute with the former owners
     of the Predecessor.  In connection with the settlement the Company received
     approximately $1,200 and has included this settlement amount net of related
     expenses in income from operations.

4.   ACCOUNTS RECEIVABLE

     The following table details the components of accounts receivable:

                                                             June 30,
                                                   ----------------------------
                                                        2002            2001
                                                        ----            ----

         Trade accounts receivable...............  $   24,083        $   18,487
         Allowance for doubtful accounts.........        (608)             (836)
                                                   ----------        ----------
                                                       23,475            17,651
         Other accounts receivable...............         321               369
                                                   ----------         ---------

                                                   $   23,796         $  18,020
                                                   ==========         =========

5.   INVENTORY

     The following table details the components of inventory:

                                                             June 30,
                                                   ----------------------------
                                                        2002            2001
                                                        ----            ----
         Raw materials
           Paper.................................  $    2,180        $    1,796
           Other raw materials...................       4,216             2,697
                                                   ----------        ----------
              Total raw materials................       6,396             4,493
         Work in process.........................       2,468             2,587
         Reserve for obsolescence................        (850)             (750)
                                                   ----------        ----------

          Total inventory........................  $    8,014        $    6,330
                                                   ==========        ==========


                                      F-34


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

5.   INVENTORY (Continued)

          The difference between the carrying value of paper inventory using the
     FIFO method as compared to the LIFO method was not  significant at June 30,
     2002 or June 30,  2001.  During  the year  ended  June  30,  2001,  certain
     inventory  quantity  reductions  caused  a  liquidation  of LIFO  inventory
     values, which were immaterial.

6.   PROPERTY, PLANT AND EQUIPMENT

          The  following  table details the  components  of property,  plant and
     equipment as well as their estimated useful lives:

<TABLE>
<CAPTION>

                                                                                      June 30,
                                                       Estimated             -------------------------
                                                      Useful Lives               2002           2001
                                                      ------------               ----           ----

<S>                                                   <C>                    <C>            <C>
         Land......................................                          $     258      $     258
         Buildings.................................   7 - 15 years               2,690          1,851
         Leasehold improvements....................   1 -  3 years                 353            651
         Machinery and equipment...................   5 -  7 years              32,000         23,622
         Furniture and fixtures....................   3 -  5 years               3,609          3,370
         Construction in progress..................                                255            405
                                                                             ---------      ---------
                                                                                39,165         30,157
         Accumulated depreciation..................                            (19,549)       (14,379)
                                                                             ---------      ---------
                                                                             $  19,616      $  15,778
                                                                             =========      =========
</TABLE>

          Depreciation  expense  amounted  to $5,197,  $4,341 and $4,381 for the
     years ended June 30, 2002, 2001 and 2000, respectively.

          Property  held  under  capital  lease is  included  in the  respective
     property, plant and equipment category as follows:

                                                                     June 30,
                                                                       2001
                                                                       ----

         Building...............................................    $     600
                                                                    ---------
                                                                          600
         Less accumulated depreciation..........................         (500)
                                                                    ---------
                                                                    $     100
                                                                    =========

          Depreciation of assets under capital lease totaled $100, $200 and $600
     for the years ended June 30, 2002, 2001 and 2000, respectively.

7.   CREDIT AGREEMENT

          On December  18,  2001,  the Company  amended and  restated its Credit
     Agreement.  The Credit  Agreement  provides  for a $10,000  term loan which
     matures on December 31, 2006 with varying quarterly principal payments and,
     under certain  circumstances,  payments of "excess cash flow" as defined in
     the Credit  Agreement.  Interest on amounts  borrowed  accrue at a floating
     rate based upon either prime or LIBOR (the weighted average


                                      F-35


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

7.   CREDIT AGREEMENT (Continued)

     interest rate on the  outstanding  balance under the term loan was 6.15% at
     June 30,  2002).  The weighted  average  interest  rate on the  outstanding
     balance  under the term loan was 5.96% for the year ending  June 30,  2002.
     Future minimum principal payments under the term loan are as follows:

                                           Principal
                                            Payment
                                            -------
                  2003................  $     1,375
                  2004................        1,875
                  2005................        2,125
                  2006................        2,625
                  2007................        1,500
                                        -----------
                                        $     9,500
                                        ===========

          The Credit  Agreement also provides for a revolving loan commitment up
     to a maximum of $20,000 and expires on December  31, 2006.  Borrowings  are
     limited to a borrowing base  consisting of accounts  receivable,  inventory
     and  property,  plant  and  equipment  which  serve as  collateral  for the
     borrowings.  As  of  June  30,  2002,  the  Company's  borrowing  base  was
     approximately  $27,289.  Interest on amounts  borrowed accrue at a floating
     rate based upon either prime or LIBOR (the weighted  average  interest rate
     on the outstanding  balance under the revolving loan was 6.49% and 7.75% at
     June 30, 2002 and 2001,  respectively).  The weighted average interest rate
     on the  outstanding  balance under the revolving loan was 6.45%,  9.58% and
     9.12% for the years ended June 30, 2002, 2001 and 2000, respectively.

          The Company is required to pay  commitment  fees on the unused portion
     of the revolving loan commitment at a rate of approximately 0.5% per annum.
     In  addition,  the  Company  is  required  to pay fees equal to 2.5% of the
     average daily outstanding amount of lender guarantees. The Company had $291
     of lender guarantees  outstanding at June 30, 2002. These fees totaled $65,
     $59 and $69 for the years ended June 30, 2002, 2001 and 2000, respectively.
     The  Credit  Agreement  contains  certain  financial  covenants  and  other
     restrictions   including   restrictions  on  additional   indebtedness  and
     restrictions on the payment of dividends.  As of June 30, 2002, the Company
     was in compliance with all debt covenants.

8.   LOANS PAYABLE TO STOCKHOLDER

          In May 2000, the Company signed a promissory note payable to AHC which
     allows the Company to borrow up to $10,000 at such  interest  rates and due
     as agreed  upon by the Company  and AHC.  At June 30,  2002,  no amount was
     outstanding  under the promissory note.  Interest paid to AHC in connection
     with the promissory note totaled $14, $320 and $22 for the years ended June
     30, 2002, 2001 and 2000, respectively.

9.   SENIOR NOTES

          On June 25,  1998,  the  Company  completed  a  private  placement  of
     $115,000 of Senior Notes (the "Senior Notes") which mature on July 1, 2008.
     The Senior Notes are general unsecured  obligations of the Company and bear
     interest at 10.5% per annum, payable semi-annually on January 1 and July 1.
     The  placement  of the Senior  Notes  yielded the  Company net  proceeds of
     $110,158 after deducting  offering expenses of $4,842,  including $3,450 of
     underwriting fees paid to an affiliate of the stockholder. The Senior Notes
     are redeemable


                                      F-36


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

9.   SENIOR NOTES (Continued)

     at the option of the Company,  in whole or part,  at any time after July 1,
     2003 at a price of up to 105.25% of the outstanding  principal balance plus
     accrued  and  unpaid  interest.  Prior  to July 1,  2003,  the  Company  is
     permitted to repurchase up to 35% of the Senior Notes at a redemption price
     equal to 110.5% of the aggregate  principal  amount plus accrued and unpaid
     interest with the net proceeds of one or more public equity offerings.  The
     Senior  Notes  contain  certain  covenants  including  restrictions  on the
     declaration  and  payment  of  dividends  by the  Company  to  Holding  and
     limitations on the incurrence of additional  indebtedness.  On December 22,
     1998, the Company  completed the  registration of its Senior Notes with the
     Securities  and  Exchange  Commission.  During  fiscal  2001,  the  Company
     purchased  $4,000 of the Senior Notes for $3,110 and recognized a gain, net
     of  income  taxes  of   approximately   $457.  The  purchased   notes  were
     subsequently  retired.  During  fiscal 2000,  AHC  purchased  $7,490 of the
     Senior Notes for $6,486 and  recognized  a gain,  net of income  taxes,  of
     approximately  $429.  The notes were  contributed  to Holding  and  Holding
     contributed the notes to AKI. The notes were subsequently retired.

