<PAGE> 1
                      SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   FORM 10-Q


(Mark One)
  / X /      Quarterly report pursuant to Section 13 or 15(d) of the Securities
             Exchange Act of 1934

             For the quarterly period ended August 30, 1997

                                     Or

 /     /     Transition report pursuant to Section 13 or 15(d) of the Securities
             Exchange Act of 1934

             For the transition period from             to

             Commission file number 1-8210


                              PAYLESS CASHWAYS, INC.
              (Exact Name of Registrant as Specified in Its Charter)

         Iowa                                                  42-0945849
(State or Other Jurisdiction of                              (I.R.S. Employer
Incorporation or Organization)                               Identification No.)


         Two Pershing Square
         2300 Main, P.O. Box 419466
         Kansas City, Missouri                                       64141-0466
(Address of Principal Executive Offices)                             (Zip Code)

                  (816)  234-6000
(Registrant's Telephone Number, Including Area Code)

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

Indicate  by check mark  whether  the  registrant  has filed all  documents  and
reports  required  to be filed by  Sections  12,  13 or 15(d) of the  Securities
Exchange Act of 1934 subsequent to the  distributions of securities under a plan
confirmed by a court. YES / / NO / /*
     * The Company  filed a voluntary  petition  pursuant to the  provisions  of
     Chapter 11 of the U.S.  Bankruptcy Code on July 21, 1997. While the Company
     has  submitted  a plan of  reorganization  to the Court,  the Court has not
     confirmed that plan.

Indicate the number of shares  outstanding  of each of the  issuer's  classes of
common stock, as of the latest practicable date.

There were 39,964,041 shares of Common Stock, $.01 par value,  outstanding as of
October 3, 1997.


<PAGE> 2


                                PART I -- FINANCIAL INFORMATION

Item 1.  Financial Statements.

STATEMENTS OF OPERATIONS (Unaudited) (1) and (2)
<TABLE>
(In thousands, except per share amounts)                   Thirteen Weeks Ended                Thirty-Nine Weeks Ended
                                                    ---------------------------------------------------------------------
                                                       August 30,       August 24,          August 30,         August 24,
                                                          1997             1996                1997               1996
                                                    ---------------------------------------------------------------------
<S>                                                 <C>                <C>                <C>                <C>

Income
     Net sales                                      $    632,107       $    723,793       $   1,780,848      $  1,932,812
     Other income                                          1,191              1,481               3,660             4,599
                                                    ---------------------------------------------------------------------
                                                         633,298            725,274           1,784,508         1,937,411

Costs and expenses
     Cost of merchandise sold (3)                        478,038            535,956           1,309,378         1,400,372
     Selling, general and administrative                 148,166            157,403             437,720           451,737
     Reorganization items (4)                              5,121                 --               5,121                --
     Special charges (3)                                  13,056              8,184              13,056             8,184
     Asset impairment charges (5)                         60,483             59,697              60,483            59,697
     Provision for depreciation and amortization          12,768             14,007              38,609            40,777
     Interest expense (contractual interest of
         $16,468, $0, $48,797, and $0, respectively)      14,663             14,438              46,992            44,396
     Interest income (6)                                      --             (4,900)                 --            (4,900)
                                                    ---------------------------------------------------------------------
                                                         732,295            784,785           1,911,359         2,000,263
                                                    ---------------------------------------------------------------------
                        LOSS BEFORE INCOME TAXES         (98,997)           (59,511)           (126,851)          (62,852)

Federal and state income taxes (6)                       (33,595)           (36,633)            (40,085)          (38,217)
                                                    ---------------------------------------------------------------------
                                        NET LOSS    $    (65,402)      $    (22,878)      $     (86,766)     $    (24,635)
                                                    =====================================================================
Net loss attributable to common stock               $    (67,037)      $    (24,388)      $     (91,575)     $    (29,077)
                                                    =====================================================================
Net loss per common share (7)                       $      (1.68)      $       (.61)      $       (2.29)     $       (.73)
                                                    =====================================================================
Weighted average common shares outstanding                39,965             39,952              39,963            39,939
                                                    =====================================================================

<FN>
See notes to condensed financial statements
</FN>
</TABLE>



<PAGE> 3


CONDENSED BALANCE SHEETS (Unaudited) (1) and (2)

<TABLE>
                                                                  August 30,           November 30,            August 24,
(In thousands)                                                       1997                   1996                  1996
                                                                ---------------------------------------------------------
<S>                                                             <C>                    <C>                   <C>         
ASSETS

     CURRENT ASSETS
       Cash and cash equivalents                                $     36,707           $         425         $       166
       Merchandise inventories (8)                                   348,780                 399,010             399,373
       Prepaid expenses and other current assets                      14,930                  22,281              23,875
       Income taxes receivable                                        47,421                  15,200              15,200
       Deferred income taxes                                          12,733                  13,681              14,505
                                                                ---------------------------------------------------------
                                        TOTAL CURRENT ASSETS         460,571                 450,597             453,119

     OTHER ASSETS
       Real estate held for sale (5)                                  44,321                  18,529              14,642
       Cost in excess of net assets acquired, less
         accumulated amortization of $112,332,
         $105,198 and $102,829, respectively (5)                     268,120                 292,946             295,315
       Deferred financing costs                                       11,176                  12,837              10,002
       Other                                                          15,511                  12,917              15,325

     LAND, BUILDINGS AND EQUIPMENT                                   719,173                 782,935             788,642
       Allowance for depreciation and amortization                  (275,011)               (277,643)           (277,948)
                                                                ---------------------------------------------------------
         TOTAL LAND, BUILDINGS AND EQUIPMENT                         444,162                 505,292             510,694
                                                                ---------------------------------------------------------

                                                                $  1,243,861           $   1,293,118         $ 1,299,097
                                                                ========================================================
<FN>
See notes to condensed financial statements
</FN>
</TABLE>


<PAGE> 4


CONDENSED BALANCE SHEETS - Continued (Unaudited) (1) and (2)

<TABLE>
                                                                  August 30,           November 30,           August 24,
(In thousands)                                                       1997                  1996                  1996
                                                                --------------------------------------------------------
<S>                                                             <C>                   <C>                   <C>  
LIABILITIES AND SHAREHOLDERS' EQUITY

     CURRENT LIABILITIES
       Current portion of long-term debt (9)                    $    465,372          $     18,340          $     16,713
       Trade accounts payable                                         17,991               121,891               148,748
       Other current liabilities (5)                                 125,452               172,918               172,621
       Income taxes payable                                            8,980                 6,444                 3,230
                                                                --------------------------------------------------------
                                   TOTAL CURRENT LIABILITIES         617,795               319,593               341,312

     LONG-TERM DEBT, less portion
       classified as current liability (9)                                --               618,667               611,332

     NON-CURRENT LIABILITIES
       Deferred income taxes                                          29,358                41,665                38,370
       Other                                                          21,462                23,462                23,891

     LIABILITIES SUBJECT TO COMPROMISE (10)                          372,158                    --                    --

     SHAREHOLDERS' EQUITY
       Preferred Stock, $1.00 par value, 25,000,000
        shares authorized; issued:
           Cumulative Preferred Stock, 406,000 shares,
             $83,372, $78,563 and $77,022 aggregate
             liquidation preference, respectively                     40,600                40,600                40,600
       Common Stock, $.01 par value:
           Voting, 150,000,000 shares authorized,
             39,964,041, 37,709,028, and 37,705,628
             shares issued, respectively                                 400                   377                   377
           Non-Voting Class A, 5,000,000 shares
             authorized, 0, 2,250,000 and
             2,250,000 shares issued, respectively                        --                    23                    23
       Additional paid-in capital                                    487,851               487,728               487,746
       Accumulated deficit                                          (325,763)             (238,997)             (244,554)
                                                                ---------------------------------------------------------
                                  TOTAL SHAREHOLDERS' EQUITY         203,088               289,731               284,192
                                                                ---------------------------------------------------------
                                                                $  1,243,861          $  1,293,118          $  1,299,097
                                                                =========================================================
<FN>
See notes to condensed financial statements
</FN>
</TABLE>


