SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q (Mark one) |X| Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended September 30, 2001 ------------------ |_| Transition report under Section 13 or 15(d) of the Exchange Act For the transition period from _____________________to________________________ Commission file number 0-24352 ------- INTERIORS, INC. --------------- (Exact Name of Registrant as Specified in Its Charter) Delaware 13-3590047 -------- ---------- (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 320 Washington Street, Mount Vernon, New York 10553 --------------------------------------------------- (Address of Principal Executive Offices) (914) 665-5400 -------------- (Issuer's Telephone Number, Including Area Code ) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No |_| State the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: As of November 18, 2001, the registrant had 51,192,371 and 2,455,000 outstanding shares of Class A Common Stock and Class B Common Stock, respectively. Transitional Small Business Disclosure Format (check one) Yes |_| No |X| INTERIORS, INC. Table Of Contents PART I FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets as of September 30, 2001 and June 30, 2001... 1 Consolidated Statements of Operations for the Three Months Ended September 30, 2001 and 2000.............................................. 2 Consolidated Statement of Stockholders' Equity for the Three Months Ended September 30, 2001....................................................... 3 Consolidated Statements of Cash Flows for the Three Months Ended September 30, 2001 and 2000.............................................. 4 Notes to Consolidated Financial Statements............................... 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................................... 6 PART II OTHER INFORMATION Item 1. Legal Proceedings .............................................. 20 Item 2. Changes in Securities and Use of Proceeds ...................... 20 Item 3. Defaults Upon Senior Securities ................................ 20 Item 5. Other Information............................................... 20 Item 6. Exhibits and Reports on Form 8-K................................ 20 PART I FINANCIAL INFORMATION Interiors, Inc. and Subsidiaries Consolidated Balance Sheets (amounts in thousands, except share data)

(Unaudited) ~~December~~September 3130, ~~2000~~ June 30, ~~2000~~2001 2001 --------~~--------~~ --------~~------~~ Assets Current Assets: Cash and cash equivalents ................................................................. $ ~~281~~166 $ ~~152~~450 Accounts receivable, net of reserves of $~~755~~25 and $35433 at ~~December~~September 3130 and June 30, respectively ................................ ~~1,717 1,385 Inventories~~ ........................................... 1,181 1,021 Inventories .................. ~~2,469 2,923 Other current assets~~ ............................................................. ~~611~~1,296 ~~598~~1,224 ~~Assets~~Other ~~held~~current ~~for~~assets ~~disposition, net~~ ...................................................................... ~~30,053~~457 ~~30,426~~408 -------- -------- Total current assets ............................................................... 353,~~131~~100 353,~~484~~103 -------- -------- Property and Equipment, net ................................................................. ~~786~~373 ~~842~~402 Other Assets, net ........................................................................... ~~535~~124 ~~748~~152 -------- -------- Total assets ....................................................................... $ 363,~~452~~597 $ 373,~~074~~657 ======== ======== Liabilities and Stockholders' Equity Current Liabilities: Notes payable and current maturities of long-term debt .................................... ~~$ 11~~8,~~932~~808 ~~$ 6~~5,~~085~~484 Accounts payable .......................................................................... 969 2,~~108~~000 ~~1,376~~ Accrued liabilities ....................................................................... 43,~~181~~987 43,~~247~~729 ~~--------~~Liabilities ~~--------~~of ~~Total~~businesses ~~current~~held ~~liabilities~~for disposition, net ........................................ 187,~~221~~557 118,708 -------- -------- ~~Long-Term~~Total ~~Debt~~current liabilities ............................................................ ~~522~~21,321 119,~~635~~921 -------- -------- Stockholders' Equity: Preferred stock, $.01 par value, 5,300,000 shares authorized: Series A Redeemable Convertible Preferred Stock, $.01 par value, 2,870,000 shares authorized, ~~818~~804,~~817~~937 ~~and 850,802~~ shares issued and outstanding at ~~December~~September 3130, and at June 30, 2001, respectively ...................................................... 8 98 Series BE Redeemable Convertible Preferred Stock, $~~.01~~1,000 ~~par~~liquidation value, ~~200~~2,000 shares authorized, ~~200~~1,000 shares issued and outstanding at September 30 and June 30, 2001, respectively ........................................................................... --1,000 21,000 Class A common stock, $.001 par value, 60,000,000 shares authorized, 4548,~~992~~549,~~725~~743 ~~and 37,271,457~~ shares issued ~~and outstanding~~ at ~~December~~September 3130 and June 30, 2001, respectively ................................. 4549 3749 Class B common stock, $.001 par value, 2,500,000 shares authorized, 2,455,000 shares issued and outstanding at ~~December~~September 3130 and at June 30, ~~respectively~~2001 ......................................~~..........~~ 2 2 Treasury stock, at cost, 457,~~400~~402,771 shares at ~~December~~September 3130 and June 30, 2001, respectively . (629) (629) Additional paid-in-capital ........................................................ ~~(41) (41) Accreted Dividends on Series B Redeemable Convertible Preferred Stock~~ ........ --66,119 266,~~000~~119 ~~Additional~~Accumulated ~~paid-in-capital~~deficit .............................................. ~~64,674 63,343 Accumulated deficit~~ ......................... (80,811) (79,351) Notes receivable ............................ ~~(44,017) (38,659) Notes receivable~~ ..............................................~~..........~~ (23,~~962~~462) (23,~~962~~462) -------- -------- Total stockholders' equity ......................................................... (17,~~709~~724) 23(16,~~731~~264) -------- -------- Total liabilities and stockholders' equity .................................... $ 363,~~452~~597 $ 373,~~074~~657 ======== ========

The accompanying notes are an integral part of these consolidated financial statements. 1 Interiors, Inc. and Subsidiaries Consolidated Statements of Operations (amounts in thousands except per share data) (Unaudited)

Three Months Ended ~~December~~September 3130, ----------------------- 2001 2000 1999* -------- -------- Net Sales ................................................................... $ 31,~~011~~901 $ 2,~~008~~067 Cost of Goods Sold .......................................................... 21,~~973~~153 1,~~164~~159 -------- -------- Gross ~~Profit~~profit ................................................................ 38748 ~~844~~908 Selling, General, and Administrative Expenses: ~~Selling, general and administrative~~ .............................~~........~~ 21,~~312~~670 2,~~359~~060 ~~Write down of business in 2000 and asset impairment in 1999 ............. 1,797 426~~ -------- -------- ~~Total~~(Loss) ~~expenses~~from continuing operations .........................................~~.................~~ ~~4,109~~(922) 2(1,~~785~~152) -------- -------- ~~(Loss)~~Other ~~Income~~Expenses ~~From Continuing Operations ....................................~~ (~~4,071~~Income): ~~(1,941)~~ Interest ~~Expense~~expense ............................................................ ~~782~~429 ~~499~~180 -------- -------- (Loss) Income ~~From~~from ~~Continuing~~continuing ~~Operations~~operations ~~Before~~before ~~Provision~~provision ~~For~~for ~~Income~~income ~~Taxes~~tax .. (41,~~853~~351) (21,~~440~~332) Provision for Income Taxes .................................................. 7-- -- -------- -------- (Loss) ~~Income~~from ~~From~~continuing ~~Continuing~~operations ~~Operations~~ ........................................... (41,~~860~~351) (21,~~440~~332) ~~Discontinued Operations:~~ Income from discontinued operations, net of provision for income taxes of $7594 ~~and $50, respectively~~ ...................................................................... ~~508~~-- ~~625~~501 -------- -------- Net (Loss) Income ........................................................... $ (41,~~352~~351) $ ~~1,815~~(831) ======== ======== Earnings (Loss) Per Common Share: - Basic: ~~Continuing~~and diluted (Loss) Income from continuing operations ..............................~~............................~~ $ (.1003) $ (.0903) ~~Discontinued~~Income from discontinued operations ...................................~~.....................~~ -- .01 ~~.02~~ -------- -------- $Total (.~~09) $ (~~.~~07) ======== ======== Diluted: Continuing~~ .......................................................... ~~$ (~~.~~10) $ (~~.~~09) Discontinued~~ .......~~.................................................~~ ~~.01 .02 -------- --------~~ $ (.0903) $ (.0702) ======== ======== Weighted ~~Average~~average ~~Number~~number Ofof ~~Shares~~shares ~~Used~~used Inin ~~Computation~~computation Ofof ~~Earnings~~earnings ~~Per~~per ~~Share~~share: Basic ~~..................................................................~~and ~~46,825~~diluted ~~34,329 Diluted~~ .....................................................~~...........~~ 4643,~~825~~602 3441,~~329~~857

The accompanying notes are an integral part of these consolidated financial statements. 2 Interiors, Inc. and Subsidiaries Consolidated Statement of Stockholders' Equity For the three months ended September 30, 2001 (amounts in thousands) (Unaudited)

~~Six~~Series ~~Months~~A ~~Ended~~Series ~~December~~E ~~31,~~Class A Class B Additional Preferred Stock Preferred Stock Common Stock Common Stock Paid in Capital --------------- --------------- ~~2000~~------------ 1999* ------------ --------------- ~~Net~~Shares ~~Sales~~Amount ~~...................................................................~~Shares $Amount ~~5,078~~Shares $Amount ~~3,702~~Shares ~~Cost~~Amount of------ ~~Goods~~------ ~~Sold~~------ ~~..........................................................~~------ ~~4,132 2,148~~ ------ ------ ------ ------ ~~Gross~~Balance ~~Profit~~June ~~................................................................~~30, ~~946~~2001 805 $ 8 1~~,554~~ ~~Selling~~$1,000 ~~General~~48,550 ~~and~~$ ~~Administrative~~49 ~~Expenses: Selling~~2,455 ~~general~~$ ad2 ~~administrative~~$ ~~...................................... 4~~66,~~443~~119 ~~3,898~~Dividends ~~Write~~declared ~~down~~on ofSeries ~~business~~A inand ~~2000~~B ~~and~~Preferred ~~asset~~Stock ~~impairment~~Net inloss ~~1999~~through ~~.............~~September 130,~~797~~ ~~153~~2001 -------- -------- ~~Total expenses .......................................................... 6,240 4,051~~ -------- -------- ~~(Loss) Income From Continuing Operations .................................... (5,294) (2,497) Interest Expense ............................................................ 1,304 660~~ -------- -------------------------------------------------- ~~(Loss)~~Balance ~~Income~~September ~~From~~30, ~~Continuing~~2001 ~~Operations~~805 ~~Before~~$ ~~Provision~~8 ~~For~~1 ~~Income~~$1,000 ~~Taxes~~48,550 ..$ (649 2,~~598)~~455 (3$ 2 $ 66,~~157)~~119 ~~Provision~~========================================================================================== ~~for~~Accumulated ~~Income~~Treasury ~~Taxes~~Notes ~~..................................................~~(Deficit) 7Stock Receivable Total -- ------- ----- ---------- ~~(Loss)~~----- ~~Income~~Balance ~~From~~June ~~Continuing~~30, ~~Operations~~2001 ~~....................................~~$ (679,~~605~~351) $ (629) $ (3,~~157~~462) ~~Discontinued~~$ ~~Operations:~~(16,264) ~~Income~~Dividends ~~from~~declared ~~discontinued~~on ~~operations,~~Series ~~net~~A ofand ~~provision~~B ~~for~~Preferred ~~income~~Stock ~~taxes~~(109) of(109) ~~$169~~Net ~~and~~loss ~~$81,~~through ~~respectively~~September ~~..........................~~30, 2001 (1,~~422~~351) (1,~~512~~351) -------- ----------------------------------------- ~~Net~~Balance September 30, 2001 $ (~~Loss~~80,811) ~~Income~~$ ~~...........................................................~~(629) $ (53,~~183~~462) $ (117,~~645~~724) ======== ======== Earnings (Loss) Per Common Share: Basic: Continuing .......................................................... $ (.15) $ (.13) Discontinued ........................................................ .03 .04 -------- -------- $ (.12) $ (.09) ======== ======== Diluted: Continuing .......................................................... $ (.15) $ .13 Discontinued ........................................................ .03 .04 -------- -------- $ (.12) $ (.09) ======== ======== Weighted Average Number Of Shares Used In Computation Of Earnings Per Share: Basic .................................................................. 44,357 33,830 Diluted ................................................................ 44,357 33,830=

