10-Q 1 a2188955z10-q.htm FORM 10Q
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q


ý		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2008
or
o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 001-13711

WALTER INDUSTRIES, INC.


Incorporated in Delaware		13-3429953 IRS Employer Identification No.
4211 W. Boy Scout Boulevard, Tampa, Florida		33607
(813) 871-4811 Telephone Number

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer ý		Accelerated filer o		Non-accelerated filer o (Do not check if a smaller reporting company)		Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act. (Check one): Yes o No ý

Number of shares of common stock outstanding as of October 31, 2008: 54,337,291.

PART I—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

				September 30, 2008			December 31, 2007

ASSETS
Cash and cash equivalents				$	31,190		$	30,614
Short-term investments, restricted					58,830			75,851
Instalment notes receivable, net of allowance of $14,936 and $13,992, respectively					1,804,610			1,837,059
Receivables, net					173,294			81,698
Inventories					122,159			101,676
Prepaid expenses					39,023			38,340
Property, plant and equipment, net					523,248			435,035
Other assets					143,954			156,113
Goodwill					—			10,895

				$	2,896,308		$	2,767,281

LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable				$	82,924		$	72,072
Accrued expenses					122,763			83,072
Accrued interest					11,628			13,940
Debt:
	Mortgage-backed/asset-backed notes				1,402,234			1,706,218
	Other debt				205,933			225,860
Accumulated postretirement benefits obligation					345,921			335,034
Other liabilities					222,732			216,372

	Total liabilities				2,394,135			2,652,568

Commitments and contingencies (Note 16)
Stockholders' equity
	Common stock, $0.01 par value per share:
		Authorized—200,000,000 shares
		Issued—55,515,393 and 51,991,134 shares			555			520
	Capital in excess of par value				773,885			497,032
	Accumulated deficit				(189,314	)		(290,986	)
	Accumulated other comprehensive loss:
		Pension and post retirement benefit plans, net of tax			(84,492	)		(87,071	)
		Unrealized gain (loss) on hedges, net of tax			1,539			(4,782	)

			Total stockholders' equity		502,173			114,713

				$	2,896,308		$	2,767,281

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

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

		For the three months ended September 30,

		2008		2007
Net sales and revenues:
	Net sales	$	339,156	$	249,163
	Interest income on instalment notes		46,243		49,712
	Miscellaneous		2,591		13,331

			387,990		312,206

Costs and expenses:
	Cost of sales (exclusive of depreciation)		193,292		184,535
	Depreciation		14,786		12,089
	Selling, general and administrative		35,390		34,088
	Provision for losses on instalment notes		5,607		3,366
	Postretirement benefits		6,595		6,863
	Interest expense—mortgage-backed/asset-backed notes		24,279		29,996
	Interest expense—other debt		5,478		7,358
	Amortization of intangibles		302		455
	Provision for estimated hurricane insurance losses		3,853		—
	Restructuring and impairment charges		17,380		—

			306,962		278,750

Income before income tax expense			81,028		33,456
Income tax expense			26,028		9,093

Net income		$	55,000	$	24,363

Basic net income per share		$	0.99	$	0.47

Diluted net income per share		$	0.97	$	0.46

Dividends declared per common share		$	0.10	$	0.05

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

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

		For the nine months ended September 30,

		2008		2007
Net sales and revenues:
	Net sales	$	897,842	$	747,696
	Interest income on instalment notes		142,975		149,939
	Miscellaneous		12,899		31,389

			1,053,716		929,024

Costs and expenses:
	Cost of sales (exclusive of depreciation)		568,221		530,632
	Depreciation		42,386		34,310
	Selling, general and administrative		110,660		109,664
	Provision for losses on instalment notes		12,934		8,756
	Postretirement benefits		19,783		19,882
	Interest expense—mortgage-backed/asset-backed notes		78,433		89,512
	Interest rate hedge ineffectiveness		16,981		—
	Interest expense—other debt		22,377		21,923
	Amortization of intangibles		1,007		1,375
	Provision for estimated hurricane insurance losses		3,853		—
	Restructuring and impairment charges		24,150		—

			900,785		816,054

Income from continuing operations before income tax expense			152,931		112,970
Income tax expense			46,656		38,702

Income from continuing operations			106,275		74,268
Loss from discontinued operations			—		(2,229	)

Net income		$	106,275	$	72,039

Basic income (loss) per share:
	Income from continuing operations	$	1.98	$	1.42
	Loss from discontinued operations		—		(0.04	)

	Net income	$	1.98	$	1.38

Diluted income (loss) per share:
	Income from continuing operations	$	1.95	$	1.41
	Loss from discontinued operations		—		(0.04	)

	Net income	$	1.95	$	1.37

Dividends declared per common share		$	0.20	$	0.15

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

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CHANGES

IN STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS)

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (UNAUDITED)

(IN THOUSANDS)

		Total			Common Stock			Capital in Excess of Par Value			Comprehensive Income		Accumulated Deficit			Accumulated Other Comprehensive Income (Loss)

Balance at December 31, 2007		$	114,713		$	520		$	497,032				$	(290,986	)	$	(91,853	)
Comprehensive income:
Net income			106,275								$	106,275		106,275
Other comprehensive income (loss), net of tax:
	Change in pension and postretirement benefit plans		1,909									1,909					1,909
	Change in unrealized gain (loss) on hedges, net of taxes		6,321									6,321					6,321

Comprehensive income											$	114,505

Effects of changing the pension plan measurement date pursuant to FASB 158:
	Service cost, interest cost, and expected return on plan assets for October 1–December 31, 2007, net of taxes		(4,603	)										(4,603	)
	Amortization of actuarial gain and prior service cost for October 1–December 31, 2007, net of taxes		670														670
Purchases of stock under stock repurchase program			(14,461	)		(2	)		(14,459	)
Proceeds from public stock offering			280,432			32			280,400
Stock issued upon the exercise of stock options			7,903			4			7,899
Stock issued upon conversion of convertible notes			785			1			784
Tax benefit from the exercise of stock options			6,673						6,673
Dividends paid, $0.20 per share			(10,799	)					(10,799	)
Stock-based compensation			7,757						7,757
Other			(1,402	)					(1,402	)

Balance at September 30, 2008		$	502,173		$	555		$	773,885				$	(189,314	)	$	(82,953	)

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

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(IN THOUSANDS)

			For the nine months ended September 30,

			2008			2007
OPERATING ACTIVITIES
Net income			$	106,275		$	72,039
Loss from discontinued operations				—			2,229

		Income from continuing operations		106,275			74,268
Adjustments to reconcile income from continuing operations to net cash provided by operating activities:
	Provision for losses on instalment notes receivable			12,934			8,756
	Depreciation			42,386			34,310
	Non-cash restructuring and impairment charges			21,960			—
	Other			5,768			22,364
Decrease (increase) in assets, net of effect of acquisitions:
	Receivables			(73,530	)		(6,675	)
	Inventories			(17,855	)		15,107
	Prepaid expenses			9,456			(2,628	)
	Instalment notes receivable, net			7,636			(55,242	)
Increase (decrease) in liabilities, net of effect of acquisitions:
	Accounts payable			8,899			3,536
	Accrued expenses			37,507			(21,807	)
	Accrued interest			(2,331	)		(2,904	)

		Cash flows provided by operating activities		159,105			69,085

INVESTING ACTIVITIES
	Acquisitions, net of cash acquired			(17,871	)		(11,650	)
	Purchases of loans			—			(39,900	)
	Principal payments received on purchased loans			11,879			31,267
	Decrease in short-term investments, restricted			17,021			3,829
	Additions to property, plant and equipment			(88,804	)		(110,345	)
	Other			4,888			5,388

		Cash flows used in investing activities		(72,887	)		(121,411	)

FINANCING ACTIVITIES
	Issuance of mortgage-backed/asset-backed notes			25,000			172,200
	Payments of mortgage-backed/asset-backed notes			(329,035	)		(170,719	)
	Proceeds from issuances of other debt			330,000			—
	Retirement of other debt			(376,351	)		(40,831	)
	Proceeds from public stock offering			280,432			—
	Other			(15,688	)		(13,165	)

		Cash flows used in financing activities		(85,642	)		(52,515	)

		Cash flows provided by (used in) continuing operations		576			(104,841	)

CASH FLOWS FROM DISCONTINUED OPERATIONS
	Cash flows provided by operating activities			—			630

	Cash flows provided by discontinued operations			—			630

Net increase (decrease) in cash and cash equivalents			$	576		$	(104,211	)

Cash and cash equivalents at beginning of period			$	30,614		$	127,369
Add: Cash and cash equivalents of discontinued operations at beginning of period				—			1
Net increase (decrease) in cash and cash equivalents				576			(104,211	)

Cash and cash equivalents at end of period			$	31,190		$	23,159

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

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(IN THOUSANDS)

		For the nine months ended September 30,

		2008			2007
SUPPLEMENTAL DISCLOSURES
Investing Activities:
Acquisition of Taft Coal Sales & Associates, Inc. (2008) and Tuscaloosa Resources, Inc (2007):
	Fair value of assets acquired	$	38,924		$	26,260
	Fair value of liabilities assumed		(18,885	)		(14,216	)
	Less: Cash acquired		(3,011	)		(394	)

	Net cash paid	$	17,028		$	11,650

Financing Activities:
Non-cash transaction:
	One-year property insurance policy financing agreement	$	9,291		$	8,383

	Acquisition of property, plant and equipment under capital lease and other obligations	$	22,587		$	—

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

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 1—Basis of Presentation

Walter Industries, Inc. ("Walter"), together with its consolidated subsidiaries ("the Company"), is a diversified company which operates in five reportable segments: Natural Resources, Sloss, Financing, Homebuilding and Other. See Note 15. Through these operating segments, the Company offers a diversified line of products and services including coal and natural gas, furnace and foundry coke, slag fiber, mortgage financing and home construction. In the fourth quarter of 2007, the Company began reporting United Land, the parent of Kodiak Mining Co., Tuscaloosa Resources, Inc. ("TRI"), and Taft Coal Sales & Associates, Inc. ("Taft"), as part of Natural Resources due to its natural resource holdings. Prior to the fourth quarter of 2007, United Land was included in the Other segment. Operating results for the three and nine months ended September 30, 2007 have been revised to reflect this change.

The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2008 are not necessarily indicative of the results that may be expected for the year ending December 31, 2008.

The balance sheet at December 31, 2007 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.

Note 2—Business Separation and Merger

On September 30, 2008, the Company outlined its plans to separate its Financing business from the Company's core Natural Resources businesses. The Company plans to distribute 100% of its interest in JWH Holding Company, LLC ("JWH Holding Company"), a wholly-owned subsidiary of the Company and parent company of the entities included in the Financing and Homebuilding segments, to its shareholders. Prior to this distribution, Homebuilding will be sold or otherwise separated from JWH Holding Company and will not be part of the spin-off entity.

Also on September 30, 2008, as amended and restated on October 28, 2008, JWH Holding Company entered into a definitive agreement to merge with Hanover Capital Mortgage Holdings, Inc. ("Hanover"), a New Jersey-based real estate investment trust ("REIT"). The merger will occur immediately following the spin-off and the combined company will continue to operate as a publicly traded REIT following the merger. The new company will be named Walter Investment Management Corporation ("Walter Investment Management"), be headquartered in Tampa, Fla. and have approximately 225 employees. The spin-off and merger are expected to be completed in early 2009. After the spin-off and merger, Walter's shareholders will own approximately 98.5% of Walter Investment Management's publicly traded common stock. Shareholders of Hanover will own the remaining 1.5%. Walter Investment Management plans to apply to list its shares on the American Stock Exchange.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 2—Business Separation and Merger (Continued)

The transaction is subject to certain closing conditions including, but not limited to, approval of the merger by Hanover's shareholders, favorable rulings from the Internal Revenue Service, and the Securities and Exchange Commission declaring effective the required S-4 registration statement and associated proxy statement filings. The Company will continue to consolidate its Financing segment until the date of the spin-off, at which time the historical results of operations of the Financing segment will be reported as discontinued operations.

Note 3—Acquisition of Taft Coal Sales & Associates, Inc.

