exv10w2



 






Exhibit 10.2




THE FASHION HOUSE, INC.




FINANCIAL STATEMENTS




For The Six Months Ended June 30, 2005 and 2004 and

The Years Ended December 31, 2004 and 2003




with




INDEPENDENT AUDITORS’ REPORT THEREON




INDEPENDENT AUDITORS’ REPORT



To the Board of Directors of

The Fashion House, Inc.



We have audited the accompanying balance sheet of The Fashion House, Inc. (the “Company”) as of
December 31, 2004, and the related statements of operations, stockholders’ deficit and cash flows
for each of the two years in the period ended December 31, 2004. These financial statements are the
responsibility of the management of the Company. Our responsibility is to express an opinion on
these financial statements based on our audits.



We conducted our audits in accordance with auditing standards generally accepted in the United
States of America. Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.



In our opinion, the financial statements referred to above present fairly, in all material
respects, the financial position of The Fashion House, Inc. as of December 31, 2004, and the
results of its operations and its cash flows for each of the two years in the period ended December
31, 2004 in conformity with accounting principles generally accepted in the United States of
America.



The accompanying financial statements have been prepared assuming that the Company will continue as
a going concern. As discussed in Note 1 to the financial statements, the Company incurred operating
losses and had negative cash flows from operations for the years ended December 31, 2004 and 2003,
and has as an accumulated deficit of $1,285,410 and a working capital deficit of $960,275 at
December 31, 2004. These factors, among others, raise substantial doubt about the Company’s ability
to continue as a going concern. Management’s plans in regard to these matters are described in Note
1. The financial statements do not include any adjustments relating to the recoverability and
classification of asset carrying amounts or the amount and classification of liabilities that might
result should the Company be unable to continue as a going concern.




/s/ CORBIN & COMPANY, LLP




Irvine, California

December 19, 2005




 









 





THE FASHION HOUSE, INC.

BALANCE SHEETS




	 	 	 	 	 	 	 	 	 
	 	 	June 30, 2005	 	 		 
	 	 	(Unaudited)	 	 	December 31, 2004	 
	ASSETS
	 	 	 	 	 	 	 	 
	 
	Current assets:
	 	 	 	 	 	 	 	 
	Cash
	 	$	2,985	 	 	$	171,849	 
	Accounts receivable, net of allowance of $0 and $12,667 at
June 30, 2005 and December 31, 2004, respectively
	 	 	36,669	 	 	 	203,892	 
	Prepaid offering costs
	 	 	152,683	 	 	 	—	 
	Prepaid royalties
	 	 	109,375	 	 	 	14,164	 
	Other prepaid expenses
	 	 	62,197	 	 	 	9,000	 
	Total current assets
	 	 	363,909	 	 	 	398,905	 
	Property and equipment, net
	 	 	196,852	 	 	 	148,149	 
	Deposits
	 	 	19,352	 	 	 	13,352	 
	 
	 	$	580,113	 	 	$	560,406	 
	 
	 	 	 	 	 	 	 	 
	LIABILITIES AND STOCKHOLDERS’ DEFICIT
	 	 	 	 	 	 	 	 
	Current liabilities:
	 	 	 	 	 	 	 	 
	Accounts payable and accrued expenses
	 	$	707,095	 	 	$	208,933	 
	Accrued payroll and related
	 	 	324,961	 	 	 	282,961	 
	Settlement payable
	 	 	85,000	 	 	 	135,000	 
	Due to factor
	 	 	36,488	 	 	 	101,826	 
	Accrued interest
	 	 	119,374	 	 	 	74,296	 
	Convertible notes payable, net of debt discount of $138,128
	 	 	861,872	 	 	 	—	 
	Note payable to stockholder
	 	 	851,000	 	 	 	542,000	 
	Warrant liability
	 	 	218,000	 	 	 	—	 
	Total current liabilities
	 	 	3,203,790	 	 	 	1,345,016	 
	Commitments and Contingencies
Stockholders’ deficit:
	 	 	 	 	 	 	 	 
	Common stock, $0.01 par value; 10,000 shares authorized;
10,000 shares issued and outstanding
	 	 	100	 	 	 	100	 
	Additional paid-in capital
	 	 	969,700	 	 	 	500,700	 
	Accumulated deficit
	 	 	(3,593,477	)	 	 	(1,285,410	)
	Total stockholders’ deficit
	 	 	(2,623,677	)	 	 	(784,610	)
	 
	 	$	580,113	 	 	$	560,406	 






See independent auditors’ report and accompanying notes to these financial statements.





2









 









THE FASHION HOUSE, INC.

STATEMENTS OF OPERATIONS




	 	 	 	 	 	 	 	 	 
	 	 	Years Ended December 31,	 
	 	 	2004	 	 	2003	 
	Net sales
	 	$	4,676,528	 	 	$	971,721	 
	 
	 	 	 	 	 	 	 	 
	Cost of sales
	 	 	2,710,165	 	 	 	818,199	 
	Gross profit
	 	 	1,966,363	 	 	 	153,522	 
	Operating expenses:
	 	 	 	 	 	 	 	 
	Selling, general and administrative
	 	 	2,140,602	 	 	 	1,263,320	 
	Payroll and related
	 	 	416,570	 	 	 	219,911	 
	Royalties
	 	 	367,014	 	 	 	157,500	 
	Total operating expenses
	 	 	2,924,186	 	 	 	1,640,731	 
	Loss from operations
	 	 	(957,823	)	 	 	(1,487,209	)
	Other income (expense):
	 	 	 	 	 	 	 	 
	Gain on sale of license
	 	 	1,350,000	 	 	 	—	 
	Interest expense
	 	 	(84,406	)	 	 	(20,808	)
	Total other income (expense), net
	 	 	1,265,594	 	 	 	(20,808	)
	Income (loss) before income taxes
	 	 	307,771	 	 	 	(1,508,017	)
	Income taxes
	 	 	800	 	 	 	800	 
	Net income (loss)
	 	$	306,971	 	 	$	(1,508,817	)






See independent auditors’ report and accompanying notes to these financial statements.





3









 









THE FASHION HOUSE, INC.

