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, 2004

                                       OR

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

           For the transition period from ___________ to _____________

                                    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.


<PAGE>


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

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

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

The  aggregate  market  value  of  the  voting  and  non-voting  stock  held  by
non-affiliates was zero as of December 31, 2003.

As of August 15,  2004,  1,000 shares of common  stock of AKI,  Inc.,  $0.01 par
value, were outstanding.



                      DOCUMENTS INCORPORATED BY REFERENCE:

                                      None.


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     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

ITEM 1.  BUSINESS

General

     Our Company is a leading global marketer and  manufacturer of multi-sensory
marketing,  interactive  advertising and sampling  systems which utilize various
technologies to engage the senses of touch,  sight and olfactory.  Our marketing
vehicles  and  sampling  systems are widely  recognized  in the fine  fragrance,
cosmetics  and personal  care  industries,  as well as other  consumer  products
industries including 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 marketing  programs 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  marketing 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.  With the creation of a  multi-sensory  marketing  program -
combining  advertising  with a  sampling  system  -  marketers  are  afforded  a
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 believes that our innovative sampling systems have
altered the  economics  and  efficiencies  of product  sampling in the cosmetics
market.


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     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 15, 2004, 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.  The RetCom  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,  Liqi-Seal(R) for sampling skin care and foundation
products  in a  unique  clear  packette,  PowdaScent(TM)  for  the  sampling  of
fragrance products and  SelectaShade(R)  which is a unique beauty tool for shade
selection for foundation.

     On July 21, 2004,  AHC entered  into an  Agreement  and Plan of Merger (the
"Fusion  Merger   Agreement")   with  Fusion   Acquisition  LLC  ("Fusion"),   a
newly-formed  entity owned by  investment  funds  managed by  Kohlberg,  Kravis,
Roberts & Co.  ("KKR") and AHC  Merger,  Inc.  ("AHC  Merger"),  a  wholly-owned
subsidiary  of Fusion  formed for the purpose of effecting the Fusion Merger (as
defined  below),  pursuant to which AHC Merger will merge with and into AHC such
that AHC will be the  surviving  corporation  (the "Fusion  Merger") and, at the
effective  time of the Fusion Merger,  will become a wholly-owned  subsidiary of
Fusion.  Immediately upon the  effectiveness  of the Fusion Merger,  Fusion will
contribute AHC to Jostens Holding Corp. ("JHC") in exchange for capital stock of
JHC.  Following the  contribution,  JHC intends to contribute  AHC to its direct
subsidiary,  Jostens  IH  Corp.,  and as a result,  AHC will be a wholly-  owned
subsidiary of Jostens IH Corp.

     Pursuant to the Fusion Merger Agreement,  each issued and outstanding share
of AHC's common  stock will be  cancelled  and retired and shall cease to exist,
and no consideration shall


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be delivered in exchange  therefore;  and each issued and  outstanding  share of
AHC's  outstanding  preferred stock shall be converted into the right to receive
cash merger  consideration.  The cash merger consideration  payable per share of
preferred stock will be determined based upon a total enterprise value of $250.0
million,  as adjusted based upon the working  capital of our Company at closing.
Upon consummation of the Fusion Merger and the contributions,  our Company shall
be a wholly-owned subsidiary of Jostens IH Corp.

     The Fusion Merger  Agreement  and  subsequent  contribution  are subject to
certain conditions to closing  including,  among others: (i) the consummation of
the Fusion  Merger and certain  other  concurrent  transactions,  including  the
contribution  and the  merger  of Von  Hoffmann  Holdings  Inc.  with and into a
subsidiary of Fusion;  (ii) the  repayment,  repurchase or redemption of certain
indebtedness  and preferred stock of Jostens,  Inc., JHC, Von Hoffmann  Holdings
Inc., Von Hoffmann Corporation, AHC and AKI; (iii) that Jostens IH Corp. obtains
financing for such concurrent transactions on the terms and conditions set forth
in the  financing  commitment  provided by an affiliate  of Credit  Suisse First
Boston LLC, Banc of America  Securities LLC and Deustche Bank  Securities  Inc.;
and (iv) that Marc Reisch,  CEO of Fusion,  shall have made an investment in the
common stock of JHC.

     In connection with the Fusion Merger and subsequent  contribution,  we will
refinance our existing credit  facility.  In addition,  upon the consummation of
the  contribution,  we intend to use new  financing by Jostens IH Corp.  to fund
certain tender  payments due to holders of AKI,  Inc.'s 10 1/2% Senior Notes due
2008 who elect to tender  their notes  pursuant to the tender  offer and consent
solicitation  commenced on August 19, 2004.  It is a condition to the closing of
the Fusion Merger and the  contribution  and new financing  described above that
the notes be repurchased or redeemed.

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  including
household  products and 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.

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 fine 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 fine fragrance  launches that have utilized  sampling systems.
Almost all of these  sampling  systems  have been  designed to meet U.S.  Postal
Service ("USPS") approval for subscription magazine periodical rates.


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     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   fine
          microencapsulated  essential  oil 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    MicroDot(TM):    A   proprietary    technology,    MicroDot(TM)   uses
          microencapsulated  fragrance oil, delivered in ultra-fine capsule size
          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 printable form, is  hygienically  sealed between a
          board stock and a see-thru layer of transparent film. This transparent
          film displays the encapsulated  fragrance 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):  A  proprietary  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    AromaTouch(TM):  A proprietary scented  microencapsulated coating that
          delivers a superior aroma rendition of nearly any fragrance,  personal
          care,  household,  food, beverage,  pharmaceutical or novelty product.
          AromaTouch(TM) is printable to paper or plastic substrates and is most
          popular  for use on  product  packaging.  When  rubbed  or  scratched,
          AromaTouch(TM) releases the aroma rendition.

     o    Microfragrance(R)  Scratch `n Sniff:  Microfragrance(R)  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.

     o    AromaWindow (TM): A proprietary technology in which  Microfragrance(R)
          capsules are applied to a clear  polyester  film label,  delivering an
          accurate  aroma  rendition of any product,  where scent is part of the
          message,  when scratched.  This label technology is very effective for
          application on packaging surfaces. The advantage of this


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          technology  is that the  clarity  of the label  does not  obscure  the
          graphics of the packaging as does a more traditional opaque label.

     o    DiscCover(R):  A peel-and-reveal,  non-encapsulated  patented sampling
          system  label  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 is used
          both in the fine fragrance and many other consumer products categories
          including a variety of personal  care  products  and 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 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  is  also  available  in  a
          stand-alone  version,   which  is  a  cost-effective   alternative  to
          fragrance vials.

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 USPS  approval  for
subscription magazine periodical rates.

     o    BeautiSeal(R): A proprietary, patented technology,  BeautiSeal(R) is a
          sampling system for depositing quality renditions of creams, lotion or
          gel  products  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  USPS  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 gel,  among


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          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    Liqi-Seal(R):  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  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 USPS
          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.  Also very  effective for sampling other
          personal  care  powder  products  such as baby  powder  and foot  care
          powder.

     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:  This proprietary  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. BeautiTouch(R) is also available in a stand alone
          triple  chamber  format  which is very  effective  as handouts or as a
          sample at point of sale.


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     o    SelectaShade(R):   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(R) 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.

     o    Arcade   Consumer   Communications:   This  division   specializes  in
          electronic,  multi-media,  multi-sensory  devices primarily for use at
          point-of-sale.   Technologies   offered  in  this  division  focus  on
          interaction  with the consumer  including  the  dispensing of samples.
          Such interaction promotes sales at the point of sale.

Formats

     Mail Formats

     We produce a wide and versatile  range of formats  approved by the USPS 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


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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  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),   BeautiTouch(R),   MicroDot(TM),
Liqi-Seal(R),  ShadeSeal(R) 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.


                                       8


<PAGE>


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.

Company-Sponsored Research and Development Activities

     We engage in various company-sponsored research and development activities.
Research  and  development   expenditures  consist  of  salaries  and  benefits,
occupancy  costs,  and test  materials  and related  production  costs,  and are
charged to selling,  general and administrative expenses in the period incurred.
Research and  development  expenses  totaled  approximately  $2.2 million,  $2.1
million  and $2.1  million  for the years  ended June 30,  2004,  2003 and 2002,
respectively,  including  expenditures  related to the  improvement  of existing
products,  services and  techniques  totaled  approximately  $1.8 million,  $1.7
million and $1.7 million, respectively.

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 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., Unilever plc, Chanel, Inc., Coty, Inc.,
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  76% of sales in fiscal 2004.  Estee Lauder,  L'Oreal and Mary Kay
were the only  customers  that  accounted for 10% or more of net sales in fiscal
2004. 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


                                       9


<PAGE>


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   and/or
bonus-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 fragrance
houses.  We also receive press coverage in industry trade  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.

Geographic Revenues

     Revenues  generated from customers in the United States for the years ended
June 30, 2004, 2003 and 2002 were  approximately  $101.4 million,  $87.6 million
and $95.5 million,  respectively.  Revenues  including export shipments from the
United States,  generated by foreign  customers,  principally in Europe, for the
years ended June 30, 2004, 2003 and 2002 were approximately $32.0 million, $27.7
million and $25.4 million, respectively.


                                       10


<PAGE>


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 our  Company's  manufacturing  facilities  in
Chattanooga,  Tennessee with ISO 9001:1994 Registration. In December 2003, these
facilities and a fourth  manufacturing  facility located in Baltimore,  Maryland
were awarded ISO 9001:2000  Registration.  These facilities  produce many of our
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 of our Company's quality management system which contains
five  process  groups;  each with  elements  and  sub-elements  that outline the
requirements for documenting and implementing our Company's  overall  philosophy
as it  pertains to  quality,  our  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
9001:2000  standard  applies to organizations  that design,  develop and produce
products while assuring and controlling quality through continuous improvement.

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

     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


                                       11


<PAGE>


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)   and
ScentSeal(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,  and  Liqi-Seal(R),  our patented  clear top
packette to sampler liquid,  cream, lotion or gel products,  are 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 label manufacturers 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.

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  significant  material  supply
shortages in the past, nor are any anticipated.


                                       12


<PAGE>


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 fragrance and cosmetic sampling
market  are the  fragrance  divisions  of Vertis,  Inc.,  Orlandi,  Inc.,  Delta
Graphics,  Inc., Nord'est,  Marietta Corp.,  Sampling  Dimensions,  LLC, Klocke,
Rotakon GmbH, Follmann & Co., 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 July 31, 2004, we employed 490 persons, which included 288 hourly and
202  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 March 11, 2004 and will be in effect
through March 31, 2007.

Available Information

     We are subject to the informational requirements of the Securities Exchange
Act of 1934. We therefore file periodic  reports and other  information with the
Securities and Exchange Commission. Since we are not a listed company, we do not
make such annual  reports or other  information  available on our website and do
not provide  electronic  or paper copies of these  reports free of charge.  Such
reports may be obtained by visiting the Public  Reference Room of the SEC at 450
Fifth  Street,   NW,   Washington,   D.C.  20549,  or  by  calling  the  SEC  at
1-800-SEC-0330.    In   addition,   the   SEC   maintains   an   internet   site
(http://www.sec.gov) that contains reports, proxy and information statements and
other  information  regarding  issuers  that file  electronically.  Our Internet
website address is  www.arcadeinc.com.  Information  contained on our website is
not part of this report.


                                       13


<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.

     We have substantial  indebtedness and debt service obligations.  As of June
30, 2004, AKI had total indebtedness of approximately $105.0 million. As of July
31, 2004,  AKI had  outstanding  borrowings  of $4.0 million under its revolving
credit  agreement  with Heller  Financial,  Inc. In  addition,  as of such date,
additional  borrowings of up to approximately $15.7 million were available under
the  revolving  loan  commitment of the credit  agreement,  subject to specified
conditions.  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  indenture,  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, 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 indenture 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;

     o    incur dividend and other payment restrictions affecting subsidiaries;


                                       14


<PAGE>


     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. As of June 30, 2004, we were in compliance with all debt covenants.