On September 2, 2008, Walter, through its wholly owned subsidiary United Land Corporation, acquired 100% of the outstanding common shares of Taft for a cash payment of $17.0 million, net of $3.0 million of acquired cash. The fair value of assets acquired and liabilities assumed totaled $38.9 million and $18.9 million, respectively. Taft, located in Jasper, Alabama, currently operates a surface steam and industrial coal mine and primarily mines coal for the industrial and electric utility markets. The acquisition of Taft, included in the Natural Resources segment, expands the Company's coal production base in the southern Appalachian coal region of Alabama and will be instrumental in helping to grow the Company's domestic Natural Resources business.

The financial results of Taft have been included in the Company's consolidated financial statements since the date of acquisition of September 2, 2008. Assets acquired and liabilities assumed were recorded at their estimated fair values as of the date of acquisition. The purchase price allocation is preliminary and is subject to future adjustments based on the resolution of certain asset valuations, loss contingencies, contractual obligations and tax matters. The resolution of these items are not expected to be completed until the first quarter of 2009.

Note 4—Discontinued Operations

Modular Homes Division

During the first quarter of 2007, the Company decided to exit the manufacture and distribution of modular homes, which operated as Crestline Homes, Inc. ("Crestline"). As such, the Company has reported the results of operations, assets, liabilities and cash flows of Crestline, previously included in the Homebuilding segment, as discontinued operations. This business was sold on May 30, 2007.

The table below presents the significant components of operating results included in the income (loss) from discontinued operations (in thousands):

	For the nine months ended September 30, 2007

Net sales and revenues	$	12,358

Income (loss) from discontinued operations before income taxes	$	(3,428	)
Income tax (expense) benefit		1,199

Income (loss) from discontinued operations	$	(2,229	)

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 4—Discontinued Operations (Continued)

The Company allocated certain corporate expenses, limited to specifically identified costs and other corporate shared services which supported segment operations, to discontinued operations. These costs represent expenses that have historically been allocated to and recorded by the Company's operating segments as selling, general and administrative expenses. The Company did not elect to allocate additional interest expense to discontinued operations.

Note 5—Adoption of New Accounting Pronouncements

In 2006, the FASB issued SFAS No. 157, "Fair Value Measurements," which provides a definition of fair value, establishes a framework for measuring fair value and expands fair value financial statement disclosure requirements. SFAS No. 157 is intended to eliminate the diversity in practice associated with measuring fair value under existing accounting pronouncements and does not require any new fair value measurements. The adoption of SFAS No. 157 for financial assets and financial liabilities on January 1, 2008 did not have a material effect on the Company's consolidated financial statements. See Note 18 for fair value disclosures.

In 2006, the FASB issued SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans," which, among other changes, requires companies to measure plan assets and liabilities as of the fiscal year-end reporting date. On January 1, 2008, the Company adopted the measurement provisions of SFAS No. 158 and elected the alternative transition method. Based on the actuarial valuation performed as of September 30, 2007, the Company's actuary provided a 15-month projection of net periodic pension cost to December 31, 2008. In recognizing the effects of changing the Company's measurement date from September 30 to December 31, the Company recorded a charge to accumulated deficit of $4.6 million, net of taxes of $3.1 million, increases in accumulated postretirement benefits obligation and pension liability of $6.1 million and $0.4 million, respectively, and a credit to accumulated other comprehensive loss of $0.7 million, net of taxes of $0.5 million.

In June 2008, the FASB ratified EITF Issue No. 08-3, Accounting by Lessees for Maintenance Deposits Under Lease Arrangements, (EITF 08-3). EITF 08-3 provides guidance for accounting for nonrefundable maintenance deposits. EITF 08-3 is effective for fiscal years beginning after December 15, 2008. The Company is currently evaluating the impact that the adoption of EITF 08-3 will have on its consolidated financial statements.

Note 6—Restructuring and Impairment

On February 19, 2008, the Company announced a restructuring of JWH Holding Company, LLC, the Company's Financing and Homebuilding business. Thirty-six underperforming Jim Walter Homes sales centers have been closed as part of the restructuring. As a result, the Company recorded a restructuring charge of $6.8 million in the first quarter of 2008, in Homebuilding, of which $4.3 million related to impairments of property, plant and equipment, $1.7 million related to severance obligations due to a 25% reduction in workforce at Homebuilding and $0.8 million related to lease obligations of closed sales centers.

During the three months ended September 30, 2008, Homebuilding recorded a charge of $6.5 million, of which $6.0 million related to the impairment of property, plant and equipment due to the decline in the estimated values of the assets and $0.5 million for severance payments related to

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 6—Restructuring and Impairment (Continued)

additional headcount reductions. As a result of continued losses in the Homebuilding segment, the Company reviewed its long-lived assets for potential impairment. Projected undiscounted cash flows generated from the remaining sales centers were lower than the net book value of the model park assets at those sales centers. As a result, the estimated fair values of the model parks were compared to book values, resulting in an impairment charge of $6.0 million. The estimated fair values were determined based on Homebuilding's recent sales of similar assets.

Also during the three months ended September 30, 2008, the Company recorded a charge of $10.9 million for the impairment of Financing's goodwill. As discussed in Note 2, Walter announced its plans to separate its Financing segment via a spin-off to Walter shareholders and merger with Hanover. As a result of this decision, the Company analyzed goodwill for potential impairment. The fair value of the reporting unit was determined using a discounted cash flow approach which indicated that the carrying value exceeded the fair value and that the implied value of goodwill was $0. The discount rate of interest used to determine both the fair value of the reporting unit and the implied value of goodwill was a contributing factor in this impairment charge. The continued increase in perceived risk in the financial services markets resulted in a significant increase in the discount rate applied to projected future cash flows, as compared to the discount rate applied to similar analyses performed in previous periods.

The charges as described above appear as restructuring and impairment charges in the statement of income.

The following table summarizes restructuring activity for the three months ended September 30, 2008 (in thousands):

	Balance at June 30, 2008		Restructuring and Impairment Charges		Cash Payments			Other Non-Cash Charges			Balance at September 30, 2008

Impairment of goodwill	$	—	$	10,895	$	—		$	(10,895	)	$	—
Impairment of property, plant and equipment		—		5,985		—			(5,985	)		—
Severance obligations		451		500		(450	)		—			501
Lease obligations		407		—		(150	)		—			257

Total	$	858	$	17,380	$	(600	)	$	(16,880	)	$	758

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 6—Restructuring and Impairment (Continued)

The following table summarizes restructuring activity for the nine months ended September 30, 2008 (in thousands):

	Balance at January 1, 2008		Restructuring and Impairment Charges		Cash Payments			Other Non-Cash Charges			Balance at September 30, 2008

Impairment of goodwill	$	—	$	10,895	$	—		$	(10,895	)	$	—
Impairments of property, plant and equipment		—		10,307		—			(10,307	)		—
Severance obligations		—		2,169		(1,668	)		—			501
Lease obligations		—		779		(522	)		—			257

Total	$	—	$	24,150	$	(2,190	)	$	(21,202	)	$	758

Note 7—Restricted Short-Term Investments

Restricted short-term investments at September 30, 2008 and December 31, 2007 include (i) temporary investments, primarily in commercial paper or money market accounts, with maturities less than 90 days from collections on instalment notes receivable owned by various Mid-State Trusts (the "Trusts") ($51.7 million and $68.8 million, respectively) which are available only to pay expenses of the Trusts and principal and interest on indebtedness of the Trusts, and (ii) miscellaneous other segregated accounts restricted to specific uses ($7.1 million at both September 30, 2008 and December 31, 2007).

Note 8—Instalment Notes Receivable

Instalment notes receivable are summarized as follows (in thousands):

	September 30, 2008			December 31, 2007

Instalment notes receivable	$	1,597,832		$	1,616,753
Mortgage loans		221,714			234,298
Less: Allowance for losses		(14,936	)		(13,992	)

Net	$	1,804,610		$	1,837,059

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 9—Inventories

Inventories are summarized as follows (in thousands):

	September 30, 2008		December 31, 2007

Finished goods	$	38,412	$	29,650
Goods in process		11,994		19,598
Raw materials and supplies		30,426		16,021
Repossessed houses held for resale		41,327		36,407

Total inventories	$	122,159	$	101,676

Note 10—Debt

Debt consisted of the following (in thousands):

		September 30, 2008		December 31, 2007

Mortgage-backed/asset-backed notes		$	1,402,234	$	1,706,218

Other debt:
	2005 Walter term loan		139,293		218,517
	Convertible Senior Subordinated Notes		—		785
	2005 Walter revolving credit facility		50,000		—
	Other(1)		16,640		6,558

			205,933		225,860

Total		$	1,608,167	$	1,932,078

(1): This balance primarily represents a one-year property insurance financing agreement and capital lease obligations.

2005 Walter Credit Agreement

In 2005, Walter entered into a $675.0 million credit agreement ("2005 Walter Credit Agreement") which includes (1) an amortizing term loan facility with an initial aggregate principal amount of $450.0 million, $139.3 million of which was outstanding as of September 30, 2008 with a weighted average interest rate of 5.280%, and (2) a $225.0 million revolving credit facility which provides for loans and letters of credit. The 2005 Walter Credit Agreement is a secured obligation of the Company and substantially all of its wholly owned domestic subsidiaries. The term loan requires quarterly principal payments of $0.4 million through October 3, 2012, at which time the remaining outstanding principal is due.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 10—Debt (Continued)

which were due to mature in July 2008 and October 2008, respectively. The amendment also increased the interest rate on the revolving credit facility and the term loan to LIBOR plus 300 basis points. The commitment fee on the unused portion of the revolving facility also increased from 0.375% per year to 0.5% per year. In addition, the amended 2005 Walter Credit Agreement contains a reducing revolver commitment feature, where the total available revolver commitment may not exceed $400.0 million at March 31, 2009, $350.0 million at June 30, 2009, $300.0 million at September 30, 2009, and $250.0 million at December 31, 2009.

Certain other terms, including affirmative and negative covenants as well as restrictions on the Company's ability to engage in specified activities, were also amended and include, but are not limited to, increased indebtedness and approval of certain activities associated with the Company's strategic initiatives in the Homebuilding and Financing business.

In connection with the amendment to the 2005 Walter Credit Agreement, the Company incurred $3.9 million of refinancing fees. These fees were deferred and are being amortized over the remaining life of the revolving credit facility.

During the nine months ended September 30, 2008, the Company borrowed $330.0 million under the revolving credit facility. On June 16, 2008, the Company completed an offering of shares of its common stock and received $280.4 million of net proceeds, as more fully discussed in Note 13. During June 2008, the net proceeds from the offering were used to repay $77.9 million on the outstanding term loan and $202.5 million on the revolving credit facility. Additional repayments on the revolving credit facility during the nine months ended September 30, 2008 totaled $77.5 million. At September 30, 2008, the Company had $50.0 million outstanding under the revolving credit facility at a weighted average interest rate of 4.903%.

Under the terms of the Company's amended 2005 Walter Credit Agreement, availability under the revolving credit facility was reduced from $475.0 million to $373.8 million in connection with the completion of the stock offering. As of September 30, 2008, the Company had $51.2 million in outstanding stand-by letters of credit and $272.6 million of availability for future borrowings under the revolving credit facility.

In connection with the repayments discussed above, the Company recognized an additional amortization of $3.1 million of previously deferred financing fees. This amortization charge is included in interest expense in the statement of income.

Mortgage-Backed and Asset-Backed Notes and Variable Funding Loan Facilities

At the beginning of 2008, the Company had two variable funding loan facilities ("warehouse facilities") totaling $350.0 million that provided temporary warehouse financing to Walter Mortgage Company ("WMC") for its current purchases of instalment notes and mortgages originated by Homebuilding.

On April 30, 2008, the Company repaid all outstanding borrowings and terminated these facilities using proceeds from the amended 2005 Walter Credit Agreement, as discussed above. With the termination of the warehouse facilities, the Company no longer uses mortgage warehouse facilities or accesses the mortgage-backed securitization market.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 10—Debt (Continued)

In addition, after May 1, 2008, WMC no longer provides financing to new customers of Homebuilding and has transitioned to a third-party financing model including the use of government-sponsored loan programs. However, substantially all of the backlog of homes with signed contracts and those which were under construction as of May 1, 2008, have been or are expected to be completed over the next three months and financed by WMC. The Company will finance these WMC instalment notes receivable with operating cash flows or funds from borrowings under the revolving credit facility.