<PAGE> 5


CONDENSED STATEMENTS OF CASH FLOWS (Unaudited) (1) and (2)

<TABLE>
                                                                                         Thirty-Nine Weeks Ended
                                                                             ----------------------------------------------
                                                                                 August 30,                      August 24,
(In thousands)                                                                      1997                            1996
                                                                             ----------------------------------------------
<S>                                                                          <C>                             <C> 

Cash Flows from Operating Activities

     Net loss                                                                $         (86,766)              $     (24,635)
     Adjustments  to  reconcile  net  loss to net cash
      provided  by  operating  activities:
         Depreciation and amortization                                                  38,609                      40,777
         Asset impairment charges (5)                                                   60,483                      59,697
         Deferred income taxes                                                         (11,359)                    (17,260)
         Non-cash reorganization items (4)                                               2,481                          --
         Non-cash interest                                                               2,500                       1,800
         Other                                                                           2,048                       1,578
     Changes in assets and liabilities                                                  54,747                     (32,533)
                                                                             ----------------------------------------------
     NET CASH PROVIDED BY OPERATING ACTIVITIES                                          62,743                      29,424

Cash Flows from Investing Activities

     Additions to land, buildings and equipment                                        (33,764)                    (27,552)
     Proceeds from sale of land, buildings and equipment                                12,277                      12,649
     Acquisition of business, excluding working capital:
       Land, buildings and equipment                                                        --                        (193)
       Purchase price in excess of net assets acquired                                  (1,015)                     (1,360)
     Increase in other assets                                                           (2,593)                       (972)
                                                                             ----------------------------------------------
     NET CASH USED IN INVESTING ACTIVITIES                                             (25,095)                    (17,428)

Cash Flows from Financing Activities

     Retirements of long-term debt                                                     (10,703)                    (26,911)
     Net proceeds from revolving credit facility                                        13,461                      14,857
     Financing fees                                                                     (3,320)                       (381)
     Sale of Common Stock under stock option plan                                           --                          94
     Other                                                                                (804)                       (449)
                                                                             ----------------------------------------------
     NET CASH USED IN FINANCING ACTIVITIES                                              (1,366)                    (12,790)
                                                                             ----------------------------------------------
     Net increase (decrease) in cash and cash equivalents                               36,282                        (794)
     Cash and cash equivalents, beginning of period                                        425                         960
                                                                             ----------------------------------------------
     Cash and cash equivalents, end of period                                $          36,707               $         166
                                                                             ==============================================
<FN>
See notes to condensed financial statements
</FN>
</TABLE>


<PAGE> 6

NOTES TO CONDENSED FINANCIAL STATEMENTS
Thirty-nine weeks ended August 30, 1997, and August 24, 1996.

(1)    On  July  21,  1997  (the  "Petition  Date"),  the  Company  commenced  a
       reorganization  case (the  "Case")  by filing a  voluntary  petition  for
       relief  under  Chapter 11, Title 11 of the United  States Code  ("Chapter
       11") in the U.S. Bankruptcy Court for the Western District of Missouri in
       Kansas City (the "Court").

       While  the  Company  had   sufficient   liquidity  to  fund  its  current
       operations,  the operating  performance  of the Company during the second
       quarter of fiscal 1997, which was well below the Company's  expectations,
       led  management  to conclude  that  it  was  unlikely  that  the  Company
       would be able to comply with the  covenants  contained  in its  principal
       credit agreements at the end of the current fiscal year. In the course of
       the  Company's  subsequent   negotiations  with  its  senior  lenders  to
       restructure its debt and after  considering all other  alternatives  with
       its financial adviser,  Houlihan Lokey Howard & Zukin, including the sale
       of the Company and liquidation,  the Company  concluded that a Chapter 11
       proceeding  provided  the best  approach  for a  comprehensive  financial
       restructuring of the Company.

       On July 21, 1997, the Company filed a Disclosure  Statement and a Plan of
       Reorganization with the Court. The Disclosure Statement and the Plan were
       subsequently  amended on  September  5, 1997,  and modified on October 9,
       1997.  The  Disclosure  Statement  and  the  Plan of  Reorganization,  as
       amended,  are referred to herein as the  "Disclosure  Statement"  and the
       "Plan,"  respectively.  The  following  summary of the Plan omits certain
       information  set  forth in the  Plan.  Any  statements  contained  herein
       concerning  the  Plan  are not  necessarily  complete,  and in each  such
       instance  reference  is made to the Plan,  a copy of which is filed as an
       exhibit to this report.  Each such statement is qualified in its entirety
       by such  reference.  On October 10, 1997, the Court  determined  that the
       Disclosure  Statement contains adequate  information to permit a creditor
       to make an  informed  decision  about  the  Plan.  The  Plan  will now be
       presented to the Company's impaired creditors and equity security holders
       for  acceptance or  rejection.  Under the Plan,  the Company  proposes to
       cancel   existing   shares  of  common  and  preferred  stock  and  issue
       approximately  20,000,000 shares of newly  reorganized  Payless Cashways,
       Inc. common stock (the "New Common Stock"), as described below.

       The Plan generally provides for the following: (I) The secured bank group
       (the  "Existing  Lenders")  under  the  existing  credit  agreement  (the
       "Amended Credit Agreement") will receive (a) payment of accrued interest,
       fees and  expenses,  (b) Net Cash  Proceeds (as defined in the Plan) from
       the sale of certain collateral  securing the Amended Credit Agreement and
       the  collection  of certain  promissory  notes  pledged  to the  Existing
       Lenders,  (c) their  allocable  portion of $273 million of new term notes
       (the "New Term Notes")  under a secured term loan facility to take effect
       upon emergence from Chapter 11 (the "Term Facility") and (d) an estimated
       10,800,000 shares of New Common Stock (equivalent to approximately 54% of
       the shares of the newly  reorganized  Company  expected to be outstanding
       upon emergence from Chapter 11 (the "Effective  Date")), of which 460,000
       shares will be  distributed to the lenders  providing a revolving  credit
       facility  to  supply  working  capital  financing  to  take  effect  upon
       emergence  from Chapter 11 (the "Exit  Facility")  in  consideration  for
       their  commitment to provide the Exit Facility.  The aggregate  principal
       amount of the New Term Notes and the number of shares of New Common Stock
       allocated to the Existing  Lenders are subject to adjustment as set forth
       in  the  Plan.  The  New  Term  Notes  will  be  subject  to a  scheduled
       amortization  of an aggregate of $3 million per year and shall be prepaid
       in the amount of any dispositions or realizations on certain  collateral.
       In addition,  the New Term Notes will be prepaid from an annual cash flow
       sweep of 65% of excess cash flow (as defined in the Term  Facility).  The
       New  Term  Notes  will  also  contain   covenants  and  other  provisions
       consistent with the Amended Credit  Agreement.  (II) The holders of notes
       under the existing loan facility with the Prudential Insurance Company of
       America (the  "Prudential  Loan  Facility")  will receive new  Prudential
       notes (the "New  Prudential  Notes")  pursuant to a new  Prudential  Loan
       Facility in the amount of the existing notes.  These New Prudential Notes
       will bear  interest at a rate of LIBOR plus 4.0% per annum,  mature seven
       years  from  the  Effective  Date,  will amortize at a rate of $4 million
       per year,  subject to adjustment  for asset sales  proceeds  applied as a
       credit toward the scheduled amortization, and will be secured by the same
       collateral   that  secures  the  existing   Prudential   Loan   Facility.
       (Subsequent to July 21, 1997, Prudential sold its interest in these notes
       to UBS Mortgage Finance, Inc.) (III) Unsecured claims against the Company
       of vendors and suppliers for goods delivered and services  rendered prior
       to the Petition Date, claims in respect of the Senior Subordinated Notes,
       contingent  unliquidated  claims and claims for damage  arising  from the
       rejection by the Company  pursuant to Section 365 of the Bankruptcy  Code
       of executory  contracts  and  unexpired  leases  (collectively,  "General
       Unsecured  Claims")  will  receive  their pro rata share of an  aggregate
       number of shares of New Common Stock equal to (a) 19,000,000 less (b) the
       number of such shares allocated to the Existing Lenders.  It is estimated
       that holders of General Unsecured Claims will receive

