<PAGE>   1

                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                    FORM 10-K

(Mark One)
[ X ]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
       ACT OF 1934

       FOR THE FISCAL YEAR ENDED JULY 31, 1997

                                       OR

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

     For the transition period from _______________ to _________________

     COMMISSION FILE NUMBER 0-12628

                                 CML GROUP, INC.
             (Exact name of registrant as specified in its charter)

<TABLE>
<S>                                                                         <C>       
                  DELAWARE                                                              04-2451745
(State or other jurisdiction of incorporation                              (I.R.S. Employer Identification No.)
               or organization)
</TABLE>

524 MAIN STREET, ACTON, MASSACHUSETTS                      01720
   (Address of principal executive offices)               (Zip Code)

Registrant's telephone number, including area code      (978) 264-4155

Securities registered pursuant to Section 12(b) of the Act:

                                                   Name of each exchange
       Title of each class                         on which registered
       -------------------                         ---------------------
  Common Stock, $.10 par value                   New York Stock Exchange
Preference Stock Purchase Rights                 New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:

                                      None
                                (Title of class)

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]

The aggregate market value of voting Common Stock held by non-affiliates of the
registrant was approximately $214,972,299 based on the closing price of the
Common Stock as reported on the New York Stock Exchange on October 16, 1997.

Number of shares of Common Stock outstanding as of October 16, 1997: 49,848,649
shares.
<PAGE>   2
                       Documents Incorporated by Reference



                                                        Part of Report into
               Documents                                which Incorporated
             ------------                               --------------------
Portions of Proxy Statement for the                     Items 10, 11, 12 & 13 of
Annual Meeting of Stockholders to be                    Part III 
held December 5, 1997 to be filed with the 
Securities and Exchange Commission on 
or about November 4, 1997 pursuant to 
Reg. 240.14a-6(b) under the Securities
Exchange Act of 1934.


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<PAGE>   3
                                     PART I

Item 1.  Business

         CML Group, Inc. (the "Company" or "CML") was incorporated under the
laws of the State of Delaware in 1969. Unless the context otherwise requires,
the term "Company" as used herein includes CML and its subsidiaries.

         CML is a specialty marketing company whose principal operations are
NordicTrack and Smith & Hawken. NordicTrack, which was acquired in June 1986,
designs, sources, manufactures and markets physical fitness and exercise
equipment and other health-related products under the trade names NordicTrack(R)
and Nordic Advantage(TM). Smith & Hawken, which was acquired in February 1993
and conducts its business under the trade name Smith & Hawken(R), sells
gardening tools, work wear, outdoor furniture, plants and accessories.

         The Company decided to dispose of one of its subsidiaries in fiscal
1995 and two other subsidiaries in fiscal 1996. Britches of Georgetowne
("Britches"), which was sold in April 1996, operated a chain of retail stores
that sold men's apparel under the trade names Britches of Georgetowne(R) and
Britches Great Outdoors(TM). Substantially all of the assets of The Nature
Company, which conducted its business under the trade name The Nature
Company(TM), and Hear Music were sold in June 1996 and October 1996,
respectively. See Notes 3 and 4 of Notes to Consolidated Financial Statements
for additional information.

         The Company's sales channels consist of Company-owned specialty retail
stores and kiosks; direct marketing, primarily through mail order catalogs and
advertisements appearing in print, on television and on the internet; and
wholesale, beginning in fiscal 1998. At July 31, 1997, the Company operated 148
retail stores and 51 mall kiosks and had proprietary mail order customer lists
containing approximately 3 million names.

         For the fiscal year ended July 31, 1997, approximately 57.7% of the
Company's total revenues were derived from retail stores and mall kiosks
compared with approximately 68.2% in fiscal 1996 and 55.1% in fiscal 1995. In
fiscal 1997, direct response and mail order sales accounted for approximately
42.3% of total revenues compared with 31.8% in fiscal 1996 and 44.9% in fiscal
1995. NordicTrack's cross-country skiers and its AbWorks(TM) product provided
approximately 17.1% and 16.1% of the Company's total revenues, respectively, in
fiscal 1997. Approximately 24.8% and 18.1% of the Company's consolidated net
sales were derived from NordicTrack's cross-country skiers and non-motorized
treadmills, respectively, in fiscal 1996. In fiscal 1995, NordicTrack's cross
country-skiers comprised approximately 37.5% of the Company's total revenues and
its non-motorized treadmills provided approximately 21.7% of the Company's total
revenues.

         CML continues to operate in two industry segments: (i) NordicTrack and
(ii) Smith & Hawken. Additional information on each of these industry segments
is provided below and in Note 11 of Notes to Consolidated Financial Statements.

NordicTrack

         NordicTrack designs, sources and manufactures, and markets high quality
aerobic, anaerobic and spot-toning exercise equipment which it markets to
consumers primarily through direct response advertising in print, on television
and on the internet, and through its own mail order catalogs. NordicTrack also
sells its products to its wholly-owned subsidiary, Nordic Advantage, which
operates specialty retail stores and kiosks located primarily in the 


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<PAGE>   4
United States and Canada, and, beginning in fiscal 1998, began marketing its
products to other select retailers.

         NordicTrack's principal aerobic products consist of a new line of
elliptical total-body exercise machines introduced in October 1997, marketed
under the Ellipse(TM) and eMotion(TM) trade names, and sold at prices ranging
from $400 to $900; several models of cross-country ski exercisers sold at prices
ranging from $300 to $900; several motorized treadmills marketed under the
PowerTread(TM) trade name and sold at prices ranging from $900 to $1,600; and
two models of a non-motorized treadmill marketed under the WalkFit(TM) trade
name and sold for $300 and $400. NordicTrack introduced its first cross-country
ski exerciser in 1976 and the WalkFit(TM) treadmill in November 1993.
NordicTrack's cross-country ski exercisers utilize a flywheel mechanism which
replicates the non-jarring motion of cross-country skiing and provides a
complete upper and lower body workout. Exercisers marketed under the Ellipse(TM)
trade name use the Ellipta Glide(TM) design with a floating crank mechanism to
provide a smooth, quiet elliptical motion.

         NordicTrack's principal anaerobic product is the UltraLift(TM) weight
machine, introduced in October 1996 and priced at $1,000, which provides health
club quality strength training at home. The UltraLift utilizes a four-bar
linkage system that gives the user weight resistance without the inconvenience
of weight stacks or weight plates.

         NordicTrack's principal spot-toning products are AbWorks(TM), an
abdominal conditioner that was introduced in February 1996, and LegShaper(TM),
an exercise machine for shaping and toning the hips, legs and buttocks that was
introduced in January 1997. AbWorks(TM) sells for approximately $120 and
LegShaper(TM) sells for approximately $150.

         During fiscal 1997, approximately 59.6% of NordicTrack's net sales were
derived from Nordic Advantage's retail operations, and the remaining 40.4% came
from its direct response and mail order operations. At the end of fiscal 1997,
Nordic Advantage operated 123 stores compared with 126 stores at July 31, 1996
and 114 stores at July 31, 1995. Three retail stores were opened during fiscal
1997 compared with 12 and 26 stores opened during fiscal 1996 and 1995,
respectively. During fiscal 1998, Nordic Advantage plans to open one new store
and close several underperforming stores with leases that are set to expire.

         Nordic Advantage's stores vary in size from 550 to 4,500 square feet
and average approximately 1,876 square feet. The stores generally are located in
high traffic urban and suburban malls in affluent areas and in discount outlet
malls. A portion of Nordic Advantage's retail sales comes from seasonal kiosks
which generally are open for only a portion of the year. The stores and kiosks
have allowed Nordic Advantage to reach that portion of the fitness market which
does not traditionally purchase by direct response or mail order.

         NordicTrack began the wholesale distribution of its products in October
1997. The Company believes a wholesale presence will complement and enhance
NordicTrack's specialty retailing and direct marketing franchises, reach a new,
untapped customer base, and generate incremental revenues.


                                       4
<PAGE>   5
         NordicTrack's international sales are not a significant percentage of
revenues.

         NordicTrack's operations, including personnel, stores, purchasing,
manufacturing, distribution, order fulfillment, accounting and management
information systems, are separate and distinct from the Company's other industry
segment.

Smith & Hawken

         The Smith & Hawken segment currently is comprised of the Company's
Smith & Hawken subsidiary, but included The Nature Company, Smith & Hawken and
Hear Music prior to fiscal 1997. Substantially all of the assets of The Nature
Company and Hear Music were sold in June 1996 and October 1996, respectively.

         Smith & Hawken is a leading marketer of gardening-related products. Its
merchandise categories include furniture, plants, clothing, gardening tools and
equipment, and garden-related accessories, including containers, housewares,
gifts, and books. Smith & Hawken sells its products through its own Smith &
Hawken stores and mail order catalogs. As of July 31, 1997, Smith & Hawken
operated 25 retail stores ranging in size from 1,600 to 7,926 square feet and
averaging approximately 4,534 square feet. Many of the stores have indoor and
outdoor selling space. All of the stores are located in the United States and
generally can be found on main streets or in high traffic urban and suburban
malls located in affluent communities. Smith & Hawken's retail and mail order
sales were 51.0% and 49.0%, respectively, of Smith & Hawken's total fiscal 1997
sales. Approximately 18.3 million catalogs were mailed by Smith & Hawken during
fiscal 1997. Smith & Hawken plans to open four stores and mail approximately
19.1 million catalogs in fiscal 1998.

         Prior to the sale of The Nature Company in June 1996, the companies
included in the Smith & Hawken segment shared real estate services, order
processing services, fulfillment and distribution services and management
information services and systems. Smith & Hawken has contracted with the buyer
of The Nature Company's business to continue providing these services on a
negotiated fee basis. Smith & Hawken's operations, including personnel, stores,
purchasing, merchandising, distribution, order fulfillment, accounting and
management information systems, are separate and distinct from the Company's
other industry segment.

Trade Names

         The Company believes that the names under which it conducts its
business are of significant value because they are established, well-known and
respected.


                                       5
<PAGE>   6
         Shown below are the Company's principal trade names and trademarks and
the estimated number of years in existence:

                 Principal Trade Names                     Years in
                   and Trademarks                          Existence

                 NordicTrack(R)                             Over 20

                 Nordic Advantage, Inc. (TM)                Over 6

                 Smith & Hawken(R)                          Over 12


        The Company has entered into licensing agreements with third parties
for the use of patents in connection with the manufacture of certain products,
including Ellipse(TM), eMotion(TM), UltraLift(TM) and LegShaper(TM).

Distribution

         The manufacture of NordicTrack's products occurs at its Glencoe,
Minnesota production facility or is outsourced in the United States, Mexico or
overseas. Inventory shipments are received at NordicTrack's Glencoe, Minnesota,
and Sioux Falls, South Dakota, facilities from which direct response, retail and
wholesale orders are fulfilled. NordicTrack also maintains relationships with
third-party storage and transportation companies to warehouse and distribute
certain products. Certain NordicTrack products are sold by NordicTrack to its
wholly-owned subsidiary, Nordic Advantage, for resale through its retail stores
and kiosks. NordicTrack also sells certain products on a wholesale basis to
select third-party retailers.

         Prior to the sale of The Nature Company's business in fiscal 1996,
Smith & Hawken's products were shipped by suppliers to a Florence, Kentucky
distribution center leased by both Smith & Hawken and The Nature Company. The
Company's interest in the Florence, Kentucky distribution center was sold with
the assets of The Nature Company in June 1996. Smith & Hawken currently
contracts with the buyer of The Nature Company's business to continue providing
Smith & Hawken with warehousing, distribution and mail order fulfillment
services. Inventory shipments are received at the Florence, Kentucky
distribution center which distributes the merchandise to Smith & Hawken's retail
stores and fills customers' mail orders. The agreement between Smith & Hawken
and the buyer of The Nature Company's business is on a fee-for-service basis
which may not be terminated before August 31, 1998.

Suppliers

         The Company has various domestic and foreign suppliers, none of which
accounts for more than 10% of its purchases. Generally, the Company is not
dependent upon any single source for any raw materials or items of merchandise.
Several of NordicTrack's products, however, are produced by single but separate
manufacturers, from which a disruption of supply could adversely affect the
Company's operating results. In general, NordicTrack and Smith & Hawken each
contract with one or more printers and paper suppliers for its direct response
and mail order catalogs.

Manufacturing

         The Company's principal manufacturing activity consists of the
production of NordicTrack physical fitness exercise equipment primarily at
NordicTrack's Glencoe, Minnesota facility, which is approximately 284,000 square
feet in size. The Glencoe facility produces the cross-country ski exercisers,
non-motorized treadmills, AbWorks(TM), 


                                       6
<PAGE>   7
and a new line of elliptical exercise products. Materials required for the
Company's manufacturing operations generally are available from a wide variety
of suppliers.

Competition

         The markets in which the Company is engaged are highly competitive.

        NordicTrack competes with several companies which design, manufacture
and distribute physical fitness and exercise equipment, have greater financial
resources and offer a greater selection of products. Its competitors include
such companies as ICON Health & Fitness, Inc., Road Master Industries, Inc.,
Diversified Products Corp., Health Rider, Inc., Soloflex, Inc. and Consumer
Direct, Inc. In recent years, NordicTrack's competitors have introduced several
new and competitive products at competitive prices.

         Many of the competitors of Smith & Hawken are larger companies with
greater financial resources, a greater selection of merchandise and nationwide
distribution. Smith & Hawken's retail competitors include a large number and
wide variety of specialty retail stores, discount stores, hardware stores, and
department stores which carry similar product lines. Smith & Hawken's mail order
catalogs compete with those of other companies selling garden-related
merchandise, such as Gardener's Eden, David Kay, Calyx & Corolla and Gardener's
Supply. Smith & Hawken competitors also include independent garden stores and
plant nurseries in towns and cities throughout the United States.

         Competition in the direct response and mail order business has
intensified in recent years due to increases in the number of competitors, the
number of catalogs mailed and the number of competitors using direct response
advertisements in both print and television media.

Seasonality

         The Company's businesses are seasonal, with significant amounts of
retail sales in the second and third fiscal quarters. The following table shows
the approximate percentage of consolidated sales in each quarter of fiscal 1997:


                                                             Percentage
                Fiscal Quarter Ended                          of Sales
                --------------------                          --------
                       October                                  20%

                       January                                  34%

                       April                                    28%

                       July                                     18%
                                                               ----
                               Total                           100%
                                                               ====

Working Capital Requirements

         Inventory purchases represent the most significant use of working
capital. The Company believes that its working capital requirements follow the
seasonal patterns of other companies operating within its industry segments.
Inventory represented approximately 67% and 53% of the Company's working capital
assets, excluding cash and cash equivalents, and refundable and deferred income
taxes, at July 31, 1997 and 1996, respectively. Inventory 


                                       7
<PAGE>   8
purchases are based on future anticipated sales and typically reach their
highest levels of the year in the fall in anticipation of the Christmas holiday
and winter season.

Backlog, Contracts and Research

         Backlog is not a significant factor in the Company's business.

         The Company does not have any material contracts which are subject to
renegotiation. The Company's research and development activities primarily
consist of the design and development of new products and the improvement of
existing products at NordicTrack and Smith & Hawken.

