UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K


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

                   For the fiscal year ended December 31, 2007

                                       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: 0-26006

                              TARRANT APPAREL GROUP
             (Exact name of registrant as specified in its charter)

           CALIFORNIA                                           95-4181026
  (State or other jurisdiction                               (I.R.S. Employer
of incorporation or organization)                         Identification Number)

                         3151 EAST WASHINGTON BOULEVARD
                          LOS ANGELES, CALIFORNIA        90023
              (Address of principal executive offices) (Zip code)

       Registrant's telephone number, including area code: (323) 780-8250

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

     TITLE OF EACH CLASS           NAME OF EACH EXCHANGE ON WHICH REGISTERED
         Common Stock                       Nasdaq Global Market


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

                                      NONE

         Indicate  by check  mark if the  registrant  is a  well-known  seasoned
issuer, as defined in Rule 405 of the Securities Act. Yes [_] No [X]

         Indicate  by check mark if the  registration  is not  required  to file
reports pursuant to Section 13 or Section 15(d) of the Act. Yes [_] No [X]

         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. [X]

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

Large accelerated filer [_]                        Accelerated filer [_]
Non-accelerated filer [_]                          Smaller reporting company [X]


<PAGE>


         Indicate by check mark whether the  registrant  is a shell  company (as
defined in Rule 12b-2 of the Act). Yes [_] No [X]

         The aggregate  market value of the Common Stock held by  non-affiliates
of the Registrant is approximately  $20,558,997  based upon the closing price of
the Common Stock on June 30, 2007.

         Number of shares of Common Stock of the  Registrant  outstanding  as of
March 24, 2008: 32,043,763.

                       DOCUMENTS INCORPORATED BY REFERENCE

         Portions of the  Registrant's  definitive  Proxy  Statement to be filed
with the  Securities  and  Exchange  Commission  pursuant to  Regulation  14A in
connection  with the 2008 Annual Meeting of  Shareholders  are  incorporated  by
reference into Part III of this Report.



<PAGE>


                              TARRANT APPAREL GROUP
                               INDEX TO FORM 10-K

PART I                                                                      PAGE

Item 1.     Business.........................................................  1

Item 1A.    Risk Factors.....................................................  9

Item 1B.    Unresolved Staff Comments........................................ 15

Item 2.     Properties....................................................... 16

Item 3.     Legal Proceedings................................................ 16

Item 4.     Submission of Matters to a Vote of Security Holders.............. 17

PART II

Item 5.     Market for Registrant's Common Equity, Related Stockholder
              Matters and Issuer Purchases of Equity Securities.............. 18

Item 6.     Selected Financial Data.......................................... 20

Item 7.     Management's Discussion and Analysis of Financial
              Condition and Results of Operations............................ 22

Item 7A.    Quantitative and Qualitative Disclosures about Market Risk ...... 42

Item 8.     Financial Statements and Supplementary Data...................... 42

Item 9.     Changes in and Disagreements with Accountants on
              Accounting and Financial Disclosure............................ 42

Item 9A(T). Controls and Procedures.......................................... 43

Item 9B.    Other Information................................................ 44

PART III

Item 10.    Directors and Executive Officers of the Registrant............... 44

Item 11.    Executive Compensation........................................... 44

Item 12.    Security Ownership of Certain Beneficial Owners and
              Management and Related Stockholder Matters..................... 44

Item 13.    Certain Relationships and Related Transactions................... 44

Item 14.    Principal Accounting Fees and Services........................... 44

PART IV

Item 15.    Exhibits and Financial Statement Schedules....................... 44


                                       i
<PAGE>


                                     PART I

            CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

         This  2007  Annual  Report  on  Form  10-K  contains  statements  which
constitute  forward-looking  statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the  Securities  Exchange Act of 1934,
both as amended.  Those  statements  include  statements  regarding  our intent,
belief or current  expectations.  Prospective  investors are cautioned  that any
such  forward-looking  statements are not guarantees of future  performance  and
involve risks and  uncertainties,  and that actual results may differ materially
from  those  projected  in  the  forward-looking   statements.  Such  risks  and
uncertainties   include,   among  other  things,   our  ability  to  face  stiff
competition,  profitably  manage  a  sourcing  and  distribution  business,  the
financial  strength of our major  customers,  the  continued  acceptance  of our
existing and new products by our existing and new  customers,  dependence on key
customers, the risks of foreign manufacturing,  competitive and economic factors
in the textile and apparel  markets,  the  availability  of raw  materials,  the
ability to manage growth,  weather-related delays,  dependence on key personnel,
the successful  resolution of pending litigation,  general economic  conditions,
global  manufacturing costs and restrictions,  and other risks and uncertainties
that may be detailed herein. See "Item 1A. Risk Factors."

ITEM 1.  BUSINESS

OVERVIEW

         Tarrant  Apparel  Group is a design and  sourcing  company  for private
label and private brand casual apparel  serving mass  merchandisers,  department
stores, branded wholesalers and specialty chains located primarily in the United
States.  Our major customers  include  retailers,  such as Macy's  Merchandising
Group, New York & Co., Chico's, Kohl's, Mothers Work, Mervyn's, Charlotte Russe,
the Avenue,  Seven  Licensing,  Wal-Mart,  and Lane  Bryant.  Our  products  are
manufactured in a variety of woven and knit fabrications and include jeans wear,
casual  pants,  shorts,  skirts,  dresses,  t-shirts,  shirts and other tops and
jackets.

         In 2005 and  2006,  our total net  sales  were  $215  million  and $232
million,  respectively.  In 2007, our net sales increased by 5% to $244 million.
In 2005, we  experienced  net income of $1.0 million.  In 2006, we experienced a
net loss of $22.2 million,  which included a non-cash charge of $27.1 million of
a loss on  notes  receivable  -  related  parties.  See  "Item  7.  Management's
Discussion and Analysis of Financial  Condition and Results of  Operations."  In
2007, our net income was $1.7 million.

         We  launched  our private  brands  initiative  in 2003,  and have since
acquired  ownership  of or  license  rights to a number of brand  names and sold
apparel products under the brand,  generally to a single retail company within a
geographic  region.  At March  24,  2008,  we sell  apparel  products  under the
following brands at the following retailers:

           BRAND                                       STORES
         ---------                                   ---------

         American Rag Cie                   Macy's Merchandising Group
         Marisa K.                          Specialty stores & boutiques


                                       1
<PAGE>


BUSINESS STRATEGY

         We believe that the following  trends are currently  affecting  apparel
retailing and manufacturing:

         o        Consolidation  among apparel  retailers  has  increased  their
                  ability   to  demand   value-added   services   from   apparel
                  manufacturers,  including fashion  expertise,  rapid response,
                  just-in-time   delivery,   Electronic  Data   Interchange  and
                  favorable pricing.

         o        Increased competition among retailers due to consolidation has
                  resulted in an increased  demand for private label and private
                  brand apparel, which generally offers retailers higher margins
                  and permits them to differentiate their products.

         o        The current  fashion  cycle  requires  more design and product
                  development,  in  addition to quickly  responding  to emerging
                  trends.  Apparel  manufacturers  that offer these capabilities
                  are in demand.

         o        A slower US economy  or  recession  will  cause  consolidation
                  among apparel manufacturers and wholesalers.

         We believe  that we have the  capabilities  to take  advantage of these
trends and remain a principal value-added supplier of casual,  moderately priced
apparel as well as increase our share of the higher  retail,  "branded"  segment
that the major retailers are pursuing.

         DESIGN  EXPERTISE.  As one of the very few sourcing  companies with our
own design team,  we believe  that we have  established  a  reputation  with our
customers as a fashion  resource and  manufacturer  that is capable of providing
design assistance to customers in the face of rapidly changing fashion trends.

         RESEARCH AND DEVELOPMENT CAPABILITIES. We believe our design capability
combined with our fabric research and development provide a major advantage that
our customers respond to, and that we have skills in the advanced development of
washes and finishes that give us a position of competitive strength.

         MARKETING EXPERTISE. We have the understanding and resources to develop
strong "brand-like"  product marketing to support the need to extend traditional
store brands into product  presentations that have more value to the consumer in
terms of product design and imaging.

         SAMPLE-MAKING  AND  MARKET-TESTING  CAPABILITIES.  We seek  to  support
customers  with our design  expertise,  sample-making  capability and ability to
rapidly produce small test orders of products.

         ON-TIME   DELIVERY.   We  have  developed  a  diversified   network  of
international  contract  manufacturers and fabric suppliers,  which enable us to
accept  orders of varying  sizes and delivery  schedules  and to produce a broad
range of  garments  at  varying  prices  depending  upon  lead  time  and  other
requirements of the customer.

         QUALITY AND  COMPETITIVELY  PRICED  PRODUCTS.  We believe that our long
time  presence  in the Far East and our  experienced  product  management  teams
provide a superior supply chain that enables us to meet the individual  needs of
our customers in terms of quality and lead time.

         PRODUCT  DIVERSIFICATION.  Our experiencing in designing and delivering
complete apparel  collections for some of our customers has improved our overall
ability to  deliver  product  classifications  beyond  our core  casual  bottoms
offerings,  which has  further  diversified  the  merchandise  we offer to other
customers.


                                       2
<PAGE>


         PRIVATE BRANDS. With a private brand  relationship,  we own and control
the brand and thus build equity in the brand as the product gains  acceptance by
consumers. In a private label relationship, we source products for our customers
who own and control the brand and thus benefit from any increase in value of the
brand.

         We believe that forming strong alliances with premier  retailers allows
us greater  penetration  of apparel  categories  in  addition to our core casual
bottoms business.  In addition to the increased breadth of  classifications,  we
have  improved  our  ability to compete  for  private  label  business  based on
expertise gained from our private brand  development.  We receive higher margins
for development of product by design and marketing assistance.

PRODUCTS

         Women's jeans historically have been, and continue to be, our principal
product.  Our products also include moderately priced women's apparel in casual,
non-denim  fabrications  such as twill and other  cotton and cotton  blends,  in
woven tops and bottoms.  Our women's apparel  products  currently  include jeans
wear, casual pants, shorts, skirts, dresses,  t-shirts,  blouses,  shirts, other
tops and jackets. These products are manufactured in petite,  standard and large
sizes and are sold at a variety of wholesale prices generally  ranging from less
than $5 to over $20 per  garment.  We have  produced  men's  apparel  in varying
significance for the last several years.

         Over the past three  years,  approximately  61% of total net sales were
derived  from the sales of pants and  jeans,  approximately  7% from the sale of
shorts,  approximately  13%  from  the  sale of  shirts,  blouses  and  tops and
approximately  5% from the sale of skirts  and  skort-alls.  The  balance of net
sales consisted of sales of dresses, jackets and other products.

CUSTOMERS

         We  generally  market our  products to  high-volume  retailers  that we
believe can grow into major accounts.  By limiting our customer base to a select
group of larger accounts, we seek to build stronger long-term  relationships and
leverage our operating costs against large bulk orders.  Although we continue to
diversify our customer  base,  the majority of sales growth is most  predictable
from existing customers.

         The  following  table shows the  percentage  of our net sales in fiscal
year 2007  attributable to each customer that accounted for more than 10% of net
sales.

                                                                  PERCENTAGE
                                                                 OF NET SALES
                                                              ------------------
CUSTOMER                                                             2007
--------------------------------------------------            ------------------
Macy's Merchandising Group........................                   21.1
New York & Co.....................................                   12.5
Chico's...........................................                   11.3

         We  currently  serve  over 15 major  retailers  and over 200  specialty
stores, which in addition to those identified above,  include,  Kohl's,  Mothers
Work, Mervyn's, Charlotte Russe, the Avenue, Seven Licensing,  Wal-Mart and Lane
Bryant.  In 2005,  2006  and  2007,  net  sales of  private  brands  represented
approximately  26%,  22% and 18%,  respectively,  of our  total  net  sales.  We
launched our private brands initiative in 2003, in which we acquire ownership of
or license  rights to a brand name and sell apparel  products  under this brand,
generally  to a single  retail  company  within  a  geographic  region.  We sell
products in our brands  "American Rag Cie"  exclusively to Macy's  Merchandising
Group. We sold


                                       3
<PAGE>


products in our licensed brand "Alain Weiz" to Dillard's during 2004 to 2006. We
discontinued the license of this brand after mid 2007.

         We are currently  involved in litigation with American Rag Cie, LLC and
American Rag Cie II with  respect to our license  rights to the American Rag Cie
trademark.  American Rag Cie, LLC owns the trademark  "American Rag Cie",  which
has been licensed to us on an exclusive  basis  throughout  the world except for
Japan and pursuant to which we sell  American Rag Cie branded  apparel to Macy's
Merchandising  Group and have  sub-licensed  to Macy's  Merchandising  Group the
right to manufacture  certain  categories of American Rag Cie branded apparel in
the United  States.  American Rag Cie LLC has purported to terminate our license
rights, and we have filed a counterclaim  seeking to a declaratory judgment that
the  termination  was invalid and alleging other causes of action.  American Rag
Cie, LLC is owned 45% by Tarrant  Apparel  Group and 55% by American Rag Cie II.
For a further description of this action see "Item 3. Legal Proceedings" of this
Annual Report on Form 10-K.

         We do not have long-term contracts with any of our customers except for
Macy's Merchandising Group for American Rag Cie and, therefore,  there can be no
assurance that other customers will continue to place orders with us of the same
magnitude as it has in the past,  or at all. In addition,  the apparel  industry
historically has been subject to substantial  cyclical variation,  with consumer
spending for purchases of apparel and related  goods  tending to decline  during
recessionary  periods.  To the extent that these financial  difficulties  occur,
there can be no assurance that our financial condition and results of operations
would not be adversely affected.
See "Item 1A. Risk Factors."

DESIGN, MERCHANDISING AND SALES

         While many private label producers only arrange for the bulk production
of styles  specified by their customers,  we not only design garments,  but also
assist some of our customers in market testing new designs.  We believe that our
design,  sample-production  and  test-run  capabilities  give  us a  competitive
advantage in obtaining  bulk orders from our  customers.  We also often  receive
bulk orders for  garments we have not  designed  because  many of our  customers
allocate bulk orders among more than one producer.

         We have developed integrated teams of design, merchandising and support
personnel, some of whom serve on more than one team, that focus on designing and
producing  merchandise  that  reflects  the style and image of their  customers.
Teams  are  divided  between  private  label and  private  brands  for  sourcing
operations.

         Each team is  responsible  for all  aspects  of its  customer's  needs,
including  designing  products,  developing  product  samples  and  test  items,
obtaining  orders,  coordinating  fabric  choices  and  procurement,  monitoring
production  and  delivering  finished  products.  The  team  seeks  to  identify
prevailing  fashion trends that meet its customer's retail strategies and design
garments  incorporating those trends. The team also works with the buyers of its
customer to revise  designs as necessary  to better  reflect the style and image
that the  customer  desires  to  project to  consumers.  During  the  production
process,  the team is responsible  for informing the customer about the progress
of the order,  including  any  difficulties  that might affect the timetable for
delivery.  In this way, our customer  and we can make  appropriate  arrangements
regarding  any delay or other  change in the order.  We  believe  that this team
approach  enables our employees to develop an  understanding  of the  customer's
distinctive styles and production  requirements in order to respond  effectively
to the customer's needs.