<PAGE> 7

       8,269,329  shares  or  approximately  41% of  the  shares  of  the  newly
       reorganized  Company  expected to be outstanding  on the Effective  Date.
       (IV) Holders of issued and outstanding shares of existing preferred stock
       will receive  their pro rata share of 600,000  shares of New Common Stock
       (estimated  to be 3% of the  shares  of  the  newly  reorganized  Company
       expected to be outstanding on the Effective  Date). (V) Holders of issued
       and  outstanding  shares of existing  common stock will receive their pro
       rata share of 400,000  shares of New Common Stock  (estimated to be 2% of
       the shares of the newly reorganized Company expected to be outstanding on
       the Effective Date). In addition,  any stock options relating to existing
       preferred  stock and common stock will be canceled on the Effective Date.
       In the event that any  impaired  class of  unsecured  creditors or equity
       security  holders rejects the Plan,  holders of existing shares of common
       stock would not receive or retain any property under the Plan.

       Fractional  shares of New Common Stock will not be issued to creditors or
       shareholders in connection with the Plan. In addition, no distribution of
       less than $5.00 will be made for fractional share interests.  As a result
       of these provisions, many current equity security holders will receive no
       distribution of stock or cash under the Plan.

       Borrowings  under the Amended Credit Agreement are no longer available to
       the  Company.  A commitment  for a revolving  credit  facility  (the "DIP
       Agreement")  has been  entered  into  between  the Company and a group of
       institutional  lenders (the "DIP Lenders") led by Canadian  Imperial Bank
       of Commerce  ("CIBC"),  as agent bank, and was approved by the Court. The
       aggregate DIP Agreement commitment is $125 million with sublimits of $100
       million for  revolving  credit  loans and  documentary  letters of credit
       (which may not exceed $15 million in the aggregate outstanding at any one
       time) and $25 million for  standby  letters of credit.  On April 1, 1998,
       the  commitment  will be  automatically  reduced to $100 million with the
       revolving credit/documentary letter of credit subfacility reducing to $75
       million.  Interest  is to be  charged  at an  annualized  rate of 1.5% in
       excess of CIBC's Alternate Base Rate or, at the Company's  option,  LIBOR
       plus 2.5%.

       As collateral  for borrowings  under the DIP Agreement,  the Company will
       grant  to the  DIP  Lenders  a  first  priority  priming  lien in all the
       collateral  securing the Amended Credit Agreement and all property of the
       Company  unencumbered as of the Petition Date or acquired during the Case
       and a second  priority lien on all the  collateral  securing the existing
       Prudential Loan Facility and other collateral pledged to other creditors.

       The DIP Agreement includes various restrictive  covenants prohibiting the
       Company from, among other things, incurring additional indebtedness, with
       certain  limited  exceptions,  making  investments,  except  for  certain
       limited  exceptions  (such as the Company's  strategic  initiatives)  and
       making  dividend,  redemption  and certain other  payments on its capital
       stock.  The DIP  Agreement  also  contains  certain  customary  financial
       covenants and events of default for  financing of this type,  including a
       change of control covenant.

       The DIP Agreement  will  terminate on the Effective  Date or, if earlier,
       one year after the Petition  Date,  subject to certain other  termination
       provisions. On the Effective Date, the Company intends to pay all amounts
       outstanding under the DIP Agreement.  It is currently  proposed that such
       payments  will be financed  from the  proceeds of the Exit  Facility.  As
       currently  proposed,  the Exit  Facility  will have a commitment  of $150
       million for revolving loans with a sublimit of $40 million for letters of
       credit. Revolving credit loans under the Exit Facility will bear interest
       at the rate of LIBOR  plus  2.5% per  annum.  The Exit  Facility  will be
       secured  by the  same  liens  on all  the  collateral  securing  the  DIP
       Agreement.   The  Exit  Facility  will  contain  a  number  of  financial
       conditions,  which  the  Company  must  meet in  order  to draw  down the
       facility.  Among those  conditions,  the Company  must:  1) have earnings
       before interest, taxes, depreciation and amortization (EBITDA) during the
       four months ended November 29, 1997, not less than $12.9 million; 2) have
       a debt to  EBITDA  ratio  of not  more  than  7.9 to 1 for the 12  months
       preceding the Effective Date; and 3) have post-petition trade payables of
       not less than $30.6 million on the Effective Date.

       In order for the  Company to  reorganize  and emerge  from the Case,  the
       Court must  confirm a plan of  reorganization.  A  disclosure  statement,
       approved by the Court will be sent to all  classes of impaired  creditors
       and equity security holders for acceptance or rejection.  On November 19,
       1997,  following  acceptance or rejection of any plan by impaired classes
       of  creditors  and equity  security  holders,  the Court is  scheduled to
       consider  whether to confirm the Plan.  Among other things,  to confirm a
       plan the Court is generally required to find that (a) each impaired class
       of creditors  and equity  security  holders  will,  pursuant to the Plan,
       receive at least as much as the class would have received in  liquidation
       of the Company,  (b) each impaired class of creditors and equity security
       holders has accepted the Plan by the requisite vote and (c)  confirmation
       of the Plan is not likely to be followed by the  liquidation  or need for
       further financial  restructuring of the Company. If any impaired class of
       creditors or equity security  holders does not accept a plan and assuming
       that all other  requirements  of the  Bankruptcy  Code are met,  the plan
       proponents  may


<PAGE> 8


       invoke the  so-called  "cram-down"  provisions  of the  Bankruptcy  Code,
       whereby the Court may confirm a plan  notwithstanding  the non-acceptance
       of the plan by an impaired  class of  creditors  or security  holders if,
       among  other  things,  the  plan is  fair  and  equitable  and  does  not
       discriminate  unfairly with respect to each  impaired  class of claims or
       interests  that  has not  accepted  the  plan.  The Unsecured  Creditors'
       Committee and the Equity Committee have expressed support of the Plan.

       The accompanying  condensed financial  statements have been prepared on a
       going concern basis, which assumes continuity of operations,  realization
       of assets  and  liquidation  of  liabilities  in the  ordinary  course of
       business. However, as a result of the Chapter 11 filing and circumstances
       relating  thereto,  substantial  uncertainty  exists with  respect to the
       Company's ability to continue as a going concern.