STATEMENTS OF OPERATIONS




	 	 	 	 	 	 	 	 	 
	 	 	Six Months Ended June 30,	 
	 	 	2005	 	 	2004	 
	 	 	(Unaudited)	 	 	(Unaudited)	 
	Net sales
	 	$	746,325	 	 	$	2,954,242	 
	 
	 	 	 	 	 	 	 	 
	Cost of sales
	 	 	753,942	 	 	 	2,007,377	 
	Gross (loss) profit
	 	 	(7,617	)	 	 	946,865	 
	Operating expenses:
	 	 	 	 	 	 	 	 
	Selling, general and administrative
	 	 	928,588	 	 	 	727,208	 
	Payroll and related
	 	 	422,548	 	 	 	122,599	 
	Royalties
	 	 	346,875	 	 	 	203,889	 
	Total operating expenses
	 	 	1,698,011	 	 	 	1,053,696	 
	Loss from operations
	 	 	(1,705,628	)	 	 	(106,831	)
	Other expense:
	 	 	 	 	 	 	 	 
	Interest expense
	 	 	(601,639	)	 	 	(46,744	)
	Total other expense
	 	 	(601,639	)	 	 	(46,744	)
	Loss before income taxes
	 	 	(2,307,267	)	 	 	(153,575	)
	Income taxes
	 	 	800	 	 	 	800	 
	Net loss
	 	$	(2,308,067	)	 	$	(154,375	)






See accompanying notes to these financial statements.







4









 








THE FASHION HOUSE, INC.

STATEMENT OF STOCKHOLDERS’ DEFICIT

SIX MONTH ENDED JUNE 30, 2005 (UNAUDITED) AND YEARS ENDED DECEMBER 31, 2004 AND 2003




	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 	 
	 	 	Common Stock	 	 	Additional	 	 	Accumulated	 	 	 	 
	 	 	Shares	 	 	Amount	 	 	Paid-in Capital	 	 	Deficit	 	 	Total	 
	Balance at December 31, 2002
	 	 	9,200	 	 	$	92	 	 	$	149,908	 	 	$	(83,564	)	 	$	66,436	 
	 
	Capital contributions
	 	 	—	 	 	 	—	 	 	 	350,000	 	 	 	—	 	 	 	350,000	 
	Net loss
	 	 	—	 	 	 	—	 	 	 	—	 	 	 	(1,508,817	)	 	 	(1,508,817	)
	Balance at December 31, 2003
	 	 	9,200	 	 	 	92	 	 	 	499,908	 	 	 	(1,592,381	)	 	 	(1,092,381	)
	Issuance of common stock
for services
	 	 	800	 	 	 	8	 	 	 	792	 	 	 	—	 	 	 	800	 
	Net income
	 	 	—	 	 	 	—	 	 	 	—	 	 	 	306,971	 	 	 	306,971	 
	Balance at December 31, 2004
	 	 	10,000	 	 	 	100	 	 	 	500,700	 	 	 	(1,285,410	)	 	 	(784,610	)
	Estimated fair value of
beneficial conversion
feature (unaudited)
	 	 	—	 	 	 	—	 	 	 	469,000	 	 	 	—	 	 	 	469,000	 
	Net loss (unaudited)
	 	 	—	 	 	 	—	 	 	 	—	 	 	 	(2,308,067	)	 	 	(2,308,067	)
	Balance at June 30, 2005
(unaudited)
	 	 	10,000	 	 	$	100	 	 	$	969,700	 	 	$	(3,593,477	)	 	$	(2,623,677	)






See independent auditors’ report and accompanying notes to these financial statements.





5










 







THE FASHION HOUSE, INC.

STATEMENT OF CASH FLOWS

YEARS ENDED DECEMBER 31, 2004 AND 2003




	 	 	 	 	 	 	 	 	 
	 	 	December 31, 2004	 	 	December 31, 2003	 
	CASH FLOWS FROM OPERATING ACTIVITIES:
	 	 	 	 	 	 	 	 
	 
	 	 	 	 	 	 	 	 
	Net income (loss)
	 	$	306,971	 	 	$	(1,508,817	)
	Adjustments to reconcile net income (loss) to net
cash used in operating activities:
	 	 	 	 	 	 	 	 
	Depreciation and amortization
	 	 	32,892	 	 	 	9,448	 
	Gain on sale of license
	 	 	(1,350,000	)	 	 	—	 
	Estimated fair value of stock issued for services
	 	 	800	 	 	 	—	 
	Changes in operating assets and liabilities

	 	 	 	 	 	 	 	 
	
Accounts receivable
	 	 	(203,892	)	 	 	—	 
	Prepaid royalties and expenses
	 	 	(23,164	)	 	 	58,000	 
	Deposits
	 	 	(12,602	)	 	 	(750	)
	Accounts payable and accrued expenses
	 	 	91,020	 	 	 	117,322	 
	Accrued payroll and related
	 	 	62,808	 	 	 	178,153	 
	Settlement payable
	 	 	135,000	 	 	 	—	 
	Accrued interest
	 	 	74,296	 	 	 	—	 
	Net cash used in operating activities
	 	 	(885,871	)	 	 	(1,146,644	)
	CASH FLOWS FROM INVESTMENT ACTIVITIES:
	 	 	 	 	 	 	 	 
	Purchases of property and equipment
	 	 	(129,446	)	 	 	(47,341	)
	Proceeds from sale of license
	 	 	1,350,000	 	 	 	—	 
	Net cash provided by (used in) investing activities
	 	 	1,220,554	 	 	 	(47,341	)
	CASH FLOWS FROM FINANCING ACTIVITIES:
	 	 	 	 	 	 	 	 
	Proceeds from note payable to stockholder
	 	 	100,000	 	 	 	685,000	 
	Repayments of notes payable to stockholder
	 	 	(243,000	)	 	 	—	 
	Advances from factor
	 	 	1,124,631	 	 	 	331,878	 
	Payments to factor
	 	 	(1,155,104	)	 	 	(199,578	)
	Proceeds from capital contributions
	 	 	—	 	 	 	350,000	 
	Net cash (used in) provided by financing activities
	 	 	(173,473	)	 	 	1,167,299	 
	Net increase (decrease) in cash
	 	 	161,210	 	 	 	(26,686	)
	Cash, beginning of the period
	 	 	10,639	 	 	 	37,325	 
	Cash, end of the period
	 	$	171,849	 	 	$	10,639	 
	SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
	 	 	 	 	 	 	 	 
	Cash paid during the period for interest
	 	$	10,110	 	 	$	—	 
	Cash paid during the period for income taxes
	 	$	800	 	 	$	800	 






See independent auditors’ report and accompanying notes to these financial statements.