         From  time to time  and at  scheduled  seasonal  meetings,  we  present
samples to the  customer's  buyers who determine  which,  if any, of the samples
will be produced on a test run or a bulk order.  Samples are often  presented in
coordinated groupings or as part of a product line. Some customers, particularly
specialty  retail stores,  may require that a product be tested before placing a
bulk order.


                                       4
<PAGE>


Testing  involves the production of as few as several  hundred copies of a given
sample in different size, fabric and color  combinations.  The customer pays for
these  test  items,  which are  placed  in  selected  stores  to gauge  consumer
response.  The  production  of test items  enables  our  customers  to  identify
garments  that may  appeal to  consumers  and also  provides  us with  important
information  regarding the cost and  feasibility  of the bulk  production of the
tested garment. If the test is determined to be successful, we generally receive
a significant  percentage of the customer's total bulk order of the tested item.
In  addition,  as is typical in the  private  label  business,  we receive  bulk
production  orders to produce  merchandise  designed by our competitors or other
designers,  since  most  customers  allocate  bulk  orders  among  a  number  of
suppliers.

SOURCING

GENERAL

         When  bidding for or filling an order,  our  international  or domestic
sourcing  network  enables  us to choose  from among a number of  suppliers  and
manufacturers based on the customer's price requirements, product specifications
and delivery  schedules.  Historically,  we  manufactured  our products  through
independent cutting,  sewing and finishing contractors located primarily in Hong
Kong  and  China,  and  have  purchased  our  fabric  from  independent   fabric
manufacturers  with weaving mills located  primarily in Hong Kong and China.  In
recent  years,   we  have   expanded  our  network  to  include   suppliers  and
manufacturers located in a number of additional  countries,  including Mongolia,
Vietnam,  India,  Bangladesh and Thailand.  Our sourcing  strategy is based on a
strong presence in Asia, in particular, Hong Kong, China and Southeast Asia.

DEPENDENCE ON CONTRACT MANUFACTURERS

         The use of  contract  manufacturers  and the  resulting  lack of direct
control  over the  production  of our  products  could  result in our failure to
receive timely delivery of products of acceptable  quality.  Although we believe
that alternative  sources of cutting,  sewing and finishing services are readily
available,  the  loss  of  one  or  more  contract  manufacturers  could  have a
materially  adverse  effect on our results of  operations  until an  alternative
source can be located and commence producing our products.

         Although  we have  adopted a code of vendor  conduct  and  monitor  the
compliance  of  our  independent  contractors  with  our  code  of  conduct  and
applicable  labor  laws,  we do not  control  our  contractors  or  their  labor
practices.  The violation of federal,  state or foreign labor laws by one of our
contractors  can result in us being  subject  to fines and our goods,  which are
manufactured in violation of such laws, being seized or their sale in interstate
commerce being prohibited.  Additionally, certain of our customers may refuse to
do business  with us based on our  contractors'  labor  practices.  From time to
time,  we have been  notified  by  federal,  state or foreign  authorities  that
certain of our contractors are the subject of  investigations or have been found
to have violated applicable labor laws. To date, we have not been subject to any
sanctions  that,  individually  or in the  aggregate,  have had or could  have a
material  adverse effect upon us, and we are not aware of any facts on which any
such sanctions could be based. There can be no assurance,  however,  that in the
future we will not be subject to sanctions or lose  business  from our customers
as a result of violations of applicable labor laws by our  contractors,  or that
such  sanctions or loss of business will not have a material  adverse  effect on
us. In addition,  our  customers  require  strict  compliance  by their  apparel
manufacturers,  including  us, with  applicable  labor laws. To that end, we are
regularly  inspected by some of our major  customers.  There can be no assurance
that the violation of applicable  labor laws by one of our contractors  will not
have a material adverse effect on our relationship with our customers.


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<PAGE>


         We  do  not  have  any  long-term  contracts  with  independent  fabric
suppliers.  The loss of any of our major fabric  suppliers could have a material
adverse  effect on our  financial  condition  and  results of  operations  until
alternative arrangements are secured.

DIVERSIFIED PRODUCTION NETWORK

         We have a production  network that is capable of servicing a wide range
of customer needs. Some customers place a priority on "speed to market," and are
willing to pre-approve  several different fabric styles,  and pay air freight in
order to quickly get the most current styling into their stores. Other customers
seek lower costs,  and are willing to source  production  from more remote areas
with long lead-times.  Although mass merchandisers,  such as Wal-Mart,  normally
operate on shorter lead times for fashion products, they can give us projections
six months to nine  months in advance for basic  products  that do not change in
styles  significantly from season to season. Our ability to operate on different
production schedules helps us to meet our customers' varying needs.

         By allocating an order among different  manufacturers,  we seek to fill
the  high-volume   orders  of  our  customers,   while  meeting  their  delivery
requirements.  Upon receiving an order,  we determine which of our suppliers and
manufacturers can best fill the order and meet the customer's price, quality and
delivery  requirements.  We consider,  among other things,  the price charged by
each  manufacturer  and the  manufacturer's  available  production  capacity  to
complete the order, as well as the availability of quota, if applicable, for the
product from various countries and the  manufacturer's  ability to produce goods
on a  timely  basis  subject  to  the  customer's  quality  specifications.  Our
personnel  also consider the  transportation  lead times  required to deliver an
order from a given  manufacturer  to the customer.  In addition,  some customers
prefer not to carry excess  inventory and therefore  require that we stagger the
delivery of products over several weeks.

INTERNATIONAL SOURCING

         We conduct  and  monitor  our  sourcing  operations  from our Hong Kong
office. The staff has extensive  knowledge about, and experience with,  sourcing
and production, including purchasing, manufacturing and quality control. Several
times each year, members of our senior management,  including local staff, visit
and inspect the  facilities and  operations of our  international  suppliers and
manufacturers.

         Foreign   manufacturing  is  subject  to  a  number  of  risk  factors,
including,   among  other  things,   transportation  delays  and  interruptions,
political instability,  expropriation,  currency fluctuations and the imposition
of tariffs,  import and export controls,  other non-tariff  barriers  (including
changes in the  allocation of quotas),  natural  disasters and cultural  issues.
Each of these factors could have a material adverse effect on us.

         While we are in the process of establishing business relationships with
manufacturers  and suppliers located in countries other than Hong Kong, Macau or
China, such as in Mongolia,  Vietnam,  India,  Bangladesh and Thailand, we still
primarily  contract with  manufacturers  and suppliers  located in Hong Kong and
China for our  international  sourcing needs,  and currently expect that we will
continue to do so for the foreseeable future. Any significant  disruption in our
operations or our relationships  with our manufacturers and suppliers located in
Hong Kong or China could have a material adverse effect on us.

THE IMPORT SOURCING PROCESS

         As is customary in the apparel  industry,  we do not have any long-term
contracts with our manufacturers.  During the manufacturing process, our quality
control personnel visit each factory to


                                       6
<PAGE>


inspect  garments when the fabric is cut, as it is being sewn and as the garment
is being finished.  Daily information on the status of each order is transmitted
from the various  manufacturing  facilities  to our offices in Hong Kong and Los
Angeles. We, in turn, keep our customers apprised, often through daily telephone
calls and  frequent  written  reports.  These calls and reports  include  candid
assessments of the progress of a customer's order, including a discussion of the
difficulties, if any, that have been encountered and our plans to rectify them.

         We often  arrange,  on behalf of  manufacturers,  for the  purchase  of
fabric  from a single  supplier.  We have the  fabric  shipped  directly  to the
cutting factory and invoice the factory for the fabric. Generally, the factories
pay us for the fabric with offsets against the price of the finished goods.  For
our longstanding program business,  we may purchase or produce fabric in advance
of receiving the order, but in accordance with the customer's specifications. By
procuring fabric for an entire order from one source, we believe that production
costs per garment are reduced and customer  specifications  as to fabric quality
and color can be better controlled.

         The  anti-terrorist  measures  adopted  by the U.S.  government  and in
particular,  by the U.S. Customs, have meant more stringent inspection processes
before  imported goods are cleared for delivery into the U.S. In some instances,
these  measures  have caused delays in the  pre-planned  delivery of products to
customers.

DISTRIBUTION

         Based on our  worldwide  sourcing  capability  and in order to properly
fulfill orders,  we have tailored our  distribution  system to meet the needs of
the customer.  Some customers,  such as Macy's Merchandising Group, Wal-Mart and
Kohl's,  use Electronic Data  Interchange,  or "EDI", to send orders and receive
merchandise and invoices.  The EDI distribution function has been centralized in
our Los Angeles corporate  headquarter in order to expedite and control the flow
of  merchandise  and  electronic  information,  and to insure  that the  special
requirements of our EDI customers are met.

         For  orders  sourced   outside  the  United  States  and  Mexico,   the
merchandise is shipped from the production  facility by truck to a port where it
is consolidated and loaded on  containerized  vessels for ocean transport to the
United States. For customers with West Coast and Midwest  distribution  centers,
the  merchandise  is  brought  into  the  port  of Los  Angeles.  After  Customs
clearance,  the  merchandise  is  shipped  by truck to  either  our Los  Angeles
warehouse  facility,  an independent  public warehouse or an independent  bonded
warehouse in Ohio. Proximity to the customer's  distribution center is important
for customer support.  For merchandise  produced in the Middle East and destined
for an East Coast customer  distribution  center, the port of entry is New York.
After Customs  clearance,  the  merchandise is trucked to an independent  public
warehouse in New Jersey. The independent warehouses are instructed in writing by
the Los Angeles office when to ship the merchandise to the customer.

BACKLOG

         As of March 24, 2008, we had unfilled  customer orders of approximately
$65 million as compared to  approximately  $85 million as of March 22, 2007.  We
believe  that all of our  backlog of orders as of March 24,  2008 will be filled
before the end of fiscal year 2008.  Backlog is based on our  estimates  derived
from internal management reports.  The amount of unfilled orders at a particular
time  is  affected  by  a  number  of  factors,   including  the  scheduling  of
manufacturing and shipping of the product,  which in some instances,  depends on
the customer's requirements.  Accordingly,  a comparison of unfilled orders from
period to period is not  necessarily  meaningful  and may not be  indicative  of
eventual annual bookings or actual  shipments.  Our experience has been that the
cancellations,  rejections or returns of orders have not materially  reduced the
amount of sales realized from our backlog.


                                       7
<PAGE>


SEGMENT INFORMATION

         We operate in a single business segment - the design,  distribution and
importation of private label and private brand casual apparel. Substantially all
of our  revenues  are  from the  sales of  apparel.  We are  organized  into two
geographic regions:  the United States and Asia. We evaluate performance of each
region based on profit or loss from operations before income taxes not including
the  cumulative  effect of  change in  accounting  principles.  For  information
regarding the revenues and assets  associated with our geographic  regions,  see
Note 18 of the "Notes to Consolidated Financial Statements."

IMPORT RESTRICTIONS

QUOTAS

         We imported  substantially all of our products sold in 2007. A majority
of the merchandise  imported by us in 2007 was manufactured in various countries
(such as China) with which the U.S. had entered into bilateral trade agreements.

         As of  January  1,  2005,  quota on  apparel  from  all WTO  countries,
including  China  (except that certain  commodities  still  require  quotas as a
result of "safeguard measures"), was eliminated. As China is now a member of the
WTO,  its  exports of textiles  and  apparel to the U.S.  are covered by the WTO
Agreement on Textiles and Clothing.  In 2006,  quota was temporarily  reinstated
for China until 2008 for certain import merchandise categories.  Quota is traded
on the open market  through  quota  holders who possess the quota  holdings.  We
purchase quota from the open market. Quota gives us the right within the year to
ship our goods to the U.S. Quota  purchased from a third party is not subject to
duties.

DUTIES AND TARIFFS

         As with all goods imported into the U.S.,  our imported  merchandise is
subject to duty (unless  statutorily  exempt from duty) at rates  established by
U.S.  law.  These  rates  range,  depending  on the types of product  and fabric
content,  from  approximately  3% to 40% of the FOB  value  of the  product.  In
addition to duties, in the ordinary course of our business,  we are occasionally
subject  to claims by the U.S.  Bureau of  Customs  and  Border  Protection  for
penalties,  liquidated  damages and other charges relating to import activities.
Similarly, we are at times entitled to refunds from Customs,  resulting from the
overpayment of duties.

         Products  imported from China into the United  States  receive the same
preferential tariff treatment accorded goods from other countries granted Normal
Trade Relations status. This status has been in place conditionally for a number
of years and is now guaranteed on a more permanent basis by China's accession to
WTO membership in December 2001.

         Our continued  ability to source products from foreign countries may be
adversely  affected or improved by future  trade  agreements  and  restrictions,
changes in U.S. trade policy,  embargoes, the disruption of trade from exporting
countries as a result of political  instability  or the imposition of additional
duties,  taxes and other  charges or  restrictions  on all imports or  specified
classes of imports.

COMPETITION

         There is intense  competition in the sectors of the apparel industry in
which we participate.  We compete with many other  manufacturers,  many of which
are larger and have greater resources than us. We also face competition from our
own customers and potential  customers,  many of which have established,  or may
establish, their own internal product development and sourcing capabilities.  We


                                       8
<PAGE>


believe   that  we  compete   favorably  on  the  basis  of  design  and  sample
capabilities,  the quality and value of our products,  price, and the production
flexibility that we enjoy as a result of our sourcing network.

TRADEMARKS

         As part of our private  brands  strategy,  we acquire  ownership  of or
rights to a brand  name and sell  apparel  products  under this  brand.  We have
ownership  rights to the registered  trademarks  "American Rag Cie," "Marisa K",
"NO! Jeans" and "American Star". As described  elsewhere in this report,  we are
currently  involved in  litigation  with  respect to our  license  rights to the
American Rag Cie trademark.  For a further  description of this action see "Item
3. Legal Proceedings" of this Annual Report on Form 10-K.

SEASONALITY

         We have typically  experienced  seasonal  fluctuations in sales volume.
These seasonal  fluctuations  result in sales volume  decreases in the first and
fourth quarters of each year due to the seasonal fluctuations experienced by the
majority of our customers.

EMPLOYEES

         At December 31, 2007, we had approximately  150 full-time  employees in
the United States,  150 in Hong Kong and 10 in China.  None of our employees are
unionized.  We consider our relations with our employees to be  satisfactory  in
all areas of our operations.

ITEM 1A. RISK FACTORS

         This Annual  Report on Form 10-K contains  forward-looking  statements,
which are subject to a variety of risks and  uncertainties.  Our actual  results
could  differ  materially  from  those  anticipated  in  these   forward-looking
statements as a result of various factors, including those set forth below.

RISKS RELATED TO OUR BUSINESS

WE DEPEND ON A GROUP OF KEY CUSTOMERS FOR A SIGNIFICANT  PORTION OF OUR SALES. A
SIGNIFICANT  ADVERSE  CHANGE  IN A  CUSTOMER  RELATIONSHIP  OR  IN A  CUSTOMER'S
FINANCIAL POSITION COULD HARM OUR BUSINESS AND FINANCIAL CONDITION.

         Three  customers  accounted for  approximately  45% of our net sales in
fiscal year 2007.  We believe  that  consolidation  in the retail  industry  has
centralized  purchasing  decisions  and given  customers  greater  leverage over
suppliers,  like us, and we expect this trend to continue. If this consolidation
continues, our net sales and results of operations may be increasingly sensitive
to  deterioration in the financial  condition of, or other adverse  developments
with, one or more of our customers.