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 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.

An investor's  right to receive  payments on the notes 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 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  notes  could  be  eliminated.  As of July  31,  2004,  AKI had  outstanding
borrowings under the credit agreement consisting of, $4.0 million revolving loan
and could borrow an additional $15.7 million under the revolving loan commitment
of the credit agreement, subject to specified conditions.


                                       15


<PAGE>


Our results of operations could be adversely  affected if the USPS  reclassifies
our sampling systems or the sampling products of our competitors.

     Most of our  sampling  systems are  approved by the USPS for  inclusion  in
subscription  magazines  mailed  at  periodical  postage  rates.  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  entire   circulation.
Subscription  magazine  sampling inserts delivered to consumers through the USPS
accounted for approximately 22% of our net sales in fiscal 2004. 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 76% of
our net sales in fiscal 2004.  None of our  customers,  other than Estee Lauder,
L'Oreal  and Mary Kay,  accounted  for 10% or more of net sales in fiscal  2004.
Although  we  have  long-established   relationships  with  most  of  our  major
customers,  we  generally  do  not  have  long-term  contracts  with  any of our
customers. We do have an exclusive three year contract, expiring in August 2007,
to provide Mary Kay certain  lipstick  samples.  We may also 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,
L'Oreal  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 fragrance and
cosmetic  sampling market are the fragrance  division of Vertis,  Inc.,  Orlandi
Inc., Delta Graphics,  Inc.,  Nord'est,  Marietta Corp, Sampling Dimensions LLC,
Klocke, Rotakon GmbH, Follmann & Co., Manka Creations 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  price,  product  quality,
product  technologies,  customer  relationships 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


                                       16


<PAGE>


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 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
cyclical and seasonal in nature.

     The advertising and marketing  budgets of our customers,  and therefore our
revenues,  are susceptible to prevailing  economic cycles 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.  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.  If we  fail to  adequately  plan  for  our  seasonal
fluctuations, our business may be adversely affected.

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 each of fiscal 2004, 2003 and 2002. 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.


                                       17


<PAGE>


     Substantially  all of our ScentStrip(R)  sampling systems,  which accounted
for approximately  39% of our net sales in fiscal 2004,  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  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
27% of our net  sales in  fiscal  2004,  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  and are subject to
foreign laws and regulations and political and economic events.

     Approximately  24% of our net sales,  including  export  shipments from the
United States, in fiscal 2004 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.

     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 and may take actions that adversely affect the interests of the holders of
the notes.

Our business may be adversely affected by a labor dispute.

     As of July 31,  2004,  approximately  47% of our  employees  worked under a
collective bargaining agreement that expires on March 31, 2007. While we believe
that our relations  with our employees are good,  there can be no assurance that
our collective  bargaining  agreement will


                                       18


<PAGE>


be renewed in the future.  A prolonged  labor dispute  (which may include a work
stoppage)  could  have a  material  adverse  effect on our  business,  financial
condition and results of operations.

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  60,000 square feet, and its lease expires in August, 2007 with an
option to purchase the facility for $4.2 million. The warehouse facility at 7525
Perryman Court encloses  approximately  13,000 square feet and its lease expires
in January, 2005.

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

ITEM 3.  LEGAL PROCEEDINGS

     Other than as discussed below, we do not believe that there are any pending
legal  proceedings  other than  ordinary  routine  litigation  incidental to our
business.

     The  Beautiful  Bouquet  Company,  Ltd.  (the  "Licensor")  filed  suit  in
Tennessee state court on October 30, 2003 against our Company alleging  breaches
of  a  Patent  and  Know-How  License   agreement,   as  amended  (the  "License
Agreement").   Under  the  License  Agreement,   our  Company  licenses  certain
intellectual  property related to one of our products for which we are obligated
to pay the Licensor a royalty based on sales of the product and a minimum annual
royalty.  The  Licensor  alleges  our Company  committed  a number of  breaches,
including a breach of the License  Agreement and a breach of fiduciary duty owed
to the Licensor,  and is seeking to recover  unspecified amounts under the terms
of the License Agreement and all amounts due it because of our Company's alleged
unjust enrichment of the Licensor's intellectual property rights.

     We believe that we did not breach any  provisions of the License  Agreement
and intend to vigorously defend ourself.

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

     None.


                                       19


<PAGE>


                                     PART II

ITEM 5.  MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
         ISSUER PURCHASES OF EQUITY SECURITIES

     There is no established public trading market for AKI's common stock. As of
August 15, 2004, 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
notes and the credit  agreement  contain  restrictions  on AKI's  ability to pay
dividends on its common stock.


                                       20


<PAGE>


ITEM 6.  SELECTED FINANCIAL DATA

     The selected historical  consolidated  financial data presented below as of
June 30,  2004,  2003,  2002,  2001 and 2000 and the years ended June 30,  2004,
2003,  2002,  2001 and 2000 have been derived from the  historical  consolidated
financial  statements of our company.  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>

                                    June 30,        June 30,       June 30,       June 30,        June 30,
   (dollars in thousands)             2004            2003           2002           2001            2000
                                      ----            ----           ----           ----            ----
<S>                                <C>             <C>            <C>            <C>             <C>
   Statement of Operations Data:
   Net sales                       $ 133,372       $ 115,308      $ 120,893      $ 115,395       $  99,811
   Cost of goods sold                 85,770          73,883         73,888         71,336          61,552
                                   ---------       ---------      ---------      ---------       ---------
   Gross profit                       47,602          41,425         47,005         44,059          38,259
   Selling, general and
     administrative expenses          20,795          17,971         18,943         18,199          16,980
   Amortization of intangibles
     including goodwill                1,143           1,143          6,451          5,757           5,336
   Gain from settlement, net               -               -           (992)             -            (858)
                                   ---------       ---------      ---------      ---------       ---------
   Income from operations             25,664          22,311         22,603         20,103          16,801
   Interest expense, net              12,575          12,674         12,528         13,212          13,668
   Management fees                       400             325            250            250             250
   (Gain) from early
     retirement of debt (1)                -               -              -           (748)           (704)
   Other, net                           (105)             33              -              -               -
   Income tax expense                  4,418           3,446          5,674          4,950           3,092
                                   ---------       ---------      ---------      ---------       ---------
     Net income                    $   8,376       $   5,833      $   4,151      $   2,439       $     495
                                   =========       =========      =========      =========       =========

   Balance Sheet Data (at end
   of period):
   Cash and cash equivalents       $   1,369       $   1,470      $   1,875      $   4,654       $   1,158
   Working capital                    12,643          10,677         11,525         10,288          14,182
   Goodwill, net                     152,438         152,994        153,277        157,334         162,472
   Total assets                      212,203         215,547        224,906        213,378         222,050
   Senior notes                      103,510         103,510        103,510        103,510         107,510
   Total debt                        105,010         121,635        115,760        104,013         117,859
   Total stockholder's equity         84,225          72,090         83,407         85,670          83,526

   Other Data:
   Capital expenditures            $   1,349       $   2,345      $   1,338      $   3,015       $   2,782
   Ratio of earnings to fixed
   charges (2)                          2.0x            1.7x           1.8x           1.6x            1.3x
------------


</TABLE>


(1)  Extraordinary  gains in fiscal 2001 and 2000 have been reclassed to conform
     with current year  presentation,  in accordance with the provisions of SFAS
     145.
(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.


                                       21


<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. All of these
debentures have been repurchased by our Company as of June 30, 2003.

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


                                       22


<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.

Fusion Merger

     On July 21, 2004, AHC entered into the Fusion Merger Agreement with Fusion,
a newly-formed  entity owned by investment funds managed by KKR, and AHC Merger,
Inc., a  wholly-owned  subsidiary  of Fusion formed for the purpose of effecting
the Fusion  Merger,  pursuant  to which AHC Merger  will merge with and into AHC
such that AHC will be the surviving  corporation  and, at the effective  time of
the Fusion Merger, will become a wholly-owned subsidiary of Fusion.  Immediately
upon the  effectiveness of the Fusion Merger,  Fusion will contribute AHC to JHC
in exchange for capital stock of JHC. Following the contribution, JHC intends to
contribute AHC to its direct  subsidiary,  Jostens IH Corp., and as a result AHC
will be a wholly-owned subsidiary of Jostens IH Corp.

     Pursuant to the Fusion Merger Agreement,  each issued and outstanding share
of AHC's common  stock will be  cancelled  and retired and shall cease to exist,
and no consideration shall be delivered in exchange  therefore;  and each issued
and outstanding  share of AHC's  outstanding  preferred stock shall be converted
into  the  right  to  receive  cash  merger   consideration.   The  cash  merger
consideration payable per share of preferred stock will be determined based upon
a total enterprise  value of $250.0 million,  as adjusted based upon the working
capital of our Company at closing.  Upon  consummation  of the Fusion Merger and
the contributions, AHC shall be a wholly-owned subsidiary of Jostens IH Corp.

     The Fusion Merger  Agreement  and  subsequent  contribution  are subject to
certain conditions to closing  including,  among others: (i) the consummation of
the Fusion  Merger and certain  other  concurrent  transactions,  including  the
contribution  and the  merger  of Von  Hoffmann  Holdings  Inc.  with and into a
subsidiary of Fusion;  (ii) the  repayment,  repurchase or redemption of certain
indebtedness  and preferred stock of Jostens,  Inc., JHC, Von Hoffmann


                                       23


<PAGE>


Holdings  Inc.,  Von Hoffmann  Corporation,  AHC and AKI;  (iii) that Jostens IH
Corp.  obtains  financing  for such  concurrent  transactions  on the  terms and
conditions  set forth in the  financing  commitment  provided by an affiliate of
Credit Suisse First Boston LLC, Banc of America Securities LLC and Deustche Bank
Securities  Inc.; and (iv) that Marc Reisch,  CEO of Fusion,  shall have made an
investment in the common stock of JHC.

     In connection with the Fusion Merger and subsequent  contribution,  we will
refinance our existing credit  facility.  In addition,  upon the consummation of
the contributions,  JHC intends to use new financing by Jostens IH Corp. to fund
certain  tender  payments  due to holders of AKI's 10 1/2% Senior Notes due 2008
who  elect  to  tender  their  notes  pursuant  to  tender  offers  and  consent
solicitations commenced on August 19, 2004.

Results of Operations

Fiscal Year Ended June 30, 2004 Compared to Fiscal Year Ended June 30, 2003

     Net Sales.  Net sales for the fiscal  year  ended June 30,  2004  increased
$18.0 million, or 15.6%, to $133.3 million as compared to $115.3 million for the
fiscal  year  ended  June 30,  2003.  The  increase  in net sales was  primarily
attributable  to an increase in sales of sampling  technologies  for advertising
and marketing of domestic fragrance products and international cosmetic products
and favorable foreign exchange rates.

     Gross  Profit.  Gross  profit  for the  fiscal  year  ended  June 30,  2004
increased $6.2 million,  or 15.0%, to $47.6 million as compared to $41.4 million
for fiscal year ended June 30, 2003.  Gross profit as a percentage  of net sales
decreased  to 35.7% in the fiscal  year ended June 30,  2004,  from 35.9% in the
fiscal year ended June 30, 2003.  The increase in gross profit is primarily  due
to the  increase in sales  volume and  favorable  foreign  exchange  rates.  The
decrease  in gross  profit  as a  percentage  of net sales is  primarily  due to
changes  in  product  and  format  mix and the  reduction  in prices of  certain
fragrance sampling products in order to maintain and grow market share.

     Selling,  General  and  Administrative   Expenses.   Selling,  general  and
administrative  expenses for the fiscal year ended June 30, 2004  increased $2.8
million,  or 15.6% to $20.8  million as compared to $18.0 million for the fiscal
year ended June 30,  2003.  Selling,  general and  administrative  expenses as a
percent  of net sales were 15.6% in the  fiscal  years  ended June 30,  2004 and
2003. The increase in selling,  general and administrative expenses is primarily
related to an  increase  in  advisory  services  related  to customs  and duties
matters and  consulting  services  related to marketing  initiatives,  incentive
compensation expense, and the impact of foreign exchange rates.