6









 








THE FASHION HOUSE, INC.

STATEMENT OF CASH FLOWS

SIX MONTH ENDED JUNE 30, 2005




	 	 	 	 	 	 	 	 	 
	 	 	June 30, 2005	 	 	June 30, 2004	 
	 	 	(Unaudited)	 	 	(Unaudited)	 
	CASH FLOWS FROM OPERATING ACTIVITIES:
	 	 	 	 	 	 	 	 
	 
	 	 	 	 	 	 	 	 
	Net loss
	 	$	(2,308,067	)	 	$	(154,375	)
	Adjustments to reconcile net loss to net cash used in operating activities:
	 	 	 	 	 	 	 	 
	Depreciation and amortization
	 	 	22,403	 	 	 	12,970	 
	Amortization of estimated fair value of beneficial conversion features
	 	 	349,205	 	 	 	—	 
	Amortization of estimated fair value of warrants
	 	 	199,667	 	 	 	—	 
	Changes in operating assets and liabilities

	 	 	 	 	 	 	 	 
	
Accounts receivable
	 	 	167,223	 	 	 	—	 
	Prepaid royalties and expenses
	 	 	(148,408	)	 	 	(181,290	)
	Deposits
	 	 	(6,000	)	 	 	750	 
	Accounts payable and accrued expenses
	 	 	498,162	 	 	 	62,444	 
	Accrued payroll and related
	 	 	42,000	 	 	 	68,827	 
	Settlement payable
	 	 	(50,000	)	 	 	—	 
	Accrued interest
	 	 	45,078	 	 	 	48,206	 
	Net cash used in operating activities
	 	 	(1,188,737	)	 	 	(142,468	)
	CASH FLOWS FROM INVESTMENT ACTIVITIES:
	 	 	 	 	 	 	 	 
	Purchases of property and equipment
	 	 	(71,106	)	 	 	—	 
	Net cash used in investing activities
	 	 	(71,106	)	 	 	—	 
	CASH FLOWS FROM FINANCING ACTIVITIES:
	 	 	 	 	 	 	 	 
	Proceeds from note payable to stockholder
	 	 	370,000	 	 	 	—	 
	Repayments of notes payable to stockholder
	 	 	(61,000	)	 	 	—	 
	Proceeds from convertible notes payable
	 	 	1,000,000	 	 	 	—	 
	Advances from factor
	 	 	728,862	 	 	 	909,739	 
	Payments to factor
	 	 	(794,200	)	 	 	(776,860	)
	Prepaid offering costs
	 	 	(152,683	)	 	 	—	 
	Net cash provided by financing activities
	 	 	1,090,979	 	 	 	132,879	 
	Net decrease in cash
	 	 	(168,864	)	 	 	(9,589	)
	Cash, beginning of the period
	 	 	171,849	 	 	 	10,639	 
	Cash, end of the period
	 	$	2,985	 	 	$	1,050	 
	SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
	 	 	 	 	 	 	 	 
	Cash paid during the period for interest
	 	$	32,517	 	 	$	—	 
	Cash paid during the period for income taxes
	 	$	—	 	 	$	—	 
	SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
	 	 	 	 	 	 	 	 
	Estimated fair value of beneficial conversion features
	 	$	469,000	 	 	$	—	 
	Estimated fair value of warrants issued with convertible notes payable
	 	$	218,000	 	 	$	—	 






See independent auditors’ report and accompanying notes to these financial statements.







7









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES 




Organization and Nature of Operations



The Fashion House, Inc. (the “Company”) was incorporated under the laws of the State of Delaware on
April 11, 2002. The Company designs, develops and markets women’s dress footwear with an emphasis
on celebrity appeal, style, quality and fit. The Company targets the moderate to premium-priced
categories of the women’s footwear industry and implements its business model by licensing
recognized brand names throughout the United States of America.




Basis of Presentation



The financial statements have been prepared in accordance with accounting principles generally
accepted in the United States of America.




Use of Estimates



The preparation of financial statements in conformity with accounting principles generally accepted
in the United States of America requires management to make estimates and judgments that affect the
reported amounts of assets, liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and reported amounts of revenues and expenses during the reporting
periods. Significant estimates made by management include, among others, collectibility of
receivables, recoverability of long-lived assets and valuation of warrants to purchase common stock
and deferred tax assets. Actual results may differ from these estimates under different assumptions
or conditions.




Going Concern



The financial statements have been prepared on a going concern basis which contemplates the
realization of assets and the satisfaction of liabilities in the normal course of business. The
Company incurred operating losses and had negative cash flows from operations for the years ended
December 31, 2004 and 2003, and has as an accumulated deficit of $1,285,410 and a working capital
deficit of $960,275 at December 31, 2004.






8









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 



The Company’s success is dependent upon numerous items, among which are the Company’s successful
growth of revenues from its products, its ability to obtain new customers in order to achieve
levels of revenues adequate to support the Company’s current and future cost structure, and its
ability to obtain financing for operations, for which there is no assurance. Unanticipated
problems, expenses, and delays are frequently encountered in establishing and maintaining
profitable operations. These include, but are not limited to, competition, the need to develop
customer support capabilities and market expertise, setbacks in product development, technical
difficulties, market acceptance and sales and marketing. The failure of the Company to meet any of
these conditions could have a materially adverse effect on the Company and may force the Company to
reduce or curtail operations. No assurance can be given that the Company can achieve or maintain
profitable operations.



The Company believes it will have adequate cash to sustain operations until it achieves sustained
profitability. However, until the Company has a history of maintaining revenue levels sufficient to
support its operations and repay its working capital deficit, the Company requires additional
financing. Subsequent to year end, the Company entered into a private placement agreement to sell a
maximum of 4,600,000 shares of its common stock at $1.00 per share (see Note 7) for which it has
obtained approximately $2,400,000. There can be no assurance that additional funding will be
adequate or will enable the Company to achieve or sustain profitable operations.