Environmental Matters

         On June 3, 1991, the Company received from the United States
Environmental Protection Agency ("EPA") a Special Notice Letter containing a
formal demand on the Company as a Potentially Responsible Party ("PRP") for
reimbursement of the costs incurred and expected to be incurred in response to
environmental problems at a so-called "Superfund" site in Conway, New Hampshire.
The EPA originally estimated the costs of remedial action and future maintenance
and monitoring programs at the site at about $7,276,000. The Superfund site
includes a vacant parcel of land owned by a subsidiary of the Company as well as
adjoining property owned by a third party. No manufacturing or other activities
involving hazardous substances have ever been conducted by the Company or its
affiliates on the Superfund site in Conway. The environmental problems affecting
the land resulted from activities by the owners of the adjoining parcel.
Representatives of the Company have engaged in discussions with the EPA
regarding responsibility for the environmental problems and the costs of
cleanup. The owners of the adjoining parcel are bankrupt. The EPA commenced
cleanup activities at the site in July 1992.

         The EPA expended approximately $1,415,000 for the removal phase of the
site cleanup, which has now been completed. The EPA had estimated that the
removal costs would exceed $3,000,000, but only a small portion of the solid
waste removed from the site was ultimately identified as hazardous waste.
Therefore, the EPA's actual response costs for the removal phase were less than
the EPA originally estimated. The EPA has implemented the groundwater phase of
the cleanup, which the EPA originally estimated would cost approximately
$4,020,000.

         The Company believes that the EPA's estimated cost for cleanup,
including the proposed remedial actions, is excessive and involves unnecessary
actions. In addition, a portion of the proposed remedial cost involves cleanup
of the adjoining property that is not owned by the Company or any of its
affiliates. Therefore, the Company believes it is not responsible for that
portion of the cleanup costs. The Company has reserves and insurance coverage
(from its primary insurer) for environmental liabilities at the site in the
amount of approximately $2,300,000. The Company also believes that it is
entitled to additional insurance from its excess insurance carriers. However, if
excess liability coverage is not available to the Company and the ultimate
liability substantially exceeds the primary insurance amount and reserves, the
liability would have a material adverse effect upon the Company's operating
results for the period in which the resolution of the claim occurs and could
have a material adverse effect upon the Company's financial condition.

In June 1992, the EPA notified the Company it may be liable for the release of
hazardous substances by the Company's former Boston Whaler subsidiary at a
hazardous waste treatment and storage facility in Southington, Connecticut. The
EPA has calculated the Company's volumetric share of waste shipped to that site
at less than two-tenths 


                                       8
<PAGE>   9

of one percent. The Company and more than 200 other potentially responsible
parties have executed administrative orders pursuant to which they agreed to
perform two non-time critical removal actions and to complete the remedial
investigation and feasibility study commenced by the EPA. The Company has
contributed $11,000 to the costs of the removal actions and remedial
investigation and feasibility study and expects to contribute at least $11,000
more to those costs over time. Because complete cleanup cost estimates for the
site are not yet available, an accurate assessment of the Company's likely range
of liability cannot be made. Accordingly, the financial impact on the Company is
not presently determinable.

Employees

         During fiscal 1997, NordicTrack and Smith & Hawken employed, on
average, approximately 3,100 people, including full-time, part-time and seasonal
employees. The Company employs a large number of part-time employees from time
to time because of the seasonality of the Company's sales. The Company considers
its employee relations to be good.

Foreign and Domestic Operations

         To date, international sales, licensing revenues and export sales have
accounted for less than five percent of the Company's total annual sales. The
Company's NordicTrack subsidiary operates a retail store in Germany and a retail
store and several kiosks in the United Kingdom.

         Intercompany sales between the Company's operating units are not
significant.




Item 2.  Properties

         Most of the Company's facilities, including its retail stores, are
leased from third parties. However, its principal NordicTrack manufacturing,
administrative and telemarketing facilities are owned by NordicTrack.
The Company also owns its corporate offices in Acton, Massachusetts.

         Shown below is a summary of the square footage of the Company's
principal facilities at July 31, 1997, by primary function:


<TABLE>
<CAPTION>
                                                                  Square Feet
                                                 --------------------------------------------
                                                  Owned            Leased            Total
                                                  -----            ------            -----
<S>                                              <C>               <C>             <C>      
    Distribution                                  85,500           146,302           231,802
    Retail Selling                                 1,805           342,239           344,044
    Manufacturing                                206,500             9,000           215,500
    Office and Administration                    226,500            29,200           255,700
                                                 -------           -------         ---------
          Total                                  520,305           526,741         1,047,046
                                                 =======           =======         =========
</TABLE>


                                       9
<PAGE>   10
         Most of the retail store leases have initial terms ranging from five to
ten years, with options to renew in certain cases. Retail store leases generally
provide for minimum or base rents, additional expenses for common area
maintenance charges and additional rent calculated as a percentage of sales in
excess of specified levels. Rental expense under all leases for fiscal 1997 was
approximately $25.6 million. For additional information regarding the Company's
lease obligations, see Note 9 of Notes to Consolidated Financial Statements.


Item 3.  Legal Proceedings

Litigation

         NordicTrack is the defendant in a Consolidated Class Action Complaint
("Consolidated Complaint") filed on September 25, 1996 in the United States
District Court for the Southern District of New York. The named plaintiffs,
Elissa Crespi and John Lucien Ware, Jr., allege in the Consolidated Complaint
that NordicTrack made false and misleading claims in its advertising concerning
the weight loss of persons using its ski exercisers by misrepresenting and
failing to disclose material findings of weight loss studies conducted by or on
behalf of NordicTrack. They assert claims of common law fraud, fraudulent
concealment, negligent misrepresentation and omission, breach of express and
implied warranties, and violation of Section 349 of the New York General
Business Law. They also seek to represent a class allegedly consisting of all
persons in the United States who purchased a NordicTrack ski exerciser during
the period from November 15, 1993 to April 10, 1996, excluding NordicTrack and
its employees. On behalf of themselves and the alleged class, the plaintiffs
seek unspecified actual and punitive damages with interest, rescission,
attorneys' fees, costs, an order requiring NordicTrack to make corrective
disclosures, and the imposition of a constructive trust. NordicTrack filed a
motion for transfer of venue to the United States District Court for the
District of Minnesota, which was allowed in early 1997. On September 2, 1997,
the named plaintiffs filed a motion to remand the case to New York State Court,
which NordicTrack intends to oppose. The parties have conducted some discovery.
While NordicTrack believes it has meritorious defenses to the Consolidated
Complaint and intends to vigorously defend against the allegations, this lawsuit
is still in an early stage and the Company is unable to determine the likelihood
and possible impact on the Company's consolidated financial condition or results
of operations of an unfavorable outcome.

         NordicTrack is the defendant in a lawsuit in the United States District
Court for the District of Minnesota which commenced on August 12, 1996. In the
action, the plaintiff, Precise Exercise Equipment ("Precise"), alleged that
NordicTrack misappropriated trade secrets regarding Precise's abdominal exercise
product and further breached a noncompetition agreement. While NordicTrack is
vigorously defending against the allegations and believes it has meritorious
defenses to Precise's claims on the contract, at this stage of the lawsuit the
Company is unable to determine the likelihood and possible impact on the
Company's consolidated financial condition or results of operations of
unfavorable outcomes.

         In a complaint dated September 30, 1997, filed by Precor Incorporated
("Precor") in the United States District Court for the Western District of
Washington at Seattle, Precor alleged that the manufacture, offering for sale
and sale by NordicTrack of its exercisers marketed under the Ellipse(TM) trade
mark infringe a United States patent which Precor has licensed from the
inventor, Larry Miller (the "Miller Patent"). The technology used in
NordicTrack's Ellipse(TM) exerciser is licensed by NordicTrack from a third
party and the Company believes that NordicTrack's products do not infringe the
Miller Patent. While NordicTrack believes it has meritorious defenses to the
complaint 


                                       10
<PAGE>   11
and intends to vigorously defend against the allegations, this lawsuit is in its
earliest stages and the Company is unable to determine the likelihood and
possible impact on the Company's financial condition or results of operations of
an unfavorable outcome.

         The Company is involved in various other legal proceedings which have
arisen in the ordinary course of business. Management believes the outcome of
such other legal proceedings will not have a material adverse impact on the
Company's consolidated financial condition or results of operations. See Note 9
of Notes to Consolidated Financial Statements for information on environmental
matters.

Tax Matters

         The Internal Revenue Service ("IRS") has been engaged in an examination
of the Company's tax returns for the fiscal years 1987 through 1991. The IRS has
indicated that it intends to mail an official assessment notice shortly
proposing certain adjustments which, if sustained by the IRS, would result in a
tax deficiency for the years under examination. The adjustments proposed by the
IRS primarily relate to: (i) the disallowance of deductions taken by the Company
with respect to incentive compensation payments of $43,000,000 made to the
former owners of NordicTrack (acquired in June 1986) pursuant to their
employment contracts; and (ii) incentive compensation payments made to the
former owners of Britches of Georgetowne (acquired in August 1983 and sold in
April 1996) pursuant to the terms of an earnout agreement and the valuation of
certain assets acquired in connection with the acquisition of Britches of
Georgetowne in the amount of $8,200,000. The net federal tax due relating to the
proposed adjustments approximates $16,200,000, excluding interest.

         The incentive compensation payments to the former owners of NordicTrack
were attributable to substantial increases in sales and profits at NordicTrack
during the years under examination. The Company believes that the tax deductions
taken were valid and in accordance with the Internal Revenue Code and intends to
vigorously oppose the proposed adjustments. However, at this stage no assurance
can be given of a favorable outcome on these matters. If the IRS proposed
adjustments are sustained, any back taxes owed and associated interest would
have a material adverse effect on the Company's consolidated operating results
for the period in which such issues are finally resolved and would also have a
material adverse effect on the Company's consolidated financial condition.


                                       11
<PAGE>   12
Item 4.  Submission of Matters to a Vote of Security Holders

         No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year ended July 31, 1997.

Executive Officers of the Company

         The executive officers of the Company are as follows:


<TABLE>
<CAPTION>
      Name                Age                          Position
      ----                ---                          --------
<S>                       <C>    <C>                                                              
Charles M. Leighton       62     Chairman of the Board of Directors and Chief Executive Officer
G. Robert Tod             58     President, Chief Operating Officer and Director
Glenn E. Davis            43     Vice President, Finance, Chief Financial Officer and Treasurer
Paul J. Bailey            40     Controller
</TABLE>


         Mr. Leighton, a founder of the Company, has been Chairman of the Board
of Directors and Chief Executive Officer since the incorporation of the Company
in 1969. Mr. Leighton is a director of New England Investment Companies and of
Metropolitan Life Insurance Company.

         Mr. Tod, a founder of the Company, has been a member of the Board of
Directors and President and Chief Operating Officer since the incorporation of
the Company in 1969. Mr. Tod is a director of SCI Systems, Inc., EG&G, Inc. and
USTrust.

         Mr. Davis has been a Vice President of the Company since November 1989
and served as Controller of the Company from May 1984 through June 1996. He was
named Chief Financial Officer in March 1996 and Treasurer in June 1996.

         Mr. Bailey has been with the Company since January 1985 as Director of
Financial Operations. He became Controller of the Company in June 1996.


                                       12
<PAGE>   13
                                     PART II

Item 5.  Market for Registrant's Common Stock and Related Stockholder Matters

         The Company's common stock is traded on the New York Stock Exchange
under the symbol "CML."

         The following table sets forth for the fiscal periods indicated the
high and low sales prices per share of the common stock as reported on the New
York Stock Exchange.

<TABLE>
<CAPTION>
                                           Fiscal 1997                           Fiscal 1996
                                    -----------------------                   -----------------
        Quarter                     High                 Low               High                 Low
        -------                     ----                 ---               ----                 ---
<S>                                 <C>                 <C>                <C>                 <C>  
        First                       $5.75               $3.13              $9.25               $5.38
        Second                       4.88                2.88               6.25                3.63
        Third                        3.25                1.88               5.00                2.88
        Fourth                       3.69                1.75               5.88                2.88
</TABLE>

         The Company declared one and three cash dividends aggregating $0.01 and
$0.06 per share on its common stock during fiscal 1997 and 1996, respectively.
The Company must meet certain financial covenants under its current revolving
credit agreement in order to pay cash dividends. Although in the past the
Company has occasionally paid dividends to its shareholders on a quarterly
basis, the Company currently has a retained earnings deficit and has no present
intention to pay dividends to its shareholders.

         The number of shareholders of record of the Company's common stock as
of October 16, 1997 was 6,251.


Item 6.  Selected Financial Data
(in thousands, except per share data)

<TABLE>
<CAPTION>
                                                                  Year Ended July 31,
                                                                  -------------------
                                                      1997         1996         1995         1994         1993
                                                      ----         ----         ----         ----         ----
<S>                                                <C>           <C>          <C>          <C>          <C>     
Net sales                                          $341,315      $544,905     $712,613     $655,791     $539,992
Income (loss) from continuing
    operations before extra-
    ordinary gain and cumulative
    effect of accounting change                     (40,214)      (84,809)      15,906       50,563       56,072
Income (loss) per share from
    continuing operations before extra-
    ordinary gain and cumulative
    effect of accounting change                       (0.81)        (1.72)        0.32         0.98         1.07
Cash dividends declared per share                      0.01          0.06         0.09         0.08         0.06
Working capital                                       9,695        56,163      116,533      103,742      101,191
Total assets                                        146,336       213,351      340,081      384,663      340,171
Noncurrent liabilities                               51,489        48,794       69,021       84,356       80,719
Stockholders' equity                                 45,728        85,797      188,552      219,237      184,250
</TABLE>


                                       13
<PAGE>   14
       The Company sold its Hear Music subsidiary in fiscal 1997 and sold its
Britches of Georgetowne and The Nature Company subsidiaries in fiscal 1996. See
Notes 3 and 4 of Notes to Consolidated Financial Statements.


                                       14
<PAGE>   15
Item 7.  Management's Discussion and Analysis of Financial Condition and Results
         of Operations

INTRODUCTION

         The Company operates two subsidiaries, NordicTrack and Smith & Hawken,
each of which is treated as a separate segment in the accompanying consolidated
financial statements. Prior to the Company's decision to divest The Nature
Company and Hear Music in the third quarter of fiscal 1996, both subsidiaries
were included in the results of the Smith & Hawken segment. The Company recorded
a charge associated with the decision to sell The Nature Company and Hear Music
which is included in the fiscal 1996 results for the Smith & Hawken segment in
the accompanying consolidated financial statements. In fiscal 1995, the Company
decided to sell its Britches of Georgetowne ("Britches") subsidiary, which is
accounted for as a discontinued operation in the accompanying consolidated
financial statements.

         NordicTrack designs, sources, manufactures and markets physical fitness
and exercise equipment and other health-related products through direct response
advertising in print, on television and on the internet; through specialty
stores and kiosks operated by its wholly-owned subsidiary, Nordic Advantage;
and, beginning in fiscal 1998, to wholesale customers. Smith & Hawken markets
fine gardening tools, work wear, furniture, plants and accessories through its
catalogs and specialty retail stores. Industry segment information is presented
in Note 11 of Notes to Consolidated Financial Statements.