     Income from  Operations.  Income from  operations for the fiscal year ended
June 30, 2004 increased $3.4 million,  or 15.2%, to $25.7 million as compared to
$22.3 million for the fiscal year ended June 30, 2003. Income from operations as
a percentage  of net sales was 19.3% in the fiscal years ended June 30, 2004 and
2003. The increase in income from  operations is  principally  the result of the
factors described above.


                                       24


<PAGE>


     Interest Expense.  Interest expense for the fiscal year ended June 30, 2004
decreased $0.1 million,  or 0.8%, to $12.6 million, as compared to $12.7 million
for the fiscal year ended June 30, 2003. Interest expense as a percentage of net
sales decreased to 9.5% in the fiscal year ended June 30, 2004 from 11.0% in the
fiscal year ended June 30, 2003. The decrease in interest expense, including the
amortization of deferred  financing  costs, is primarily due to the repayment of
the term loan.

     Income Tax  Expense.  The income tax expense for the fiscal year ended June
30, 2004  increased $1.0 million to $4.4 million as compared to $3.4 million for
the fiscal year ended June 30,  2003.  The  increase  is due to the  increase in
income before income taxes and non-deductible  expenses  principally as a result
of the factors described above.

Fiscal Year Ended June 30, 2003 Compared to Fiscal Year Ended June 30, 2002

     Net Sales. Net sales for the fiscal year ended June 30, 2003 decreased $5.6
million, or 4.6%, to $115.3 million as compared to $120.9 million for the fiscal
year ended June 30, 2002.  The decrease in net sales was primarily  attributable
to a decrease in sales of sampling technologies for advertising and marketing of
domestic cosmetic products and international fragrance products partially offset
by an  increase  in the  sales of  sampling  technologies  for  advertising  and
marketing of domestic consumer products and international  cosmetic products and
favorable foreign exchange rates.

     Gross  Profit.  Gross  profit  for the  fiscal  year  ended  June 30,  2003
decreased $5.6 million,  or 11.9%, to $41.4 million as compared to $47.0 million
for fiscal year ended June 30, 2002.  Gross profit as a percentage  of net sales
decreased  to 35.9% in the fiscal  year ended June 30,  2003,  from 38.9% in the
fiscal year ended June 30,  2002.  The decrease in gross profit and gross profit
as a percentage  of net sales is  primarily  due to the decrease in sales volume
and changes in product mix and increased fixed costs associated with a full-year
operation of CP partially offset by favorable foreign exchange rates.

     Selling,  General  and  Administrative   Expenses.   Selling,  general  and
administrative  expenses for the fiscal year ended June 30, 2003  decreased $0.9
million,  or 4.8% to $18.0  million as compared to $18.9  million for the fiscal
year ended June 30,  2002.  Selling,  general and  administrative  expenses as a
percent of net sales was 15.6% in the fiscal years ended June 30, 2003 and 2002.
The  decrease  in  selling,  general and  administrative  expenses is  primarily
related to a decrease in legal services related to a patent infringement lawsuit
initiated by our Company and incentive  compensation expense partially offset by
increased expenses associated with a full-year operation of CP.

     Amortization  of  Goodwill.  Amortization  of goodwill  for the fiscal year
ended June 30, 2003 decreased $4.8 million,  or 100%, to $0, as compared to $4.8
million for the fiscal year ended June 30, 2002. The decrease in amortization of
goodwill  resulted from the adoption of FASB  Statement of Financial  Accounting
Standards No. 142,  "Goodwill  and Other  Intangible  Assets".  We completed our
initial and first annual tests of the carrying  value of goodwill which resulted
in no impairment.


                                       25


<PAGE>


     Income from  Operations.  Income from  operations for the fiscal year ended
June 30, 2003 decreased  $0.3 million,  or 1.3%, to $22.3 million as compared to
$22.6 million for the fiscal year ended June 30, 2002. Income from operations as
a percentage  of net sales  increased to 19.3% in the fiscal year ended June 30,
2003 from 18.7% in the fiscal year ended June 30,  2002.  The increase in income
from  operations  and income from  operations  as a  percentage  of net sales is
principally the result of the factors described above.

     Interest Expense.  Interest expense for the fiscal year ended June 30, 2003
increased $0.2 million,  or 1.6%, to $12.7 million, as compared to $12.5 million
for the fiscal year ended June 30, 2002. Interest expense as a percentage of net
sales  increased  to 11.0% in the fiscal  year ended June 30, 2003 from 10.3% in
the fiscal year ended June 30, 2002. The increase in interest expense, including
the amortization of deferred financing costs, is primarily due to a full year of
interest   payable  on  the  term  loan  incurred  in  connection  with  the  CP
acquisition.

     Income Tax  Expense.  Income tax expense for the fiscal year ended June 30,
2003  decreased $2.3 million to $3.4 million as compared to $5.7 million for the
fiscal year ended June 30,  2002.  The decrease is due to the decrease in income
before income taxes and non-deductible  expenses  principally as a result of the
factors described above.

Liquidity and Capital Resources

     We have substantial  indebtedness and significant debt service obligations.
As of June 30,  2004,  we had  indebtedness  in an  aggregate  amount  of $105.0
million  (excluding  trade payables,  accrued  liabilities and deferred  taxes),
which is a direct  obligation of AKI relating to its notes and revolving  credit
line. At June 30, 2004, AKI had $23.0 million in accrued liabilities  (including
trade payables, accrued liabilities,  deferred taxes and other liabilities).  As
of July 31, 2004,  AKI had  outstanding  borrowings  of $4.0  million  under the
revolving loan commitment of the credit agreement.

     Borrowings  under the revolving credit line are limited to a maximum amount
equal to $20.0  million.  At June 30, 2004 and July 31, 2004,  AKI had borrowing
availability  of  approximately  $18.2 million and $15.7 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 certain formulas set forth in the credit agreement, plus a margin.
The credit agreement will mature on December 31, 2006.

     The indenture  governing the notes and the credit  agreement  permit AKI to
incur additional  indebtedness,  subject to specified limitations.  In addition,
the indenture contains restrictive covenants that, among other things, limit the
ability of AKI to: (1) pay dividends or make certain  restricted  payments;  (2)
incur  additional  indebtedness and issue preferred stock; (3) create liens; (4)
incur dividend and other payment restrictions affecting subsidiaries;  (5) enter
into mergers,  consolidations or sales of all or substantially all of the assets
of our company;  (6) enter into certain  transactions  with affiliates;  and (7)
sell certain  assets.  We were in compliance  with all such covenants as of June
30, 2004.


                                       26


<PAGE>


     In connection with the Fusion Merger and subsequent  contribution,  we will
refinance our existing credit  facility.  In addition,  upon the consummation of
the  contribution,  we intend to use new  financing by Jostens IH Corp.  to fund
certain  tender  payments  due to holders of AKI's 10 1/2% Senior Notes due 2008
who tender  their notes  pursuant to the tender  offer and consent  solicitation
commenced  on August 19,  2004.  It is a condition  to the closing of the Fusion
Merger and the contribution and new financing  described above that the notes be
repurchased  or  redeemed.

     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  $14.7   million  and  $14.2   million  for  fiscal  2004  and  2003,
respectively,  together with borrowings under revolving credit  facilities.  Net
cash provided by operating activities during fiscal 2004 resulted primarily from
net income  before  depreciation  and  amortization  and an increase in accounts
payable  and  accrued  expenses,  partially  offset  by  increases  in  accounts
receivable and inventories.

     We define  Adjusted  EBITDA  (also  referred  to as  EBITDA  in our  credit
agreement)  as net income or loss plus  income  and  franchise  taxes,  interest
expense,  loss from early  retirement of debt,  depreciation,  amortization  and
impairment loss of goodwill and amortization of other intangibles less gain from
early  retirement  of debt and sale and  disposal  of  fixed  assets  plus  non-
capitalized acquisitions costs. Adjusted EBITDA is not a measure of financial or
operating  performance,  cash  flow or  liquidity  under  accounting  principles
generally  accepted in the United  States and should not be used by itself or in
the place of net income, cash flows from operating activities or other income or
cash  flow  statement  data  prepared  in  accordance  with  generally  accepted
accounting principles as a financial or liquidity measure.

     We use Adjusted EBITDA to manage and evaluate our business operations.  Our
management  evaluates  Adjusted  EBITDA  because it  excludes  certain  cash and
non-cash  items that are either beyond our immediate  control or that we believe
are not  characteristic of our underlying  business  operation for the period in
which they are recorded, or both. We believe the presentation of Adjusted EBITDA
is relevant because Adjusted EBITDA is a measurement that we and our lenders use
to comply with our debt  covenants  and establish our interest rate on a portion
of our  debt.  Investors  should  be aware  that  the way by which we  calculate
Adjusted EBITDA may not be comparable with similarly  titled measures  presented
by other  companies and  comparisons of such amounts could be misleading  unless
all companies and analysts calculate such measures in the same manner.


                                       27


<PAGE>


     The  calculation of adjusted EBITDA for the years ended June 30, 2004, 2003
and 2002 is as follows (dollars in millions):


                                               2004        2003         2002
                                               ----        ----         ----

    Net income........................      $    8.4    $    5.8     $    4.1

    Income and franchise tax
      expense.........................           4.7         3.7          5.9
    Interest expense..................          12.6        12.7         12.5
    Depreciation and amortization
      of goodwill and other
      intangibles.....................           7.1         7.3         12.1
    Gain from sale and disposal of
      fixed assets....................          (0.1)          -            -
    Non-capitalized acquisitions
      costs...........................             -           -          0.2
                                            --------    --------     --------

    Adjusted EBITDA...................      $   32.7    $   29.5     $   34.8
                                            ========    ========     ========


     In  fiscal  2004  and  fiscal  2003,   we  had  capital   expenditures   of
approximately  $1.3  million  and  $2.3  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.

     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, 2004,  AHC had  outstanding  $73.4  million of notes payable to
stockholders  which bear interest at  approximately  16% per annum and mature on
December 15, 2009, and  approximately  $133.0 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,


                                       28


<PAGE>


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.

     During the year ended June 30, 2003, Holding purchased,  with proceeds from
distributions  from AKI, its 13.5% Senior  Discount  Debentures due 2009 with an
accreted value of $17.5 million for $18.0 million.  The purchase caused there to
be  outstanding  no  Debentures  as of such date.  AKI  funded the  distribution
through borrowings under its credit agreement.

     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, 2005 are budgeted
to be approximately  $3.0 million.  Based on borrowings  outstanding (other than
pursuant to the revolving  credit  agreement) as of June 30, 2004 and borrowings
outstanding  under the revolving credit agreement as of July 31, 2004, we expect
total cash  payments for debt service in fiscal 2005 to be  approximately  $11.3
million,  consisting of $10.9 million in interest payments on the notes and $0.4
million in interest and fees under the credit agreement.  We also expect to make
royalty payments of approximately $1.2 million during fiscal 2005.

     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 notes for fiscal 2005. In the event
we consummate any additional acquisitions, we may seek additional debt or equity
financings subject to compliance with the terms of the indenture.

     At June 30, 2004,  AKI's  consolidated  cash and cash  equivalents  and net
working capital were $1.4 million and $12.6 million, respectively,  representing
a decrease in cash and cash  equivalents  of $0.1 million and an increase in net
working capital of $2.0 million from June 30, 2003. Account receivables, net, at
June 30, 2004  increased  9.4% or $1.9  million  over the June 30, 2003  amount,
primarily due to an increase in fourth quarter sales.