These factors, among others, raise substantial doubt about the Company’s ability to continue as a
going concern. The financial statements do not include any adjustments to reflect the possible
future effects on the recoverability and classification of assets or the classification of
liabilities that might result from the outcome of these uncertainties.



Risks and Uncertainties



Credit Risk



The Company maintains its cash accounts in financial institutions. Accounts at these institutions
are insured by the Federal Deposit Insurance Corporation (“FDIC”) up to $100,000. At December 31,
2004, the Company has cash balances which exceeded the insured limit by $87,360.



The Company assigns the majority of its trade accounts receivable to a factor (see Note 2);
however, the Company maintains the credit risk with respect to collection of these amounts. The
Company makes sales to customers not approved by its factor at its own risk and monitors the
outstanding receivable balance. At December 31, 2004, the Company established an allowance for
doubtful accounts of $12,267.





9









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 



The Company operates in an industry that is subject to intense competition. The Company’s
operations are subject to significant risks and uncertainties including financial, operational,
technological, regulatory and other risks associated with an operating business, including the
potential risk of business failure.



Merchandise Risk



The Company’s success is largely dependent upon its ability to gauge the market trends and the
tastes of its targeted consumers and provide merchandise that satisfies consumer demand. Any
inability to provide appropriate merchandise in sufficient quantities in a timely manner could have
a material adverse effect on the Company’s business, operating results and financial condition.



The Company purchases substantially all of its products from two vendors. The loss of either of
these vendors could have a material adverse effect on the Company’s cash flow and financial
position.



Inventories



Inventories will consist of returned merchandise from customers or unsold goods held by the
trading company at a public warehouse in excess of sixty days. As noted below, the Company has no
inventory on hand at June 30, 2005 and December 31, 2004.



Property and Equipment



Property and equipment are stated at cost. Depreciation of equipment is provided for by using the
straight-line method over the estimated useful lives of the related assets, which are five years
for machinery and equipment and seven years for furniture and fixtures. Expenditures for
maintenance and repairs are charged to expense as incurred; additions, renewals and betterments are
capitalized. When property and equipment are retired or otherwise disposed of, the related cost and
accumulated depreciation are removed from the respective accounts, and any gain or loss is included
in operations.



Long-Lived Assets



In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, the Company evaluates the carrying value of long-lived
assets for impairment whenever events or change in circumstances indicate that such carrying values
may not be recoverable. The Company estimates the future undiscounted cash flows derived from an
asset to assess whether or not a potential impairment exists when events or circumstances indicate
the carrying value of a long-lived asset may not be recoverable. An impairment loss is recognized
when the undiscounted future cash flows are less than its carrying amount. If assets are considered
to be impaired, the impairment to be recognized is measured by the amount by which the carrying
amount exceeds the fair value of the assets. At December 31, 2004, the Company’s management
believes there is no impairment of its long-lived assets. There can be no assurance, however, that
market conditions will not change or demand for the Company’s products or services will continue,
which could result in additional future impairment of long-lived assets.




10









 









THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 




Fair Value of Financial Instruments



The Company’s financial instruments consist of cash, accounts receivable, accounts payable and
accrued expenses, accrued payroll and related, settlement payable, due to factor, accrued interest,
and note payable to stockholder. The carrying value for all such instruments approximates fair
value due either to the short-term nature of the instruments or the fact that prevailing interest
rates are not substantially different from the Company’s borrowing rates at June 30, 2005 and
December 31, 2004. The fair value of convertible notes payable is not determinable because of the
nature of the instruments and lack of comparability with similar types of instruments.




Derivative Financial Instruments



In connection with the issuance of warrants with convertible notes payable in 2005 (see Notes 6 and
9), the Company was required to file a registration statement by November 2, 2005 and have such
registration statement declared effective no later than February 15, 2006 (the “Effectiveness
Deadline”). The Company will be required to issue the holders of convertible notes 123,750 warrants
for each subsequent 30-day period that such registration statement has not been filed. Also, the
Company will be required to issue the holders of convertible notes 123,750 warrants for each 30-day
period the registration statement is not declared effective beyond the Effectiveness Deadline. In
addition, the Company is required to include the warrants issued to the placement agent for the
private placement in such registration statement (see Note 7). The Company determined that the
registration rights are an embedded derivative instrument pursuant to SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities , as amended and the provisions of the Emerging
Issues Task Force (“EITF”) Issue No. 00-19, Accounting for Derivative Financial Instruments Indexed
to, and Potentially Settled in, a Company’s Own Stock. The accounting treatment of these derivative
financial instruments requires that the Company record the derivatives at their fair values as of
the inception date of the note agreements and at fair value as of each subsequent balance sheet
date. Any change in fair value will be recorded as non-operating, non-cash income or expense at
each balance sheet date. If the fair value of the derivatives is higher at the subsequent balance
sheet date, the Company will record a non-operating, non-cash charge. If the fair value of the
derivatives is lower at the subsequent balance sheet date, the Company will record non-operating,
non-cash income.



At June 30, 2005, there are derivative liabilities of $218,000 related to the warrants with
registration rights. Due to the close proximity of the balance sheet date to the issuance date of
the warrants, there was no change in valuation of the related derivatives. There were no such
liabilities at December 31, 2004.



Warrant-related derivatives were valued using the Black-Scholes Option Pricing Model with the
following assumptions during the six months ended June 30, 2005: dividend yield of 0%; annual
volatility of 62%; and risk free interest rate of 3.0%.




11









 







THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 




Beneficial Conversion Feature



The convertible feature of certain conventional convertible notes payable (see Note 6) provides for
a rate of conversion that is below market value. Such feature is normally characterized as a
“beneficial conversion feature” (“BCF”). Pursuant to EITF Issue No. 98-5 (“EITF 98-5”), Accounting
For Convertible Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratio and EITF Issue No. 00-27, Application of EITF Issue No. 98-5 To Certain
Convertible Instruments, the fair values of the BCFs have been recorded as a discount from the face
amount of the respective debt instrument. The Company is amortizing the discount using the
effective interest method through maturity of such instruments. The Company will record the
corresponding unamortized debt discount related to the BCF and warrants as interest expense when
the related instrument is converted into the Company’s common stock.




