<PAGE>
 
                                 UNITED STATES
                      SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C. 20549
                                        
                                   FORM 10-Q
                                        
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
    ACT OF 1934

               FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998
                                        
                                      OR
                                        
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
    ACT OF 1934

                      For the Transition Period From    to
                                        
                         Commission file number 0-23422
    
                         ----------------------------

                              DRYPERS CORPORATION
             (Exact name of Registrant as specified in its charter)
                                        
            Delaware                                   76-0344044
(State or other jurisdiction of                      (IRS Employer
incorporation or organization)                   Identification Number)

        5300 Memorial, Suite 900
            Houston, Texas                                77007
(Address of principal executive offices)               (Zip Code)

    Registrant's telephone number, including the area code:  (713) 869-8693

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

         (Class)                            (Outstanding at November 1, 1998)
          -----                              ------------------------------- 
Common Stock, $.001 Par Value                           17,658,925
<PAGE>
 
PART I.  FINANCIAL INFORMATION

ITEM 1. UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The following information required by Rule 10-01 of Regulation S-X is provided
herein for Drypers Corporation and subsidiaries:

Consolidated Balance Sheets -- December 31, 1997 and September 30, 1998.

Consolidated Statements of Earnings for the Three Months and Nine Months Ended
September 30, 1997 and  1998.

Consolidated Statement of Stockholders' Equity for the Nine Months Ended
September 30, 1998.

Consolidated Statements of Cash Flows for the Nine Months Ended September 30,
1997 and 1998.

Notes to Consolidated Financial Statements.

                                       i
<PAGE>
 
                      DRYPERS CORPORATION AND SUBSIDIARIES

                          CONSOLIDATED BALANCE SHEETS
                       (IN THOUSANDS, EXCEPT SHARE DATA)
                                        
<TABLE>
<CAPTION>
                                                                                              December 31,            September 30,
                                       ASSETS                                                     1997                    1998
                                       ------                                                 ------------           --------------
                                                                                                                       (UNAUDITED)
<S>                                                                                           <C>                    <C> 
CURRENT ASSETS:
  Cash and cash equivalents...................................................                  $  9,269                  $ 16,029
  Accounts receivable, net of allowance for doubtful accounts of $2,064 and
       $2,317, respectively...................................................                    33,941                    44,581
  Inventories.................................................................                    21,090                    27,114
  Prepaid expenses and other..................................................                    12,730                    29,811
                                                                                                --------                  --------  
         Total current assets.................................................                    77,030                   117,534
PROPERTY AND EQUIPMENT, net of depreciation and amortization of  $17,769
     and $21,906 respectively.................................................                    53,270                    78,388
INTANGIBLE AND OTHER ASSETS, net of amortization of $13,438 and                                                                    
     $16,105, respectively...........................................................             74,932                    96,953 
                                                                                                --------                  --------
                                                                                                $205,232                  $292,874
                                                                                                ========                  ========
                        LIABILITIES AND STOCKHOLDERS' EQUITY
                        ------------------------------------
CURRENT LIABILITIES:
  Short-term borrowings.......................................................                  $     --                  $ 22,638
  Current portion of long-term debt...........................................                     1,593                     3,540
  Accounts payable............................................................                    16,558                    29,160
  Accrued liabilities.........................................................                    10,151                    21,715
                                                                                                --------                  --------
         Total current liabilities............................................                    28,302                    77,052
LONG-TERM DEBT................................................................                     1,755                     3,221
SENIOR TERM NOTES.............................................................                   115,000                   146,024
OTHER LONG-TERM LIABILITIES...................................................                     4,595                    11,722
                                                                                                --------                  --------
                                                                                                 149,652                   238,019
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
  Preferred stock, $.01 par value, 5,000,000 shares authorized, 61,110 and
       -0- shares issued and outstanding, respectively........................                         1                        --
  Common stock, $.001 par value, 30,000,000 shares authorized, 10,513,223 and
        17,658,925 shares issued and outstanding, respectively................                        10                        18
  Additional paid-in capital..................................................                    69,998                    75,210
  Warrants....................................................................                     1,097                       180
  Retained deficit............................................................                   (15,526)                  (19,475)
  Foreign currency translation adjustments....................................                        --                    (1,078)
                                                                                                --------                  --------
         Total stockholders' equity...........................................                    55,580                    54,855
                                                                                                --------                  --------
                                                                                                $205,232                  $292,874
                                                                                                ========                  ========
</TABLE>

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

                                       1
<PAGE>
 
                     DRYPERS CORPORATION AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF EARNINGS
                       (IN THOUSANDS, EXCEPT SHARE DATA)
                                        
<TABLE>
<CAPTION>
                                                                    Three Months Ended                      Nine Months Ended
                                                                       September 30                           September 30
                                                          --------------------------------        --------------------------------
                                                               1997             1998                   1997              1998
                                                          ---------------  ---------------        ---------------  ---------------
                                                                                          (unaudited)             
<S>                                                       <C>              <C>                    <C>              <C>
NET SALES.........................................           $    80,086      $    86,394            $   212,798      $   245,791
COST OF GOODS SOLD................................                48,385           52,772                130,124          147,688
                                                             -----------      -----------            -----------      -----------
   Gross profit...................................                31,701           33,622                 82,674           98,103
SELLING, GENERAL AND ADMINISTRATIVE                                                                                   
  EXPENSES........................................                25,234           30,655                 67,167           90,531
                                                             -----------      -----------            -----------      -----------
   Operating income...............................                 6,467            2,967                 15,507            7,572
INTEREST EXPENSE, net.............................                 2,683            4,530                  6,893           12,433
OTHER INCOME (EXPENSE)............................                   (68)           1,987                    (26)           2,262
                                                             -----------      -----------            -----------      -----------
INCOME (LOSS)  BEFORE INCOME TAX PROVISION
 (BENEFIT)........................................                 3,716              424                  8,588           (2,599)
INCOME TAX PROVISION (BENEFIT)....................                   966             (277)                 1,682            1,270
                                                             -----------      -----------            -----------      -----------
INCOME (LOSS) BEFORE EXTRAORDINARY                                                                                         (3,869)
     ITEM.........................................                 2,750              701                  6,906      
EXTRAORDINARY ITEM, costs of early extinguishment                                                                     
 of debt..........................................                    --               --                 (7,769)              --
                                                             -----------      -----------            -----------      ----------- 
NET INCOME (LOSS).................................                 2,750              701                   (863)          (3,869)
PREFERRED STOCK DIVIDEND..........................                   127               --                    463               80
                                                             -----------      -----------            -----------      -----------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON                                                                              
 STOCKHOLDERS.....................................           $     2,623      $       701            $    (1,326)     $    (3,949)
                                                             ===========      ===========            ===========      ===========  
                                                                                                                                   
INCOME (LOSS) PER COMMON SHARE:                                                                                       
INCOME (LOSS) BEFORE                                                                                                  
 EXTRAORDINARY ITEM:                                                                                                  
   Basic..........................................           $       .27      $       .04            $       .76      $      (.25) 
                                                             ===========      ===========            ===========      ===========  
   Diluted........................................           $       .15      $       .04            $       .37      $      (.25) 
                                                             ===========      ===========            ===========      =========== 
 EXTRAORDINARY ITEM:                                                                                                  
   Basic..........................................                    --               --            $      (.92)     $        -- 
                                                             ===========      ===========            ===========      =========== 
   Diluted........................................                    --               --            $      (.42)     $        -- 
                                                             ===========      ===========            ===========      =========== 
 NET INCOME (LOSS):                                                                                                   
   Basic..........................................           $       .27      $       .04            $      (.16)           (.25)
                                                             ===========      ===========            ===========      ==========
   Diluted........................................           $       .15      $       .04            $      (.05)           (.25)
                                                             ===========      ===========            ===========      ==========
COMMON SHARES OUTSTANDING.........................             9,656,877       17,360,880              8,456,855      15,589,704
                                                             ===========      ===========            ===========      ==========
COMMON AND POTENTIAL COMMON SHARES OUTSTANDING....            18,605,329       18,271,276             18,624,677      15,589,704
                                                             ===========      ===========            ===========      ==========
</TABLE>

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

                                       2
<PAGE>
 
                      DRYPERS CORPORATION AND SUBSIDIARIES

                 CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
                       (IN THOUSANDS, EXCEPT SHARE DATA)