                                       29


<PAGE>


     The  following  table  summarizes  our  contractual  obligations  and other
contingencies as of June 30, 2004 (dollars in thousands):


<TABLE>
<CAPTION>

                                                           Payments due by fiscal year
                                 --------------------------------------------------------------------------------
                                     2005         2006         2007         2008         2009       Thereafter       Total
                                     ----         ----         ----         ----         ----       ----------       -----

<S>                              <C>           <C>          <C>          <C>          <C>           <C>
Debt obligations:
    Principal.................   $         -   $         -  $     1,500  $         -  $   103,510   $        -    $   105,010
    Interest*.................        11,169        11,169       11,019       10,869        5,435            -         49,661
Standby letter of credit......             -             -           87            -            -          291            378
Operating leases..............         1,506         1,502        1,291          756          683        1,728          7,466
Minimum royalties**...........         1,200         1,200        1,200        1,200        1,200        3,206          9,206
Unconditional raw material
purchase obligations..........         5,804             -            -            -            -            -          5,804
Other long-term obligations...           750             -            -            -            -            -            750
                                 -----------   -----------  -----------  -----------  -----------   ----------    -----------

      Total...................   $    20,429   $    13,871  $    15,097  $    12,825  $   110,828   $    5,225    $   178,275
                                 ===========   ===========  ===========  ===========  ===========   ==========    ===========


</TABLE>


     *    Interest for floating rate  obligations has been calculated  using the
          rates in effect as of June 30, 2004.
     **   Minimum  royalties  which are subject to consumer  price index ("CPI")
          adjustment have been calculated based on the CPI as of June 30, 2004.

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.

Off-Balance Sheet Arrangements

     As of June  30,  2004 we did not  have any  significant  off-balance  sheet
arrangements, as defined in Item 303(a)(4)(ii) of Regulation S-K.

Recently Issued Accounting Standards

     Financial  Accounting  Standards  Board  ("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


                                       30


<PAGE>


intangible  assets.  SFAS 142 is  effective  for fiscal  years  beginning  after
December 15, 2001 and was applied at the beginning of our 2003 fiscal year.  The
adoption of SFAS 142 eliminated the amortization of goodwill, approximately $4.8
million in fiscal year 2002,  while  requiring  annual tests for  impairment  of
goodwill.  We completed  our initial and annual  tests of the carrying  value of
goodwill all of which resulted in no impairment.

     FASB   Interpretation   No.  45  "Guarantor's   Accounting  and  Disclosure
Requirements for Guarantees,  Including  Indirect  Guarantees of Indebtedness of
Others"  ("FIN  45") was  issued in  November  2002.  FIN 45  elaborates  on the
disclosures  to be made by a  guarantor  in its  interim  and  annual  financial
statements about its obligations under certain guarantees that it has issued. It
also requires the guarantor to recognize,  at the inception of the guarantee,  a
liability for the fair value of obligation  undertaken in issuing the guarantee.
The disclosure requirements are effective for quarters ending after December 15,
2002 and the liability  recognition is in effect for guarantees  initiated after
December 31, 2002. We do not  anticipate  that the  provisions of this statement
will have a material  impact on our reported  results of  operations,  financial
positions or cash flows.

     FASB  Interpretation  No. 46 "Consolidation of Variable Interest  Entities"
("FIN  46") was issued in January  2003.  FIN 46  requires  an  investor  with a
majority of the variable  interests  in a variable  interest  entity  ("VIE") to
consolidate  the entity and also  requires  majority  and  significant  variable
interest investors to provide certain  disclosures.  A VIE is an entity in which
the  equity  investor  does  not  have a  controlling  interest,  or the  equity
investment  risk is  insufficient  to finance the  entity's  activities  without
receiving additional  subordinated financial support from the other parties. For
arrangements  entered  into with VIEs  created  prior to January 31,  2003,  the
provisions  of FIN 46 are  required to be adopted at the  beginning of the first
interim or annual period  beginning after December 15, 2003.  Provisions of this
interpretation  did not have any  material  impact on our  reported  results  of
operations, financial position or cash flows.

     FASB Statement of Financial  Accounting  Standards No. 150  "Accounting for
Certain  Financial  Instruments  with  Characteristics  of both  Liabilities and
Equity" ("SFAS 150") was issued in May 2003. SFAS 150  established  guidance for
how certain financial  instruments with  characteristics of both liabilities and
equity are  classified and requires that a financial  instrument  that is within
its scope be classified  as a liability (or as an asset in some  circumstances).
SFAS 150 is  effective  for fiscal  years  beginning  after June 15,  2003.  Our
Company  has  adopted  SFAS 150,  and it did not have a  material  impact on our
reported results of operations, financial position or cash flows.

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  accounting
principles  generally  accepted  in the  United  States  requires  that  we make
estimates  and  assumptions   that


                                       31


<PAGE>


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:  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.  Products are produced to customer specifications
          based on purchase  orders or signed  quotations  which include  agreed
          upon pricing.  Product sales, net of estimated  discounts and rebates,
          are recognized at the time title and risk of ownership  transfers upon
          delivery to the customer.  Products are shipped F.O.B.  shipping point
          and are not subject to any contractual right of return provisions.


                                       32


<PAGE>


     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;
and (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,  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.

     We are exposed to market risks from changes in foreign  exchange  rates. In
fiscal  2004,  we generated  approximately  24% of our sales,  including  export
shipments  from the United  States,  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.


                                       33


<PAGE>


     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,  2004,  there  were no  forward
exchange contracts outstanding.

     We are exposed to market risk from changes in interest  rates.  At June 30,
2004 we had $1.5 million outstanding in borrowings under our credit agreement at
variable rates. All of our remaining  long-term debt is at fixed interest rates.
We believe that the effect, if any, of reasonably  possible near term changes in
interest rates on our consolidated financial position,  results of operations or
cash flows would not be significant.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

     Reference  is made to the  Consolidated  Financial  Statements  of AKI, the
related notes and the Report of Independent  Registered  Public  Accounting Firm
for 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.

ITEM 9A. CONTROLS AND PROCEDURES

     (a) Evaluation of Disclosure  Controls and Procedures.  Our chief executive
officer and chief  financial  officer have  evaluated the  effectiveness  of the
design and operation of our  disclosure  controls and  procedures (as defined in
Exchange Act Rule 13a-14(c)) as of the end of the period covered by this report.
Based on that  evaluation,  the chief  executive  officer  and  chief  financial
officer have  concluded as of the end of the period  covered by this report that
our disclosure controls and procedures are effective.

     (b)  Changes in  Internal  Controls.  There  have not been any  significant
changes in our internal  controls or in other  factors that could  significantly
affect these controls during the period covered by this report.


                                       34


<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 AKI as of August 1, 2004.

Name                  Age     Position
----                  ---     --------
William J. Fox *       47     President, Chief Executive Officer, Chairman of
                              the Board and Director
Kenneth A. Budde       55     Senior Vice President, Chief Financial Officer and
                              Secretary
A. Bruce Prashker      42     Senior Vice President and Assistant Secretary
David A. Durkin *      35     Director
Douglas B. Fox         56     Director
Hugh R. Kirkpatrick    67     Director
David M. Wittels *     40     Director


* Member of Executive Committee

     William  J. Fox has  served as  Chairman,  President  and  Chief  Executive
Officer  and a Director  of AKI 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 is also
Co-Chairman of the Board and a Director of Loehmann's Holdings, Inc., a Director
of LQ Corporation Inc. and a Director nominee of Nephros, Inc. He also serves on
the Advisory Board of Barrington Companies Investors, LLC.

     Kenneth  A.  Budde  has  served  as Chief  Financial  Officer  of AKI 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.

     A. Bruce  Prashker  has served as Senior Vice  President of AKI since April
2000. Prior to joining our 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


                                       35


<PAGE>


January 1996 and held various other  executive  positions at RCPC and MacAndrews
and Forbes Holding Inc. from April 1990 through August 1994.

     David A. Durkin has served as a director of AKI since May 2002.  Mr. Durkin
has been a Partner of DLJ Merchant Banking since July 2004 and a Principal since
March  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
Merrill  Corporation/Merrill  Communications LLC, Prometheus Laboratories,  Inc.
and Seabulk International, Inc.

     Douglas  B.  Fox has  served  as a  director  of the  Corporation  and as a
director  of AKI since  August  2003.  Mr. Fox is a  management  consultant  and
private  investor.  Since May 2001, he has served as the Chief Executive Officer
of  Renaissance  Brands  LLC.  Prior to that,  he was Senior Vice  President  of
Marketing  and Strategy for Compaq  Computer  Corporation  from July 2000 to May
2001 and Chief  Marketing  Officer and Senior Vice  President of  Marketing  for
International Paper Co. from April 1997 to December 1999. Mr. Fox also serves on
the board of directors of Bowne & Co.,  Inc.,  The Oreck  Company and  Advanstar
Communications Inc.

     Hugh R.  Kirkpatrick  has served as a director of AKI 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 AKI since  December  1997. Mr.
Wittels was a Managing  Director of DLJ  Merchant  Banking  from January 2001 to
June 2004 and has served in various  capacities with DLJ Merchant Banking during
the past six  years.  Mr.  Wittels  also  serves  as a  director  of Ziff  Davis
Holdings, Inc.

Compensation of Directors

     Except for Mr. Hugh Kirkpatrick, who receives an annual fee of $20,000, and
Mr.  Douglas Fox,  who  receives an annual fee of $50,000,  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 an option to purchase 5,000 shares of common stock of AHC in
fiscal 2000.

Audit Committee and Audit Committee Financial Expert

     Since we are not a listed  issuer,  as defined in Item 401(i) of Regulation
S-K, we do not have an audit  committee;  our board of  directors  performs  the
functions of an audit  committee.  For this reason,  we have not  designated  an
audit  committee  financial  expert,  as that term is defined by Item  401(h) of
Regulation S-K.


                                       36


<PAGE>


Code of Ethics

     We have  adopted a conflict of interest  policy that  applies to all of our
employees,  including our senior  management  and financial  officers.  For this
reason, we have not adopted a separate code of ethics within the meaning of Item
406 of Regulation S-K.


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                              2004    $   810,000     $     887,355              --                 10,360
   President, Chief Executive Officer,      2003        788,175           491,217              --                 11,091
      Chairman of the Board and             2002        775,000         1,190,724              --                  8,545
      Director

Kenneth A. Budde                            2004        230,000           143,635              --                  8,000
   Senior Vice President, Chief             2003        220,500            90,074            8,000                 8,000
      Financial Officer and Secretary       2002        210,000           121,653              --                  6,800

A. Bruce Prashker                           2004        230,000           119,324              --                  8,000
   Senior Vice President and Assistant      2003        215,300            75,000              --                  8,000
      Secretary                             2002        205,000            77,613              --                  6,800


</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.


Option Grants in Last Fiscal Year


     There were no stock options  granted during fiscal 2004 to any of the named
executive officers.


                                       37


<PAGE>


Fiscal Year End Option Values

     The following  table sets forth  information  about the number and value of
options to purchase AHC common stock held by the named executive  officers as of
June 30, 2004. The values of the  in-the-money  options have been  calculated on
the basis of $100 per share fair  market  value of our  common  stock as of that
date less the applicable exercise price.


<TABLE>
<CAPTION>

                             Year End Option Values

                                             Number of securities
                                            underlying unexercised           Value of unexercised in-the-
                                           options at June 30, 2004        money options at June 30, 2004
                                           ------------------------        ------------------------------


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

<S>                                           <C>             <C>                 <C>              <C>
William J. Fox                                8,880           --                  --               --
   President, Chief Executive Officer,
   Chairman of the Board and Director

Kenneth A. Budde                              1,640           40                  --               --
   Senior Vice President, Chief
   Financial Officer and Secretary

A. Bruce Prashker                               500           --                  --               --
   Senior Vice President and Assistant
   Secretary


</TABLE>


Equity-Based Compensation

     AHC adopted the 1998 Stock Option Plan for  employees  and directors of AHC
and any parent or subsidiary  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 16,500
shares of common stock of AHC. The option plan is  administered  by the Board of
Directors of AHC or a  compensation  committee to be  designated by the Board of
Directors of AHC. 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 $100 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


                                       38


<PAGE>


(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 did not grant any  options  for shares of capital  stock in fiscal 2004
and no options for shares of capital stock of AHC were exercised in fiscal 2004.

     In connection with the Fusion Merger, each AHC Stock Option,  granted under
the  Option  Plan,  outstanding  shall  be  cancelled  and  extinguished  and no
consideration will be paid thereon.