10.  INITIAL CAPITALIZATION

          In conjunction  with the  Acquisition,  AHC issued $30,000 of Floating
     Rate Notes,  $50,279 of Mandatorily  Redeemable Senior Preferred Stock (the
     "Senior Preferred Stock") and $1,111 of its Common Stock. The Floating Rate
     Notes were issued with an original  issuance  discount of $5,389.  Interest
     was  payable  quarterly  and  could be  settled  through  the  issuance  of
     additional  Floating  Rate Notes  through  December 15, 2009,  the maturity
     date, at the  discretion of AHC. The original  issuance  discount of $5,389
     was being  amortized  using the effective  interest method over the life of
     the  Floating  Rate  Notes.  On  November  1, 1999 AHC issued  Amended  and
     Restated  Notes  totaling  $35,500 in exchange for the Floating Rate Notes.
     The Amended and Restated Notes bear a fixed interest rate of  approximately
     16% per annum and mature on  December  15, 2009 and provide for the payment
     of stipulated  early redemption  premiums.  In connection with the exchange
     the  unamortized  original  issue  discount was expensed by AHC. The Senior
     Preferred  Stock accretes in value at 15% per annum and must be redeemed by
     December 15,  2012.  The Amended and  Restated  Notes and Senior  Preferred
     Stock are general unsecured obligations of AHC.

          The cash proceeds from the issuance of the Floating Rate Notes, Senior
     Preferred  Stock and Common  Stock of  approximately  $76,000  and a Senior
     Preferred Stock option of $2,363 were  contributed by AHC to the Company in
     exchange for 1,000 shares of the Company's Common Stock.  Subsequent to the
     initial  capitalization of the Company,  AHC contributed $1 of cash and all
     of its  ownership  interest  in  the  Company  to  Holding  for  all of the
     outstanding equity of Holding.

          AHC and  Holding  have no other  operations  other  than the  Company.
     Absent  additional  financing by AHC or Holding,  the Company's  operations
     represent  the only  current  source  of funds  available  to  service  the
     Floating Rate Notes,  Senior Preferred Stock and Debentures;  however,  the
     Company is not  obligated to pay or otherwise  guarantee  the Floating Rate
     Notes, Senior Preferred Stock and Debentures.


                                      F-37


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

11.  COMMITMENTS AND CONTINGENCIES

     Operating Leases

          Equipment and office,  warehouse and production  space under operating
     leases expire at various  dates.  Rent expense was $559,  $538 and $589 for
     the years ended June 30, 2002, 2001 and 2000, respectively.  Future minimum
     lease payments under the leases are as follows:

                        2003..........   $   1,212
                        2004..........       1,281
                        2005..........       1,001
                        2006..........         728
                        2007..........         557
                        Thereafter....       2,100
                                         ---------
                                         $   6,879
                                         =========

     Royalty Agreements

          Royalty agreements are maintained for certain technologies used in the
     manufacture of certain products.  Under the terms of one royalty agreement,
     payments are required  based on a percentage of net sales of those products
     manufactured with the specific  technology,  or a minimum of $500 per year.
     This  agreement  expires  the  earlier  of (1) when a total of  $11,800  in
     cumulative  royalty  payments has been paid or (2) December 31, 2003 unless
     renewed  by the  Company  for  successive  one-year  periods.  The  Company
     expensed  $500 under this  agreement for each of the three years ended June
     30, 2002. The Company has paid $6,076 in cumulative  royalty payments under
     this agreement through June 30, 2002.

          Under the terms of another  agreement,  royalty  payments are required
     based on the  number  of  products  sold that  were  manufactured  with the
     specific licensed technology, or a minimum payment of $625 per year through
     the  expiration of the agreement in 2012.  The Company  expensed $625 under
     this agreement for each of the three years ended June 30, 2002.