Revenue Recognition



Securities and Exchange Commission Staff Accounting Bulletin (“SAB”) 101, Revenue Recognition , as
amended by SAB 104, outlines the basic criteria that must be met to recognize revenue and provide
guidance for presentation of revenue and for disclosure related to revenue recognition policies in
financial statements filed with the Securities and Exchange Commission. Management believes that
the Company’s revenue recognition policy conforms to SAB 104.



We evaluate the criteria of the Financial Accounting Standards Board (“FASB”) EITF Issue No. 99-19,
Reporting Revenue Gross as a Principal Versus Net as an Agent, in determining whether it is
appropriate to record the gross amount of revenue and related costs or the net amount earned as
commissions. The Company is the primary obligor, is subject to inventory risk, has latitude in
establishing prices and selecting suppliers, establishes product specifications, and has the risk
of loss as it relates to the ultimate collection of accounts receivable and cargo losses.
Accordingly, the Company’s revenue is recorded on a gross basis.




12









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 



The Company utilizes a trading company (see Note 2) to provide trade finance and factoring services
in connection with the manufacture, distribution and sale of the Company’s products (referred to
hereinafter as the “Goods”) to customers. The trading company issues letters of credit in favor of
the manufacturers at the request of the Company, and in accordance with the information provided in
such requests. The trading company imports and delivers Goods, as instructed by the Company, to a
public warehouse and pays the manufacturers for the cost of Goods and the related costs covered by
the requests.



Goods are held by the Company at a public warehouse on a consignment basis. The Company arranges
and maintains the Goods while in its possession at its expense. The trading company has title to
the Goods when shipped from the manufacturer and in the public warehouse. The trading Company is
paid for the Goods upon their sales and shipment to the Company’s customers. Goods that remain
unsold in the public warehouse on or after sixty days from receipt are billed by the trading
company and title to the Goods is transferred to the Company. For all Goods purchased, the Company
is charged cost plus 4% by the trading company. There were no unsold Goods billed by the trading
company and purchased by the Company during the years ended December 31, 2004 and 2003.



Revenue is recognized upon shipment of Goods from the public warehouse to the customers, which is
when title transfers to the customers. The trading company approves credit to the customers and
factors the sale. The trading company charges the Company 2.5% of the sales which are factored. For
sales that are not factor approved, the Company purchases Goods from the trading company and sells
the Goods directly to the customers.



The Company has title to all Goods returned by customers to the public warehouse. At December 31,
2004, returned inventory was not material to the overall financial statements.



Shipping and handling costs billed to the customers are recorded in sales. Shipping and handling
costs as incurred by the Company are recorded in cost of sales.



Advertising



The Company expenses advertising costs, consisting primarily of placement in multiple publications,
along with design and printing costs of sales materials, when incurred. Advertising expense for the
years ended December 31, 2004 and 2003 amounted to $72,738 and $59,563, respectively.




13









 









THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 




Income Taxes



The Company determines its income taxes under the asset and liability method in accordance with the
SFAS No. 109, Accounting for Income Taxes . Under the asset and liability approach, deferred income
tax assets and liabilities are calculated and recorded based upon the future tax consequences of
temporary differences by applying enacted statutory tax rates applicable to future periods for
differences between the financial statements carrying amounts and the tax basis of existing assets
and liabilities. Generally, deferred income taxes are classified as current or non-current in
accordance with the classification of the related asset or liability. Those not related to an asset
or liability are classified as current or non-current depending on the periods in which the
temporary differences are expected to reverse. Valuation allowances are provided for significant
deferred income tax assets when it is more likely than not that some or all of the deferred tax
assets will not be realized.




Stock-Based Compensation



In December 2004, the FASB issued SFAS No. 123 (revised 2004) (“SFAS 123(R)”), Share-Based Payment
        , to provide investors and other users of financial statements with more complete and neutral
financial information by requiring that the compensation cost relating to share-based payment
transactions be recognized in financial statements. That cost will be measured based on the fair
value of the equity or liability instruments issued. SFAS 123(R) covers a wide range of share-based
compensation arrangements including share options, restricted share plans, performance-based
awards, share appreciation rights, and employee share purchase plans. SFAS 123(R) replaces SFAS No.
123, and supersedes Accounting Principles Board (“APB”) No. 25. SFAS No. 123, as originally issued
in 1995, established as preferable a fair-value-based method of accounting for share-based payment
transactions with employees. However, that Statement permitted entities the option of continuing to
apply the guidance in APB No. 25, as long as the footnotes to financial statements disclosed what
net income (loss) would have been had the preferable fair-value-based method been used. Small
business issuers will be required to apply SFAS 123(R) as of the first interim or annual reporting
period that begins after December 15, 2005. The Company will apply SFAS 123(R) to all stock-based
employee compensation arrangements. There have been no options issued to employees as of December
31, 2004.



Stock-based awards to non-employees are accounted for using the fair value method in accordance
with SFAS No. 123 and EITF Issue No. 96-18, Accounting For Equity Instruments That Are Issued To
Other Than Employees For Acquiring, Or In Conjunction With Selling Goods Or Services . All
transactions in which goods or services are the consideration received for the issuance of equity
instruments are accounted for based on the fair value of the consideration received or the fair
value of the equity instrument issued, whichever is more reliably measurable. The measurement date
used to determine the fair value of the equity instrument issued is the earlier of the date on
which the third-party performance is complete or the date on which it is probable that performance
will occur.




14









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued 




Recent Accounting Pronouncements



In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets, an amendment of
APB No. 29, Accounting for Nonmonetary Transactions . This Statement’s amendments are based on the
principle that exchanges of nonmonetary assets should be measured based on the fair value of the
assets exchanged. Further, SFAS No. 153 eliminates the narrow exception for nonmonetary exchanges
of similar productive assets and replaces it with a broader exception for exchanges of nonmonetary
assets that do not have commercial substance. Provisions of this statement are effective for fiscal
periods beginning after June 15, 2005. The adoption of this statement is not expected to have a
material impact on the financial statements.



