<PAGE>   1
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                    FORM 10-Q



(Mark one)


[X]      QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES AND
         EXCHANGE ACT OF 1934

For the Quarterly period ended SEPTEMBER 30, 1996

                                       OR

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


For the transition period from                      to
                               --------------------    --------------------

Commission File Number                      0-18054


                              SUN SPORTSWEAR, INC.
             (Exact name of registrant as specified in its charter)


         Washington                                          91-1132690
(State or other jurisdiction                               (IRS Employer
     of incorporation of                                 Identification No.)
        organization)

6520 South 190th Street, Kent, Washington                       98032
(Address of principal executive offices)                     (Zip Code)


                                 (206) 251-3565
              (Registrant's telephone number including area code)


Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.


                                 YES  X  NO
                                     ---    ---


As of November 4, 1996 the Registrant had 5,748,500 shares of common stock
outstanding.



                                  Page 1 of 21
<PAGE>   2
                              SUN SPORTSWEAR, INC.

                                      INDEX


                                                                           Page
                                                                           ----
Part I.         Financial Information

      Item 1.     Financial Statements:

                  Balance Sheets at September 30, 1996                     3-4
                  (unaudited) and December 31, 1995

                  Statements of Income                                     5
                  for the three months ended
                  September 30, 1996 and 1995 (unaudited)
                  and for the nine months ended
                  September 30, 1996 and 1995 (unaudited)

                  Statements of Cash Flows                                 6
                  for the nine months ended
                  September 30, 1996 and 1995 (unaudited)

                  Notes to Financial Statements                            7-8

      Item 2.     Management's Discussion and Analysis                     8-12
                  of Financial Condition and Results of Operations

Part II.        Other Information

      Item 1.     Legal Proceedings                                        13

      Item 2.     Changes in Securities                                    13

      Item 3.     Defaults upon Senior Securities                          13

      Item 4.     Submission of Matters to a Vote of                       13
                  Security Holders

      Item 5.     Other Information                                        14-19

      Item 6.     Exhibits and Reports on Form 8-K                         20

Signature Page                                                             21


                                  Page 2 of 21
<PAGE>   3
                              SUN SPORTSWEAR, INC.
                                 BALANCE SHEETS

<TABLE>
<CAPTION>
                                                   SEPTEMBER 30,      DECEMBER 31,
                                                       1996              1995
                                                   -------------      ------------
                                                    (UNAUDITED)
<S>                                                 <C>               <C>
         ASSETS

CURRENT ASSETS:
         Cash                                       $   141,773       $ 2,006,633
         Accounts receivable, net of
           allowance for doubtful accounts of
           $45,904 and $46,317, respectively          6,530,384        13,102,275
         Inventories, net (Note 2)                   19,415,919        23,631,358
         Prepaid expenses and other
           current assets                             1,225,966           959,872
         Deferred income taxes                        1,138,332           788,332
         Federal income tax receivable                1,042,387         1,979,535
                                                    -----------       -----------

         Total current assets                        29,494,761        42,468,005

EQUIPMENT AND LEASEHOLD
IMPROVEMENTS, NET
         (Note 3)                                     3,923,159         4,831,994

OTHER ASSETS                                             14,506            15,107
                                                    -----------       -----------

         Total assets                               $33,432,426       $47,315,106
                                                    ===========       ===========
</TABLE>


                                   (continued)
                 See accompanying notes to financial statements


                                  Page 3 of 21
<PAGE>   4
                              SUN SPORTSWEAR, INC.

                                 BALANCE SHEETS
                                   (CONTINUED)


<TABLE>
<CAPTION>
                                                   SEPTEMBER 30,      DECEMBER 31,
                                                       1996              1995
                                                   -------------      ------------
                                                    (UNAUDITED)
<S>                                                 <C>               <C>
         LIABILITIES AND
         SHAREHOLDERS' EQUITY

CURRENT LIABILITIES:
         Notes payable                              $ 3,400,208       $13,500,000
         Accounts payable                             3,552,640         4,985,953
         Accrued royalties payable                    1,309,865         1,753,745
         Accrued wages and taxes payable                912,711           512,078
         Accrued interest payable                        19,846            51,263
         Current portion of long-term debt                  -0-           245,652
                                                    -----------       -----------

         Total current liabilities                    9,195,270        21,048,691
                                                    -----------       -----------

NONCURRENT LIABILITIES:
         Long-term debt,
           net of current portion                           -0-            92,354
         Deferred income taxes                          155,642           155,642
                                                    -----------       -----------

         Total noncurrent liabilities                   155,642           247,996
                                                    -----------       -----------

SHAREHOLDERS' EQUITY:
         Common stock, no par value,
           20,000,000 shares authorized;
           5,748,500 shares at 9/30/96 and
           12/31/95 issued and outstanding           21,618,339        21,618,339
         Retained earnings                            2,463,175         4,400,080
                                                    -----------       -----------

         Total shareholders' equity                  24,081,514        26,018,419
                                                    -----------       -----------

COMMITMENTS AND
  CONTINGENCIES
         Total liabilities and
           shareholders' equity                     $33,432,426       $47,315,106
                                                    ===========       ===========
</TABLE>


                 See accompanying notes to financial statements


                                  Page 4 of 21
<PAGE>   5
                              SUN SPORTSWEAR, INC.