     Employee Agreements

          The Company has employment  and salary  continuation  agreements  with
     certain executive  officers with terms through June 30, 2003 and 2004. Such
     agreements  provide for base salaries totaling $1,250 per year. One officer
     has an  incentive  bonus of up to 200% of base  salary  which is payable if
     certain  financial  and  management  goals are attained  and certain  other
     incentive  payments.  The  employment  agreements  also  provide  severance
     benefits of up to two years of base salary if the  officers'  services  are
     terminated under certain conditions and one officer's  agreement  provides,
     in the event of termination resulting from a change of control, a severance
     benefit of two times his highest  aggregate amount of base salary and bonus
     in any of  the  three  calendar  years  prior  to  the  effective  date  of
     termination.

     Litigation

          The Company is a party to litigation arising in the ordinary course of
     business,  which in the  opinion  of  management,  will not have a material
     adverse effect on the Company's financial condition,  results of operations
     or cash flows.


                                      F-38


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

 11. COMMITMENTS AND CONTINGENCIES (Contined)

     Printing Services Agreement

          In connection with the RetCom acquisition, AKI entered into a Printing
     Services  Agreement,  which  expires  December  31,  2004,  with  a  former
     shareholder of RetCom.  The Printing  Services  Agreement  requires  annual
     purchases  of printing  services  totaling  $5,000 with a 15% charge on the
     amount of any  shortfall.  The  present  value of the costs  related to the
     estimated  shortfall over the life of the Printing  Services  Agreement was
     recorded as a liability in the RetCom  purchase  accounting.  The liability
     balance at June 30, 2002 was approximately $2,600.

12.  RETIREMENT PLANS

          A 401(k)  defined  contribution  plan (the "Plan") is  maintained  for
     substantially all full-time salaried employees and certain non-union hourly
     employees.  Applicable  employees  who have six months of service  and have
     attained  age 21 are eligible to  participate  in the Plan.  Employees  may
     elect  to  contribute  a  percentage  of  their  earnings  to the  Plan  in
     accordance with limits  prescribed by law. The Company makes  contributions
     to the Plan by  matching a  percentage  of  employee  contributions.  Costs
     associated  with the Plan totaled  $323,  $294 and $251 for the years ended
     June 30, 2002, 2001 and 2000, respectively.

          Certain  hourly  employees are covered under a  multiemployer  defined
     benefit plan administered under a collective  bargaining  agreement.  Costs
     (determined by union  contract)  under the defined  benefit plan were $221,
     $233  and  $215  for  the  years  ended  June  30,  2002,  2001  and  2000,
     respectively.

13.  INCOME TAXES

          The Company is included in the consolidated  federal income tax return
     filed by AHC.  Income  taxes  related to the  Company are  determined  on a
     separate entity basis.  The Company files separate state income tax returns
     and  calculates its state tax provision on a separate  company  basis.  Any
     income taxes payable or receivable by the consolidated group are settled or
     received by the Company.

          For  financial  reporting  purposes,  income  before  income taxes and
     extraordinary gain includes the following components:

<TABLE>
<CAPTION>

                                                                             Year Ended June 30,
                                                                  ---------------------------------------------
                                                                     2002             2001              2000
                                                                     ----             ----              ----

<S>                                                               <C>              <C>               <C>
         Income before income taxes and extraordinary
           gain:
              United States..................................     $   7,683        $   5,180         $   2,428
              Foreign........................................         2,142            1,461               455
                                                                  ---------        ---------         ---------

                                                                  $   9,825        $   6,641         $   2,883
                                                                  =========        =========         =========
</TABLE>


                                      F-39


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

13.  INCOME TAXES  (Continued)

          Significant components of the provision (benefit) for income taxes are
     as follows:

<TABLE>
<CAPTION>
                                                                               Year Ended June 30,
                                                                  --------------------------------------------
                                                                     2002             2001              2000
                                                                     ----             ----              ----

<S>                                                               <C>              <C>               <C>
         Current expense:
           Federal........................................        $   5,003        $   4,288         $     480
           Foreign........................................            1,042              526               171
           State..........................................              962              232                 -
                                                                  ---------        ---------         ---------
                                                                      7,007            5,046               651
                                                                  ---------        ---------         ---------

         Deferred expense (benefit):
           Federal........................................           (1,247)            (721)            1,740
           Foreign........................................                -                -                 -
           State..........................................              (86)             334               426
                                                                  ---------        ---------         ---------
                                                                     (1,333)            (387)            2,166
                                                                  ---------        ---------         ---------