<TABLE>
<CAPTION>
                                 Preferred     Common                                                          Foreign
                                  Shares       Shares                        Additional                        Currency
                                Issued and   Issued and   Preferred  Common    Paid-in             Retained   Translation
                                Outstanding  Outstanding    Stock    Stock     Capital   Warrants  Deficit    Adjustments
                                -----------  -----------  ---------  -----   ---------   --------  --------   -----------
<S>                             <C>          <C>          <C>        <C>     <C>         <C>         <C>        <C>
BALANCE, December 31, 1997....     61,110     10,513,223      $ 1      $10     $69,998     $1,097    $(15,526)      $    --
 Issuance of common stock in 
 connection with an acquisition
  (unaudited).................         --        403,571       --       --       2,825         --          --            --
Conversion of preferred stock                                                                       
  and dividends into common                                                                         
  stock (unaudited)...........    (61,110)     6,292,364       (1)       7       1,058         --          --            --
Preferred stock dividends                                                                           
  ($ 1.25 per share)                                                                                
  (unaudited).................         --             --       --       --          --         --         (80)           -- 
Effect of stock option and                                                                          
  stock purchase plans                                                                              
  (unaudited).................         --         67,266       --        1         348         --          --            -- 
Exercise of warrants                                                                                
  (unaudited).................         --        382,501       --                  980       (917)         --            -- 
Net loss(unaudited)...........         --             --       --       --          --         --      (3,869)           --
Translation adjustments                                                                             
  (unaudited).................         --             --       --       --          --         --          --        (1,078)        

                                 --------    -----------    -----      ---     -------     ------    --------       -------
BALANCE, September 30, 1998                                                                         
  (unaudited).................         --     17,268,925    $  --      $18     $75,210     $  180    $(19,475)      $(1,078)
                                 ========     ==========    =====      ===     =======     ======    =========      =======
</TABLE>

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

                                       3
<PAGE>
 
                      DRYPERS CORPORATION AND SUBSIDIARIES

                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                                                   Nine Months Ended
                                                                                                      September 30
                                                                                        -------------------------------------
                                                                                              1997                  1998
                                                                                        ----------------    -----------------
                                                                                                     (unaudited)
<S>                                                                                       <C>                 <C>
CASH FLOWS FROM OPERATING ACTIVITIES:                                                                   
 Net loss.......................................................................           $   (863)           $ (3,869)
 Adjustments to reconcile net loss to net cash used in operating activities                             
   Depreciation and amortization................................................              6,187               7,313
   Non-cash portion of extraordinary item.......................................              3,745                  --
   Write-off of machinery and equipment resulting from Argentina fire...........                 --               2,894
   Deferred income taxes........................................................                 --              (1,839)
   Other........................................................................                (43)                  6
   Changes in operating assets and liabilities, net of acquisitions --                                  
     Increase in --                                                                                     
        Accounts receivable.....................................................             (8,647)             (9,913)
        Inventories.............................................................             (2,199)             (3,908)
        Prepaid expenses and other..............................................             (2,182)             (8,479)
        Effect of insurance receivable resulting from Argentina fire............                 --             (10,008)
      Increase in--                                                                                     
        Accounts payable........................................................                105               4,308
        Accrued and other liabilities...........................................              2,479               8,919
                                                                                           --------            --------
           Net cash used in operating activities................................             (1,418)            (14,082)
                                                                                           --------            --------
CASH FLOWS FROM INVESTING ACTIVITIES:                                                                   
  Purchase of property and equipment............................................            (12,364)            (18,336)
  Investment in Brazilian venture, net of cash acquired.........................             (9,827)             (3,943)
  Investment in Malaysian diaper manufacturer, net of cash acquired.............                 --             (10,207)
  Investment in other noncurrent assets.........................................             (1,592)             (1,568)
  Payments under noncompete agreement...........................................             (1,301)                 --
                                                                                           --------            --------
       Net cash used in investing activities....................................            (25,084)            (34,054)
                                                                                           --------            --------
CASH FLOWS FROM FINANCING ACTIVITIES:                                                                   
  Borrowings under senior term notes............................................            115,000              31,087
  Payments on senior term notes.................................................            (43,434)                 --
  Borrowings under working capital facility.....................................             10,000                  --
  Payments under working capital facility.......................................            (10,000)                 --
  Borrowings under revolvers....................................................             79,296              57,738
  Payments on revolvers.........................................................            (94,918)            (35,100)
  Borrowings under (payments on) other debt.....................................             (5,470)              4,320
  Financing related costs.......................................................             (4,431)             (2,836)
  Proceeds from exercise of stock options and warrants..........................                282                 181
                                                                                           --------            --------
       Net cash provided by financing activities................................             46,325              55,390
                                                                                           --------            --------
NET INCREASE IN CASH AND CASH EQUIVALENTS.......................................             19,823               6,760
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD................................              4,923               9,269
                                                                                           --------            --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD......................................           $ 24,746            $ 16,029
                                                                                           ========            ========
SUPPLEMENTAL DATA:                                                                                      
 Cash paid during the period for:                                                                       
    Interest payments...........................................................           $  5,041            $  7,346
    Income tax payments.........................................................           $     70            $  1,957
 Non-cash investing activities:                                                                         
    Common stock issued for Malaysia acquisition................................           $     --            $  2,825
    Warrants issued to financial institution for services provided in                      
         connection with providing a working capital facility................              $     50            $    --  
    Cancellation of outstanding receivable due from Brazilian affiliate in                              
         connection with an acquisition.........................................           $  2,167            $    --

</TABLE>

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

                                       4
<PAGE>
 
                      DRYPERS CORPORATION AND SUBSIDIARIES
                                        
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)
                                        
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
 
     The consolidated financial statements included herein have been prepared by
Drypers Corporation (the "Company"), without audit, in accordance with Rule 10-
01 of Regulation S-X for interim financial statements required to be filed with
the Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations, although the Company believes the
disclosures are adequate to make the information presented not misleading. The
financial statements included herein should be reviewed in conjunction with the
Company's December 31, 1997 financial statements and related notes thereto.
Accounting measurements at interim dates inherently involve greater reliance on
estimates than at year end. The results of operations for the three months and
nine months ended September 30, 1998 are not necessarily indicative of the
results that will be realized for the fiscal year ending December 31, 1998.

     The unaudited consolidated financial information as of and for the three-
month and nine-month periods ended September 30, 1997 and 1998, has not been
audited by independent accountants, but in the opinion of management of the
Company, all adjustments (consisting only of normal, recurring adjustments)
necessary for a fair presentation of the consolidated balance sheet, statements
of earnings, statement of stockholders' equity and statements of cash flows at
the date and for the interim periods indicated have been made.
 
     In March 1998, Statement of Position ("SOP") 98-1, "Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use", was issued
by the American Institute of Certified Public Accountants. SOP 98-1 requires
that certain costs related to computer software developed or obtained for
internal use be expensed as incurred. The Company is required to adopt SOP 98-1
as of January 1, 1999. The company does not expect the adoption of SOP 98-1 to
have a material effect on its financial position or results of operations.

     In April 1998, SOP 98-5, "Reporting on the Costs of Start-Up Activities",
was issued by the American Institute of Certified Public Accountants. SOP 98-5
requires that all nongovernmental entities expense costs of start-up activities
as those costs are incurred. The Company is required to adopt SOP 98-5 as of
January 1, 1999. The Company does not expect the adoption of SOP 98-5 to have a
material effect on its financial position or results of operations.

     In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities". This statement
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities. It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. The Company is required to adopt SFAS No. 133 as of January 1,
2000 and does not expect the adoption of this statement to have a material
effect on its financial position or results of operations.

                                       5
<PAGE>
 
                     DRYPERS CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                                  (UNAUDITED)
                                        
2. EARNINGS PER SHARE

     As of December 31, 1997, the Company adopted SFAS No. 128, "Earnings Per
Share". SFAS No. 128 requires dual presentation of basic and diluted earnings
per share ("EPS") data and restatement of all prior periods presented. Basic EPS
is computed using the weighted average number of common shares outstanding
during the period. Diluted EPS gives effect to the potential dilution of
earnings which may have occurred if dilutive potential common shares had been
issued. The following reconciles the income and shares used in the basic and
diluted EPS computations (in thousands, except share data):
 
<TABLE>
<CAPTION>
                                                          Three Months Ended                            Nine Months Ended
                                                             September 30                                  September 30
                                                 -------------------------------------        --------------------------------------