                              STATEMENTS OF INCOME
                                   (UNAUDITED)


<TABLE>
<CAPTION>
                                   FOR THE THREE MONTHS ENDED               FOR THE NINE MONTHS ENDED
                                          SEPTEMBER 30,                            SEPTEMBER 30,
                                --------------------------------        --------------------------------
                                    1996                1995                1996                1995
                                ------------        ------------        ------------        ------------
<S>                             <C>                 <C>                 <C>                 <C>
Proprietary sales               $  2,991,595        $  2,843,584        $ 13,317,282        $ 13,273,455
Licensed sales                     6,484,430          14,056,260          41,706,383          61,403,890
Sales deductions                    (342,311)           (675,266)         (1,421,946)         (2,150,700)
                                ------------        ------------        ------------        ------------

Net sales (Note 4)                 9,133,714          16,224,578          53,601,719          72,526,645
Cost of goods sold                 9,101,063          17,097,761          46,596,495          64,930,346
                                ------------        ------------        ------------        ------------
Gross margin                          32,651            (873,183)          7,005,224           7,596,299
                                ------------        ------------        ------------        ------------

Operating expenses:
     Selling                       1,087,992             914,315           2,604,171           2,801,000
     Design and pattern              634,349             571,100           1,978,307           1,830,082
     General and
       administrative              1,588,579           1,928,714           4,816,007           6,042,717
     Provision for
       doubtful accounts
       and factoring fees             22,261              90,614             100,746             120,467
                                ------------        ------------        ------------        ------------
                                   3,333,181           3,504,743           9,499,231          10,794,266
                                ------------        ------------        ------------        ------------

Operating income                  (3,300,530)         (4,377,926)         (2,494,007)         (3,197,967)
                                ------------        ------------        ------------        ------------

Other expense (income):
     Interest expense                 74,978             264,453             492,359             969,506
     Other, net                       (6,605)           (111,659)            (51,461)           (172,645)
                                ------------        ------------        ------------        ------------
                                      68,373             152,794             440,898             796,861
                                ------------        ------------        ------------        ------------

Income before provision
  for income taxes                (3,368,903)         (4,530,720)         (2,934,905)         (3,994,828)
Provision for
  income taxes                    (1,145,000)         (1,540,500)           (998,000)         (1,358,500)
                                ------------        ------------        ------------        ------------

Net loss                        $ (2,223,903)       $ (2,990,220)       $ (1,936,905)       $ (2,636,328)
                                ============        ============        ============        ============

Earnings per share:             $      (0.39)       $      (0.52)       $      (0.34)       $      (0.46)
                                ============        ============        ============        ============

Weighted average
  shares outstanding               5,748,500           5,748,500           5,748,500           5,748,165
</TABLE>


                 See accompanying notes to financial statements


                                  Page 5 of 21
<PAGE>   6
                              SUN SPORTSWEAR, INC.

                            STATEMENTS OF CASH FLOWS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                         FOR THE NINE MONTHS ENDED SEPTEMBER 30,
                                                                             1996                       1995
                                                                         ------------               ------------
<S>                                                                      <C>                        <C>
Cash flows from operating activities:
     Net loss                                                            $ (1,936,905)              $ (2,636,328)
     Adjustments to reconcile net loss to
       net cash provided by (used in)
       operating activities:
         Depreciation and amortization                                      1,294,076                  1,131,097
         Loss (gain) on disposal of equipment                                     699                    (11,252)
         Decrease in accounts receivable                                    6,571,891                 11,247,195
         Decrease in inventories                                            4,215,439                    352,345
         Decrease (increase) in federal income tax
         receivable, accrued and deferred                                     587,148                 (1,649,500)
         Increase in other assets                                            (265,493)                  (130,628)
         Decrease in accounts payable                                      (1,068,892)                (3,491,769)
         (Decrease) increase in accrued liabilities                           (74,664)                    55,604
                                                                         ------------               ------------
     Net cash provided by operating activities                              9,323,299                  4,866,764
                                                                         ------------               ------------

Cash flows from investing activities:
     Capital expenditures                                                    (399,048)                  (966,203)
     Proceeds from sale of equipment                                           13,108                     39,283
                                                                         ------------               ------------
     Net cash used in investing activities                                   (385,940)                  (926,920)
                                                                         ------------               ------------

Cash flows from financing activities:
     Decrease in outstanding
       checks in excess of funds on deposit                                  (364,421)                (1,274,043)
     Net repayments under line of credit agreement                        (10,099,792)                (3,391,000)
     Principal payments under long-term debt                                 (338,006)                  (207,751)
     Proceeds from issuance of common
       stock for employee stock options                                           -0-                      4,648
                                                                         ------------               ------------
     Net cash used in financing activities                                (10,802,219)                (4,868,146)
                                                                         ------------               ------------

Net decrease in cash                                                        1,864,860                    928,302
Cash at beginning of period                                                 2,006,633                  1,217,171
                                                                         ------------               ------------
Cash at end of period                                                    $    141,773               $    288,869
                                                                         ============               ============

SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
Cash paid (received) during the period for:
         Interest                                                        $    523,775               $    967,052
         Income taxes                                                    $ (1,585,148)              $    291,000
</TABLE>


                 See accompanying notes to financial statements


                                  Page 6 of 21
<PAGE>   7
                              SUN SPORTSWEAR, INC.
                          NOTES TO FINANCIAL STATEMENTS

NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES:
INTERIM FINANCIAL STATEMENTS
The accompanying financial statements at September 30, 1996 for the three and
nine months ended September 30, 1996 and September 30, 1995 are unaudited. These
unaudited interim financial statements and related notes have been prepared
pursuant to the rules and regulations of the Securities and Exchange Commission.
Accordingly, certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been omitted pursuant to such rules and regulations. However, in
the opinion of management, the accompanying condensed financial statements
include all adjustments, consisting only of normal recurring accruals, necessary
for a fair statement of the results for the interim periods. The results of
operations and cash flows for the nine months ended September 30, 1996 and 1995
are not necessarily indicative of the results of operations and cash flows that
may be expected for the entire year, which are subject to year-end adjustments
in conjunction with the annual audit by the Company's independent public
accountants. The accompanying condensed financial statements and related notes
should be read in conjunction with the financial statements and footnotes
thereto included in Sun Sportswear, Inc.'s (the "Company") 1995 Form 10-K and
Annual Report to Shareholders. See also "Item 2 - Management's Discussion and
Analysis of Financial Condition and Results of Operations - Quarterly Net Sales
- Seasonality" on page 11 of this report.

NOTE 2 - INVENTORIES:
         Inventories are composed as follows:

<TABLE>
<CAPTION>
                                              September 30,        December 31,
                                                  1996                 1995
                                              -------------        ------------
<S>                                           <C>                  <C>
Garments in process                           $     32,119         $  2,244,781
Unprinted finished garments                     17,823,307           19,827,823
Printed finished garments                        2,554,484            5,617,347
Supplies                                           980,725              407,064
Lower of cost or market allowance               (1,974,716)          (4,465,657)
                                              ------------         ------------
                                              $ 19,415,919         $ 23,631,358
                                              ============         ============
</TABLE>

NOTE 3 - EQUIPMENT AND LEASEHOLD IMPROVEMENTS:
Equipment and leasehold improvements are summarized by major classifications as
follows:

<TABLE>
<CAPTION>
                                            Estimated     September 30,       December 31,
                                          useful lives        1996                1995
                                          ------------    -------------       ------------
<S>                                            <C>        <C>                 <C>
Production equipment                           5-7        $  3,722,949        $  3,658,861
Leasehold improvements                         5-10          2,369,879           2,380,317
Design system hardware and software            3-5             963,417             851,056
Information system hardware and software       3-5           1,840,880           2,145,582
Furniture and fixtures                          5              937,672           1,116,112
Distribution equipment                         5-10            371,033             343,941
Warehouse equipment                            5-7             357,814             395,797
Vehicles                                        5               12,417              12,417
                                                          ------------        ------------
                                                            10,576,061          10,904,083
LESS - Accumulated depreciation                             (6,652,902)         (6,072,089)
                                                          ------------        ------------
                                                          $  3,923,159        $  4,831,994
                                                          ============        ============
</TABLE>


                                  Page 7 of 21
<PAGE>   8
NOTE 4 - MAJOR CUSTOMERS:
The Company operates almost exclusively in one industry, which is the wholesale
distribution of imprinted, dyed and decorated casual apparel. The Company has
three major customers, all of whom are mass merchants. The percentage of gross
sales for each customer and the total percentage of gross sales for the three
customers are as follows:

<TABLE>
<CAPTION>
                                          Percentage of gross sales for       Total percentage
                                          the Company's three largest        of gross sales for
                                                   customers                the three customers
<S>                                             <C>                                 <C>
For the nine months ended September 30,
         1996                                   11%, 26% and 44%                    81%
         1995                                   19%, 25% and 44%                    88%

For the year ended December 31, 1995            17%, 24% and 47%                    88%
</TABLE>

ITEM 2.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
         RESULTS OF OPERATIONS

RESULTS OF OPERATIONS
         The following table sets forth, for the periods indicated, the
percentage relationship of certain income statement items to net sales and the
dollar increase or decrease as a percentage of such items from period to period:

<TABLE>
<CAPTION>
                                                                                  ----------------------
                                                                                          Dollar
                                                                                    (decrease)/increase
                                                                                      as a percentage
                                                                                       1995 to 1996
                                                                                  ----------------------
                                                                                    three         nine
                                                                                   months        months
                             Three months ended           Nine months ended        ended         ended
                                September 30,               September 30,         Sept 30,      Sept 30,
                            -------------------         -------------------       --------      --------
                             1996          1995          1996          1995
                             ----          ----          ----          ----
<S>                         <C>           <C>           <C>           <C>          <C>           <C>
Gross sales
  Proprietary sales          32.7%         17.5%         24.9%         18.3%          5.2%         0.3%
  Licensed sales             71.0          86.6          77.8%         84.7         (53.9)       (32.1)
Sales deductions             (3.7)         (4.1)         (2.7)         (3.0)        (49.3)       (33.9)
Net sales                   100.0         100.0         100.0         100.0         (43.7)       (26.1)