                                                                  $   5,674        $   4,659         $   2,817
                                                                  =========        =========         =========
</TABLE>

          The significant components of deferred tax assets and (liabilities) at
     June 30, 2002 and 2001, were as follows:

<TABLE>
<CAPTION>
                                                                               June 30,
                                                       -----------------------------------------------------
                                                                2002                          2001
                                                                ----                          ----
                                                        Current     Noncurrent         Current    Noncurrent
                                                        -------     ----------         -------    ----------

<S>                                                    <C>          <C>               <C>         <C>
         Deferred income tax assets:
           Accrued expenses........................    $     483    $       -         $     400   $       -
           Allowance for doubtful accounts.........          216            -               296           -
           Reserve for inventory obsolescence......          278            -                74           -
           Amortization of intangibles.............            -          773                 -         421
                                                       ---------     --------         ---------   ---------
                                                             977          773               770         421
         Deferred income tax liability:
           Property, plant and equipment...........            -       (2,004)                -      (2,778)
                                                       ---------     --------         ---------   ---------

              Deferred tax assets (liabilities)....    $     977    $  (1,231)        $     770   $  (2,357)
                                                       =========    =========         =========   =========
</TABLE>


          The income tax provision recognized by the Company for the years ended
     June 30, 2002, 2001 and 2000 differs from the amount determined by applying
     the applicable U.S. statutory federal income tax rate to pretax income as a
     result of the following:

<TABLE>
<CAPTION>
                                                                              Year Ended June 30,
                                                                  -------------------------------------------
                                                                     2002             2001             2000
                                                                     ----             ----              ----

<S>                                                               <C>              <C>              <C>
         Computed tax provision at the
           statutory rate.................................        $   3,439        $   2,324        $     980
         State income tax provision, net of
           federal effect.................................              570              368              281
         Net nondeductible expenses.......................            1,373            1,952            1,540
         Other, net.......................................              292               15               16
                                                                  ---------        ---------        ---------

                                                                  $   5,674        $   4,659        $   2,817
                                                                  =========        =========        =========
</TABLE>


                                      F-40


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

14.  STOCK OPTIONS

          Subsequent to the Acquisition,  AHC adopted the 1998 Stock Option Plan
     ("Option  Plan") for certain  employees and directors of AHC and any parent
     or subsidiary of AHC. The Option Plan authorizes the issuance of options to
     acquire up to 1,650,000  shares of AHC Common Stock. The Board of Directors
     determines the terms of each individual  options grant.  The exercise price
     for each  grant is  required  to be set at least  equal to the fair  market
     value per share of AHC provided  that the exercise  price shall not be less
     than $1.00 per share.  Options vest over periods  ranging from one to eight
     years.  Certain  options are  eligible  for  accelerated  vesting  based on
     targeted EBITDA. Options may be exercisable for up to ten years.

          A summary of AHC stock option activity and related information for the
     years ended June 30, 2002, 2001 and 2000 follows:

<TABLE>
<CAPTION>

                                              2002                            2001                          2000
                                     ------------------------       ------------------------       ------------------------
                                                    Weighted                        Weighted                      Weighted
                                                     Average                         Average                       Average
                                                    Exercise                        Exercise                      Exercise
                                       Options        Price           Options         Price          Options        Price
                                       -------        -----           -------         -----          -------        -----

<S>                                  <C>            <C>             <C>             <C>            <C>            <C>
Outstanding, beginning of year.....  1,464,850      $  1.00         1,509,450       $  1.00                -      $  1.00
     Granted.......................     21,000         1.00            35,500          1.00        1,519,917         1.00
     Exercised.....................          -           -                  -            -                 -            -
     Forfeited.....................    (16,800)        1.00           (80,100)         1.00          (10,467)        1.00
                                     ---------      -------         ---------       -------        ---------      -------

Outstanding, end of year...........  1,469,050      $  1.00         1,464,850       $  1.00        1,509,450      $  1.00
                                     ---------      =======         ---------       =======        ---------      =======