                                                      1997                   1998                  1997                   1998
                                                 ---------------        --------------        ---------------        ---------------
                                                                                     (unaudited)
Basic Earnings Per Share:                      
-------------------------                      
<S>                                                <C>                   <C>                    <C>                    <C> 
Income (loss) before extraordinary item, less  
 preferred  stock dividend....................      $     2,623            $       701           $     6,443            $    (3,949)
Extraordinary item............................               --                     --                (7,769)                    --
                                                    -----------            -----------           -----------            -----------
Net income (loss) attributable to common       
 stockholders.................................      $     2,623            $       701           $    (1,326)           $    (3,949)
                                                    ===========            ===========           ===========            ===========
Weighted average number of common shares       
 outstanding..................................        9,656,877             17,360,880             8,456,855             15,589,704
                                                    ===========            ===========           ===========            =========== 
Income (loss) before extraordinary item.......      $       .27            $       .04           $       .76            $      (.25)
Extraordinary item............................               --                     --                  (.92)                    --
                                                    -----------            -----------           -----------            -----------
Net income (loss).............................      $       .27            $       .04           $      (.16)           $      (.25)
                                                    ===========            ===========           ===========            ===========
Diluted Earnings Per Share:                    
---------------------------                    
Income (loss) before extraordinary item.......      $     2,750            $       701           $     6,906            $    (3,949)
Extraordinary item............................               --                     --                (7,769)                    --
                                                    -----------            -----------           -----------            -----------
Net income (loss).............................      $     2,750            $       701           $      (863)           $    (3,949)
                                                    ===========            ===========           ===========            ===========
Weighted average number of common shares                                                                                            
 outstanding..................................        9,656,877             17,360,880             8,456,855             15,589,704 
Dilutive effect - options and warrants........        2,180,517                910,396             1,956,899                     --
Dilutive effect - preferred stock.............        6,767,935                     --             8,210,923                     --
                                                    -----------            -----------           -----------            -----------
                                                     18,605,329             18,271,276            18,624,677             15,589,704
                                                    ===========            ===========           ===========            ===========
Income (loss) before extraordinary item.......      $       .15            $       .04           $       .37            $      (.25)
Extraordinary item............................               --                     --                  (.42)                    --
                                                    -----------            -----------           -----------            -----------
Net income (loss).............................      $       .15            $       .04           $      (.05)           $      (.25)
                                                    ===========            ===========           ===========            ===========
</TABLE>

     Common shares from the exercise or conversion of options, warrants and
convertible preferred stock excluded from the diluted earnings per share
calculation because their effect was antidilutive to the calculation totaled
24,995 and 958,434 for the three months ended September 30, 1997 and 1998,
respectively, and 39,995 and 848,434 for the nine months ended September 30,
1997 and 1998, respectively.

                                       6
<PAGE>
 
3. COMPREHENSIVE INCOME

     In 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive
Income", which requires companies to display comprehensive income and its
components in the financial statements. Comprehensive income (loss), which
encompasses net income and currency translation adjustments, is as follows:
 
<TABLE>
<CAPTION>
                                                          Three Months Ended                         Nine Months Ended
                                                             September 30                               September 30
                                                  -----------------------------------        ----------------------------------
                                                       1997                 1998                 1997              1998
                                                  --------------        -------------        ------------   -------------------
                                                                                   (unaudited)
<S>                                                <C>                   <C>                  <C>                <C>
Net income (loss) attributable to common            $(2,623)              $   701              $(1,326)            $(3,949)
 stockholders                                    
Currency translation adjustments                         --                (1,078)                  --              (1,078)
                                                    -------               -------              -------             -------
Comprehensive income (loss)                         $(2,623)              $  (377)             $(1,326)            $(5,027)
                                                    =======               =======              =======             =======
</TABLE>
 
4. ACQUISITIONS

     On April 6, 1998, the Company exercised its fair value option to acquire 
the remaining equity interest in the parent company of Chansommes do Brasil Ind.
e Com. Ltda. ("Chansommes"), the Brazilian manufacturer of its diapers.  The 
acquisition was accounted for as a purchase, and the purchase price of 
$9,250,000 was allocated to the acquired assets and liabilities assumed based on
their estimated fair values (property and equipment of $11,069,000 and 
liabilities of $10,392,000).  The consideration paid for Chansommes exceeded the
estimated fair market value of the net tangible assets acquired by approximately
$8,573,000 and this excess was recorded as goodwill.  This transaction 
effectively gives the Company a 100% ownership interest in the Brazilian 
manufacturer of its diapers.

     Effective September 11, 1998, the Company acquired certain assets and
assumed certain liabilities of Primosoft, a Malaysian manufacturer of baby
diapers, for approximately $2,825,000 of the Company's common stock (403,571
shares issued on September 11, 1998) and approximately $10,290,000 in cash. The
acquisition was accounted for as a purchase, and the purchase price was
allocated to the acquired assets and liabilities assumed based on their
estimated fair values (current assets $2,618,000, property and equipment of
$3,093,000 and liabilities of $257,000). The consideration paid for Primosoft
exceeded the estimated fair market value of the net tangible assets acquired by
approximately $7,661,000 and this excess was recorded as goodwill.

5. FIRE AT ARGENTINA FACILITY

     On August 8, 1998, the Company's manufacturing facility in Argentina was
extensively damaged as a result of a fire. There were no employee injuries
resulting from the fire. In addition to physical damage to the facility, the
fire resulted in the loss of a portion of the finished goods and raw material
inventory. Two of the four diaper manufacturing lines were completely destroyed
and the remaining two lines were partially damaged. The Company maintained
insurance to cover damage to the Company's property, business interruption and
extra expense claims. The Company has invested additional funds for relocation
to a new leased facility in Argentina and anticipates that these costs will be
covered by insurance.

     As of September 30, 1998, the Company had received interim payments of
$200,000 on its claim and to date has received approximately $3,600,000 in
interim payments. As of September 30, 1998, the Company has recorded
approximately $2,300,000 in Other Income primarily related to proceeds to be
received under the Company's property damage claim as well as lost profits
recoverable under the Company's business interruption policy for the months of
August and September 1998. The Company is engaging in the claim process and
settlement discussions with its insurers regarding additional insurance proceeds
to which the Company believes it is entitled. As of September 30, 1998,
approximately $1,300,000 has been recorded as a deferred gain and is included in
Accrued Liabilities. The Company expects to record a nonrecurring gain as Other
Income, representing the difference between the property insurance settlement on
the machinery and equipment with the Company's insurers and the carrying value
of the machinery and equipment at the time of the fire. The amount of the gain
will be dependent on final diaper line manufacturer quotes, installation costs,
start-up costs, and other cost estimates and the final settlement reached with
the Company's insurance carriers.

     As of September 30, 1998, the Company has recorded in Other Current Assets
a receivable due from the insurance carriers of approximately $10,000,000
related to the Argentina fire. This receivable is comprised of the replacement
cost of

                                       7
<PAGE>
 
damaged inventory and the estimated replacement cost of the Company's diaper
manufacturing lines to be recovered under the property portion of the insurance
claim as well as estimated lost profits and fixed and incremental expenses for
the months of August and September 1998 to be recovered under the business
interruption portion of the insurance claim. Management believes this is a
reasonable estimate of insurance proceeds to be received, and will periodically
review such amount for possible adjustment, if necessary, in the future. Of the
total receivable amount, $3,600,000 has been received to date.

6. INVENTORIES

     Inventories consisted of the following (in thousands):

<TABLE>
<CAPTION>
                                                                     December 31,                September 30,
                                                                        1997                        1998
                                                                -------------------         -------------------
                                                                                                 (unaudited)
<S>                                                                   <C>                         <C>
           Raw Materials......................................         $ 6,948                     $12,010
           Finished Goods.....................................          14,142                      15,103
                                                                       -------                     -------
                                                                       $21,090                     $27,114
                                                                       =======                     =======
</TABLE>

     Inventories are stated at the lower of cost (first-in, first-out) or market
value. Finished goods inventories include the cost of materials, labor and
overhead.

7. DEBT

Short-Term Borrowings
 
     On April 1, 1998, the Company entered into a three-year $50,000,000 credit
facility with BankBoston, N.A. to replace the Company's former revolving credit
facility. The credit facility permits the Company to borrow under a borrowing
base formula equal to the sum of 75% of the aggregate net book value of its
accounts receivable and 50% of the aggregate net book value of its inventory on
a consolidated basis, subject to additional limitations on incurring debt. The
credit facility bears interest in the range of prime to prime plus 3/4%, or
LIBOR plus 1 1/2% to LIBOR plus 2 1/2%, in each case based on the Company's debt
to EBITDA ratio determined on a quarterly basis. The credit facility is secured
by substantially all of the Company's assets. At September 30, 1998, the
Company's borrowing base would have permitted the Company to borrow up to an
additional $23,100,000. As of September 30, 1998, borrowings outstanding under
this facility were approximately $22,638,000.

     The credit facility requires the Company, among other things, to maintain a
minimum consolidated net worth, as defined, a minimum consolidated fixed charge
coverage ratio, as defined, a maximum consolidated funded debt to adjusted
consolidated EBITDA ratio, as defined, and a maximum level of annual capital
expenditures. The Company was in compliance with the terms of the credit
facility as of September 30, 1998.
 