The accompanying notes are an integral part of these consolidated statements. 3 Interiors, Inc. and Subsidiaries Consolidated Statements of Cash Flows (amounts in thousands) (Unaudited)

~~Series~~Three AMonths ~~Series~~Ended BSeptember ~~Class~~30, ~~A Class B Additional* Preferred Stock Preferred Stock Common Stock Common Stock Paid in Capital~~ --------------- ------~~---------~~ ~~---------------~~2001 ~~----------------~~2000 -------~~--------~~ ~~Shares Amount Shares Amount Shares Amount Shares Amount~~ ------ -~~-----~~ ~~------~~Cash ~~------~~Flow ~~------~~From ~~------~~Operating ~~------~~Activities: ~~------~~Net ~~Balance~~(loss) ~~June~~income ~~30,~~from ~~2000~~continuing ~~851~~operations $........................... ~~9 200~~ $ ~~2 37~~(1,~~271~~351) $ ~~37 2~~(1,~~455~~332) $Adjustments 2to $reconcile ~~65,343~~net ~~Conversion~~(loss) ofincome ~~preferred stock~~ to ~~common~~net ~~stock~~cash ~~(32)~~used ~~(1)~~in 96operating 1activities: ~~Additional~~Depreciation ~~shares~~and ~~issued~~amortization ~~regarding~~.......................................... ~~Model~~90 ~~Home~~119 ~~acquisition~~Changes ~~2,916~~In 2Assets ~~(2)~~and ~~Additional~~Liabilities: ~~shares~~Increase ~~issued~~in ~~regarding~~accounts ~~Concepts~~receivable, 4trade ~~acquisition~~.............................. ~~3,165~~(160) 3 (3176) ~~Repurchase~~Increase ~~of shares issued for Concepts 4 purchase price obligation paid~~ in ~~December~~inventories ~~2000~~............................................. (~~7,545~~72) (~~8) (2~~1,~~721~~042) ~~Seaside~~Increase ~~Partners~~in ~~exercise~~prepaid ofexpenses ~~warrants, conversion of Series B Preferred Shares~~ and ~~Conversion~~other ofassets ~~debt~~....................... (~~200~~49) (2731) ~~6,343~~Increase ~~6 1,219 Partial conversions of Limeridge debt 1,747 2 548 Shares issued~~ in ~~partial~~accounts ~~settlement~~payable ~~of liability for shares issued for Troy acquisition 2,000 2 298 Dividends declared on Series A~~ and Baccrued ~~Preferred~~expenses ~~Stock~~................... ~~Net~~875 ~~loss through December 31~~1,255 ~~2000~~ ------- -------~~---------------------------------------------------------------------------------~~ ~~Balance~~Net ~~December~~cash ~~31,~~used ~~2000~~in ~~819~~continuing $operating 8activities --....................... --(667) 45(1,~~993~~907) $Net 45cash ~~2,455~~used $in 2discontinued $operating ~~64,674~~activities ~~===============================================================================================~~..................... ~~Accumulated~~-- ~~Treasury Notes~~ (~~Deficit~~203) ~~Stock Receivable Total~~ ------- -- ----- Net cash used in operations ............................................ (667) (2,110) ------- --- ----- ~~Balance~~Cash ~~June~~Flow ~~30,~~From ~~2000~~Investing $Activities: ~~(38,659)~~Capital $expenditures ................................................... (4133) $(~~2,962~~133) ~~$23,731~~------- ~~Conversion~~------- ofNet ~~preferred~~cash ~~stock~~used toin ~~common~~investing ~~stock~~activities ~~Additional~~.................................. ~~shares~~(33) ~~issued regarding Model Home acquisition Additional shares issued regarding Concepts 4 acquisition Repurchase of shares issued for Concepts 4 purchase price obligation paid in December 2000~~ (~~2,729~~133) ~~Seaside~~------- ~~Partners~~------- ~~exercise~~Cash ofFlow ~~warrants,~~From ~~conversion~~Financing ofActivities: ~~Series~~Borrowing Bfrom ~~Preferred~~Foothill ~~Shares~~under ~~and~~revolving ~~Conversion~~loans of.......................... ~~debt~~3,325 13,~~223~~186 ~~Partial~~Repayments ~~conversions~~ of ~~Limeridge~~ debt ~~550~~and ~~Shares~~capitalized ~~issued~~lease inobligations ~~partial~~................... ~~settlement~~(1) of-- ~~liability~~Payments for ~~shares issued for Troy acquisition 300 Dividends declared on Series A~~ and Badvances ~~Preferred~~to ~~Stock~~discontinued ~~(175)~~business ~~(175)~~units ~~Net~~............... ~~loss through December 31, 2000~~ (52,~~183~~908) ~~(5,183)~~ -- ------- ------- Net cash provided by financing activities .............................. 416 3,186 ------- ------- Net (decrease) increase in cash ........................................ (284) 943 Cash, beginning of period .............................................. 450 152 ------- -------- ~~Balance December 31~~Cash, ~~2000~~end $of ~~(44,017)~~period .................................................... $ ~~(41)~~166 $~~(2,962)~~ ~~$17~~1,~~709~~095 ======= =======~~===============================~~

The accompanying notes are an integral part of these consolidated financial statements. 4 Interiors, Inc. and Subsidiaries Notes to Consolidated Financial Statements September 30, 2001 1. Basis of Presentation. Business The financial statements included herein are unaudited and have been prepared by Interiors, Inc., a Delaware corporation ("Interiors"), in accordance with accounting principles generally accepted in the United States and pursuant to the rules and regulations of the Securities and Exchange Commission. In the opinion of management, these statements include all adjustments necessary to present fairly the financial condition of Interiors and its subsidiaries (the "Company"), as of September 30, 2001 and the results of operations of the Company for the three months ended September 30, 2001 and 2000. The Company's results of operations during the three months ended September 30, 2001 are not necessarily indicative of any future results. The financial statements included in this report should be read in conjunction with the financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 2001. In addition, see Note 2 regarding discontinued operations. Throughout 2000 and 2001, the Company had difficulty integrating many of the businesses it had recently acquired. The Company also defaulted on the high interest rate debt obligations undertaken to finance its acquisition strategy. Therefore, in an effort to generate cash needed to reduce the Company's debt and maximize shareholder value, the Board of Directors adopted a formal plan during the second half of 2000 to sell substantially all of the recently acquired businesses. The Company retained DN Partners, an investment-banking firm, to assist in the sale of the various businesses. The proceeds from the sale of these businesses were used to repay Foothill debt. As of November 19, 2001, the Company had completed the sales of all of these businesses with the exception of Petals and Concepts. Following these transactions, the Company's business will once again primarily consist of its APF Master Framemakers division located in Mount Vernon, New York. Going Concern Matters The accompanying consolidated financial statements have been prepared on a going concern basis that contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. For the years ended June 30, 2001 and 2000, the Company had net losses of $39,192,000 and $18,581,000, respectively. The net loss for the fiscal year 2001 includes $28,600,000 representing estimated loss on the disposal of businesses. The loss from continuing operations for the three months ended September 30, 2001 and 2000 were $1,351,000 and $1,332,000, respectively. In addition, as of September 30 and June 30, 2001, the Company classified $28,070,000 and $27,070,000 of its long term debt as current liabilities, including debt applicable to discontinued operations, because of its failure to meet certain requirements contained in the agreements governing these instruments. These factors and the items discussed below raise substantial doubt about the Company's ability to continue as a going concern. Limited Liquidity At September 30, 2001, the Company had negative working capital of approximately $18,221,000. The Company continues to experience working capital limitations which materially impair its ability to generate positive cash flow. The cash proceeds received from the sales of various business units were required to be used to repay debt. The Company's credit facility provides for availability based upon inventory and account receivable levels and, accordingly, the Company has experienced limitations on the availability under this facility. The sales of Petals and Concepts during fiscal 2002 will be required to repay outstanding debt obligations. If the Company continues to experience working capital limitations it will materially impact the Company's financial condition and results of operations. Estimated Loss on Disposal of Businesses; Failure to Satisfy Obligations At June 30, 2001, the Company estimated that as a result of the disposal of all discontinued operations the Company will incur a net loss. In addition, as of September 30, 2001, the Company's continuing operations had a working capital deficit of $10,664,000 and reported a loss of $1,351,000. The Company will attempt to complete its plan to discontinue certain of its operations by December 31, 2001. The completion of such plan is dependent on numerous factors beyond the control of the Company, including without limitation, the marketability of the Company's subsidiaries and divisions, other comparable assets being offered by other sellers, interest rates, the Company's ability to find willing buyers, the capital markets, the continued performance of the Company's subsidiaries and divisions, and the Company's defaults under senior debt instruments and lack of capital resources needed to accomplish such sales. Notwithstanding the Company's ability to 5 complete the sale of its discontinued obligations, it will not have sufficient proceeds to satisfy all of its obligations. The Company will be forced to seek additional financing alternatives or seek a liquidation of its remaining assets. 2. Discontinued Operations. In an effort to generate cash needed to reduce the Company's high interest rate debt and maximize shareholder value, during the second quarter of fiscal 2001, the Company's Board of Directors adopted a formal plan to sell various businesses including, without limitation, Petals, Inc. ("Petals"), Stylecraft Lamps, Inc. ("Stylecraft"), Habitat Solutions, Inc. ("Habitat Solutions") and the West Coast operations. Following the contemplated transactions, the Company's business will primarily consist of its APF Master Framemakers division located in Mt. Vernon, New York. The Company retained DN Partners, an investment-banking firm, to assist in the sale of the various businesses. The West Coast is comprised of the operations of Troy and CSL, which were sold in February 2001, Windsor Art, Inc. ("Windsor"), which was sold in June 2001, and Artisan House, Inc. ("Artisan House"), a wholly owned subsidiary of Decor Group, Inc. ("Decor"), which as sold in August 2001. Habitat Solutions is comprised of Concepts 4, Inc. ("Concepts") and Model Home Interiors, Inc. ("Model Home"), which was sold in April 2001. The Company's lighting products are sold by Stylecraft which was sold on October 1, 2001, its silk floral and tree products are sold by Petals, its architectural and design services are provided by Habitat Solutions and its wall decor products were sold by Windsor and Artisan. During the second quarter of fiscal 2001, the Company accounted for these business units as discontinued operations. As of September 30, 2001, the Company's wholly owned subsidiaries, Petals and Concepts, which remain to be sold, were also considered discontinued operations. The consolidated financial statements for the period ended September 30, 2000 have been restated to reflect the discontinued operations. In August 2001, the Company completed the sale of stock of Artisan House, a wholly owned subsidiary of Decor, receiving net proceeds of $640,000 comprised of cash of $605,000 and an 8% note for $35,000. Decor retained $463,000 of Foothill debt, which was repaid with the proceeds from the sale. The loss on the disposal of this business unit was approximately $1,100,000. Cash received of $2,731,000 from the sales of Windsor and Artisan House was used to repay outstanding borrowings under the Foothill revolving loans. Of this amount, $2,126,000 from the sale of Windsor became available from escrow in early July 2001. On October 1, 2001, the Company completed the sale of substantially all of the assets of Stylecraft to Stylecraft Acquisition, Inc. for $24,700,000 in cash. The cash proceeds were used to repay debt owed to Foothill in the amount of $9,900,000, the Investors Note (as defined below) in the amount of $5,200,000, the Limeridge Note and the Endeavour Note (both as defined below) in the aggregate amount of $2,800,000, a real estate mortgage owed to Bank of America in the amount of $2,200,000 and the Landis Note (as defined below) in the amount of $500,000. As part of the transaction, a personal loan of Max Munn, the Company's Chief Executive Officer, in the amount of $250,000, owed to Jimmy Webster, the Chief Executive of Stylecraft, was transferred to the Company and the Company set up a corresponding receivable from Mr. Munn. The Company also paid an aggregate of approximately $1,200,000 out of $2,400,000 of retention incentives owed to its executive officers. The Company paid approximately $600,000 in fees and expenses. The remaining balance of approximately $2,300,000 was used for general working capital purposes of the Company. The gain on the disposal of this business unit was approximately $16,200,000. As of June 30, 2001, the losses incurred on the sales of businesses which occurred as of such date and the anticipated sales of the other businesses were estimated to result in a net loss. During the first quarter of fiscal 2002, the Company sold the stock of Artisan House and, on October 1, 2001, it sold the assets of Stylecraft. The Company will attempt to complete the sales of Petals and Concepts in the second quarter of fiscal 2002. The estimated loss of $28,600,000 on the disposal of all businesses was recorded in the fourth quarter of fiscal 2001. This estimated loss includes losses on businesses sold during the third quarter of fiscal 2001, which had been previously deferred in accordance with EITF 85-36 - "Discontinued Operations With Expected Gain and Interim Losses" since, at that time, it was anticipated that the sales of all the businesses would result in a net gain. The change to an estimated net loss is due to actual sale prices of businesses sold during the fourth quarter of fiscal 2001 and in early fiscal 2002 being lower than previously estimated. The sales prices have decreased because of poor operating results and deteriorating general economic conditions since the decision was made to sell these businesses. The results of operations of discontinued operations since December 31, 2000 were deferred and included in the loss on disposal of the businesses. The estimated loss of $28,600,000 is comprised of the following: (a) actual losses of approximately $29,000,000 on businesses sold prior to June 30, 2001, (b) actual losses of $5,900,000 for the results of operations of discontinued operations from December 31, 2000 until the date of disposition if prior to June 30, 2001, (c) estimated losses of approximately $15,500,000 for the results of operations (including interest on debt obligations, estimated investment fees and retention 6 incentives) from June 30, 2001 until the actual or anticipated date of disposition of businesses not disposed of as of June 30, 2001 and (d) estimated net gains of approximately $21,800,000 on the sales of businesses not disposed of as of June 30, 2001. The result of the discontinued operations for the three months ended September 30, 2000 are summarized as follows: (amounts in thousands) ------------------------------------------------------------- September 30, 2000 ----------------- Net sales.............................. $39,347 Gross profit........................... 15,430 Interest expense....................... 2,204 Depreciation/amortization.............. 1,115 Amortization of goodwill............... 281 Interest expense and default penalties due under the Limeridge Note and the Endeavor Note, as well as the depreciation expense on a computer system that is no longer being implemented by the discontinued operations are reported in discontinued operations. Depreciation and amortization assigned to the businesses reported as discontinued operations represents the amounts applicable to fixed assets and other intangible assets, excluding goodwill, which is presented separately. Net liabilities of discontinued operations in the accompanying consolidated balance sheets as of September 30 and June 30, 2001, are comprised of the following:

~~Six~~(amounts ~~Months~~in ~~Ended~~thousands) ~~December 31,~~ ------------------------- ~~2000~~September ~~1999~~30, June 30, 2001 2001 ---------- -------- ~~Cash~~Current ~~Flow~~assets ~~From Operating Activities: (Loss) income from continuing operations~~ ......................... ~~$(6,605) $(3,157) Adjustments to reconcile (loss) income from continuing operations to net cash used in continuing operating activities: Depreciation and amortization~~ ...................~~.................~~ ~~160~~$ ~~338~~31,575 ~~Write~~$ ~~down~~32,185 ofProperty, ~~business~~plant ~~in 2000~~ and ~~asset~~equipment, ~~impairment~~net ~~in 1999~~ ...... ~~2,530 153 Provision for losses on accounts receivable~~ ..................~~....~~ 866,489 --5,871 ~~Reserve~~Goodwill, ~~for~~net ~~inventory~~ ............................................ ~~75 -- Non-cash financing charge~~ .~~.......................................~~ ~~180~~20,670 9720,670 ~~Provision~~Other ~~for~~assets ~~issuance of stock~~ .................................. ~~-- 75 Changes In Assets and Liabilities: (Increase) decrease in accounts receivable~~ ............~~........~~ (16,~~052)~~146 ~~128~~2,373 ~~(Increase)~~Notes ~~in inventories ..................................... (329) (338) Decrease (increase) in prepaid expenses and other assets ...... 46 (374) Increase (decrease) in accounts~~ payable and ~~accrued~~current ~~expenses~~maturities ..of ~~497 (365)~~ long-~~------~~term ~~-------~~debt ~~Net cash (used in) continuing operating activities~~ ....~~...........~~ (434,~~412~~573) (338,~~443~~119) ~~Net~~Accounts ~~cash~~payable ~~provided by discontinued activities~~ ..................... ~~1,740 4,204 ------- ------- Net cash (used in) provided by operations~~ .....................~~...~~ (216,~~672~~410) ~~761~~(13,533) ~~-------~~Accrued ~~-------~~expenses ~~Cash Flow From Investing Activities: Capital expenditures~~ ..........................................~~...~~ (~~204~~19,025) (~~164~~15,792) ~~-------~~Other ~~-------~~non ~~Net~~current ~~cash~~liabilities ~~(used in) investing activities~~ .......................... ~~(204) (164) ------- ------- Cash Flow From Financing Activities: Borrowing from Foothill under revolving loans~~ ...~~............~~ ~~5,958 -- Repurchase of common shares .................................~~ (2,~~729~~429) (532,363) ~~Repayments of debt and capitalized lease obligations ........ (224) (642)~~ ------- -~~------~~ ~~Net cash provided by (used in) financing activities ......... 3,005 (695)~~ ------- -~~------~~ Net ~~increase~~liabilities ~~(decrease)~~of indiscontinued ~~cash~~operations ~~.............................~~held ~~129~~for ~~(45)~~sale ~~Cash, beginning of period~~ ................................... ~~152 685 ------- ------- Cash, end of period~~ .............~~............................~~ $ ~~281~~(7,557) $ ~~640~~(8,708) ======== ========

Debt applicable to discontinued operations as of September 30 and June 30, 2001, is as follows:

(amounts in thousands) -------------------------~~------------------------------------------------------------~~ ~~Habitat~~September 630, ~~Months~~June ~~Ended~~30, ~~12/31/00~~2001 ~~Stylecraft~~2001 ~~Petals West Coast Solutions Other Total~~ ------------ ---------- ~~-----------~~Bank ~~-----------~~Revolving ~~-----------~~Loans ~~------------~~(a) ~~Net sales~~ ................................ $ 256,~~782~~668 $~~27,657~~ ~~$18~~9,~~823~~193 ~~$14,003~~Bank $Term Loans (~~417~~a) $..................................... 85699 1,~~848~~250 ~~Gross~~29% ~~profit~~Notes - Limeridge and Endeavour (b) .................. 614,~~608~~735 1614,~~757~~735 ~~6,405~~10% ~~6,380~~Convertible Debenture -- ~~36,150~~Petals ~~Interest~~(c) ~~expense~~ .................. ~~354~~2,000 742,000 ~~556~~Promissory 97Note ~~3,984~~- ~~5,065~~Bank ~~Depreciation/amortization~~of America (d) ................... 962,240 ~~307~~2,240 ~~421~~16% ~~941~~Senior ~~306~~subordinated ~~2,071~~Secured ~~Amortization~~Note of(e) ~~goodwill~~ ................ 605,000 735,000 ~~183~~8% ~~100~~Promissory Notes --Concepts ~~416~~Deferred ~~Habitat~~Purchase 6Price ~~Months~~(f) ~~Ended~~1,708 ~~12/31/99~~1,708 ~~Stylecraft~~Other ~~Petals~~notes ~~West~~payable ~~Coast~~(g) ~~Solutions~~................................. ~~Other~~1,523 ~~Total~~1,993 --------~~----~~ ---------- ~~-----------~~Total ~~-----------~~.......................................... 34,573 38,119 --------~~---~~ --------~~----~~ ~~Net~~Less ~~sales~~current portion comprised of: Limeridge and Endeavor Notes ......................... ~~$ 20~~(14,~~221~~735) ~~$24~~(14,~~758~~735) ~~$24,116~~Foothill $revolving ~~6,524~~loans $and --term $loans 75.............. (7,~~619~~367) ~~Gross~~(10,443) ~~profit~~Other ................................................ 5(12,~~341~~471) 15(12,~~194~~941) ~~6,867~~-------- ~~3,360~~ -------- ~~30,762~~Total ~~Interest~~current ~~expense~~portion .............. ~~218 48 535 117 1,192 2,110 Depreciation/amortization~~ ............ 48(34,753) ~~276~~(38,119) ~~124~~-------- ~~882~~-------- ~~314~~Long ~~1,742~~term ~~Amortization~~portion ~~of goodwill~~ ....................................... 66$ 66-- ~~260~~$ 16 -- ~~408~~======== ========