In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections. SFAS No. 154
replaces APB No. 20, Accounting Changes and SFAS No. 3, Reporting Accounting Changes in Interim
Financial Statements and establishes retrospective application as the required method for reporting
a change in accounting principle. SFAS No. 154 provides guidance for determining whether
retrospective application of a change in accounting principle is impracticable and for reporting a
change when retrospective application is impracticable. The reporting of a correction of an error
by restating previously issued financial statements is also addressed. SFAS No. 154 is effective
for accounting changes and corrections of errors made in fiscal years beginning after December 15,
2005. The Company does not expect the adoption of this statement to have a material impact on the
financial statements.



Other recent accounting pronouncements issued by the FASB (including the EITF) and the American
Institute of Certified Public Accountants did not or are not believed by management to have a
material impact on the Company’s present or future financial statements.




NOTE 2 — ACCOUNTS RECEIVABLE FACTORING 



On February 1, 2003, the Company signed a factoring agreement with Madison Administrative Services,
Inc. (“MAS”), a New York corporation. Under the factoring agreement, MAS charged the Company a
factoring fee of 1% of the gross invoice amount of each account receivable, subject to a minimum
annual fee of $9,000. MAS, to the extent of any financing provided, held a security interest in all
assets of the Company over the term of the factoring agreement. During the years ended December 31,
2004 and 2003, factoring fees charged by MAS totaled $48,995 and $10,004, respectively.



In November 2004, the Company terminated its factoring activities with MAS and signed a conditional
mutual release with MAS on April 6, 2005, whereby the Company agreed to pay MAS $135,000, of which
$50,000 was due upon signing and $85,000 due in June 2005. The Company remitted the $85,000 balance
in July 2005.




15









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 2 — ACCOUNTS RECEIVABLE FACTORING, continued 



On November 14, 2004, the Company signed a factoring agreement with Itochu International, Inc.
(“Itochu”), a New York corporation. Under the factoring agreement, the Company is charged a
factoring fee of 1.5% of the gross invoice amount, with no minimum annual fee, and all invoices are
subject to approval by Itochu. Itochu, to the extent of any financing provided, holds a security
interest in all assets of the Company over the term of the factoring agreement. Either party may
terminate the factoring agreement by providing 60 days written notice. In accordance with the
agreement, Itochu will advance the invoice amount, but at no time will the outstanding balance of
advances exceed $500,000.




The following summarizes the Company’s accounts receivable and related balances:




	 	 	 	 	 	 	 	 	 
	 	 	(Unaudited)	 	 	 	 
	 	 	June 30, 2005	 	 	December 31, 2005	 
	Receivables assigned to factor
	 	$	1,854	 	 	$	170,344	 
	Advances from factor
	 	 	(36,488	)	 	 	(101,826	)
	 
	 	 	 	 	 	 
	Amounts due (to) from factor
	 	 	(34,634	)	 	 	68,518	 
	Unfactored accounts receivable
	 	 	34,815	 	 	 	45,815	 
	Allowances for returns and allowances
	 	 	—	 	 	 	(12,267	)
	 
	 	 	 	 	 	 
	 
	 	$	181	 	 	$	102,066	 
	 
	 	 	 	 	 	 






NOTE 3 — PROPERTY AND EQUIPMENT 




Property and equipment consists of the following at December 31, 2004:




	 	 	 	 	 
	Office and computer equipment
	 	$	99,394	 
	 
	 	 	 	 
	Furniture and fixtures
	 	 	91,096	 
	 
	 	 	190,490	 
	Less accumulated depreciation
	 	 	(42,341	)
	 
	 	$	148,149	 






Depreciation expense for the years ended December 31, 2004 and 2003 amounted to $32,892 and $9,448,
respectively.




NOTE 4 — NOTE PAYABLE — STOCKHOLDER 



From time to time, the Company borrows funds from a founding stockholder for working capital
purposes, which bear interest at 8% per annum and are due in January 2006. As of December 31, 2004
and June 30, 2005, outstanding borrowings totaled $542,000 and $851,000, and accrued interest
totaled $74,296 and $102,776, respectively. Interest expense for the years ended December 31, 2004
and 2003 approximated $53,000 and $21,000, respectively. Interest expense for the six months ended
June 30, 2005 and 2004 was $28,000 and $27,000, respectively.





16









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 5 — INCOME TAXES 



Income tax expense consisted of current state income tax expense of $800 for the years ended
December 31, 2004 and 2003.




Reconciliation of the statutory federal income tax rate to the Company’s effective tax rate is as
follows:




	 	 	 	 	 	 	 	 	 
	 	 	2004	 	 	2003	 
	Statutory federal income tax rate
	 	 	34.0	%	 	 	34.0	%
	 
	State income taxes, net of federal benefit
	 	 	0.2	%	 	 	—	 
	Change in valuation allowance
	 	 	(34.5	)%	 	 	(33.9	)%
	Other
	 	 	0.6	%	 	 	(0.1	)%
	Total
	 	 	0.3	%	 	 	—	 






The following is a summary of the significant components of the Company’s deferred income tax
liability as of December 31, 2004:




	 	 	 	 	 
	Non-current deferred income tax asset:
	 	 	 	 
	 
	 	 	 	 
	Net operating loss carryforwards
	 	$	624,000	 
	Less valuation allowance
	 	 	(624,000	)
	 
	 	$	—	 





At December 31, 2004, the Company had net operating loss carryforwards of approximately $1,456,000
and $1,455,000 available to offset future federal and state income taxes, respectively, and which
will begin to expire in year 2022 and 2012, respectively. SFAS 109 requires that the tax benefit of
such net operating losses be recorded using current tax rates as an asset to the extent management
assesses the utilization of such net operating losses to be more likely than not. Based upon the
Company’s short term historical operating performance, the Company provided a full valuation
allowance against the deferred tax asset in 2004 and 2003.