         While we have long-standing customer relationships, we generally do not
have  long-term  contracts with them except for Macy's  Merchandising  Group for
American Rag Cie.  Purchases  generally occur on an  order-by-order  basis,  and
relationships  exist as long as there is a perceived benefit to both parties.  A
decision by a major customer,  whether motivated by competitive  considerations,
financial  difficulties,  and economic conditions or otherwise,  to decrease its
purchases  from us or to change  its  manner of doing  business  with us,  could
adversely  affect our  business and  financial  condition.  In addition,  during
recent  years,  various  retailers,   including  some  of  our  customers,  have
experienced  significant  changes and difficulties,  including  consolidation of
ownership,  increased  centralization of purchasing  decisions,  restructurings,
bankruptcies and liquidations.


                                       9
<PAGE>


         These and other financial problems of some of our retailers, as well as
general  weakness  in the retail  environment,  increase  the risk of  extending
credit  to  these  retailers.   A  significant  adverse  change  in  a  customer
relationship  or in a customer's  financial  position could cause us to limit or
discontinue  business with that customer,  require us to assume more credit risk
relating to that  customer's  receivables,  limit our ability to collect amounts
related to previous purchases by that customer, or result in required prepayment
of our  receivables  securitization  arrangements,  all of which  could harm our
business and financial condition.

OUR GROWTH AND OPERATING RESULTS COULD BE MATERIALLY,  ADVERSELY  AFFECTED IF WE
ARE  UNSUCCESSFUL  IN RESOLVING A DISPUTE THAT NOW EXISTS  REGARDING  OUR RIGHTS
UNDER OUR LICENSE AGREEMENT WITH AMERICAN RAG CIE LLC.

         We are currently  involved in litigation with American Rag Cie, LLC and
American Rag Cie II with  respect to our license  rights to the American Rag Cie
trademark.  American Rag Cie, LLC owns the trademark  "American Rag Cie",  which
has been licensed to us on an exclusive  basis  throughout  the world except for
Japan and pursuant to which we sell  American Rag Cie branded  apparel to Macy's
Merchandising  Group and have  sub-licensed  to Macy's  Merchandising  Group the
right to manufacture  certain  categories of American Rag Cie branded apparel in
the United  States.  American Rag Cie LLC has purported to terminate our license
rights, and we have filed a counterclaim  seeking to a declaratory judgment that
the  termination  was invalid and alleging  other causes of action.  See Item 3,
"Legal  Proceedings" for discussion of this litigation.  We derive a significant
portion of our revenues  from the sale of American Rag Cie products  pursuant to
the license rights. Our business,  results of operations and financial condition
could be materially adversely affected if we are unable to reach a settlement in
a manner  acceptable  to us and ensuing  litigation  is not resolved in a manner
favorable  to us.  Additionally,  we may incur  significant  legal  fees in this
litigation, and unless the case is settled, we will continue to incur additional
legal fees in increasing amounts as the case moves toward trial.

FAILURE OF THE  TRANSPORTATION  INFRASTRUCTURE TO MOVE SEA FREIGHT IN ACCEPTABLE
TIME FRAMES COULD ADVERSELY AFFECT OUR BUSINESS.

         Because the bulk of our  freight is  designed to move  through the West
Coast ports in  predictable  time frames,  we are at risk of  cancellations  and
penalties when those ports operate  inefficiently  creating  delays in delivery.
Unpredictable  timing for  shipping  may cause us to utilize  air freight or may
result in customer  penalties for late  delivery,  any of which could reduce our
operating margins and adversely affect our results of operations.

UNPREDICTABLE  DELAYS  AS  THE  RESULT  OF  INCREASED  AND  INTENSIFIED  CUSTOMS
ACTIVITY.

         U.S.  Customs has stepped up efforts to  scrutinize  imports  from Hong
Kong in order to verify all details of  shipments  under the OPA rules  allowing
certain  processes to be performed in China without shipping under China country
of origin  documentation.  Such "detentions" are unpredictable and cause serious
interruption of normally expected freight movement timetables.

FAILURE TO MANAGE OUR GROWTH AND EXPANSION COULD IMPAIR OUR BUSINESS.

         Since our inception,  we have experienced  periods of rapid growth.  No
assurance can be given that we will be successful in  maintaining  or increasing
our sales in the  future.  Any future  growth in sales will  require  additional
working capital and may place a significant strain on our management, management
information systems,  inventory  management,  sourcing capability,  distribution
facilities and receivables  management.  Any disruption in our order processing,
sourcing or  distribution  systems  could cause orders to be shipped  late,  and
under  industry  practices,  retailers  generally can cancel orders or refuse to
accept


                                       10
<PAGE>


goods due to late  shipment.  Such  cancellations  and returns would result in a
reduction in revenue,  increased administrative and shipping costs and a further
burden on our distribution facilities.

OUR OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY.

         We have experienced, and expect to continue to experience,  substantial
variations  in our net sales and operating  results from quarter to quarter.  We
believe that the factors which influence this  variability of quarterly  results
include  the  timing of our  introduction  of new  product  lines,  the level of
consumer  acceptance  of each new product  line,  general  economic and industry
conditions  that  affect  consumer   spending  and  retailer   purchasing,   the
availability of manufacturing  capacity, the seasonality of the markets in which
we participate,  the timing of trade shows,  the product mix of customer orders,
the timing of the placement or  cancellation  of customer  orders,  the weather,
transportation  delays, the occurrence of charge backs in excess of reserves and
the timing of  expenditures  in  anticipation  of increased sales and actions of
competitors.  Due to  fluctuations  in our revenue and  operating  expenses,  we
believe that period-to-period comparisons of our results of operations are not a
good  indication of our future  performance.  It is possible that in some future
quarter or quarters,  our operating  results will be below the  expectations  of
securities analysts or investors.  In that case, our stock price could fluctuate
significantly or decline.

WE DEPEND ON OUR COMPUTER AND COMMUNICATIONS SYSTEMS.

         As  a  multi-national   corporation,   we  rely  on  our  computer  and
communication  network to operate efficiently.  Any interruption of this service
from power loss,  telecommunications  failure, weather, natural disasters or any
similar  event  could  have  a  material  adverse  affect  on our  business  and
operations. Additionally, hackers and computer viruses have disrupted operations
at many major companies. We may be vulnerable to similar acts of sabotage, which
could have a material adverse effect on our business and operations.

WE MAY REQUIRE ADDITIONAL CAPITAL IN THE FUTURE.

         We may not be able to fund our  future  growth or react to  competitive
pressures if we lack sufficient funds.  Currently, we believe we have sufficient
cash on hand and cash available through our bank credit facilities,  issuance of
long-term  debt and equity  securities,  and proceeds from the exercise of stock
options to fund existing operations for the foreseeable future.  However, in the
future we may need to raise  additional  funds through equity or debt financings
or collaborative relationships. This additional funding may not be available or,
if  available,  it may not be available on  economically  reasonable  terms.  In
addition,  any additional funding may result in significant dilution to existing
shareholders. If adequate funds are not available, we may be required to curtail
our operations or obtain funds through  collaborative  partners that may require
us to release material rights to our products.

OUR BUSINESS IS SUBJECT TO RISKS ASSOCIATED WITH IMPORTING PRODUCTS.

         Substantially  all of our  import  operations  are  subject  to tariffs
imposed on imported  products,  safeguards and growth  targets  imposed by trade
agreements. In addition, the countries in which our products are manufactured or
imported may from time to time impose  additional  new duties,  tariffs or other
restrictions on our imports or adversely modify existing  restrictions.  Adverse
changes in these import costs and  restrictions,  or our  suppliers'  failure to
comply with customs or similar laws,  could harm our business.  We cannot assure
that future trade  agreements will not provide our competitors with an advantage
over us, or increase our costs,  either of which could have an adverse effect on
our business and financial condition.


                                       11
<PAGE>


         Our operations are also subject to the effects of  international  trade
agreements and regulations such as the North American Free Trade Agreement,  and
the activities and regulations of the World Trade Organization. Generally, these
trade  agreements  benefit our  business by reducing or  eliminating  the duties
assessed  on products  manufactured  in a  particular  country.  However,  trade
agreements can also impose requirements that adversely affect our business, such
as limiting the  countries  from which we can purchase raw materials and setting
duties or  restrictions  on products that may be imported into the United States
from a  particular  country.  In  addition,  the World  Trade  Organization  may
commence a new round of trade  negotiations  that  liberalize  textile  trade by
further  eliminating  or reducing  tariffs.  The  elimination of quotas on World
Trade Organization  member countries in 2005 has resulted in explosive growth in
textile imports from China, and subsequent  safeguard measures including embargo
of  certain  China  country of origin  products.  Actions  taken to avoid  these
measures caused disruption, and a negative impact on margins. In 2006, quota was
temporarily  reinstated  for China  until 2008 for  certain  import  merchandise
categories.  Such disruptions and the temporary  measures may continue to affect
us to some extent in the future.

         We  have  voluntarily   implemented  the  guiding  principles  for  the
Customs-Trade  Partnership Against Terrorism (C-TPAT) Program as proposed by the
US Customs and Border Protection to protect our supply chain from concealment of
terrorist weapons. While we have a strong commitment to this program, we are not
immune to threats of terrorist activities.

OUR DEPENDENCE ON INDEPENDENT  MANUFACTURERS  REDUCES OUR ABILITY TO CONTROL THE
MANUFACTURING  PROCESS,  WHICH  COULD HARM OUR  SALES,  REPUTATION  AND  OVERALL
PROFITABILITY.

         We depend on independent contract  manufacturers to secure a sufficient
supply of raw  materials  and  maintain  sufficient  manufacturing  and shipping
capacity in an environment  characterized by declining  prices,  labor shortage,
continuing  cost  pressure  and  increased  demands for product  innovation  and
speed-to-market.  This  dependence  could  subject us to difficulty in obtaining
timely delivery of products of acceptable quality.  In addition,  a contractor's
failure  to ship  products  to us in a timely  manner  or to meet  the  required
quality  standards could cause us to miss the delivery date  requirements of our
customers.  The failure to make timely  deliveries  may cause our  customers  to
cancel  orders,  refuse  to accept  deliveries,  impose  non-compliance  charges
through  invoice  deductions or other  charge-backs,  demand  reduced  prices or
reduce future orders, any of which could harm our sales,  reputation and overall
profitability.  We do not  have  material  long-term  contracts  with any of our
independent  contractors and any of these contractors may unilaterally terminate
their  relationship with us at any time. To the extent we are not able to secure
or maintain relationships with independent  contractors that are able to fulfill
our requirements, our business would be harmed.

         We have implemented a factory compliance  agreement with our suppliers,
and monitor our independent  contractors' compliance with applicable labor laws,
but we do not control our contractors or their labor practices. The violation of
federal,  state or foreign labor laws by one of the our contractors could result
in our being subject to fines and our goods that are  manufactured  in violation
of such laws being seized or their sale in interstate commerce being prohibited.
From  time to  time,  we  have  been  notified  by  federal,  state  or  foreign
authorities that certain of our contractors are the subject of investigations or
have been found to have  violated  applicable  labor laws.  To date, we have not
been subject to any sanctions that, individually or in the aggregate, have had a
material  adverse  effect on our business,  and we are not aware of any facts on
which any such  sanctions  could be based.  There can be no assurance,  however,
that in the future we will not be subject to sanctions as a result of violations
of applicable  labor laws by our  contractors,  or that such  sanctions will not
have a material  adverse  effect on our business and results of  operations.  In
addition,  certain of our customers,  require strict compliance by their apparel
manufacturers, including us, with applicable labor laws and visit our facilities
often. There


                                       12
<PAGE>


can be no assurance  that the violation of  applicable  labor laws by one of our
contractors will not have a material adverse effect on our relationship with our
customers.

OUR  BUSINESS IS SUBJECT TO RISKS OF  OPERATING  IN A FOREIGN  COUNTRY AND TRADE
RESTRICTIONS.

         We are subject to the risks  associated  with doing business in foreign
countries,   including,   but  not   limited  to,   transportation   delays  and
interruptions,  political instability,  expropriation, currency fluctuations and
the imposition of tariffs, import and export controls, other non-tariff barriers
and cultural  issues.  Any changes in those countries' labor laws and government
regulations may have a negative effect on our profitability.

RISK ASSOCIATED WITH OUR INDUSTRY

OUR SALES ARE HEAVILY INFLUENCED BY GENERAL ECONOMIC CYCLES.

         Apparel  is a cyclical  industry  that is  heavily  dependent  upon the
overall level of consumer spending.  Purchases of apparel and related goods tend
to be highly  correlated with cycles in the disposable  income of our consumers.
Our customers  anticipate and respond to adverse changes in economic  conditions
and uncertainty by reducing  inventories and canceling orders. As a result,  any
substantial deterioration in general economic conditions,  increases in interest
rates,  acts of war,  terrorist  or  political  events  that  diminish  consumer
spending and confidence in any of the regions in which we compete,  could reduce
our sales and adversely affect our business and financial condition.

OUR BUSINESS IS HIGHLY COMPETITIVE AND DEPENDS ON CONSUMER SPENDING PATTERNS.

         The  apparel  industry  is highly  competitive.  We face a  variety  of
competitive challenges including:

         o        anticipating  and  quickly  responding  to  changing  consumer
                  demands;

         o        developing innovative,  high-quality products in sizes, colors
                  and styles that appeal to  consumers of varying age groups and
                  tastes;

         o        competitively  pricing our  products  and  achieving  customer
                  perception of value; and

         o        the need to provide strong and effective marketing support.

WE MUST SUCCESSFULLY  GAUGE FASHION TRENDS AND CHANGING CONSUMER  PREFERENCES TO
SUCCEED.

         Our success is largely  dependent upon our ability to gauge the fashion
tastes of our customers and to provide  merchandise  that  satisfies  retail and
customer demand in a timely manner. The apparel business fluctuates according to
changes in consumer  preferences  dictated in part by fashion and season. To the
extent we misjudge  the market for our  merchandise  our sales may be  adversely
affected.  Our ability to anticipate and effectively respond to changing fashion
trends depends in part on our ability to attract and retain key personnel in our
design,  merchandising  and marketing staff.  Competition for these personnel is
intense,  and we  cannot be sure that we will be able to  attract  and  retain a
sufficient number of qualified personnel in future periods.

OUR BUSINESS IS SUBJECT TO SEASONAL TRENDS.

         Historically,  our  operating  results  have been  subject to  seasonal
trends when measured on a quarterly  basis.  This trend is dependent on numerous
factors,  including the markets in which we operate,  holiday seasons,  consumer
demand,  climate,  economic  conditions  and numerous  other factors  beyond our


                                       13
<PAGE>


control.  There can be no assurance  that our historic  operating  patterns will
continue in future  periods as we cannot  influence  or  forecast  many of these
factors.

OTHER RISKS RELATED TO AN INVESTMENT IN OUR COMMON STOCK

THE  REQUIREMENTS  OF  THE  SARBANES-OXLEY   ACT,  INCLUDING  SECTION  404,  ARE
BURDENSOME,  AND OUR FAILURE TO COMPLY  WITH THEM COULD HAVE A MATERIAL  ADVERSE
AFFECT ON OUR BUSINESS AND STOCK PRICE.