Employment Agreements

Fox Agreement

     On January 27, 1999,  William J. Fox entered into an  employment  agreement
with us effective  February 1, 1999,  which was 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 August 1, 2004 the agreement ends on August 1, 2006.

     Mr.  Fox's  base  salary  is  $850,500,  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


                                       39


<PAGE>


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.

Budde Agreement

     Mr. Budde is presently  retained as chief financial  officer pursuant to an
employment  agreement that provides for an annual base salary of $239,775 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, 2005, 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  $241,500.  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
2004. Members of our executive  committee 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 the executive committee of our board of directors.

Report of the Executive Committee of the Board of Directors on Executive
Compensation

     The  following  is a report  of the  executive  committee  of the  board of
directors,  which  functions  as  the  compensation  committee,  describing  the
compensation  policies  applicable to our executive  officers  during the fiscal
year ended June 30, 2004.  The committee is  responsible  for  establishing  and
monitoring our general compensation  policies and compensation plans, as well as
the  specific   compensation  levels  for  executive  officers.  It  also  makes
determinations concerning the granting of awards under our stock plans.

     For the fiscal  year ended  June 30,  2004,  the  process  utilized  by the
committee in determining executive  compensation levels was based on performance
related results,  contract  increases to consumer price index and the subjective
judgment of the  committee.  Among the factors  considered by the committee were
the  recommendations  of  the  chief  executive  officer


                                       40


<PAGE>


with respect to the  compensation of our key executive  officers.  However,  the
committee made the final compensation decisions concerning those officers.

General Compensation Policy

     Our  compensation  policy is designated to attract and retain qualified key
executives  critical to our growth and long-term success. It is the objective of
the committee to have a portion of each executive's compensation contingent upon
our financial performance as well as upon the individual's personal performance.
Accordingly, each executive officer's compensation package is comprised of three
elements:  (1) base salary which reflects individual  performance and expertise,
(2) variable  bonus award payable in cash and tie to the  achievement of certain
performance goals that the board establishes from time to time and (3) long-term
stock-based  incentive  award which is designed to  strengthen  the mutuality of
interests between such executive officer and our stockholders.

     The summary below describes in more detail the factors which we consider in
establishing  each of the three primary  components of the compensation  package
provided to the executive officers.

Base Salary

     The  level of base  salary  is  established  primarily  on the basis of the
individual's  qualifications  and relevant  experience,  the strategic goals for
which he or she has  responsibility,  the compensation levels at companies which
compete with us for business and executive  talent and the incentives  necessary
to attract and retain  qualified  management.  Base salary may be adjusted  each
year to take  into  account  the  individual's  performance  and to  maintain  a
competitive salary structure.

Cash-Based Incentive Compensation

     Cash bonuses are awarded to  executive  officers  based upon a  performance
based plan measured by their success in achieving  designated  individual  goals
and our success in achieving specific Company-wide EBITDA goals.

Long-Term Incentive Compensation

     We have utilized our stock option plan to provide  executives and other key
employees with incentives to maximize long-term  shareholder value. Awards under
this  plan  take the form of stock  options  designed  to give the  recipient  a
significant  equity  stake in our Company and thereby  closely  align his or her
interests  with those of our  stockholders.  Factors  considered  in making such
awards  include  the   individual's   position,   his  or  her  performance  and
responsibilities  as  well  as  industry  practices  and  standards.   Long-term
incentives granted in prior years and existing level of stock ownership are also
taken into consideration.

     Each option grant allows the executive  officer to acquire shares of common
stock at a fixed price per share (the  greater of the fair  market  value on the
date of grant or $100) over a specified  period of time (up to ten  years).  The
number of awards  granted  to  individual  executives  is based on  demonstrated
performance and independent survey data reflecting


                                       41


<PAGE>


competitive market practice.  Accordingly, the award grant will provide a return
to the executive officer only if he or she remains in our service, and then only
if the market price of the common stock appreciates over the award term.

Compensation of the Chief Executive Officer

     William Fox was appointed our chief executive  officer in January 1999. The
committee determined Mr. Fox's base salary after evaluating a number of factors,
including Mr. Fox's then current salary, salaries of chief executive officers of
other  companies of similar size in the  industry and Mr. Fox's  performance  in
general.  Mr. Fox's base salary in 2004 rose to $810,000  from $788,715 in 2003.
We paid Mr. Fox a cash bonus of $887,355 for fiscal  2004,  in  comparison  to a
cash bonus of $491,217 for fiscal 2003.

Deductibility of Executive Compensation

     The committee has  considered  the impact of Section 162(m) of the Internal
Revenue Code adopted under the Omnibus Budget  Reconciliation Act of 1993, which
section  disallows a deduction for any publicly held  corporation for individual
compensation  exceeding $1 million in any taxable  year for the chief  executive
officer and four other most highly compensated executive officers, respectively,
unless such  compensation  meets the  requirements  for the  "performance-based"
exception to Section  162(m).  It is the committee's  policy to qualify,  to the
extent reasonable,  our executive officers' compensation for deductibility under
applicable tax law.  However,  we may from time to time pay  compensation to our
executive officers that may not be deductible.

Executive Committee of the Board of Directors,

David Wittels
David Durkin
William Fox (with respect to matters other than Chief Executive Officer
             Compensation)


                                       42


<PAGE>


ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
         RELATED STOCKHOLDER MATTERS

     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 August 13, 2004 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)                 159,211.11             98.8%
William J. Fox (2)                                                                    8,880.00              5.2%
Hugh R. Kirkpatrick (2)                                                                  50.00                *
David A. Durkin (3)                                                                          -                -
David M. Wittels (4)                                                                         -                -
Douglas B. Fox                                                                               -                -
Kenneth A. Budde (2)                                                                  1,640.00              1.0%
A. Bruce Prashker (2)                                                                   500.00                *
All directors and executive officers as a group (2)                                  11,070.00              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 August 5, 2004.

     (3)  Mr.  Durkin is an officer 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 such  individuals
          disclaim  beneficial  ownership.  The address of Mr.  Durkin is Eleven
          Madison Avenue, New York, New York 10010.


                                       43


<PAGE>



     (4)  Mr.  Wittels was an officer of DLJ  Merchant  Banking an  affiliate of
          DLJMBII.


Equity Compensation Plan Information

     The table below sets forth information  relating to our compensation  plans
as of June 30, 2004:


<TABLE>
<CAPTION>

                                                                                              Number of securities
                                                                                               remaining available
                                       Number of securities                                    for future issuance
                                         to be issued upon           Weighted-average             under equity
                                            exercises of            exercise price of          compensation plans
                                        outstanding options,       outstanding options,       (excluding securities
                                        warrants and rights        warrants and rights        reflected in column(a))
           Plan Category                        (a)                        (b)                         (c)
------------------------------------ -------------------------- --------------------------- --------------------------

<C>                                            <C>                    <C>                              <C>
1998 Stock Option Plan............             15,272.50              $     100                        1,227.50
Total.............................             15,272.50                    100                        1,227.50


</TABLE>


ITEM 13. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

Transactions with DLJMBII and their Affiliates

     Mr. Durkin, who is a director of AKI and an officer and director of Holding
and AHC, is an officer of DLJ Merchant Banking.  Mr. Wittels,  who is a director
of AKI and an officer and  director  of Holding  and AHC,  was an officer 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  Credit  Suisse First Boston  Corporation
("CSFB") and AHC, CSFB receives an annual fee of $400,000 ($250,000 for the year
ended  December 31, 2002) for acting as the exclusive  financial and  investment
banking  advisor  until  December  31,  2004.  This  agreement  will be extended
automatically  for successive terms of one year unless  otherwise  terminated by
either party within 60 days prior to its  expiration.  Our Company has agreed to
indemnify CSFB in connection with its actions as our financial advisor.

     In  connection  with the  execution  of the Fusion  Merger  Agreement,  AHC
entered into a financial  advisory fee agreement with DLJMBII  pursuant to which
AHC agreed to pay DLJMBII a financial advisory fee of $2,000,000.

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


                                       44


<PAGE>


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 the shares of capital stock of AHC that it owns.

Stockholder Note

     Our Company has a promissory  note payable to AHC which allows us to borrow
up to $10 million at such  interest  rates and maturity  dates as agreed upon by
our Company and AHC. Interest paid to AHC in connection with the promissory note
totaled approximately $21,000,  $21,000 and $14,000 for the years ended June 30,
2004, 2003 and 2002, respectively.

Fusion Merger Agreement

     On July 21, 2004, AHC entered into the Fusion Merger Agreement with Fusion,
a newly-formed  entity owned by investment funds managed by KKR, and AHC Merger,
a  wholly-owned  subsidiary  of Fusion  formed for the purpose of effecting  the
Fusion  Merger,  pursuant to which AHC Merger will merger with and into AHC such
that AHC will be the  surviving  corporation  in the Fusion  Merger  and, at the
effective  time of the  Fusion  Merger,  Fusion  will  contribute  AHC to JHC in
exchange for capital  stock of JHC. JHC is  controlled  by DLJ Merchant  Banking
III, L.P. and certain of its affiliated  funds, each of which is affiliated with
DLJ Merchant Banking Partners II, Inc. and DLJMBII.


ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Audit Fees

     We retained  PricewaterhouseCoopers  LLP ("PwC") to audit our  consolidated
financial statements for fiscal 2004. We understand the need for PwC to maintain
objectivity  and  independence  in its  audit of our  financial  statements.  To
minimize  relationships  that could appear to impair the objectivity of PwC, our
board of directors has restricted the non-audit services that PwC may provide to
us primarily to tax services and audit related  services and determined  that we
would obtain  non-audit  services from PwC only when the services offered by


                                       45


<PAGE>


PwC are more effective or economical than services  available from other service
providers,  and, to the extent possible,  only after competitive bidding.  These
determinations  are among the key  practices  adopted by the board of  directors
effective June 30, 2002.

     The board has also adopted  policies and procedures for  pre-approving  all
non-audit  work  performed  by PwC after July 1, 2003.  Specifically,  the board
pre-approved the use of PwC for the following  categories of non-audit  service:
merger and acquisition due diligence and audit services; tax services;  internal
control reviews;  employee benefit plan audits;  and reviews and procedures that
our Company  requests  PwC to  undertake  to provide  assurances  on matters not
required by laws or regulations.

     The following summary discloses all of the fees billed by PwC during fiscal
2004 and fiscal 2003 for the following services (dollars in thousands):

                                            2004                      2003
                                            ----                      ----

    Audit fees...................      $       142                $       144
    Audit-related fees...........                -                          1
    Tax fees.....................              148                        178
                                       -----------                -----------

    Total........................      $       290                $       323
                                       ===========                ===========


     In the above  table,  in  accordance  with new SEC  definitions  and rules,
"audit  fees" are fees our Company  paid PwC for  professional  services for the
audit of our consolidated financial statements, included in Form 10-K and review
of  financial  statements  included  in Form  10-Qs,  or for  services  that are
normally  provided by the accountant in connection with statutory and regulatory
filings  or  engagements;  "audit-related  fees"  are  fees  billed  by PwC  for
assurance and related services that are reasonably related to the performance of
the audit or review of our  financial  statements;  "tax  fees" are fees for tax
compliance,  tax advice, and tax planning;  and "all other fees" are fees billed
by PwC to us for any services not included in the first three categories.


                                       46


<PAGE>


                                     PART IV


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

     (a) Documents filed as a part of the report.

          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 Schedules.

             The following consolidated financial statement schedule is included
             herein:

             Schedule II - Valuation and qualifying accounts

     (b) Reports on Form 8-K

          On July 23, 2004, we filed a Current  Report on Form 8-K,  including a
          press  release  announcing  the execution of the Agreement and Plan of
          Merger with Fusion Acquisition LLC.

          On August 20, 2004, we filed a Current Report on Form 8-K, including a
          press release announcing the Tender Offer and Consent Solicitation for
          our 10 1/2% Senior Notes.