7 (a) In June 2000, the Company and Foothill Capital Corporation ("Foothill") entered into a Loan and Security Agreement ("Foothill Agreement") pursuant to which Foothill agreed to make revolving credit loans and advances based on agreed upon percentages of eligible accounts receivable and inventory of Artisan House, Inc., CSL, Model Home, Petals, Stylecraft, Troy, Vanguard and Windsor (collectively with Interiors, the "Borrowers"). The credit facility is a combination of revolving loans and two thirty-two (32) month term loans. See Note 10 for information regarding the revolving loans applicable to continuing operations. The interest rates on the revolving loans and term loans were prime plus 1.25% and prime plus 1.50%, respectively. As of March 1, 2001, the interest rates were increased to prime plus 2.50% on both the revolving and term loans. At September 30, 2001 and 2000, the prime rate was 6.0% and 9.50%, respectively, announced by Wells Fargo Bank. Borrowings under the credit facility are secured by substantially all of the assets of the Company, including accounts receivable and inventory. The credit facility contains financial and other covenants, including minimum net worth, and earnings before interest, income taxes and depreciation and amortization. The Foothill Agreement is in default and related borrowings are included in current liabilities in the accompanying financial statements because Foothill has the right to accelerate these obligations. As of August 15, 2000, the Company entered into Amendment No. 1 to Loan Documents with Foothill (the "Foothill Amendment No. 1") pursuant to which Foothill agreed to extend the Company an overadvance of $500,000 until September 1, 2000 and forbear from taking any action to collect the amounts owed to them until the earlier to occur of (i) June 30, 2001 or (ii) a default under the Foothill Amendment No. 1. As of October 13, 2000, the Company entered into Amendment No. 2 to Loan Documents and Waiver with Foothill (the "Foothill Amendment No. 2") pursuant to which Foothill agreed to amend certain financial covenants and to waive cross defaults under the Limeridge Note and Endeavour Note until the earlier to occur of (i) October 1, 2000 or (ii) a default under the Foothill Amendment No. 2. The fee charged by Foothill for such amendment was $15,000. As of March 19, 2001, the Company entered into Amendment No. 3 to Loan Documents and Forbearance Agreement with Foothill (the "Foothill Amendment No. 3") pursuant to which Foothill agreed to forbear from taking any action to collect the amounts owed to them until June 30, 2001 or (ii) a default under the Foothill Amendment No. 3. The fee charged by Foothill for such amendment was $150,000. The Company's interest rate was also increased to 2.5% per annum over the prime rate and its maximum borrowing under its credit facility was reduced from $25,000,000 to $17,000,000. As of June 29, 2001, the Company entered into Amendment No. 4 to Loan Documents and Extended Forbearance Agreement with Foothill (the "Foothill Amendment No. 4") pursuant to which Foothill agreed to extend the Company an overadvance of $650,000 until August 24, 2001, amend certain financial covenants and forbear from taking any action to collect the amounts owed to them until August 31, 2001 or (ii) a default under the Foothill Amendment No. 4. The fee charged by Foothill for such amendment was $50,000. The Company's interest rate was also increased to 2.5% per annum over the prime rate and its maximum borrowing under its credit facility was reduced from $17,000,000 to $16,500,000. In addition, the Company was charged an early termination fee of $600,000, which is payable upon termination of the credit facility. As of August 31, 2001, the Company entered into Amendment No. 5 to Loan Documents and Second Extended Forbearance Agreement with Foothill (the "Foothill Amendment No. 5") pursuant to which Foothill agreed to forbear from taking any action to collect the amounts owed to them until September 28, 2001 or (ii) a default under the Foothill Amendment No. 5. The fee charged by Foothill for such forbearance was $65,000. The Company's maximum borrowing under its credit facility was reduced from $16,500,000 to $13,500,000. As of October 1, 2001, the Company entered into Amendment No. 6 to Loan Documents and Third Extended Forbearance Agreement with Foothill (the "Foothill Amendment No. 6") pursuant to which Foothill agreed to forbear from taking any action to collect the amounts owed to them until December 14, 2001 or (ii) a default under the Foothill Amendment No. 6. The fee charged by Foothill for such forbearance was $300,000. The Company's maximum borrowing under its credit facility was reduced from $13,500,000 to $2,325,000. (b) In October 1999, the Company consummated a transaction with Limeridge LLC ("Limeridge") pursuant to which $5,027,000 principal amount of Series C Preferred Shares, plus accrued and unpaid dividends in the amount of $215,000, were exchanged for a Secure Convertible Note due September 30, 2004 bearing interest at 17% per annum (the "Limeridge Note"). The Company also received aggregate proceeds of $7,500,000 and after certain fees and expenses, net proceeds of approximately $7,500,000 in the transaction. In addition, the Company owed Limeridge an additional $799,000 which consisted primarily of penalties. The Limeridge Note has a principal amount of $13,541,000, is secured by the common stock of Petals, Inc., a wholly owned subsidiary of the Company 8 ("Petals"), and convertible after September 30, 2000 into Class A Shares at the fair market value of such securities at the time of conversion. Interest on the Limeridge Note is not payable until the earlier of a redemption, conversion or default of such security, however, the Company is required to pay an administrative fee in connection with the Limeridge Note equal to 1% of the outstanding principal amount of the security per month until the earlier of a redemption, conversion or default of such security. The 1% administrative fee is recorded as interest expense in the accompanying consolidated financial statements. In connection therewith, the Company issued a warrant to purchase 1,000,000 Class A Shares at an exercise price of $2.00 per share (the "Limeridge Warrant"). At any time, the Company may redeem the Limeridge Note at its face value, plus all accrued and unpaid interest, and redeem the Limeridge Warrant at $0.25 per warrant share. The fair market value of the Limeridge Warrant of approximately $629,000 is being amortized over the term of the Limeridge Note as a deferred financing charge. In December 1999, the Company consummated a transaction with Endeavour Capital Fund, SA ("Endeavour") pursuant to which $1,500,000 principal amount of Series C Preferred Shares, plus accrued and unpaid dividends in the amount of $65,000, and accrued and unpaid interest in the amount of $180,000 were exchanged for a Secured Convertible Note due September 30, 2004 bearing interest at 17% per annum (the "Endeavour Note"). The Endeavour Note has a principal amount of $1,745,000, is secured by the common stock of Petals, and convertible after September 20, 2000 into Class A Shares at fair market value of such securities at the time of conversion. Interest on the Endeavour Note is not payable until the earlier of a redemption, conversion or default of such security, however, the Company is required to pay an administrative fee in connection with the Endeavour Note equal to 1% of the outstanding principal amount of the security per month until the earlier of a redemption, conversion or default of such security. The 1% administrative fee is recorded as interest expense. In connection therewith, the Company issued a warrant to purchase 110,000 Class A Shares at an exercise price of $2.00 per share (the "Endeavour Warrant"). At any time, the Company may redeem the Endeavour Note at its face value, plus all accrued and unpaid interest, and redeem the Endeavour Warrant at $0.25 per warrant share. The fair market value of the Endeavour Warrant of approximately $33,000 is being amortized over the term of the Endeavour Note as a deferred financing cost. Pursuant to the registration rights agreements with Limeridge and Endeavour, (a) the Limeridge Note, the Endeavour Note, the Limeridge Warrant and the Endeavour Warrant were required to be covered by an effective registration statement by September 30, 2000 and (b) the Company is required to keep its Class A Shares listed on the Nasdaq SmallCap Market or its equivalent. As of September 30, 2000, the securities were not covered by an effective registration statement and the Company had received a notice from NASDAQ of its intention to delist the Class A Shares. Accordingly, the Company is subject to liquidated damages in the amount of 2% per month after such date on the principal amount of the Limeridge Note and the Endeavour Note and such parties are entitled to accelerate the entire principal amount of the notes. As of June 30, 2000 and the Company was also in arrears on interest payments in the aggregate amount of $542,000, which also entitles Limeridge and Endeavor to accelerate its note, subject to the Company's right to cure. As a result these rights to accelerate, the Limeridge Note and the Endeavour Note are classified as current liabilities in the Company's consolidated balance sheet as of June 30, 2000. In April 2001, the Company entered into a Forbearance and Acknowledgement Agreement with Limeridge and Endeavour (the "Limeridge/Endeavour Forbearance Agreement") pursuant to which Limeridge and Endeavour agreed not to take any action to collect any amounts owed to them until the earlier of (i) July 31, 2001, (ii) the date upon which the proceeds from the sale of the assets or capital stock of the Company's subsidiaries are sufficient to satisfy the Limeridge Note and the Endeavour Note or (iii) a default under the Limeridge/Endeavour Forbearance Agreement. The Limeridge/Endeavour Forbearance expired by its terms on July 31, 2001. Pursuant to the Limeridge/Endeavour Forbearance Agreement, Petals, Stylecraft and Habitat Solutions became primary obligors on these obligations. The proceeds from the sale of assets of these businesses are required to repay this debt. As part of the Stylecraft transaction, the Company entered into the Comprehensive Amendment, Guaranty and Security Agreement dated as of September 28, 2001, pursuant to which the Company granted Limeridge and Endeavour a security interest in substantially all of the Company's assets in exchange for such parties' forbearance from foreclosing on the Limeridge Note and the Endeavour Note until December 31, 2001 notwithstanding that the Company remains in default with respect to the Limeridge Note and the Endeavour Note. The security interest is subordinated to the security interests securing the Foothill debt, the Investors Note and the Landis Note. The Limeridge Note and the Endeavor Note represent funds that the Company had originally received from the issuance of Series C Preferred Shares (as defined below). The funds were used in the acquisitions of Stylecraft and CSL. The Series C Preferred Shares were subsequently exchanged for the Limeridge Note and the Endeavor Note. At the time of exchange, an additional $7,200,000 principal amount was also issued. These additional funds were used for the financing of the West Coast operations and in the Concepts acquisition. 9 (c) Issued to DMB Property Ventures LP in connection with the acquisition of Petals, Inc. The note was originally due March 23, 2001 and convertible into Class A Shares at $2.00 per share. (d) In June 2000, the Company issued a $2,300,000 promissory note at 8.97% to Bank of America. The note is due July 1, 2005 and secured by the Company's real estate located in Mississippi. Foothill has a second mortgage on the property. The note is payable in 59 equal monthly payments of $23,000 and one last payment of $1,872,000. As of March 31, 2001 the Bank of America mortgage loan maturity date has been accelerated to September 30, 2001 and the monthly payments has been increased to $24,049 and the interest rate was increased to 9.47%. On October 1, 2001, as part of the sale of Stylecraft, this loan was repaid out of the proceeds of the sale. (e) On March 19, 2001, Petals and Stylecraft, wholly owned subsidiaries of the Company, executed a Senior Subordinated Secured Note due March 14, 2002 ("Investors Note") in favor of Interiors Investors, LLC, a Delaware limited liability company ("Interiors Investors") in the original principal amount of $5,000,000. The Investors Note is subordinated to the Company's obligations owed to Foothill, secured by substantially all of the Company's assets and guaranteed by Interiors and the Company's Chairman, President and Chief Executive Officer and his spouse. The Investors Note accrues interest at 16% per annum until September 30, 2001 and 18% thereafter and is payable monthly commencing May 31, 2001. From time to time, the Company is required to prepay the Investors Note out of the proceeds of the sale of the assets or capital stock of the Company's subsidiaries. Interiors Investors is owned by Robert Berman, who controls Berman Industries, Inc., Stylecraft's largest vendor ("Berman Industries"), and Jimmy Webster, Stylecraft's Chief Executive Officer. The Company received net proceeds of $4,941,000, of which $2,000,000 was loaned to Stylecraft to pay accounts payable owed to Berman Industries, $2,941,000 was loaned to Petals for wording capital requirements, of which $450,000 was paid to Foothill on behalf of Interiors to pay down the revolving loan. In connection with the sale of Stylecraft, the Company repaid $3,000,000 principal amount of the Investors Note and the interest rate was increased to 20.0%. As part of the sale of Stylecraft, on September 28, 2001, Petals, Stylecraft and Interiors Investors entered into a letter agreement (the "Second Investors Letter Agreement") pursuant to which upon the sale of the assets or capital stock of Petals, the Company is obligated to pay Interiors Investors $200,000 plus $30,000 for each calendar month after April 1, 2002 until such event occurs. The Second Investors Letter Agreement expires on September 28, 2004. The amount will be included as part of the calculation of a gain or loss on discontinued operations. In addition, Petals issued a promissory note due March 31, 2002 in the amount of $224,894 in favor of Berman Industries, Inc., Stylecraft's largest vendor. The Company also issued a note in the amount of $665,000 (the "Webster Note") to Jimmy Webster as compensation triggered by the sale of Stylecraft. The Webster Note is personally guaranteed by Max Munn and his spouse and secured by all capital stock in the Company owned by Mr. Munn and his wife. (f) During fiscal year 2001, the Company issued 8% notes due to the former owners of Concepts totaling $2,059,000 comprised of the December 2000 purchase price payment of $770,000 and the calendar year 2000 earnout of $1,289,000. These notes are due in December 2001 and June 2002, respectively. (g) Includes $1,523,000 and $1,718,000 of capital lease obligations as of September 30 and June 30, 2001, respectively. It is anticipated that the proceeds from the sales of businesses during fiscal year 2002 will be used in part to repay these obligations. 3. Debt. Debt outstanding as of September 30 and June 30, 2001 is as follows: (amounts in thousands) -------------------------- September 30, June 30, 2001 2001 ---------- ------- Bank Revolving Loans (a) ........... $ 5,968 $ 2,642 15% Convertible Demand Notes (b) ... 140 140 12% Convertible Demand Notes (c) ... 686 686 Promissory Note - Landis (d) ....... 2,000 2,000 Capital lease obligations .......... 14 16 ------- ------- Total ..................... 8,808 5,484 Less current portion ............... (8,808) (5,484) ------- ------- Long term portion .................. $ -- $ -- ======= ======= 10 (a) In June 2000, the Company and Foothill entered into the Foothill Agreement as more fully discussed in Note 3 - Discontinued Operations. The interest rates on the revolving loans is prime plus 1.25% and on the term loans is prime plus 1.50%. As of March 1, 2001, the interest rates were increased to prime plus 2.5% on the revolving loans. At June 30, 2000, the prime rate was 6.75% and 9.50%, respectively, announced by Wells Fargo Bank. The credit facility contains financial and other covenants, including minimum net worth, and earnings before interest, income taxes and depreciation and amortization. Borrowings under the credit facility are secured by substantially all the assets of the Company, including accounts receivable and inventory. This debt is classified as current liabilities because Foothill has the right to accelerate this obligation in the event other debt obligations which are currently in default were accelerated by other lenders. (b) Issued to four accredited investors and convertible into Class A Shares at $1.50 per share. (c) Issued to five accredited investors and convertible into Class A Shares at $1.125 per share and accrued interest. (d) In July 2000, the Company issued to Donald M. Landis a $2,000,000 promissory note due July 27, 2001 (the "Landis Note"). The note requires the payment of monthly interest at an annual rate of 14%, accrues interest at 4%, which is payable at maturity, and is secured by the assets of the Company. The note replaces two separate $1,000,000 promissory notes with 24% and 16% interest rates previously issued to Mr. Landis and the Landis Brothers Corporation, respectively. The note is personally guaranteed by Mr. Munn, Chairman, President and Chief Executive Officer of the Company, and his spouse. 11 4. Earnings (Loss) Per Share. Reconciliation between the numerators and denominators of the basic and diluted EPS computations for net earnings for the quarters ended September 30, 2001, and 2000, respectively is as follows:

~~Habitat~~(amounts 3in ~~Months~~thousands, ~~Ended~~except ~~12/31/00~~per ~~Stylecraft~~share ~~Petals~~data) ~~West Coast Solutions Other Total~~ ------------ ---------- --- September 30, -------- ----------- ------ 2001 2000 ----- --- --------- ~~Net~~Numerator ~~sales~~for basic and diluted earnings per share: Loss from continuing operations ............................ $ 13(1,~~722~~351) $~~18,774~~ $8(1,~~866~~332) $Less: ~~5,466~~Dividends $on non-convertible preferred stock .......... (~~327~~109) $(144) 46-------- -------- (Loss) from continuing operations applicable to common stock (1,~~501~~460) ~~Gross~~(1,476) ~~profit~~Income (loss) from discontinued operations .................. ~~3,471~~-- ~~11,909~~501 ~~2,849~~-------- ~~2,491~~ -------- ~~20,720~~Net ~~Interest~~loss ~~expense~~applicable to common stock .............. ~~147 39 297 55 2,665 3,203 Depreciation/amortization~~ .......... 74$ ~~164~~1,460 ~~142~~$ ~~461~~(975) ~~230~~======== ~~1,071~~======== ~~Amortization~~Denominator offor ~~goodwill~~basic ~~......~~and 26diluted 38earnings 44per 27share: --Weighted ~~135~~average ~~Habitat~~shares 3outstanding ~~Months~~used ~~Ended~~in ~~12/31/99~~the ~~Stylecraft~~computation ~~Petals~~of ~~West~~per ~~Coast~~share ~~Solutions~~earnings: ~~Other~~Common ~~Total~~stock ~~-----------~~issued ........................................ 43,602 41,857 ---------- --------~~---~~ Weighted Average shares outstanding -~~----------~~ basic and diluted .... 43,602 41,857 --------~~---~~ --------~~---~~ ~~Net~~Earnings ~~sales~~(loss) per share: Basic and diluted: Continuing ................................................. $ ~~10,491~~(.03) $~~16,791~~ ~~$11,292~~(.03) $Discontinued: ~~3,099~~Income $(loss) --from $operations ~~41,673 Gross profit~~ .............................. ~~2,752~~-- ~~10,676~~.01 ~~2,859~~-------- ~~1,590~~ -------- ~~17,877~~Net ~~Interest~~loss ~~expense~~applicable to common stock .............. ~~90 28 148 61 1,108 1,435 Depreciation/amortization~~ ..... ~~24 138 62 641 96 961 Amortization of goodwill~~ ...... 33$ 33(.03) ~~130~~$ 8(.02) --======== ~~204~~========

For the three months ended September 30, 2001 and 2000, the conversion of 804,937 and 836,492, respectively, Series A Preferred Shares and for the three months ended September 30, 2000, 200,000 Series B Preferred Shares were not included for computation purposes since the effect would be antidilutive. For the three months ended September 30, 2001, the 1,000 Series E Preferred Shares were not included for computation purposes since the effect would be antidilutive. Also not included in the computation were options on approximately 4.1 million shares since the exercise price was higher than the market price of the Company's stock price. The Company has adopted Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share." In accordance with SFAS No. 128, net earnings per share amounts ("basic EPS") were computed by dividing net earnings by the weighted average number of common shares outstanding, excluding any potential dilution. For purposes of this calculation, common shares include both Class A Common Stock, par value $.001 per share ("Class A Shares"), and Class B Common Stock, par value $.001 per share, of the Company. Net earnings per diluted share amounts ("diluted EPS") were computed assuming there was no potential dilution from the exercise of outstanding stock options, warrants and other securities since the exercise price was higher than the market price. All periods presented include a deduction for the dividend requirement of the Company's 10% Series A Cumulative Convertible Preferred Stock, par value $.01 per share ("Series A Preferred Shares"), Series B Preferred Stock, par value $.01 per share ("Series B Preferred Shares"), and Series E Preferred Stock, $1,000 per share liquidation value ("Series E Preferred Shares"). 12 5. Supplemental Cash Flow Information. Supplemental cash flow information relating to continuing operations, is as follows:

(amounts in thousands) ---------------------------- Three Months Ended September, ------ ~~12/31/00 6/30/00~~ ---------------------- 2001 2000 ------------ ----------- ~~Current~~Cash ~~assets~~Paid ~~.........................................~~During $the ~~45,959~~Period $for: ~~45,923 Property, plant and equipment, net~~ Interest..................... ~~12,303 12,667 Goodwill, net~~ .......................................... ~~37,525~~$ ~~37,748~~402 ~~Other~~$ ~~assets~~38 ~~...........................................~~Non-Cash ~~2,220~~Financial ~~2,241~~Activities: ~~Notes~~Conversion ~~payable and current maturities~~ of ~~long-term~~Series ~~debt~~A ~~.................................................~~Preferred ~~(28,190)~~Stock ~~(32,433)~~to ~~Other~~Class ~~current~~A ~~liabilities~~Common Stock.........~~.....................~~ ~~(34,069) (28,420) Long~~-~~term~~- ~~debt~~1 ~~.........................................~~Dividend ~~(3,090)~~accrual ~~(3,326)~~and ~~Other~~accretion ~~non~~of ~~current~~dividends ~~liabilities~~on preferred shares........~~..................~~ ~~(2,454)~~109 ~~(3,974) ---------------- -------------- Net assets of discontinued operations held for sale .... $ 30,053 $ 30,426 ================ ==============~~144

Cash flow information for the discontinued operations for the three months ended September 30, 2001 are not presented since the operating results for the business units were included in the loss on the disposal of the businesses as of June 30, 2001. Cash flow information related to discontinued operations for the three months ended September 30, 2000, is as follows:

(amounts in thousands ~~except per share data~~) ----------------------~~----------------------------~~ Three Months Ended ~~Six~~September ~~Months Ended December 31~~30, ~~December 31, ---------------------- ----------------------~~ 2000 ~~1999 2000 1999~~ -------- -------- -------- ~~--------~~Net ~~Numerator~~Cash ~~for~~Used ~~basic~~in ~~and~~Discontinued ~~diluted earnings per share~~Operations: ~~(Loss)~~Net income from ~~continuing~~discontinued operations ................................. $ ~~(4,860)~~501 $Adjustments ~~(2,440)~~to $reconcile ~~(6,605)~~net $income ~~(3,157)~~from ~~Less:~~discontinuing ~~Dividends~~operations onto ~~non-convertible~~net ~~preferred~~cash ~~stock~~used in discontinuing operating activities: Depreciation and amortization ........................................... ~~(32)~~1,210 ~~(122)~~Net ~~(175)~~book ~~(307)~~value ~~Accreted~~of ~~preferred~~property ~~dividends~~disposed ..................................... --348 ~~(500)~~Noncash --finance ~~(1,000)~~charges ~~--------~~................................................. ~~--------~~311 ~~--------~~Reserve ~~--------~~for ~~(Loss)~~inventory ~~income from continued operations applicable to common stock~~ ................................................... ~~(4,892)~~68 ~~(3,062)~~Provision ~~(6,780)~~for ~~(4,464)~~losses ~~(Loss)~~on ~~income~~accounts ~~from~~receivable ~~discontinued operations~~ ............................. ~~508~~86 ~~625~~Changes ~~1,422~~in ~~1,512~~Assets ~~--------~~and ~~--------~~Liabilities: ~~--------~~Increase ~~--------~~in $accounts ~~(4,384)~~receivable $..................................... (2,~~437~~849) $Increase ~~(5,358)~~in $inventories ............................................. (2,~~952~~650) ~~========~~Decrease ~~========~~in ~~========~~prepaid ~~========~~expense ~~Denominator~~and ~~for~~other ~~basic~~assets ~~earnings~~........................ ~~per~~1,534 ~~share:~~Increase ~~Weighted average shares common shares outstanding used~~ in ~~the~~accounts ~~computation~~payable ofand ~~per~~accrued ~~share~~expenses ~~earnings~~ ................... 461,~~825~~473 ~~34,329~~Capital ~~44,357~~expenditures 33.................................................... (1,~~830~~141) ~~--------~~Borrowing ~~--------~~under ~~--------~~Foothill ~~--------~~revolving ~~Weighted~~loans ~~Average shares outstanding - basic~~ ................................ 461,~~825~~505 ~~34,329~~Repayment ~~44,357~~of ~~33,830~~debt ~~========~~and ~~========~~capital ~~========~~lease ~~========~~obligations ~~Denominator~~......................... ~~for~~(599) ~~diluted~~------- ~~earnings~~Net ~~per~~Cash ~~share:~~Used ~~Weighted~~By ~~Average~~Discontinued ~~shares~~Activities: ~~outstanding - diluted~~ .................................... ~~46,825~~$ ~~34,329~~(203) ~~44,357~~======= ~~33,830~~(amounts in thousands) -------- -------- -------- ---~~-----~~ ~~Weighted~~Three ~~Average~~Months ~~shares~~Ended ~~outstanding~~September ~~- diluted .......... 46~~30,~~825~~ ~~34,329 44,357 33,830~~ -------- ------------------- 2001 2000 ------------ ----------- ~~Earnings~~Supplemental ~~(loss)~~disclosure ~~income~~of ~~per~~non ~~share:~~cash ~~Basic~~items from financing activities: ~~Continuing~~Issuance of debt in connection with acquisitions.......................~~......................~~ $ ~~(.10)~~-- $ ~~(.09)~~5 $Supplemental ~~(.15)~~disclosure $of ~~(.13)~~non ~~Discontinued~~cash items from investing activities: Issuance of common stock in connection with acquisitions...............~~............................~~ ~~.01 .02 .03 .04~~ --~~------~~ ~~-------- -------- --------~~5

13 6. Related Party. In connection with the sale of Stylecraft, the personal loan for $250,000 of Mr. Munn, the Company's Chief Executive Officer, owed to Mr. Webster, the Chief Executive Officer of Stylecraft, was transferred to the Company and the Company set up a corresponding receivable form Mr. Munn. 7. Subsequent Events. On October 1, 2001, the Company completed the sale of substantially all of the assets of Stylecraft to Stylecraft Acquisition, Inc. for $24,700,000 in cash. See Note 2 "Discontinued Operations." On October 18, 2001, Mr. Munn offered to purchase the Company's APF Master Framemakers division. The Company has formed an independent committee of outside directors to examine the offer and determine an appropriate response which may include, without limitation, selling the division to Mr. Munn, looking for other potential buyers, or determining not to sell the division. 14 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation. Overview Interiors, Inc., a Delaware corporation ("Interiors" or the "Company"), is a designer, manufacturer and marketer of museum-quality traditional and contemporary picture frames, framed wall mirrors, oil paintings and prints under glass for the residential, commercial, institutional and contract markets. The Company primarily markets its products to museums, art galleries, designers, interior decorators and custom frame retailers. The Company's principal operations are located in Mount Vernon, New York. Ability to Continue as a Going Concern The report of the Company's independent public accountants in connection with the Company's financial statements as of and for the years ended June 30, 2001 and 2000 contain an explanatory paragraph as to the Company's ability to continue as a going concern. See "Item 5 Other Information." Discontinued Operations In an effort to generate cash needed to reduce the Company's high interest rate debt and maximize shareholder value, during the second quarter of fiscal 2001, the Company's Board of Directors adopted a formal plan to sell various businesses including, without limitation, Petals, Inc. ("Petals"), Stylecraft Lamps, Inc. ("Stylecraft"), Habitat Solutions, Inc. ("Habitat Solutions") and the West Coast operations. Following the contemplated transactions, the Company's business will primarily consist of its APF Master Framemakers division located in Mt. Vernon, New York. The Company retained DN Partners, an investment-banking firm, to assist in the sale of the various businesses. The West Coast is comprised of the operations of Troy and CSL, which were sold in February 2001, Windsor Art, Inc. ("Windsor"), which was sold in June 2001, and Artisan House, Inc. ("Artisan House"), a wholly owned subsidiary of Decor Group, Inc. ("Decor"), which as sold in August 2001. Habitat Solutions is comprised of Concepts 4, Inc. ("Concepts") and Model Home Interiors, Inc. ("Model Home"), which was sold in April 2001. The Company's lighting products are sold by Stylecraft which was sold on October 1, 2001, its silk floral and tree products are sold by Petals, its architectural and design services are provided by Habitat Solutions and its wall decor products were sold by Windsor and Artisan. During the second quarter of fiscal 2001, the Company accounted for these business units as discontinued operations. As of September 30, 2001, the Company's wholly owned subsidiaries, Petals and Concepts, which remain to be sold, were also considered discontinued operations. The consolidated financial statements for the period ended September 30, 2000 have been restated to reflect the discontinued operations. The results of operations, through September 30, 2000, for the businesses to be disposed of have been shown as discontinued operations in the accompanying financial statements and are summarized as follows:

(amounts in thousands) ------------------------------------------------------------------------------------- ~~Six~~West Habitat 3 Months ~~ended~~Ended ~~December~~9/30/00 ~~31,~~Stylecraft Petals Coast Solutions Other Total ----------- ----------- ~~2000~~----------- ~~1999~~----------- ---------- ----------- ~~Cash~~Net ~~paid during the period for: Interest~~ sales.......................~~.............................................~~ $ ~~709~~12,060 $ ~~674~~8,883 ~~Taxes~~$ ~~.......................................................................~~9,957 7$ --8,537 ~~Non-Cash~~$ ~~Financial~~(90) ~~Activities:~~$39,347 ~~Conversion~~Gross ~~of Series A Preferred Stock to Class A Common Stock~~ profit.............. ~~-- 1 Stock issuance per employment agreement~~ ......~~...............................~~ --3,137 754,848 ~~Common~~3,556 ~~Stock~~3,889 ~~issued~~-- ~~for~~15,430 ~~preferred~~Interest ~~dividends~~ expense................~~.................~~ --207 ~~192~~35 ~~Dividend~~259 ~~accrual~~42 ~~and~~1,661 ~~accretion~~2,204 ~~of dividends on preferred shares~~ Depreciation/amortization.......~~......~~ ~~175~~22 ~~1,307~~143 ~~Supplemental~~212 ~~disclosure~~479 of259 ~~non~~1,115 ~~cash~~Amortization ~~items from investing and financing activities: Issuance~~ of ~~additional Class A common stock in connection with the Concepts 4 and Model Homes acquisitions~~ goodwill........~~.........................~~ 534 35 139 73 -- 281