         Effective internal control over financial reporting is necessary for us
to provide reliable financial reports and effectively prevent fraud. Section 404
of the Sarbanes-Oxley Act of 2002 requires our management to evaluate and report
on our  internal  control over  financial  reporting  beginning  with our annual
report  on Form  10-K  for  the  fiscal  year  ending  December  31,  2007.  Our
independent  registered  public  accounting firm will need to annually attest to
our  evaluation,  and issue  their own  opinion  on our  internal  control  over
financial reporting beginning with our annual report on Form 10-K for the fiscal
year ending December 31, 2008,  unless this requirement is further  postponed by
the Securities  and Exchange  Commission.  We have prepared for compliance  with
Section  404 by  strengthening,  assessing  and  testing  our system of internal
control  over  financial  reporting  to provide  the basis for our  report.  The
process of  strengthening  our internal  control over  financial  reporting  and
complying  with  Section  404 is  expensive  and time  consuming,  and  requires
significant management attention. We cannot be certain that the measures we will
undertake will ensure that we will maintain adequate controls over our financial
processes and reporting in the future.  Failure to implement  required controls,
or difficulties  encountered in their  implementation,  could harm our operating
results  or  cause us to fail to meet our  reporting  obligations.  If we or our
auditors  discover a material  weakness in our internal  control over  financial
reporting,  the  disclosure  of that  fact,  even  if the  weakness  is  quickly
remedied,  could diminish investors'  confidence in our financial statements and
harm our stock price. In addition, non-compliance with Section 404 could subject
us to a  variety  of  administrative  sanctions,  including  the  suspension  of
trading,  ineligibility for listing on NASDAQ or one of the national  securities
exchanges,  and the inability of registered  broker-dealers  to make a market in
our common stock, which would further reduce our stock price.

INSIDERS OWN A SIGNIFICANT  PORTION OF OUR COMMON  STOCK,  WHICH COULD LIMIT OUR
SHAREHOLDERS' ABILITY TO INFLUENCE THE OUTCOME OF KEY TRANSACTIONS.

         As of March 24, 2008,  our  executive  officers and directors and their
affiliates  owned  approximately  45% of our  common  stock.  Gerard  Guez,  our
Chairman and Interim Chief Executive  Officer,  and Todd Kay, our Vice Chairman,
alone own approximately 32% and 8%,  respectively,  of our common stock at March
24, 2008. Accordingly,  our executive officers and directors have the ability to
affect  the  outcome  of, or exert  considerable  influence  over,  all  matters
requiring shareholder approval,  including the election and removal of directors
and any change in control.  This  concentration of ownership of our common stock
could have the effect of  delaying  or  preventing  a change of control of us or
otherwise  discouraging  or preventing a potential  acquirer from  attempting to
obtain control of us. This, in turn,  could have a negative effect on the market
price of our common stock. It could also prevent our shareholders from realizing
a premium over the market prices for their shares of common stock.

WE HAVE ADOPTED A NUMBER OF ANTI-TAKEOVER MEASURES THAT MAY DEPRESS THE PRICE OF
OUR COMMON STOCK.

         Our shareholders rights plan, our ability to issue additional shares of
preferred stock and some provisions of our articles of incorporation  and bylaws
could make it more difficult for a third party to make an  unsolicited  takeover
attempt of us. These anti-takeover  measures may depress the price of our common
stock by making it more difficult for third parties to acquire us by offering to
purchase  shares of our stock at a premium to its market price without  approval
of our board of directors.


                                       14
<PAGE>


OUR STOCK PRICE HAS BEEN VOLATILE.

         Our common stock is quoted on the NASDAQ Global  Market,  and there can
be  substantial  volatility in the market price of our common stock.  The market
price of our common stock has been,  and is likely to continue to be, subject to
significant  fluctuations  due to a  variety  of  factors,  including  quarterly
variations  in  operating  results,   operating  results  which  vary  from  the
expectations  of  securities  analysts  and  investors,   changes  in  financial
estimates,  changes in market valuations of competitors,  announcements by us or
our competitors of a material nature,  loss of one or more customers,  additions
or  departures of key  personnel,  future sales of common stock and stock market
price and volume  fluctuations.  In  addition,  general  political  and economic
conditions such as a recession,  or interest rate or currency rate  fluctuations
may adversely affect the market price of our common stock.

         In addition,  the stock market in general has experienced extreme price
and volume fluctuations that have affected the market price of our common stock.
Often, price fluctuations are unrelated to operating performance of the specific
companies whose stock is affected.  In the past, following periods of volatility
in the market price of a company's stock, securities class action litigation has
occurred  against  the  issuing  company.  If we were  subject  to this  type of
litigation in the future,  we could incur  substantial  costs and a diversion of
our  management's  attention and resources,  each of which could have a material
adverse effect on our revenue and earnings.  Any adverse  determination  in this
type of litigation could also subject us to significant liabilities.

ABSENCE OF DIVIDENDS COULD REDUCE OUR ATTRACTIVENESS TO YOU.

         Some investors  favor  companies that pay  dividends,  particularly  in
general  downturns  in the stock  market.  We have not declared or paid any cash
dividends on our common stock. We currently intend to retain any future earnings
for funding growth, and we do not currently  anticipate paying cash dividends on
our  common  stock  in the  foreseeable  future.  Additionally,  we  cannot  pay
dividends on our common stock unless the terms of our bank credit facilities and
outstanding  preferred  stock,  if any,  permit the payment of  dividends on our
common stock.  Because we may not pay dividends,  your return on this investment
likely depends on your selling our stock at a profit.

ITEM 1B. UNRESOLVED STAFF COMMENTS

         Not applicable.


                                       15
<PAGE>


ITEM 2.  PROPERTIES

         At March 24, 2008, we conducted our operations from 9 facilities,  7 of
which were leased. The following table sets forth our facilities, and for leased
facilities the annual rental amount of, expiration of the current lease:

                                                  Annual
Location                      Purpose          Rental Amount       Expiration
------------------    ---------------------    -------------      --------------
Los Angeles, CA       Executive offices and    $     656,000         July 2011
(Washington Blvd.)    warehouse

New York, NY          Showroom                 $     576,000         June 2015

Ruleville, MS
(2 facilities)        Office and warehouse             Owned

Hong Kong             Office and warehouse     $     480,000      Month-to-month

Hong Kong             Warehouse                $      22,000        July 2009

Shanghai, China       Office                   $      82,000       December 2008

Tehuacan, Mexico      Storage                  $       5,000      Month-to-month

Puebla, Mexico        Office and Storage       $       5,000        March 2008


         We lease our executive offices and warehouse in Los Angeles, California
from GET, a corporation  which is owned by Gerard Guez, our Chairman and Interim
Chief Executive Officer, and Todd Kay, our Vice Chairman. Additionally, we lease
our warehouse and office space in Hong Kong from Lynx  International  Limited, a
Hong Kong corporation  that is owned by Messrs.  Guez and Kay. Our lease for the
executive offices and warehouse in Los Angeles has a term of five years expiring
in 2011, with an option to renew for an additional five year term. Our lease for
the office  space and  warehouse  in Hong Kong has expired and we are  currently
renting this space on a month to month basis.

         We own two  facilities in Ruleville,  Mississippi  with an aggregate of
70,000 square feet.

         We entered into a lease  agreement in June 2005 for our showroom in New
York through  June 2015.  This is  currently  the location  used for the private
brands sales, design and technical departments,  which functions were moved from
our Los Angeles executive office.

         Our lease  agreement  in Puebla,  Mexico  for our  office  and  storage
expired in March 2008.

         We believe that all of our existing facilities are well maintained,  in
good operating condition and adequate to meet our current and foreseeable needs.

ITEM 3.  LEGAL PROCEEDINGS

         On  February  1,  2008,  Tarrant  Apparel  Group  and our  wholly-owned
subsidiary,  Private Brands,  Inc., filed and served a  cross-complaint  against
American  Rag Cie, LLC (the "LLC") and American Rag Cie II ("ARC II") in the, in
the action AMERICAN RAG CIE V. PRIVATE BRANDS, INC., Superior Court of the State
of California,  County of Los Angeles, Central District, Case No. BC 384428. The
original action had been filed on January 28, 2008 against Private Brands by the
LLC. The LLC owns the trademark "American Rag Cie", which mark has been licensed
to Private  Brands on an exclusive  basis  throughout the world except for Japan
and pursuant to which Private Brands sells  American Rag Cie branded  apparel to
Macy's  Merchandising  Group and has sub-licensed to Macy's  Merchandising Group
the right to


                                       16
<PAGE>


manufacture certain categories of American Rag Cie branded apparel in the United
States.  The LLC is owned 55% by ARC II and 45% by Tarrant Apparel Group. In the
original  complaint the LLC seeks a  declaratory  judgment that we have breached
the  license  agreement  and  that  the  license  agreement  has  been  properly
terminated.  Our  cross-complaint  counters this claim,  and seeks a declaration
that the license agreement is valid and continues to be in effect. Additionally,
the  cross-complaint  seeks  relief on a number of causes of  action,  including
breach  of the  license  agreement,  a  declaration  by  the  Court  imposing  a
reasonable term into the agreement for  sublicensing  royalties,  dissolution of
LLC,  damages for breach of  fiduciary  duty,  and an  accounting  of the monies
diverted  by  defendants'  actions.  Based  upon a clause  in the LLC  operating
agreement,  the causes of action asserted in the  cross-complaint  for breach of
fiduciary  duty and an  accounting  are subject to  determination  by a Judicial
Referee, and the parties are currently in the process of selecting one. On March
3, 2008, we dismissed, without prejudice, our claim for dissolution of LLC after
being  notified  that ARC II had  elected  to buy out our  share  in the LLC,  a
permitted  defense to an action for dissolution.  On March 19, 2008, the LLC and
ARC II filed an amended  complaint,  in which they expanded their claims against
us to include  claims for breach of  contract,  fraud,  and breach of  fiduciary
duty,  and seeking  further  declaratory  relief and  compensatory  and punitive
damages. The action is in the early stages of discovery.

         In April 2006,  we  commenced  an action  against  the  licensor of the
Jessica Simpson brands  (captioned  TARRANT  APPAREL GROUP V. CAMUTO  CONSULTING
GROUP,  INC., VCJS LLC, WITH YOU, INC. AND JESSICA SIMPSON) in the Supreme Court
of the State of New York,  County of New York. The suit named Camuto  Consulting
Group,  Inc.,  VCJS LLC, With You, Inc. and Jessica  Simpson as defendants,  and
asserted that the defendants  failed to provide  promised  support in connection
with our sublicense  agreement for the Jessica Simpson brands,  as well as fraud
against Camuto Consulting.  The complaint was amended to add Vincent Camuto as a
defendant  and  included  nine  causes  of  action,   including  two  seeking  a
declaration  that the  sublicense  agreement  was  exclusive and remains in full
force and effect,  as well as claims for breach of contract,  breach of the duty
of good  faith  and  fair  dealing  and  fraudulent  inducement  against  Camuto
Consulting,   a  claim  against  Vincent  Camuto   individually  for  fraudulent
inducement,  and a claim against With You, Inc. and Ms.  Simpson that we were an
intended  third party  beneficiary of the license  between those  defendants and
Camuto  Consulting.   Camuto  Consulting,   VCJS  and  Vincent  Camuto  filed  a
counterclaim  against  us for breach of the  sublicense  agreement  and  alleged
damages of no less than $100 million.  With You,  Inc. and Jessica  Simpson also
filed  counterclaims   against  us  alleging  trademark   infringement,   unfair
competition and business practices,  violation of the right of privacy and other
claims,  and seeking injunctive relief and damages in an amount to be determined
but no less than $100 million plus treble and punitive  damages.  By Order filed
January 17, 2007, the Court granted the motion of With You, Inc. and Ms. Simpson
to  discontinue   all  of  Ms.   Simpson's   counterclaims,   and  her  personal
counterclaims were dismissed with prejudice. In November 2007, we entered into a
settlement  agreement with Camuto  Consulting  Group,  Inc., VCJS LLC, With You,
Inc. and Jessica  Simpson with respect to the litigation  regarding our previous
agreement to design,  manufacture  and distribute  Jessica Simpson branded jeans
and casual apparel.  Pursuant to the settlement agreement, the parties agreed to
dismiss with  prejudice all claims  relating to these actions or the  sublicense
agreement and we received a payment of $3 million.

         From time to time, we are involved in various routine legal proceedings
incidental to the conduct of our business.  Our management does not believe that
any of these  legal  proceedings  will  have a  material  adverse  impact on our
business, financial condition or results of operations, either due to the nature
of the claims,  or because our  management  believes that such claims should not
exceed the limits of the our insurance coverage.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

         There were no matters  submitted to a vote of our  shareholders  during
the fourth quarter of 2007.


                                       17
<PAGE>


                                     PART II

ITEM 5.  MARKET FOR REGISTRANT'S COMMON EQUITY,  RELATED STOCKHOLDER MATTERS AND
         ISSUER PURCHASES OF EQUITY SECURITIES

NASDAQ GLOBAL MARKET

         Our common stock is quoted on the NASDAQ Stock  Market's  Global Market
under the symbol  "TAGS."  The  following  table  sets  forth,  for the  periods
indicated,  the  range of high  and low  sale  prices  for our  common  stock as
reported by NASDAQ.

                                                             Low        High
                                                           -------    --------
2007
First Quarter...........................................     1.41       2.01
Second Quarter..........................................     1.01       2.10
Third Quarter...........................................     1.08       1.33
Fourth Quarter..........................................     1.10       1.27

                                                           -------    --------
2006
First Quarter...........................................     1.06       1.44
Second Quarter..........................................     1.25       2.11
Third Quarter...........................................     1.29       2.00
Fourth Quarter..........................................     1.19       1.60

         On March 24, 2008,  the last reported sale price of our common stock as
reported by NASDAQ was $0.57.  As of March 24, 2008, we had 24  shareholders  of
record.

DIVIDEND POLICY

         We have not declared dividends on our common stock during either of the
last two fiscal  years.  We intend to retain any future  earnings for use in our
business  and,  therefore,  do not  anticipate  declaring  or  paying  any  cash
dividends in the  foreseeable  future.  The  declaration and payment of any cash
dividends  in the future  will depend upon our  earnings,  financial  condition,
capital needs and other factors  deemed  relevant by the Board of Directors.  In
addition,  our credit  agreements  prohibit the payment of dividends  during the
term of the agreements.

PERFORMANCE GRAPH

         The  following  graph sets forth the  percentage  change in  cumulative
total  shareholder  return of our common stock during the five-year  period from
December 31, 2002 to December 31, 2007,  compared with the cumulative returns of
the NASDAQ Composite Index and a peer group of companies. The component entities
of the peer group consist of Accesstel Inc., GS Energy Corp.,  Maidenform Brands
Inc.  and Nitches  Inc.  and were  generated  by Research  Data Group,  Inc. The
comparison  assumes  $100 was  invested on December 31, 2002 in our common stock
and in each  of the  foregoing  indices.  The  stock  price  performance  on the
following graph is not necessarily indicative of future stock price performance.