     (c) Exhibits and Exhibit Index


          2.1   Agreement and Plan of  Merger  dated as of July 21,  2004  among
                Fusion Acquisition  LLC, AHC Merger,  Inc. and AHC I Acquisition
                Corp.
          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)


                                       47


<PAGE>


          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) +
          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)
          10.10 Assignment, dated April 27, 2004 from Credit Suisse First Boston
                LLC to DLJ Merchant Banking II, Inc. of the  Financial  Advisory
                Agreement dated December 12, 1997.
          10.11 Financial Advisory Fee Letter Agreement,  dated July 20, 2004 by
                and between AHC I Acquisition Corp. and DLJ Merchant Banking II,
                Inc.
          12.1  Computation of Ratio of Earnings to Fixed Charges. *
          21.1  Subsidiaries of Holding. *
          31.1  Certification pursuant to Section 302 of the  Sarbanes-Oxley Act
                of 2002. *
          31.2  Certification pursuant to Section 302 of the  Sarbanes-Oxley Act
                of 2002. *
          32.1  Certification pursuant  to 18 U.S.C.  Section  1350,  as adopted
                pursuant to section 906 of the Sarbanes-Oxley Act of 2002. *

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

          (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.


                                       48


<PAGE>


          (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


                                       49


<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 31st day of August,
2004.

                                        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.


                                       50


<PAGE>


     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 31st day of August, 2004.

          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 (Principal
Kenneth A. Budde                          Financial and Accounting Officer)


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


/S/ Douglas B. Fox                        Director
------------------------------------
Douglas B. Fox


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


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


                                       51


<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.


                                       52


<PAGE>


             REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


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 income,  stockholder's equity and cash flows
and the financial  statement  schedule  listed in the index appearing under Item
15(a)(2) present fairly,  in all material  respects,  the financial  position of
AKI,  Inc. and  Subsidiaries  at June 30, 2004 and 2003 and the results of their
operations  and their cash flows for each of the three years in the period ended
June 30, 2004 in conformity with accounting principles generally accepted in the
United States of America. In addition,  in our opinion,  the financial statement
schedule listed in the index appearing under Item 15(a)(2)  presents fairly,  in
all  material  respects,   the  information  set  forth  therein  when  read  in
conjunction with the related consolidated financial statements.  These financial
statements and the financial  statement  schedule are the  responsibility of the
Company's  management.  Our  responsibility  is to  express  an opinion on these
financial  statements and the financial  statement schedule based on our audits.
We conducted our audits of these  statements in accordance with the standards of
the Public Company Accounting  Oversight Board (United States).  These standards
require that we plan and perform the audit to obtain reasonable  assurance about
whether the financial  statements  are free of material  misstatement.  An audit
includes  examining,  on a test  basis,  evidence  supporting  the  amounts  and
disclosures in the financial  statements,  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.

     As  discussed  in  Note 2 to the  consolidated  financial  statements,  the
Company  adopted the  provisions  of FASB  Statement No. 142 "Goodwill and Other
Intangible Assets" in fiscal 2003.



PricewaterhouseCoopers LLP
Knoxville, Tennessee
August 4, 2004


                                      F-1


<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,
                                                                                ------------------------------
                                                                                   2004                2003
                                                                                   ----                ----

<S>                                                                             <C>                 <C>
ASSETS
Current assets
Cash and cash equivalents..............................................         $    1,369          $    1,470
Accounts receivable, net...............................................             22,169              20,267
Inventory, net.........................................................              9,810               7,265
Income tax receivable..................................................                  -               1,011
Prepaid expenses.......................................................                812                 671
Deferred income taxes..................................................              1,004                 808
                                                                                ----------          ----------
      Total current assets.............................................             35,164              31,492

Property, plant and equipment, net.....................................             12,539              16,584
Goodwill, net .........................................................            152,438             152,994
Other intangible assets, net...........................................              9,514              11,307
Deferred charges, net..................................................              2,400               3,032
Other assets...........................................................                148                 138
                                                                                ----------          ----------
      Total assets.....................................................         $  212,203          $  215,547
                                                                                ==========          ==========


LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities
Current portion of long-term debt......................................         $        -          $    1,875
Accounts payable, trade................................................              7,187               5,444
Accrued income taxes...................................................                573                   -
Accrued compensation...................................................              5,079               4,333
Accrued interest.......................................................              5,464               5,502
Accrued expenses.......................................................              4,218               3,661
                                                                                ----------          ----------
      Total current liabilities........................................             22,521              20,815

Revolving credit line..................................................              1,500              10,000
Term loan..............................................................                  -               6,250
Senior notes...........................................................            103,510             103,510
Deferred income taxes..................................................                136               1,142
Other non-current liabilities..........................................                311               1,740
                                                                                ----------          ----------
      Total liabilities................................................            127,978             143,457

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.............................................             85,667              82,512
Retained earnings .....................................................             13,249               4,873
Accumulated other comprehensive income.................................              1,039                 435
Carryover basis adjustment.............................................            (15,730)            (15,730)
                                                                                ----------          ----------
      Total stockholder's equity.......................................             84,225              72,090
                                                                                ----------          ----------

      Total liabilities and stockholder's equity.......................         $  212,203          $  215,547
                                                                                ==========          ==========


</TABLE>


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


                                      F-2


<PAGE>


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


<TABLE>
<CAPTION>

                                                                                      Year Ended June 30,
                                                                           ----------------------------------------
                                                                              2004           2003           2002
                                                                              ----           ----           ----

<S>                                                                        <C>            <C>             <C>
Net sales.....................................................             $ 133,372      $ 115,308       $ 120,893
Cost of goods sold............................................                85,770         73,883          73,888
                                                                           ---------      ---------       ---------

   Gross profit...............................................                47,602         41,425          47,005

Selling, general and administrative expenses..................                20,795         17,971          18,943
Amortization of goodwill......................................                     -              -           4,806
Amortization of other intangible assets.......................                 1,143          1,143           1,645
Gain from settlement of purchase price dispute, net...........                     -              -            (992)
                                                                           ---------      ---------       ---------

   Income from operations.....................................                25,664         22,311          22,603

Other expenses (income):
   Interest expense...........................................                12,575         12,674          12,528
   Management fees to affiliate...............................                   400            325             250
   (Gain) loss from sale and disposal of fixed assets.........                  (105)            33               -
                                                                           ---------      ---------       ---------

     Income before income taxes...............................                12,794          9,279           9,825

Income tax expense ...........................................                 4,418          3,446           5,674
                                                                           ---------      ---------       ---------

       Net income.............................................             $   8,376      $   5,833       $   4,151
                                                                           =========      =========       =========


</TABLE>


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


                                       F-3


<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
                                                                       Retained         Other       Accumulated
                                                       Additional      Earnings     Comprehensive     Carryover
                                        Common Stock     Paid-in     (Accumulated       Income         Basis
                                       Shares  Amount    Capital        Deficit)        (Loss)       Adjustment      Total
                                       ------  ------    -------        --------        ------       ----------      -----

<S>                                     <C>    <C>      <C>            <C>            <C>           <C>             <C>
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 income:
   Foreign currency translation
     adjustment......................       -       -           -              -            391               -           391
                                                                                                                    ---------
Comprehensive income.................                                                                                   4,542
                                        -----  ------   ---------      ---------      ---------     -----------     ---------

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

Distribution to AKI Holding Corp.....       -       -     (18,031)             -              -               -       (18,031)
Net income...........................       -       -           -          5,833              -               -         5,833
Other comprehensive income:
   Foreign currency translation
     adjustment......................       -       -           -              -            881               -           881
                                                                                                                    ---------
Comprehensive income.................                                                                                   6,714
                                        -----  ------   ---------      ---------      ---------     -----------     ---------

Balances, June 30, 2003..............   1,000       -      82,512          4,873            435         (15,730)       72,090

Capital contribution from
   AKI Holding Corp..................       -       -       3,155              -              -               -         3,155
Net income...........................       -       -           -          8,376              -               -         8,376
Other comprehensive income:
   Foreign currency translation
     adjustment......................       -       -           -              -            604               -           604
                                                                                                                    ---------
Comprehensive income.................                                                                                   8,980
                                        -----  ------   ---------      ---------      ---------     -----------     ---------

Balances, June 30, 2004..............   1,000  $    -   $  85,667      $  13,249      $   1,039     $   (15,730)    $  84,225
                                        =====  ======   =========      =========      =========     ===========     =========


</TABLE>


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


                                       F-4


<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,
                                                                                    ---------------------------------------------
                                                                                       2004              2003             2002
                                                                                       ----              ----             ----

<S>                                                                                 <C>               <C>               <C>
   Cash flows from operating activities:
     Net income.............................................................        $   8,376         $   5,833         $   4,151
     Adjustment to reconcile net income to net cash provided by
       operating activities:
         Depreciation ......................................................            5,159             5,377             5,197
         Amortization of goodwill and other intangibles.....................            1,952             1,954             6,899
         Amortization of loan closing costs.................................              659               605               617
         Deferred income taxes..............................................           (1,202)               80            (1,333)
         Gain from sale and disposal of equipment...........................             (105)                -                 -
         Other..............................................................             (279)              592               472
         Changes in operating assets and liabilities:
           Accounts receivable..............................................           (1,902)            3,270            (3,177)
           Inventory........................................................           (2,545)              749               690
           Prepaid expenses, deferred charges and other assets..............             (141)               (4)             (131)
           Accounts payable and accrued expenses............................            3,008            (1,177)             (118)
           Income taxes.....................................................            1,584            (3,064)              530
                                                                                    ---------         ---------         ---------

         Net cash provided by operating activities..........................           14,564            14,215            13,797
                                                                                    ---------         ---------         ---------

   Cash flows from investing activities:
     Purchases of equipment.................................................           (1,349)           (2,345)           (1,338)
     Proceeds from sale of equipment........................................              340                 -                 -
     Payments for acquisitions, net of cash acquired........................                -                 -           (19,422)
     Patents................................................................             (159)             (119)              (79)
                                                                                    ---------         ---------         ---------

         Net cash used in investing activities..............................           (1,168)           (2,464)          (20,839)
                                                                                    ---------         ---------         ---------

   Cash flows from financing activities:
     Payments under capital leases for equipment............................                -                 -              (503)
     Net proceeds (repayments) on revolving loan............................           (8,500)            7,250             2,750
     Proceeds (repayments) on term loan, net of repayment of $500 in 2002...           (8,125)           (1,375)            9,500
     Payments of loan closing costs.........................................              (27)               -               (679)
     Distribution to parent.................................................                 -          (18,031)           (6,805)
     Capital contribution from parent.......................................             3,155                -                 -
                                                                                    ----------        ---------         ---------

         Net cash provided by (used in) financing activities................           (13,497)         (12,156)            4,263
                                                                                    ----------        ---------         ---------

   Net decrease in cash and cash equivalents................................              (101)            (405)           (2,779)
   Cash and cash equivalents, beginning of period...........................             1,470            1,875             4,654
                                                                                    ----------        ---------         ---------
   Cash and cash equivalents, end of period.................................         $   1,369        $   1,470         $   1,875
                                                                                     =========        =========         =========

   Supplemental information:
     Cash paid during the period for:
       Interest to stockholder..............................................         $      21        $      21         $      14
       Interest, other......................................................            11,831           11,950            11,600
       Income taxes.........................................................             4,407            6,616             6,857


</TABLE>


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


                                       F-5


<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, which ends on 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.

     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.

          Three  customers  accounted for 41.9% (16.3%,  15.5% and 10.1%) of net
     sales  during the year ended June 30, 2004.  Two  customers  accounted  for
     29.7% (15.0% and 14.7%) and 31.3% (18.4% and 12.9%) of net sales during the
     years ended June 30, 2003 and June 30, 2002, respectively.