Long-Term Debt

  Long-term debt consisted of the following (in thousands):

<TABLE>
<CAPTION>
                                                                          December 31,        September 30,
                                                                              1997                1998
                                                                       ------------------   -----------------
                                                                                               (unaudited)
<S>                                                                         <C>                 <C>
Note payable, due 2001, interest at 8.4%, partially secured by land
 and buildings......................................................         $ 1,950             $ 1,755
Various other notes payable.........................................           1,398               5,006
                                                                             -------             -------
                                                                               3,348               6,761
  Less: current maturities..........................................          (1,593)             (3,540)
                                                                             -------             -------
                                                                             $ 1,755             $ 3,221
                                                                             =======             =======
</TABLE>

                                       8
<PAGE>
 
Senior Term Notes

 Long-term debt under senior term notes consisted of the following (in
thousands):

<TABLE>
<CAPTION>
                                                                         December 31,        September 30,
                                                                             1997                 1998
                                                                      ------------------   ------------------
                                                                                              (unaudited)
<S>                                                                      <C>                  <C>
10 1/4% Senior Notes, interest due semiannually on September 15
      and December 15, principal due September 15, 2007,                  
      including unamortized bond premium of $-- and $1,024,              
      respectively                                                         $115,000            $146,024
                                                                           ========            ======== 
</TABLE>

     On June 24, 1997, the Company closed a private issuance of
$115,000,000 aggregate principal amount of its 10 1/4% Senior Notes due 2007
("10 1/4% Senior Notes"). Proceeds from the offering of the 10 1/4% Senior Notes
were used to repurchase $43,400,000 of the $45,000,000 in principal amount of
the Company's outstanding 12 1/2% Senior Notes pursuant to a tender offer
therefore, to repay a $10,000,000 working capital facility, to repay borrowings
outstanding under the Company's revolving credit facility, to repay a term loan
with a bank and to repay the Company's junior subordinated debt and other
indebtedness and for general corporate purposes. In connection with these
transactions, the Company recognized an extraordinary expense of $7,769,000 for
the write-off of capitalized debt issuance costs and prepayment and other fees,
of which $3,745,000 was non-cash. On December 10, 1997, the Company redeemed the
remaining $1,600,000 of 12 1/2% Senior Notes pursuant to an optional redemption
provision. The Company completed an exchange offer on October 14, 1997, pursuant
to which all of the 10 1/4% Senior Notes issued at that time were tendered for a
like principal amount of new notes with identical terms which may be offered and
sold by the holders without restrictions or limitations under the Securities Act
of 1933, as amended.

     On March 17, 1998, the Company closed a private issuance of an additional
$30,000,000 of 10 1/4% Senior Notes (the "New Senior Notes") at a price of
103.625% of the principal amount thereof. The New Senior Notes were issued under
the same indenture as the June 1997 issuance of 10 1/4% Senior Notes. Proceeds
of the issuance of the New Senior Notes were used to repay all outstanding
indebtedness under the revolving credit facility and the remaining proceeds have
been and will be used for general corporate purposes, including capital
expenditures. The Company completed an exchange offer on July 13, 1998, pursuant
to which all of the New Senior Notes were tendered for a like principal amount
of new notes with identical terms which may be offered and sold by the holders
without restrictions or limitations under the Securities Act of 1933, as
amended.

     The indenture governing the 10 1/4% Senior Notes and the New Senior Notes
contains certain covenants that, among other things, limit the Company's ability
to incur additional indebtedness; pay dividends; purchase capital stock; make
certain other distributions, loans and investments; sell assets; enter into
transactions with related persons; and merge, consolidate or transfer
substantially all of its assets. The indenture also contains provisions for
acceleration of payment of principal upon a change of control, as defined.

8. COMMITMENTS AND CONTINGENCIES
 
     The Company is currently negotiating a lease financing arrangement for an
additional training pant line. Furthermore, the Company has committed to
purchase two additional replacement diaper lines to be delivered to its
Argentina facility in 1999. However, insurance proceeds are expected to pay for
the majority of these two diaper lines.
 
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS

     The following discussion and analysis, together with the accompanying
consolidated financial statements and related notes, are intended to aid in
understanding the Company's results of operations as well as

                                       9
<PAGE>
 
its financial position, cash flows, indebtedness and other key financial
information. Unless otherwise indicated, references herein to "Drypers" or "the
Company" refer to Drypers Corporation and its subsidiaries.

     From time to time, the Company may make certain statements that contain
"forward-looking" information (as defined in the Private Securities Litigation
Reform Act of 1995). Words such as "anticipate", "estimate", "project" and
similar expressions are intended to identify such forward-looking statements.
Forward-looking statements may be made by management orally or in writing,
including, but not limited to, in press releases, as part of this Management's
Discussion and Analysis of Financial Condition and Results of Operations and as
part of other sections of this Quarterly Report on Form 10-Q and the Company's
other filings with the Securities and Exchange Commission under the Securities
Act of 1933 and the Securities Exchange Act of 1934.

     Such forward-looking statements are subject to certain risks, uncertainties
and assumptions, including without limitation those identified below. Should one
or more of these risks or uncertainties materialize, or should any of the
underlying assumptions prove incorrect, actual results of current and future
operations may vary materially from those anticipated, estimated or projected.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of their respective dates.

     Among the factors that have a direct bearing on the Company's results of
operations and financial condition are leverage and debt service, competitive
industry, price changes by competitors, dependence on key products and
acceptance of product innovations, costs of certain raw materials, international
operations, currency fluctuations, currency devaluations, currency restrictions,
intellectual property risks, technological changes, scope of insurance coverage,
covenant limitations and other factors discussed herein.

                                       10
<PAGE>
 
OVERVIEW

     Drypers is a leading manufacturer and marketer of premium quality, value-
priced disposable baby diapers and training pants sold under the Drypers brand
name in the United States and under the Drypers and other brand names
internationally. The Company also manufactures and sells lower-priced diapers
under other brand names in the United States and internationally, as well as
private label diapers and training pants and pre-moistened baby wipes. The
Company currently sells its products principally to approximately 640 U.S.
grocery retailers with an estimated 21,000 retail outlets. The Company
continually seeks to expand its U.S. grocery store distribution network while
increasing its limited penetration of the mass-merchant and drugstore chain
markets, and has made notable progress with mass-merchants in the first half of
1998. Since 1993, Drypers has significantly expanded its international presence,
competing in the lower-priced branded and private label categories. The Company
currently produces diapers in Puerto Rico, Argentina, Brazil, Mexico and
Malaysia. Wal-Mart International has selected the Company to be its private
label supplier of disposable diapers to Wal-Mart stores throughout Latin America
(which are currently located in Argentina, Brazil and Mexico) and in Puerto
Rico. The Company intends to continue to expand its operations in Argentina,
Brazil, Mexico, and Malaysia and is actively seeking further expansion
opportunities through acquisition, joint venture or other arrangements in Latin
America and the Pacific Rim.

     On August 6, 1998, the Company announced the introduction of two new
product innovations, Drypers(R) Supreme with Germ Guard(TM) and Drypers(R)
Antibacterial Baby Wipes with Germ Guard(TM). Both products appeared on
retailers' shelves in October 1998. Drypers Supreme with Germ Guard, containing
an antibacterial treatment, is a super-premium line extension of the Drypers
with Aloe Vera premium diaper line, and will feature adjustable grip tabs and
increased absorbency. Drypers Supreme will incorporate popular features of
Drypers with Aloe Vera, including breathable sides and a soft, cloth-like
backing, in addition to featuring Sesame Street characters. The Company also
launched Drypers Antibacterial Baby Wipes with Germ Guard as an extension of its
growing baby wipes business.

     The Company's domestic operations include sales in the United States,
Puerto Rico and exports from these manufacturing operations. The following table
sets forth the Company's domestic and international net sales for the three
months and nine months ended September 30, 1997 and 1998.

<TABLE>
<CAPTION>
                                            Three Months Ended                     Nine Months Ended
                                   ------------------------------------   -----------------------------------
                                               September 30                          September 30
                                   ------------------------------------   -----------------------------------
                                         1997               1998                1997               1998
                                   ----------------   -----------------   ----------------   ----------------
                                                              (dollars in millions)
<S>                               <C>      <C>        <C>      <C>         <C>       <C>        <C>        <C>
Domestic.......................    $50.8    63.4%      $56.5    65.4%      $143.4     67.4%    $157.8     64.2%
International..................     29.3    36.6        29.9    34.6         69.4     32.6       88.0     35.8
                                   -----   -----       -----   -----       ------    -----     ------    -----
  Total net sales..............    $80.1   100.0%      $86.4   100.0%      $212.8    100.0%    $245.8    100.0%
                                   =====   =====       =====   =====       ======    =====     ======    =====
</TABLE>

     Gross profit margins vary significantly across the Company's product lines,
as do the levels of promotional and marketing support. Accordingly, gross profit
margins fluctuate with changes in the relative sales mix of the Company's
various product lines. Since the differences in gross profit margins are
generally offset by differences in promotional spending levels, changes in sales
mix do not necessarily cause significant fluctuations in operating margins.