                                       18
<PAGE>


                          [PERFORMANCE GRAPH OMITTED]

<TABLE>
<CAPTION>
                                                 CUMULATIVE TOTAL RETURN
                             ---------------------------------------------------------------
                              12/02      12/03      12/04      12/05      12/06      12/07
                             --------   --------   --------   --------   --------   --------
<S>                            <C>        <C>        <C>        <C>        <C>        <C>
TARRANT APPAREL GROUP ....     100.00      87.78      59.66      25.92      35.94      28.36
NASDAQ COMPOSITE .........     100.00     149.75     164.64     168.60     187.83     205.22
PEER GROUP ...............     100.00      18.55       9.62       1.70       2.45       1.74
</TABLE>

         The information under this "Performance  Graph" subheading shall not be
deemed to be "filed" for the purposes of Section 18 of the  Securities  Exchange
Act of 1934, or otherwise subject to the liabilities of such section,  nor shall
such  information or exhibit be deemed  incorporated  by reference in any filing
under  the  Securities  Act of 1933 or the  Exchange  Act,  except  as  shall be
expressly set forth by specific reference in such a filing.


                                       19
<PAGE>


ITEM 6.  SELECTED FINANCIAL DATA

         The following  selected financial data is qualified in its entirety by,
and should be read in  conjunction  with,  the other  information  and financial
statements, including the notes thereto, appearing elsewhere herein.

<TABLE>
<CAPTION>
                                                         YEAR ENDED DECEMBER 31,
                                   -----------------------------------------------------------------
                                      2003          2004          2005          2006          2007
                                   ---------     ---------     ---------     ---------     ---------
                                                 (In thousands, except per share data)
<S>                                <C>           <C>           <C>           <C>           <C>
INCOME STATEMENT DATA:
Total net sales ...............    $ 320,423     $ 155,453     $ 214,648     $ 232,402     $ 243,721
Total cost of sales ...........      288,445       134,492       169,767       181,760       194,821
                                   ---------     ---------     ---------     ---------     ---------

Gross profit ..................       31,978        20,961        44,881        50,642        48,900
Selling and distribution
   expenses ...................       11,329         9,291        10,726        11,016        14,724
General and administrative
   expenses ...................       31,767        32,084        26,865        26,879        24,312
Royalty expense ...............          242           605         3,665         2,815         1,864
Impairment charges (2) ........       22,277        77,982          --            --            --
Cumulative translation loss (3)         --          22,786          --            --            --
Loss on notes receivable-
   related parties (4) ........         --            --            --          27,137          --
Terminated acquisition expense.         --            --            --            --           2,000
Adjustment to fair value of
   long-term receivable -
   related parties ............         --            --            --            --             808
                                   ---------     ---------     ---------     ---------     ---------

Income (loss) from operations .    $ (33,637)    $(121,787)    $   3,625     $ (17,205)    $   5,192
Interest expense ..............       (5,603)       (2,857)       (4,625)       (6,060)       (4,118)
Interest income ...............          425           377         2,081         1,181           169
Interest in income of equity
   method investee ............         --             770           560            80           157
Other income (1) ..............        4,784         6,366           354           336         4,094
Adjustment to fair value of
   derivative .................         --            --            --             315           196
Other expense (1) .............       (1,183)         (529)         --            (436)       (4,977)
                                   ---------     ---------     ---------     ---------     ---------
Income (loss) before credit
   (provision) for income
   taxes and minority interest       (35,214)     (117,660)        1,995       (21,789)          713
Credit (provision) for income
   taxes ......................       (4,132)       (2,348)         (927)         (453)        1,041
Minority interest .............        3,461        15,331           (75)           21            (6)
                                   ---------     ---------     ---------     ---------     ---------

Net income (loss) .............    $ (35,885)    $(104,677)    $     993     $ (22,221)    $   1,748
Dividend to preferred
   stockholders ...............       (7,494)         --            --            --            --
                                   ---------     ---------     ---------     ---------     ---------
Net income (loss) available to
   common stockholders (as
   restated) ..................    $ (43,379)    $(104,677)    $     993     $ (22,221)    $   1,748
                                   =========     =========     =========     =========     =========

Net income (loss) per share-
Basic .........................    $   (2.38)    $   (3.64)    $    0.03     $   (0.73)    $    0.06
Diluted .......................    $   (2.38)    $   (3.64)    $    0.03     $   (0.73)    $    0.06

Weighted average shares
   outstanding (000)
   Basic ......................       18,215        28,733        29,729        30,546        30,618
   Diluted ....................       18,215        28,733        29,734        30,546        30,618
</TABLE>


                                       20
<PAGE>


<TABLE>
<CAPTION>
                                                           AS OF DECEMBER 31,
                                   -----------------------------------------------------------------
                                      2003          2004          2005          2006          2007
                                   ---------     ---------     ---------     ---------     ---------
                                                            (In thousands)
<S>                                <C>           <C>           <C>           <C>           <C>
BALANCE SHEET DATA:
Working capital ...............    $ (18,018)    $ (12,295)    $ (11,004)    $  (9,794)    $   6,826
Total assets ..................      253,105       131,811       151,242       111,132        70,989
Bank borrowings, convertible
   debenture and long-term
   obligations ................       68,587        48,455        56,148        44,501        12,748
Shareholders' equity ..........      107,709        30,678        35,360        17,922        21,243
</TABLE>

(1)      Major components of other income (expense) (as presented above) include
         rental and lease  income,  and foreign  currency  gains or losses.  See
         "Item 7.  Management's  Discussion and Analysis of Financial  Condition
         and Results of Operations."

(2)      The  expense in 2004 was the  impairment  of  long-lived  assets of our
         Mexico  operations  due to  our  decision  to  sell  the  manufacturing
         operations  in Mexico.  The expense in 2003 was the  impairment  of our
         goodwill and intangible assets and write-off of prepaid expenses due to
         our decision to cease directly operating a substantial  majority of our
         equipment and fixed assets in Mexico commencing in the third quarter of
         2003.

(3)      Cumulative   translation   loss   attributable  to  liquidated   Mexico
         operations  in  2004  was  due to our  decision  to  cease  our  Mexico
         operations.

(4)      In the third quarter of 2006, we evaluated  the  recoverability  of the
         notes  receivable - related parties and recorded a reserve on the notes
         receivable in an amount equal to the outstanding balance less the value
         of the underlying  assets securing the notes. The loss was estimated to
         be approximately $27.1 million, resulting in a notes receivable balance
         at September 30, 2006 of  approximately  $14 million.  We believe there
         was no significant  change  subsequently on the value of the underlying
         assets  securing  the  notes;  therefore,  we did not  have  additional
         reserve  after the third  quarter of 2006.  See Note 5 of the "Notes to
         Consolidated Financial Statements."


                                       21
<PAGE>


ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
         OF OPERATIONS

         The following  discussion and analysis should be read together with the
Consolidated  Financial  Statements  of Tarrant  Apparel Group and the "Notes to
Consolidated  Financial  Statements"  included elsewhere in this Form 10-K. This
discussion   summarizes  the  significant  factors  affecting  the  consolidated
operating results,  financial  condition and liquidity and cash flows of Tarrant
Apparel  Group for the fiscal  years ended  December  31,  2005,  2006 and 2007.
Except for historical  information,  the matters  discussed in this Management's
Discussion  and Analysis of Financial  Condition and Results of  Operations  are
forward looking  statements that involve risks and  uncertainties  and are based
upon  judgments  concerning  various  factors that are beyond our  control.  See
"Cautionary Statement Regarding  Forward-Looking  Statements" and "Item 1A. Risk
Factors."

OVERVIEW

         Tarrant  Apparel  Group is a design and  sourcing  company  for private
label and private brand casual apparel  serving mass  merchandisers,  department
stores, branded wholesalers and specialty chains located primarily in the United
States.  Our private  brands  include  American Rag Cie,  Marisa K, and American
Star.

         We  generate  revenues  from the  sale of  apparel  merchandise  to our
customers  that we have  manufactured  by  third  party  contract  manufacturers
located  outside of the United  States.  Revenues and net income  (loss) for the
years  ended  December  31,  2005,  2006 and 2007 were as  follows  (dollars  in
thousands):

REVENUES AND NET INCOME (LOSS):          2005            2006             2007
                                      ---------       ---------        ---------
Total net sales ...............       $ 214,648       $ 232,402        $ 243,721
Net income (loss) .............       $     993       $ (22,221)       $   1,748


         Cash flows for the years ended December 31, 2005, 2006 and 2007 were as
follows (dollars in thousands):

CASH FLOWS:                                  2005          2006          2007
                                           --------      --------      --------
Net cash provided by (used in)
  operating activities ...............     $(12,900)     $ 15,047      $ 12,476
Net cash provided by (used in)
  investing activities ...............     $  3,555      $ (5,071)     $ 21,455
Net cash provided by (used in)
  financing activities ...............     $  9,772      $(10,713)     $(34,345)

SIGNIFICANT DEVELOPMENTS IN 2007

PRIVATE LABEL

         Private  label  business has been our core  competency  for over twenty
years, and involves a one to one relationship with a large, centrally controlled
retailer   with  whom  we  can   develop   product   lines  that  fit  with  the
characteristics of their particular  customer.  Private label sales in 2007 were
$198.8 million compared to $181.2 million in 2006.


                                       22
<PAGE>


PRIVATE BRANDS

         We launched our private brands initiative in 2003, pursuant to which we
acquire ownership of or license rights to a brand name and sell apparel products
under this brand,  generally  to a single  retail  company  within a  geographic
region.  Private  brands  sales in 2007 were  $44.9  million  compared  to $51.2
million in 2006.  During  2007,  we owned or  licensed  rights to the  following
private brands:

         o        AMERICAN  RAG CIE:  During  the  first  quarter  of  2005,  we
                  extended our agreement with Macy's Merchandising Group through
                  2014, pursuant to which we exclusively distribute our American
                  Rag Cie brand through Macy's  Merchandising  Group's  national
                  Department  Store  organization  of more than 600 stores.  Net
                  sales  of  American  Rag Cie  branded  apparel  totaled  $43.3
                  million in 2007 compared to $33.2 million in 2006.

         o        ALAIN  WEIZ:  We  have   previously  sold  Alan  Weiz  apparel
                  exclusively to Dillard's  Department  Stores.  From January 1,
                  2007, we were able to sell our licensed  brand "Alain Weiz" to
                  specialty  stores and  department  stores.  Net sales of Alain
                  Weiz branded apparel totaled $131,000 in 2007 compared to $5.5
                  million in 2006.  The "Alain Weiz" brand was  discontinued  in
                  mid 2007 after disappointing performance.

         o        MARISA K: This  brand is being  sold to  specialty  stores and
                  boutiques.  Net sales of Marisa K branded apparel totaled $1.1
                  million in 2007.

         o        AMERICAN STAR:  This brand is currently sold to Mothers' Work.
                  Sales in 2007 were insignificant.

         We are currently  involved in litigation with American Rag Cie, LLC and
American Rag Cie II with  respect to our license  rights to the American Rag Cie
trademark.  American Rag Cie, LLC owns the trademark  "American Rag Cie",  which
has been licensed to us on an exclusive  basis  throughout  the world except for
Japan and pursuant to which we sell  American Rag Cie branded  apparel to Macy's
Merchandising  Group and have  sub-licensed  to Macy's  Merchandising  Group the
right to manufacture  certain  categories of American Rag Cie branded apparel in
the United  States.  American Rag Cie LLC has purported to terminate our license
rights, and we have filed a counterclaim  seeking to a declaratory judgment that
the  termination  was invalid and alleging other causes of action.  American Rag
Cie, LLC is owned 45% by Tarrant  Apparel  Group and 55% by American Rag Cie II.
For a further description of this action see "Item 3. Legal Proceedings" of this
Annual Report on Form 10-K.

THE BUFFALO GROUP

         On  December  6, 2006,  we entered  into a  definitive  stock and asset
purchase agreement to acquire certain assets and entities comprising The Buffalo
Group. The Buffalo Group designs, imports and sells contemporary branded apparel
and accessories, primarily in Canada and the United States.

         Pursuant to the purchase  agreement,  we and our subsidiaries agreed to
acquire  (1) all the  outstanding  capital  stock  of four  principal  operating
subsidiaries of The Buffalo Group - Buffalo Inc.,  3163946 Canada Inc.,  3681441
Canada  Inc.  and  Buffalo  Corporation,  and  (2)  certain  assets,  consisting
primarily of intellectual property rights and licenses,  from The Buffalo Trust,
for a total aggregate  purchase price of up to  approximately  $120 million.  At
signing of the purchase agreement, we delivered $5.0 million to the sellers as a
deposit against the purchase price payable under the agreement.

         On April 19,  2007,  we entered into a Mutual  Termination  and Release
Agreement with The Buffalo Group,  pursuant to which we and the other parties to
the purchase agreement mutually agreed to


                                       23
<PAGE>


terminate  the purchase  agreement.  The parties  determined  that it was in the
mutual best  interest of each party to terminate the proposed  agreement.  Under
the terms of the Mutual  Termination  and Release  Agreement,  Buffalo agreed to
return to us $4,750,000 of the $5,000,000 deposit  previously  provided by us to
The Buffalo  Group  pursuant to the  purchase  agreement,  and the parties  have
released  each other from any claims  arising  under or related to the  purchase
agreement.  The $5.0 million deposit was previously  recorded in other assets in
consolidated balance sheets. We received $4,750,000 in April 2007. The remaining
portion of the deposit of $250,000 and other due diligence  fees incurred in the
acquisition  process were  recorded as  terminated  acquisition  expenses in the
consolidated statements of operations in the first quarter of 2007.

NOTES RECEIVABLE - RELATED PARTY RESERVE

         In connection  with the sale in 2004 of our assets and real property in
Mexico,   the  purchasers  of  the  Mexico  assets,   Solticio,   S.A.  de  C.V.
("Solticio"), and Acabados y Cortes Textiles, S.A. de C.V. ("Acotex"), issued us
unsecured  promissory  notes of $3,910,000 that matured on November 30, 2007 and
secured  promissory  notes of $40,204,000 with payments due on December 31, 2005
and every year  thereafter  until  December  31,  2014.  The secured  notes were
secured  by the  real  and  personal  property  in  Mexico  that  we sold to the
purchasers.  As of September 30, 2006, the outstanding  balance of the notes and
interest  receivables was $41.1 million prior to the reserve.  Historically,  we
had placed  orders for purchases of fabric from the  purchasers  pursuant to the
purchase  commitment  agreement  we entered  into at the time of the sale of the
Mexico assets,  and we had satisfied our payment  obligations  for the fabric by
offsetting  the amounts  payable  against the amounts due to us under the notes.
However,  during the third  quarter of 2006,  the  purchasers  ceased  providing
fabric and were not making  payments under the notes.  We further  evaluated the
recoverability  of  the  notes  receivable  and  recorded  a loss  on the  notes
receivable  in the third  quarter of 2006 in an amount equal to the  outstanding
balance less the value of the underlying assets securing the notes. The loss was
estimated to be approximately $27.1 million, resulting in a net notes receivable
balance at September 30, 2006 of approximately $14 million. We believe there was
no  significant  change  subsequently  on the  value  of the  underlying  assets
securing the notes;  therefore,  we did not have  additional  reserve  after the
third quarter of 2006.