         This Annual Report contains forward-looking statements. For this
purpose, any statements contained herein that are not statements of historical
fact may be deemed to be forward-looking statements. Without limiting the
foregoing, the words "believes," "anticipates," "plans," "expects," and similar
expressions are intended to identify forward-looking statements. There are a
number of factors that could cause the Company's actual results to differ
materially from those indicated by such forward-looking statements. These
factors include, without limitation, those set forth below under the caption
"Certain Factors that May Affect Future Results." See also Note 9 of the Notes
to Consolidated Financial Statements for information on commitments and
contingencies.



RESULTS OF CONTINUING OPERATIONS - FISCAL 1997 AND 1996

         CML Consolidated
         The Company had net sales of $341.3 million in fiscal 1997, a decrease
of $203.6 million, or 37.4% below fiscal 1996. During fiscal 1997, the Company
had a net loss from continuing operations of $40.2 million compared with a net
loss from continuing operations of $84.8 million in fiscal 1996.

         During fiscal 1997, retail sales decreased $174.7 million to $197.1
million, or 47.0% below fiscal 1996's retail sales. The decrease in retail sales
was primarily due to the decision during the third quarter of fiscal 1996 to
divest The Nature Company and Hear Music, and lower sales at Nordic Advantage,
offset in part by an increase in retail sales at Smith & Hawken. The decrease in
Nordic Advantage retail sales was primarily due to lower sales of cross-country
skiers, non-motorized treadmills and riders. During fiscal 1997, Smith & Hawken
and Nordic Advantage opened one store and three stores, respectively.

         Direct response and mail order sales decreased $28.9 million in fiscal
1997, or 16.7% below the prior year, to $144.2 million. The decrease in direct
response and mail order sales was primarily attributable to lower direct
response sales at NordicTrack, resulting from 


                                       15
<PAGE>   16
lower sales of cross-country skiers, non-motorized treadmills and riders, offset
in part by an increase in mail order sales at Smith & Hawken.

         The Company expects future sales growth will result primarily from
sales of new NordicTrack fitness equipment products, the addition of new Smith &
Hawken stores, comparable store sales increases, increased catalog circulation,
and penetration of the wholesale marketing channel by NordicTrack. The Company's
international operations were not significant during fiscal 1997 and are not
expected to be significant for the next several years.

         Cost of goods sold increased as a percentage of sales from 47.1% in
fiscal 1996 to 48.1% in fiscal 1997. The increase in cost of goods sold as a
percentage of sales was primarily attributable to increased sales promotions by
NordicTrack in response to lower demand for cross-country skiers, non-motorized
treadmills and riders, and a change in the mix of product sales toward
lower-margin products.

         Selling, general and administrative expenses decreased as a percentage
of sales from 70.8% in fiscal 1996 to 69.3% in fiscal 1997 primarily as a result
of improved cost controls at NordicTrack and Smith & Hawken. The cost control
improvements were accomplished despite higher fixed costs as a percentage of
sales at Nordic Advantage stores that experienced a decrease in comparable store
sales.

         The decrease in the loss from continuing operations in fiscal 1997 was
due, in part, to improved operating results at Smith & Hawken, reduced operating
losses at NordicTrack, and the elimination of losses resulting from the
operation and sale of The Nature Company and Hear Music. In June 1996, the
Company sold substantially all of the assets of The Nature Company for $39.9
million plus the assumption of certain liabilities. In October 1996, the Company
completed the sale of substantially all of Hear Music's assets for $371,000 in
cash plus the assumption of certain liabilities.

         Net interest expense was $1.8 million, or 0.5% of net sales, in fiscal
1997 compared with $3.1 million, or 0.6% of net sales, in fiscal 1996. Net
interest expense decreased primarily due to lower bank borrowings and interest
earned from the investment of excess cash balances in money market mutual funds.

         The Company's income tax benefit as a percentage of the pre-tax loss
from continuing operations was 34.0% in fiscal 1997 compared with 35.4% in 1996.
The tax rate of 34.0% for fiscal 1997 represents the benefit the Company expects
to realize upon utilization of tax loss carryforwards. The tax rate for fiscal
1996 was 35.4%, which represented the benefit realized upon the carryback of tax
losses from fiscal 1996 to prior fiscal years. See Notes 7 and 9 of the Notes to
Consolidated Financial Statements for information related to income taxes and
tax matters.

         NordicTrack
         Overall net sales decreased 27.3% from $368.1 million in fiscal 1996 to
$267.7 million in fiscal 1997. Retail sales decreased $72.9 million, or 31.4%,
to $159.5 million in fiscal 1997 compared with $232.4 million in fiscal 1996.
The decrease in retail sales was primarily due to fewer kiosks open during
fiscal 1997, the closing of six retail stores and a 24.9% decrease in comparable
store sales. Direct response and mail order sales decreased $27.5 million, or
20.3%, to $108.2 million in fiscal 1997 from $135.7 million in fiscal 1996. The
decrease in retail, direct response and mail order sales was primarily due to
lower sales of cross-country skiers, non-motorized treadmills and riders. In
fiscal 1997, NordicTrack accounted for approximately 78.4% of the Company's
consolidated net sales and over 100.0% of the consolidated pre-tax operating
loss before interest, corporate and other expenses. In fiscal 1996,
approximately 67.6% of the Company's consolidated net sales and 60.4% of the


                                       16
<PAGE>   17
Company's consolidated pre-tax operating loss before interest, corporate and
other expenses were attributable to NordicTrack.

         NordicTrack's gross margin decreased to 51.7% in fiscal 1997 from 55.4%
in fiscal 1996, primarily due to increased sales promotions on cross-country
skiers, non-motorized treadmills and riders in response to lower demand and a
more competitive consumer environment, and a change in the sales mix toward
lower-margin products with royalty arrangements. Selling, general and
administrative expenses decreased as a percentage of sales from 74.9% in fiscal
1996 to 73.6% in fiscal 1997 primarily due to improved cost controls that were
offset, in part, by higher fixed costs as a percentage of sales at retail store
locations experiencing a decrease in comparable store sales.

         NordicTrack had an operating loss of $58.6 million in fiscal 1997
compared with an operating loss of $72.6 million in fiscal 1996. The decrease in
the operating loss, which was accomplished in a declining sales environment, was
primarily due to a reduction in selling, general and administrative expenses.

         NordicTrack plans to continue to develop and market new physical
fitness exercise equipment and other related products. The UltraLift(TM)
strength-training machine and the PowerTread(TM) line of motorized treadmills
were introduced in fiscal 1997. A new line of aerobic exercise machines,
marketed under the Ellipse(TM) and eMotion(TM) trade names, will be introduced
in the fall of fiscal 1998. In fiscal 1998, NordicTrack also plans to market its
products to wholesale customers and spend approximately $4.0 million on tooling
for new products, computer hardware and software upgrades and enhancements, and
equipment to improve manufacturing and distribution processes.

         The Smith & Hawken Segment
         The Smith & Hawken segment experienced a 58.4% decrease in net sales in
fiscal 1997, with net sales declining from $176.8 million in fiscal 1996 to
$73.6 million in fiscal 1997. The decrease was due to the divestitures of The
Nature Company and Hear Music. Smith & Hawken's net sales increased $9.5
million, or 14.9%, to $73.6 million from $64.0 million in fiscal 1996. Retail
sales of the Smith & Hawken segment decreased $101.8 million, or 73.1%, from
$139.4 million in fiscal 1996 to $37.6 million in fiscal 1997 due to the sale of
The Nature Company and Hear Music. Smith & Hawken's retail sales increased $6.2
million, or 19.7%, in fiscal 1997 to $37.6 million. Comparable store sales at
Smith & Hawken increased 3.4% in fiscal 1997. Mail order sales of the Smith &
Hawken segment decreased $1.4 million, or 3.6%, to $36.0 million in fiscal 1997
from $37.4 million in fiscal 1996. The decrease was due to the divestiture of
The Nature Company. Smith & Hawken experienced a 10.3% increase in mail order
sales in fiscal 1997 over fiscal 1996.

         The Smith & Hawken segment's gross margin increased to 52.7% in fiscal
1997 from 47.4% in fiscal 1996 and selling, general and administrative expenses
decreased as a percentage of sales from 56.8% in fiscal 1996 to 50.0% in fiscal
1997. The increase in gross margin and decrease in selling, general and
administrative expenses as a percentage of net sales were primarily due to the
divestitures of The Nature Company and Hear Music businesses. Operating results
of the Smith & Hawken segment improved from a loss of $47.7 million in fiscal
1996 to operating income of $2.0 million in fiscal 1997 primarily due to the
divestitures of The Nature Company and Hear Music. The Company recorded a
pre-tax loss of $30.8 million during the third quarter of fiscal 1996 as a
result of the decision to sell The Nature Company and Hear Music.


                                       17
<PAGE>   18
         Smith & Hawken expects to spend approximately $3.2 million in fiscal
1998 primarily on four new stores and computer hardware and software.


RESULTS OF CONTINUING OPERATIONS - FISCAL 1996 AND 1995

         CML Consolidated
         Net sales decreased $167.7 million to $544.9 million, or 23.5% below
fiscal 1995. The Company had a loss from continuing operations of $84.8 million
in fiscal 1996 compared with income from continuing operations of $15.9 million
in fiscal 1995.

         Retail sales decreased $21.1 million in fiscal 1996 to $371.8 million,
or 5.4% below fiscal 1995. The decrease was primarily attributable to the
divestiture of The Nature Company in fiscal 1996 and a decrease in Nordic
Advantage and the Smith & Hawken segment comparable store sales, partially
offset by the addition of new Nordic Advantage and Smith & Hawken stores and a
greater number of Nordic Advantage kiosks open during the year. During fiscal
1996, Nordic Advantage and Smith & Hawken opened 12 and 8 new stores,
respectively.

         Direct response and mail order sales in fiscal 1996 decreased $146.6
million, or 45.9% below fiscal 1995, to $173.1 million. The decrease in direct
response and mail order sales was primarily attributable to lower direct
response sales at NordicTrack as a result of less effective advertising.

         Revenues of the Company's international operations were not material as
a percentage of total revenues during fiscal 1996 or 1995.

         Cost of goods sold increased as a percentage of sales from 39.8% in
fiscal 1995 to 47.1% in fiscal 1996. The increase in cost of goods sold as a
percentage of sales was primarily due to increased sales promotions offered by
NordicTrack and the Smith & Hawken segment in response to a more competitive
consumer environment, higher materials, overhead and labor costs at NordicTrack,
and an increase in the proportion of NordicTrack's sales derived from products
with higher cost of goods sold.

         Selling, general and administrative expenses increased as a percentage
of sales from 56.5% in fiscal 1995 to 70.8% in fiscal 1996. The increase in
selling, general and administrative expenses as a percentage of sales was
primarily due to higher direct marketing expenses and reduced advertising
efficiencies at NordicTrack, fixed costs at stores that experienced a decrease
in sales, and higher operating expenses attributable to the increased number of
kiosks.

         The loss from continuing operations in fiscal 1996 included a pre-tax
charge of $30.8 million to write down The Nature Company's and Hear Music's net
assets to estimated net realizable value and to accrue estimated lease
termination and assignment costs and other transaction costs. In June 1996, the
Company sold substantially all of the assets of The Nature Company for $39.9
million plus the assumption of certain liabilities.

         Net interest expense in fiscal 1996 was $3.1 million, or 0.6% of net
sales, compared with net interest expense of $1.1 million, or 0.2% of net sales,
in fiscal 1995. The increase in net interest expense was primarily due to higher
bank borrowings during the year.

         The Company's income tax benefit as a percentage of the pre-tax loss
from continuing operations was 35.4% in fiscal 1996 compared with an income tax
provision as a percentage of pre-tax income from continuing operations of 37.4%
in fiscal 1995.

         NordicTrack
         Net sales decreased 27.0% from $504.1 million in fiscal 1995 to $368.1
million in fiscal 1996. Retail sales increased $3.8 million, or 1.7%, to $232.4
million in fiscal 1996 compared with $228.6 million in fiscal 1995. Direct
response and mail order sales decreased $139.8 million, or 50.7%, to $135.7
million in fiscal 1996 from $275.5 million in fiscal 1995. The increase in
retail sales was primarily due to a greater number of kiosks open during fiscal
1996. During fiscal 1996, comparable store sales decreased 30.0%. In fiscal
1995, approximately 70.7% of the Company's consolidated sales and over 100.0% of
the Company's 


                                       18
<PAGE>   19
consolidated pre-tax operating income before interest, corporate and other
expenses were attributable to NordicTrack.

         NordicTrack's gross margin decreased to 55.4% in fiscal 1996 from 64.9%
in fiscal 1995 primarily due to increased sales promotions during the year in
response to a more competitive consumer environment, higher materials, overhead
and labor costs and a change in the sales mix to lower-margin products.

         Selling, general and administrative expenses increased as a percentage
of sales from 55.7% in fiscal 1995 to 74.9% in fiscal 1996, primarily due to
higher direct marketing expenses and reduced advertising efficiencies, fixed
costs at stores that experienced a decrease in sales and higher operating
expenses attributable to the increased number of kiosks.

         NordicTrack incurred an operating loss of $72.6 million in fiscal 1996
compared with $46.3 million of operating income in fiscal 1995. The decline in
operating income was due to lower sales and higher cost of goods sold and
selling, general and administrative expenses as a percentage of sales.

         The Smith & Hawken Segment
         Net sales of the Smith & Hawken segment decreased 15.2% from $208.5
million in fiscal 1995 to $176.8 million in fiscal 1996, primarily due to the
divestiture of The Nature Company and the planned divestiture of Hear Music and
a decrease in comparable store sales. Retail sales decreased $24.9 million, or
15.2%, to $139.4 million in fiscal 1996 compared with $164.3 million in fiscal
1995. Mail order sales decreased $6.8 million, or 15.4%, to $37.4 million in
fiscal 1996 from $44.2 million in fiscal 1995, primarily due to the mailing of
fewer catalogs by The Nature Company. Comparable store sales for the Smith &
Hawken segment decreased 10.0% during fiscal 1996.

         The Smith & Hawken segment's gross margin decreased to 47.4% in fiscal
1996 from 48.9% in fiscal 1995 primarily due to higher markdowns during the year
in response to a more competitive consumer environment. The Smith & Hawken
segment's selling, general and administrative expenses increased as a percentage
of sales from 55.2% in fiscal 1995 to 56.8% in fiscal 1996 primarily due to
fixed costs at stores that experienced a decrease in sales. The Smith & Hawken
segment incurred an operating loss of $47.7 million during fiscal 1996 as
compared with an operating loss of $13.2 million in fiscal 1995. The increase in
the operating loss was primarily attributable to a $30.8 million pre-tax charge
resulting from the Company's decision to divest The Nature Company and Hear
Music, lower gross margins and higher selling, general and administrative
expenses as a percentage of sales.