       If  the  Company  is  unable  to  obtain  confirmation  of  its  plan  or
       reorganization,  its  creditors  or equity  security  holders  may seek a
       liquidation  of the  Company  by  conversion  to a Chapter  7  bankruptcy
       proceeding  or  otherwise.  In that event,  it is likely that  additional
       liabilities  and  claims  would  be  asserted  which  are  not  presently
       reflected in the Company's  financial  statements.  Furthermore,  certain
       assets and liabilities,  such as merchandise  inventories and liabilities
       related to defined benefit pension plans, are presented using assumptions
       appropriate for an ongoing business.  In the event of liquidation,  other
       assumptions  would be utilized and the amounts reflected in the financial
       statements  would be  subject to adverse  adjustments  in amounts  which,
       while not presently determinable, would be material.

       Financial  accounting  during a Chapter 11  proceeding  is  prescribed in
       "Statement of Position 90-7 of the American Institute of Certified Public
       Accountants,"  titled "Financial  Reporting by Entities in Reorganization
       Under the Bankruptcy Code" which the Company adopted July 21, 1997. Among
       other things, Statement of Position 90-7 provides that the emergence from
       the Chapter 11 proceeding would result in the creation of a new reporting
       entity without any accumulated  deficit and with the Company's assets and
       liabilities  restated to their fair values, under so-called "fresh start"
       reporting.  The impacts of fresh start reporting will be dependent on the
       terms of any plan of reorganization confirmed by the Bankruptcy Court and
       the fair  values of assets and  liabilities  at such time.  However,  the
       Company  believes that the present  aggregate  carrying value of goodwill
       and land,  buildings and  equipment  exceed the fair value of such assets
       and, as a result,  write-downs  in the carrying value of such assets will
       likely be  required  as a part of fresh  start  reporting,  although  the
       amounts of such write-downs are not presently determinable.

       On July 21, 1997,  the Company also announced its plan to close 29 stores
       and  to  eliminate  approximately  15%  of the  staff  at  the  Company's
       headquarters and regional  administrative centers. The Court subsequently
       approved  such  plan on  August  6,  1997.  See  Notes  3, 4, and 5 for a
       description of related charges recorded in the third quarter of 1997.

(2)    The  accompanying  condensed  financial  statements have been prepared in
       accordance  with  the  instructions  to Form  10-Q.  To the  extent  that
       information  and  footnotes  required by  generally  accepted  accounting
       principles  for  complete  financial   statements  are  contained  in  or
       consistent  with  the  audited  financial   statements   incorporated  by
       reference  in the  Company's  Form 10-K for the year ended  November  30,
       1996, such information and footnotes have not been duplicated  herein. In
       the  opinion  of  management,  all  adjustments,   consisting  of  normal
       recurring  accruals,  considered  necessary  for a fair  presentation  of
       financial  statements have been reflected herein.  The November 30, 1996,
       condensed  balance  sheet has been  derived  from the  audited  financial
       statements as of that date.

(3)    A special  charge of $13.1 million ($8.1 million after tax),  primarily a
       cash  charge,  was  recorded  in the  third  quarter  of  fiscal  1997 in
       connection  with  the  closing  of 29  stores  as part  of the  Company's
       reorganization  under  Chapter 11. In addition,  the Company  recorded an
       inventory  write-down of $10.7 million ($6.6 million after tax), included
       in cost of merchandise  sold, in connection with the store closings.  The
       1997 special charge includes:
<TABLE>
                                                  Amount                     Amount                    Reserve
                                                  Charged                   Utilized                     at
              (In millions)                        1997                  Through 8/30/97               8/30/97
                                                ---------                ---------------               -------
<S>                                             <C>                      <C>                           <C>

              Real estate disposal costs          $   6.8                  $      .1                   $   6.7
              Severance costs                         6.3                         .3                       6.0
                                                ---------                ---------------               -------
                                                  $  13.1                  $      .4                   $  12.7
                                                =========                ===============               =======
</TABLE>


<PAGE> 9


       Historical  financial data for the 29 closed stores is as follows for the
thirty-nine week periods presented:
<TABLE>
              (In thousands)                       1997                         1996
                                               -------------               ------------
<S>                                            <C>                         <C> 
              Net sales                        $     204,707               $   240,132
              Net operating income (loss)      $      (5,101)              $     4,539
</TABLE>

       A special  charge of $8.2 million ($5.0  million after tax),  primarily a
       cash  charge,  was  recorded  in the  third  quarter  of  fiscal  1996 in
       connection with the future closing of nine  underperforming  stores.  The
       Company also  recorded an  inventory  write-down  of $5.8  million  ($3.5
       million after tax),  included in cost of merchandise  sold, in connection
       with the store  closings.  The 1996 special charge  includes future store
       rentals of $3.7 million and real estate disposal costs of $4.5 million.

       For the thirty-nine  week period ended August 24, 1996, net sales and net
       operating  loss for the nine closed  stores  were $45.5  million and $3.2
       million, respectively.

(4)    In connection  with its Chapter 11 filing on July 21, 1997,  discussed at
       Note 1, the Company recorded  reorganization items of $5.1 million during
       the quarter ended August 30, 1997.  Reorganization  items for this period
       consisted of professional fees of $2.8 million, the write-off of deferred
       financing costs of $2.5 million and interest income of $0.2 million.

(5)    The Company recorded an asset  impairment  charge of $60.5 million ($43.9
       million  after tax) and $59.7  million  ($44.6  million after tax) in the
       third  quarters  of 1997 and 1996,  respectively.  The  asset  impairment
       charges were  recorded  after  considering  current and  expected  future
       operating  cash flows for certain  stores  together with the proceeds the
       Company could expect to receive upon the sale of these assets.

       The Company adopted Financial  Accounting  Standard No. 121,  "Accounting
       for the Impairment of Long-Lived  Assets and for Long-Lived  Assets To Be
       Disposed Of," in 1996.  Primarily  because the  environment  for building
       materials  retailing has continued to be  increasingly  competitive,  the
       Company  first  conducted  its  review in the third  quarter  of 1996 and
       determined  certain assets were  impaired.  In the third quarter of 1997,
       the  Company  again  conducted  a review of  underperforming  stores  and
       determined that certain additional assets were impaired, including assets
       related to twenty-nine  stores which the Company determined to close (see
       Note 3). These assets  included  certain  real estate,  including  future
       store lease obligations, and associated goodwill which is attributable to
       those assets and which was  established  in 1988 as part of the Company's
       leveraged buyout.

       In 1997  as a  result  of the  impairment  charge,  certain  real  estate
       carrying  values were reduced $28.8  million,  goodwill was reduced $18.7
       million and a $13.0 million liability for future store lease payments was
       recorded.  In 1996 as a result of the  impairment  charge,  goodwill  was
       reduced $22.4 million,  certain real estate  carrying values were reduced
       $25.7  million  and a $11.6  million  liability  for future  store  lease
       payments,  net of $6.0  million in amounts  the Company  estimated  to be
       recoverable, was recorded.

(6)    On August 20, 1996,  the Small  Business Job  Protection  Act of 1996 was
       signed into law. Certain  provisions of this Act clarified the Tax Reform
       Act of 1986 and made  retroactively  tax  deductible  certain  costs  and
       expenses  previously  recorded  by the  Company  without  any related tax
       benefit.  In addition,  the Company  settled  with the  Internal  Revenue
       Service regarding several tax issues. As a result, the Company recorded a
       tax benefit of $23.7 million and related  interest income of $4.9 million
       ($2.9 million  after tax) in the third quarter of 1996.  This tax benefit
       included  recoverable  income  taxes of $10.0  million and  non-cash  tax
       benefits of $13.7 million.

(7)    Net loss per common share has been computed based on the weighted average
       number of existing common shares  outstanding  during the period.  Common
       stock  equivalents,  consisting  of  certain  stock  options  and  shares
       issuable under the Director  Deferred  Compensation  Plan,  have not been
       considered  because the effect  would be  dilutive.  For purposes of this
       computation, net loss was adjusted for dividend requirements on preferred
       stock.  If  effected,  the Plan  would  materially  affect  the  existing
       preferred and common stock and would  substantially  dilute the ownership
       of existing common shareholders.