Cost of goods sold           99.6         105.4          86.9          89.5         (46.8)       (28.2)
Gross margin                  0.4          (5.4)         13.1          10.5        (103.7)        (7.8)
Operating expenses           36.5          21.6          17.7          14.9          (4.9)       (12.0)
Interest expense              0.8           1.6           0.9           1.3         (71.6)       (49.2)
Other (income)
  and expense                (0.1)         (0.7)         (0.1)         (0.2)        (94.1)       (70.2)
Provision (benefit)
  for income taxes          (12.5)         (9.5)         (1.9)         (1.9)        (25.6)       (26.5)
                            -----         -----         -----         -----

Net income                  (24.4)%       (18.4)%        (3.6)%        (3.6)%       (25.6)       (26.5)
                            -----         -----         -----         -----
</TABLE>


THIRD QUARTER OF 1996 AND THIRD QUARTER OF 1995
NET SALES. Net sales for the quarter ended September 30, 1996 decreased 44% to
$9.1 million from $16.2 million in the same period of 1995. Gross sales of men's
and boys' products decreased 62% to $2.8 million in the third quarter of 1996
from $7.1 million in the same period of 1995. Women's and girls' gross sales
decreased by 32% to $6.7 million in the third quarter of 1996 from $9.8 million
in the same


                                  Page 8 of 21
<PAGE>   9
period of 1995. The Company believes these sales decreases were the result of a
soft retail environment in certain sectors of the screenprinted apparel market.
The Company expects its fourth quarter 1996 sales to be below its fourth quarter
1995 sales as a result of this soft retail environment (see "Quarterly Net Sales
- Seasonality" below).

         The Company is working to improve its results by focusing on new
customers, on the private label needs of its mid-tier and mass market customers,
and by building its men's and boys' business. To assist in these efforts, the
Company is in the process of upgrading and enlarging its sales staff and has
expanded its product design capabilities to encompass private label business.

         Gross sales of licensed products decreased 54% to $6.5 million in the
third quarter of 1996 from $14.1 million in the third quarter of 1995. The
Company believes this sales decrease was the result of a soft retail environment
in certain sectors of the screenprinted apparel market.

         The Company, on an ongoing basis, is actively seeking additional
licenses and brands to add to its existing stable of licensed properties. Recent
license acquisitions include Disney Enterprises' 1996 live action movie release,
101 Dalmatians((C) Disney) and a Budweiser(R) license from Anheuser-Busch. There
can be no assurances, however, that any license acquisitions will receive
positive market acceptance by Sun's customers.

         The Company is currently negotiating to renew its two top selling
licenses, both of which expire at the end of 1996 (these two licenses accounted
for 26% and 25%, respectively, of the Company's gross revenues in the first nine
months of 1996). While the Company expects to renew these and other licenses,
there can be no assurance that any license held by the Company will be renewed
by the licensor.

         Gross sales of proprietary products increased by 5% to $3.0 million in
the 1996 quarter from $2.8 million in the 1995 quarter. The Company believes
this increase was primarily the result of the Company's concerted effort to
increase its private label business with such customers as J.C. Penney (Arizona
Jeans(R) label) and Sears (Canyon River Blues(R) label).

         Gross sales to Sun's largest three customers decreased 58% in the third
quarter of 1996 versus sales in the same period of 1995, primarily as the result
of a soft retail environment in certain sectors of the screenprinted apparel
market. Gross sales to Sun's other customers increased 30% in the third quarter
of 1996 versus the same period of 1995, primarily as a result of the Company's
concerted efforts to increase its private label business.

         Sales deductions, consisting of sales returns, discounts and
allowances, decreased to $342,000 in the 1996 quarter from $675,000 in 1995.
This decrease was primarily due to the overall sales volume decrease in the
third quarter of 1996. 

GROSS MARGIN. Gross margin as a percentage of net sales increased to .4% in the
third quarter of 1996 from -5.4% in the third quarter of 1995. The increase
primarily resulted from three factors. First, in the 1995 quarter, the Company
accrued over $2.0 million in inventory markdowns arising from expected losses
on the sale of surplus inventory. Second, 1995 margins were negatively impacted
by efforts to reduce men's inventory, including customer incentives and
substitution of existing, higher value inventory to fill customer orders for
lower value product. Third, in the 1995 quarter, the Company recorded over
$350,000 in charges arising from minimum royalty commitments the Company made
pursuant to its license contracts that are not anticipated to be recovered
through licensed product sales. The above factors were partially offset by the
fact that the reduced overall sales level in 1996 had a disproportionate effect
on gross margin (as a percentage of net sales) due to the diminished capacity
to cover the Company's fixed costs. 

OPERATING EXPENSES. Operating expenses decreased to $3.3 million (or 37% of net
sales) in 1996 from $3.5 million (or 22% of net sales) in the third quarter of 
1995. The dollar decrease was primarily attributable to decreases in general 
and administrative expenses. The increase as a percentage of sales was the 
result of the lower sales volume in 1996, compared to the 1995 quarter.