         On March 21, 2007,  our  wholly-owned  subsidiary,  Tarrant  Luxembourg
S.a.r.l.,  entered into a letter agreement with Solticio,  Inmobiliaria Cuadros,
S.A. de C.V.  ("Inmobiliaria"),  and Acotex,  (Acotex and together with Solticio
and Inmobiliaria,  the "Sellers"),  and Tavex Algodonera,  S.A. ("Tavex"), which
was subsequently amended.  Pursuant to the agreement,  as amended, Tavex had the
right and option (but not an  obligation),  at any time on or prior to September
1, 2007,  to pay to Tarrant  Luxembourg an aggregate of U.S.  $17.75  million in
cash,  whereupon,  among other things,  Tarrant  Luxembourg  would terminate the
Solticio and Acotex  promissory  notes  described  above and release the Sellers
from any further obligations thereunder,  and terminate and release all liens on
the collateral securing those notes.

         On August 21, 2007, we received a payment of $17.75  million from Tavex
upon the exercise by Tavex of its option in accordance  with the agreement among
the parties.  In return for the Tavex's payment of $17.75 million, we have taken
the following actions in accordance with the terms of the agreement:

         o        Tarrant   Luxembourg   terminated   the  Solticio  and  Acotex
                  promissory notes described above and released the Sellers from
                  any  further  obligations   thereunder,   and  terminated  and
                  released all liens on the collateral securing those notes;


                                       24
<PAGE>


         o        Tarrant  Luxembourg  and  the  Sellers  terminated  all  other
                  executory   obligations  among  the  parties,   including  any
                  obligation  of ours to  purchase  fabric  from  Soliticio  and
                  Acotex; and

         o        Tarrant Luxembourg agreed to purchase from Tavex at least U.S.
                  $1.25 million of fabric prior to the end of 2007,  and Tarrant
                  Luxembourg  agreed to deliver an irrevocable  letter of credit
                  for the full purchase price.

         Upon closing of the  transaction  and  receiving  the payment of $17.75
million,  we recorded a gain of $3.75 million on our consolidated  statements of
operations  as other  income in the third  quarter  of 2007.  We placed a fabric
order with Tavex on August 21, 2007 for $1.25 million pursuant to the agreement.
At December 31, 2007,  the  irrevocable  letter of credit expired and we did not
have any further commitment to purchase fabric from Tavex.

CREDIT FACILITY

         In June 2006,  we entered into a new $65 million  credit  facility with
Guggenheim  Corporate  Funding,  LLC (as administrative and collateral agent for
certain  lenders)  and expanded our  existing  facilities  with GMAC  Commercial
Finance  Credit,  LLC from $45  million to $55  million and DBS Bank (Hong Kong)
Limited from $4.5 million to $25 million.  The credit  facility with  Guggenheim
consisted  of an initial term loan of $25  million,  of which $15.5  million was
advanced  at the  initial  closing.  A second term loan of up to $40 million was
available  to  finance  acquisitions  acceptable  to  Guggenheim  as  agent.  On
September 26, 2007, we repaid in full the term loan of $15.5 million outstanding
under the  Guggenheim  credit  facility.  In November 2007, we executed a payoff
letter  with  Guggenheim  and the  lenders,  which  released  all liens  held by
Guggenheim and the lenders.

INTERNAL REVENUE SERVICE AUDIT

         In January 2004, the Internal  Revenue  Service  ("IRS")  completed its
examination  of our Federal  income tax returns for the years ended December 31,
1996 through 2001.  The IRS had proposed  adjustments to increase our income tax
payable for the six years under examination.  In addition, in July 2004, the IRS
initiated  an  examination  of our Federal  income tax return for the year ended
December 31, 2002. In December 2007, we received a final assessment from the IRS
of $7.4 million for the years ended  December 31, 1996 through 2002,  and in the
first quarter of 2008,  we entered into a final  settlement  agreement  with the
IRS. Under the settlement, which totals $13.9 million, including $6.5 million of
interest,  we agreed to pay the IRS $4 million  in March 2008 and an  additional
$250,000  per month until  repayment  in full.  The  settlement  with the IRS is
within amounts accrued for as of December 31, 2007 in our financial  statements,
and we therefore do not  anticipate  the  settlement to result in any additional
charges to income other than interest on the outstanding balance.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

         Our discussion  and analysis of our financial  condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance  with  generally  accepted  accounting  principles in the
United States of America. The preparation of these financial statements requires
us to make estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosures of contingent assets
and liabilities.  We are required to make assumptions  about matters,  which are
highly  uncertain  at the time of the  estimate.  Different  estimates  we could
reasonably  have used or changes in the estimates that are reasonably  likely to
occur  could  have a material  effect on our  financial  condition  or result of
operations.  Estimates  and  assumptions  about future  events and their effects


                                       25
<PAGE>


cannot be determined with certainty. On an ongoing basis, we evaluate estimates,
including  those  related to  allowance  for returns,  discounts  and bad debts,
inventory,  notes receivable - related parties reserve,  valuation of long-lived
and  intangible  assets and goodwill,  accrued  expenses,  income  taxes,  stock
options  valuation,  contingencies  and  litigation.  We base our  estimates  on
historical  experience and on various assumptions  believed to be applicable and
reasonable  under the  circumstances.  These  estimates may change as new events
occur,  as additional  information is obtained and as our operating  environment
changes. In addition, we are periodically faced with uncertainties, the outcomes
of which are not within our control and will not be known for  prolonged  period
of time.

         We believe our  financial  statements  are fairly  stated in accordance
with generally  accepted  accounting  principles in the United States of America
and provide a meaningful  presentation of our financial condition and results of
operations.

         We believe the following critical  accounting  policies affect our more
significant  judgments and estimates used in the preparation of our consolidated
financial  statements.  For a further discussion on the application of these and
other accounting  policies,  see Note 1 of the "Notes to Consolidated  Financial
Statements."

ACCOUNTS RECEIVABLE--ALLOWANCE FOR RETURNS, DISCOUNTS AND BAD DEBTS

         We evaluate the  collectibility of accounts  receivable and chargebacks
(disputes  from  the  customer)   based  upon  a  combination  of  factors.   In
circumstances where we are aware of a specific customer's  inability to meet its
financial  obligations (such as in the case of bankruptcy filings or substantial
downgrading  of  credit  sources),  a  specific  reserve  for bad debts is taken
against  amounts  due to reduce  the net  recognized  receivable  to the  amount
reasonably  expected to be  collected.  For all other  customers,  we  recognize
reserves for bad debts and  uncollectible  chargebacks  based on our  historical
collection experience.  If collection experience  deteriorates (for example, due
to an unexpected  material adverse change in a major customer's  ability to meet
its financial obligations to us), the estimates of the recoverability of amounts
due to us could be reduced by a material amount.

         As of December  31,  2007,  the balance of the  allowance  for returns,
discounts and bad debts was $2.0  million,  compared to $2.1 million at December
31, 2006.

INVENTORY

         Our  inventories  are stated  (valued) at the lower of cost  (first-in,
first-out) or market.  Under  certain  market  conditions,  we use estimates and
judgments  regarding  the  valuation of inventory to properly  value  inventory.
Inventory  adjustments  are  made  for the  difference  between  the cost of the
inventory and the estimated market value and charged to operations in the period
in which the facts that give rise to the adjustments become known.

VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS AND GOODWILL

         We have adopted Statement of Financial  Accounting  Standards  ("SFAS")
No.  142,  "Goodwill  and  Other  Intangible  Assets."  We  assess  the need for
impairment of identifiable  intangibles,  long-lived  assets and goodwill with a
fair-value-based  test on an annual basis or more  frequently if an event occurs
or circumstances change that would more likely than not reduce the fair value of
a reporting unit below its carrying amount.  Factors  considered  important that
could  trigger  an  impairment  review  include,  but are not  limited  to,  the
following:


                                       26
<PAGE>


         o        a significant underperformance relative to expected historical
                  or projected future operating results;

         o        a significant  change in the manner of the use of the acquired
                  asset or the strategy for the overall business; or

         o        a significant negative industry or economic trend.

         We utilized  the  discounted  cash flow  methodology  to estimate  fair
value.  At December 31, 2007, we had a goodwill  balance of $9.9 million,  and a
net property and equipment  balance of $1.5  million,  as compared to a goodwill
balance of $9.9 million and a net property and equipment balance of $1.4 million
at December 31, 2006.  During the years ended December 31, 2006 and 2007, we did
not recognize any impairment related to goodwill and property and equipment.

FOREIGN CURRENCY TRANSLATION

         Assets and liabilities of our Hong Kong  subsidiaries are translated at
the rate of exchange in effect on the balance  sheet date;  income and  expenses
are translated at the average rates of exchange  prevailing during the year. The
functional  currency in which we transact business in Hong Kong is the Hong Kong
dollar.  At December 31, 2006, we had one open foreign exchange forward contract
with a maturity of less than one year. Hedge ineffectiveness  resulted in a loss
totaling  $196,000  during 2006.  At December  31, 2007,  we had no open foreign
exchange forward contracts. Hedge ineffectiveness resulted in a gain of $196,000
during 2007.

         Transaction gains or losses, other than inter-company debt deemed to be
of a long-term nature,  are included in net income (loss) in the period in which
they occur.  Foreign  currency gains and losses  resulting  from  translation of
assets and liabilities  related to our Hong Kong subsidiaries were insignificant
in 2006 and 2007.

REVENUE RECOGNITION

         Revenue is recognized at the point of shipment for all merchandise sold
based on FOB shipping  point.  For  merchandise  shipped on landed duty paid (or
"LDP") terms,  revenue is recognized at the point of either leaving  Customs for
direct  shipments  or at the  point of  leaving  our  warehouse  where  title is
transferred, net of an estimate of returned merchandise and discounts. Customers
are allowed the rights of return or non-acceptance  only upon receipt of damaged
products  or goods with  quality  different  from  shipment  samples.  We do not
undertake any after-sale warranty or any form of price protection.

         We often  arrange,  on behalf of  manufacturers,  for the  purchase  of
fabric  from a single  supplier.  We have the  fabric  shipped  directly  to the
cutting factory and invoice the factory for the fabric. Generally, the factories
pay us for the fabric with offsets against the price of the finished goods.

STOCK-BASED COMPENSATION

         On  January  1,  2006,   we  adopted  SFAS  No.  123  (revised   2004),
"Share-Based  Payment,"  ("SFAS No.  123(R)") which requires the measurement and
recognition of compensation  expense for all share-based  payment awards made to
employees  and  directors  based on  estimated  fair  values.  SFAS  No.  123(R)
supersedes our previous  accounting  under  Accounting  Principles Board Opinion
("APB") No. 25, "Accounting for Stock Issued to Employees" for periods beginning
in fiscal 2006. In March 2005, the SEC issued Staff Accounting  Bulletin ("SAB")
No. 107 relating to SFAS No.  123(R).  We have applied the provisions of SAB No.
107 in our adoption of SFAS No. 123(R).


                                       27
<PAGE>


         We adopted SFAS No.  123(R) using the modified  prospective  transition
method,  which requires the application of the accounting standard as of January
1, 2006, the first day of our fiscal year 2006.  Our financial  statements as of
and for the years ended  December  31, 2006 and 2007  reflect the impact of SFAS
No. 123(R). In accordance with the modified  prospective  transition method, our
financial statements for prior periods have not been restated to reflect, and do
not include,  the impact of SFAS No. 123(R).  Stock-based  compensation  expense
recognized  under SFAS No. 123(R)  during the years ended  December 31, 2006 and
2007 was $187,000 and $771,000,  respectively.  Basic and dilutive  earnings per
share for the year ended  December 31, 2006 were decreased by $0.01 from $(0.72)
to $(0.73) by the  additional  stock-based  compensation  recognized.  Basic and
dilutive  earnings per share for the year ended December 31, 2007 were decreased
by  $0.02  from  $0.08  to  $0.06  by the  additional  stock-based  compensation
recognized.

         The fair value of each option  granted to  employees  and  directors is
estimated  on the date of grant  using the  Black-Scholes  option-pricing  model
("Black-Scholes model") with the following weighted average assumptions used for
grants  in 2005,  2006 and  2007:  weighted-average  volatility  factors  of the
expected market price of our common stock of 0.55 for 2005, 0.7 for 2006 and 0.7
for 2007,  weighted-average  risk-free interest rates of 4% for 2005, 5.075% for
2006 and 3.9% to 4.67% for 2007,  dividend yield of 0% for 2005,  2006 and 2007,
and  weighted-average  expected  life of the  options of 4 years for 2005,  6.25
years for 2006 and 0.06 years to 6.18 years for 2007.

INCOME TAXES

         As  part  of  the  process  of  preparing  our  consolidated  financial
statements,   we  are  required  to  estimate   income  taxes  in  each  of  the
jurisdictions  in which we  operate.  The  process  involves  estimating  actual
current tax expense along with assessing  temporary  differences  resulting from
differing treatment of items for book and tax purposes. These timing differences
result in  deferred  tax  assets  and  liabilities,  which are  included  in our
consolidated  balance  sheets.  We record a substantial  valuation  allowance to
reduce its  deferred tax assets to the amount that is more likely than not to be
realized.  We have  considered  future  taxable  income and ongoing tax planning
strategies in assessing the need for the valuation  allowance.  Increases in the
valuation  allowance result in additional expense to be reflected within the tax
provision in the consolidated statement of operations.

         In addition,  accruals are also estimated for ongoing audits  regarding
U.S. Federal tax issues that are currently unresolved,  based on our estimate of
whether,  and the extent to which,  additional  taxes will be due. We  routinely
monitor the potential  impact of these  situations  and believe that amounts are
properly  accrued for. If we ultimately  determine that payment of these amounts
is unnecessary, we will reverse the liability and recognize a tax benefit during
the period in which we determine that the liability is no longer  necessary.  We
will record an  additional  charge in our  provision  for taxes in any period we
determine  that the original  estimate of a tax liability is less than we expect
the  ultimate  assessment  to be.  See  Note 12 of the  "Notes  to  Consolidated
Financial Statements" for a discussion of current tax matters.

         In June 2006, the Financial  Accounting Standards Board ("FASB") issued
Interpretation  No.  48,  "Accounting  for  Uncertainty  in  Income  Taxes  - An
Interpretation  of FASB  Statement  No. 109"  ("FIN48").  FIN 48  clarifies  the
accounting  for  uncertainty  in  income  taxes  recognized  in an  enterprise's
financial  statements in accordance  with SFAS No. 109,  "Accounting  for Income
Taxes." FIN 48 also prescribes a recognition threshold and measurement attribute
for the financial statement  recognition and measurement of a tax position taken
or  expected  to be  taken  in a  tax  return  that  results  in a tax  benefit.
Additionally,  FIN 48 provides  guidance  on  de-recognition,  income  statement
classification  of  interest  and  penalties,  accounting  in  interim  periods,
disclosure,  and  transition.  We adopted the provisions of FIN 48 on January 1,
2007.  As a result of the  implementation  of FIN 48, we  recognized no material
adjustment for  unrecognized  tax benefits but reduced  retained  earnings as of
January 1, 2007 by approximately $1 million attributable to penalties accrued as
a component of income tax payable. As of the date of adoption,  our unrecognized
tax benefits totaled approximately $8.9 million.


                                       28
<PAGE>


         We and several of our subsidiaries file income tax returns in the U.S.,
Hong Kong, Luxembourg, Mexico and various state jurisdictions.  We are currently
subject to an audit by the State of New York for the years 2002 to 2005, but are
not currently  being  audited by other states or subject to non-U.S.  income tax
jurisdictions for years open in those taxing jurisdictions.