LIQUIDITY AND CAPITAL RESOURCES

         Cash Flows from Operating Activities
         The Company used internally generated funds, an income tax refund and
proceeds from the sale of Britches, The Nature Company and Hear Music to finance
its operations during fiscal 1997. In prior fiscal years, bank borrowings, in
addition to internally generated funds and proceeds from the sale of assets,
were used to finance the Company's operating needs. Operating activities used
$13.3 million of cash in fiscal 1997 compared with a net use of $0.4 million in
fiscal 1996 and net cash provided by operating activities of $30.6 million in
fiscal 1995. Receipt of an income tax refund of approximately $53.9 million in
September 1996 funded the operating loss for fiscal 1997 and partially financed
the reduction in accounts payable and accrued expenses. Depreciation and
amortization was $14.8 million in fiscal 1997, $28.7 million in fiscal 1996 and
$30.7 million in fiscal 1995. The decrease in depreciation and amortization was
primarily due to the divestitures of Britches, The Nature Company and Hear
Music, the effects of which were partially offset by higher depreciation
resulting from the Company's investment in tooling for new and existing
products, new retail stores, and the refurbishment of existing stores. The
Company's investment in working capital items increased $22.3 million in fiscal
1997, decreased $12.9 million in fiscal 1996 and increased $23.0 million in
fiscal 1995.

         Cash Flows from Investing Activities


                                       19
<PAGE>   20
         During fiscal 1997, net cash provided by investing activities was $0.1
million compared with $25.0 million in fiscal 1996 and net cash used in
investing activities of $36.3 million in 1995. The higher level of cash provided
by investing activities in fiscal 1996 relative to fiscal 1997 was primarily due
to cash proceeds received from the sale of Britches and The Nature Company
offset, in part, by a higher level of investment in new stores and
manufacturing, distribution and data processing facilities.

         Capital expenditures were $5.9 million in fiscal 1997, of which
NordicTrack spent approximately $4.5 million and Smith & Hawken spent
approximately $1.4 million. During fiscal 1996 and 1995, capital expenditures
were $21.6 million and $36.3 million, respectively. The fiscal 1997 capital
expenditures were primarily for product tooling and store remodeling.

         Cash Flows from Financing Activities
         The Company used $0.2 million, $15.2 million and $14.9 million of cash
for financing activities in fiscal 1997, 1996 and 1995, respectively. No loans
were outstanding under the Company's revolving credit agreement at the end of
fiscal 1997 and 1996, compared with $10.0 million of advances outstanding at
July 31, 1995. The Company repurchased $1.3 million and $8.4 million of its
common stock in fiscal 1996 and 1995, respectively. In addition, the Company
spent $12.0 million in fiscal 1995 to repurchase a portion of its $57.5 million,
5-1/2% convertible subordinated debentures. Dividends paid by the Company on its
common stock were $0.5 million, $4.2 million and $4.2 million during fiscal
1997, 1996 and 1995, respectively.

         Capital Resources
         On August 27, 1997, the Company amended and restated its senior secured
revolving credit agreement which provides for borrowings and letters of credit
of up to $40.0 million through April 15, 1999 based upon a percentage of
eligible accounts receivable and inventories. The amended agreement also
provides an overadvance facility of up to an additional $15.0 million during the
fall of each year to meet the Company's seasonal borrowing needs. The agreement,
which is secured by the Company's assets and the shares and guarantees of the
Company's subsidiaries, requires the Company to comply with certain financial
and operating covenants. The Company must meet certain financial covenants under
the revolving credit agreement in order to pay cash dividends. The agreement
also requires the Company to pay off the outstanding loan balance for a period
of forty-five consecutive days each fiscal year and provides for a reduction in
the commitment for net cash proceeds received from the sale of assets not in the
ordinary course of business or from the issuance of subordinated debt or equity
securities. At July 31, 1997, there were no loans outstanding under the
revolving credit agreement. Total letters of credit outstanding at July 31, 1997
were $6.2 million. Unused borrowing and letter of credit capacity under the
revolving credit agreement was $12.8 million at July 31, 1997. Total bank
borrowings averaged $8,000 during fiscal 1997, $14.3 million during fiscal 1996
and $4.1 million during fiscal 1995. See Note 5 of Notes to Consolidated
Financial Statements for additional information on long-term debt.

         The Company believes that internally generated funds, available bank
lines of credit and proceeds from the sale of assets or securities or obtained
through public or private financing transactions will be sufficient to meet its
operating needs and anticipated capital expenditures for fiscal 1998. If the
Company is unable to achieve its fiscal 1998 business plan, the Company may
require significant additional funds to continue its ongoing operations, and if
such funds are not available when needed, the Company may be required to curtail
parts of its business and/or sell one of its two operating companies.

CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS

         The following important factors, among others, could cause actual
results to differ materially from those indicated by forward-looking statements
made in this Annual Report and presented elsewhere by management from time to
time.




                                       20
<PAGE>   21
         Recent Operating Losses
         The Company incurred losses from continuing operations during fiscal
1997 and 1996, and there can be no assurance that the Company will not continue
to incur losses in the future. Continued net losses would affect the Company's
cash position and could require the Company to reduce certain expenditures,
including without limitation expenditures for advertising and inventory, which
could have a material adverse effect on the Company's business, financial
condition and results of operations. In addition, if the Company continues to
have net losses in the future, the Company may be unable to realize the benefit
of the net deferred tax asset discussed in Notes 7 and 9 of Notes to
Consolidated Financial Statements.

         Available Funds
         The Company's future financial performance will also depend on its
ability to purchase goods and services on credit and to borrow funds under its
revolving credit agreement. If the Company is unable to purchase goods and
services on credit or the Company's lenders do not provide the Company with
favorable credit arrangements, the Company may need to seek additional funds
from other parties. There can be no assurance, however, that the Company would
be able to obtain any such third-party funding or obtain such funding on terms
as favorable as those offered by its lenders. Also, in the event the Company
elects to raise additional funds through the sale of assets or securities or
both, the Company may not be able to complete such sales in a timely manner or
on terms favorable to the Company.

         Consumer Spending
         The success of the Company is influenced by a number of economic
conditions affecting disposable consumer income, such as employment levels,
business conditions, interest rates and taxation rates. Adverse changes in these
economic conditions may restrict consumer spending, thereby negatively affecting
the Company's results of operations. In addition, the Company's results of
operations could be adversely affected if consumer spending is lower than
anticipated during the holiday season.

         Competition
         The markets in which the Company is engaged are highly competitive.

         NordicTrack competes with several companies which design, manufacture
and distribute physical fitness and exercise equipment, have greater financial
resources and offer a greater selection of products. During the past several
years, NordicTrack's competitors have introduced several new and competitive
products at competitive prices which have adversely affected NordicTrack's
revenues and profits. The future success of NordicTrack depends in part upon its
ability to introduce new and competitive products successfully, on a timely
basis and at competitive prices. The failure of NordicTrack to successfully
compete with its competitors could materially adversely affect the financial
condition of the Company.

         Many of the competitors of Smith & Hawken are larger companies with
greater financial resources, a greater selection of merchandise and nationwide
distribution, including a large number and wide variety of specialty retail
stores, discount stores and department stores. Smith & Hawken also competes with
mail order catalogs that sell gardening-related merchandise and independent
garden stores and plant nurseries in towns and cities throughout the United
States. The failure of Smith & Hawken to successfully compete with these
companies could adversely affect the Company's operating results.

         New Products
         Several new and enhanced products were introduced by the Company in
fiscal 1996 and fiscal 1997 and a new line of elliptical products will be
introduced in the fall of fiscal 1998. The Company's future financial
performance will depend on the continued market acceptance of the Company's
existing products and the successful development, introduction and customer
acceptance of new and enhanced products. If these products do not receive
favorable market acceptance, the Company's future operating results would be
adversely 


                                       21
<PAGE>   22
affected. There can be no assurance that the Company will be successful in
developing new products and marketing its existing or new products.

         New Management Team
         The Company has replaced a number of key executives at NordicTrack.
There can be no assurance, however, that the new personnel will be able to
successfully increase revenues or reduce costs at NordicTrack in the future.

         Seasonality
         The Company's businesses are seasonal, with significant amounts of
retail sales in the second and third fiscal quarters. The Company expects this
seasonality to continue in the future. Because of this seasonality, the
Company's revenues and earnings have fluctuated and will continue to fluctuate
from quarter to quarter.

         Advertising and Marketing Programs
         The Company's success in the markets in which it competes depends in
part upon the effectiveness of advertising and marketing programs of the Company
and the Company's ability to successfully manage its advertising in-house. The
inability of the Company to periodically design and successfully execute new and
effective advertising and marketing programs could adversely affect the
Company's operating results.

        Cost Reduction Programs
        In fiscal 1997 and 1996, the Company was able to significantly reduce
its operating costs as net sales decreased. There can be no assurance, however,
that the Company will be able to further reduce operating costs if sales
decline in the future.

         In addition, postage expenses associated with mailing catalogs and
shipping charges associated with acquiring and distributing products and
merchandise to customers are significant factors in the operation of the
Company's businesses. Increases in postage or shipping costs, or disruptions in
delivery and shipping services, could adversely affect the Company's operating
results.

         Intellectual Property Rights
         The Company will continue to be subject to the risk of adverse claims
and litigation alleging infringement of intellectual property rights. There can
be no assurance that third parties will not assert infringement claims in the
future with respect to the Company's current or future products or that any such
claims will not require the Company to enter into royalty arrangements or result
in costly litigation. While the Company believes that it currently has all
licenses necessary to conduct its business, no assurance can be given that
additional licenses will not be required in the future. Furthermore, no
assurance can be given that, if any additional licenses are required, such
licenses could be obtained on commercially reasonable terms.

         Tax Matters
         The Internal Revenue Service ("IRS") has been engaged in an examination
of the Company's tax returns for the fiscal years 1987 through 1991. The IRS has
indicated that it intends to mail an official assessment notice shortly
proposing certain adjustments which, if sustained by the IRS, would result in a
tax deficiency for the years under examination. The adjustments proposed by the
IRS primarily relate to: (i) the disallowance of deductions taken by the Company
with respect to incentive compensation payments of $43,000,000 made to the
former owners of NordicTrack (acquired in June 1986) pursuant to their
employment contracts; and (ii) incentive compensation payments made to the
former owners of Britches of Georgetowne (acquired in August 1983 and sold in
April 1996) pursuant to the terms of an earnout agreement and the valuation of
certain assets acquired in connection with the acquisition of Britches of
Georgetowne in the amount of $8,200,000. The net federal tax due relating to the
proposed adjustments approximates $16,200,000, excluding interest.

         The incentive compensation payments to the former owners of NordicTrack
were attributable to substantial increases in sales and profits at NordicTrack
during the years under examination. The Company believes that the tax deductions
taken were valid and in accordance with the Internal Revenue Code and intends to
vigorously oppose the proposed adjustments. However, at this stage no assurance
can be given of a favorable outcome on 


                                       22
<PAGE>   23
these matters. If the IRS proposed adjustments are sustained, any back taxes
owed and associated interest would have a material adverse effect on the
Company's consolidated operating results for the period in which such issues are
finally resolved and would also have a material adverse effect on the Company's
consolidated financial condition.


                                       23
<PAGE>   24
OTHER
         Inflation has not had a significant effect on the Company's operations.

         The Company is involved in various legal proceedings and claims and two
former subsidiaries of the Company are involved in two separate environmental
matters. See Note 9 of the Notes to Consolidated Financial Statements for
additional information on commitments and contingencies.

         The Company plans to adopt Statement of Financial Accounting Standards
("SFAS") No. 128, "Earnings per Share," SFAS No. 130, "Reporting Comprehensive
Income," and SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information," in fiscal 1998. The Company does not expect implementation
of SFAS No. 128 to have a material effect on reported earnings per share. The
Company is evaluating the impact that implementation of SFAS Nos. 130 and 131
will have on the consolidated financial statements.


Item 8.    Financial Statements and Supplementary Data.

           See the Index to the Company's Consolidated Financial Statements and
Financial Statement Schedule and the accompanying consolidated financial
statements, notes and schedules which are filed as part of this Form 10-K
following the signature page.


Item 9.    Changes in and Disagreements with Accountants on Accounting and 
           Financial Disclosure.

           Not applicable.



                                    PART III


Item 10.   Directors and Executive Officers of the Registrant.

           The response to this item is contained in part under the caption
"Executive Officers of the Company" in Part I hereof, and the remainder is
incorporated by reference to the Company's Proxy Statement for the Annual
Meeting of Stockholders to be held on December 5, 1997 (the "1997 Proxy
Statement") at "Election of Directors."

Item 11.   Executive Compensation.

           The response to this item is incorporated herein by reference to the
Company's 1997 Proxy Statement at "Election of Directors," "Compensation
Committee Report on Executive Compensation," "Compensation Committee Interlocks
and Insider Participation," "Summary Compensation," "Stock Option Grants,"
"Year-End Option Table" and "Comparative Stock Performance."

Item 12.   Security Ownership of Certain Beneficial Owners and Management.

           The response to this item is incorporated herein by reference to the
Company's 1997 Proxy Statement at "Security Ownership of Certain Beneficial
Owners and Management."

Item 13.   Certain Relationships and Related Transactions.

           Not applicable.


                                       24
<PAGE>   25
                                     PART IV


Item 14.   Exhibits, Financial Statement Schedules, and Reports on Form 8-K.

           (a) Documents filed as a part of this Form 10-K.

               1.   Consolidated Financial Statements. The Consolidated
                    Financial Statements listed in the Index to Consolidated
                    Financial Statements and Financial Statement Schedule are
                    filed as part of this Annual Report on Form 10-K.

               2.   Financial Statement Schedule. The Financial Statement
                    Schedule listed in the Index to Consolidated Financial
                    Statements and Financial Statement Schedule is filed as part
                    of this Annual Report on Form 10-K.

               3.   Exhibits. The Exhibits listed in the Exhibit Index
                    immediately preceding such Exhibits are filed as part of
                    this Annual Report on Form 10-K.

           (b) Reports on Form 8-K.

               None.


                                       25
<PAGE>   26
                                   SIGNATURES

         Pursuant to the requirements of Section 13 or 15(d) 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.

                                      CML GROUP, INC.

                                      By:   /s/Charles M. Leighton
                                            -----------------------------------
                                            Charles M. Leighton
                                            Chairman and Chief Executive Officer

                                      Date: October 29, 1997

         Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

<TABLE>
<CAPTION>
        Name                              Title                               Date
 --------------------                ------------------------             -------------
<S>                                  <C>                                  <C>    
                                     Chairman of the Board of       )
                                     Directors and Chief Executive  )
 /s/Charles M. Leighton              Officer (Principal Executive   )
---------------------------------    Officer)                       )
 Charles M. Leighton                 
                                                                    )
                                     Vice President, Finance and    )
 /s/Glenn E. Davis                   Chief Financial Officer        )
---------------------------------    (Principal Financial Officer)  )
 Glenn E. Davis                      
                                                                    )
 /s/Paul J. Bailey                   Controller                     )
---------------------------------    (Principal Accounting Officer) )
 Paul J. Bailey                      
                                                                    )
 /s/G. Robert Tod                    President, Chief Operating     )     October 29, 1997
---------------------------------    Officer and Director           )
 G. Robert Tod                       
                                                                    )
 /s/Howard H. Callaway               Director                       )
---------------------------------
Howard H. Callaway                                                  )
                                                                    )
 /s/Thomas H. Lenagh                 Director                       )
---------------------------------
Thomas H. Lenagh                                                    )
                                                                    )
 /s/Roy W. Menninger, MD             Director                       )
---------------------------------
Roy W. Menninger, MD                                                )
                                                                    )
 /s/Alison Taunton-Rigby             Director                       )
---------------------------------
Alison Taunton-Rigby                                                )
                                                                    )
 /s/Lauren M. Tyler                  Director                       )
---------------------------------
Lauren M. Tyler                                                     )
                                                                    )
 /s/Ralph F. Verni                   Director                       )
---------------------------------
Ralph F. Verni                                                      )
</TABLE>


                                       26
<PAGE>   27
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
                                       AND
                          FINANCIAL STATEMENT SCHEDULE
                                       OF
                                 CML GROUP, INC.