Prior to their termination on April 1,2008, the Company held multiple interest rate hedge agreements with various counterparties with an aggregate notional value of $215.0 million, the objective of which was to protect against changes in the benchmark interest rate on the forecasted issuance of mortgage-backed notes in a securitization (the "Securitization Hedges"). At March 31, 2008, these Securitization Hedges no longer qualified for hedge accounting treatment because the Company no longer planned to access the distressed securitization market. As a result, the Company recognized a loss on interest rate hedge ineffectiveness of $17.0 million in the first quarter of 2008. On April 1, 2008, the Company settled the Securitization Hedges for a payment of $17.0 million.

Convertible Notes

In January 2008, the holders of the remaining $0.8 million 3.75% Convertible Senior Subordinated Notes agreed to convert the principal amount in exchange for 84,013 shares of the Company's common stock and $0.1 million of conversion inducement payments.

Other

In October 2008, the Company entered into a $32.3 million equipment financing arrangement for certain previously procured mining equipment. This financing arrangement will mature in the first quarter of 2014 and carries an annual interest rate of LIBOR plus 375 basis points.

Note 11—Pension and Other Postretirement Benefits

The components of net periodic benefit cost are as follows (in thousands):

		Pension Benefits						Other Benefits

		For the three months ended September 30,						For the three months ended September 30,
		2008			2007			2008			2007
Components of net periodic benefit cost:
Service cost		$	1,002		$	1,014		$	753		$	799
Interest cost			3,003			2,725			5,377			5,283
Expected return on plan assets			(3,632	)		(3,059	)		—			—
Amortization of prior service cost			76			104			(794	)		(799	)
Amortization of net actuarial loss			615			1,142			1,259			1,580

	Net periodic benefit cost	$	1,064		$	1,926		$	6,595		$	6,863

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 11—Pension and Other Postretirement Benefits (Continued)

		Pension Benefits						Other Benefits

		For the nine months ended September 30,						For the nine months ended September 30,
		2008			2007			2008			2007
Components of net periodic benefit cost:
Service cost		$	3,006			3,042		$	2,259		$	2,331
Interest cost			9,006			8,175			16,129			15,213
Expected return on plan assets			(10,896	)		(9,177	)		—			—
Amortization of prior service cost			228			312			(2,382	)		(2,751	)
Amortization of net actuarial loss			1,845			3,428			3,777			5,089

	Net periodic benefit cost	$	3,189		$	5,780		$	19,783		$	19,882

Note 12—Comprehensive Income

Comprehensive income is comprised primarily of net income, gains or losses from the effect of cash flow hedges and changes in pension and postretirement benefits obligations. Comprehensive income for the three months ended September 30, 2008 and 2007 was $66.3 million and $21.1 million, respectively. Comprehensive income for the nine months ended September 30, 2008 and 2007 was $114.5 million and $64.6 million, respectively.

Note 13—Stockholders' Equity

On June 16, 2008, the Company completed a public offering of 3,220,000 shares of its common stock at a price of $90.75 per share. The Company received $280.4 million of net proceeds from this offering, after deducting underwriting discounts and offering expenses. The Company used the net proceeds from this offering to repay $280.4 million of the borrowings outstanding under the Company's 2005 Walter Credit Agreement. See Note 10.

On July 31, 2008, the Board of Directors approved an increase in the Company's regular quarterly dividend rate from $0.05 per common share to $0.10 per common share.

During the third quarter ended September 30, 2008, the Company repurchased 237,127 shares at an average price of $59.43 under its $25 million share repurchase program, and in October 2008, the Company repurchased 105,729 shares at an average price of $46.56 thereby fulfilling the program's authorized allotment. On September 26, 2008, the Board of Directors approved a new $50.0 million share repurchase program, which is intended to replace the previously authorized $25 million share repurchase program. Repurchases will be made based on liquidity, market conditions and alternative opportunities to invest in and grow the Company's core businesses. Through November 6, 2008, the Company has repurchased 1,184,243 shares at an average price of $35.32 under its $50.0 million share repurchase program.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 14—Net Income Per Share

A reconciliation of the basic and diluted net income per share computations for the three and nine months ended September 30, 2008 and 2007 are as follows (in thousands, except per share data):

		For the three months ended September 30,

		2008				2007
		Basic		Diluted		Basic		Diluted
Numerator:
Net income		$	55,000	$	55,000	$	24,363	$	24,363
Effect of dilutive securities:
	Interest related to 3.75% convertible senior subordinated notes, net of tax(a)		—		—		—		5

		$	55,000	$	55,000	$	24,363	$	24,368

Denominator:
Average number of common shares outstanding			55,686		55,686		52,035		52,035
Effect of dilutive securities:
	Stock options and restricted stock units ("units")(b)		—		764		—		403
	3.75% convertible senior subordinated notes(a)		—		—		—		84

			55,686		56,450		52,035		52,522

Net income per share		$	0.99	$	0.97	$	0.47	$	0.46

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 14—Net Income Per Share (Continued)

		For the nine months ended September 30,

		2008				2007
		Basic		Diluted		Basic			Diluted
Numerator:
Income from continuing operations		$	106,275	$	106,275	$	74,268		$	74,268
Effect of dilutive securities:
	Interest related to 3.75% convertible senior subordinated notes, net of tax(a)		—		—		—			14

		$	106,275	$	106,275	$	74,268		$	74,282

Loss from discontinued operations		$	—	$	—	$	(2,229	)	$	(2,229	)

Denominator:
Average number of common shares outstanding			53,614		53,614		52,035			52,035
Effect of dilutive securities:
	Stock options and restricted stock units ("units")(b)		—		749		—			398
	3.75% convertible senior subordinated notes(a)		—		—		—			84

			53,614		54,363		52,035			52,517

Income from continuing operations per share		$	1.98	$	1.95	$	1.42		$	1.41
Loss from discontinued operations per share			—		—		(0.04	)		(0.04	)

Net income per share		$	1.98	$	1.95	$	1.38		$	1.37

(a): The numerator represents the weighted average interest, net of tax, and the denominator represents the weighted average shares issuable upon conversion related to the Company's 3.75% contingent Convertible Senior Subordinated Notes. On January 3, 2008, the holders of the remaining $0.8 million notes converted the principal amount in exchange for 84,013 shares of the Company's common stock and $0.1 million of conversion inducement payments.
(b): Represents the weighted average number of shares of common stock issuable on the exercise of dilutive employee stock options and restricted stock units less the number of shares of common stock which could have been purchased with the proceeds from the exercise of such stock awards. These purchases were assumed to have been made at the average market price of the common stock for the period. Weighted average number of stock options and restricted stock units outstanding for the three months ended September 30, 2008 and 2007 totaling 56,889 and 715,746, respectively, were excluded from the calculation above because their effect would have been anti-dilutive. Additionally, weighted average number of stock options and restricted stock units outstanding for the nine months ended September 30, 2008 and 2007 totaling 24,989 and 796,971, respectively, were excluded because their effect would have been anti-dilutive.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 15—Segment Information

Summarized financial information of the Company's reportable segments is shown in the following table (in thousands):

			For the three months ended September 30,

			2008			2007
Net sales and revenues:
	Natural Resources		$	268,503		$	165,490
	Sloss			53,738			34,471

	Natural Resources and Sloss			322,241			199,961
	Financing			50,187			54,104
	Homebuilding			23,058			58,060

	Financing and Homebuilding Group			73,245			112,164
	Other			2,039			1,025
	Consolidating eliminations of intersegment activity			(9,535	)		(944	)

		Net sales and revenues	$	387,990		$	312,206

Segment operating income (loss):
	Natural Resources		$	95,353		$	31,735
	Sloss			14,638			3,231

	Natural Resources and Sloss			109,991			34,966
	Financing(a)(b)			(4,785	)		11,247
	Homebuilding(d)			(12,601	)		(82	)

	Financing and Homebuilding Group			(17,386	)		11,165
	Other			(6,085	)		(5,317	)
	Consolidating eliminations of intersegment activity			(14	)		—

	Operating income			86,506			40,814
	Less other debt interest expense			(5,478	)		(7,358	)

	Income before income tax expense			81,028			33,456
	Income tax expense			26,028			9,093

	Net income		$	55,000		$	24,363

Depreciation:
	Natural Resources		$	12,847		$	9,182
	Sloss			1,048			965

	Natural Resources and Sloss			13,895			10,147
	Financing			73			312
	Homebuilding			582			1,290

	Financing and Homebuilding Group			655			1,602
	Other			236			340

		Total	$	14,786		$	12,089

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 15—Segment Information (Continued)

			For the nine months ended September 30,

			2008			2007
Net sales and revenues:
	Natural Resources		$	658,962		$	475,955
	Sloss			157,874			100,394

	Natural Resources and Sloss			816,836			576,349
	Financing			154,013			162,897
	Homebuilding			102,357			188,368

	Financing and Homebuilding Group			256,370			351,265
	Other			3,163			5,563
	Consolidating eliminations of intersegment activity			(22,653	)		(4,153	)

		Net sales and revenues	$	1,053,716		$	929,024

Segment operating income (loss):
	Natural Resources		$	177,736		$	111,675
	Sloss			48,429			7,485

	Natural Resources and Sloss			226,165			119,160
	Financing(a), (b), (c)			2,837			34,863
	Homebuilding(d)			(30,571	)		(3,227	)

	Financing and Homebuilding Group			(27,734	)		31,636
	Other			(22,465	)		(15,903	)
	Consolidating eliminations of intersegment activity			(658	)		—

	Operating income from continuing operations			175,308			134,893
	Less other debt interest expense			(22,377	)		(21,923	)

	Income from continuing operations before income tax expense			152,931			112,970
	Income tax expense			46,656			38,702

	Income from continuing operations		$	106,275		$	74,268

Depreciation:
	Natural Resources		$	35,750		$	25,838
	Sloss			3,033			2,824

	Natural Resources and Sloss			38,783			28,662
	Financing			331			866
	Homebuilding			2,576			3,796

	Financing and Homebuilding Group			2,907			4,662
	Other			696			986

		Total	$	42,386		$	34,310

(a): Operating income amounts for Financing include interest expense on the mortgage-backed/asset-backed notes of $24.3 million and $30.0 million for the three months ended September 30, 2008 and 2007,

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 15—Segment Information (Continued)

respectively, and $78.4 million and $89.5 million for the nine months ended September 30, 2008 and 2007, respectively.

(b): Operating income amounts for Financing include a $10.9 million impairment of goodwill and a $3.9 million provision for estimated hurricane insurances losses for the three and nine months ended September 30, 2008.
(c): Operating income for Financing for the nine months ended September 30, 2008 includes a charge of $17.0 million related to interest rate hedge ineffectiveness.
(d): Operating loss for Homebuilding for the three and nine months ended September 30, 2008 include restructuring and impairment charges totaling $6.5 million for impairment of long-lived assets due to a decline in the estimated value of assets and for severance costs related to headcount reductions. Operating loss for Homebuilding for the nine months ended September 30, 2008 also includes restructuring and impairment charges of $6.8 million related to the closing of 36 sales centers.

Note 16—Commitments and Contingencies

Income Tax Litigation

The Internal Revenue Service (the "IRS") has completed its audit of the Company's Federal income tax returns for the years ended May 2000 through December 31, 2005. The unresolved issues relate primarily to the Company's method of recognizing revenue on the sale of homes and related interest on the instalment notes receivable. The items at issue relate primarily to the timing of revenue recognition and consequently, should the IRS prevail on its positions, the Company's financial exposure is limited to interest and penalties.

On December 27, 1989, the Company and most of its subsidiaries each filed a voluntary petition for reorganization under Chapter 11 of Title 11 of the United States Code (the "Bankruptcy Proceedings") in the United States Bankruptcy Court for the Middle District of Florida, Tampa Division (the "Bankruptcy Court"). The Company emerged from bankruptcy on March 17, 1995 (the "Effective Date") pursuant to the Amended Joint Plan of Reorganization Dated as of December 9, 1994, as modified on March 1, 1995 (as so modified the "Consensual Plan"). Despite the confirmation and effectiveness of the Consensual Plan, the Bankruptcy Court continues to have jurisdiction over, among other things, the resolution of disputed prepetition claims against the Company and other matters that may arise in connection with or related to the Consensual Plan, including claims related to Federal income taxes.