Exercisable, end of year...........  1,106,343      $  1.00           640,793       $  1.00          273,668      $  1.00
                                     =========      =======         =========       =======        =========      =======

Weighted average remaining
contractual life...................         7.5 years                      8.5 years                      9.5 years

</TABLE>


          The Company  has  elected to account for its stock based  compensation
     with  employees  under the intrinsic  value method as permitted  under SFAS
     123.  Under the  intrinsic  value  method,  because  the stock price of the
     Company's  employee stock options  equaled the fair value of the underlying
     stock on the date of grant, no compensation expense was recognized.  If the
     Company had elected to  recognize  compensation  expense  based on the fair
     value of the  options  at grant  date as  prescribed  by SFAS 123,  the net
     income  for the years  ended June 30,  2002,  2001 and 2000 would have been
     $4,046, $2,334 and $444, respectively.  In making this determination,  fair
     value was estimated on the date of grant using the minimum value method and
     a risk-free interest rate ranging from 6.3% to 6.9%, estimated life of five
     years and dividend rate of 0.0%. The weighted average fair value at date of
     grant of  options  granted  during  2002,  2001 and 2000 was  approximately
     $0.21, $0.23 and $0.27, respectively, per option.

15.  RELATED PARTY TRANSACTIONS

          The Company made  payments to an  affiliate of DLJMBII for  management
     fees of $250 for each of the three years ended June 30, 2002.


                                      F-41


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                (a wholly-owned subsidiary of AKI Holding Corp.)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (in thousands, except share and per share information)

16.  GEOGRAPHIC INFORMATION

          The following table  illustrates  geographic  information for revenues
     and long-lived  assets.  Revenues are attributed to countries  based on the
     receipt of sales orders and long-lived assets are based upon the country of
     domicile.


<TABLE>
<CAPTION>
                                                           United
                                                           States                France                Total
                                                           ------                ------                -----
<S>                                                     <C>                   <C>                   <C>
        Net sales:

        Year ended June 30, 2000...............         $      85,418         $      14,393         $      99,811
        Year ended June 30, 2001...............                96,845                18,550               115,395
        Year ended June 30, 2002...............               103,138                17,755               120,893

        Long-lived assets:

        Year ended June 30, 2000...............         $     191,038         $          87         $     191,125
        Year ended June 30, 2001...............               183,042                    70               183,112
        Year ended June 30, 2002...............               189,754                    82               189,836

</TABLE>

17.  UNAUDITED QUARTERLY RESULTS OF OPERATIONS

          The  following  is a summary  of the  unaudited  quarterly  results of
     operations for Fiscal 2002 and Fiscal 2001.

<TABLE>
<CAPTION>


                                  Quarter Ended     Quarter Ended    Quarter Ended     Quarter Ended
                                  September 30,     December 31,       March 31,         June 30,
     Fiscal 2002                      2001              2001             2002              2002             Total
                                      ----              ----             ----              ----             -----

<S>                                 <C>              <C>               <C>              <C>               <C>
     Net sales...............       $ 27,381         $  22,329         $  35,472        $  35,711         $ 120,893
     Gross profit............         10,667             6,400            15,115           14,823            47,005
     Income from operations..          5,026               361             8,418            8,798            22,603
     Interest expense, net...          3,044             3,038             3,306            3,140            12,528
     Net income (loss).......            702            (2,140)            2,616            2,973             4,151


                                  Quarter Ended     Quarter Ended    Quarter Ended     Quarter Ended
                                  September 30,     December 31,       March 31,         June 30,
     Fiscal 2001                      2000              2000             2001              2001             Total
                                      ----              ----             ----              ----             -----

     Net sales...............       $ 32,353         $  26,180         $  33,094        $  23,768         $ 115,395
     Gross profit............         12,805             8,487            13,765            9,002            44,059
     Income from operations..          6,868             2,626             7,298            3,311            20,103
     Interest expense, net...          3,442             3,344             3,331            3,095            13,212
     Net income (loss).......          1,584              (509)            1,932             (568)            2,439

</TABLE>


                                      F-42