                                                                    Page No.
                                                                    --------
Consolidated Financial Statements:
       Independent Auditors' Report                                    28

       Consolidated Statements of Operations - Years Ended
              July 31, 1997, 1996 and 1995                             29

       Consolidated Balance Sheets - July 31, 1997
              and July 31, 1996                                      30 - 31

       Consolidated Statements of Cash Flows -
              Years Ended July 31, 1997, 1996 and 1995                 32

       Consolidated Statements of Changes in
              Stockholders' Equity - Years Ended July 31,
              1997, 1996 and 1995                                      33

       Notes to Consolidated Financial Statements                    34 - 46

Financial Statement Schedule:
       Schedule II - Valuation and Qualifying Accounts                 47


All other schedules are omitted because either they are not applicable or the
required information is included in the consolidated financial statements or
notes thereto.


                                       27
<PAGE>   28
                          INDEPENDENT AUDITORS' REPORT

To the Stockholders and Directors of CML Group, Inc.:

We have audited the accompanying consolidated balance sheets of CML Group, Inc.
and its subsidiaries as of July 31, 1997 and 1996, and the related consolidated
statements of operations, changes in stockholders' equity, and cash flows for
each of the years in the three-year period ended July 31, 1997. Our audits also
included the financial statement schedule listed in the Index at Item 14. These
financial statements and the financial statement schedule are the responsibility
of the management of CML Group, Inc. Our responsibility is to express an opinion
on the financial statements and the financial statement schedule based on our
audits.

We conducted our audits in accordance with generally accepted auditing
standards. 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, such consolidated financial statements present fairly, in all
material respects, the financial position of CML Group, Inc. and its
subsidiaries at July 31, 1997 and 1996, and the results of their operations and
their cash flows for each of the years in the three-year period ended July 31,
1997, in conformity with generally accepted accounting principles. Also, in our
opinion, the financial statement schedule, when considered in relation to the
basic consolidated financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.


DELOITTE & TOUCHE LLP

Boston, Massachusetts
September 29, 1997


                                       28
<PAGE>   29
CML Group, Inc. and Subsidiaries
Consolidated Statements of Operations
<TABLE>
<CAPTION>
                                                                                             Year Ended July 31,
-----------------------------------------------------------------------------------------------------------------------------------
                                                                                    1997                1996                   1995
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                         <C>                <C>                     <C>         
Net sales                                                                   $341,315,000        $544,905,000           $712,613,000
-----------------------------------------------------------------------------------------------------------------------------------

Less costs and expenses:
   Cost of goods sold                                                        164,081,000         256,738,000            283,338,000
   Selling, general and administrative expenses                              236,368,000         385,539,000            402,732,000
   Provision for loss on disposition of businesses
      held for sale (Note 4)                                                          --          30,824,000                     --
   Interest expense, net                                                       1,797,000           3,088,000              1,134,000
-----------------------------------------------------------------------------------------------------------------------------------
                                                                             402,246,000         676,189,000            687,204,000
-----------------------------------------------------------------------------------------------------------------------------------

Income (loss) from continuing operations before income
   taxes and extraordinary gain                                              (60,931,000)       (131,284,000)            25,409,000
Provision (benefit) for income taxes (Notes 7 and 9)                         (20,717,000)        (46,475,000)             9,503,000
-----------------------------------------------------------------------------------------------------------------------------------

Income (loss) from continuing operations
   before extraordinary gain                                                 (40,214,000)        (84,809,000)            15,906,000
-----------------------------------------------------------------------------------------------------------------------------------

Loss from discontinued operations (Note 3):
   Loss from operations, net of income taxes                                          --                  --             (1,346,000)
   Provision for loss on disposal of discontinued operations,
      net of income tax benefit                                                       --         (15,615,000)           (35,678,000)
-----------------------------------------------------------------------------------------------------------------------------------
                                                                                      --         (15,615,000)           (37,024,000)
-----------------------------------------------------------------------------------------------------------------------------------

Loss before extraordinary gain                                               (40,214,000)       (100,424,000)           (21,118,000)
Extraordinary gain, net of income taxes of $1,313,000 (Note 6)                        --                  --              2,198,000
-----------------------------------------------------------------------------------------------------------------------------------
Net loss                                                                    ($40,214,000)      ($100,424,000)          ($18,920,000)
-----------------------------------------------------------------------------------------------------------------------------------

Earnings (loss) per share (Note 1):
   Income (loss) from continuing operations
      before extraordinary gain
         Primary                                                                  ($0.81)             ($1.72)                 $0.32
         Fully diluted                                                            ($0.81)             ($1.72)                 $0.32
   Loss before extraordinary gain
         Primary                                                                  ($0.81)             ($2.04)                ($0.42)
         Fully diluted                                                            ($0.81)             ($2.04)                ($0.42)
   Net loss
         Primary                                                                  ($0.81)             ($2.04)                ($0.38)
         Fully diluted                                                            ($0.81)             ($2.04)                ($0.38)
-----------------------------------------------------------------------------------------------------------------------------------
Weighted average number of shares                                             49,976,895          49,643,316             50,381,718
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>


See Notes to Consolidated Financial Statements.


                                       29
<PAGE>   30
CML Group, Inc. and Subsidiaries
Consolidated Balance Sheets

<TABLE>
<CAPTION>
                                                                                                       July 31,
---------------------------------------------------------------------------------------------------------------------------
Assets                                                                                       1997                      1996
---------------------------------------------------------------------------------------------------------------------------
<S>                                                                                 <C>                        <C>         
Current assets:
Cash and cash equivalents                                                           $   4,359,000              $ 17,673,000
Accounts receivable - trade, less allowance for doubtful accounts
   of $2,706,000 in 1997 and $3,488,000 in 1996                                         8,151,000                10,570,000
Refundable income taxes (Note 7)                                                               --                53,874,000
Deferred income taxes (Notes 1, 7 and 9)                                                3,903,000                 6,102,000
Inventories (Note 1):
   Raw materials                                                                        1,971,000                 2,742,000
   Work in process                                                                        836,000                 1,875,000
   Finished goods                                                                      31,115,000                25,817,000
---------------------------------------------------------------------------------------------------------------------------

Total inventories                                                                      33,922,000                30,434,000
Other current assets (Note 1)                                                           8,479,000                16,270,000
---------------------------------------------------------------------------------------------------------------------------
Total current assets                                                                   58,814,000               134,923,000
---------------------------------------------------------------------------------------------------------------------------

Property, plant and equipment (Notes 1 and 9):
   Land and buildings                                                                  19,404,000                20,071,000
   Machinery and equipment                                                             45,257,000                43,739,000
   Leasehold improvements                                                              30,020,000                31,628,000
---------------------------------------------------------------------------------------------------------------------------

                                                                                       94,681,000                95,438,000
   Less accumulated depreciation                                                       46,223,000                37,279,000
---------------------------------------------------------------------------------------------------------------------------

Property, plant and equipment, net                                                     48,458,000                58,159,000
Goodwill (Note 1)                                                                       8,546,000                 8,782,000
Deferred income taxes (Notes 1, 7 and 9)                                               24,412,000                 5,295,000
Other assets                                                                            6,106,000                 6,192,000
---------------------------------------------------------------------------------------------------------------------------
                                                                                     $146,336,000              $213,351,000
===========================================================================================================================
</TABLE>


See Notes to Consolidated Financial Statements.


                                       30
<PAGE>   31
CML Group, Inc. and Subsidiaries
Consolidated Balance Sheets

<TABLE>
<CAPTION>
                                                                                                       July 31,
---------------------------------------------------------------------------------------------------------------------------
Liabilities and Stockholders' Equity                                                         1997                      1996
---------------------------------------------------------------------------------------------------------------------------
<S>                                                                                  <C>                       <C>             
Current liabilities:
Current portion of long-term debt (Note 5)                                             $   35,000                $   49,000
Accounts payable                                                                       10,839,000                23,582,000
Accrued compensation                                                                    4,339,000                 6,385,000
Accrued advertising                                                                     1,514,000                 8,260,000
Accrued insurance                                                                       4,544,000                 5,706,000
Accrued lease termination costs                                                         2,587,000                 5,760,000
Other accrued expenses                                                                 25,261,000                29,018,000
---------------------------------------------------------------------------------------------------------------------------
Total current liabilities                                                              49,119,000                78,760,000
---------------------------------------------------------------------------------------------------------------------------
Noncurrent liabilities:
Long-term debt (Note 5)                                                                   245,000                   276,000
Convertible subordinated debentures (Note 6)                                           41,593,000                41,593,000
Other noncurrent liabilities (Note 9)                                                   9,651,000                 6,925,000
---------------------------------------------------------------------------------------------------------------------------
Total noncurrent liabilities                                                           51,489,000                48,794,000
---------------------------------------------------------------------------------------------------------------------------
Commitments and contingencies (Note 9)

Stockholders' equity (Notes 1, 8 and 10):
Common stock, par value $.10 per share
   Authorized - 120,000,000 shares
   Issued - 52,738,268 shares in 1997 and 52,623,704 shares in 1996                     5,274,000                 5,262,000
Additional paid-in capital                                                             80,654,000                81,082,000
Retained earnings (deficit)                                                            (3,642,000)               37,066,000
---------------------------------------------------------------------------------------------------------------------------
                                                                                       82,286,000               123,410,000
Less treasury stock, at cost, 2,901,401 shares in 1997
   and 2,963,433 shares in 1996                                                        36,558,000                37,613,000
---------------------------------------------------------------------------------------------------------------------------
                                                                                       45,728,000                85,797,000
---------------------------------------------------------------------------------------------------------------------------
                                                                                     $146,336,000              $213,351,000
===========================================================================================================================
</TABLE>


See Notes to Consolidated Financial Statements.


                                       31
<PAGE>   32
CML Group, Inc. and Subsidiaries
Consolidated Statements of Cash Flows

<TABLE>
<CAPTION>
                                                                                                 Year Ended July 31,
----------------------------------------------------------------------------------------------------------------------------------
                                                                                     1997                1996                 1995
----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                           <C>               <C>                  <C>
Cash flows from operating activities:
   Net loss                                                                   ($ 40,214,000)    ($100,424,000)       ($ 18,920,000)
----------------------------------------------------------------------------------------------------------------------------------
   Adjustments to reconcile net loss to net cash
   provided by (used in) operating activities:
      Gain on acquisition of convertible subordinated debentures                         --                --           (3,511,000)
      Depreciation and amortization                                              14,830,000        28,738,000           30,723,000
      Provision for loss on disposition of businesses held for sale                      --        30,824,000                   --
      Provision for loss on disposal of discontinued operations                          --        24,023,000           40,988,000
      Royalty settlement                                                                 --         1,367,000                   --
      Loss on disposal of property, plant and equipment                           1,800,000         2,465,000            4,475,000
      Changes in assets and liabilities:
         Accounts receivable - trade                                              2,419,000        35,663,000          (10,865,000)
         Refundable income taxes                                                 53,874,000       (53,874,000)                  --
         Inventories                                                             (3,488,000)        3,864,000           (3,759,000)
         Other current assets                                                     1,345,000        19,955,000           (5,391,000)
         Deferred income taxes                                                  (16,918,000)        2,135,000           (1,054,000)
         Accounts payable and accrued expenses                                  (29,627,000)        6,470,000             (410,000)
         Accrued income taxes                                                            --        (1,833,000)            (572,000)
         Other assets and noncurrent liabilities                                  2,706,000           179,000           (1,149,000)
----------------------------------------------------------------------------------------------------------------------------------
   Total adjustments                                                             26,941,000        99,976,000           49,475,000
----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) operating activities                             (13,273,000)         (448,000)          30,555,000
----------------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
   Acquisitions of property, plant and equipment                                 (5,931,000)      (21,555,000)         (36,291,000)
   Net proceeds from sale of discontinued operations                              1,658,000        11,618,000                   --
   Net proceeds from sale of business held for sale                               4,368,000        34,870,000                   --
   Reduction in notes receivable                                                     41,000            52,000                   --
----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) investing activities                                 136,000        24,985,000          (36,291,000)
----------------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
   Increase in long-term debt                                                            --           289,000           10,000,000
   Reduction in long-term debt                                                      (45,000)      (10,249,000)          (1,233,000)
   Dividends paid                                                                  (494,000)       (4,189,000)          (4,236,000)
   Exercise of stock options and employee stock purchase rights                     362,000           242,000            1,000,000
   Acquisition of convertible subordinated debentures                                    --                --          (11,991,000)
   Acquisition of treasury shares                                                        --        (1,295,000)          (8,395,000)
----------------------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities                                              (177,000)      (15,202,000)         (14,855,000)
----------------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents                            (13,314,000)        9,335,000          (20,591,000)
Cash and cash equivalents at beginning of year                                   17,673,000         8,338,000           28,929,000
----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year                                       $  4,359,000      $ 17,673,000         $  8,338,000
----------------------------------------------------------------------------------------------------------------------------------

Supplemental disclosures of cash flow information: Cash paid during the year
for:
   Interest                                                                      $2,579,000      $  3,520,000         $  3,302,000
----------------------------------------------------------------------------------------------------------------------------------
   Income taxes                                                                    $444,000      $  1,317,000          $17,580,000
----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

The Company did not record any tax benefits resulting from the exercise of stock
options in fiscal 1997 and recorded tax benefits of $59,000 and $91,000 during
fiscal 1996 and 1995, respectively.

See Notes to Consolidated Financial Statements.