         General and administrative expenses decreased to $1.6 million (or 17%
of net sales) in the third quarter of 1996 from $1.9 million (or 12% of net
sales) in the same period of 1995. The dollar decrease was primarily the result
of elimination of positions under a restructuring plan implemented by the
Company


                                  Page 9 of 21
<PAGE>   10
in the first quarter of 1996, and the fact that $275,000 of consulting expenses
were incurred in the third quarter of 1995 (associated with the Company's 1995
re-engineering efforts) versus $50,000 in the 1996 quarter. The increase as a
percentage of sales was the result of the lower sales volume in 1996, compared
to the 1995 quarter.

         Partially offsetting the decrease in general and administrative
expenses was an increase in selling expense to $1.1 million (or 12% of net
sales) in the third quarter of 1996 from $914,000 (or 6% of net sales) in the
same period of 1995. The dollar increase was primarily the result of $275,000 in
one-time markdown allowances granted to certain customers. The increase as a
percentage of sales was primarily of the result of the lower sales volume in
1996, compared to the 1995 quarter. 

INTEREST EXPENSE. Quarterly interest expense decreased 72% to $75,000 in the
third quarter of 1996 from $264,000 in 1995 primarily as a result of lower
borrowing levels in the 1996 quarter. 

NET LOSS. Net loss decreased to $2.2 million in the third quarter of 1996 from 
a net loss of $3.0 million in the same period of 1995, as a result of the 
factors described above.

FIRST NINE MONTHS OF 1996 AND FIRST NINE MONTHS OF 1995
NET SALES. Net sales for the nine months ended September 30, 1996 decreased 26%
to $53.6 million from $72.5 million in the same period of 1995. Gross sales of
women's and girls' apparel decreased 20% to $38.8 million in 1996 from $48.2
million in 1995. Sales of men's and boys' products decreased 39% to $16.2
million in the first nine months of 1996 from $26.5 million in the same period
of 1995. The Company believes the primary reason for these decreases was a soft
retail environment in certain sectors of the screenprinted apparel market.

         Gross sales of licensed products decreased by 32% to $41.7 million in
the first nine months of 1996 from $61.4 million in the first nine months of
1995. The Company believes the primary reason for this decrease was a soft
retail environment in certain sectors of the screenprinted apparel market.

         Gross sales of proprietary products remained unchanged at $13.3 million
in the first nine months of 1996 versus $13.3 million in the first nine months
of 1995. The Company believes that sales of proprietary products held relatively
firm primarily as a result of the Company's concerted effort to increase its
private label business.

         Gross sales to Sun's largest three customers decreased 31% in the first
nine months of 1996 versus the comparable period in 1995, primarily as a result
of a soft retail environment in certain sectors of the screenprinted apparel
market. Gross sales to Sun's other customers remained virtually unchanged in the
first nine months 1996 versus the first nine months of 1995, primarily as a
result of the Company's concerted efforts to increase its private label
business.

         Sales deductions, consisting of sales returns, discounts and
allowances, decreased to $1.4 million in 1996 from $2.1 million in the first
nine months of 1995. This decrease was primarily due to decreases in sales
allowances due to the overall sales volume decrease for the nine months ending
September 30, 1996. 

GROSS MARGIN. Gross margin as a percentage of net sales increased to 13.1% in 
the first nine months of 1996 from 10.5% in 1995. This increase was primarily 
the result of three factors. First, in the third quarter of 1995, the Company 
accrued over $2.0 million in inventory markdowns arising from expected losses 
on the sale of surplus inventory. Second, 1995 margins were negatively impacted 
by efforts to reduce men's inventory, including customer incentives and 
substitution of existing, higher value inventory to fill customer orders for
lower value product. Third, in the third quarter of 1995, the Company recorded
over $350,000 in charges arising from minimum royalty commitments the Company
made pursuant to its license contracts that are not anticipated to be recovered
through licensed product sales. The above factors were partially offset by the
fact that the reduced overall sales level in 1996 had a disproportionate effect
on gross margin (as a percentage of net sales) due to the diminished capacity
to cover the Company's fixed costs.
        
OPERATING EXPENSES. Operating expenses decreased to $9.5 million (or 17.7% of
net sales) in 1996 from $10.8 million (or 14.9% of net sales) in the first nine
months of 1995. The dollar decrease was primarily


                                 Page 10 of 21
<PAGE>   11
attributable to decreases in selling and general and administrative expenses.
The increase as a percentage of sales is a result of the lower sales volume in
1996, compared to 1995.

         General and administrative expenses decreased to $4.7 million (or 9.2%
of net sales) in 1996 from $6.0 million (or 8.3% of net sales) in 1995. This
dollar decrease was primarily the result of elimination of positions under a
restructuring plan implemented by the Company in the first quarter of 1996, and
the fact that consulting expenses were $490,000 lower in the first nine months
of 1996 than in the same period of 1995 (the 1995 consulting expenses were
associated with the Company's 1995 re-engineering efforts).