                                       11
<PAGE>
 
RESULTS OF OPERATIONS

  The following table sets forth the specified components of income and expense
for the Company expressed as a percentage of net sales for the three months and
nine months ended September 30, 1997 and 1998.

<TABLE>
<CAPTION>
                                                            Three Months Ended       Nine Months Ended
                                                               September 30            September 30
                                                          ------------------        -------------------
                                                           1997        1998           1997       1998
                                                           ----        ----           ----       ----
                                                                           (unaudited)                
<S>                                                        <C>          <C>            <C>       <C>
Net sales.............................................    100.0%       100.0%        100.0%     100.0%
Cost of goods sold....................................     60.4         61.1          61.1       60.1
                                                          -----        -----         -----      -----
Gross profit..........................................     39.6         38.9          38.9       39.9
Selling, general and administrative expenses..........     31.5         35.5          31.6       36.8
                                                          -----        -----         -----      -----
Operating income......................................      8.1          3.4           7.3        3.1
Interest expense, net.................................      3.4          5.2           3.2        5.1
Other income (expense)................................      (.1)         2.3            --         .9
                                                          -----        -----         -----      -----
Income (loss) before income tax provision (benefit)...      4.6           .5           4.1       (1.1)
Income tax provision (benefit)........................      1.2          (.3)           .8         .5
                                                          -----        -----         -----      -----
Income (loss) before extraordinary item...............      3.4%          .8%          3.3%     (1.6)%
                                                          =====        =====         =====      =====
</TABLE> 

Three Months Ended September 30, 1998 Compared to the Three Months Ended
September 30, 1997

Net Sales

     Net sales increased 7.9% to $86.4 million for the three months ended
September 30, 1998 from $80.1 million for the three months ended September 30,
1997. Domestic sales increased 11.2% to $56.5 million for the three months ended
September 30, 1998 from $50.8 million for the three months ended September 30,
1997. This increase primarily reflects positive trade and consumer reaction to
the national media campaign in the United States which began in February 1998
for the Company's premium brand diapers. Additionally, the September launch of
Drypers Supreme with Germ Guard was a contributing factor to the increase in
domestic sales. Net sales in the international sector grew 2.2% to $29.9 million
for the three months ended September 30, 1998 from $29.3 million in the prior
comparable period. International revenues would have been much stronger, an
estimated 23.9% increase, if not for the August fire in the Company's Argentine
facility, resulting in approximately $6.0 million in lost sales in Latin
America. Additionally, in Mexico, the effect of the price war initiated in the
first half of 1998 by a competitor continued throughout the third quarter. 
Although price increases were announced signaling an abatement of this price 
war, increased purchases of competitors' products in anticipation of their
announced price increases delayed a significant number of the Company's
shipments until the fourth quarter of 1998. Despite the effects of this price
war, the Company gained sizable new distribution in Mexico. Additionally, the
Company's Asian operations contributed significantly to the increase in
international net sales. This was primarily due to the acquisition of Primosoft
in Malaysia in September 1998.

Cost of Goods Sold

     Cost of goods sold as a percentage of net sales increased to 61.1% for the
three months ended September 30, 1998 compared to 60.4% for the three months
ended September 30, 1997. This increase primarily reflects under-utilized
capacity in the United States, put in place to accommodate for the levels of
volume that may be expected from mass merchant accounts in the event that such
mass merchant distribution is obtained. Improvements in domestic capacity
utilization were offset by inefficiencies caused by a disruption of domestic 
production operations in order to produce replacement diapers for the Company's
Argentina customers. This reduction in domestic gross margin percentage was
partially offset by a reduction in

                                       12
<PAGE>
 
international sales, which historically have lower margins, as a percent of
total sales.

Selling, General and Administrative Expenses

     Selling, general and administrative expenses increased as a percentage of
net sales to 35.5% for the three months ended September 30, 1998 compared to
31.5% for the three months ended September 30, 1997. The increase reflected
promotional costs associated with continuing the "brand-building" momentum
resulting from the Company's national television advertising campaign in the
United States, which began in February 1998, and increased selling and
promotional costs related to international sales, primarily in Brazil.

Operating Income (Expense)

     As a result of the above factors, the Company's operating income decreased
$3.5 million to $3.0 million for the three months ended September 30, 1998 from
$6.5 million for the three months ended September 30, 1997.

Interest Expense, net

     Interest expense, net increased to $4.5 million for the three months ended
September 30, 1998 as compared to $2.7 million for the three months ended
September 30, 1997. The increase reflects amortization of additional deferred
loan costs related to the issuance of the Company's 10 1/4% Senior Notes ("10
1/4% Senior Notes") in March 1998 for $30.0 million, as well as, increased
borrowing under the revolving credit facility.

Other Income (Expense)

     On August 8, 1998, the Company's manufacturing facility in Argentina was
extensively damaged as a result of a fire.  There were no employee injuries
resulting from the fire.  In addition to physical damage to the facility, the
fire resulted in the loss of a portion of the finished goods and raw material
inventory.  Two of the four diaper manufacturing lines were completely destroyed
and the remaining two lines were  partially damaged.  The Company maintained
insurance to cover damage to the Company's property, business interruption and
extra expense claims. The Company expects to record a nonrecurring gain as Other
Income, representing the difference between the property insurance settlement on
the machinery and equipment with the Company's insurers and the carrying value
of the machinery and equipment at the time of the fire. The amount of the gain
will be dependent on final diaper line manufacturer quotes, installation costs,
start-up costs, and other cost estimates and the final settlement reached with
the Company's insurance carriers. For the three months ended September 30, 1998,
the Company has recorded approximately $2.0 million in Other Income primarily
related to proceeds to be received under the Company's property damage claim as
well as lost profits recoverable under the Company's business interruption
policy for the months of August and September 1998.

Income Taxes

     The Company recognized a benefit of $277,000 related to foreign taxes for
the three months ended September 30, 1998, compared to a provision of $966,000
for the comparable period in 1997.  The decrease is primarily due to tax
implications related to estimated net losses in Argentina resulting from the
August fire in addition to continued   management focus on international tax
planning strategies during 1998.

Nine Months Ended September 30, 1998 Compared to the Nine Months Ended September
30, 1997

                                       13
<PAGE>
 
Net Sales

     Net sales increased 15.5% to $245.8 million for the nine months ended
September 30, 1998 from $212.8 million for the nine months ended September 30,
1997. Domestic sales increased 10.0% to $157.8 million for the nine months ended
September 30, 1998 from $143.4 million for the nine months ended September 30,
1997. This increase was primarily the result of the September 1997 introduction
of Drypers with Aloe Vera and the launch of the licensing arrangement for the
Sesame Street characters, in addition to the national media campaign in the
United States for the Company's premium brand diapers, and increased
distribution in the training pant and private label categories. The Company
believes that the national media campaign and the introduction of the new
product contributed to an increased share in existing retail accounts and
expanded penetration into new accounts in the United States. The increase in
U.S. sales between periods was offset by a decline in export sales resulting
from pricing pressures in Asia due to recent currency devaluations. Net sales in
the international sector grew to $88.0 million for the nine months ended
September 30, 1998 from $69.4 million in the prior comparable period. This
increase primarily reflected the continued growth in sales volume for the
Company's operations in Argentina and Brazil, increased sales volume from the
Andean Pact region as well as the Company's third quarter 1998 Malaysia
acquisition, This increase was slightly offset by lower sales in Mexico due to a
now concluded price war initiated by a competitor in the first quarter of 1998
as well as an estimated $6.0 million in lost sales resulting from the fire at
the Company's Argentina facility.

Cost of Goods Sold

     Cost of goods sold as a percentage of net sales decreased to 60.1% for the
nine months ended September 30, 1998 compared to 61.1% for the nine months ended
September 30, 1997. This decrease primarily reflects an increase in
international gross margins as the Company's manufacturing operations in Latin
America mature, offset by a slight deterioration in domestic margins due to
inefficiencies caused by Argentina diaper production in the United States.

Selling, General and Administrative Expenses

     Selling, general and administrative expenses increased as a percentage of
net sales to 36.8% for the nine months ended September 30, 1998 compared to
31.6% for the nine months ended September 30, 1997.  The Company incurred cost
increases of approximately $8.0 million in the first quarter of 1998 and
approximately $2.0 million in the second quarter of 1998. The majority of these
increases represented the cost of the Company's new advertising campaign (in
connection with which there was no near-term corresponding reduction of
promotional expenses), while the remainder related to the costs associated with
the Company's laundry detergent business and the expansion of capacity in
several Latin American markets.

Operating Income

     As a result of the above factors, the Company's operating income decreased
$7.9 million to $7.6 million for the nine months ended September 30, 1998 from
$15.5 million for the nine months ended September 30, 1997.