         In January  2004,  the IRS  completed  its  examination  of our Federal
income tax returns for the years ended  December 31, 1996 through 2001.  The IRS
had  proposed  adjustments  to  increase  our income tax payable for these years
under examination.  In addition,  in July 2004, the IRS initiated an examination
of our  Federal  income  tax return for the year ended  December  31,  2002.  In
December 2007, we received a final  assessment  from the IRS of $7.4 million for
the years ended  December 31, 1996  through  2002,  and in the first  quarter of
2008,  we entered  into a final  settlement  agreement  with the IRS.  Under the
settlement,  which totals $13.9 million,  including $6.5 million of interest, we
agreed to pay the IRS $4 million in March 2008,  and an additional  $250,000 per
month until  repayment in full.  The  settlement  with the IRS is within amounts
accrued  for as of  December  31,  2007  in  our  financial  statements,  and we
therefore do not anticipate  the settlement to result in any additional  charges
to income other than interest on the outstanding  balance. Due to the negotiated
settlement, we reclassified the IRS and state tax liabilities from uncertain tax
position to current payable on December 31, 2007.

         The total  unrecognized  tax  benefits  as of January 1, 2007 were $8.9
million, excluding interest, penalties and related income tax benefits and would
be recorded as a component  of income tax expense if  recognized.  We  recognize
interest  accrued  related to  unrecognized  tax  benefits  and  penalties  as a
component of income tax expense. As of January 1, 2007, the accrued interest and
penalties  were $8.0  million  and $1.2  million,  respectively,  excluding  any
related income tax benefits.  During 2007, we de-recognized a previous uncertain
tax  position  through  negotiations  with  the  state  tax  jurisdiction.   The
negotiated settlement resulted in a decrease of $1.5 million in unrecognized tax
benefits and $1.0 million in  penalties.  During 2007, we also  de-recognized  a
previous  uncertain tax position through settlement with the IRS. The negotiated
settlement  resulted in a decrease of $7.4 million in unrecognized tax benefits.
After the  above  adjustments,  there  was no  unrecognized  tax  benefit  as of
December 31, 2007. As of December 31, 2007,  the accrued  interest and penalties
were $7.2 million and $142,000, respectively.

         In many cases,  the  uncertain  tax  positions are related to tax years
that remain subject to examination by the relevant tax authorities.  Federal and
state statutes are open from 2003 through the present period. Hong Kong statutes
are open from 2001, Luxembourg from 2003 and Mexico from 2001.

DEBT COVENANTS

         Our debt agreements require certain covenants including a minimum level
of EBITDA and specified tangible net worth; and required interest coverage ratio
and  leverage  ratio  as  discussed  in  Note 9 of the  "Notes  to  Consolidated
Financial Statements." If our results of operations erode and we are not able to
obtain  waivers from the  lenders,  the debt would be in default and callable by
our  lenders.  In  addition,  due  to  cross-default   provisions  in  our  debt
agreements,  substantially all of our long-term debt would become due in full if
any of the debt is in default.  In anticipation of us not being able to meet the
required  covenants due to various  reasons,  we either negotiate for changes in
the relative  covenants or an advance  waiver or reclassify the relevant debt as
current.  We also believe that our lenders would  provide  waivers if necessary.
However,  our expectations of future operating results and continued  compliance
with other debt  covenants  cannot be assured and our  lenders'  actions are not
controllable by us. If projections of future operating  results are not achieved
and the debt is placed in default,  we would be required to reduce our expenses,
including by curtailing  operations,  and to raise  capital  through the sale of


                                       29
<PAGE>


assets,  issuance  of equity or  otherwise,  any of which  could have a material
adverse  effect on our  financial  condition  and results of  operations.  As of
December  31,  2007,  we were in  violation of the EBITDA and tangible net worth
covenants  and  waivers of the  defaults  were  obtained  in March 2008 from our
lenders.

DERIVATIVE ACTIVITIES

WARRANT DERIVATIVES

          SFAS No.  133  "Accounting  for  Derivative  Instruments  and  Hedging
Activities" requires measurement of certain derivative instruments at their fair
value for accounting purposes. In determining the appropriate fair value, we use
the  Black-Scholes  model.  Derivative  liabilities are adjusted to reflect fair
value at each period end,  with any increase or decrease in the fair value being
recorded in consolidated statements of operations as adjustment to fair value of
derivative.  At December 31, 2006,  there was an income of $511,000  recorded as
adjustment  to fair  value  of  derivative  on our  consolidated  statements  of
operations. See Note 9 of the "Notes to Consolidated Financial Statements"

FOREIGN CURRENCY FORWARD CONTRACT

         We source our products in a number of countries  throughout  the world,
as a result,  are exposed to movements in foreign  currency  exchange rates. The
primary  purpose of our foreign  currency  hedging  activities  is to manage the
volatility associated with foreign currency purchases of materials in the normal
course of  business.  We utilize  derivative  financial  instruments  consisting
primarily  of forward  currency  contracts.  These  instruments  are intended to
protect  against  exposure  related to  financing  transactions  and income from
international  operations. We do not enter into derivative financial instruments
for speculative or trading purposes.  We may enter into certain foreign currency
derivative instruments that do not meet hedge accounting criteria.

          SFAS No. 133 requires measurement of certain derivative instruments at
their  fair  value for  accounting  purposes.  All  derivative  instruments  are
recorded on our balance sheet at fair value; as a result,  we mark to market all
derivative  instruments.  Derivative  liabilities  are  adjusted to reflect fair
value at each period end,  with any increase or decrease in the fair value being
recorded in consolidated statements of operations as adjustment to fair value of
derivative.  During the year ended  December 31,  2006,  we entered into foreign
currency  forward  contracts  to hedge  against  the  effect  of  exchange  rate
fluctuations  on cash  flows  denominated  in  foreign  currencies  and  certain
inter-company  financing  transactions.  This transaction is undesignated and as
such an  ineffective  hedge.  At  December  31,  2006,  we had one open  foreign
exchange  forward  contract  which has a maturity  of less than one year.  Hedge
ineffectiveness resulted in a loss of $196,000 in our consolidated statements of
operations as of December 31, 2006. At December 31, 2007, we had no open foreign
exchange forward contracts. Hedge ineffectiveness resulted in a gain of $196,000
in our consolidated statements of operations as of December 31, 2007.

NEW ACCOUNTING PRONOUNCEMENTS

         For a description  of recent  accounting  pronouncements  including the
respective  expected  dates of adoption and effects on results of operations and
financial  condition,  see  Note  1 of  the  "Notes  to  Consolidated  Financial
Statements."


                                       30
<PAGE>


RESULTS OF OPERATIONS

         The  following  table sets forth,  for the periods  indicated,  certain
items in our consolidated statements of income as a percentage of net sales:

                                                      YEARS ENDED DECEMBER 31,
                                                   ----------------------------
                                                     2005      2006      2007
                                                   --------  --------  --------

Net sales ......................................      100.0%     98.1%     92.0%
Net sales to related party .....................       --         1.9       8.0
                                                   --------  --------  --------
Total net sales ................................      100.0     100.0     100.0

Cost of sales ..................................       79.1      76.6      72.7
Cost of sales to related party .................       --         1.6       7.2
                                                   --------  --------  --------
Total cost of sales ............................       79.1      78.2      79.9

Gross profit ...................................       20.9      21.8      20.1
Selling and distribution expenses ..............        5.0       4.7       6.0
General and administration expenses ............       12.5      11.6      10.0
Royalty expenses ...............................        1.7       1.2       0.8
Loss on notes receivable-related parties .......       --        11.7      --
Terminated acquisition expenses ................       --        --         0.8
Adjustment to fair value of long-term
     receivable - related parties ..............       --        --         0.3
                                                   --------  --------  --------

Income (loss) from operations ..................        1.7      (7.4)      2.2
Interest expense ...............................       (2.2)     (2.6)     (1.7)
Interest income ................................        1.0       0.5       0.0
Interest in income of equity method investee ...        0.3       0.0       0.0
Other income ...................................        0.1       0.2       1.7
Adjustment to fair value of derivative .........        0.0       0.1       0.1
Other expense ..................................       (0.0)     (0.2)     (2.0)
                                                   --------  --------  --------

Income (loss) before provision (credit) for
     income taxes and minority interest ........        0.9      (9.4)      0.3
Provision (credit) for income taxes ............        0.4       0.2      (0.4)
Minority interest ..............................        0.0       0.0       0.0
                                                   --------  --------  --------

Net Income (loss) ..............................        0.5%     (9.6)%     0.7%
                                                   ========  ========  ========

COMPARISON OF 2007 TO 2006

         Total  net sales  increased  by $11.3  million,  or 4.9%,  from  $232.4
million in 2006 to $243.7  million in 2007.  The increase in total net sales was
primarily due to increased sales in our private label business which amounted to
$198.8  million in 2007 compared to $181.2 million in 2006. The increase in 2007
came  primarily  from  sales  to New  York & Co and  Seven  Licensing,  and  was
partially offset by decreased sales to Kohl's and Mervyn's. Private brands sales
in 2007  totaled  $44.9  million  compared  to $51.2  million in 2006.  Sales of
"Jessica  Simpson",  "House of Dereon" and "Alain Weiz" brands were discontinued
in 2007,  compared to sales of these brands  amounting to $16.7 million in 2006.
The loss in the sales of these  brands was  partially  offset by an  increase of
$9.6 million in the sales of the "American Rag Cie" brand in 2007.


                                       31
<PAGE>


         Gross  profit  consists of total net sales less product  costs,  direct
labor,  duty,  quota,  freight in, brokerage,  warehouse  handling and markdown.
Gross profit for 2007 was $48.9 million,  or 20.1% of total net sales,  compared
to $50.6 million, or 21.8 % of total net sales for 2006, representing a decrease
of $1.7 million or 3.4%.  The  decrease in gross  profit for 2007 was  primarily
caused by a $1.5  million  loss on the sale of Mexico  fabric  inventory in 2007
after the completion of the Tavex  transaction  selling all our assets in Mexico
for cash.

         Selling and distribution  expenses increased by $3.7 million, or 33.7%,
from $11.0  million in 2006 to $14.7  million in 2007.  As a percentage of total
net sales,  these variable expenses increased from 4.7% in 2006 to 6.0% in 2007.
The increase in selling and  distribution  expenses was primarily  caused by the
increased  expenses  incurred in establishing  new brands such as "Marisa K" and
increased  advertising  expenses on "American Rag Cie" brand in 2007 due to more
advertising efforts.

         General and administrative expenses decreased by $2.6 million, or 9.5%,
from $26.9  million in 2006 to $24.3  million in 2007.  As a percentage of total
net sales,  these  expenses  decreased  from 11.6% in 2006 to 10.0% in 2007. The
main reduction in general and administrative  expenses in 2007 resulted from the
settlement of the Jessica Simpson litigation and the reimbursement to us of $3.0
million  of legal  expenses  we  previously  incurred  in the  litigation.  This
reduction  was  partially  offset  by a  $1.0  million  reserve  on a  long-term
receivable - related parties.

         Adjustment  to fair value of long-term  receivable - related  party was
$0.8 million,  or 0.3% of total net sales in 2007 compared to $0 in 2006.  Based
on the  repayment  history  of the  related  parties  and  litigation  they  are
currently subject to, we estimated that our receivable of $3.4 million will take
approximately  three years for  collection  in full.  We  therefore  made a $1.0
million  reserve  and then  fair-valued  the  balance  of this  asset  using our
weighted  average cost of capital as the discount rate and a term of three years
as the discount period. See "Related party transactions."

         Royalty and  marketing  allowance  expenses  decreased by $951,000,  or
33.8%,  from $2.8  million in 2006 to $1.9  million in 2007.  The  decrease  was
caused by the  discontinued  sales  under the Jessica  Simpson  license in 2007,
compared to $1.1 million of royalty  paid on the brand in 2006.  As a percentage
of total net sales, these expenses decreased from 1.2% in 2006 to 0.8% in 2007.

         Loss on notes  receivable - related  parties was $27.1 million or 11.7%
of total net sales in 2006,  compared to no such  expense in 2007.  During 2006,
the purchasers of our Mexico assets ceased  providing fabric and were not making
payments  under  the  notes.  We  evaluated  the  recoverability  of  the  notes
receivable and recorded a loss on the notes receivable in an amount equal to the
outstanding  balance less the value of the underlying assets securing the notes.
See Note 5 of the "Notes to Consolidated Financial Statements".

         Terminated  acquisition  expenses in 2007 were $2.0 million, or 0.8% of
total net sales,  compared to no such expense in 2006. These expenses  consisted
of the  non-refunded  portion of a deposit in the amount of  $250,000  and other
expenses  including due diligence and legal fees incurred in connection with our
proposed  acquisition  of  The  Buffalo  Group.  The  transaction  was  mutually
terminated on April 19, 2007. See Note 7 of the "Notes to Consolidated Financial
Statements".

         Loss from  operations was $17.2 million in 2006, or (7.4)% of total net
sales,  compared to income from  operation of $5.2  million in 2007,  or 2.2% of
total net  sales.  The  higher  revenue  in 2007 as well as the  absence  of any
further  charge  for  the  write-down  on  notes  receivable  accounted  for the
improvement in the operating results in 2007 compared to 2006.


                                       32
<PAGE>


         Interest expense decreased by $1.9 million, or 32.0%, from $6.1 million
in 2006 to $4.1  million  in 2007.  As a  percentage  of total net  sales,  this
expense  decreased from 2.6% in 2006 to 1.7% in 2007. The decrease was primarily
due to decreased borrowings under our credit facilities and the repayment of our
term loan facility in September 2007. Also included in interest  expense in 2006
was  $711,000 of debt  discount  related to  intrinsic  value of the  conversion
option of debentures and the remaining  value of the warrants  issued to holders
of debentures as a result of the repayment of the debentures in June 2006.

         Interest income decreased by $1.0 million,  or 85.7%, from $1.2 million
in 2006 to $169,000 in 2007.  Interest earned from the notes  receivable-related
party amounted to $901,000 in 2006, compared to no such income in 2007.

         Interest in income of equity method investee  represented our 45% share
of equity  interest  in the owner of the  trademark  "American  Rag Cie" and the
operator  of American  Rag retail  stores.  Interest in income of equity  method
investee  increased  by $76,000 or 96.3%,  from  $80,000 in 2006 to  $156,000 in
2007.  The increase came mainly from  increased  royalty paid by our  subsidiary
Private Brands, Inc. on increased sales to Macy's.

         Other income increased by $3.8 million,  or 1,119.5%,  from $336,000 in
2006 to $4.1  million in 2007.  Included  in other  income in 2007 was a gain of
$3.8 million on notes receivable - related parties.  See Note 5 of the "Notes to
Consolidated Financial  Statements".  Adjustment to fair value of derivative was
$196,000 in 2007, compared to $315,000 in 2006.

         Other expenses increased by $4.5 million, or 1,042.6%, from $436,000 in
2006 to $5.0 million in 2007.  Other  expenses in 2006 consisted of a payment of
$400,000 upon the  termination of the license  agreements  with Cynthia  Rowley.
Other  expenses of $5 million in 2007  consisted of expensing  all the financing
and related  expenses and the remaining  value of the warrants issued to lenders
and the placement  agent upon repaying our term loan in full.  See Note 9 of the
"Notes to Consolidated Financial Statements".