         Selling expense decreased to $2.6 million (or 4.9% of net sales) in the
first nine months of 1996 from $2.8 million (or 3.9% of net sales) in the same
period of 1995. The dollar decrease was primarily the result of elimination of
positions under a restructuring plan implemented by the Company in the first
quarter of 1996.

INTEREST EXPENSE. Interest expense decreased 49% to $492,000 in the first nine
months of 1996 from $970,000 in 1995 primarily as a result of lower borrowing
levels in the nine months of 1996.

NET LOSS. Sun's net loss decreased to a loss of $1.9 million in the first nine
months of 1996 from a loss of $2.6 million in the same period of 1995, as a
result of the factors described above.

QUARTERLY NET SALES - SEASONALITY
         The Company's net sales fluctuate from quarter to quarter. Quarterly
net sales for 1996 and 1995 are set forth below.

<TABLE>
<CAPTION>
                                      1996                           1995
                              ----------------------        ----------------------
                               Amount        Percent         Amount        Percent
<S>                           <C>             <C>           <C>             <C>
First Quarter                 $24,433           *           $25,720          27.4%
Second Quarter                 20,035           *            30,582          32.5
Third Quarter                   9,134           *            16,225          17.3
Fourth Quarter                                               21,438          22.8
                              -------         ------        -------         -----

     Total                    $53,602         100.0%        $93,965         100.0%
                              =======         ======        =======         =====
</TABLE>

* Unknown

         The Company's highest sales and heaviest production demands
historically occur in the first, second and fourth quarters of each year. During
the first, second and fourth quarters, spring and summer products - which
include T-shirts, tank tops, shorts and similar garments - and back-to-school
products are primarily produced and sold. During the third and part of the
fourth quarter, winter season products - which include sweatshirts and long
sleeve T-shirts - and holiday products are primarily produced and sold.

LIQUIDITY AND CAPITAL RESOURCES
         The Company finances working capital needs primarily from "internally
generated funds" (which the Company defines as net income plus depreciation) and
short term borrowing under a credit agreement. In February 1996, the Company
entered into a credit agreement with Heller Financial, Inc. The Heller credit
agreement provides for a line of credit (including commercial letters of credit)
of up to $24 million and expires in February 1998. At September 30, 1996,
approximately $9.0 million was available for borrowing. The borrowing rate for
the revolving portion of the line is the prime rate. All the Company's assets,
including accounts receivable and inventories, are pledged as security for
borrowings under the Heller credit agreement. Under the agreement, the amount
borrowed at any time, together with letters of credit issued on behalf of the
Company, may not exceed 85% of eligible accounts receivable and 60% of eligible
inventory - up to $8.5 million. The Heller credit agreement requires compliance
with certain financial covenants principally relating to working capital,
tangible net worth, ratio of debt to equity, capital expenditures, minimum
earnings (before taxes, interest and depreciation), restrictions on the payment
of dividends and restrictions on the incurrence of long-term debt. In September
1996 the Heller agreement was amended to relax certain of these debt covenants.
The Company was in compliance with the amended Heller debt covenants at
September 30, 1996.


                                 Page 11 of 21
<PAGE>   12
         Inventory levels decreased by $4.2 million or 18% from December 31,
1995 to September 30, 1996 primarily as a result of the Company's concerted
efforts to operate its business with lower levels of inventory. The Company
believes there was approximately $1.3 million (net of previously recorded
markdown reserves of $1.9 million) of impaired inventory on hand at September
30, 1996, which is expected to be sold at little or no margin by year end 1996.
As a result, the Company believes its gross margin will be negatively impacted
in the last three months of 1996 by 1% to 2% of net sales.

         Accounts receivable decreased by 50% to $6.5 million at September 30,
1996 from $13.1 million at December 31,1995, primarily as a result of lower
sales in the third quarter of 1996 than in the fourth quarter of 1995.

         The Company has an agreement with Heller Financial, Inc., that is
intended to transfer Sun's accounts receivable collection risk to Heller, for
essentially all of its customers other than Target and Wal-Mart. Under the
agreement, Heller assumes 100% of the collection risk associated with the
Company's covered receivables and Heller receives a fee equal to .65% of the
gross amount of Kmart receivables and .55% of the gross amount of all other
covered receivables for assuming such collection risk. The agreement was amended
in the third quarter of 1996 to provide that Heller assumes 100% of the
collection risk associated with Kmart.

         Notes payable (borrowings under the Company's line of credit) decreased
$10.1 million or 75% from December 31, 1995 to September 30, 1996. The decrease
in notes payable was primarily the result of the reduction in inventory and
accounts receivable that occurred during the first nine months of 1996.

         During the first nine months of 1996, the Company purchased
approximately $400,000 of machinery and equipment for production, warehouse,
distribution and office use. The Company anticipates that total expenditures for
machinery and equipment will be less than $120,000 during the remainder of 1996.

         Sun's primary ongoing cash needs are for working capital and capital
expenditures. The Company believes that its cash needs through the remainder of
1996 will be met by borrowings under its Heller credit facility.