Interest Expense, Net

     Interest expense, net increased to $12.4 million for the nine months ended
September 30, 1998 as compared to $6.9 million for the nine months ended
September 30, 1997. The increase was primarily due to the issuance of 10 1/4%
Senior Notes in June 1997 and March 1998 for $115.0 million and $30.0 million,
respectively, amortization of additional deferred loan costs related to these
transactions and increased borrowings under the revolving credit facility.

                                       14
<PAGE>
 
Other Income (Expense)

     On August 8, 1998, the Company's manufacturing facility in Argentina was
extensively damaged as a result of a fire. There were no employee injuries
resulting from the fire. In addition to physical damage to the facility, the
fire resulted in the loss of a portion of the finished goods and raw material
inventory. Two of the four diaper manufacturing lines were completely destroyed
and the remaining two lines were partially damaged. The Company maintained
insurance to cover damage to the Company's property, business interruption and
extra expense claims. The Company expects to record a nonrecurring gain as Other
Income, representing the difference between the property insurance settlement on
the machinery and equipment with the Company's insurers and the carrying value
of the machinery and equipment at the time of the fire. The amount of the gain
will be dependent on final diaper line manufacturer quotes, installation costs,
start-up costs, and other cost estimates and the final settlement reached with
the Company's insurance carriers. For the nine months ended September 30, 1998,
the Company has recorded approximately $2.3 million in Other Income primarily
related to proceeds to be received under the Company's property damage claim as
well as lost profits recoverable under the Company's business interruption
policy for the months of August and September 1998.

Income Taxes

     The Company recorded a provision of $1.3 million related to foreign taxes
for the nine months ended September 30, 1998, compared to a provision of $1.7
million for the comparable period in 1997.  The decrease is primarily due to tax
implications related to estimated net losses in Argentina resulting from the
August fire, in addition to continued management focus on international tax
planning strategies during 1998.

LIQUIDITY AND CAPITAL RESOURCES

     The Company's liquidity requirements include, but are not limited to, the
payment of principal and interest on its debt; the funding of working capital
needs, primarily inventory, accounts receivable and advertising and promotional
expenses; the funding of capital investments in machinery, equipment and
computer systems; and the funding of acquisitions. Historically, the Company has
financed its debt service, working capital, capital expenditure and acquisition
requirements through a combination of internally generated cash flow, borrowings
under the Company's revolving credit facility and other sources and proceeds
from private and public offerings of debt and equity securities.

     The Company's operations used $4.1 million of cash during the nine months
ended September 30, 1998, excluding the effect of the $10.0 million insurance
receivable resulting from the Argentina fire in August  1998, and used $1.4
million of cash during the nine months ended September 30, 1997.  The use of
cash during the nine months ended September 30, 1998 primarily reflected the
national television campaign in the United States, the buildup of inventory to
support the increase in sales volume (and the corresponding increase in accounts
receivable), payment of interest on the 10 1/4% Senior Notes and financing the
working capital needs and restoration of the Company's Argentina operations
which were damaged by fire in August 1998. The Company's operations used $6.9
million of cash during the year ended December 31, 1997, reflecting the cash
portion of the extraordinary item related to the Company's June 1997 issuance of
$115.0 million of 10 1/4% Senior Notes and increases in working capital
primarily for the growth in the Mexico and Brazil operations, the latter
including advances to the Company's contract manufacturer for future inventory
purchases.

     The Company's capital expenditures were $18.3 million for the nine months
ended September 30, 1998 and $12.4 million for the nine months ended September
30, 1997. The increase between periods in capital expenditures related primarily
to international production capacity increases. The Company's capital
expenditures were $21.6 million for the year ended December 31, 1997, reflecting
machine enhancements incurred in connection with the launch of Drypers with Aloe
Vera and production capacity increases.  The Company financed its capital
expenditures in 1997 and the first half of 1998 through borrowings under its
former revolving credit facility and from the proceeds of the $115.0 million and
$30.0 million offerings of  10 1/4% Senior Notes in June 1997 and March 1998,
respectively.

                                       15
<PAGE>
 
     The Company incurred cost increases of approximately $8.0 million in the
first quarter of 1998 and approximately $2.0 million in the second quarter of
1998. The majority of these increases  represented the cost of the Company's new
advertising campaign (in connection with which there will be no near-term
corresponding reduction of promotional expenses), while the remainder related to
the costs associated with the Company's laundry detergent business and the
expansion of capacity in several Latin American markets.

     The Company's estimated cash requirements during 1998, excluding the
aforementioned cost increases, are primarily the funding of working capital
needs, payment of debt service and planned capital expenditures of approximately
$25.0 million for the fiscal year, $18.3 million of which have been incurred
through the second quarter. The planned capital expenditures in 1998 are
primarily related to the expansion of international capacity, which includes the
construction of a new facility in Mexico, and modifications to existing domestic
equipment to enable the Company to make future product enhancements. However, as
a result of the Argentina fire, unanticipated capital expenditures to replace
damaged machinery and equipment will be necessary in the fourth quarter of 1998.
Additionally, capital projects which were scheduled in 1998 could extend into
1999. As of September 30, 1998, the Company has recorded in Other Current Assets
a receivable due from the insurance carriers of approximately $10.0 million
related to the Argentina fire. This receivable is comprised of the replacement
cost of damaged inventory and the estimated replacement cost of the Company's
diaper manufacturing lines to be recovered under the property portion of the
insurance claim as well as estimated lost profits and fixed and incremental
expenses for the months of August and September 1998 to be recovered under the
business interruption portion of the insurance claim. Management believes this
is a reasonable estimate of insurance proceeds to be received, and will
periodically review such amount for possible adjustment, if necessary, in the
future. As of September 30, 1998, the Company had received interim payments of
$0.2 million on its claim and to date has received approximately $3.6 million in
interim payments. The Company is engaging in the claim process and settlement
discussions with its insurers regarding additional insurance proceeds to which
the Company believes it is entitled. In order to return its Argentina facility
to normal operating capacity on a timely basis and minimize the interruption in
meeting consumer demand for Drypers products in Argentina, the Company has
increased its borrowings outstanding under the revolving credit facility to
approximately $22.6 million as of September 30, 1998. Insurance proceeds
anticipated to be received during the fourth quarter of 1998 will be used to
reduce the amount outstanding under the revolving credit facility.

     The Company operates in an industry in which patents relating to products,
processes, apparatus and materials are more numerous than in many other fields.
The Company takes careful steps to design, produce and sell its baby diapers and
other products so as to avoid infringing any valid patents of its competitors.
There can be no assurance that the Company will not be held to be infringing
existing patents in the future.  Any such holding could result in an injunction,
damages and/or an increase in future operating costs as a result of design
changes or payment of royalties with respect to such patents, which might have a
material adverse effect on the financial condition or results of operations of
the Company.  In addition, as the Company continues to introduce new products
and product innovations, the Company may incur expenses related to additional
license agreements and/or additional patent infringement insurance coverage.

     The Company's working capital was $40.5 million as of  September 30, 1998,
compared to $48.7 million as of December 31, 1997.  The Company's current assets
increased from $77.0 million as of December 31, 1997 to $117.5 million as of
September 30, 1998, and current liabilities increased from $28.3 million as of
December 31, 1997 to $77.1 million as of September 30, 1998. Total debt
increased from $118.3 million at December 31, 1997 to $175.4 million as of
September 30, 1998.

     Effective September 11, 1998, the Company acquired certain assets and
assumed certain liabilities of Primosoft, a Malaysian manufacturer of baby
diapers, for approximately $2.8 million of the Company's common stock (403,571
shares issued on September 11, 1998) and approximately $10.3 million in cash.
The acquisition was accounted for as a purchase, and the purchase price was
allocated to the acquired assets and liabilities assumed based on their
estimated fair values. The consideration paid for Primosoft exceeded the
estimated fair market value of the net tangible assets acquired by approximately
$7.7 million and this excess was recorded as goodwill.

                                       16
<PAGE>
 
     On April 6, 1998, the Company exercised its fair value option to acquire
the remaining equity interest in the parent company of Chansommes do Brasil Ind.
e Com. Ltda, the Brazilian manufacturer of its diapers.  The acquisition was
accounted for as a purchase, and the purchase price of approximately $9.3
million was allocated to the acquired assets and liabilities assumed based on
their estimated fair values. This transaction has been approved by the Brazilian
government.  The transaction effectively gives the Company a 100% ownership
interest in the Brazilian manufacturer of its diapers.  Following this
transaction, the Company's total investment in Brazil is approximately $15.0
million.

     On April 1, 1998, the Company entered into a new three-year $50.0 million
credit facility to replace the former revolving credit facility. The new credit
facility permits the Company to borrow under a borrowing base formula equal to
the sum of 75% of the aggregate net book value of its accounts receivable and
50% of the aggregate net book value of its inventory on a consolidated basis,
subject to additional limitations on incurring debt. The new credit facility
bears interest in the range of prime to prime plus  3/4%, or LIBOR plus 1 1/2%
to LIBOR plus 2 1/2%, in each case based on the Company's debt to EBITDA ratio
determined on a quarterly basis. The new credit facility is secured by
substantially all of the Company's assets. At September 30, 1998, the Company's
borrowing base would have permitted the Company to borrow up to an additional
$23.1 million.