Revenues for the businesses presented above are from external sales. Inter-segment sales totaled $90,000 for the three months ended September 30, 2000 and is reported under the other category. Inter-segment sales were not significant for any business. Also reported under the other category is the interest expense and default penalty under the Limeridge Note and the Endeavor Note as well as the depreciation expense on a computer system that was being implemented. Depreciation and amortization assigned to the business units represents amounts applicable to fixed assets and other intangible assets excluding goodwill which is presented separately. 15 Results of Operations Comparison of Three Months Ended September 30, 2001 and 2000 Net sales for the three months ended September 30, 2001 were $1,901,000 as compared to $2,067,000 for the comparable period of the prior year, a decrease of $166,000. The decrease in net sales was primarily due to the Company's decision during fiscal 2001 to close down the rug and accessory businesses. Excluding rugs and accessories, sales increased $337,000. This increase in the frames business was from major contract customers partially offset by lower sales of custom frames. Cost of goods sold for the three months ended September 30, 2001 were about the same as the comparable period of the prior year. Cost of goods sold includes the costs directly related to the recognition of the Company's net sales. Excluding the rug and accessory businesses, cost of sales of the frame business increased $304,000 primarily due to higher contract business which is a lower margin product. Selling, general and administrative expenses decreased to $1,670,000 for the three months ended September 30, 2001 as compared to $2,060,000 for the comparable period of the prior year, a decrease of $390,000. This decrease primarily resulted from the decision to close down the rug and accessory businesses. General and administrative expenses represent overhead and administrative expenses excluding costs directly related to operations and the recognition of the Company's net sales. Excluding the selling, general and administrative expenses of the rug and accessory businesses, expenses increased $141,000 primarily due to higher salaries and freight expenses in the frame business Interest expense increased to $429,000 for the three months ended September 30, 2001 from $180,000 for the comparable period of the prior year primarily due to the higher borrowings under the Foothill revolver partially offset by lower interstate. Liquidity and Capital Resources The consolidated financial statements that accompany this Form 10-Q have been prepared on a going concern basis that contemplates the realization of assets and the satisfaction of liabilities as discussed below and in Note 2 - "Discontinued Operations." Since the beginning of the fiscal year, the Company has primarily used its cash to support operating activities. The Company's primary sources of cash during this period have been borrowings under the Foothill revolving loan agreement. At September 30, 2001, the Company had a working capital deficit of $18,221,000. Working capital deficit, excluding the liabilities of expenses held for disposition, was $10,664,000, which includes $5,968,000 representing debt classified as current because the Company was not in compliance with certain requirements governing these instruments. Net cash (used in) continuing operating activities during the quarters ended September 30, 2001 and 2000 was $667,000 and $1,907,000, respectively. The lower net cash usage during the quarter ended September 30, 2001 compared to the quarter ended September 30, 2000, is principally due to decreases in inventory resulting from the decision to shut down the rug and accessories businesses. In addition, the quarter ended September 30, 2001 had a loss from continuing operations of $1,351,000 compared to the loss of $1,332,000 for the quarter ended September 30, 2000. Net cash used in investing activities during the three month periods ended September 30, 2001 and 2000 was $33,000 and $133,000, respectively, for capital expenditures. Net cash provided by financing activities during the three month periods ended September 30, 2001 and 2000 was $416,000 and $3,186,000, respectively, representing the net borrowing during the respective periods. For the three months ended September 30, 2001, the borrowings under the Foothill revolving loans was $3,324,000 of which $2,908,000 was used for working capital purposes as well as advances to the business units to be disposed of. As of October 1, 2001, the Company entered into Amendment No. 6 to Loan Documents and Third Extended Forbearance Agreement with Foothill (the "Foothill Amendment No. 6") pursuant to which Foothill agreed to forbear from taking any action to collect the amounts owed to them until December 14, 2001 or (ii) a default under the Foothill Amendment No. 6. The fee charged by Foothill for such forbearance was $300,000. The Company's maximum borrowing under its credit facility was reduced from $13,500,000 to $2,335,000. 16 As part of the Stylecraft transaction, the Company entered into the Comprehensive Amendment, Guaranty and Security Agreement dated as of September 28, 2001, pursuant to which the Company granted Limeridge and Endeavour a security interest in substantially all of the Company's assets in exchange for such parties' forbearance from foreclosing on the Limeridge Note and the Endeavour Note until December 31, 2001 notwithstanding that the Company remains in default with respect to the Limeridge Note and the Endeavour Note. The security interest is subordinated to the security interests securing the Foothill debt, the Investors Note and the Landis Note. On March 19, 2001, Petals and Stylecraft, wholly owned subsidiaries of the Company, executed a Senior Subordinated Secured Note due March 14, 2002 (the "Investors Note") in favor of Interiors Investors, LLC, a Delaware limited liability company ("Interiors Investors") in the original principal amount of $5,000,000. The Investors Note is subordinated to the Company's obligations owed to Foothill, secured by substantially all of the Company's assets and guaranteed by Interiors and the Company's Chairman, President and Chief Executive Officer and his spouse. The Investors Note accrues interest at 16% per annum until September 30, 2001 and 18% thereafter and is payable monthly commencing May 31, 2001. From time to time, the Company is required to prepay the Investors Note out of the proceeds of the sale of the assets or capital stock of the Company's subsidiaries. Interiors Investors is owned by Robert Berman, who controls Berman Industries, Inc., Stylecraft's largest vendor ("Berman Industries"), and Jimmy Webster, Stylecraft's Chief Executive Officer. The Company received net proceeds of $4,941,000, of which $2,000,000 was loaned to Stylecraft to pay accounts payable owed to Berman Industries, $2,941,000 was loaned to Petals for working capital requirements, of which $450,000 was paid to Foothill on behalf of Interiors to pay down the revolving loan. In connection with the sale of Stylecraft, the Company repaid $3.0 million principal amount of the Investors Note and the interest rate was increased to 20.0% On March 19, 2001, Petals, Stylecraft and Interiors Investors entered into a letter agreement (the "Investors Letter Agreement") pursuant to which upon the sale of the assets or capital stock of Petals and/or Stylecraft, the Company is obligated to pay Interiors Investors $2,200,000 plus $125,000 for each calendar month after October 1, 2001 until such event occurs. The Investors Letter Agreement expires on March 19, 2004. The amount is included as part of the calculation of a gain or loss on discontinued operations. In connection with the Stylecraft transaction, the Company paid Interiors Investors $2,200,000 to satisfy its obligations under the Investors Letter Agreement. As part of the sale of Stylecraft, on September 28, 2001, Petals, Stylecraft and Interiors Investors entered into a letter agreement (the "Second Investors Letter Agreement") pursuant to which upon the sale of the assets or capital stock of Petals, the Company is obligated to pay Interiors Investors $200,000 plus $30,000 for each calendar month after April 1, 2002 until such event occurs. The Second Investors Letter Agreement expires on September 28, 2004. The amount will be included as part of the calculation of a gain or loss on discontinued operations. In addition, Petals issued a promissory note due March 31, 2002 in the amount of $224,894 in favor of Berman Industries, Inc., Stylecraft's largest vendor. The Company also issued a note in the amount of $665,000 (the "Webster Note") to Jimmy Webster as compensation triggered by the sale of Stylecraft. The Webster Note is personally guaranteed by Max Munn and his spouse and secured by all capital stock in the Company owned by Mr. Munn and his wife. On October 12, 2000, the Company and the former shareholders of Concepts amended the terms of the purchase agreement pursuant to which the Company acquired all of the common stock of Concepts. Pursuant to the amended terms, the Company paid the former shareholders $3,388,000 during the second quarter of 2000. The Company also has purchase price obligations consisting of (a) a cash payment of $770,000 payable on December 15, 2000, which was satisfied by the delivery of a note as discussed below, (b) a cash payment of $1,218,000 payable on December 15, 2001, (c) a cash payment of $1,218,000 payable on December 15, 2002, and (e) a cash payment of $1,007,289 payable on March 10, 2003. Pursuant to the transaction, the Company also agreed to pay the former shareholders up to $4,500,000 upon the attainment of certain earnings goals by the Company. The amount, if any, will be determined by the earnings of Concepts for the fiscal years 2000, 2001 and 2002. For the calendar year 2000, the earnout was $1,289,000, which was recorded as additional goodwill. All purchase price obligations of the Company can be satisfied by the delivery of twelve month promissory notes bearing interest at 8% per annum and all earnout obligations can be satisfied by the delivery of eighteen month promissory notes bearing interest at 8% per annum. The December 15, 2000 payment of $770,000 and the earnout of $1,289,000 were satisfied by the issuance of promissory notes to the former shareholders of Concepts. During the third and fourth quarters of fiscal 2001, $351,000 has been paid on the $770,000 promissory note. The Company has also agreed to maintain an escrow account containing Class A Shares in an amount sufficient to satisfy all purchase price and earnout obligations relating to Concepts as they become due under the terms of the transaction. The former shareholders have agreed to vote such shares in support of the election of the nominees of Board of Directors as long as the Company is not in default under the amended purchase agreements. As of June 30, 2001, there was an aggregate of 9,999,999 Class A Shares held in the escrow account. The former shareholders have the option of removing Class A Shares from the escrow account in an amount necessary to satisfy any outstanding purchase price obligations or promissory notes delivered in connection therewith. The Company does not expect the shareholders to exercise this option given the current trading price of the Class A Shares. 17 The Company will attempt to complete its plan to discontinue certain of its operations by December 31, 2001. The completion of such plan is dependent on numerous factors beyond the control of the Company, including without limitation, the marketability of the Company's subsidiaries and divisions, other comparable assets being offered by other sellers, interest rates, the Company's ability to find willing buyers, the capital markets, the continued performance of the Company's subsidiaries and divisions, and the Company's defaults under senior debt instruments and lack of capital resources needed to accomplish such sales. Notwithstanding the Company's ability to complete the sale of its discontinued obligations, it will not have sufficient proceeds to satisfy all of its obligations. The Company will be forced to seek additional financing alternatives or seek a liquidation of its remaining assets. See "Item 5 Other Matters." Impact of Inflation The Company does not believe that inflation has had a material adverse effect on sales or income during the past several years. Increases in supplied and other operating costs could adversely effect the Company's operations, however, the Company believes that it should be able to increase prices to offset increases in cost of goods sold or other operating costs. Sales Variations The Company's net sales are not generally subject to seasonal fluctuations experienced by certain retailers; however, the Company does experience some minor variations in the level of sales during the year. The first quarter of the Company's fiscal year (July through September) is generally the Company's slowest sales period due to the fact that the summer is typically when retailers are in their slowest purchasing period. During this time, certain of the Company's warehouses and factories close for three to five days to take annual physical inventories and to consolidate vacation periods for certain of the Company's employees. In addition, the second quarter of the Company's fiscal year (October through December) is generally the highest sales period for the Company's subsidiary, Petals. As a result, the Company's liquidity is dramatically improved during this period. Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company is exposed to market risk related to changes in interest rates based primarily on its financing activities. As of September 30, 2001, approximately $13,335,000 of the Company's total liabilities was subject to floating rates of which $7,367,000 is applicable to discontinued operations and $5,968,000 is applicable to continuing operations. The Company does not enter into financial instruments for hedging, speculation or for trading purposes. 18 Forward Looking Statements When used in this Quarterly Report on Form 10-Q, the words "may," "will," "should," "expect," "believe," "anticipate," "continue," "estimate," "project," "intend" and similar expressions are intended to identify forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act regarding events, conditions and financial trends that may affect the Company's future plans of operations, business strategy, results of operations and financial condition. The Company wishes to ensure that such statements are accompanied by meaningful cautionary statements pursuant to the safe harbor established in the Private Securities Litigation Reform Act of 1995. Prospective investors are cautioned that any forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties and that actual results may differ materially from those included within the forward-looking statements as a result of various factors. Such forward-looking statements should, therefore, be considered in light of various important factors, including those set forth herein and others set forth from time to time in the Company's reports and registration statements filed with the Securities and Exchange Commission. The Company disclaims any intent or obligation to update such forward-looking statements. In particular, the Company has adopted a formal plan to sell substantially all of its assets and anticipates that such transactions in the aggregate will result in a net loss to the Company. The ability of the Company to complete these sales are dependent on numerous factors beyond the control of the Company, including without limitation, the marketability of the Company's subsidiaries and divisions, other comparable assets being offered by other sellers, interest rates, the Company's ability to find willing buyers, the capital markets, the continued performance of the Company's subsidiaries and divisions, and the Company's defaults under senior debt instruments and lack of capital resources needed to accomplish such sales. 19 INTERIORS, INC. AND SUBSIDIARIES PART II OTHER INFORMATION Item 1. Legal Proceedings. Matrix Funding Corporation v. Stylecraft Lamps, Interiors, Inc and Petals, Inc. This matter was brought by the plaintiff in the Third Judicial District Court of Salt Lake County, Salt Lake Department, State of Utah and relates to the non-payment of a computer equipment lease. The equipment covered by the lease is not integral to the Company's business. The plaintiff obtained a default judgment in the amount of approximately $1,900,000 in damages. The plaintiff has offered to settle the matter for significantly less than the amount of the judgment. The Company is currently considering this offer. Item 2. Changes in Securities and Use of Proceeds. In November 2001, the Company retired 7,261,103 Class A Shares that were returned to the Company in connection with the sale of Model Home Interiors, Inc. Item 3. Defaults Upon Senior Securities. As of September 30, 2001, the Company had $831,000 of accrued and unpaid dividends on its Series A Preferred Shares for $805,000 and $26,000 on its Series E Preferred shares. The Company is currently in default with respect to its debt obligations owed under the Foothill credit facility, the Limeridge Note, the Endeavour Note, and the Landis Note. See "Note 3 - Debt" to the consolidated financial statements accompanying this Form 10-Q. Item 5. Other Information. On October 1, 2001, the Company completed the sale of substantially all of the assets of Stylecraft to Stylecraft Acquisition, Inc. for $24,700,000 in cash. The cash proceeds were used to repay debt owed to Foothill in the amount of $9,900,000, the Investors Note in the amount of $5,200,000, the Limeridge Note and the Endeavour Note in the aggregate amount of $2,800,000, a real estate mortgage owed to Bank of America in the amount of $2,200,000 and the Landis Note (as defined below) in the amount of $500,000. As part of the transaction, a personal loan of Max Munn, the Company's Chief Executive Officer, in the amount of $250,000, owed to Jimmy Webster, the Chief Executive of Stylecraft, was transferred to the Company and the Company set up a corresponding receivable from Mr. Munn. The Company also paid an aggregate of approximately $1,200,000 out of $2,400,000 of retention incentives owed to its executive officers. The Company paid approximately $600,000 in fees and expenses. The remaining balance of approximately $2,300,000 was used for general working capital purposes of the Company. In addition, Petals issued a promissory note due March 31, 2002 in the amount of $224,894 in favor of Berman Industries, Inc., Stylecraft's largest vendor. The Company also issued a note in the amount of $665,000 (the "Webster Note") to Jimmy Webster as compensation triggered by the sale of Stylecraft. The Webster Note is personally guaranteed by Max Munn and his spouse and secured by all capital stock in the Company owned by Mr. Munn and his wife. On October 1, 2001, Mr. Munn, the Company's Chief Executive Officer, executed the Consolidated Promissory Note due November 1, 2005 in the principal amount of $568,624.97 bearing interest at 6.5% in favor of the Company. At maturity, all accrued interest plus $48,679.92 of previously accrued interest is due and payable. On October 18, 2001, Mr. Munn offered to purchase the Company's APF Master Framemakers division. The Company has formed an independent committee of outside directors to examine the offer and determine an appropriate response which may include, without limitation, selling the division to Mr. Munn, looking for other potential buyers, or determining not to sell the division. Ability to Continue as a Going Concern The report of the Company's independent public accountants in connection with the Company's financial statements as of and for the years ended June 30, 2001 and 2000, filed with the Company's Form 10-K, contain an explanatory paragraph as to Company's ability to continue as a going concern. Among the factors contributing to the substantial doubt about the Company's ability to continue as a going concern are recurring net losses and the Company's default with respect 20 to significant debt obligations. For the years ended June 30, 2001, 2000 and 1999, the Company had net losses of $39,192,000, $18,581,000 and $8,771,000, respectively, see Note 3 - Discontinued Operations. The net loss for the year ended June 30, 2001 of $39,192,000 includes a charge of $28,600,000 for the estimated loss on the disposal of businesses. The Company had operating cash flow of $193,000 for the year ended June 30, 2001 but had negative operating cash flows of $920,000 and $31,540,000 (which was used primarily for acquisitions), for the years ended June 30, 2000 and 1999, respectively. As of June 30, 2001, the Company had classified $27,070,000 of its long term debt, including debt applicable to discontinued operations of $24,428,000, as current liabilities because of its failure to meet requirements contained in the instruments governing these debt obligations. Such amount can currently be accelerated by the holders of these instruments as a result of the defaults. These factors raise substantial doubt about the Company's ability to continue as a going concern. Limited Liquidity At September 30, 2001, the Company had negative working capital of approximately $18,221,000. The Company continues to experience working capital limitations which materially impair its ability to generate positive cash flow. The cash proceeds received from the sales of various business units were required to be used to repay debt. The Company's credit facility provides for availability based upon inventory and account receivable levels and, accordingly, the Company has experienced limitations on the availability under this facility. The sales of Petals and Concepts during fiscal 2002 will be required to repay outstanding debt obligations. If the Company continues to experience working capital limitations it will materially impact the Company's financial condition and results of operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources." Estimated Loss on Disposal of Businesses; Failure to Satisfy Obligations The Company currently estimates that as a result of the disposal of all discontinued operations the Company will incur a net loss. In addition, as of September 30, 2001, the Company's continuing operations had a working capital deficit of $10664,000 and reported a net loss of $1,351,000. Accordingly, the Company does not expect that there will be sufficient proceeds from the sale of its remaining discontinued operations or results of continuing operations to satisfy all of its remaining obligations. The Company will be forced to seek additional financing alternatives or seek a liquidation of its remaining assets. Significant Financing Costs The Company has incurred significant costs in the financing of its business operations and acquisition strategy. As of September 30, 2001, the Company, including debt applicable to discontinued operations of $34,753,000, had total debt in the aggregate principal amount of approximately $43,561,000. As a consequence of the Company's significant financing costs, a substantial portion of the Company's cash flow from operations and cash proceeds from the sales of business units is committed to the payment of debt service and is not available to the Company for other purposes. As of September 30, 2001, the Company is in default with respect to $28,070,000 of debt obligations. Substantial decreases in the proceeds from the businesses to be sold and in operating cash flow or an increase in expenses would make it even more difficult for the Company to meet its other debt service requirements and force it to modify its operations. If this event were to occur, it would have a material adverse effect on the Company's financial position and results of operations. 21 Delisting of Securities; Limited Trading Market In August 2000, the Company received a notice from the Nasdaq Stock Market of its intention to delist the Company's securities from the Nasdaq Small Cap Market because of the Company's failure to maintain at least $2.0 million in net tangible assets and a bid price of $1.00 per share. Marketplace Rule 4310(c)(2)(B) requires that an issuer have net tangible assets of at least $2,000,000 or a market capitalization of $35,000,000 or net income of $500,000. Marketplace Rule 4310(c)(4) requires that the Company's securities maintain a minimum bid price of $1.00 per share. The Company does not currently satisfy these criteria. On October 11, 2000, the Company received notice from Nasdaq that it had determined to delist the Company's securities. The Company securities are now traded on the OTC Bulletin Board. There can be no assurance that there will continue to be a market maker for the Company's securities or that an active market will develop on the OTC Bulletin Board. "Penny Stock" Regulations May Impose Certain Restrictions on Marketability of the Company's Securities The Securities and Exchange Commission (the "Commission") has adopted regulations which generally define a "penny stock" to be any equity security that has a market price of less than $5.00 per share, subject to certain exemptions such as being listed on the Nasdaq SmallCap Market. As a result of being delisted, the Company's securities are subject to rules, which impose additional sales practice requirements on broker-dealers who sell such securities to persons other than established customers and accredited investors (generally, those persons with assets in excess of $1,000,000 or annual income exceeding $200,000, or $300,000 together with their spouse). For transactions covered by these rules, the broker-dealer must make a special suitability determination for the purchase of the securities and have received the purchaser's written consent to the transaction prior to the purchase. Additionally, for any transaction involving a penny stock, unless exempt, the rules require the delivery, prior to the transaction, of a risk disclosure document mandated by the Commission relating to the penny stock market. The broker-dealer also must disclose the commissions payable to both the broker-dealer and the registered representative, current quotations for the securities and, if the broker-dealer is the sole market maker, the broker-dealer must disclose this fact and the broker-dealer's presumed control over the market. Finally, monthly statements must be sent disclosing recent price information for the penny stock held in the account and information on the limited market in penny stocks. Consequently, the penny stock rules may restrict the ability of broker-dealers to sell the securities and adversely affect the marketability of the Company's securities. Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits Exhibit No. Description ---------- ----------- 2.1 Asset Purchase Agreement by and between Stylecraft Lamps, Inc., Interiors, Inc. and Stylecraft Acquisition, Inc.* 2.2 Amendment No. 1 to Asset Purchase Agreement by and between Stylecraft Lamps, Inc., Interiors, Inc. and Stylecraft Acquisition, Inc.* 2.3 Amendment No. 2 to Asset Purchase Agreement by and between Stylecraft Lamps, Inc., Interiors, Inc. and Stylecraft Acquisition, Inc.* 10.1 Comprehensive Amendment, Guaranty and Security Agreement dated as of September 28, 2001 among Interiors, Inc., et al and Limeridge LLC, The Endeavour Capital Fund, S.A. and The Endeavour Capital Investment Fund. S.A.* 10.2 Consolidated Promissory Note dated October 1, 2001 of Max Munn* * To be filed by amendment. (b) Reports on Form 8-K None 22 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. Dated: INTERIORS, INC. November 19, 2001 By: /s/ Max Munn --------------------------------------------- Max Munn President and Chief Executive Officer November 19, 2001 By: /s/ Robert J. Conologue --------------------------------------------- Robert J Conologue Executive Vice President and Chief Financial Officer 23