INFLATION
         From time to time, Sun's suppliers of blank garments and materials
increase their prices. Further, Sun increases its employees' compensation
relative to increases in the cost of living. Sun's mass merchant customers have
historically sold Sun's more basic products at predetermined sales price points,
many of which have not risen during the last few years. Because Sun's customers
generally operate on a fixed markup, their strategy of not increasing their
sales price points has made it difficult for the Company to pass on any cost
increases relative to its more basic products.


                                 Page 12 of 21
<PAGE>   13
PART II. OTHER INFORMATION

ITEM 1 - LEGAL PROCEEDINGS
         No material change.

ITEM 2 - CHANGES IN SECURITIES
         None

ITEM 3 - DEFAULTS UPON SENIOR SECURITIES
         None

ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
         None



                                 Page 13 of 21

<PAGE>   14
ITEM 5 - OTHER INFORMATION

MERGER AGREEMENT WITH BSI HOLDINGS, INC.

         Sun Sportswear, Inc., a Washington corporation ("Sun"), and BSI
Holdings, Inc., a Delaware corporation ("BSI"), have entered into a Plan and
Agreement of Merger, dated as of November 13, 1996 (the "Merger Agreement"),
which provides for a business combination involving Sun and BSI in a merger
transaction ("the "Merger").  The Merger, which was approved by the Boards of
Directors of Sun and BSI, is expected to close shortly after all of the
conditions to the consummation of the Merger, including obtaining applicable
regulatory approvals, are met or waived.  The process is expected to be
completed within 3-4 months.

         The Merger Agreement and the press release issued by Sun in connection
therewith are filed as exhibits to this report and are incorporated herein by
reference.  The description of the Merger Agreement set forth herein does not
purport to be complete and is qualified in its entirety by the provisions of
the Merger Agreement.

         At the effective date of the Merger (the "Effective Date"), BSI will
be merged with and into Sun, with Sun being the surviving corporation (after
the Effective Date, referred to herein as the "Surviving Corporation").  As a
result of the Merger, each holder of common stock, no par value, of Sun ("SUN
Common Stock") except for Seafirst Bank ("Seafirst") will receive cash (the
"Cash Consideration") in the amount of $2.20 per share of Sun Common Stock for
fifty percent (50%) of such

                                Page 14 of 21
<PAGE>   15
holder's Sun Common Stock with the remaining fifty percent (50%) continuing to
be Sun Common Stock.  In addition, each holder of Sun Common Stock will be
given the option to elect not to receive the Cash Consideration and to retain
all of his or her Sun Common Stock.

         Seafirst Bank ("Seafirst") Seattle, Washington, is the beneficial
holder of 3.8 million shares of Sun Common Stock, representing approximately
66% of the total Sun Common Stock outstanding.  Pursuant to the Merger
Agreement, Seafirst will receive $2,536,206 cash and a subordinated promissory
note from the Surviving Corporation in the amount of $1,500,000 with respect to
48.28% or 1,834,640 shares of Sun Common Stock it owns and will retain the
remaining 1,965,360 shares of Sun Common Stock it owns.  To the extent other
holders of Sun Common Stock elect not to receive the Cash Consideration, for
each such share so retained Seafirst shall have an additional share of Sun
Common Stock converted into cash in the amount of $2.20 per share.

         Each outstanding share of BSI common stock, par value $.01 per share
("BSI Common Stock") will be converted into the right to receive 40.2 shares of
common stock of the Surviving Corporation (New Common Stock).  At the Effective
Date of the Merger, it is anticipated that holders of BSI Common Stock and
holders of Sun Common Stock would hold approximately 88% and 12%, respectively
of the outstanding common stock of the Surviving Corporation, after giving
effect to

                                Page 15 of 21
<PAGE>   16
outstanding warrants and options to purchase common stock of the respective
corporations.

         Each outstanding share of a series of Preferred Stock, par value $.01
per share, of BSI ("BSI Preferred Stock") will be converted into the right to
receive one share of a series of Preferred Stock, no par value, of the
Surviving Corporation ("New Preferred Stock") having substantially the same
rights and preferences as the BSI Preferred Stock which is so converted
(including the right to convert such New Preferred Stock into common stock of
the Surviving Corporation at $2.20 per share).

         The Merger Agreement also provides that immediately subsequent to the
consummation of the Merger, the Surviving Corporation will merge (the
"Reincorporation") into a Delaware corporation which is a wholly-owned
subsidiary of the Surviving Corporation ("Sun Delaware") and in conjunction
with the  Reincorporation each outstanding share of Surviving Corporation
common stock will be converted into .2 shares of Sun Delaware common stock.

         The Merger Agreement contains certain covenants of the parties pending
the consummation of the Merger.  Generally, the parties must carry on their
businesses in the ordinary course consistent with past practice, may not pay
dividends on their common stock, or issue any additional capital stock.  The
Merger Agreement also requires consent from both Sun and BSI for either to
make, among other things,


                                Page 16 of 21
<PAGE>   17
charter and bylaw amendments; capital expenditures, acquisitions, dispositions,
or incurrence of indebtedness above specified levels; and certain employee
contracts.