                                       32
<PAGE>   33
CML Group, Inc. and Subsidiaries
Consolidated Statements of Changes in Stockholders' Equity

<TABLE>
<CAPTION>
                                                      Common Stock                            Retained        Treasury Stock
                                               -----------------------      Additional        Earnings      -------------------
                                                  Shares     Par Value    Paid-in-Capital    (Deficit)      Shares         Cost
----------------------------------------------------------------------------------------------------------------------------------
<S>                                            <C>          <C>            <C>             <C>            <C>          <C>        
Balance, August 1, 1994                        51,851,180   $5,185,000     $78,736,000     $163,825,000   1,865,941    $28,509,000
Exercise of stock options                         172,470       17,000         645,000               --          --             --
Employee stock purchase plan sales                 53,024        5,000         333,000               --          --             --
Tax benefit from exercise of stock options             --           --          91,000               --          --             --
Acquisition of treasury shares                         --           --              --               --     931,850      8,395,000
Cash dividends ($0.09 per share)                       --           --              --       (4,461,000)         --             --
Net loss                                               --           --              --      (18,920,000)         --             --
----------------------------------------------------------------------------------------------------------------------------------
Balance, July 31, 1995                         52,076,674    5,207,000      79,805,000      140,444,000   2,797,791     36,904,000
Exercise of stock options                         102,360       10,000         311,000               --      38,857        204,000
Employee stock purchase plan sales &
   benefit plan contributions                      91,729        9,000        (425,000)              --    (62,215)       (790,000)
Royalty settlement                                352,941       36,000       1,332,000               --         --              --
Tax benefit from exercise of stock options             --           --          59,000               --         --              --
Acquisition of treasury shares                         --           --              --               --    189,000       1,295,000
Cash dividends ($0.06 per share)                       --           --              --       (2,954,000)        --              --
Net loss                                               --           --              --     (100,424,000)        --              --
----------------------------------------------------------------------------------------------------------------------------------
Balance, July 31, 1996                         52,623,704    5,262,000      81,082,000       37,066,000   2,963,433     37,613,000
Exercise of stock options                         138,960       14,000         366,000               --      29,333         99,000
Employee stock purchase plan sales &
   benefit plan contributions                     (24,396)      (2,000)       (794,000)              --     (91,365)    (1,154,000)
Cash dividends ($0.01 per share)                       --           --              --         (494,000)         --             --
Net loss                                               --           --              --      (40,214,000)         --             --
----------------------------------------------------------------------------------------------------------------------------------
Balance, July 31, 1997                         52,738,268   $5,274,000     $80,654,000      ($3,642,000)  2,901,401    $36,558,000
==================================================================================================================================
</TABLE>


See Notes to Consolidated Financial Statements.


                                       33
<PAGE>   34
CML Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements

Note 1 - Summary of Significant Accounting Policies

Basis of Consolidation
The consolidated financial statements include the accounts of CML Group, Inc.
and its wholly-owned subsidiaries (the "Company"). All significant intercompany
transactions and balances are eliminated.

Cash Equivalents
The Company considers all highly liquid debt instruments with purchased
remaining maturities of three months or less to be cash equivalents. Cash
equivalents consist primarily of money market mutual funds.

Inventories
Inventories are stated at the lower of cost or market with cost being determined
by either the first-in, first-out or average cost methods.

Direct Response and Catalog Costs
Costs of direct response and catalogs are amortized in proportion to the sales
they generate over periods not exceeding three months and six months,
respectively. Direct response and catalog costs are included in other current
assets. Direct response advertising expenses of the Company were $72,149,000,
$113,213,000 and $133,456,000 in fiscal 1997, 1996 and 1995, respectively.

Property, Plant and Equipment
Property, plant and equipment are stated at cost and depreciated using the
straight-line method over their estimated useful lives which range from three to
forty years or over the terms of the related leases, if such periods are
shorter.

Goodwill
Goodwill is amortized on a straight-line basis over forty years. On an annual
basis, the Company reviews the carrying value of goodwill against projections of
undiscounted cash flows to evaluate the propriety of its carrying value and
amortization period. Accumulated amortization was $966,000 at July 31, 1997 and
$730,000 at July 31, 1996. The Company wrote off the goodwill and accumulated
amortization relating to The Nature Company and Britches of Georgetowne
("Britches") in fiscal 1996 and 1995 in connection with their respective
dispositions.

Income Taxes
Deferred income taxes reflect the tax effects of temporary differences between
financial reporting and income tax reporting which result principally from the
valuation of finished goods inventories, the treatment of prepaid and accrued
expenses, net operating losses and depreciation methods.

Earnings (Loss) Per Share
Primary earnings (loss) per share are calculated using the weighted average
number of common and common equivalent shares outstanding during the year. Fully
diluted earnings (loss) per share assume that the convertible subordinated
debentures were converted at the beginning of the year and net income (loss) was
adjusted for the resultant reduction in interest costs, net of tax.

New Accounting Standards
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standards ("SFAS") No. 128, "Earnings per Share," in February 1997
and SFAS No. 130, "Reporting Comprehensive Income," and SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information," in June
1997. The Company will adopt these statements in fiscal 1998 but does not expect
them to have a material effect on reported earnings per share or the
consolidated financial statements.


                                       34
<PAGE>   35
The Company adopted SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of," in fiscal 1997. Adoption of
SFAS No. 121 did not have a material effect on the Company's consolidated
financial statements.

SFAS No. 123, "Accounting for Stock-Based Compensation," requires the Company to
disclose, if material, the pro forma impact on fiscal 1997 and 1996 earnings
and earnings per share from application of the fair value method of calculating
employee stock-based compensation. The pro forma impact was not material. The
Company continues to measure employee stock-based compensation in its
consolidated financial statements according to Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," as permitted by SFAS
No. 123.

Use of Estimates
The preparation of consolidated financial statements in accordance with
generally accepted accounting principles requires the Company to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingencies at the date of the consolidated financial statements
and the reported amount of revenues and expenses during the period. Actual
results could differ from those estimates.

Reclassifications
Certain fiscal 1996 and 1995 amounts have been reclassified to conform to the
fiscal 1997 presentation.

Note 2 - Management's Plan

During fiscal 1997 and fiscal 1996, the Company incurred losses from continuing
operations of $40.2 million and $84.8 million, respectively. The fiscal 1997
loss was primarily due to the operating loss at NordicTrack resulting from the
significant decrease in sales of aerobic exercise products including
cross-country skiers, non-motorized treadmills and riders, partially offset by
lower operating costs. The loss reported for fiscal 1996 was primarily
attributable to operating losses incurred by The Nature Company and Hear Music
before those subsidiaries were sold, the write-down recorded in anticipation of
the sale of The Nature Company and Hear Music and the operating loss incurred by
NordicTrack due to a significant decrease in sales partially offset by lower
operating costs. In addition, the Company is subject to certain contingent
liabilities discussed in Note 9.

The Company's fiscal 1998 financial performance primarily depends upon
NordicTrack's ability to increase sales and control costs. In October 1997,
NordicTrack introduced the Ellipse(TM), a new aerobic exercise product which
utilizes a floating crank mechanism to provide a smooth, quiet elliptical
motion. In addition, NordicTrack has announced plans to introduce two new
anaerobic exercise products, a new spot-toning product and a re-designed line of
motorized treadmills. It is anticipated that the new and re-designed products
will result in higher sales at NordicTrack in fiscal 1998. In addition, a series
of cost reduction programs were initiated in fiscal 1997 and 1996 which
management believes will result in improved cost control in fiscal 1998 and
beyond.

The Company's future financial performance will also depend upon its ability to
purchase goods and services on credit and to borrow funds under its revolving
credit agreement. If necessary, the Company may elect to raise additional funds
through the sale of assets or through public or private financing transactions
or both.

Ultimately, the Company's ability to meet its obligations as they come due
depends upon the attainment of profitable operations, accessibility to credit to
purchase goods and services, the successful introduction of new products and
effective cost control programs.


                                       35
<PAGE>   36
Note 3 - Discontinued Operations

On April 12, 1996, the Company sold the common stock of its Britches subsidiary
for $13,400,000 in cash plus the assumption of certain liabilities. The Company
recorded after tax provisions for loss on the disposal of Britches of
$15,615,000 in fiscal 1996 and $35,678,000 in fiscal 1995. The respective income
tax benefits recorded in conjunction with the provisions for loss on disposal
were $8,408,000 and $5,310,000. Britches' net sales were $89,285,000 in fiscal
1996 and $127,034,000 in fiscal 1995. The loss from operations is shown net of
an income tax benefit of $627,000 for fiscal 1995.

Note 4 - Divestiture of The Nature Company and Hear Music

The Company decided to divest its Nature Company and Hear Music subsidiaries
during the third quarter of fiscal 1996. Included in the loss from continuing
operations for fiscal 1996 is a pre-tax charge of $30,824,000 to write down the
net assets of The Nature Company and Hear Music to estimated net realizable
value and to accrue estimated lease termination and assignment costs and other
transaction costs. The Nature Company and Hear Music had sales of $112,705,000
and $156,185,000 in fiscal 1996 and 1995, respectively, and pre-tax operating
losses of $14,242,000 in fiscal 1996, excluding the $30,824,000 write-down
recorded in anticipation of the sale of The Nature Company and Hear Music, and
$14,161,000 in fiscal 1995.


                                       36
<PAGE>   37
On June 6, 1996, substantially all of the assets of The Nature Company were sold
for $39,870,000 in cash (including $1,003,000 held in escrow at July 31, 1997)
and the assumption of certain liabilities. On October 23, 1996, the Company sold
substantially all of the assets of Hear Music for $371,000 in cash plus the
assumption of certain liabilities.

Note 5 - Long-Term Debt

Long-term debt consisted of the following at July 31:

<TABLE>
<CAPTION>
                                                                   1997                      1996
-------------------------------------------------------------------------------------------------
<S>                                                             <C>                       <C>    
Revolving credit loan                                           $    --                   $    --
Note payable                                                    233,000                   250,000
Obligations under capital leases (Note 9)                        47,000                    75,000
-------------------------------------------------------------------------------------------------
                                                                280,000                   325,000
Less current portion                                             35,000                    49,000
-------------------------------------------------------------------------------------------------
Long-term debt                                                 $245,000                  $276,000
=================================================================================================
</TABLE>

Revolving Credit Agreement
On April 17, 1996, the Company entered into a senior secured revolving credit
agreement which was amended and restated on August 28, 1997. The amended
agreement, which expires on April 15, 1999, provides for total borrowings and
letters of credit of up to $40,000,000 based upon a percentage of eligible
accounts receivable and inventories. The agreement also provides for an
overadvance facility of up to $15,000,000 for a period of 90 consecutive days
between September 1 and December 31 of each year. All loans outstanding under
the agreement must be paid down for a period of 45 consecutive days between
December 15 and July 31 of each year. The agreement is secured by the Company's
assets and the shares and guarantees of the Company's subsidiaries and includes
provisions which require the Company to meet specified levels of profitability
and solvency. The Company also must meet certain financial covenants under the
agreement in order to pay cash dividends. The agreement also provides for a
reduction in the total commitment for net cash proceeds received from the sale
of assets not in the ordinary course of business or the issuance of subordinated
debt or equity securities. Advances outstanding under the agreement bear
interest at 0.75% above the lender's "Base Rate", which approximates the
lender's prime rate, or at 2.75% above the "Eurodollar Rate," except advances
under the overadvance facility which bear interest at the Base Rate plus 2.00%.
At July 31, 1997, the lender's Base Rate was 8.50%. The Company is required to
pay a commitment fee of 0.50% of the unused commitment.

The Company's borrowings under the agreement averaged $8,000 during fiscal 1997
with a maximum of $536,000 outstanding at any time. The average interest rate on
advances outstanding during the year was 9.00%. At July 31, 1997, the Company
had no loans outstanding under the agreement.

Note Payable
The note payable, which bears interest at 6.0%, is due in monthly installments
of approximately $3,000 and matures on August 1, 2006.

Product Financing Arrangements
The Company has entered into two product financing arrangements, one in fiscal
1996 with limited recourse and the other in fiscal 1997 with full recourse.
Under the arrangement with limited recourse, the Company assumes all risk of
credit loss on bad debts between 4% and 8% of average receivables; at July 31,
1997 the receivable portfolio balance under this arrangement was $31,596,000.
The Company is responsible for all bad debts under the financing arrangement
with full recourse; the receivable portfolio balance under this arrangement was
$2,937,000 at July 31, 1997. Both arrangements require the Company to pay the
financing company, on a monthly basis, an amount equal to the difference between
the average monthly high-grade commercial paper rate, which was 5.57% at July
31, 1997, and 5.75% on the average portfolio balance. The arrangement with
limited recourse is a five year contract that may be terminated during the first
three years upon six months notice. The arrangement with full recourse expires
in November 1997.


                                       37
<PAGE>   38
Note 6 - Convertible Subordinated Debentures

On January 20, 1993, the Company issued $57,500,000 of 5-1/2% convertible
subordinated debentures due January 15, 2003. During fiscal 1995, the Company
repurchased $15,907,000 principal amount of the debentures and recorded an
extraordinary gain of $2,198,000, net of income taxes of $1,313,000. Interest on
the debentures outstanding is payable semi-annually in arrears on January 15 and
July 15 of each year. The debentures are convertible into shares of the
Company's common stock at a conversion price of $25.917 per share, subject to
adjustment under certain circumstances. The debentures are redeemable at the
option of the Company, in whole or in part, at redemption prices which decrease
from 101-1/2% for the 12 month period beginning January 15, 1997 to par as of
January 15, 1998. The estimated fair value of the convertible subordinated
debentures was approximately $30,155,000 at July 31, 1997 and at July 31, 1996,
based upon quoted market prices. All other financial instruments are carried at
amounts that approximate fair value.


                                       38
<PAGE>   39
Note 7 - Income Taxes

The provision (benefit) for income taxes consists of the following:

<TABLE>
<CAPTION>
                                                            Year Ended July 31,
-------------------------------------------------------------------------------------------
                                                    1997              1996             1995
-------------------------------------------------------------------------------------------
<S>                                       <C>                 <C>                <C>       
Current
   Federal                                $       31,000      ($48,740,000)      $9,311,000
   State and foreign                             106,000           143,000        1,856,000
-------------------------------------------------------------------------------------------

                                                 137,000       (48,597,000)      11,167,000
Deferred
   Federal                                   (20,084,000)          778,000       (1,555,000)
   State and foreign                            (770,000)        1,344,000         (109,000)
-------------------------------------------------------------------------------------------

Total                                       ($20,717,000)     ($46,475,000)      $9,503,000
===========================================================================================

Continuing operations                       ($20,717,000)     ($46,475,000)      $9,503,000
Discontinued operations                               --        (8,408,000)      (5,937,000)
Extraordinary gain (Note 6)                           --                --        1,313,000
-------------------------------------------------------------------------------------------

Total                                       ($20,717,000)     ($54,883,000)      $4,879,000
===========================================================================================
</TABLE>

The sources of prepaid and deferred income taxes and the related tax effect are
as follows:

<TABLE>
<CAPTION>
                                                           July 31,
--------------------------------------------------------------------------
                                                    1997              1996
--------------------------------------------------------------------------
<S>                                         <C>               <C>         
Current Assets
   Inventories                              $  2,343,000      $  2,165,000
   Depreciation and amortization                      --         2,245,000
   Compensation expenses                         380,000         1,166,000
   Occupancy expenses                            335,000         2,152,000
   Receivable reserves                           853,000         2,174,000
   Other                                       2,015,000         2,223,000
   Less valuation allowance                   (1,134,000)       (4,167,000)
--------------------------------------------------------------------------
                                               4,792,000         7,958,000
--------------------------------------------------------------------------
Noncurrent Assets
   Depreciation and amortization                 999,000            33,000
   Net operating losses                       27,221,000         2,041,000
   Insurance expenses                          1,554,000         1,911,000
   Occupancy expenses                            897,000           358,000
   Alternative minimum tax credit              2,270,000         2,270,000
   Other                                          20,000         3,704,000
   Less valuation allowance                   (7,095,000)       (3,616,000)
--------------------------------------------------------------------------
                                              25,866,000         6,701,000
--------------------------------------------------------------------------
Total assets                                 $30,658,000       $14,659,000
==========================================================================
Current Liabilities
   Catalog costs                            $    494,000      $    667,000
   Advertising costs                             234,000           955,000
   Other                                         161,000           234,000
--------------------------------------------------------------------------
                                                 889,000         1,856,000
--------------------------------------------------------------------------
Noncurrent Liabilities
   Goodwill                                    1,454,000         1,401,000
   Other                                              --             5,000
--------------------------------------------------------------------------
                                               1,454,000         1,406,000
--------------------------------------------------------------------------
Total liabilities                           $  2,343,000      $  3,262,000
==========================================================================
Total net deferred taxes                     $28,315,000       $11,397,000
==========================================================================
</TABLE>

The valuation allowance increased by $446,000 during fiscal 1997 to $8,229,000
at July 31, 1997 primarily due to foreign related losses. The July 31, 1997
valuation allowance primarily relates to foreign net operating loss
carryforwards that may not be realized and the alternative minimum tax credit.
The valuation allowance at July 31, 1996 of $7,783,000 includes a net increase
during fiscal 1996 of $4,261,000 primarily due to foreign losses and the
alternative minimum tax credit. The July 31, 1996 valuation allowance primarily
relates to foreign net 


                                       39
<PAGE>   40
operating loss carryforwards that may not be realized and the alternative
minimum tax credit. The valuation allowance at July 31, 1995 of $3,522,000
includes a net increase during fiscal 1995 of $518,000 primarily due to foreign
losses. The July 31, 1995 valuation allowance primarily relates to future
deductible amounts of a capital nature and net operating loss carryforwards that
may not be realized. Net operating loss carryforwards begin expiring in 2000.