<PAGE> 10


(8)    Approximately 82% of the Company's  inventories are valued using the LIFO
       (last-in,  first-out) method.  Because inventory  determination under the
       LIFO  method is only  made at the end of each  fiscal  year  based on the
       inventory levels and costs at that time, interim LIFO determinations must
       necessarily  be based on  management's  estimates  of  expected  year-end
       inventory  levels and costs.  Since future  estimates of inventory levels
       and costs are subject to change,  interim  financial  results reflect the
       Company's most recent estimate of the effect of inflation and are subject
       to  final  year-end  LIFO  inventory  amounts.  If  the  FIFO  (first-in,
       first-out)  method of inventory  accounting had been used by the Company,
       inventories  would  have been  $27.3  million,  $24.3  million  and $31.7
       million  higher than reported at August 30, 1997,  November 30, 1996, and
       August 24, 1996, respectively.

(9) Long-term debt consisted of the following:
<TABLE>
                                                                  August 30,            November 30,           August 24,
       (In thousands)                                                1997                   1996                  1996
                                                                ---------------------------------------------------------
<S>                                                             <C>                    <C>                    <C>

       DIP Agreement                                            $         --           $         --           $        --
       Amended Credit Agreement                                      367,462                354,000               340,857
       Mortgage loan                                                  97,364                108,000               112,154
       Senior subordinated notes                                     173,655                173,655               173,655
       Other senior debt                                               1,285                  1,352                 1,379
                                                                ---------------------------------------------------------
                                                                     639,766                637,007               628,045
       Less portion classified as current liability                 (465,372)               (18,340)              (16,713)
       Less portion classified as liabilities
          subject to compromise                                     (174,394)                    --                    --
                                                                ---------------------------------------------------------
                                                                $         --           $    618,667           $   611,332
                                                                =========================================================
</TABLE>

       The terms of substantially  all of the Company's debt agreements  contain
       cross default  provisions.  The  commencement  of the Case  constituted a
       default  under the Amended  Credit  Agreement,  the mortgage loan and the
       senior  subordinated  notes.  The  outstanding  balances of the Company's
       long-term debt  outstanding at August 30, 1997,  have been  classified as
       current  liabilities  to the extent such  amounts are not  classified  as
       liabilities   subject  to  compromise.   The  Company  has  discontinued,
       effective  July 21, 1997,  the accrual of interest on  pre-petition  debt
       that is unsecured or estimated to be under-secured (see Note 10).



(10) Liabilities subject to compromise consisted of the following:

                                                                  August 30,
                    (In thousands)                                   1997
                                                                 -----------
                    Trade accounts payable                       $   125,773
                    Other current liabilities                         48,098
                    Taxes other than income                            9,370
                    Senior subordinated debentures                   173,655
                    Other long-term debt                                 725
                    Other non-current liabilities                     14,537
                                                                 -----------
                    Total liabilities subject to compromise      $   372,158


<PAGE> 11


Item 2. Management's  Discussion and Analysis of Financial Condition and Results
of Operations.


PETITION FOR RELIEF UNDER CHAPTER 11

On October 3, 1996, the Company  amended its $408 million credit  agreement (the
"Amended  Credit  Agreement")  to  include  two  tranches  of term  loans in the
aggregate  amount of $273 million,  a revolving  credit facility of $135 million
and a $60 million working capital  facility.  All facilities  mature in November
2000. As part of the amendment,  permitted levels of capital  expenditures  were
increased,   additional  collateral  (including  substantially  all  merchandise
inventory) was added, various covenants were modified or eliminated and interest
rates were  increased.  The Amended  Credit  Agreement  was designed to give the
Company   additional   flexibility  and  liquidity  in  order  to  continue  the
implementation  of its  strategic  plan and  provide  the banks with  additional
security.

While the Company had sufficient  liquidity to fund its current operations,  the
operating  performance  of the Company during the second quarter of fiscal 1997,
which was well below the Company's expectations, led management to conclude that
it was  unlikely  that the Company  would be able to comply  with the  covenants
contained in its principal  credit  agreements at the end of the current  fiscal
year. In the course of the  Company's  subsequent  negotiations  with its senior
lenders to restructure  its debt and after  considering  all other  alternatives
with its financial adviser, Houlihan Lokey Howard & Zukin, including the sale of
the Company and liquidation,  the Company concluded that a Chapter 11 proceeding
provided the best approach for a comprehensive  financial  restructuring  of the
Company.  This action is intended to improve the Company's  competitive position
by establishing a more appropriate  capital structure to operate the business in
this period of unprecedented competitive pressure after a decade of dealing with
a highly leveraged balance sheet, which has limited capital expenditures.

On July 21, 1997,  the Company filed a voluntary  petition to  reorganize  under
Chapter 11 and filed a plan of reorganization for its emergence from Chapter 11.
The Company is operating its business as a debtor-in-possession,  subject to the
jurisdiction of the Court, while pursuing its reorganization plan to restructure
the  Company's  capitalization.  As a  debtor-in-possession  in Chapter  11, the
Company  may not  engage  in  transactions  outside  of the  ordinary  course of
business without the approval, after notice and hearing, of the Court.

The  Chapter  11 filing  results in an  automatic  stay of the  commencement  or
prosecution  of claims  against the Company that arose before the Petition Date.
Until the  Court  confirms  a  reorganization  plan,  payments  of  pre-petition
liabilities  will be  limited  to  those  payments  approved  by the  Court.  In
addition,  a plan of reorganization will materially change the amounts currently
recorded in its financial  statements.  The financial  statements do not include
any adjustments to reflect the possible future effects of the recoverability and
classification  of assets,  the amounts and  classification of liabilities which
may be allowed in the reorganization plan, or the ultimate capitalization of the
Company.

On July 21, 1997, the Company filed the  Disclosure  Statement and Plan with the
Court. The Disclosure  Statement and Plan were subsequently amended on September
5,  1997,  and  modified  on October 9, 1997.  On October  10,  1997,  the Court
determined that the Disclosure Statement contains adequate information to permit
a creditor to make an  informed  decision  about the Plan.  The Plan will now be
presented to the Company's  impaired  creditors and equity security  holders for
acceptance  or  rejection.  A hearing  on  confirmation  is  scheduled  to occur
November 19, 1997, at which time,  the Court will decide  whether to approve the
Plan.  For a summary  description  of the Plan, See Note 1 to Notes to Condensed
Financial Statements. Unless otherwise ordered by the Court, confirmation of the
Plan requires  approval of all impaired  classes of creditors and affirmation by
the Bankruptcy  Court.  There can be no assurance that the Plan will be approved
in its present form.

If the Company is unable to obtain  confirmation  of its Plan,  its creditors or
equity security holders may seek other  alternatives for the Company,  including
bids for the Company or parts thereof through an auction process. In that event,
it is  possible  that  certain  assets  would  not be  realized  and  additional
liabilities  and claims would be asserted  which are not presently  reflected in
the consolidated financial statements and which are not presently  determinable.
The effect of any such  assertion  or  non-realization  could be  material.  The
Company will incur  professional fees and other cash demands typically  incurred
in bankruptcy.


<PAGE> 12


The rights of pre-petition  creditors and  shareholders and the ultimate payment
of their claims and interests may be  substantially  altered and, in some cases,
eliminated  under the  Bankruptcy  Code.  Although the Company is optimistic the
Plan will be confirmed  on November  19, 1997,  and that it will emerge from the
protection of the Bankruptcy  Court,  it is not possible at this time to predict
the  ultimate  outcome  of the  Chapter  11  proceeding  or its  effects  on the
Company's  business or on the claims or interests of creditors or  shareholders.
As proposed by the Plan, the claims of pre-petition  unsecured creditors and the
interests of shareholders will be materially adversely affected.