A controversy exists with regard to Federal income taxes allegedly owed by the Company for fiscal years 1980 through 1994. In connection with the bankruptcy proceedings, the IRS filed a proof of claim in the Bankruptcy Court (the "Proof of Claim") for a substantial amount of taxes, interest and penalties with respect to fiscal years ended August 31, 1980 and August 31, 1983 through May 31, 1994. The Company filed an adversary proceeding in the Bankruptcy Court disputing the Proof of Claim (the "Adversary Proceeding") and the various issues have been and are being litigated in the Bankruptcy Court.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 16—Commitments and Contingencies (Continued)

The amounts initially asserted by the Proof of Claim do not reflect the subsequent resolution of various issues through settlements or concessions by the parties. After adjustment for these items, the Company estimates that the amount of tax presently claimed by the IRS is approximately $34.0 million for issues currently in dispute in the Adversary Proceeding. This amount is subject to interest and penalties. Of the $34.0 million in claimed tax, $21.0 million represents issues in which the IRS is not challenging the deductibility of the particular expense but only whether such expense is deductible in a particular year. Consequently, the Company believes that, should the IRS prevail on any such issues, the Company's financial exposure is limited to interest and possible penalties and the amount of tax claimed will be offset by deductions in other years. Substantially all of the issues in the Proof of Claim, which have not been settled or conceded, have been litigated before the Bankruptcy Court and are subject to appeal but only at the conclusion of the entire Adversary Proceeding.

The Company believes that those portions of the Proof of Claim which remain in dispute or are subject to appeal substantially overstate the amount of taxes allegedly owing. However, because of the complexity of the issues presented and the uncertainties associated with litigation, the Company is unable to predict the ultimate outcome of the Adversary Proceeding.

The Company believes that all of its current and prior tax filing positions have substantial merit and intends to defend vigorously any tax claims asserted. The Company believes that it has sufficient accruals to address any claims, including interest and penalties.

Environmental Matters

The Company is subject to a wide variety of laws and regulations concerning the protection of the environment, both with respect to the construction and operation of its plants, mines and other facilities and with respect to remediating environmental conditions that may exist at its own and other properties.

The Company believes that it is in substantial compliance with federal, state and local environmental laws and regulations. The Company accrues for environmental expenses resulting from existing conditions that relate to past operations when the costs are probable and reasonably estimable.

Sloss and Walter Industries, Inc. have received a letter from attorneys purporting to represent a group of residents of the North Birmingham area of Jefferson County, Alabama alleging personal injury, property damage, nuisance and trespass. The allegations against Sloss relate to air emissions from its coking facility. Walter is named in this litigation because of its ownership interest in Sloss. The Company has reached an agreement for the settlement of these allegations. As a result, the Company recognized a charge of $2.4 million in the nine months ended September 30, 2008, which is included in selling, general and administrative expenses in the statement of income.

Sloss Industries entered into a decree order in 1989 relative to a Resource Conservation Recovery Act ("RCRA") compliance program mandated by the EPA. A RCRA Facility Investigation ("RFI") Work Plan was prepared which proposed investigative tasks to assess the presence of contamination at the Sloss facility. The Work Plan was approved in 1994 and the Phase I investigations were conducted and completed between 1995 and 1999. Phase II investigations for the Chemical Plant/Coke Plant and Biological Treatment Facility and Sewers/Land Disposal Areas were performed in 2000 and 2001 and are substantially complete. At the end of 2004, the EPA re-directed Sloss' RFI efforts toward completion of the Environmental Indicator ("EI") determinations for the Current Human Exposures. This EI effort was completed to assist the EPA in meeting goals set by the Government Performance

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 16—Commitments and Contingencies (Continued)

Results Act ("GPRA") for RCRA by 2005. Sloss implemented the approved EI Sampling Plan in April 2005. The EPA approved/finalized the EI determinations for Sloss' Birmingham facility in September 2005. In an effort to refocus the RFI, the EPA has now provided technical comments on the Phase II RFI report and the report recently submitted as part of the EI effort. A Phase III work plan was submitted to the EPA during the first quarter of 2007. The EPA commented on the Phase III plan and Sloss has responded. Subsequently, a meeting was held with the EPA during the third quarter of 2007 with the objective of finalization of the Phase III Plan. However, additional requests by EPA have expanded and continue to expand the scope of the project and will necessitate additional sampling and testing.

The Company has incurred costs to investigate the presence of contamination at the Sloss site, and to define remediation actions to address this environmental liability in accordance with the agreements reached with the EPA per the findings in the Phase I and Phase II investigations. In conjunction with the Phase III work plan, the Company continues to incur costs related to defining remediation efforts and establishing a plan for remediation. As of September 30, 2008, the Company has accrued an amount that is probable and can be reasonably estimated for the costs to be incurred to identify necessary remediation actions and establish a remediation plan. Additional future costs which may be incurred in order to remediate liabilities defined by the Phase III analysis cannot be determined at this time. Although no assurances can be given that the Company will not be required in the future to make material expenditures relating to the Sloss site or other sites, management does not believe at this time that the cleanup costs, if any, associated with these sites will have a material adverse effect on the financial condition of the Company, but such cleanup costs could be material to results of operations in a future reporting period.

Miscellaneous Litigation

The Company and its subsidiaries are parties to a number of other lawsuits arising in the ordinary course of their businesses. The Company records costs relating to these matters when a loss is probable and the amount is reasonably estimable. The effect of the outcome of these matters on the Company's future results of operations cannot be predicted with certainty as any such effect depends on future results of operations and the amount and timing of the resolution of such matters. While the results of litigation cannot be predicted with certainty, the Company believes that the final outcome of such other litigation will not have a materially adverse effect on the Company's consolidated financial statements.

In the opinion of management, accruals associated with contingencies incurred in the normal course of business are sufficient. Resolution of existing known contingencies is not expected to significantly affect the Company's financial position and result of operations.

Contractual Obligations and Commercial Commitments

During the third quarter of 2008, the Company entered into an arrangement in which a vendor will provide certain parts, components and an exchange and rebuild service for certain of the Company's mining equipment. This arrangement extends to a period of up to five years and will require the Company to spend approximately $57.1 million over the contract term. These types of maintenance costs have been incurred by Natural Resources in prior periods. Also, in connection with its expanding mining operations, the Company had commitments of approximately $43.6 million at September 30, 2008, for the acquisition of property and equipment, most of which is expected to be incurred in 2009.

WALTER INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

AS OF AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (Unaudited)

Note 16—Commitments and Contingencies (Continued)

Commitments and Contingencies—Other

Note 17—Income Taxes

The Company's effective tax rate for the three and nine months ended September 30, 2008 was 32.1% and 30.5%, respectively, compared to 27.2% and 34.3% for the same periods in 2007. The effective tax rate for the nine months ended September 30, 2008 includes the unfavorable effect of a $10.9 million nondeductible goodwill impairment charge and the favorable impact of a $3.9 million tax credit resulting from the resolution of certain Federal tax matters associated with the IRS audit for the years ended May 31, 2000, December 31, 2000 and December 31, 2001. Excluding these items, the effective tax rate for the nine months ended September 30, 2008 would have been 30.7%. The resolution of certain Federal tax matters also resulted in a net reduction to the accrual for unrecognized tax benefits of $1.1 million in 2008. The effective tax rate in 2007 includes the unfavorable impact of a $4.4 million write-off of certain deferred tax assets no longer considered realizable. Excluding this discrete item, the effective tax rate for the nine months ended September 30, 2007 would have been 30.4%. In addition to the effect of these discrete items, both 2008 and 2007 effective tax rates differ from the Federal statutory rate primarily due to the benefit from percentage depletion and domestic production deductions.

Note 18—Fair Value of Financial Instruments

The Company measures certain financial instruments at fair value on a recurring basis, including interest rate and natural gas hedging agreements. The following table summarizes the fair value of these financial instruments at September 30, 2008 by type of inputs used (in thousands):

Assets	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)

Natural gas hedge agreements	$	1,776	$	—	$	1,776	$	—

Liabilities
Interest rate hedge agreements	$	276	$	—	$	276	$	—

The interest rate and natural gas hedge agreements are classified within Level 2 of the fair value hierarchy because they are valued using quoted dealer prices for similar contracts.

Note 19—Hurricane Insurance Claim Losses

The Company recorded a provision for estimated hurricane insurance losses of $3.9 million during the three months ended September 30, 2008. These estimated losses, recorded in the Financing segment, were for estimated claim insurance losses as a result of property damage from Hurricanes Gustav and Ike in 2008 that impacted the Company's market area.

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS, FINANCIAL CONDITION AND LIQUIDITY AND CAPITAL RESOURCES

This discussion should be read in conjunction with the condensed consolidated financial statements and notes thereto of Walter Industries, Inc. and its subsidiaries, particularly Note 15 of "Notes to Condensed Consolidated Financial Statements," which describe the Company's net sales and revenues and operating income by operating segment.

RESULTS OF OPERATIONS

Summary Operating Results of Operations for the Three Months Ended September 30, 2008 and 2007

		For the three months ended September 30, 2008

(in thousands)		Natural Resources		Sloss			Financing			Homebuilding			Other			Cons Elims			Total
Net sales		$	267,496	$	53,589		$	3,491		$	22,593		$	1,522		$	(9,535	)	$	339,156
Interest income on instalment notes			—		—			46,243			—			—			—			46,243
Miscellaneous income			1,007		149			453			465			517			—			2,591

	Net sales and revenues		268,503		53,738			50,187			23,058			2,039			(9,535	)		387,990
Cost of sales (exclusive of depreciation)			146,263		35,586			1,570			19,183			211			(9,521	)		193,292
Interest expense(1)			—		—			24,279			—			—			—			24,279
Depreciation			12,847		1,048			73			582			236			—			14,786
Selling, general & administrative			6,693		2,627			8,572			9,560			7,938			—			35,390
Provision for losses on instalment notes			—		—			5,607			—			—			—			5,607
Postretirement benefits			7,280		(161	)		(112	)		(151	)		(261	)		—			6,595
Amortization of intangibles			67		—			235			—			—			—			302
Provision for estimated hurricane insurance losses			—		—			3,853			—			—			—			3,853
Restructuring & impairment charges			—		—			10,895			6,485			—			—			17,380

	Operating income (loss)	$	95,353	$	14,638		$	(4,785	)	$	(12,601	)	$	(6,085	)	$	(14	)		86,506

	Other debt interest expense																			(5,478	)

	Income before income taxes																		$	81,028

(1): Excludes other debt interest expense.

		For the three months ended September 30, 2007

(in thousands)		Natural Resources		Sloss			Financing			Homebuilding			Other			Cons Elims			Total
Net sales		$	154,411	$	34,337		$	3,347		$	57,521		$	491		$	(944	)	$	249,163
Interest income on instalment notes			—		—			49,712			—			—			—			49,712
Miscellaneous income			11,079		134			1,045			539			534			—			13,331

	Net sales and revenues		165,490		34,471			54,104			58,060			1,025			(944	)		312,206
Cost of sales (exclusive of depreciation)			112,315		28,375			2,172			42,389			228			(944	)		184,535
Interest expense(1)			—		—			29,996			—			—			—			29,996
Depreciation			9,182		965			312			1,290			340			—			12,089
Selling, general & administrative			4,590		2,116			6,755			14,611			6,016			—			34,088
Provision for losses on instalment notes			—		—			3,366			—			—			—			3,366
Postretirement benefits			7,575		(216	)		(106	)		(148	)		(242	)		—			6,863
Amortization of intangibles			93		—			362			—			—			—			455

	Operating income (loss)	$	31,735	$	3,231		$	11,247		$	(82	)	$	(5,317	)	$	—			40,814

	Other debt interest expense																			(7,358	)

	Income before income taxes																		$	33,456

(1): Excludes other debt interest expense.

Overview

The Company's net income for the three months ended September 30, 2008 was $55.0 million, or $0.97 per diluted share, which compares to $24.4 million, or $0.46 per diluted share, for the three months ended September 30, 2007.