     On March 17, 1998, the Company closed a private issuance of an additional
$30.0 million of 10 1/4% Senior Notes (the "New Senior Notes") at a price of
103.625% of the principal amount thereof.  The New Senior Notes were issued
under the same indenture as the June 1997  issuance of 10 1/4% Senior
Notes.  Proceeds from the offering of the New Senior Notes were $30.4 million,
$5.0 million of which was used to repay all outstanding indebtedness under the
Company's former revolving credit facility and the remaining proceeds have been
and  will be used for general corporate purposes, including capital
expenditures.   The Company completed an exchange offer on July 13, 1998,
pursuant to which all of the New Senior Notes were tendered for a like principal
amount of new notes with identical terms which may be offered and sold by the
holders without restrictions or limitations under the Securities Act of  1933,
as amended.

     In October 1997, the Company acquired an option for $1.5 million,
exercisable in 1998, to purchase all of the outstanding stock of NewLund
Laboratories, Inc., the developer and marketer of a new concept in laundry
detergents. The exercise price for the option to acquire NewLund is $2.7
million. The Company recently negotiated an extension of the option through
December 1999.
 
     On June 24, 1997, the Company closed its private issuance of $115.0 million
aggregate principal amount of 10 1/4% Senior Notes. Proceeds from the offering
of the 10 1/4% Senior Notes were used to repurchase $43.4 million of the $45.0
million in principal amount of the Company's outstanding 12 1/2% Senior Notes
pursuant to a tender offer therefore, to repay a $10.0 million working capital
facility, to repay borrowings outstanding under the Company's former revolving
credit facility, to repay a term loan with a bank, to repay the Company's junior
subordinated debt and other indebtedness and for general corporate purposes. In
connection with these transactions, the Company recognized an extraordinary
expense of $7.8 million for the write-off of capitalized debt issuance costs and
prepayment and other fees, of which $3.7 million was non-cash. On December 10,
1997, the Company redeemed the remaining $1.6 million of 12 1/2% Senior Notes
pursuant to an optional redemption provision. The Company completed an exchange
offer on October 14, 1997, pursuant to which all of the 10 1/4% Senior Notes
issued at that time were tendered for a like principal amount of new notes with
identical terms which may be offered and sold by the holders without
restrictions or limitations under the Securities Act of 1933, as amended.

     Management believes that future cash flow from operations, together with
cash on hand, available borrowings under the Company's revolving credit
facility, the net proceeds of the New Senior Notes described above and insurance
proceeds related to the Argentina fire will be adequate to meet the Company's
anticipated cash requirements, including working capital, capital expenditures,
debt service and acquisitions, for the foreseeable future.

                                       17
<PAGE>
 
INFLATION

     Inflationary conditions in the United States have been moderate and have
not had a material impact on the Company's results of operations or financial
position. Despite higher inflationary rates in Latin America, inflation has not
had a material impact on the results of operations of the Company's operations
located in that region because the Company has generally been able to pass on
cost increases to its customers.

NEW ACCOUNTING STANDARDS

     In March 1998, SOP 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use", was issued by the American Institute of
Certified Public Accountants.  SOP 98-1 requires that certain costs related to
computer software developed or obtained for internal use be expensed as
incurred. The Company is required to adopt SOP 98-1 as of January 1, 1999. The 
Company does not expect the adoption of SOP 98-1 to have a material effect on 
its financial position or result of operations.

      In April 1998, SOP 98-5, "Reporting on the Costs of Start-Up Activities",
was issued by the American Institute of Certified Public Accountants.   SOP 98-5
requires that all nongovernmental entities expense costs of start-up activities
as those costs are incurred. The Company is required to adopt SOP 98-5 as of
January 1, 1999. The Company does not expect the adoption of SOP 98-5 to have a
material effect on its financial position or results of operations.

     In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities".  This statement
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities.  It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value.  The Company is required to adopt SFAS No. 133 as of January 1,
2000 and does not expect the adoption of this statement to have a material
effect on its financial position or results of operations.
 
YEAR 2000

     The operation of the Company's business is dependent in part on its
computer software programs and operating systems (collectively, "Programs and
Systems"). These Programs and Systems are used in several key areas of the
Company's business, including materials purchasing, inventory management,
pricing, sales, shipping and financial reporting, as well as in various
administrative functions. The year 2000 compliance issues exist because many
computer systems and applications currently use two digit date fields to
designate a year. Therefore, date sensitive systems may recognize the year 2000
as the year 1900 or not at all. This inability to recognize or properly treat
the year 2000 may cause the Programs and Systems to process critical financial
and operational information incorrectly. The Company has been evaluating its
Programs and Systems to identify potential year 2000 compliance problems and
recognizes the need to ensure its operations will not be adversely impacted by
year 2000 software failures. Software failures due to processing errors
potentially arising from calculations using the year 2000 date are a known risk.
The Company has developed a plan to ensure its systems are compliant with the
requirements to process transactions in the year 2000. The following is a status
report of the Company's efforts to date for fulfilling those compliance
requirements:

The Company's State of Readiness

                                       18
<PAGE>
 
     It is anticipated that replacement of most of the Company's Programs and
Systems will be necessary to make such Programs and Systems year 2000 compliant.
Replacement of domestic Programs and Systems with PeopleSoft software, which is
Year 2000 compliant, is currently underway, and is scheduled to be fully tested
and implemented during the first quarter of 1999.  Testing of existing
international Programs and Systems will take place during the first half of
1999.  Evaluation and modification of all desktop hardware throughout the
Company is currently in process and should be completed by the second quarter of
1999.  Additionally, potentially date sensitive chips embedded within production
equipment are currently being tested to identify and address any problems.  The
Company anticipates that this process will be complete by the second quarter of
1999.

Costs to Address Year 2000 Issues

     The Company expects that the expenses and capital expenditures associated
with the replacement of the Company's Programs and Systems will be approximately
$4.0 million during 1998 and 1999.  Approximately $595,000 had been expended on
the PeopleSoft software and implementation process at September 30, 1998.

Risks of Year 2000 Issues

     The Company is in the process of execution of its formal year 2000
compliance plan and expects to achieve implementation on or before July 1, 1999.
The Company is in the process of requesting from a majority of its principal
customers, suppliers and service providers (such as financial institutions)
written statements regarding their knowledge of and plans for meeting the year
2000 compliance requirements. However, no assurance can be given that these
efforts will be successful.  In the event that any of the Company's significant
customers, suppliers, or service providers do not successfully and timely
achieve year 2000 compliance, the Company's business or operations could be
adversely affected.   However, the Company has multiple suppliers for its
primary raw materials and has no major customers which alone comprise greater
than 10% of total net sales.  Thus, alternate approaches are available in these
areas to mitigate the risks to the Company of year 2000 noncompliance by these
third parties.

Contingency Plans

     Even though management believes the Company's formal Year 2000 compliance
plan will be successfully implemented, the Company is currently developing a
"Worst Case Contingency Plan", which will include generally an environment of
utilizing "Work Force", "Spreadsheet" and "Work Around" programming and
procedural efforts.  This contingency plan will be in place by July 1, 1999.

PART II. OTHER INFORMATION

ITEM 5. OTHER INFORMATION

Cautionary Statements:

     From time to time, the Company may make certain statements that contain
"forward-looking" information (as defined in the Private Securities Litigation
Reform Act of 1995).  Words such as "anticipate", "estimate", "project" and
similar expressions are intended to identify such forward-looking statements.
Forward-looking statements may be made by management orally or in writing,
including, but not limited to, in press releases, as part of Management's
Discussion and Analysis of Financial Condition and Results of Operations and as
part of other sections of this Quarterly Report on Form 10-Q and the Company's
other filings with the Securities and Exchange Commission under the Securities
Act of 1933 and the Securities Exchange Act of 1934.

     Such forward-looking statements are subject to certain risks, uncertainties
and assumptions, including without limitation those identified below.  Should
one or more of these risks or uncertainties materialize, or should any of the
underlying assumptions prove incorrect, actual results of current and future
operations may 

                                       19
<PAGE>
 
vary materially from those anticipated, estimated or projected.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of their respective dates.