RESULTS OF OPERATIONS

Income

Net sales for the quarter ended August 30, 1997,  decreased  12.7% from the same
period of 1996 in total and 8.7% on a comparable-store sales basis.  (Comparable
stores are those open one full year.) Net sales for the first three  quarters of
1997  decreased  7.9%  from  the  same  period  of 1996 in  total  and 4.6% on a
comparable  store  sales  basis.  Management  believes  that sales for the third
quarter were  adversely  impacted by the disruption in the supply of product and
the  erosion of customer  confidence  caused by the Chapter 11 filing as well as
continuing  competitive pressure.  Same store sales to do-it-yourself  customers
during the third quarter  declined  14.1% and same-store  sales to  professional
customers  declined  1.9%.  Twenty-three  stores  were  closed  during the third
quarter of 1997,  six stores  were closed  during the first  quarter of 1996 and
eight additional  stores were closed during the fourth quarter of 1996. Those 37
stores,  as well as six additional stores planned to close in the fourth quarter
of 1997,  accounted for $204.9  million and $287.0 million of sales in the first
three quarters of 1997 and 1996, respectively.


Costs and Expenses

Cost of merchandise sold as a percent of sales was 75.6% and 74.1% for the third
quarter of 1997 and 1996, respectively. For the first three quarters of 1997 and
1996,  cost of  merchandise  sold as a percent  of sales  was  73.5% and  72.5%,
respectively. An inventory write-down of $10.7 million ($6.6 million after tax),
related to the closing of  twenty-nine  stores in connection  with the Company's
reorganization  under  Chapter  11,  was 1.7% and  0.6% of sales  for the  third
quarter and first three quarters of 1997, respectively.  An inventory write-down
of $5.8  million  ($3.5  million  after  tax),  related  to the  closing of nine
underperforming  stores,  was 0.8% and 0.3% of sales for the third  quarter  and
first three  quarters of 1996,  respectively.  Excluding  the effect of both the
1997 and 1996 inventory  write-downs,  the increase of cost of merchandise  sold
for the third quarter and the first three  quarters of 1997 was primarily due to
competitive pressure and the growth in sales to the professional  customer whose
merchandise  purchases  include a higher percentage of commodity goods at margin
rates somewhat lower than the Company's average. The disruption in the supply of
product  resulting  from the Chapter 11 filing  caused some  increase in cost of
goods  sold  for the  third  quarter  of 1997  due to  purchasing  product  from
secondary sources at higher costs.

Selling,  general and administrative  expenses were 23.5% and 21.7% of sales for
the third quarter of 1997 and 1996,  respectively.  For the first three quarters
of 1997 and 1996,  selling,  general and administrative  expenses were 24.6% and
23.3% of  sales,  respectively.  The  increase  as a  percent  of sales for both
periods of 1997 was due  primarily to lower  sales.  The decrease in dollars for
both periods of 1997 was due  primarily  to savings from eight stores  closed in
the fourth quarter of 1996.

In connection with its Chapter 11 filing on July 21, 1997,  discussed above, the
Company recorded  reorganization  items of $5.1 million during the quarter ended
August 30, 1997.  Reorganization items for this period consisted of professional
fees of $2.8 million,  the write-off of deferred financing costs of $2.5 million
and interest income of $0.2 million.


<PAGE> 13


A special  charge of $13.0 million  ($8.1  million after tax),  primarily a cash
charge,  was recorded in the third quarter of fiscal 1997 to reflect real estate
disposal  and  severance  costs  related  to the future  closing of  twenty-nine
underperforming stores as part of the Company's reorganization under Chapter 11.
A special  charge of $8.2 million  ($5.0  million  after tax),  primarily a cash
charge, was recorded in the third quarter of fiscal 1996 to reflect future store
rentals and real estate  disposal  costs  related to the future  closing of nine
underperforming stores.

The Company recorded an asset impairment  charge of $60.5 million ($43.9 million
after tax) and $59.7 million  ($44.6 million after tax) in the third quarters of
1997 and 1996,  respectively.  Primarily  because the  environment  for building
materials  retailing has continued to be increasingly  competitive,  the Company
first  conducted its review in the third quarter of 1996 and determined  certain
assets were impaired.  In the third quarter of 1997, the Company again conducted
a review of underperforming stores and determined that certain additional assets
were impaired, including assets related to twenty-nine stores, which the Company
determined  to  close.  The  asset   impairment   charges  were  recorded  after
considering  current and expected future operating cash flows for certain stores
together  with the proceeds the Company could expect to receive upon the sale of
these assets.

The provision for depreciation and amortization decreased from the third quarter
and first three  quarters of 1996 due  primarily  to  goodwill  written-off  and
assets  written  down in  connection  with the  1996  asset  impairment  charge,
described  above,  and assets  removed from service in connection  with the 1996
store closings.

Interest  expense  for the  third  quarter  and  first  three  quarters  of 1997
increased compared to the same periods of 1996 primarily due to higher borrowing
levels in 1997.  The Company has  discontinued,  effective  July 21,  1997,  the
accrual of interest on  pre-petition  debt that is  unsecured or estimated to be
unsecured.  The Company also  recorded  interest  income of $4.9  million  ($2.9
million after tax) in the third quarter of 1996 related to a tax benefit arising
out of 1996 legislation and a settlement with the Internal Revenue Service.

The income tax benefit for the first  three  quarters of 1997 was $40.1  million
compared to $38.2  million for the first three  quarters of 1996.  On August 20,
1996, the Small Business Job Protection Act of 1996 was signed into law. Certain
provisions  of  this  Act  clarified  the  Tax  Reform  Act  of  1986  and  made
retroactively tax deductible certain costs and expenses  previously  recorded by
the Company  without any related tax benefit.  In addition,  the Company settled
with the Internal  Revenue Service ("IRS")  regarding  several tax issues.  As a
result, the Company recorded a tax benefit of $23.7 million and related interest
income, discussed earlier. This tax benefit included recoverable income taxes of
$10.0  million and non-cash tax benefits of $13.7  million.  The  effective  tax
rates for both periods were  different from the 35% statutory rate primarily due
to the effect of  goodwill  amortization  and the third  quarter  write-offs  of
goodwill  as  part  of  the  asset  impairment   charges,   both  of  which  are
non-deductible  for income tax purposes,  and due to the tax benefit  related to
1996 legislation and the IRS settlement.  Such tax benefit reflects management's
estimates of the annual effective tax rates at the end of each quarter.


Net Loss

Net loss for the quarter ended August 30, 1997,  was $65.4  million  compared to
$22.9  million  for the same period of 1996.  The net loss for the 1997  quarter
reflects the $10.7 million inventory  write-down,  the  reorganization  items of
$5.1 million,  the $13.1  million  special  charge,  and the $60.5 million asset
impairment  charge,  previously  discussed.  The net loss  for the 1996  quarter
reflects the $5.8 million inventory write-down, the $8.2 million special charge,
the $59.7 million asset impairment  charge, the $23.7 million federal income tax
benefit, and related $4.9 million interest income, previously discussed. Without
these non-routine  items, net loss for the third quarter of 1997 would have been
$3.7  million and net income for the third  quarter of 1996 would have been $3.6
million.