In the three months ended September 30, 2008, the Company's results included a 24.3% increase in net sales and revenues and a 112.0% increase in operating income versus the same period in 2007. These results were led by the Company's core Natural Resources and Sloss businesses that generated combined revenues of $322.2 million, up 61.2% versus the same period in 2007, and combined operating income of $110.0 million, up 214.6% versus the same period in 2007. These increases were primarily the result of higher average metallurgical coal and coke pricing. Partially offsetting these favorable increases from Natural Resources and Sloss were decreases in net sales and revenues and operating income from the combined Homebuilding and Financing businesses. Revenues and operating income from these businesses declined due to fewer unit deliveries and an increase in the discount required to record originations of instalment notes receivable at estimated market value during the third quarter of 2008 at Homebuilding as well as lower prepayment-related interest income at Financing. Also contributing to the decrease in operating income was a $10.9 million goodwill impairment charge at Financing, $6.5 million of asset impairments and severance costs at Homebuilding and a $3.9 million provision for estimated hurricane-related insurance losses at Financing, resulting from Hurricanes Gustav and Ike. The impact of these factors on the combined operating income for these businesses was partially offset by lower interest expense at Financing as a result of the April 2008 repayment of all outstanding borrowings under its variable funding loan facilities ("warehouse facilities") as discussed in Note 10 of the "Notes to Condensed Consolidated Financial Statements."

Outlook and Strategic Initiatives

Natural Resources and Sloss

•: Approximately 1.1 million tons of metallurgical coal was sold in the third quarter of 2008 at the 2008-2009 contract year committed pricing ranging from $135 to $315 per metric ton FOB Port. Also in the third quarter of 2008, 0.3 million tons were sold at the 2007-2008 contract year committed pricing of $101 per ton, which concluded the Company's coal delivery commitments at that price. The Company has approximately 40% of its calendar year 2009 metallurgical coal production priced at a weighted average price of $225 per metric ton, leaving approximately 60% not yet priced and 100% is not yet priced for 2010.
•: Although the steel industry is experiencing a softening in global steel demand, the Company's fourth quarter shipments are proceeding as previously expected. The Company's metallurgical coal is used as a base coal by its customers. It is management's belief that, on weakening demand, lower quality coals will be the first ones dropped by customers and that the Company's very high-quality coking coal will still be in demand and will receive premium pricing as a result of customers focusing on value in use. However, further weakening of the steel market based on capacity reduction or demand could result in lower prices or in delays in shipments on current contracts.
•: The Mine No. 7 Southwest "A" panel's advance rates have been slower than anticipated as a result of higher than expected levels of methane gas. The panel is still expected to produce approximately 1.0 million tons of coal. However, approximately 350,000 tons of production originally planned for the third and fourth quarters of 2008 is now expected to be produced in the first quarter of 2009. Because of the reduced advanced rates, the Company has revised its 2008 metallurgical coal production estimate to a range of 6.4 million to 6.7 million tons. Total metallurgical coal production was 1.2 million tons in the third quarter of 2008 and incremental tonnage is expected in the fourth quarter of 2008, primarily associated with the Southwest "A" panel. The first longwall panel in the Mine No. 7 East expansion is anticipated to begin late in

the second quarter of 2009, about two months later than previously planned. As a result, 2009 production estimates are reduced by 400,000 tons. Due to the changes in tonnage forecasts at Mine No. 7, the Company now expects metallurgical coal production for 2009 to total between 8.0 million and 8.4 million tons.

•

Metallurgical coal sales are expected to range between 6.6 million to 6.7 million tons in 2008.

•

Coal production costs averaged $68.99 per ton and $57.42 per ton for the quarter ended September 30, 2008 and for the nine months ended September 30, 2008, respectively. With the anticipated increase in longwall tons versus continuous miner tons beginning in the fourth quarter of 2008, the Company expects a reduction of production costs in the fourth quarter of 2008 and through 2009 such that these costs will range between $50.00 and $55.00 per ton. This estimate is higher than the Company's previous estimate that ranged between $45.00 and $50.00 per ton for the full year as a result of rising raw material costs, such as energy and steel and lower than planned production in 2008. Rising cost for raw materials could negatively impact these new estimates.

•

Demurrage costs in the third quarter of 2008 totaling $5.2 million decreased by $1.8 million from the second quarter of 2008. The availability of Mine No. 7 coal due to increased production from Mine No. 7 East and expansion activities at the Port of Mobile should help to contain these costs in the future. In addition, the Company expects demurrage to decrease as a result of negotiated caps in demurrage costs in many of its 2008-2009 metallurgical coal contracts.

•

Freight costs on metallurgical coal sales are projected to average $13.00 to $14.00 per ton in 2008. Royalties are expected to average 5.0% to 5.5% of metallurgical coal revenues in 2008. Royalty expense in 2008 is lower than historical levels, as the incremental production from the Southwest "A" panel is on property owned by the Company. Royalty expenses in 2009 are expected to return to more normal levels and are expected to average 7.0 to 8.0%.

•

Production at Kodiak Mining decreased due to several unexpected adverse events during the third quarter of 2008. Tons produced since inception are lower than originally projected. Factors including lower yields, significant equipment downtime and adverse geological conditions have all contributed to the shortfall. The Company continues to evaluate the long-term viability of this venture.

•

Sloss posted operating income of $14.6 million on the strength of increased metallurgical coke prices. Sloss' pricing and production are expected to remain strong throughout the remainder of 2008. However, higher raw material costs may continue to marginally offset higher pricing over the remainder of 2008.

•

The Company continues to focus on growing its Natural Resources business internally and externally. Recent expansion activities include the following:

•: Internal growth is expected from the Mine No. 7 East expansion project. Metallurgical coal production is expected to increase nearly 50% over the next two years.
•: On July 31, 2008, the Board of Directors approved a plan to expand the Company's United Land subsidiary's surface mining operations by opening a new coal mine with 0.4 million tons of annual capacity. United Land's new mine, to be known as Flat Top Mine, is a 600-acre surface coal mine with reserves of approximately 2.3 million tons of steam and industrial coal on land owned by the Company. Development of the mine has begun and, because permits are already in place, coal production is expected to begin in mid- 2009 and is expected to be accretive to earnings in 2009. United Land will invest approximately $30.0 million to develop the mine, which will employ approximately 50 people, and will be located in Jefferson County, Alabama, 11 miles northwest of Birmingham.

•: On September 2, 2008, the Company, through its wholly owned subsidiary United Land Corporation, acquired 100% of the outstanding common shares of Taft Coal Sales & Associates, Inc. ("Taft") for a cash payment of $17.0 million, net of $3.0 million of cash acquired. Taft, located in Jasper, Alabama, currently operates a surface steam and industrial coal mine and primarily mines coal for the industrial and electric utility markets. The acquisition of Taft, included in the Natural Resources segment, expands the Company's coal production base in the southern Appalachian coal region of Alabama and will be instrumental in helping to grow the Company's domestic Natural Resources business.
•: The Company routinely evaluates potential new coal reserves and also explores for natural gas to supplement its existing businesses, both within close proximity and outside of its existing operations. While there are coal seams adjacent to Jim Walter Resources' mines that have substantially similar characteristics to the Company's existing coal products, there is no assurance that these coal seams would have economic viability. The Company is also exploring for additional sources of natural gas within coal beds and various shale strata at depths down to approximately 8,000 feet below the surface. Although natural gas is known to exist in many of these strata, there is no assurance that this exploration activity will result in commercially viable operations.
•: The Company continues to evaluate expansion opportunities, potential acquisitions and further investments in coal and natural gas.

Homebuilding and Financing

•: On September 30, 2008, the Company outlined its plans to separate its Financing business from the Company's core natural resources businesses. The Company plans to distribute 100% of its interest in JWH Holding Company, LLC ("JWH Holding Company"), a wholly-owned subsidiary of the Company and parent company of the entities included in the Financing and Homebuilding segments, to its shareholders. Prior to this distribution, Homebuilding will be sold or otherwise separated from JWH Holding Company and will not be part of the spin-off entity.

Also on September 30, 2008, as amended and restated on October 28, 2008, JWH Holding Company entered into a definitive agreement to merge with Hanover Capital Mortgage Holdings, Inc. ("Hanover"), a New Jersey-based real estate investment trust ("REIT"). The merger will occur immediately following the spin-off and the combined company will continue to operate as a publicly traded REIT following the merger. The new company will be named Walter Investment Management Corporation ("Walter Investment Management"), be headquartered in Tampa, Fla. and will have approximately 225 employees. The spin-off and merger are expected to be completed in early 2009. After the spin-off and merger, Walter's shareholders will own approximately 98.5% of Walter Investment Management's publicly traded common stock. Shareholders of Hanover will own the remaining 1.5%. Walter Investment Management plans to apply to list its shares on the American Stock Exchange.

The transaction is subject to certain closing conditions including, but not limited to, approval of the merger by Hanover's shareholders, favorable rulings from the Internal Revenue Service, and the Securities and Exchange Commission declaring effective the required S-4 registration statement and associated proxy filings by Hanover. The Company will continue to consolidate its Financing segment until the date of the spin-off, at which time the historical results of operations of the Financing segment will be reported as discontinued operations.

•: During the quarter ended September 30, 2008, the Company recorded a charge of $10.9 million for the impairment of Financing's goodwill. As a result of the Company's plans to separate its Financing business discussed above, the Company analyzed goodwill for potential impairment. The fair value of the reporting unit was determined using a discounted cash flow approach. As a result, the carrying value exceeded the fair value and the implied value of goodwill was $0 as of

September 30, 2008. The discount rate of interest used to determine the fair value and implied value of goodwill was a contributing factor in this impairment charge. The continued increase in perceived risk in the financial services markets resulted in a significant increase in the discount rate applied to projected future cash flows, as compared to the discount rate applied to similar analyses performed in previous periods.

•: During the quarter ended September 30, 2008, Financing recorded a provision for estimated hurricane insurance losses of $3.9 million as a result of damages from Hurricanes Gustav and Ike that impacted the Company's market area.
•: On February 19, 2008, the Company announced a restructuring of JWH Holding Company, LLC, the Company's Financing and Homebuilding business. Thirty-six underperforming Jim Walter Homes sales centers have been closed as part of the restructuring. As a result, the Company recorded a restructuring charge of $6.8 million in the first quarter of 2008, in Homebuilding, of which $4.3 million related to impairments of long-lived assets, $1.7 million related to severance obligations due to a 25% reduction in workforce at Homebuilding and $0.8 million related to lease obligations of closed sales centers. This charge appears as restructuring and impairment charges in the statement of income. As a result of the restructuring, the Company expects an estimated $26.0 million to $28.0 million in annualized selling, general and administrative expense savings, much of which is expected to be realized in 2008. Approximately $14.6 million of cost savings have been realized through September 30, 2008.
•: In addition, during the three months ended September 30, 2008, Homebuilding recorded a charge of $6.5 million, of which $6.0 million related to impairment of long-lived assets and $0.5 million for severance costs. See further discussion in Note 6 of the "Notes to Condensed Consolidated Financial Statements."
•: In April 2008, the Company amended its 2005 Walter Credit Agreement, increasing the revolver portion of the agreement by $250.0 million to $475.0 million. Available funds of $214.8 million were used to repay principal, interest and fees and terminate the Mid-State Trust IX and Mid-State Trust XIV mortgage warehouse facilities, which were due to expire in July 2008 and October 2008, respectively. On April 30, 2008, the Company repaid all outstanding borrowings and terminated these facilities using proceeds from the amended 2005 Walter Credit Agreement, as discussed above. With the termination of the warehouse facilities, the Company no longer uses mortgage warehouse facilities or accesses the mortgage-backed securitization market.
•: In addition, after May 1, 2008, Walter Mortgage Company ("WMC") no longer provided financing to customers of Homebuilding. However, the backlog of homes with signed contracts and those which were under construction as of May 1, 2008 are being financed by WMC. As of September 30, 2008, an estimated 120 homes remain in the backlog, representing a total of approximately $11.4 million in value to be funded by WMC through the end of the first quarter of 2009. The Company will finance these WMC instalment notes receivable with operating cash flows or funds from borrowings under the increased revolving credit facility.
•: Homebuilding has transitioned to a third-party financing model including the use of government-sponsored loan programs. As a result of this transition, combined with the continuing sluggish housing market and credit liquidity crisis experienced in recent months in the United States, the Company expects Homebuilding unit deliveries during the remainder of 2008 to be lower than prior periods.

Other

•: In June 2008, the Company completed an offering of 3.2 million shares of its common stock, from which it received $280.4 million of net proceeds. The Company used these proceeds to

repay a portion of the term loan and revolving credit facility borrowings under the Company's Amended 2005 Walter Credit Agreement. As a result of this debt repayment, interest expense in the second quarter of 2008 included $3.1 million in accelerated amortization of deferred financing fees.