A reconciliation of the statutory federal income tax rate to the effective tax
rate for continuing operations is as follows:

<TABLE>
<CAPTION>
                                                         1997            1996          1995
-------------------------------------------------------------------------------------------
<S>                                                     <C>             <C>            <C>  
Statutory federal income tax rate                       (34.0%)         (35.0%)        35.0%
State and foreign income taxes
   net of federal tax effect                              0.2            (0.5)          5.1
Amortization of goodwill                                   --              --           0.2
Benefit of foreign sales corporation                     (0.1)           (0.2)         (1.0)
Research and development credits                           --              --          (0.8)
Other                                                    (0.1)            0.3          (1.1)
-------------------------------------------------------------------------------------------
Effective tax rate                                      (34.0%)         (35.4%)        37.4%
===========================================================================================
</TABLE>

Note 8 - Stock Options, Stock Purchase Plans and Employee Benefit Plan

Stock Option Plans
At July 31, 1997, there were 571,518 and 2,663,650 shares reserved for issuance
pursuant to the Company's 1982 and 1991 Stock Option Plans, respectively. The
terms of both Plans generally provide for options to be granted at fair market
value as of the date of grant for a term of no longer than ten years. The
options generally become exercisable over the first four years.

At July 31, 1997, there were 54,000 and 250,000 shares reserved for issuance
pursuant to the Company's 1993 and 1996 Director Option Plans, respectively. The
terms of both Plans generally provide for options to be granted to non-employee
directors at fair market value as of the date of grant for a term of ten years.
The options vest in three equal annual installments beginning on the first
anniversary of the date of grant.

Combined activity under the Company's option plans is summarized as follows:

<TABLE>
<CAPTION>
                                     Outstanding Options              Exercisable Options
                                ------------------------------     ---------------------------
                                              Weighted Average                Weighted Average
                                 Number        Exercise Price      Number      Exercise Price
<S>                             <C>              <C>              <C>               <C>  
Balance at August 1, 1994       2,006,093        $  9.45
   Granted                        392,472           7.94
   Exercised                     (172,470)          3.84
   Terminated                    (187,900)         16.66
----------------------------------------------------------------------------------------------
Balance at July 31, 1995        2,038,195        $  8.97          1,359,209         $7.39
   Granted                        553,728           5.03
   Exercised                     (102,360)          3.14
   Terminated                    (212,160)         13.72
----------------------------------------------------------------------------------------------
Balance at July 31, 1996        2,277,403        $  7.83          1,422,192         $7.91
   Granted                        584,000           3.53
   Exercised                     (138,960)          2.74
   Terminated                    (385,475)          9.45
----------------------------------------------------------------------------------------------
Balance at  July 31, 1997       2,336,968        $  6.79          1,438,088         $8.01
==============================================================================================
</TABLE>


Outstanding options at July 31, 1997 with exercise prices under $10.00 consisted
of 2,010,468 options with a weighted average exercise price of $5.03 and a
weighted average remaining life of 4.7 years, of which 1,126,238 were
exercisable. The remaining 326,500 outstanding options at July 31, 1997 had
exercise prices between $10.00 and $30.00 with a weighted average exercise price
of $17.62 and a weighted average remaining life of 5.7 years, of which 311,850
were exercisable at July 31, 1997. There were 791,228 outstanding options and
545,657


                                       40
<PAGE>   41
exercisable options at July 31, 1997 with exercise prices at or below the July
31, 1997 closing stock price of $3.56.

Employee Stock Purchase Plans
The Company's 1996 Employee Stock Purchase Plan authorizes the issuance of
975,000 shares in three annual offerings of 325,000 shares, plus the shares not
purchased in prior offerings. Under the second offering, which ends June 14,
1998, 340 employees have elected to receive 391,985 shares. Under the first
offering, which ended June 14, 1997, 37,819 shares were issued to employees at a
price of $2.13 per share.

The Company's 1993 Employee Stock Purchase Plan authorized the issuance of
900,000 shares in three annual offerings ending June 14, 1994, 1995 and 1996.
The first, second and third offerings resulted in the issuance of 51,972, 53,024
and 29,514 shares to 595, 290 and 79 employees at a price of $11.90, $6.38 and
$4.25 per share, respectively.

Employee Benefit Plan
The Company maintains a defined contribution benefit plan covering substantially
all of its employees. The Company makes annual contributions to the plan based
on a percentage of employee compensation as provided by the terms of the plan.
Contributions by the Company to the plan charged to operations in fiscal 1997,
1996 and 1995 were $501,000, $1,010,000 and $2,113,000, respectively.

Note 9 - Commitments and Contingencies

Leases
The Company leases certain manufacturing and distribution facilities, retail
space and vehicles and equipment under agreements expiring over the next 15
years. Most of the leases for retail space provide for renewal options, contain
normal escalation clauses and require the Company to pay real estate taxes and
other expenses.

Capital leases, which consist of vehicles included in machinery and equipment in
the consolidated financial statements, are as follows:

<TABLE>
<CAPTION>
                                                                          July 31,
--------------------------------------------------------------------------------------------
                                                                 1997                   1996
--------------------------------------------------------------------------------------------
<S>                                                           <C>                   <C>     
Machinery and equipment                                       $73,000               $147,000
Less accumulated amortization                                  41,000                 95,000
--------------------------------------------------------------------------------------------
Machinery and equipment, net                                  $32,000               $ 52,000
============================================================================================
</TABLE>


Future minimum lease payments under leases that have initial or remaining
noncancelable lease terms in excess of one year at July 31, 1997 are as follows:

<TABLE>
<CAPTION>
                                                                Capital           Operating
                                                                 Leases              Leases
-------------------------------------------------------------------------------------------
<S>                                                             <C>             <C>        
Year ending July 31:
1998                                                            $20,000         $13,440,000
1999                                                             34,000          11,829,000
2000                                                                 --           9,836,000
2001                                                                 --           8,009,000
2002                                                                 --           6,512,000
Thereafter                                                           --          16,190,000
-------------------------------------------------------------------------------------------

Total minimum lease payments                                     54,000          65,816,000
Less portion representing interest                                7,000                  --
-------------------------------------------------------------------------------------------
                                                                $47,000         $65,816,000
-------------------------------------------------------------------------------------------
</TABLE>

The total minimum payments required under operating leases do not include
contingent rentals which may be paid under certain store leases on the basis of
a percentage of sales in excess of stipulated amounts. The total amount of
rentals charged to operations in fiscal 1997, 1996 and 1995 was $25,633,000,
$53,616,000 and $47,415,000, respectively. Contingent rentals were approximately
$500,000 in fiscal 1997, $3,317,000 in fiscal 1996 and $5,406,000 in fiscal
1995. Included in other noncurrent liabilities at July 31, 1997 and 1996 were
store construction 


                                       41
<PAGE>   42
credits of $1,387,000 and $1,535,000, respectively, and deferred rent
liabilities of $366,000 and $282,000, respectively.


                                       42
<PAGE>   43

Litigation
NordicTrack is the defendant in a Consolidated Class Action Complaint
("Consolidated Complaint") filed on September 25, 1996 in the United States
District Court for the Southern District of New York. The named plaintiffs,
Elissa Crespi and John Lucien Ware, Jr., allege in the Consolidated Complaint
that NordicTrack made false and misleading claims in its advertising concerning
the weight loss of persons using its ski exercisers by misrepresenting and
failing to disclose material findings of weight loss studies conducted by or on
behalf of NordicTrack. They assert claims of common law fraud, fraudulent
concealment, negligent misrepresentation and omission, breach of express and
implied warranties, and violation of Section 349 of the New York General
Business Law. They also seek to represent a class allegedly consisting of all
persons in the United States who purchased a NordicTrack ski exerciser during
the period from November 15, 1993 to April 10, 1996, excluding NordicTrack and
its employees. On behalf of themselves and the alleged class, the plaintiffs
seek unspecified actual and punitive damages with interest, rescission,
attorneys' fees, costs, an order requiring NordicTrack to make corrective
disclosures, and the imposition of a constructive trust. NordicTrack filed a
motion for transfer of venue to the United States District Court for the
District of Minnesota, which was allowed in early 1997. On September 2, 1997,
the named plaintiffs filed a motion to remand the case to New York State Court,
which NordicTrack intends to oppose. The parties have conducted some discovery.
While NordicTrack believes it has meritorious defenses to the Consolidated
Complaint and intends to vigorously defend against the allegations, this lawsuit
is still in an early stage and the Company is unable to determine the likelihood
and possible impact on the Company's consolidated financial condition or results
of operations of an unfavorable outcome.

NordicTrack is the defendant in a lawsuit in the United States District Court
for the District of Minnesota which commenced on August 12, 1996. In the action,
the plaintiff, Precise Exercise Equipment ("Precise"), alleged that NordicTrack
misappropriated trade secrets regarding Precise's abdominal exercise product and
further breached a noncompetition agreement. While NordicTrack is vigorously
defending against the allegations and believes it has meritorious defenses to
Precise's claims on the contract, at this stage of the lawsuit the Company is
unable to determine the likelihood and possible impact on the Company's
consolidated financial condition or results of operations of unfavorable
outcomes.

In a complaint dated September 30, 1997, filed by Precor Incorporated ("Precor")
in the United States District Court for the Western District of Washington at
Seattle, Precor alleged that the manufacture, offering for sale and sale by
NordicTrack of its exercisers marketed under the Ellipse(TM) trade mark infringe
a United States patent which Precor has licensed from the inventor, Larry Miller
(the "Miller Patent"). The technology used in NordicTrack's Ellipse(TM)
exerciser is licensed by NordicTrack from a third party and the Company believes
that NordicTrack's products do not infringe the Miller Patent. While NordicTrack
believes it has meritorious defenses to the complaint and intends to vigorously
defend against the allegations, this lawsuit is in its earliest stages and the
Company is unable to determine the likelihood and possible impact on the
Company's financial condition or results of operations of an unfavorable
outcome.
        
The Company is involved in various other legal proceedings which have arisen in
the ordinary course of business. Management believes the outcome of such other
legal proceedings will not have a material adverse impact on the Company's
consolidated financial condition or results of operations.

Environmental Matters
On June 3, 1991, the Company received from the United States Environmental
Protection Agency ("EPA") a Special Notice Letter containing a formal demand on
the Company as a Potentially Responsible Party ("PRP") for reimbursement of the
costs incurred and expected to be incurred in response to environmental problems
at a so-called "Superfund" site in Conway, New Hampshire. The EPA originally
estimated the costs of remedial action and future maintenance and monitoring
programs at the site at about $7,276,000. The Superfund site includes a vacant
parcel of land owned by a subsidiary of the Company as well as adjoining
property owned by a third party. No manufacturing or other activities involving
hazardous substances have ever been conducted by the Company or its affiliates
on the Superfund site in Conway. The environmental problems affecting the land
resulted from activities by the owners of the adjoining parcel. Representatives
of the Company have engaged in discussions with the EPA regarding responsibility
for the environmental problems 


                                       43
<PAGE>   44
and the costs of cleanup. The owners of the adjoining parcel are bankrupt. The
EPA commenced cleanup activities at the site in July 1992.

The EPA expended approximately $1,415,000 for the removal phase of the site
cleanup, which has now been completed. The EPA had estimated that the removal
costs would exceed $3,000,000, but only a small portion of the solid waste
removed from the site was ultimately identified as hazardous waste. Therefore,
the EPA's actual response costs for the removal phase were less than the EPA
originally estimated. The EPA has implemented the groundwater phase of the
cleanup, which the EPA originally estimated would cost approximately $4,020,000.

The Company believes that the EPA's estimated cost for cleanup, including the
proposed remedial actions, is excessive and involves unnecessary actions. In
addition, a portion of the proposed remedial cost involves cleanup of the
adjoining property that is not owned by the Company or any of its affiliates.
Therefore, the Company believes it is not responsible for that portion of the
cleanup costs. The Company has reserves and insurance coverage (from its primary
insurer) for environmental liabilities at the site in the amount of
approximately $2,300,000. The Company also believes that it is entitled to
additional insurance from its excess insurance carriers. However, if excess
liability coverage is not available to the Company and the ultimate liability
substantially exceeds the primary insurance amount and reserves, the liability
would have a material adverse effect upon the Company's consolidated operating
results for the period in which the resolution of the claim occurs and could
have a material adverse effect upon the Company's financial condition.

In June 1992, the EPA notified the Company it may be liable for the release of
hazardous substances by the Company's former Boston Whaler subsidiary at a
hazardous waste treatment and storage facility in Southington, Connecticut. The
EPA has calculated the Company's volumetric share of waste shipped to that site
at less than two-tenths of one percent. The Company and more than 200 other
potentially responsible parties have executed administrative orders pursuant to
which they agreed to perform two non-time critical removal actions and to
complete the remedial investigation and feasibility study commenced by the EPA.
The Company has contributed $11,000 to the costs of the removal actions and the
remedial investigation and feasibility study and expects to contribute at least
$11,000 more to those costs over time. Because complete cleanup cost estimates
for the site are not yet available, an accurate assessment of the Company's
likely range of liability cannot be made. Accordingly, the financial impact on
the Company is not presently determinable.

Tax Matters
The Internal Revenue Service ("IRS") has been engaged in an examination of the
Company's tax returns for the fiscal years 1987 through 1991. The IRS has
indicated that it intends to mail an official assessment notice shortly
proposing certain adjustments which, if sustained by the IRS, would result in a
tax deficiency for the years under examination. The adjustments proposed by the
IRS primarily relate to: (i) the disallowance of deductions taken by the Company
with respect to incentive compensation payments of $43,000,000 made to the
former owners of NordicTrack (acquired in June 1986) pursuant to their
employment contracts; and (ii) incentive compensation payments made to the
former owners of Britches of Georgetowne (acquired in August 1983 and sold in
April 1996) pursuant to the terms of an earnout agreement and the valuation of
certain assets acquired in connection with the acquisition of Britches of
Georgetowne in the amount of $8,200,000. The net federal tax due relating to the
proposed adjustments approximates $16,200,000, excluding interest.