                                      F-6


<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 or specific  component  materials that
     are sourced from one qualified supplier. The Company does not have purchase
     agreements with its suppliers.  The Company's  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  and
     alternative component materials from multiple suppliers. Until such methods
     are developed or  alternative  sources  located,  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

          Products  are  produced to customer  specifications  based on purchase
     orders or signed  quotations  which include  agreed upon  pricing.  Product
     sales, net of estimated  discounts and rebates,  are recognized at the time
     title  and risk of  ownership  transfers  upon  delivery  to the  customer.
     Products  are  shipped  F.O.B.  shipping  point and are not  subject to any
     contractual right of return provisions. The Company provides for allowances
     for doubtful  accounts  based on its  assessment  of balances on a specific
     basis as well as historical costs.

     Shipping and Handling Costs

          The costs  associated  with  shipping  and  handling are included as a
     component of cost of goods sold.

     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.


                                      F-7


<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)

     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.  The cost and  accumulated  amortization of goodwill was $172,597
     and $20,159 at June 30,  2004 and  $173,153  and $20,159 at June 30,  2003,
     respectively.  In  accordance  with SFAS 142  goodwill  is no longer  being
     amortized  effective July 1, 2003. The following pro forma amounts  reflect
     goodwill  amortization  and net income had SFAS 142 been implemented at the
     beginning of fiscal 2002:

                                          2004          2003          2002
                                          ----          ----          ----

        Net income as reported.......  $   8,376     $   5,833     $   4,151
        Goodwill amortization........          -             -         4,806
                                       ---------     ---------     ---------

        Pro forma net income.........  $   8,376     $   5,833     $   8,957
                                       =========     =========     =========

          Management annually tests the carrying value of its goodwill and other
     long-lived assets which have resulted in no impairment.

     Stock Based Compensation

          The Company  has  elected to account for its stock based  compensation
     with  employees  under the  intrinsic  value  method set forth in APB 25 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, 2004,  2003 and 2002 would
     have been as follows:

                                                2004         2003         2002
                                                ----         ----         ----

        Net income as reported............   $   8,376    $   5,833    $   4,151
        Stock based compensation expense..          31           35          105
                                             ---------    ---------    ---------

        Pro forma net income..............   $   8,345    $   5,798    $   4,046
                                             =========    =========    =========

     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.


                                      F-8


<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)

     Other Intangible Assets

          Other intangible assets include patents, customer lists, covenants not
     to compete and other  intangible  assets and are being amortized over their
     estimated lives using the straight-line method. The following table details
     the components of other intangible assets:

<TABLE>
<CAPTION>

                                                                      June 30,
                                 ------------------------------------------------------------------------------------
                                                  2004                                        2003
                                 ----------------------------------------    ----------------------------------------
                                              Accumulated                                  Accumulated
                                   Costs      Amortization       Net            Costs      Amortization      Net
                                   -----      ------------       ---            -----      ------------      ---

<S>                               <C>          <C>            <C>             <C>           <C>            <C>
    Patents...................    $  8,592     $   2,096      $   6,496       $  8,433      $   1,286      $   7,147
    Customer lists............       7,289         4,373          2,916          7,289          3,645          3,644
    Covenants not to compete..       1,375         1,285             90          1,375          1,010            365
    Other.....................         694           682             12            694            543            151
                                  --------     ---------      ---------       --------      ---------      ---------
                                  $ 17,950     $   8,436      $   9,514       $ 17,791      $   6,484      $  11,307
                                 =========     =========      =========      =========      =========      =========

</TABLE>


          Future amortization of other intangible assets is as follows:

                    2005.................... $   1,603
                    2006....................     1,563
                    2007....................     1,551
                    2008....................     1,537
                    2009....................       809
                    Thereafter..............     2,451
                                             ---------
                                             $   9,514
                                             =========


     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  $106,357 at June 30,  2004,  compared to a carrying  value of
     $103,510.   The  carrying   value  of  all  other   financial   instruments
     approximated fair value at June 30, 2004.

     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
     ($84),  ($44) and $301 for the years  ended June 30,  2004,  2003 and 2002,
     respectively.


                                      F-9


<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)

     Research and Development Expenses

          Research  and  development   expenditures   consist  of  salaries  and
     benefits, occupancy costs, and test materials and related production costs,
     and are charged to  selling,  general  and  administrative  expenses in the
     period incurred.  Research and development expenses totaled $2,244,  $2,137
     and $2,061 for the years ended June 30, 2004, 2003 and 2002, 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.

     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. 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 was applied at the beginning of our 2003 fiscal year.
     The  adoption  of  SFAS  142  eliminated  the   amortization  of  goodwill,
     approximately  $4,800 in fiscal  2002,  while  requiring  annual  tests for
     impairment  of goodwill.  The Company  completed its initial and its annual
     tests  of the  carrying  value of  goodwill  all of  which  resulted  in no
     impairment.

          FASB  Interpretation  No. 45  "Guarantor's  Accounting  and Disclosure
     Requirements for Guarantees,  Including Indirect Guarantees of Indebtedness
     of Others" ("FIN 45") was issued in November 2002. FIN 45 elaborates on the
     disclosures  to be made by a guarantor in its interim and annual  financial
     statements  about its  obligations  under  certain  guarantees  that it has
     issued.  It also requires the  guarantor to recognize,  at the inception of
     the guarantee,  a liability for the fair value of obligations undertaken in
     issuing the  guarantee.  The  disclosure  requirements  are  effective  for
     quarters ending after December 15, 2002 and the liability recognition is


                                      F-10


<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)

     in effect for guarantees  initiated after December 31, 2002.  Provisions of
     this  statement did not have a material  impact on the  Company's  reported
     results of operations, financial positions or cash flows.

          FASB   Interpretation  No.  46  "Consolidation  of  Variable  Interest
     Entities"  ("FIN  46") was  issued in  January  2003.  FIN 46  requires  an
     investor  with a majority of the variable  interest in a variable  interest
     entity  ("VIE") to  consolidate  the entity and also requires  majority and
     significant variable interest investors to provide certain  disclosures.  A
     VIE is an entity in which the equity  investor  does not have a controlling
     interest,  or the equity  investment  risk is  insufficient  to finance the
     entity's  activities without receiving  additional  subordinated  financial
     support from the other  parties.  For  arrangements  entered into with VIEs
     created prior to January 31, 2003, the provisions of FIN 46 are required to
     be adopted at the beginning of the first interim or annual period beginning
     after December 15, 2003. Provisions of this interpretation did not have any
     material impact on the Company's reported results of operations,  financial
     position or cash flows.

          FASB Statement of Financial  Accounting  Standards No. 150 "Accounting
     for Certain Financial  Instruments with Characteristics of both Liabilities
     and  Equity"  ("SFAS  150") was  issued in May 2003.  SFAS 150  establishes
     guidance for how certain financial instruments with characteristics of both
     liabilities  and  equity  are  classified  and  requires  that a  financial
     instrument  that is within its scope be classified as a liability (or as an
     asset  in some  circumstances).  SFAS 150 is  effective  for  fiscal  years
     beginning  after June 15, 2003. The Company has adopted SFAS 150 and it did
     not have a material impact on the Company's reported results of operations,
     financial position or cash flows.

3.   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
     is not  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
                                                            ===========


                                      F-11


<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)

          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.

          In April 2002 the Company  settled a dispute with the former owners of
     RetCom Holdings Ltd. 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.

4.   ACCOUNTS RECEIVABLE

          The following table details the components of accounts receivable:

                                                               June 30,
                                                     -------------------------
                                                         2004           2003
                                                         ----           ----

         Trade accounts receivable................   $   22,600      $  20,633
         Allowance for doubtful accounts..........         (573)          (557)
                                                     ----------      ---------
                                                         22,027         20,076
         Other accounts receivable................          142            191
                                                     ----------      ---------

                                                     $   22,169      $  20,267
                                                     ==========      =========
5.       INVENTORY

          The following table details the components of inventory:

                                                               June 30,
                                                     --------------------------
                                                         2004           2003
                                                         ----           ----
         Raw materials
           Paper..................................   $    4,003      $   1,740
           Other raw materials.  .................        3,185          2,353
                                                     ----------      ---------
              Total raw materials.................        7,188          4,093
         Work in process..........................        3,517          3,857
         Reserve for obsolescence.................         (895)          (685)
                                                     ----------      ---------

         Total inventory..........................   $    9,810      $   7,265
                                                     ==========      =========

          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,
     2004 or June 30, 2003.


                                      F-12


<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)

6.   PROPERTY, PLANT AND EQUIPMENT

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

                                            Estimated            June 30,
                                           Useful Lives      2004       2003
                                           ------------      ----       ----

       Land............................                   $    258    $    258
       Buildings.......................   7 - 15 years       3,174       2,999
       Leasehold improvements..........   1 -  3 years         754         717
       Machinery and equipment.........   5 -  7 years      32,009      33,240
       Furniture and fixtures..........   3 -  5 years       4,554       4,141
       Construction in progress........                        337          31
                                                          --------    --------
                                                            41,086      41,386
       Accumulated depreciation........                    (28,547)    (24,802)
                                                          --------    --------
                                                          $ 12,539    $ 16,584
                                                          ========    ========

          Depreciation  expense  amounted  to $5,159,  $5,377 and $5,197 for the
     years ended June 30, 2004, 2003 and 2002, 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 was
     to mature 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 accrued at a floating
     rate based upon either prime or LIBOR.  The term loan was repaid in full in
     2004.

          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,  2004,  the  Company's  borrowing  base  was
     approximately  $26,024.  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 6.0% at June 30,
     2004 and 2003).  The  weighted  average  interest  rate on the  outstanding
     balance under the revolving  loan was 5.31%,  6.14% and 6.45% for the years
     ended June 30, 2004, 2003 and 2002, 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, 2004. These fees totaled $68,
     $76 and $65 for the years ended June 30, 2004, 2003 and 2002, respectively.
     The  Credit  Agreement  contains  certain  financial  covenants  and  other
     restrictions   including   restrictions  on  additional   indebtedness  and
     restrictions on the payment of dividends.


                                      F-13


<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)

8.   LOANS PAYABLE TO AHC

          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,  2004,  no amount was
     outstanding  under the promissory note.  Interest paid to AHC in connection
     with the promissory  note totaled $21, $21 and $14 for the years ended June
     30, 2004, 2003 and 2002, 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 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.  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.

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.  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-14


<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

     Raw Material Purchase Obligations

          The Company in the ordinary  course of business issues purchase orders
     for raw materials with expected  delivery ranging from one to three months.
     At June 30, 2004  outstanding  purchase  orders for raw  materials  totaled
     approximately $5.8 million.

     Operating Leases

          Equipment and office,  warehouse and production  space under operating
     leases expire at various  dates.  Rent expense was $1,468,  $1,293 and $559
     for the years  ended June 30,  2004,  2003 and 2002,  respectively.  Future
     minimum lease payments under the leases are as follows:

                           2005.........  $     1,506
                           2006.........        1,502
                           2007.........        1,291
                           2008.........          756
                           2009.........          683
                           Thereafter...        1,728
                                          -----------
                                          $     7,466
                                          ===========

     Royalty Agreements

          Royalty agreements are maintained for certain technologies used in the
     manufacture of certain products.  Under the terms of one royalty agreement,
     payments by the Company are required  based on a percentage of net sales of
     those products  manufactured with the specific technology,  or a minimum of
     $500 per year adjusted for changes in the CPI. This  agreement  expires the
     earlier of (1) when a total of $11,800 in cumulative  royalty  payments has
     been paid or (2)  December  31,  2004  unless  renewed by the  Company  for
     successive one-year periods. The Company expensed $565, $669 and $500 under
     this  agreement  for  the  years  ended  June  30,  2004,  2003  and  2002,
     respectively.  The Company has paid $7,294 in cumulative  royalty  payments
     under this agreement through June 30, 2004.

          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, 2004.

     Employee Agreements

          The Company has employment  and salary  continuation  agreements  with
     certain executive  officers with terms through June 30, 2005 and 2006. Such
     agreements  provide for base salaries totaling $1,332 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,


                                      F-15


<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 (Continued)

     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 date of
     change of control.