•: During the third quarter ended September 30, 2008, the Board of Directors approved an increase in the Company's regular quarterly dividend rate from $0.05 per common share to $0.10 per common share.
•: During the third quarter ended September 30, 2008, the Company repurchased 237,127 shares at an average price of $59.43 under its $25 million share repurchase program, and in October 2008, the Company repurchased 105,729 shares at an average price of $46.56 thereby fulfilling the program's authorized allotment.
•: On September 26, 2008, the Board of Directors approved a new $50.0 million share repurchase program, which is intended to replace the previously authorized $25 million share repurchase program. Repurchases will be made based on liquidity, market conditions and alternative opportunities to invest in and grow the Company's core businesses. Through November 6, 2008, the Company has repurchased 1,184,243 shares at an average price of $35.32 under its $50.0 million share repurchase program.

Summary of Third Quarter Consolidated Results of Operations

Net sales and revenues for the three months ended September 30, 2008 were $388.0 million, an increase of $75.8 million, or 24.3% from $312.2 million in the same period in 2007. This increase in revenues was primarily driven by higher metallurgical coal and coke pricing, partially offset by declines in unit deliveries at Homebuilding, a $3.8 million increase in the discount charge on instalment notes receivable originated during the third quarter of 2008 and lower Financing prepayment income.

Cost of sales, exclusive of depreciation, increased $8.8 million to $193.3 million and represented 57.0% of net sales for the three months ended September 30, 2008 versus $184.5 million or 74.1% of net sales for the same period in 2007. The increase in costs primarily results from increased production costs at Natural Resources as well as increased material costs at Sloss. These increases were partially offset by lower costs at Homebuilding resulting from fewer unit deliveries. The decrease in cost of sales as a percentage of net sales in 2008 as compared to 2007 results primarily from increased sales pricing, which outpaced cost increases at Natural Resources and Sloss.

Depreciation for the three months ended September 30, 2008 was $14.8 million, an increase of $2.7 million compared to the same period in 2007. The increase was primarily due to the Company's continued investment in the expansion of and replacement of equipment at Natural Resources' mining operations.

Interest expense on mortgage-backed notes was $24.3 million for the three months ended September 30, 2008, down $5.7 million compared to the same period in 2007. This decrease was due to a reduction in the weighted average borrowings outstanding for the three months ended September 30, 2008 as compared to the same period in 2007 resulting from the pay-off and termination of the warehouse facilities in April 2008 totaling $214.0 million, as well as due to normal repayments on the other securitized notes. The weighted average interest rate for the three months ended September 30, 2008 was also slightly lower as compared to the same period in 2007.

Provision for estimated hurricane insurance losses reflects a $3.9 million provision recorded during the quarter for hurricane-related losses due to Hurricanes Gustav and Ike.

Restructuring charges of $17.4 million in the three months ended September 30, 2008 includes a charge of $6.5 million at Homebuilding, of which $6.0 million related to the impairment of long-lived assets and $0.5 million for severance costs, as well as a charge of $10.9 million for the impairment of

Financing's goodwill. For a further discussion, see Note 6 of "Notes to Condensed Consolidated Financial Statements."

Interest expense on other debt decreased $1.9 million to $5.5 million for the three months ended September 30, 2008, primarily as a result of a reduction in both the weighted average borrowings for the period and the weighted average interest rate.

The Company's effective tax rate for the three months ended September 30, 2008 and 2007 was 32.1% and 27.2%, respectively. The effective tax rate for the three months ended September 30, 2008 includes the effect of a $10.9 million nondeductible goodwill impairment charge. Excluding the impact of this item, the effective tax rate for the quarter would have been 28.3%, comparable to the same period in 2007. Both the 2008 and 2007 effective tax rates differ from the Federal statutory rate primarily due to the benefits from percentage depletion and domestic production deductions.

The current and prior-year period results also include the impact of the factors discussed in the following segment analysis.

Segment Analysis

Natural Resources

Natural Resources, which include the operations of Jim Walter Resources, Kodiak Mining, TRI, Taft and United Land, reported revenues of $268.5 million in the third quarter of 2008, an increase of $103.0 million from the same period last year. The increase in revenues was primarily due to an 81.5% increase in selling prices for metallurgical coal, as compared to the same period in 2007. Additionally, there was an increase in sales from Kodiak Mining and the addition of TRI and Taft sales in 2008. Statistics presented in the following table relate to Jim Walter Resources only.

	Three months ended September 30,

	2008		2007
Average Coal Selling Price (per short ton)	$	161.92	$	89.22
Tons of Coal Sold (in thousands)		1,384		1,570
Average Natural Gas Selling Price (per MCF)	$	8.69	$	7.59
Billion Cubic Feet of Natural Gas Sold		1.7		1.8
Number of Natural Gas Wells		421		418

Natural Resources reported operating income of $95.4 million in the third quarter of 2008, compared to $31.7 million in the same period in 2007. The $63.7 million increase in operating income was primarily the result of the increase in net sales and revenues discussed above, partially offset by an increase in cost of sales of $33.9 million. The increase in cost of sales is mostly due to increased production costs per ton at Jim Walter Resources resulting from inflationary increases in labor, material and power and a higher mix of continuous miner tons to longwall tons associated with the development of the Mine No. 7 Southwest "A" panel and the Mine No. 7 East expansion. Also contributing to the increase in cost per ton were delays in the delivery of new production equipment at Mine No. 4, which resulted in lower volumes of production. Additionally, depreciation expense increased $3.7 million.

Sloss

Sloss generated net sales and revenues of $53.7 million for the three months ended September 30, 2008, an increase of 55.9% compared to the same period in 2007, and generated operating income of $14.6 million, an increase of $11.4 million compared to the same period in 2007. These increases resulted from a 77.0% increase in metallurgical coke selling prices due to both higher contract pricing and favorable spot sales during the current period as compared to the same period in 2007. The effect

of increased pricing was offset in part by a decrease of approximately 9,000 tons sold and by higher raw material coal costs in the current quarter as compared to the same period in 2007.

Financing

Net sales and revenues were $50.2 million for the three months ended September 30, 2008, a decrease of $3.9 million from the same period in 2007 primarily due to lower prepayment income. Financing had an operating loss of $4.8 million in the three months ended September 30, 2008, a decrease of $16.0 million from the same period in 2007. The decrease in operating results was primarily due to a $10.9 million impairment of goodwill reflecting a continuing decline in valuations as a result of disruptions in the financial markets, a $3.9 million provision for estimated hurricane insurance losses, a decrease in revenues, as discussed above, offset in part by a reduction in interest expense. The decrease in interest expense resulted from a reduction in the weighted average borrowings outstanding for the three months ended September 30, 2008 as compared to the same period in 2007 due to the pay-off and termination of the warehouse facilities totaling $214.0 million in April 2008, as well as due to normal repayments on the other securitized notes. The weighted average interest rate for the three months ended September 30, 2008 was also slightly lower as compared to the same period in 2007.

Delinquencies (the percentage of amounts outstanding over 30 days past due) were 5.0% at September 30, 2008, compared to 4.9% at September 30, 2007. The calculation of delinquencies excludes from delinquent amounts those accounts that are in bankruptcy proceedings that are paying their mortgage payments in contractual compliance with bankruptcy court approved mortgage payment obligations.

Homebuilding

Net sales and revenues were $23.1 million for the three months ended September 30, 2008, a decrease of $35.0 million from the same period in 2007 primarily as a result of a 58.2% decrease in unit completions and a $3.8 million increase in the discount required to record instalment notes receivable at estimated market value. As a result of the current volatility and lack of liquidity in the residential mortgage market, the discount required to fairly value the instalment notes receivable increased significantly and resulted in an additional discount within Homebuilding. The discount will be recognized as interest income over the life of the instalment notes receivable in the Financing segment. Below are significant statistics for Homebuilding:

	Three months ended September 30,

	2008		2007
Unit completions		243		581
Average revenue per home sold(1)	$	88,600	$	98,300

(1): Includes the effect of the discount required to record instalment notes receivable at the estimated market value.

Homebuilding's operating loss was $12.6 million for the three months ended September 30, 2008 compared to an operating loss of $0.1 million for the three months ended September 30, 2007. The increase in operating loss was primarily due to the effect of lower sales volume and the increase in the discount discussed above and a $6.5 million restructuring and impairment charge, partially offset by lower personnel related cost as a result of the restructuring as further discussed in Note 6 of the "Notes to Condensed Consolidated Financial Statements."

RESULTS OF OPERATIONS

Summary Operating Results of Continuing Operations for the Nine Months Ended September 30, 2008 and 2007

			For the nine months ended September 30, 2008

			Natural Resources		Sloss			Financing			Homebuilding			Other			Cons Elims			Total
(in thousands)
Net sales			$	651,284	$	157,113		$	9,244		$	101,252		$	1,602		$	(22,653	)	$	897,842
Interest income on instalment notes				—		—			142,975			—			—			—			142,975
Miscellaneous income				7,678		761			1,794			1,105			1,561			—			12,899

		Net sales and revenues		658,962		157,874			154,013			102,357			3,163			(22,653	)		1,053,716
Cost of sales (exclusive of depreciation)				406,240		95,953			4,801			82,994			228			(21,995	)		568,221
Interest expense(1)				—		—			78,433			—			—			—			78,433
Interest rate hedge ineffectiveness				—		—			16,981			—			—			—			16,981
Depreciation				35,750		3,033			331			2,576			696			—			42,386
Selling, general & administrative				17,185		10,943			22,484			34,558			25,490			—			110,660
Provision for losses on instalment notes				—		—			12,934			—			—			—			12,934
Postretirement benefits				21,845		(484	)		(337	)		(455	)		(786	)		—			19,783
Amortization of intangibles				206		—			801			—			—			—			1,007
Provision for estimated hurricane insurance losses				—		—			3,853			—			—			—			3,853
Restructuring & impairment charges				—		—			10,895			13,255			—			—			24,150

	Operating income (loss)		$	177,736	$	48,429		$	2,837		$	(30,571	)	$	(22,465	)	$	(658	)		175,308

	Other debt interest expense																				(22,377	)

	Income from continuing operations before income taxes																			$	152,931

(1): Excludes other debt interest expense.

			For the nine months ended September 30, 2007

			Natural Resources		Sloss			Financing			Homebuilding			Other			Cons Elims			Total
(in thousands)
Net sales			$	452,229	$	99,876		$	9,780		$	187,780		$	2,184		$	(4,153	)	$	747,696
Interest income on instalment notes				—		—			149,939			—			—			—			149,939
Miscellaneous income				23,726		518			3,178			588			3,379			—			31,389

	Net sales and revenues			475,955		100,394			162,897			188,368			5,563			(4,153	)		929,024
Cost of sales (exclusive of depreciation)				302,184		83,736			6,177			141,807			881			(4,153	)		530,632
Interest expense(1)				—		—			89,512			—			—			—			89,512
Depreciation				25,838		2,824			866			3,796			986			—			34,310
Selling, general & administrative				14,145		6,997			21,759			46,436			20,327			—			109,664
Provision for losses on instalment notes				—		—			8,756			—			—			—			8,756
Postretirement benefits				22,020		(648	)		(318	)		(444	)		(728	)		—			19,882
Amortization of intangibles				93		—			1,282			—			—			—			1,375

		Operating income (loss)	$	111,675	$	7,485		$	34,863		$	(3,227	)	$	(15,903	)	$	—			134,893

	Other debt interest expense																				(21,923	)

	Income from continuing operations before income taxes																			$	112,970

(1): Excludes other debt interest expense.

Summary of Year to Date Consolidated Results of Continuing Operations

Net sales and revenues for the nine months ended September 30, 2008 were $1,053.7 million, up $124.7 million, or 13.4% from $929.0 million in the same period in 2007. The increase in revenues was primarily driven by higher metallurgical coal and coke pricing and increased coal sales volumes, partially offset by declines in unit deliveries at Homebuilding, an additional discount on instalment notes originated during the first nine months of 2008, as well as a decline in Financing's prepayment income.