(amounts in thousands) Six Months Ended December 31, -------------------- 2000 1999 ------- ------- Net cash used in discontinued operations: Net income from discontinued operations ............................. $ 1,422 $ 1,512 Adjustments to reconcile net income from discontinuing operations to net cash used in discontinuing operating activities: Depreciation and amortization ....................................... 2,487 2,150 Net book value of property disposed ................................. 686 755 Reserve for restructuring ........................................... -- (264) Reserve for Inventory ............................................... -- 51 Net proceeds from issuance of debt .................................. -- 8,758 Provision for losses on accounts receivable ......................... 1,730 -- Changes in Assets and Liabilities: Increase in accounts receivable ..................................... (2,257) (1,306) Increase in inventories ............................................. (1,827) (1,757) Decrease in prepaid expense and other assets ........................ 1,628 485 Increase (decrease) in accounts payable and accrued expenses ........ 4,255 (961) Capital expenditures ................................................ (2,456) (2,223) Repayment of Foothill revolving loans ............................... (3,065) -- Repayment of debt and capital lease obligations ..................... (863) (2,996) ------- ------- Net cash provided by discontinued activities: .......................... $ 1,740 $ 4,204 ======= =======

(amounts in thousands) Six Months Ended December 31, -------------------- 2000 1999 ------- ------- Non-Cash Financial Activities: Conversion of Series C Preferred stock to Limeridge and Endeavor convertible notes .......................................... -- $ 6,527 Supplemental Disclosure of Cash Flows Related to Acquisition: Fair value of assets acquired, excluding cash ....................... -- 3,501 Issuance of additional Limeridge convertible notes payable .......... -- (7,036) Payments in connection with acquisitions, net of cash acquired ...... -- 1,458 Liabilities assumed ................................................. -- 9,917 Supplemental disclosure of non cash items from investing and financing activities: Issuance of debt in connection with acquisitions .................... -- 7,036

(amounts in thousands) ------------------------------------------------------------------------------------ Habitat 6 Months Ended 12/31/00 Stylecraft Petals West Coast Solutions Other Total ----------- ---------- ----------- ----------- ---------- ----------- Net sales ....................... $ 25,782 $27,657 $18,823 $14,003 $ (417) $ 85,848 Gross profit .................... 6,608 16,757 6,405 6,380 -- 36,150 Interest expense ................ 354 74 556 97 3,984 5,065 Depreciation/amortization ....... 96 307 421 941 306 2,071 Amortization of goodwill ........ 60 73 183 100 -- 416 Habitat 6 Months Ended 12/31/99 Stylecraft Petals West Coast Solutions Other Total ----------- ---------- ----------- ----------- ---------- ----------- Net sales ....................... $ 20,221 $24,758 $24,116 $ 6,524 $ -- $ 75,619 Gross profit .................... 5,341 15,194 6,867 3,360 -- 30,762 Interest expense ................ 218 48 535 117 1,192 2,110 Depreciation/amortization ....... 48 276 124 482 314 1,742 Amortization of goodwill ........ 66 66 260 16 -- 408 Habitat 3 Months Ended 12/31/00 Stylecraft Petals West Coast Solutions Other Total ----------- ---------- ----------- ----------- ---------- ----------- Net sales ....................... $ 13,722 $18,774 $ 8,866 $ 5,466 $ (327) $ 46,501 Gross profit .................... 3,471 11,909 2,849 2,491 -- 20,720 Interest expense ................ 147 39 297 55 2,665 3,203 Depreciation/amortization ....... 74 164 142 461 230 1,071 Amortization of goodwill ........ 26 38 44 27 -- 135 Habitat 3 Months Ended 12/31/99 Stylecraft Petals West Coast Solutions Other Total ----------- ---------- ----------- ----------- ---------- ----------- Net sales ....................... $ 10,491 $16,791 $11,292 $ 3,099 $ -- $ 41,673 Gross profit .................... 2,752 10,676 2,859 1,590 -- 17,877 Interest expense ................ 90 28 148 61 1,108 1,435 Depreciation/amortization ....... 24 138 62 641 96 961 Amortization of goodwill ........ 33 33 130 8 -- 204

Nominee Class A Votes Class B Votes Total ------- ------------- ------------- ----- Max Munn 21,946,983 12,275,000 34,221,983 Roger Lourie 22,036,432 12,275,000 34,311,432 Richard Josephberg 22,032,432 12,275,000 34,307,432 James Bloise 22,074,748 12,275,000 34,349,748 Kinsey Craichy 18,441,245 0 18,441,245 Charles Egan 18,435,845 0 18,435,845 Carl McWilliams 18,441,245 0 18,441,245

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