For the first three  quarters of 1997,  net loss was $86.8  million  compared to
$24.6  million  for the same  period of 1996.  The net loss for the 1997  period
reflects the inventory write-down,  the special charge, and the asset impairment
charge, discussed above. The net loss for the 1996 period reflects the inventory
write-down,  the special charge, the asset impairment charge, the federal income
tax benefit,  and the related  interest income,  discussed above.  Excluding the
non-routine items recorded in the third quarters of both years, net loss for the
first three  quarters  of 1997 would have been $25.1  million and net income for
the first three quarters of 1996 would have been $1.9 million.


<PAGE> 14

The following chart presents pro forma results (excluding  non-routine items) in
order to make  appropriate  comparisons of the operating  profile of the Company
for each of the periods presented:

Comparative Operating Data
<TABLE>

(In thousands, except per share amounts)
                                                              Thirteen Weeks Ended
                                 ----------------------------------------------------------------------------
                                            August 30, 1997                            August 24, 1996
                                 ----------------------------------        ----------------------------------
                                                        Historical                                 Historical
                                       Pro Forma        (Including              Pro Forma          (Including
                                      (Excluding        non-routine            (Excluding         non-routine
                                  non-routine items)      items)           non-routine items)        items)
                                 ----------------------------------        ----------------------------------
<S>                                 <C>               <C>                   <C>                 <C>
Net sales and other income          $   633,298       $   633,298           $    725,274        $    725,274
Income from operations before
  depreciation and amortization          17,787             7,094                 37,762              31,915
Income (loss) before income taxes        (9,644)          (98,997)                 9,317             (59,511)
Federal and state income taxes           (5,910)          (33,595)                 5,689             (36,633)
Net income (loss)                        (3,734)          (65,402)                 3,628             (22,878)
Net income (loss) per common
  share                             $    (0.13)       $     (1.68)          $       0.05        $      (0.61)
</TABLE>

<TABLE>
                                                               Thirty-Nine Weeks Ended
                                 ----------------------------------------------------------------------------
                                            August 30, 1997                           August 24, 1996
                                 -----------------------------------       ----------------------------------
                                                          Historical                               Historical
                                     Pro Forma            (Including            Pro Forma          (Including
                                     (Excluding         non-routine            (Excluding         non-routine
                                 non-routine items)         items)         non-routine items)         items)
                                 -----------------------------------       ----------------------------------
<S>                                 <C>               <C>                   <C>                 <C>
Net sales and other income          $1,784,508        $ 1,784,508           $  1,937,411        $  1,937,411
Income from operations before
  depreciation and amortization          48,103            37,410                 91,149              85,302
Income (loss) before income taxes       (37,498)         (126,851)                 5,976             (62,852)
Federal and state income taxes          (12,400)          (40,085)                 4,105             (38,217)
Net income (loss)                       (25,098)          (86,766)                 1,871             (24,635)
Net income (loss) per common
  share                             $    (0.75)       $     (2.29)          $      (0.06)       $      (0.73)
</TABLE>


LIQUIDITY AND CAPITAL RESOURCES

Cash  provided by  operating  activities  was $62.7  million for the first three
quarters  of 1997  compared to $29.4  million  for the same period of 1996.  The
increase in cash from operating activities was primarily caused by a decrease in
merchandise  inventories  and an increase  in trade  accounts  payable,  both in
connection  with the  Chapter 11 filing.  Excluding  these and other  changes in
assets and  liabilities,  cash from  operating  activities  would have been $8.0
million for the first three  quarters of 1997  compared to $62.0 million for the
same period of 1996 primarily due to lower sales and gross  margins.  During the
first three  quarters of 1997 and 1996,  the Company used cash of  approximately
$4.2 million and $10.1 million, respectively, in operating activities related to
the execution of the 1996 and 1995 restructuring plans.

A commitment  for a revolving  credit  facility (the "DIP  Agreement")  has been
entered  into  between the  Company  and the DIP  Lenders  and was  subsequently
approved by the Court.  Certain terms of the DIP Agreement and the Exit Facility
are summarized in Note 1 to Notes to Condensed Financial Statements.  Borrowings
have been  available  under the DIP  Agreement to supplement  cash  generated by
operations  since July 21, 1997. At August 30, 1997, $95.1 million was available
for borrowing under the DIP Agreement.  At August 30, 1997,  there was a working
capital deficit of $157.2 million due to the  reclassification of long-term debt
as current,  partially offset by the  reclassification of current liabilities as
liabilities subject to compromise. Working capital was $131.0 million and $111.8
million at November  30,  1996 and August 24,  1996,  respectively.  The current
ratio at  August  30,  1997,  was .7 to 1 due to the same  factors  causing  the
working capital deficit. The current ratios at November 30, 1996, and August 24,
1996, were 1.41 to 1, and 1.33 to 1, respectively.

The Company believes that its ongoing  operating cash flow and the DIP Agreement
should   enable  the  Company  to  meet   liquidity   requirements   during  the
reorganization  proceeding.  However,  notwithstanding  all  of the  events  and
circumstances  described above, there is substantial uncertainty with respect to
the Company's liquidity.

<PAGE> 15


The DIP Agreement will terminate on the Effective Date or, if earlier,  one year
after the Petition Date, subject to certain other termination provisions. On the
Effective Date, the Company intends to pay all amounts outstanding under the DIP
Agreement. It is currently proposed that such payments will be financed from the
proceeds of the Exit  Facility.  As currently  proposed,  the Exit Facility will
have a  commitment  of $150 million for  revolving  loans with a sublimit of $40
million for letters of credit.  Revolving  credit loans under the Exit  Facility
will bear  interest at the rate of LIBOR plus 2.5% per annum.  The Exit Facility
will be  secured  by the  same  liens  on all the  collateral  securing  the DIP
Agreement.  The Exit  Facility  will contain a number of  financial  conditions,
which the  Company  must meet in order to draw down the  facility.  Among  those
conditions,   the  Company  must:  1)  have  earnings  before  interest,  taxes,
depreciation and amortization (EBITDA) during the four months ended November 29,
1997,  not less than $12.9  million;  2) have a debt to EBITDA ratio of not more
than  7.9 to 1 for the 12  months  preceding  the  Effective  Date;  and 3) have
post-petition  trade  payables of not less than $30.6  million on the  Effective
Date. The Company expects to meet all these conditions, however, notwithstanding
all of the  events  and  circumstances  described  above,  there is  substantial
uncertainty with respect to the Company's ability to meet these conditions.

The Company's  primary  investing  activities are capital  expenditures  for the
implementation  of the  Company's  Dual Path  strategy,  renovation  of existing
stores, and additional equipment. The DIP Agreement limits the amount of capital
expenditures,  which can be made ($69 million in fiscal 1997, $21 million in the
first  quarter of fiscal  1998 and $17  million in the second  quarter of fiscal
1998, subject to certain  adjustments).  The Company spent  approximately  $33.8
million  and $27.6  million  during the first  three  quarters of 1997 and 1996,
respectively,  for the  implementation  of the  Company's  Dual  Path  strategy,
including the  acquisition of a door and trim  manufacturer  during January 1996
and a truss manufacturer  during March 1997,  renovation of existing stores, and
additional  equipment.  The Company intends to finance the remaining fiscal 1997
capital  expenditures of approximately $35 million,  consisting primarily of the
implementation  of the  Company's  Dual Path  strategy,  renovation  of existing
stores and  additional  equipment,  with funds  generated  from  operations  and
borrowings  under the DIP  Agreement.  The  Company has  continued  to sell real
estate from  facilities  closed in 1995 and 1996  resulting in cash  proceeds of
$12.3 million and $12.6  million for the first three  quarters of 1996 and 1997,
respectively.