Cost of sales, exclusive of depreciation, increased $37.6 million to $568.2 million for the nine months ended September 30, 2008 and represented 63.3% of net sales in 2008 versus $530.6 million and 71.0% of net sales in the same period of 2007. Increased costs were primarily a result of increased sales volumes at Natural Resources and increased material, labor and freight costs at the Natural Resources and Sloss segments, partially offset by a decrease in Homebuilding's cost of sales as a result of fewer unit deliveries. The decrease in cost of sales as a percentage of net sales in 2008 resulted primarily from increased metallurgical coal and coke pricing, which outpaced increased costs at Natural Resources and Sloss.

Depreciation for the nine months ended September 30, 2008 was $42.4 million, an increase of $8.1 million compared to the same period in 2007. The increase was primarily due to the Company's continued investment in the expansion and replacement of equipment Natural Resources' mining operations, offset in part by a decrease in depreciation expense at Homebuilding of $1.2 million primarily due to asset impairments taken during the nine months ended September 30, 2008.

Provision for losses on instalment notes increased $4.1 million to $12.9 million for the nine months ended September 30, 2008 compared to $8.8 million for the same period in 2007. This increase primarily relates to increased losses on the ARM portion of the mortgage loans in the instalment notes receivable portfolio, an increase in repossession volume due to foreclosures and a slight decrease in the recovery on foreclosed properties.

Interest expense on the mortgage-backed/asset-backed notes decreased $11.1 million for the nine months ended September 30, 2008 compared to the same period in 2007. This decrease was due to a reduction in the weighted average borrowings outstanding for the nine months ended September 30, 2008 as compared to the same period in 2007 primarily due to the pay-off and retirement of the warehouse facilities in April 2008 totaling $214.0 million and due to normal repayments on securitized notes. The weighted average interest rate for the nine months ended September 30, 2008 was also slightly lower as compared to the same period in 2007.

The interest rate hedge ineffectiveness charge of $17.0 million in the nine months ended September 30, 2008 was recorded to recognize a loss on Financing's maturing interest rate swaps that no longer qualified for hedge accounting treatment. The interest rate swaps, originally intended to hedge the Company's next securitization, no longer qualified for hedge accounting treatment because the Company does not plan to access the distressed securitization market. This loss would normally have been amortized over the life of the securitization and the cash outflow would have been offset by increased securitization cash proceeds. All of Financing's hedges were settled on April 1, 2008 and Financing has no more hedges outstanding.

Provision for estimated hurricane insurance losses reflects a $3.9 million provision recorded during the third quarter ended September 30, 2008 for estimated insurance losses related to Hurricanes Gustav and Ike.

Restructuring and impairment charges of $24.2 million in the nine months ended September 30, 2008 represent $13.3 million relating to asset impairment charges and severance costs for Homebuilding, as well as a $10.9 million impairment of Financing goodwill. These charges are further discussed in Note 6 of the "Notes to Condensed Consolidated Financial Statements.".

The Company's effective tax rate for the nine months ended September 30, 2008 and 2007 was 30.5% and 34.3%, respectively. The effective tax rate for the nine months ended September 30, 2008 includes the unfavorable effect of a $10.9 million nondeductible goodwill impairment charge and the favorable impact of a $3.9 million tax credit resulting from the resolution of certain Federal tax matters associated with the IRS audit for the years ended May 31, 2000, December 31, 2000 and December 31, 2001. Excluding the effect of these items, the effective tax rate for 2008 would have been 30.7%. The effective tax rate in 2007 includes the unfavorable impact of a $4.4 million write-off of certain deferred tax assets no longer considered realizable. Excluding this discrete item, the effective tax rate for the nine months ended September 30, 2007 would have been 30.4%. In addition to the discrete items, both the 2008 and 2007 effective tax rates differ from the Federal statutory rate primarily due to the benefits from percentage depletion and domestic production deductions.

The current and prior-year period results also include the impact of the factors discussed in the following segment analysis.

Segment Analysis

Natural Resources

Natural Resources reported revenues of $659.0 million for the nine months ended September 30, 2008, up $183.0 million from the same period in 2007. The increase in revenues was driven primarily by increased metallurgical coal volumes and coal pricing versus the prior-year period. Statistics presented in the following table relate to Jim Walter Resources only.

	Nine months ended September 30,

	2008		2007
Average Metallurgical Coal Selling Price (per short ton)	$	117.55	$	94.57
Tons of Coal Sold (in thousands)		4,623		4,393
Average Natural Gas Selling Price (per MCF)	$	8.55	$	7.82
Billion Cubic Feet of Natural Gas Sold		4.8		5.4
Number of Natural Gas Wells		421		418

Natural Resources reported operating income of $177.7 million for the nine month period in 2008, compared to $111.7 million in the same period in 2007. Results in the current-year period benefitted from increased coal sales volumes and pricing, which were partially offset by higher production costs on a per-ton basis. Production costs per ton for the nine months of 2008 were higher than the same period in 2007 due to inflationary increases in labor and materials as well as a higher mix of continuous miner tons to longwall tons associated with the development of the Mine No. 7 Southwest "A" panel and the Mine No. 7 East expansion at Jim Walter Resources. In addition, 2007 benefitted from certain tax credits that were discontinued in 2008.

Sloss

Net sales and revenues were $157.9 million for the nine months ended September 30, 2008, an increase of $57.5 million compared to the same period in 2007. This increase in revenues is mostly related to an increase in metallurgical coke average sales price per ton, which more than offset a slight decrease in tons sold. Sloss reported operating income of $48.4 million for the nine months ended September 30, 2008 compared to $7.5 million in the same period in 2007, an increase of $40.9 million. Most of the increase results from the increase in metallurgical coke average sales price per ton as noted above, partially offset by higher raw material coal cost and a $2.4 million charge related to the resolution of a legal matter.

Financing

Net sales and revenues were $154.0 million for the nine months ended September 30, 2008, a decrease of $8.9 million from the prior-year period. This decrease is primarily attributable to lower prepayment-related interest income. Operating income was $2.8 million for the nine months ended September 30, 2008, a decrease of $32.0 million from the prior-year period. The decrease in operating income is primarily a result of recognizing a $17.0 million loss on interest rate hedge ineffectiveness, a $10.9 million impairment of goodwill and a $3.9 million provision for estimated hurricane losses during the nine months ended September 30, 2008.

Homebuilding

Net sales and revenues were $102.4 million for the nine months ended September 30, 2008, a decrease of $86.0 million from the nine months ended September 30, 2007 primarily as a result of a 41.7% decrease in unit completions and a $12.2 million increase in the discount required to record instalment notes receivable at estimated market value.

	Nine months ended September 30,

	2008		2007
Unit completions		1,106		1,896
Average revenue per home sold(1)	$	88,400	$	98,400

(1): Includes the effect of the discount required to record instalment notes receivable at estimated market value at the date of origination.

Homebuilding's operating loss of $30.6 million for the nine months ended September 30, 2008 increased $27.4 million when compared to an operating loss of $3.2 million for the nine months ended September 30, 2007. The increase in operating loss was primarily due to the effect of lower sales volumes, the increase in the discount discussed above, and restructuring and impairment charges totaling $13.3 million, as further discussed in Note 6 of the "Notes to Condensed Consolidated Financial Statements."

Other

The operating loss in the "Other" segment, comprised of the Company's corporate expenses and land subsidiaries other than United Land, increased by $6.6 million in the nine months ended September 30, 2008 when compared to the same period in 2007. The increased operating loss was primarily due to reduced land sales and increased employee-related expenses and professional fees.

FINANCIAL CONDITION

Cash and cash equivalents of continuing operations increased by $0.6 million from $30.6 million at December 31, 2007 to $31.2 million at September 30, 2008 reflecting $159.1 million in cash flows provided by continuing operating activities, partially offset by $72.9 million of cash flows used in investing activities and $85.6 million of cash flows used in financing activities. See additional discussion in the Statement of Cash Flows section that follows.

Short-term investments were $58.8 million at September 30, 2008, down $17.0 million from December 31, 2007, attributable to cash collections on mortgages previously pledged as collateral against the warehouse facilities no longer being restricted as a result of the payoff and termination of the warehouse facilities in April 2008.

Net instalment notes receivable were $1,804.6 million at September 30, 2008, down $32.4 million from December 31, 2007 as a result of payments received on outstanding notes exceeding new loan originations. The reduction in new loan originations is the result of WMC no longer providing financing to new customers of Homebuilding effective May 1, 2008.

Net receivables were $173.3 million at September 30, 2008, an increase of $91.6 million from December 31, 2007 primarily attributable to increased selling prices within the Natural Resources and Sloss businesses and timing of sales within the third quarter of 2008 as compared to the fourth quarter of 2007.

Inventories were $122.2 million at September 30, 2008, an increase of $20.5 million from December 31, 2007 primarily due to increased raw materials at Sloss and Natural Resources in preparation for completing customer orders, as well as an increase in repossessed property at Financing. These increases were partially offset by a reduction of goods in process at Homebuilding as a result of a decrease in the number of homes under construction.

Net property, plant and equipment was $523.2 million at September 30, 2008, up $88.2 million from December 31, 2007 primarily due to the Company's continued investment in the replacement of equipment and expansion at Natural Resources' mining operations.

Accounts payable was $82.9 million at September 30, 2008, up $10.9 million from December 31, 2007 primarily due to the timing of payments on purchased coal and freight.

Accrued expenses were $122.8 million at September 30, 2008, up $39.7 million from December 31, 2007 primarily due to an increase in taxes payable relating to increased estimated taxable income in 2008.

Mortgage-backed/asset-backed notes were $1,402.2 million at September 30, 2008, down $304.0 million from December 31, 2007 as a result of debt principal payments, which included the $214.0 million payoff and termination of the warehouse facilities in April 2008.

Other debt decreased by $19.9 million from December 31, 2007 primarily due to $359.2 million of payments on the amended 2005 Walter Credit Agreement, offset in part by $330.0 million in borrowings under the amended 2005 Walter Credit Agreement during the nine months ended September 30, 2008. See Note 10 of the "Notes to Condensed Consolidated Financial Statements" for further discussion.

LIQUIDITY AND CAPITAL RESOURCES

Overview

The Company's principal sources of short-term funding are its existing cash balances, operating cash flows and borrowings under its revolving credit facility. The Company's principal source of long-term funding is its bank term loan. As of September 30, 2008, total debt decreased $323.9 million as compared to December 31, 2007. See discussion below and Note 10 of "Notes to Condensed Consolidated Financial Statements."

The Company believes that, based on current forecasts and anticipated market conditions, funding generated from operating cash flows and available sources of liquidity will be sufficient to meet substantially all operating needs, to make planned capital expenditures and to make all required interest and principal payments on indebtedness for the next twelve to eighteen months. However, the Company's operating cash flows and liquidity are significantly influenced by numerous factors, including prices of coal and natural gas, coal production, costs of raw materials and interest rates and the general economy. Currently there is an unprecedented uncertainty in the financial markets, less availability and higher costs of credit, potential counterparty defaults, and commercial and investment bank failures.

While we have no indication that the uncertainty in the financial markets would impact our current credit facility or our current credit providers, the possibility does exist.

2005 Walter Credit Agreement

On April 30, 2008, Walter amended the 2005 Walter Credit Agreement to allow an additional $250.0 million of borrowings under the revolving credit facility, thereby increasing the revolving credit facility to $475.0 million. Funds available of $214.8 million were used to repay principal, interest and fees and terminate the Mid-State Trust IX and Mid-State Trust XIV mortgage warehouse facilities, which were due to mature in July 2008 and October 2008, respectively. The amendment also increases the interest rate on the revolving credit facility and the term loan to LIBOR plus 300 basis points. The commitment fee on the unused portion of the revolving facility also increases from 0.375% per year to 0.5% per year. In addition, the amended 2005 Walter Credit Agreement contains a reducing revolver commitment feature, where the total available revolver commitment may not exceed $400.0 million at March 31, 2009, $350.0 million at September 30, 2009, $300.0 million at June 30, 2009, and $250.0 million at December 31, 2009.

During the nine months ended September 30, 2008, the Company borrowed $330.0 million under the revolving credit facility. On June 16, 2008, the Company completed an offering of shares of its common stock and received $280.4 million of net proceeds, as more fully discussed in Note 13 of "Notes to Condensed Consolidated Financial Statements." During June 2008, the net proceeds from the offering were used to repay $77.9 million on the term loan and $202.5 million on the revolving credit facility. Additional repayments on the revolving credit facility during the nine months ended September 30, 2008 totaled $77.5 million. At September 30, 2008, the Company had $50.0 million outstanding under the revolving credit facility at a weighted average interest rate of 4.903%.