17









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 6 — CONVERTIBLE NOTES PAYABLE 



In April and May 2005, the Company issued convertible notes payable totaling $625,000, bearing
interest at 11 percent per annum (the “11% Notes”). The notes and accrued interest were due through
August 2005, as amended. In addition, the principal and accrued interest on the 11% Notes were
convertible into shares of the Company’s common stock at a conversion price equal to $0.80 per
share. The Company recorded a BCF of $375,250 in connection with the conversion feature of the
notes payable during the six months ended June 30, 2005 and amortized $345,500 to interest expense
in the accompanying statement of operations during such period. In connection with the issuance of
the 11% Notes, the Company issued warrants to purchase an aggregate of 625,000 shares of the
Company’s common stock. In August 2005, the Company repaid such amounts, including accrued interest
of $35,392. The holder of the 11% Notes has the right to purchase up to 50% of any equity security,
including convertible debt, to be issued by the Company on the same terms as such securities are
offered to other parties through May 2008. At June 30, 2005, the balance of the 11% Notes is
$576,917, net of unamortized debt discounts of $29,750 and $18,333 related to the BCF and warrants,
respectively.



In June 2005, the Company issued convertible notes payable totaling $375,000, bearing interest at 6
percent per annum (the “6% Notes”). The notes and accrued interest were due at the earlier of the
closing of the Company’s private placement (see Note 9) or June 2006. In addition, the principal
and accrued interest on the 6% Notes are convertible into shares of the Company’s common stock at a
conversion price equal to $0.80 per share. The Company recorded a BCF of $93,750 in connection with
the conversion feature of the notes payable during the six months ended June 30, 2005 and amortized
$3,705 to interest expense in the accompanying statement of operations during such period. In
conjunction with the initial closing of the Company’s reorganization (see Note 9), the entire
balance of $375,000 of the 6% Notes, and $3,713 of accrued interest, was converted into 472,463
shares of the Company’s common stock in accordance with the related agreements. At June 30, 2005,
the balance of the 6% Notes is $284,955, net of unamortized debt discounts of $90,045 related to
the BCF.




NOTE 7 — EQUITY TRANSACTIONS 




Contributions



During the year ended December 31, 2003, the Company received contributions totaling $350,000 from
a founding stockholder of the Company.




18









 









THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 7 — EQUITY TRANSACTIONS, continued 




Common Stock



During the year ended December 31, 2004, the Company issued 800 shares of common stock to a
founding stockholder for services rendered with an estimated value of $800 (based on the per share
price of the Company’s subsequent private placement, see below).



On June 1, 2005, the Company entered into an agreement with Brookstreet Securities Corporation
(“BSC”), a NASD member investment banker based in Irvine, California, as its placement agent and
financial consultant to sell newly issued common stock at $1.00 per share for a total offering from
a minimum of 2,500,000 shares to a maximum of 4,600,000 shares, in order to raise minimum capital
of $2,175,000 to maximum capital of $4,002,000, net of expenses (the “PPM”). The Company agreed to
pay BSC an 8% retail sales commission, a 2% non-accountable marketing allowance and a 3%
non-accountable expense allowance. BSC also received warrants to purchase 433,313 shares of the
Company’s common stock at an exercise price of $1.00 per share (see Note 9).




Warrants



During the six months ended June 30, 2005, the Company issued warrants to purchase 625,000 shares
of the Company’s common stock in connection with the issuance of the 11% Notes (see Note 6), with
fair values totaling $218,000, as determined using the Black Scholes Option Pricing Model. These
warrants vested upon grant, have exercise prices of $0.15 and expire through August 2015. The
Company was required to file a registration statement by November 2, 2005 and have such
registration statement declared effective no later than February 15, 2006, (the “Effectiveness
Deadline”). The Company is required to issue the holders of the 11% Notes 68,750 warrants for each
subsequent 30-day period that such registration statement has not been filed. Also, the Company
will be required to issue the holders of the 11% Notes 68,750 warrants for each 30-day period the
registration statement is not declared effective beyond Effectiveness Deadline (“11% Penalty
Warrants”). The Company has recorded the estimated fair value of the warrants as a liability (see
Note 1). As of December 19, 2005, the Company has issued 11% Penalty Warrants to purchase an
aggregate of 137,500 shares of the Company’s common stock, which vested upon grant, have exercise
prices of $1.00, mature through August 2015 and have estimated fair values of $109,000, as
determined under SFAS 123.






19









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 8 — COMMITMENTS AND CONTINGENCIES 




Licensing Agreements



For the rights to use trademarks, the Company has entered into licensing agreements with various
licensors. The agreements enable the Company to sell products using the name of the licensor in
return for a licensing fee based upon sales of the product using the licensor’s name.



The Company acquired rights to use four trademarks as evidenced by licensing agreements entered
into with Nicole Miller, Richard Tyler, Tyler and Oscar by Oscar de la Renta (acquired in January
2005), which expire on March 3, 2009, November 26, 2007, November 26, 2007 and June 30, 2010,
respectively. Under these licensing agreements, the Company agreed to pay the greater of between 3%
and 8% of net sales of the licensed products or guaranteed minimums ranging from $54,600 to
$210,000 per annum. The licensor may terminate the licensing agreements upon event of default, as
defined.



In 2004, the Company sold the rights to use the Nicole Miller trademark under its licensing
agreement through March 2009 to an unrelated third party for $1,350,000 and realized a gain of
$1,350,000.



Minimum annual guaranteed royalty payments on the above licenses are as follows:




	 	 	 	 	 
	Years ending December 31,	 	 	 	 
	 
	2005
	 	$	429,000	 
	2006
	 	 	593,000	 
	2007
	 	 	832,000	 
	2008
	 	 	1,007,000	 
	2009
	 	 	1,384,000	 
	Thereafter
	 	 	510,000	 
	 
	 	$	4,755,000	 






20









 






THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 8 — COMMITMENTS AND CONTINGENCIES, continued 




Indemnities and Guarantees



The Company has made certain indemnities and guarantees, under which it may be required to make
payments to a guaranteed or indemnified party, in relation to certain actions or transactions. The
Company indemnifies its directors, officers, employees and agents, as permitted under the laws of
the State of Delaware. In connection with its facility leases, the Company has indemnified its
lessors for certain claims arising from the use of the facilities. Additionally, the Company
indemnifies its factor and licensors under the factoring and license agreements, respectively,
against certain claims as a result of the violation of any law. The duration of the guarantees and
indemnities varies, and is generally tied to the life of the agreement. These guarantees and
indemnities do not provide for any limitation of the maximum potential future payments the Company
could be obligated to make. Historically, the Company has not been obligated nor incurred any
payments for these obligations and, therefore, no liabilities have been recorded for these
indemnities and guarantees in the accompanying balance sheet.