     Among the factors that have a direct bearing on the Company's results of
operations and financial condition are the following factors:

     LEVERAGE AND DEBT SERVICE. The Company is highly leveraged. The Company's
ability to meet its debt service obligations and to reduce its total debt will
be dependent upon the Company's future performance, which will be subject to
general economic conditions and financial, business and other factors affecting
the operations of the Company, many of which are beyond its control. There can
be no assurance that the Company's business will continue to generate cash flow
at or above current levels. If the Company is unable to generate sufficient cash
flow from operations in the future to service its debt, it may be required to
refinance all or a portion of its existing debt or to obtain additional
financing. There can be no assurance that any such financing could be obtained
on terms acceptable to the Company, if at all.

     COMPETITIVE INDUSTRY. In the United States, the Company experiences
substantial competition from a number of producers of disposable baby diapers
and training pants, including larger manufacturers of the leading national
brands and other private label manufacturers. A number of these producers have
substantially greater manufacturing, marketing and financial resources than the
Company and thus are able to exert significant influence on the worldwide
markets in which they compete. Actions by the Company's competitors could have a
material adverse effect on the Company.

     PRICE CHANGES BY COMPETITORS. The disposable diaper industry is
characterized by substantial price competition, which is effected through price
changes, product count changes and promotions. Typically, because of their large
market share, one of the Company's larger competitors initiates such pricing
changes. The Company may respond to these pricing changes with changes to its
own prices, product counts or promotional programs. The process of fully
implementing such changes may require a number of months and the Company's
operating results may be adversely affected. For example, a price per package
and product count reduction by Procter & Gamble in the first quarter of 1995 led
to a subsequent repositioning of the Company's Drypers brand, which adversely
affected the Company's results of operations during that period. Additionally,
during the third quarter of 1997 and first quarter of 1998, price competition by
Procter & Gamble adversely impacted the Company's operations in Puerto Rico and
Mexico, respectively. There can be no assurance that future price or product
changes by the Company's larger competitors will not have a material adverse
effect on the Company or that the Company will be able to react with price or
product changes of its own to maintain its current market position. In addition,
there can be no assurance that the major producers of private label diapers will
not price or position their products in such a manner as to have a material
adverse effect on the Company.

     DEPENDENCE ON KEY PRODUCTS AND ACCEPTANCE OF PRODUCT INNOVATIONS. The
Company's Drypers brand premium brand diapers and training pants accounted for
61.3%, 62.0% and 52.3% of the Company's net sales for 1995, 1996 and 1997,
respectively. The Company has made substantial investments in manufacturing
equipment and processes for these products. In addition, the Company from time
to time has introduced product innovations that are incorporated into all of the
Company's premium products. The Company is substantially dependent on the
continued success of sales of these products and customer acceptance of its
product innovations. A number of factors could materially reduce sales by the
Company of its products, or the profitability of such sales, including actions
by its competitors, shifts in consumer preferences or the lack of acceptance of
the Company's product innovations. There can be no assurance that in the future
such factors will not have a material adverse effect on the Company.

     COSTS OF CERTAIN RAW MATERIALS. Raw materials, especially pulp,
superabsorbent polymers and polypropylene nonwoven fabric, are significant
components of the Company's products and packaging. An industry-wide shortage or
a significant increase in the price of any of these components could adversely
affect the Company's ability to maintain its profit margins in the event price
competition does not permit the Company to increase its prices.

                                       20
<PAGE>
 
     INTERNATIONAL OPERATIONS; CURRENCY FLUCTUATIONS, DEVALUATIONS AND
RESTRICTIONS. The Company currently has operations in Argentina, Mexico, Brazil,
Singapore, Malaysia and Colombia and expects its international operations to
become a larger contributor to sales and profitability in the future. The
success of the Company's sales to, operations in and expansion into
international markets depends on numerous factors, many of which are beyond the
Company's control. Such factors include economic conditions in the foreign
countries in which the Company operates and to which it sells its products. In
addition, international operations and expansion may increase the Company's
exposure to certain common risks in the conduct of business outside the United
States, including currency exchange rate fluctuations, restrictions on the
repatriation of profits and assets, compliance with foreign laws and standards,
political risks and risks of increases in duties, taxes and governmental
royalties. Moreover, the level of the Company's exports are impacted by the
relative strength or weakness of the U.S. dollar. Other than the United States,
each country in which the Company operates has experienced political and
economic instability in recent years. Moreover, as recent events in the Latin
American region have demonstrated, negative economic or political developments
in one country in the region can lead to or exacerbate economic crises elsewhere
in the region. The economies of Latin America are characterized by extensive
government intervention in the economy; inflation and, in some cases,
hyperinflation; currency devaluations, fluctuations, controls and shortages and
troubled and insolvent financial institutions. Any of the foregoing could have a
material adverse effect on the Company.

     INTELLECTUAL PROPERTY RISKS. The Company's larger branded competitors
normally seek U.S. and foreign patent protection for the product enhancements
they develop. The Company believes it has been able to introduce product
features comparable to those introduced by its competitors by using
manufacturing methods or materials that are not protected by patents, although
there can be no assurance that the Company will be able to continue to do so in
the future. To the extent the Company is not able to introduce comparable
products on a timely basis, its financial position and results of operations
could be materially adversely affected.

     In addition, the Company from time to time has received, and may receive in
the future, communications from third parties, asserting that the Company's
products, trademarks, designs, labels or packaging infringe upon such third
parties' intellectual property rights. There can be no assurance that third
parties will not successfully assert claims against the Company with respect to
existing or future products or packaging. Should the Company be found to
infringe upon the intellectual property rights of others, the Company could be
required to cease use of certain products, trademarks, designs, labels or
packaging or pay damages to the affected parties, any of which could have a
material adverse effect on the Company. Substantial costs also may be incurred
by the Company in redesigning its labels or packaging, in selecting and clearing
new trademarks or in defending any legal action.

     TECHNOLOGICAL CHANGES. The disposable diaper industry is subject to
frequent technological innovations, with the Company's larger branded
competitors having been the leaders in product design and development
historically. The large research and development departments of these companies
have developed most of the important product enhancements in the disposable baby
diaper industry in the past several years. The Company believes that by working
closely with its suppliers, distributors and other industry participants it has
been able to introduce product enhancements comparable to those introduced by
its competitors when needed to maintain the Company's competitive position,
although there can be no assurance that the Company will be able, or will have
adequate resources, to do so in the future. To the extent the Company is not
able or does not have adequate resources to introduce comparable products on a
timely basis, its financial position and results of operations could be
materially adversely affected.

     SCOPE OF INSURANCE COVERAGE.  The Company obtains insurance coverage that
management of the Company believes is adequate for its needs based in part on
coverage obtained by companies that are in the same industry as the Company and
the needs of the Company in its various locations around the world.  To the
extent that such insurance coverage is insufficient to cover a claim in a
particular situation or to the extent that coverage is denied by the carrier for
some reason, the Company may be required to fund any such losses out of
available cash flow and its financial position and results of operations could
be materially adversely affected.

                                       21
<PAGE>
 
     COVENANT LIMITATIONS. The Company's debt and operating lease agreements
contain numerous financial and operating covenants that limit the discretion of
the Company's management with respect to certain business matters. These
covenants place significant restrictions on, among other things, the ability of
the Company to incur additional debt, to create liens or other encumbrances, to
pay dividends and make other investments and restricted payments, to sell or
otherwise dispose of assets and to merge or consolidate with other entities. The
new credit facility also requires the Company to meet certain financial ratios
and tests. A failure to comply with the obligations contained in such debt
agreements could result in an event of default thereunder, which could result in
acceleration of the related debt and the acceleration of debt under other
instruments evidencing debt that may contain cross-acceleration or cross-default
provisions.

     DEPENDENCE ON KEY PERSONNEL. The Company believes that its continued
success will depend to a significant extent upon the abilities and continued
efforts of its senior management. The loss of the services of any one or more of
such key personnel could have an adverse effect on the Company and there can be
no assurance that the Company would be able to find suitable replacements for
such key personnel. The Company has employment agreements with certain of its
senior executives. The Company does not maintain key man life insurance on any
of its executives.

ITEM  6.  EXHIBITS AND REPORTS ON FORM 8-K

(a)  Exhibits - Reference is made to the Exhibit Index on Page 24 for a list of
     exhibits filed as part of this report pursuant to Item 601 of Regulation
     S-K.

(b)  Reports on Form 8-K - A report on Form 8-K was filed with the Commission on
     August 18, 1998 in which the Company filed press releases announcing second
     quarter 1998 earnings, a fire at the Company's Argentina facility and a
     restructuring of top management.
 

                                       22
<PAGE>
 
SIGNATURES

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

                                DRYPERS CORPORATION

Date: November 13, 1998         By: /S/ JONATHAN P. FOSTER
      -----------------             ----------------------                 
                                    Chief Financial Officer
                                          (Duly Authorized Officer)
                                          (Principal Financial Officer)

                                       23
<PAGE>
 
                                 EXHIBIT INDEX

                        EXHIBIT NUMBER AND DESCRIPTION
                        ------------------------------
                                        

27   Financial Data Schedule

                                       24