Mortgage-Backed and Asset-Backed Notes and Variable Funding Loan Facilities

At the beginning of 2008, the Company had two warehouse facilities totaling $350.0 million that provided temporary warehouse financing to WMC for its current purchases of instalment notes and mortgages originated by Homebuilding.

On April 30, 2008, the Company repaid all outstanding borrowings and terminated these facilities using proceeds from the amended 2005 Walter Credit Agreement, as discussed above. With the termination of the warehouse facilities, the Company is no longer reliant on the availability of mortgage warehouse facilities or the mortgage-backed securitization market.

In addition, after May 1, 2008, WMC is no longer providing financing to new customers of Homebuilding. However, the backlog of homes with signed contracts and those which were under construction as of May 1, 2008, have been or are expected to be completed by the end of the first quarter of 2009 and financed by WMC. As of September 30, 2008, an estimated 120 homes remain in the backlog, representing a total of approximately $11.4 million in value to be funded by WMC. The Company will finance these WMC instalment notes receivable with operating cash flows or funds from borrowings under the increased revolving credit facility. Homebuilding is transitioning to a third-party financing model including the use of government-sponsored loan programs.

Convertible Notes

Statement of Cash Flows

The following table sets forth, for the periods indicated, selected consolidated cash flow information (in thousands):

	Nine months ended September 30,

	2008			2007
Cash flows provided by operating activities	$	159,105		$	69,085
Cash flows used in investing activities		(72,887	)		(121,411	)
Cash flows used in financing activities		(85,642	)		(52,515	)

Cash flows provided by (used in) continuing operations		576			(104,841	)
Cash flows provided by discontinued operations		—			630

Net increase (decrease) in cash and cash equivalents	$	576		$	(104,211	)

Cash balances were $31.2 million and $30.6 million at September 30, 2008 and December 31, 2007, respectively. The primary sources of cash in the nine months ended September 30, 2008 were cash provided by operating activities of $159.1 million, proceeds from the June 2008 stock offering that totaled $280.4 million and $11.9 million from the receipt of payments on purchased loans. These sources of cash were partially offset by cash outflows for capital expenditures of $88.8 million, net payments of mortgage-backed/asset- backed notes of $304.0 million, net payments on other debt that totaled $46.4 million and the acquisition of Taft for $17.0 million, net of cash acquired.

Net cash provided by operating activities was $159.1 million for the nine months ended September 30, 2008 as compared to $69.1 million for the same period in 2007. The improvement in net cash provided by operating activities in 2008 was primarily the result of a $32.0 million increase in income from continuing operations, a $17.6 million increase in non-cash charges to net income and a

$40.4 million improvement in cash from operating assets and liabilities for the nine months ended September 30, 2008 as compared to the same period in 2007. Additionally, in the 2008 period, the conversion to cash cycle time for operating assets has been reduced as instalment receivables have decreased reflecting the fact that the Company is no longer providing financing to new customers of Homebuilding effective May 1, 2008.

Cash flows used in investing activities of continuing operations for the nine months ended September 30, 2008 were $72.9 million compared to $121.4 million for the same period in 2007. Significant cash flows used in investing activities in the 2008 period included the acquisition of Taft for $17.0 million, net of cash acquired and additions to property, plant and equipment totaling $88.8 million as the Company continued to invest in the replacement of equipment and expansion of Natural Resources' mining operations. The Company has revised its forecast for 2008 capital expenditures from an expected range of $110.0 million to $135.0 million to approximately $154 million primarily as a result of additional capital spending needs at Natural Resources. Significant cash flows used in investing activities in the 2007 period included $110.0 million of additions to property plant and equipment, primarily in the Natural Resources segment, and the acquisition of TRI for $11.7 million, net of cash acquired.

Cash flows used in financing activities of continuing operations for the nine months ended September 30, 2008 were $85.6 million compared to $52.5 million in the same period in 2007. Cash flows used in financing activities in 2008 included: net payments of mortgage-backed/asset-backed notes of $304.0 million, primarily as a result of the April 2008 payoff and termination of WMC's two warehouse facilities discussed above and net retirements of other debt of $46.4 million, partially offset by proceeds from the June 2008 stock offering of $280.4 million. See Note 13 to the "Notes to Condensed Consolidated Financial Statements" for additional discussion. Cash flows used in financing activities for the nine months ended September 30, 2007, were primarily attributable to $40.8 million of net retirements on other debt.

Contractual Obligations and Commercial Commitments

During the third quarter of 2008, the Company entered into an arrangement in which a vendor will provide certain parts, components and an exchange and rebuild service for certain of the Company's mining equipment. This arrangement extends to a period of up to five years and will require the Company to expend approximately $57.1 million over the contract term. These types of maintenance costs have been incurred by Natural Resources in prior periods. Also, in connection with its expanding mining operations, the Company had commitments of approximately $43.6 million at September 30, 2008, for the acquisition of property and equipment, most of which is expected to be incurred in 2009.

Pension Benefits

As a result of the unprecedented distress in the credit and capital markets, the fair value of the Company's pension plan assets has declined substantially since December 31, 2007. A sustained decline in the fair value of pension plan assets will result in increased pension contributions in 2009 and future years.

Other

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company is exposed to certain market risks inherent in the Company's operations. These risks generally arise from transactions entered into in the normal course of business. The Company's primary market risk exposures relate to interest rate risk and commodity risks. The Company does not enter into derivatives or other financial instruments for trading or speculative purposes.

In April 2008, the Company settled interest rate hedge agreements with an aggregate notional value of $215.0 million that were originally designed to hedge the Company's next securitization. No similar hedges remain outstanding.

ITEM 4. CONTROLS AND PROCEDURES

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

An evaluation was performed under the supervision and with the participation of our management, including our Vice Chairman (principal executive and financial officer), of the effectiveness of our disclosure controls and procedures as such term is defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 as amended ("Exchange Act") as of the end of the period covered by this quarterly report on Form 10-Q. Based on that evaluation, our management, including our principal executive and financial officer, concluded that our disclosure controls and procedures are effective as of September 30, 2008 to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is (1) recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and (2) accumulated and communicated to our management, including our principal executive and financial officer, as appropriate to allow timely decisions regarding required disclosures. There has been no change in our internal control over financial reporting during the nine months ended September 30, 2008 that has materially affected, or is reasonably likely to materially affect, internal control over financial reporting.

PRIVATE SECURITIES LITIGATION REFORM ACT SAFE HARBOR STATEMENT

Except for historical information contained herein, the statements in this release are forward-looking and made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements, including expressions such as "believe," "anticipate," "expect," "estimate," "intend," "may," "will," and similar expressions involve known and unknown risks, and uncertainties, and other factors that may cause the Company's actual results in future periods to differ materially from the expectations expressed or implied by such forward-looking statements. These factors include, among others, the following: the market demand for the Company's products as well as changes in costs and the availability of raw material, labor, equipment and transportation; changes in weather and geologic conditions; changes in extraction costs and pricing and our assumptions and projections concerning our reserves in the Company's mining operations; changes in customer orders; pricing actions by the Company's competitors, customers, suppliers and contractors; changes in governmental policies and laws; changes in general economic conditions; and the successful implementation and anticipated timing of any strategic actions and objectives that my be pursued, including our announced separation of the Financing and Homebuilding business from the Company. Forward- looking statements made by the Company in this release, or elsewhere, speak only as of the date on which the statements were made. Any forward-looking statements should be considered in context with the various disclosures made by us about our business, including the Risk Factors described in the Company's Prospectus filed with the Securities and Exchange Commission on June 9, 2008 and our other filings with the Securities and Exchange Commission. The Company disclaims any duty to update its forward-looking statements as of any future date.

PART II—OTHER INFORMATION

Item 1. Legal Proceedings

See Note 16 of the "Notes to Condensed Consolidated Financial Statements" in this Form 10-Q for a description of current legal proceedings.

The Company and its subsidiaries are parties to a number of other lawsuits arising in the ordinary course of their businesses. Most of these cases are in a preliminary stage and the Company is unable to predict a range of possible loss, if any. The Company provides for costs relating to these matters when a loss is probable and the amount is reasonably estimable. The effect of the outcome of these matters on the Company's future results of operations cannot be predicted because any such effect depends on future results of operations and the amount and timing of the resolution of such matters. While the results of litigation cannot be predicted with certainty, the Company believes that the final outcome of such other litigation will not have a material adverse effect on the Company's consolidated financial position.

Item 1A. Risk Factors

The Company's business, financial condition, operating results and cash flows can be impacted by a number of factors, any one of which could cause our actual results to vary materially from recent results or from our anticipated future results. For a discussion identifying additional risk factors and important factors that could cause actual results to differ materially from those anticipated, see the discussion in "Risk Factors" in the Company's Prospectus filed with the Securities And Exchange Commission on June 9, 2008. In addition to the risk factors previously disclosed in our Prospectus filed with the Securities and Exchange Commission on June 9, 2008, you should consider the following risks prior to making an investment in our Company:

Disruptions in the credit markets have created uncertainty, which could adversely affect our business.

The financial markets in the United States, Europe, South America and Asia have been experiencing extreme disruption in recent months. As widely reported, these markets have experienced, among other things, extreme volatility in security prices, commodities and currencies; severely diminished liquidity and credit availability, rating downgrades and declining valuations of certain investments. The current tightening of credit in financial markets could adversely affect our customers' ability to obtain financing for operations, result in a decrease in the demand for our products and negatively impact our collection of trade receivables from our customers. Continuation or worsening of the current economic conditions, a prolonged global, national or regional economic recession or other similar events could have a material adverse effect on the demand for our products and on our sales, pricing and profitability. We are unable to predict the likely duration and severity of the current disruption in financial markets and adverse economic conditions in the U.S. and other countries and the impact these events may have on our operations and the industry in general.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Recent Sales of Unregistered Securities

In January 2008, the holders of the remaining $0.8 million of the Company's Convertible Senior Subordinated Notes agreed to convert the principal amount in exchange for 84,013 shares of the Company's common stock and $0.1 million of conversion inducement payments.

Purchase of Equity Securities by the Company and Affiliated Purchasers

On August 13, 2007, the Company's Board of Directors authorized a $25.0 million Common Stock Open Market share buyback program to replace the July 21, 2003 authorized program which was fully utilized on October 3, 2008. During January 2008, the Company acquired 11,400 shares at an average

price of $31.83 per share. During the third quarter ended September 30, 2008, the Company repurchased 237,127 shares at an average price of $59.43 under its $25 million share repurchase program, and in October 2008, the Company repurchased 105,729 shares at an average price of $46.56 thereby fulfilling the program's authorized allotment.

On September 26, 2008, the Board of Directors approved a new $50.0 million share repurchase program, which is intended to replace the previously authorized $25 million share repurchase program. Repurchases will be made based on liquidity, market conditions and alternative opportunities to invest in and grow the Company's core businesses. Through November 6, 2008, the Company has repurchased 1,184,243 shares at an average price of $35.32 under its $50.0 million share repurchase program.

On February 25, 2008, the Company acquired 26,800 shares from employees at an average price of $52.41 per share. These shares were acquired to satisfy the employees' tax withholding obligations associated with the lapse of restrictions on certain stock awards granted under the 1995 Long-Term Incentive Stock Plan and the 2002 Long-Term Incentive Award Plan. Upon acquisition, these shares were retired.

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

None.

Item 5. Other Information

(a): Not applicable
(b): Not applicable

Item 6. Exhibits

(a): Exhibits

Exhibit Number

	31.1		Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002—Principal Executive and Financial Officer
	32.1		Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Session 1350—Principal Executive and Financial Officer

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.


WALTER INDUSTRIES, INC.
/s/ VICTOR P. PATRICK

Vice Chairman, Chief Financial Officer and General Counsel (Principal Executive and Financial Officer)

Date: November 7, 2008

QuickLinks

PART I—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

WALTER INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
WALTER INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS) FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2008 (UNAUDITED) (IN THOUSANDS)
WALTER INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (IN THOUSANDS)

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS, FINANCIAL CONDITION AND LIQUIDITY AND CAPITAL RESOURCES

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

ITEM 4. CONTROLS AND PROCEDURES

PART II—OTHER INFORMATION

Item 1. Legal Proceedings

Item 1A. Risk Factors

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

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

Item 5. Other Information

Item 6. Exhibits