Litigation



The Company is, from time to time, involved in various legal and other proceedings which arise in
the ordinary course of operating its business. In the opinion of management, the amount of ultimate
liability, if any, with respect to these actions will not materially affect the financial position
or results of operations of the Company.




NOTE 9 — SUBSEQUENT EVENTS 




Licensing Agreement



On January 24, 2005, the Company entered into a licensing agreement for the trademark, Oscar by
Oscar de la Renta, which expires on June 30, 2010 (see Note 8).




Reorganization



On August 19, 2005, TDI Holding Corporation (“TDI”) entered into an agreement of Plan of
Reorganization (“Merger”) with the Company in a tax free share exchange under Section 368(a)(1)(B)
of the Internal Revenue Code of 1986, as amended. Immediately prior to the Merger, TDI had
1,006,344 shares of common stock issued and outstanding and no preferred stock issued and
outstanding (post 21.8 to 1 reverse stock split). Pursuant to the Merger, all of the outstanding
shares of the Company’s common stock were exchanged into 14,114,200 shares of TDI common stock.
Immediately after the Merger, TDI had 15,120,544 shares of common stock issued and outstanding and
no shares of preferred stock issued and outstanding. In addition, pursuant to the Merger, the
Company paid $325,000, which was distributed to the TDI shareholders, which the Company has
expensed as acquisition costs during the year ending December 31, 2005.




21









 









THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 9 — SUBSEQUENT EVENTS, continued 



Immediately after the Merger, the officers and directors of TDI resigned and the management of the
Company controlled such positions; therefore, effecting a change of control. As a result, the
transaction was recorded as a “reverse merger” whereby the Company was considered to be the
accounting acquirer as it retained control of TDI after the Merger. Simultaneously with the merger,
TDI changed its name to The Fashion House Holdings, Inc.



Since TDI’s continuing operations and balance sheet are insignificant, a pro forma balance sheet
and statement of operations are not presented.




Convertible Notes Payable



In July 2005, the Company issued a convertible note payable totaling $550,000, bearing interest at
11 percent per annum (the “July 11% Note”). The July 11% Note and accrued interest are due in
January 2006. In addition, the principal and accrued interest on the July 11% Note are convertible
into shares of the Company’s common stock at a conversion price equal to $0.80 per share. The
Company recorded a BCF of $269,000 in connection with the conversion feature of the July 11% Note
upon issuance. In connection with the issuance of the July 11% Note, the Company issued warrants to
purchase an aggregate of 550,000 shares of the Company’s common stock, with fair values of
$281,000, as determined under SFAS No. 123. These warrants vested upon grant, are exercisable at
$0.80 per share and expire through August 2008. The Company was required to file a registration
statement by November 2, 2005 and have such registration statement declared effective no later than
February 15, 2006 (the “Effectiveness Deadline”). The Company is required to issue the holders of
convertible notes 55,000 warrants for each subsequent 30-day period that such registration
statement has not been filed. Also, the Company will be required to issue the holder of the July
11% Note 55,000 warrants for each 30-day period the registration statement is not declared
effective beyond the Effectiveness Deadline (the “July Penalty Warrants”). The Company has recorded
the estimated fair value of the warrants as a liability (see Note 1). As of December 19, 2005, the
Company has issued July Penalty Warrants to purchase an aggregate of 110,000 shares of the
Company’s common stock, which vested upon grant, have exercise prices of $1.00, mature through
August 2015 and have estimated fair values of $87,000, as determined under SFAS 123.



In August 2005, the Company issued convertible notes payable totaling $200,000, bearing interest at
6 percent per annum (the “Additional 6% Notes”). The notes and accrued interest were due at the
earlier of the initial closing of the Company’s private placement (see below) or June 2006. In
addition, the principal and accrued interest on the Additional 6% Notes were convertible into
shares of the Company’s common stock at a conversion price equal to $0.80 per share. The Company
recorded a BCF of $50,000 in connection with the conversion feature of the notes payable upon
issuance. In conjunction with the initial closing of the Company’s reorganization (see above), the
entire balance of $200,000 of Additional 6% Notes, and $1,584 of accrued interest, was converted
into 251,980 shares of the Company’s common stock in accordance with the related agreements.






22









 








THE FASHION HOUSE, INC.




NOTES TO FINANCIAL STATEMENTS




December 31, 2004 and 2003




NOTE 9 — SUBSEQUENT EVENTS, continued 




Equity Transactions




PPM



On August 19, and September 7, 2005, The Company completed the initial closings of the minimum
amount of its private placement through BSC with the sale of an aggregate of 2,888,750 shares of
its common stock receiving proceeds of $2,402,540, net of commissions, fees and expenses of
$486,210. The Company has recorded $152,683 of such expenses as prepaid offering costs in the
accompanying balance sheet at June 30, 2005.



Warrants



In July 2005, the Company issued warrants to purchase an aggregate of 62,500 shares of the
Company’s common stock to the holders of the 11% Notes in connection with an extension of the
maturity date of such notes to August 2005. The warrants vested upon grant, are exercisable at
$0.80 per share and expire through August 2015. The estimated fair value of the warrants was
$22,000, as determined under SFAS No. 123.



In August and September 2005, the Company issued warrants to purchase an aggregate of 433,313
shares of the Company’s common stock to BSC in connection with the initial closings of the
Company’s PPM (see above), with fair values totaling $190,000 as determined under SFAS No. 123.
These warrants vested upon grant, have exercise prices of $1.00 per share and expire through
September 2010. The Company is required to register the underlying shares and maintain the
effectiveness of the related registration statement of a period of two years following the final
closing of the private placement. The fair value of the warrants totaling $191,000 will be
classified as a liability due to the related registration rights and an offset to the proceeds
received in the private placement.






23