On July 21, 1997,  the Company also announced its plan to close 29 stores and to
eliminate  approximately  15% of the  staff at the  Company's  headquarters  and
regional  administrative  centers. The Court subsequently  approved such plan on
August  6,  1997.  See  Notes 3, 4, and 5 to the  Notes to  Condensed  Financial
Statements for a description of related charges recorded in the third quarter of
1997.


FORWARD-LOOKING STATEMENTS

Statements above in the sections entitled "Petition For Relief Under Chapter 11"
and "Liquidity and Capital Resources" such as "unlikely", "intend", "estimated",
"believe",  "expect",   "anticipate"  and  similar  expressions  which  are  not
historical are forward-looking  statements that involve risks and uncertainties.
Such statements  include,  without limitation,  the Company's  expectation as to
future performance.

Such forward-looking  statements are made pursuant to the safe harbor provisions
of the  Private  Securities  Litigation  Reform Act of 1995.  There are  certain
important  factors  that could  cause  results to differ  materially  from those
anticipated by some of the statements  made above.  Investors are cautioned that
all forward-looking statements involve risks and uncertainty. In addition to the
factors discussed above, among the other factors that could cause actual results
to differ  materially  are the  following:  consumer  spending  and debt levels;
interest rates; housing activity;  lumber prices; product mix; growth of certain
market segments; competitor activities; an excess of retail space devoted to the
sale of  building  materials;  success of the Dual Path  strategy;  the need for
Bankruptcy  Court  approvals;  the  adequacy  of and  compliance  with  the  DIP
financing  and the Exit  financing;  stability  of customer  demand and supplier
support;  timely emergence from Chapter 11; and the many uncertainties  involved
in  operating  a business  in a Chapter 11  bankruptcy  environment.  Additional
information  concerning  certain of these and other  factors is contained in the
Company's Securities and Exchange Commission filings,  including but not limited
to the Form 10-K and Form 10-Q,  copies of which are available  from the Company
without charge or on the Company's web site, payless.cashways.com.


<PAGE> 16


REVIEW BY INDEPENDENT AUDITORS

The condensed  financial  statements of Payless Cashways,  Inc. for the thirteen
week and  thirty-nine  week periods ended August 30, 1997,  and August 24, 1996,
have been reviewed by KPMG Peat Marwick LLP, independent auditors.  Their report
is included in this filing.


                        PART II -- OTHER INFORMATION

Item 1.  Legal Proceedings.

         On July 21,  1997,  the Company  filed a voluntary  petition for relief
under  Chapter 11 of Title 11 of the  United  States  Code in the United  States
Bankruptcy Court for the Western District of Missouri in Kansas City. During the
course of its Chapter 11 case, the Company will continue business  operations as
a debtor-in-possession. As a debtor-in-possession, the Company may not engage in
operations  outside the normal course of business without approval of the Court.
See  Note  1  to  Notes  to  Condensed  Financial  Statements  and  Management's
Discussion  and  Analysis  of  Financial  Condition  and  Results of  Operations
included elsewhere in this filing.

         A group of terminated employees and others have filed a lawsuit against
the Company and other named  defendants in the United States  District Court for
the Southern  District of Iowa. (See the full description of the lawsuit in Item
3-Legal  Proceedings  contained  in the  Company's  Form 10-K for the year ended
November 30,  1996.) The lawsuit was brought in  connection  with a reduction in
force pursuant to a January 1994 restructuring.  The suit has asserted a variety
of  claims  including  federal  and  state  securities  fraud  claims,   alleged
violations of the Racketeer  Influenced  and Corrupt  Organizations  (RICO) Act,
federal  and  state  claims of age  discrimination,  alleged  violations  of the
Employment  Retirement Income Security Act of 1974, and various state law claims
including,  but not limited to, fraudulent  misrepresentation  allegations.  The
Company filed a motion to dismiss the majority of the claims; and Rulings and an
Order have been issued with respect thereto, substantially narrowing plaintiff's
legal  claims  by  dismissing  some  age  discrimination   claims,  all  federal
securities  fraud and RICO  claims  except  one each,  and all state law  claims
related  to an  alleged  partnership.  The  Former  Employee's  motion for class
certification  has been  denied  on all  claims  except  the age  discrimination
claims.  No ruling has been  entered on the Former  Employee's  motion for class
certification  of certain  age  discrimination  claims.  Each of the parties has
conducted discovery pursuant to the court's scheduling order and discovery plan.
The lawsuit has been formally  stayed  pursuant to the automatic  stay issued by
the Bankruptcy Court following the voluntary Chapter 11 reorganization filing on
July  21,  1997.  The  Company  denies  any and  all  claimed  liability  and is
vigorously  defending  this  litigation,  but is unable to  estimate a potential
range of  monetary  exposure,  if any,  to the  Company or to predict the likely
outcome of this matter.

Item 3.  Defaults Upon Senior Securities.

         The  information  required  by  Part  II,  Item  3,  of  Form  10-Q  is
incorporated  by  reference  from  Notes  9 and  10 of the  Condensed  Financial
Statements and Management's  Discussion and Analysis of Financial  Condition and
Results of Operation Liquidity and Capital Resources, set forth herein.

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

         None.

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

         a.     Exhibits.

                 2.1     First  Amended  Plan  of  Reorganization,  as  modified
                         October  9, 1997.

                 4.0     Long-term  debt  instruments  of Payless in amounts not
                         exceeding  ten  percent  (10%) of  the  total assets of
                         Payless will be furnished to the Commission upon 
                         request.

                 4.1     Revolving  Credit  Agreement dated July 21, 1997, among
                         Payless,  the  Banks  listed  on  the  signature  pages
                         thereof and Canadian  Imperial  Bank of  Commerce,  New
                         York Agency,  as  Administrative  Agent and  Collateral
                         Agent.


<PAGE> 17


                 4.2     Security and Pledge Agreement dated July 21, 1997, made
                         by Payless for the benefit of Canadian Imperial Bank of
                         Commerce,  New York Agency, as Administrative Agent and
                         Collateral  Agent,  and the banks  and other  financial
                         institutions  party to the Amended and Restated  Credit
                         Agreement.

                10.1*    Amendment  No. 2  to Employment  Agreement  dated as of
                         June 30, 1997,  between Payless and Susan M. Stanton.

                10.2*    Amendment  No.  2  to Employment  Agreement dated as of
                         June  30,  1997,    between   Payless  and  Stephen  A.
                         Lightstone.

                10.3*    Amendment  No. 1. to Employment  Agreement  dated as of
                         June 30, 1997, between Payless and G. Michael Buchen.

                10.4*    Change in Control  Agreement dated as of June 26, 1997,
                         between Payless and Richard E. Nawrot.

                10.5*    Change in Control  Agreement dated as of June 26, 1997,
                         between Payless and E. J. Holland, Jr.

                10.6*    Change in Control  Agreement dated as of June 26, 1997,
                         between Payless and Robert S. Islinger.

                11.1     Computation of per share loss.

                15.1     Letter re unaudited  financial  information - KPMG Peat
                         Marwick LLP.

                27.1     Financial data schedule.

*        Represents a management contract or a compensatory plan or arrangement.

         b. Reports on Form 8-K.

                No reports on Form 8-K were filed by Payless  during the quarter
ended August 30, 1997.


<PAGE> 18


                                  SIGNATURE


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


                                                 PAYLESS CASHWAYS, INC.
                                                 (Registrant)


Date:  October 13, 1997                    By:   /s/ Stephen A. Lightstone
                                                 ------------------------------

                                                 Stephen A. Lightstone, Senior
                                                 Vice President, Finance and
                                                 Chief Financial Officer
                                                 (Principal Financial Officer
                                                 and Principal Accounting
                                                 Officer)