         The Merger is subject to the receipt of the approval of the holder of
two-thirds of the outstanding shares of Sun Common Stock and, the holders of a
majority of the outstanding shares of BSI Common Stock.  The Merger is also
subject to customary closing conditions, including, without limitation, the
receipt of all necessary governmental approvals and the making of all necessary
governmental filings, including the filing of the requisite notification with
the Federal Trade Commission and the Department of Justice under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and the
expiration of the applicable waiting periods thereunder.  The Merger is also
subject to receipt of opinions of counsel that the Merger will qualify as a
tax-free reorganization, except to the extent holders of Sun Common Stock
receive cash or notes and except for cash in lieu of fractional shares.  In
addition, the Merger is conditioned upon the effectiveness of a registration
statement to be filed with the Securities and Exchange Commission ("Commission")
with respect to the New Common Stock and New Preferred Stock issuable in the
Merger.  Shareholders meetings to vote upon the Merger are expected to be held
in February 1997.

         The Merger Agreement may be terminated under certain circumstances,
including (1) by mutual consent of the parties; (2) by any party if the Merger
is not consummated by April 30, 1997 (provided, however, that such termination
date shall be extended for up to sixty (60) additional days if all conditions
to closing the


                                Page 17 of 21
<PAGE>   18
Merger, other than the receipt of certain consents and/or statutory approvals
by any of the parties, have been satisfied by April 30, 1997 or in order to
attempt to obtain relief from any court order prohibiting the Merger); (3) by
Sun, if Sun's common shareholders or BSI's common shareholders vote against 
the Merger or certain other matters related thereto or if any state or 
federal court order prohibits the Merger; by BSI if Sun's common shareholders 
vote against the Merger or certain other matters related thereto, or if 
any state or federal law or court order prohibits the Merger; (4) by a
nonbreaching party if there exist breaches of any representations or warranties
contained in the Merger Agreement as of the date thereof, which breaches,
individually or in the aggregate, would result in a material adverse effect on
the breaching party and which are not cured within twenty (20) days after
notice; (5) by a nonbreaching party if there occur material breaches of any
covenant or agreement which are not cured within twenty (20) days after notice;
(6) by either party if BSI is unable to secure necessary financing to
consummate the Merger; (7) by either party, under certain circumstances, as a
result of a third-party tender offer or business combination proposal which
such party, pursuant to its directors' fiduciary duties, is, in the opinion of
such party's counsel and after the other party has first been given an
opportunity to make concessions and adjustments in the terms of the Merger
Agreement, required to accept; or (8) by BSI if the Board of Directors does not
implement in all material respects a business plan for Sun prepared by BSI with
respect to Sun's operations pending the Effective Date of the Merger.


                                Page 18 of 21
<PAGE>   19
         The Merger Agreement provides that if a breach described in clause (4)
or (5) of the previous paragraph occurs, the nonbreaching party will be
entitled to reimbursement of its documented costs and expenses, including legal,
accounting and financial advisory fees and expenses. If BSI terminates
the Merger Agreement pursuant to (6) of the previous paragraph, Sun shall
receive its documented costs and expenses and if BSI terminates the Merger
Agreement pursuant to (8) of the previous paragraph, BSI shall receive its
documented costs and expenses up to a maximum of $500,000.  The Merger Agreement
also requires a payment of $750,000 (which includes reimbursement of
out-of-pocket expenses) by one party to the other, if the Merger Agreement is
terminated as a result of the acceptance by such party of a third-party tender
offer or business combination proposal.  Finally, if BSI terminates the Merger
Agreement pursuant to (3) of the previous paragraph because of a state or
federal injunction or restraining order which would restrain or prohibit
consummation of the Merger, Sun shall issue to BSI a ten year warrant to
purchase 1,500,000 shares of Sun Common Stock at market price.


                                 Page 19 of 21
<PAGE>   20
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K

        (a) Exhibits

Exhibit Number      Description

         2.1        Plan and Agreement of Merger, dated as of 
                    November 13, 1996, between Sun and BSI.

         99.1       Press release of Sun, issued November 13, 1996,
                    regarding the Merger.

         The registrant agrees to furnish supplementally any omitted exhibits
or schedules to the Commission upon request.


        (b) Reports on 8-K
            None


                                Page 20 of 21
<PAGE>   21
                                   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.



                                         SUN SPORTSWEAR, INC.

DATE:  November 13, 1996             BY: /s/  William S. Wiley
     -------------------------           --------------------------------
                                         William S. Wiley
                                         Chairman of the Board,
                                         Chief Executive Officer
                                         and President



DATE:  November 13, 1996             BY: /s/  Kevin C. James
     -------------------------           --------------------------------
                                         Kevin C. James
                                         Senior Vice President
                                         and Chief Financial Officer



                                 Page 21 of 21

<PAGE>   22


                                 EXHIBIT INDEX


<TABLE>
<CAPTION>
Exhibit Number            Description                               
--------------            -----------                               
         <S>              <C>
         2.1              Plan and Agreement of Merger,
                          dated as of November 13,
                          1996, between Sun and BSI.


         99.1             Press Release of Sun, issued
                          November 13, 1996, regarding
                          the Merger.
</TABLE>