     Litigation

          The  Beautiful  Bouquet  Company,  Ltd.  (the  "Licensor")  filed suit
     against the Company  alleging  breaches  of a Patent and  Know-How  License
     agreement,  as  amended  (the  "License  Agreement").   Under  the  License
     Agreement,  the Company licenses certain  intellectual  property related to
     one of the Company's products for which the Company is obligated to pay the
     Licensor  a royalty  based on sales of the  product  and a  minimum  annual
     royalty.  The Licensor alleges the Company  committed a number of breaches,
     including a breach of the License  Agreement and a breach of fiduciary duty
     owed to the Licensor,  and is seeking to recover  unspecified amounts under
     the  terms of the  License  Agreement  and all  amounts  due it  under  the
     Company's unjust enrichment of the Licensor's intellectual property rights.

          The  Company  believes  that it did not  breach any  provision  of the
     License Agreement and intends to vigorously defend against its claims.

          The  Company is a party to other  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.

     Value Added Tax Assessment

          The French tax  authorities  have asserted that the Company's  foreign
     subsidiary  has failed to properly  collect  value added taxes ("VAT") from
     its French customers.  The assertion is based on the  classification of the
     Company's  products as advertising  services and not goods, which are taxed
     differently.  The Company has historically collected VAT from its customers
     on the basis of selling  goods which  classification  had  previously  been
     agreed to in audits by the  French  tax  authorities.  While the  amount of
     uncollected VAT would be substantial if a change in  classification of such
     goods is  required,  such  amounts  could be billable  and input VAT to our
     customers and therefore  reclaimable from the tax authorities.  An estimate
     of this contingent  loss, if any, for this asserted claim by the French tax
     authorities,  is not possible at this time. The Company  believes the range
     of  such  claim  by  the  tax  authorities,   before  considering  reclaims
     available, is approximately $600 to $2,700.

     Printing Services Agreement

          In connection with the RetCom Holdings,  Ltd. ("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, 2004 was approximately $857.


                                      F-16


<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)

 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  $418,  $424 and $323 for the years ended
     June 30, 2004, 2003 and 2002, 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 $258,
     $245  and  $221  for  the  years  ended  June  30,  2004,  2003  and  2002,
     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 includes
     the following components:

                                                    Year Ended June 30,
                                           -----------------------------------
                                              2004         2003         2002
                                              ----         ----         ----

         Income before income taxes:
              United States............    $  10,390    $   7,578    $   7,683
              Foreign..................        2,404        1,701        2,142
                                           ---------    ---------    ---------

                                           $  12,794    $   9,279    $   9,825
                                           =========    =========    =========


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

                                                    Year Ended June 30,
                                           -----------------------------------
                                              2004         2003         2002
                                              ----         ----         ----

         Current expense:
           Federal.....................    $   4,205    $   2,408    $   5,003
           Foreign.....................          867          613        1,042
           State.......................          548          345          962
                                           ---------    ---------    ---------
                                               5,620        3,366        7,007
                                           ---------    ---------    ---------

         Deferred expense (benefit):
           Federal.....................       (1,013)          42       (1,247)
           Foreign.....................            -            -            -
           State.......................         (189)          38          (86)
                                           ---------    ---------    ---------
                                              (1,202)          80       (1,333)
                                           ---------    ---------    ---------

                                           $   4,418    $   3,446    $   5,674
                                           =========    =========    =========


                                      F-16


<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)

          The significant components of deferred tax assets and (liabilities) at
     June 30, 2004 and 2003, were as follows:

<TABLE>
<CAPTION>

                                                                               June 30,
                                                     -----------------------------------------------------------
                                                                2004                             2003
                                                     ---------------------------      --------------------------
                                                     Current          Noncurrent      Current         Noncurrent
                                                     -------          ----------      -------         ----------

<S>                                                  <C>              <C>             <C>             <C>
         Deferred income tax assets:
             Accrued expenses.....................   $     450        $        -      $     376       $        -
             Allowance for doubtful accounts......         219                 -            213                -
             Reserve for inventory obsolescence...         335                 -            219                -
             Amortization of intangibles..........           -             1,136              -              879
                                                     ---------        ----------      ---------       ----------
                                                         1,004             1,136            808              879
         Deferred income tax liability:
             Property, plant and equipment........           -            (1,272)             -           (2,021)
                                                     ---------        ----------      ---------       ----------

               Deferred tax assets (liabilities)..   $   1,004        $     (136)     $     808       $   (1,142)
                                                     =========        ==========      =========       ==========

</TABLE>

          The income tax provision recognized by the Company for the years ended
     June 30, 2004, 2003 and 2002 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,
                                                                  --------------------------------------------
                                                                     2004             2003              2002
                                                                     ----             ----              ----

<S>                                                               <C>               <C>              <C>
         Computed tax provision at the
           statutory rate.................................        $   4,350         $   3,155        $   3,439
         State income tax provision, net of
           federal effect.................................              237               253              570
         Net nondeductible expenses.......................               21                32            1,373
         Extraterritorial income exclusion................             (204)              (86)               -
         Other, net.......................................               14                92              292
                                                                  ---------         ---------        ---------

                                                                  $   4,418         $   3,446        $   5,674
                                                                  =========         =========        =========

</TABLE>

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 $100 per share.  Options vest over  periods  ranging from one to eight
     years.  Certain  options are  eligible  for  accelerated  vesting  based on
     targeted  EBITDA.  Targeted EBITDA is net income or loss plus income taxes,
     interest expense, management fees, loss from early retirement of debt, loss
     from sale and  disposal of fixed  assets,  depreciation,  amortization  and
     impairment  loss of goodwill and  amortization  of other  intangibles  less
     gains  from early  retirement  of debt and  settlement  of  purchase  price
     dispute.  Options may be exercisable for up to ten years.


                                      F-18


<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 (Continued)

          In 2004 AHC amended its certificate of incorporation which resulted in
     a 100 for 1 reverse stock split of its common stock.

          A summary of AHC stock option activity and related information for the
     years ended June 30, 2004, 2003 and 2002 follows:


<TABLE>
<CAPTION>

                                              2004                            2003                         2002
                                     ------------------------       -------------------------     ------------------------
                                                  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.....     15,322.50   $  100          1,469,050       $  1.00       1,464,850      $  1.00
     Granted.......................          -         100             96,000          1.00          21,000         1.00
     Exercised.....................          -           -                  -            -                -            -
     Forfeited.....................        (50.00)     100            (32,800)         1.00         (16,800)        1.00
                                     -------------  ------          ---------       -------       ---------      -------

Outstanding, end of year...........     15,272.50   $  100          1,532,250       $  1.00       1,469,050      $  1.00
                                        =========   ======          =========       =======       =========      =======

Exercisable, end of year...........     14,717.50   $  100          1,436,073       $  1.00       1,106,343      $  1.00
                                        =========   ======          =========       =======       =========      =======

Weighted average remaining
contractual life...................         5.7 years                      6.7 years                     7.5 years


</TABLE>

          In connection with the Merger described in footnote 18, each AHC Stock
     Option,  granted under the Option Plan,  outstanding shall be cancelled and
     extinguished and no consideration will be paid thereon.

15.  RELATED PARTY TRANSACTIONS

          The Company made  payments to an  affiliate of DLJMBII for  management
     fees of $400,  $325 and $250 for the years  ended June 30,  2004,  2003 and
     2002, respectively.

16.  GEOGRAPHIC INFORMATION

          The Company  operates in one segment,  the  production of  interactive
     sampling  systems  for the  fragrance,  cosmetic,  personal  care and other
     consumer products industries.

          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.

                                           United
                                           States         France         Total
                                           ------         ------         -----
      Net sales:
      Year ended June 30, 2002.......  $   103,138    $    17,755    $   120,893
      Year ended June 30, 2003.......       99,757         15,551        115,308
      Year ended June 30, 2004.......      113,131         20,241        133,372

      Long-lived assets:
      Year ended June 30, 2002.......  $   189,754    $        82    $   189,836
      Year ended June 30, 2003.......      183,949            106        184,055
      Year ended June 30, 2004.......      176,918            121        177,039


                                      F-19


<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)

17.  UNAUDITED QUARTERLY RESULTS OF OPERATIONS

          The  following  is a summary  of the  unaudited  quarterly  results of
     operations for Fiscal 2004 and Fiscal 2003.


<TABLE>
<CAPTION>

                                  Quarter Ended   Quarter Ended    Quarter Ended    Quarter Ended
                                  September 30,    December 31,       March 31,        June 30,
     Fiscal 2004                      2003             2003             2004             2004             Total
                                      ----             ----             ----             ----             -----

<S>                                <C>              <C>              <C>              <C>              <C>
     Net sales................     $  37,258        $  32,616        $  35,803        $  27,695        $ 133,372
     Gross profit.............        13,723           10,333           13,632            9,914           47,602
     Income from operations...         8,752            4,668            7,616            4,628           25,664
     Interest expense, net....         3,214            3,238            3,149            2,974           12,575
     Net income...............         3,331              827            2,682            1,536            8,376


                                  Quarter Ended   Quarter Ended    Quarter Ended    Quarter Ended
                                  September 30,    December 31,       March 31,        June 30,
     Fiscal 2003                      2002             2002             2003             2003             Total
                                      ----             ----             ----             ----             -----

     Net sales................     $ 30,400         $  31,644        $  28,954        $  24,310        $ 115,308
     Gross profit.............       11,885            10,940           10,405            8,195           41,425
     Income from operations...        6,935             5,914            5,632            3,830           22,311
     Interest expense, net....        3,188             3,220            3,184            3,082           12,674
     Net income...............        2,257             1,633            1,437              506            5,833


</TABLE>

18.      SUBSEQUENT EVENT

          On July 21, 2004,  AHC entered  into an  agreement  and plan of merger
     (the "Merger Agreement") with Fusion Acquisition LLC ("Fusion"),  an entity
     affiliated  with  Kohlberg  Kravis  Roberts  &  Co.  The  Merger  Agreement
     contemplates  that a subsidiary of Fusion will merge with and into AHC (the
     "Merger"),  and AHC will  continue  as the  surviving  entity and will be a
     wholly owned subsidiary of Fusion.  The completion of the merger is subject
     to several  conditions  including,  among other things,  the  conclusion of
     certain other concurrent transactions ("Concurrent Transactions") involving
     other  companies  affiliated  with  DLJMB,  the  repayment,  repurchase  or
     redemption of certain  indebtedness and preferred stock of AKI, AHC and the
     other companies party to the Concurrent  Transaction,  and an investment in
     common  stock  by the CEO of  Fusion.  Upon  completion  of the  Concurrent
     Transactions DLJMB will indirectly own 45% of AHC.


                                      F-20


<PAGE>


                           AKI, INC. AND SUBSIDIARIES
                 SCHEDULE II. VALUATION AND QUALIFYING ACCOUNTS
                                 (in thousands)


<TABLE>
<CAPTION>

                                                                               Charged
                                             Balances at     Charged to     (Credited) to                         Balance at
                                            Beginning of      Cost and          Other                               End of
                                               Period         Expenses         Accounts        Deductions(1)        Period
                                               ------         --------         --------        -------------        ------
<S>                                           <C>            <C>              <C>               <C>                <C>
Allowance for doubtful accounts,
deducted from accounts receivable
in the balance sheet

Year ended June 20, 2004...............       $     557      $       -        $      17         $       1          $     573
Year ended June 30, 2003...............             608              -               14                65                557
Year ended June 30, 2002...............             836            180              (11)              397                608

        (1) Amounts represent write-off accounts.


</TABLE>



<TABLE>
<CAPTION>

                                                                               Charged
                                             Balances at     Charged to     (Credited) to                         Balance at
                                            Beginning of      Cost and          Other                               End of
                                               Period         Expenses         Accounts        Deductions           Period
                                               ------         --------         --------        ----------           ------
<S>                                           <C>            <C>              <C>               <C>                <C>
Obsolescence reserve, deducted
from inventory in the balance sheet

Year ended June 20, 2004...............       $     685      $     332        $       -         $     122          $     895
Year ended June 30, 2003...............             850            157                -               322                685
Year ended June 30, 2002...............             763             37              200               150                850


</TABLE>