The incentive compensation payments to the former owners of NordicTrack were
attributable to substantial increases in sales and profits at NordicTrack during
the years under examination. The Company believes that the tax deductions taken
were valid and in accordance with the Internal Revenue Code and intends to
vigorously oppose the proposed adjustments. However, at this stage no assurance
can be given of a favorable outcome on these matters. If the IRS proposed
adjustments are sustained, any back taxes owed and associated interest would
have a material adverse effect on the Company's consolidated 


                                       44
<PAGE>   45
operating results for the period in which such issues are finally resolved and
would also have a material adverse effect on the Company's consolidated
financial condition.

As of July 31, 1997, the Company had net deferred tax assets of $28,315,000
(Note 7). The Company believes that it is more likely than not that it will
generate sufficient future taxable income, either through operations or the sale
of assets, to realize the net deferred tax assets prior to expiration of any net
operating losses. There can be no assurance, however, that the Company will
generate any specific level of earnings. If the Company is unable to generate
sufficient taxable income in the future through operating results or the sale of
assets, increases in the tax valuation allowance will be required, resulting in
a charge to earnings.

Letters of Credit
At July 31, 1997, the Company was contingently liable for outstanding letters of
credit in the amount of $6,174,000.

Note 10 - Preferred Stock Rights and Preference Stock

Preferred Stock Rights
On June 22, 1988, the Company's Board of Directors declared a dividend of
one-sixth of a preferred stock purchase right for each share of common stock
outstanding at the close of business on July 22, 1988. Under certain
circumstances, a right may be exercised to purchase one one-hundredth of a share
of Series A Junior Participating Preferred Stock of the Company at an exercise
price of $92.00. The rights become exercisable only if an entity has acquired
20% or more of the Company's common stock, or announces an offer which would
result in such entity acquiring 30% or more of the Company's common stock. After
the rights become exercisable, if the Company is a party to certain merger or
business combination transactions or transfers 50% or more of its assets or
earnings power, or if the acquirer engages in certain self-dealing transactions,
each right not owned by a 20% or more stockholder enables its holder to purchase
for $92.00 that number of shares of common stock of the acquiring or surviving
entity (or of the Company in certain instances) which equals the exercise price
of the right divided by one-half of the current market price of the common stock
of the acquiring or surviving entity (or of the Company), as applicable, at the
date of the occurrence of the event. The rights expire July 22, 1998 and may be
redeemed by the Company at $.02 per right in certain circumstances.

Preference Stock
The Company has 2,000,000 shares, $.10 par value, of preference stock
authorized, none of which was issued and outstanding at July 31, 1997.


                                       45
<PAGE>   46
Note 11 - Industry Segments

The Company operates in two industry segments, NordicTrack and Smith & Hawken.
NordicTrack sells physical fitness exercise products. The Smith & Hawken segment
currently includes only Smith & Hawken which sells gardening related products.
Prior to April 28, 1996, the Smith & Hawken segment included The Nature Company
and Hear Music, in addition to Smith & Hawken, and sold nature, music and
gardening related items.

Britches of Georgetowne is treated as a discontinued operation in the following
industry segment information and in the accompanying consolidated financial
statements.


<TABLE>
<CAPTION>
                                                              Year Ended July 31,
-------------------------------------------------------------------------------------------
                                                      1997            1996             1995
-------------------------------------------------------------------------------------------
<S>                                         <C>             <C>               <C>          
Net Sales:
   NordicTrack                               $ 267,740,000   $ 368,151,000    $ 504,105,000
   Smith & Hawken                               73,575,000     176,754,000      208,508,000
-------------------------------------------------------------------------------------------
                                             $ 341,315,000   $ 544,905,000    $ 712,613,000
===========================================================================================
Operating Income (Loss):
   NordicTrack                              ($  58,641,000) ($  72,609,000)   $  46,284,000
   Smith & Hawken (Note 4)                       2,008,000     (47,691,000)     (13,224,000)
-------------------------------------------------------------------------------------------
                                               (56,633,000)   (120,300,000)      33,060,000
Interest, Corporate and
   Other Expenses                               (4,298,000)    (10,984,000)      (7,651,000)
--------------------------------------------------------------------------------------------
                                            ($  60,931,000)  ($131,284,000)   $  25,409,000
===========================================================================================
Identifiable Assets at July 31:
   NordicTrack                               $  88,294,000   $ 138,431,000    $ 137,113,000
   Smith & Hawken                               43,744,000      45,898,000      131,653,000
   Discontinued Operations                              --              --       34,314,000
   Corporate and Other                          14,298,000      29,022,000       37,001,000
-------------------------------------------------------------------------------------------
                                             $ 146,336,000   $ 213,351,000    $ 340,081,000
===========================================================================================
Depreciation and Amortization:
   NordicTrack                               $  11,277,000   $  11,369,000    $   9,949,000
   Smith & Hawken                                2,800,000      12,412,000       12,879,000
   Discontinued Operations                              --       4,454,000        7,316,000
   Corporate and Other                             753,000         503,000          579,000
-------------------------------------------------------------------------------------------
                                             $  14,830,000   $  28,738,000    $  30,723,000
===========================================================================================
Capital Expenditures:
   NordicTrack                               $   4,523,000   $   7,551,000    $  11,941,000
   Smith & Hawken                                1,403,000      12,459,000       16,178,000
   Discontinued Operations                              --       1,536,000        8,079,000
   Corporate and Other                               5,000           9,000           93,000
-------------------------------------------------------------------------------------------
                                             $   5,931,000   $  21,555,000    $  36,291,000
===========================================================================================
</TABLE>


                                       46
<PAGE>   47
                                                                     Schedule II

                        CML GROUP, INC. and SUBSIDIARIES
                        VALUATION and QUALIFYING ACCOUNTS


<TABLE>
<CAPTION>
                                              Balance at            Charged                                Balance
                                               Beginning           to Costs                                at End
             Description                        of Year          and Expenses        Deductions            of Year
             -----------                      ----------         ------------        ----------            -------
<S>                                           <C>                <C>                 <C>                  <C>       
Allowance for Doubtful Accounts Receivable:

     Year Ended July 31, 1995                 $1,402,000          $6,734,000          $5,995,000          $2,141,000

     Year Ended July 31, 1996                  2,141,000           4,652,000           3,305,000           3,488,000

     Year Ended July 31, 1997                  3,488,000           1,553,000           2,335,000           2,706,000

Allowance for Doubtful Notes Receivable:

     Year Ended July 31, 1995                    $54,000           $     ---             $45,000              $9,000

     Year Ended July 31, 1996                      9,000                 ---                 ---               9,000

     Year Ended July 31, 1997                      9,000                 ---               3,000               6,000

Accrual for Loss on Disposals:

     Year Ended July 31, 1995                 $4,489,000         $40,988,000         $39,201,000          $6,276,000

     Year Ended July 31, 1996                  6,276,000          54,847,000          58,416,000           2,707,000

     Year Ended July 31, 1997                  2,707,000                 ---           2,707,000                 ---

Income Tax Valuation Allowance:

     Year Ended July 31, 1995                 $3,004,000         $   518,000           $     ---          $3,522,000

     Year Ended July 31, 1996                  3,522,000           4,261,000                 ---           7,783,000

     Year Ended July 31, 1997                  7,783,000             446,000                 ---           8,229,000
</TABLE>


                                       47
<PAGE>   48
                                  EXHIBIT INDEX

<TABLE>
<CAPTION>
                                                                                               Page No.
                                                                                               --------
<S>                 <C>                                                                        <C> 
2(a)       --       Stock Purchase Agreement dated as of April 11, 1996 among
                    Britches of Georgetowne, Inc., the Company, Britches
                    Acquisition Corp. and Damrak Company Limited is incorporated
                    herein by reference to Exhibit 2 to the Company's Current
                    Report on Form 8-K filed April 29, 1996.                                      --

2(b)       --       Asset Purchase and Sale Agreement dated as of June 6, 1996
                    by and among the Company, The Nature Company, The Nature
                    Company International, Inc. and Nordic Advantage of Ontario,
                    Discovery Communications, Inc. and The Discovery Channel
                    Store, Inc. is incorporated herein by reference to Exhibit 2
                    to the Company's Current Report on Form 8-K filed June 21,
                    1996.                                                                         --

3(a)       --       Restated Certificate of Incorporation, as amended, of the
                    Company is incorporated herein by reference to Exhibit 3.1
                    to the Company's Registration Statement on Form S-8 filed
                    December 11, 1992 (File No. 33-55660).                                        --

3(b)       --       By-Laws, as amended, of the Company are incorporated herein
                    by reference to Exhibit 3.2 to the Company's Registration
                    Statement on Form S-8 filed January 23, 1992 (File No.
                    33-45073).                                                                    --

4(a)       --       Specimen certificate for shares of Common Stock of the
                    Company is incorporated herein by reference to Exhibit 4 to
                    the Company's Registration Statement on Form S-1 (File No.
                    2-86828).                                                                     --

4(b)       --       Form of Rights Certificate is incorporated herein by
                    reference to Exhibit B to Exhibit 1 to the Company's Form
                    8-A filed July 13, 1988.                                                      --

4(c)       --       Rights Agreement, dated as of June 28, 1988, between the
                    Company and The First National Bank of Boston is
                    incorporated herein by reference to Exhibit 1 to the
                    Company's Form 8-A filed July 13, 1988, as amended by the
                    Company's Form 8 filed August 5, 1988.                                        --

4(d)       --       Specimen certificates for the Company's 5-1/2% Convertible
                    Subordinated Debentures Due 2003 are incorporated herein by
                    reference to Exhibit 4.1 to the Company's Quarterly Report
                    on Form 10-Q filed March 16, 1993.                                            --
</TABLE>


                                       48
<PAGE>   49
<TABLE>
                                                                                               Page No.
                                                                                               --------
<S>                 <C>                                                                        <C> 
4(e)       --       Terms of the Company's 5-1/2% Convertible Subordinated
                    Debentures Due 2003 are incorporated herein by reference to
                    Exhibit A to Exhibit 19.2 to the Company's Quarterly Report
                    on Form 10-Q filed March 16, 1993.                                            --

*10(a)     --       1982 Stock Option Plan, as amended, and Forms of Option
                    Agreements are incorporated herein by reference to Exhibit
                    10(y) to the Company's Registration Statement on Form S-1
                    (File No. 2-86828).                                                           --

*10(b)     --       Amendment to Section 18 of the 1982 Stock Option Plan, dated
                    October 7, 1987, is incorporated herein by reference to
                    Exhibit 10(g) to the Company's Annual Report on Form 10-K
                    filed October 28, 1988.                                                       --

*10(c)     --       Amendment to Section 5(a) of the 1982 Stock Option Plan,
                    dated December 5, 1991, is incorporated herein by reference
                    to Exhibit 10(c) to the Company's Annual Report on Form 10-K
                    filed October 21, 1992, as amended by the Company's Form 8
                    filed October 28, 1992.                                                       --

10(d)      --       Revolving Credit Agreement dated as of April 17, 1996 and
                    amended and restated as of August 28, 1997 among the
                    Company, NordicTrack, Inc., Nordic Advantage, Inc. and Smith
                    & Hawken, Ltd., as Borrowers, and The First National Bank of 
                    Boston and the other Lending Institutions listed on 
                    Schedule 1 thereto, as Lenders.                                               --

*10(e)     --       Amended and Restated Employment and Consulting Agreement,
                    dated as of September 14, 1989, among the Company, P.S.I.
                    NordicTrack, Inc. and Edward A. Pauls is incorporated herein
                    by reference to Exhibit 10(w) to the Company's Annual Report
                    on Form 10-K filed October 30, 1989.                                          --

*10(f)     --       Amended and Restated Employment and Consulting Agreement,
                    dated as of September 14, 1989, among the Company, P.S.I.
                    NordicTrack, Inc. and Florence Pauls is incorporated herein
                    by reference to Exhibit 10(x) to the Company's Annual Report
                    on Form 10-K filed October 30, 1989.                                          --
</TABLE>


                                       49
<PAGE>   50


<TABLE>
                                                                                               Page No.
                                                                                               --------
<S>                 <C>                                                                        <C> 
*10(g)     --       1987 Employees' Severance Benefit Plan, dated October 7,
                    1987, is incorporated herein by reference to Exhibit 10(bb)
                    to the Company's Annual Report on Form 10-K filed October
                    28, 1988.                                                                     --

*10(h)     --       1991 Stock Option Plan and Forms of Option Agreements are
                    incorporated herein by reference to Exhibit 10(m) to the
                    Company's Annual Report on Form 10-K filed October 21, 1992,
                    as amended by the Company's Form 8 filed October 28, 1992.                    --

*10(i)     --       Form of Split Dollar Life Insurance Policy for the Benefit
                    of Certain Executive Officers is incorporated herein by
                    reference to Exhibit 10(n) to the Company's Annual Report on
                    Form 10-K filed October 21, 1992, as amended by the
                    Company's Form 8 filed October 28, 1992.                                      --

*10(j)     --       1993 Director Option Plan is incorporated herein by
                    reference to Exhibit 10(n) to the Company's Annual Report on
                    Form 10-K filed October 29, 1993.                                             --

*10(k)     --       1993 Employee Stock Purchase Plan is incorporated herein by
                    reference to Exhibit 10(o) to the Company's Annual Report on
                    Form 10-K filed October 29, 1993.                                             --

 10(l)     --       Subscription Agreement, dated as of January 12, 1993, among
                    the Company, Lehman Brothers International (Europe),
                    Deutsche Bank A.G. London, Lombard Odier International
                    Underwriters, S.A., Swiss Bank Corporation and S.G. Warburg
                    Securities is incorporated herein by reference to Exhibit
                    19.1 to the Company's Quarterly Report on Form 10-Q filed
                    March 16, 1993.                                                               --

 10(m)     --       Fiscal Agency Agreement, dated as of January 20, 1993,
                    between the Company and Chemical Bank is incorporated herein
                    by reference to Exhibit 19.2 to the Company's Quarterly
                    Report on Form 10-Q filed March 16, 1993.                                     --

 10(n)     --       1996 Director Option Plan is incorporated herein by
                    reference to Exhibit 10(a) to the Company's Quarterly Report
                    on Form 10-Q filed March 12, 1996.                                            --

 10(o)     --       1996 Employee Stock Purchase Plan is incorporated herein by
                    reference to Exhibit 10(b) to the Company's Quarterly Report
                    on Form 10-Q filed March 12, 1996.                                            --

*10(p)     --       Form of Agreement Concerning Qualified Termination                            --
</TABLE>


                                       50
<PAGE>   51
<TABLE>
                                                                                               Page No.
                                                                                               --------
<S>                 <C>                                                                        <C> 
11         --       Statement Regarding Computation of Fully Diluted Earnings
                    Per Share.                                                                    52

21         --       Subsidiaries of the Registrant.                                               53

23         --       Consent of Deloitte & Touche LLP.                                             54

27         --       Financial Data Schedule.                                                      55
</TABLE>

* Management contract or compensatory plan or arrangement filed herewith in
response to Item 14(a)(3) of the instructions to Form 10-K.


                                       51