         Income (loss) before  provision  (credit) for income taxes and minority
interest was $(21.8) million in 2006 and $713,000 in 2007,  representing  (9.4)%
and 0.3% of total net sales,  respectively.  Loss  before  provision  for income
taxes in 2006 included the loss on notes  receivable - related  parties of $27.1
million.

         Provision  for income taxes was $453,000 in 2006 compared to credit for
income taxes of $1.0 million in 2007,  representing 0.2% and (0.4)% of total net
sales,  respectively.  The  tax  credit  in  2007  was  primarily  a  result  of
write-backs  of FIN 48 accruals  after our  settlements  of some  uncertain  tax
positions with the State and Federal tax authorities.

         Loss  allocated  to  minority  interest  in 2006 was  $21,000,  for the
minority  partner's  25% share in the loss of PBG7,  LLC.  Income  allocated  to
minority  interest in 2007 was $6,000,  for the minority  partner in PBG7, LLC's
25% share in the income.

         Net income  (loss) was  $(22.2)  million  in 2006 as  compared  to $1.7
million in 2007, representing (9.6)% and 0.7% of total net sales,  respectively.
Included in the $22.2 million net loss in 2006 was a loss on notes  receivable -
related parties of $27.1 million.

COMPARISON OF 2006 TO 2005

         Total  net sales  increased  by $17.8  million,  or 8.3%,  from  $214.6
million in 2005 to $232.4  million in 2006.  The increase in total net sales was
primarily due to increased sales of our private label business, which was $181.2
million in 2006  compared to $159.6  million in 2005,  with the increase in 2006


                                       33
<PAGE>


resulting  primarily from higher sales to Mothers Work and Charlotte Russe which
was a new customer.  Private brands sales in 2006 were $51.2 million compared to
$55.0  million in 2005 with the decrease  resulting  primarily  from no sales of
Gear 7 in 2006,  compared to $14.4 million in 2005, and offset by an increase in
sales to Macy's Merchandising Group of $11.6 million which included $1.5 million
of sublicensing royalty income in 2006.

         Gross  profit  consists of total net sales less product  costs,  direct
labor,  duty,  quota,  freight in, brokerage,  warehouse  handling and markdown.
Gross profit for 2006 was $50.6 million,  or 21.8% of total net sales,  compared
to $44.9  million,  or 20.9 % of total  net  sales  for  2005,  representing  an
increase  of $5.8  million  or 12.8%.  The  increase  in gross  profit  for 2006
occurred  primarily  because of an  increase  in sales  volume,  including  $1.5
million of  sublicensing  royalty income,  and gross margin.  The improvement in
gross margin is primarily  attributable to the change of relative product mix in
private label business and improved sourcing in private brand business in 2006.

         Selling and distribution  expenses increased by $290,000, or 2.7%, from
$10.7  million in 2005 to $11.0  million in 2006.  As a percentage  of total net
sales,  these variable expenses  decreased from 5.0% in 2005 to 4.7% in 2006 due
to the increase in sales volume in 2006.

         General and administrative expenses increased by $14,000, or 0.1%, from
$26.86  million in 2005 to $26.88  million in 2006. As a percentage of total net
sales,  these expenses  decreased from 12.5% in 2005 to 11.6% in 2006 due to the
increase  in sales  volume  in 2006.  Included  in  general  and  administrative
expenses in 2006 was $187,000  stock-based  compensation  as compared to no such
expense in 2005.

         Royalty and  marketing  allowance  expenses  decreased by $850,000,  or
23.2%,  to $2.8  million in 2006 from $3.7  million in 2005.  The  decrease  was
primarily  due to the royalty  payment to House of Dereon in 2005 as compared to
no such expense in 2006.  As a  percentage  of total net sales,  these  expenses
decreased to 1.2% in 2006 from 1.7% in 2005.

         Loss on notes  receivable - related  parties was $27.1 million or 11.7%
of total net sales in 2006,  compared to no such  expense in 2005.  During 2006,
the  purchasers  of our  Mexico  assets  ceased  providing  fabric  and were not
currently  making payments under the notes. We evaluated the  recoverability  of
the notes  receivable  and recorded a loss on the notes  receivable in an amount
equal to the  outstanding  balance  less  the  value  of the  underlying  assets
securing  the  notes.  See  Note  5 of  the  "Notes  to  Consolidated  Financial
Statements".

         Loss from  operations was $17.2 million in 2006, or (7.4)% of total net
sales,  compared to income from  operation of $3.6  million in 2005,  or 1.7% of
total net sales, due to the factors described above.

         Interest expense increased by $1.4 million, or 31.0%, from $4.6 million
in 2005 to $6.1  million  in 2006.  As a  percentage  of total net  sales,  this
expense  increased to 2.6% in 2006 from 2.2% in 2005. The increase was primarily
due to an interest expense of $1.6 million in 2006 related to interest  payments
and  amortization  of debt  discount  arising  from  the  credit  facility  from
Guggenheim  Corporate  Funding LLC.  Included in the  interest  expense was $1.3
million in 2005 and $1.1 million in 2006 related to interest payments to holders
of  convertible  debentures  and  amortization  of debt  discount  arising  from
convertible debentures issued in 2005. Interest income decreased by $900,000, or
43.2%,  from $2.1  million in 2005 to $1.2  million in 2006.  The  decrease  was
primarily due to the interest  earned from the notes  receivable  related to the
sale of our fixed assets in Mexico of $1.9 million in 2005, compared to $901,000
in 2006 due to the purchasers of the Mexico assets discontinuing making payments
under the notes.  Other income  decreased by $19,000,  or 5.3%, from $354,000 in
2005 to  $336,000  in 2006.  Other  expenses  were  $1,000 in 2005,  compared to
$436,000  in 2006 due to a  payment  of  $400,000  upon the  termination  of the
license agreements with Cynthia Rowley.


                                       34
<PAGE>


         Interest in income of equity method investee  represented our 45% share
of equity  interest  in the owner of the  trademark  "American  Rag Cie" and the
operator  of American  Rag retail  stores.  Interest in income of equity  method
investee  decreased  by $480,000 or 85.8%,  from  $560,000 in 2005 to $80,000 in
2006.  This  decrease of interest in income of equity method  investee  could be
attributed to an increase of $230,000 in markdown on slow-moving  inventory,  an
increase in occupancy and  depreciation  expenses by $546,000 and an increase in
personnel expenses by $270,000 due to the opening of a new retail store.

         Income (loss) before  provision for income taxes and minority  interest
was $(21.8)  million in 2006 and $2.0 million in 2005,  representing  (9.4)% and
0.9% of total net sales, respectively. The increase in loss before provision for
income taxes was primarily due to the loss on notes receivable - related parties
of $27.1 million recorded in 2006 and the other factors discussed above.

         Provision for income taxes was $453,000 in 2006 compared to $927,000 in
2005, representing 0.2% and 0.4% of total net sales, respectively.

         In 2005,  we allocated  $75,000 of profit to minority  interest,  which
consisted of profit  shared with the  minority  partner in the PBG7,  LLC.  Loss
allocated  to minority  interest in 2006 was  $21,000,  for its 25% share in the
loss.

         Net income (loss) was $(22.2)  million in 2006 as compared $1.0 million
in 2005, representing (9.6)% and 0.5% of total net sales, respectively. Included
in the $22.2  million net loss in 2006 was a loss on notes  receivable - related
parties of $27.1 million. There was no such expense in 2005.

QUARTERLY RESULTS OF OPERATIONS

         The  following  table sets forth,  for the periods  indicated,  certain
items in our  consolidated  statements of income in millions of dollars and as a
percentage of total net sales:

<TABLE>
<CAPTION>
                                                          QUARTER ENDED
                           -------------------------------------------------------------------------------
                           MAR. 31   JUN. 30   SEP. 30    DEC. 31   MAR. 31    JUN. 30   SEP. 30   DEC. 31
                             2006      2006      2006       2006      2007       2007      2007      2007
                           -------   -------   -------    -------   -------    -------   -------   -------
<S>                        <C>       <C>       <C>        <C>       <C>        <C>       <C>       <C>
Total net Sales .......    $  61.3   $  59.1   $  54.6    $  57.4   $  56.1    $  60.1   $  70.2   $  57.3
Gross profit ..........       12.5      12.7      11.8       13.6      12.3       12.6      12.9      11.1
Operating income (loss)        1.6       2.6     (24.7)       3.3       0.1        2.5       2.7      (0.1)
Net income (loss) .....        0.8       0.6     (25.3)       1.7      (1.0)       0.8       1.6       0.3
</TABLE>


<TABLE>
<CAPTION>
                                                          QUARTER ENDED
                           -------------------------------------------------------------------------------
                           MAR. 31   JUN. 30   SEP. 30    DEC. 31   MAR. 31    JUN. 30   SEP. 30   DEC. 31
                             2006      2006      2006       2006      2007       2007      2007      2007
                           -------   -------   -------    -------   -------    -------   -------   -------
<S>                          <C>       <C>       <C>        <C>       <C>        <C>       <C>       <C>
Total net sales .......      100.0%    100.0%    100.0%     100.0%    100.0%     100.0%    100.0%    100.0%
Gross profit ..........       20.4      21.4      21.6       23.8      22.0       20.9      18.4      19.3
Operating income (loss)        2.7       4.4     (45.3)       5.7       0.1        4.2       3.8      (0.1)
Net income (loss) .....        1.4       1.0     (46.4)       2.9      (1.8)       1.3       2.3       0.5
</TABLE>


                                       35
<PAGE>


         As  is  typical   for  us,   quarterly   total  net  sales   fluctuated
significantly  because our customers  typically place bulk orders with us, and a
change in the  number of orders  shipped  in any one  period may have a material
effect on the total net sales for that period.

LIQUIDITY AND CAPITAL RESOURCES

         We had cash and cash equivalents of approximately  $491,000 at December
31, 2007.

         We  significantly  strengthened  our  balance  sheet and  improved  our
liquidity  in 2007.  The sale of all our Mexico  assets  for cash  enabled us to
repay our most  expensive  loans and as a result  our  financing  cost has since
substantially  decreased.  The IRS settlement and installment repayment plan has
removed a  significant  uncertainty  in our  financial  condition  which we have
operated under for the past several years.

         Our  liquidity  requirements  arise  from the  funding  of our  working
capital  needs,  principally  inventory,  finished  goods  shipments-in-transit,
work-in-process and accounts receivable, including receivables from our contract
manufacturers  that  relate  primarily  to fabric we  purchase  for use by those
manufacturers.  Our primary sources for working capital and capital expenditures
are cash  flow from  operations,  borrowings  under  our bank and  other  credit
facilities, issuance of long-term debt, sales of equity and debt securities, and
vendor financing. In the near term, we expect that our operations and borrowings
under bank and other credit facilities will provide  sufficient cash to fund our
operating expenses,  capital  expenditures and interest payments on our debt. In
the long-term,  we expect to use internally generated funds and external sources
to satisfy our debt and other long-term liabilities.

         Our liquidity is dependent,  in part, on customers  paying on time. Any
abnormal chargebacks or returns may affect our source of short-term funding. Any
changes in credit terms given to major  customers may have an impact on our cash
flow.  Suppliers' credit is another major source of short-term financing and any
adverse changes in their terms will have negative impact on our cash flow.

         Other  principal  factors  that could  affect the  availability  of our
internally generated funds include:

         o        deterioration of sales due to weakness in the markets in which
                  we sell our products;

         o        decreases in market prices for our products;

         o        increases in costs of raw materials;

         o        loss of rights to the American Rag Cie trademark if litigation
                  in which are involved is resolved in a matter  unfavorable  to
                  us; and

         o        changes in our working capital requirements.

         Principal  factors  that could  affect our  ability to obtain cash from
external sources include:

         o        financial  covenants  contained  in our current or future bank
                  and debt facilities; and

         o        volatility  in the market  price of our common stock or in the
                  stock markets in general.

         Certain of our private  brands  product lines are generally  associated
with higher selling,  general and  administrative  expenses,  due to significant
design, development, and marketing costs compared to our private label business.


                                       36
<PAGE>


         Cash flows for the years ended December 31, 2005, 2006 and 2007 were as
follows (dollars in thousands):

<TABLE>
<CAPTION>

CASH FLOWS:                                              2005         2006         2007
                                                       --------     --------     --------
<S>                                                    <C>          <C>          <C>
Net cash provided by (used in) operating activities    $(12,900)    $ 15,047     $ 12,476
Net cash provided by (used in) investing activities    $  3,555     $ (5,071)    $ 21,455
Net cash provided by (used in) financing activities    $  9,772     $(10,713)    $(34,345)
</TABLE>

         Net cash provided by operating activities was $12.5 million in 2007, as
compared to net cash  provided by operating  activities in 2006 of $15.0 million
and net cash used in operating  activities  in 2005 of $12.9  million.  Net cash
provided by operating activities in 2007 resulted primarily from a net income of
$1.7 million,  $1.9 million of depreciation and amortization of fixed assets and
deferred  financing cost, $5.0 million write-off of deferred  financing cost and
debt  discount and a decrease of $14.1 million in accounts  receivable  and $4.6
million in inventory,  offset by a gain on notes receivable - related parties of
$3.8 million and a decrease of $10.9 million in accounts  payable.  The decrease
in inventory was primarily due to the increase in sales in 2007, the decrease in
accounts  payable  resulted  from the pay down of payables  and the  decrease in
accounts receivable was due to increased collections.

         During  2007,  net cash  provided  by  investing  activities  was $21.5
million,  as compared to net cash used in investing  activities  of $5.1 million
and net cash provided by investing  activities of $3.6 million in 2005. Net cash
provided by investing  activities in 2007 resulted  primarily from $17.8 million
proceeds  from  notes  receivable  and a return of a $4.8  million of deposit in
connection  with the termination of our previously  proposed  acquisition of The
Buffalo Group,  offset by approximately  $700,000 of due diligence fees incurred
in connection with that proposed acquisition.

         During 2007, net cash used in financing activities was $34.3 million as
compared to net cash used in financing  activities  of $10.7 million in 2006 and
net cash provided by financing activities of $9.8 million in 2005. Net cash used
in financing  activities in 2007 resulted primarily from the re-payment of $15.5
million of our term loan,  $16.6  million of our long-term  borrowings  and $3.9
million on our short-term bank borrowings,  offset by proceeds from exercises of
stock options of $1.7 million.

DEBT OBLIGATIONS

         The following table summarizes our debt obligations:

<TABLE>
<CAPTION>
                                                                       DECEMBER 31,
                                                              -----------------------------
                                                                  2006             2007
                                                              ------------     ------------
<S>                                                           <C>              <C>
Short-term bank borrowings:
  Import trade bills payable - DBS Bank and Aurora Capital    $  5,844,887     $  4,600,293
  Bank direct acceptances - DBS Bank .....................       3,368,054        1,222,998
  Other Hong Kong credit facilities - DBS Bank ...........       4,483,241        3,921,927
                                                              ------------     ------------
                                                              $ 13,696,182     $  9,745,218
                                                              ============     ============
Long-term obligations:
  Equipment financing ....................................    $     38,148     $      5,338
  Credit facility - Guggenheim, net ......................      11,212,724             --
  Debt facility and factoring agreement - GMAC CF ........      19,553,755        2,997,793
                                                              ------------     ------------
                                                                30,804,627        3,003,131
  Less current portion ...................................     (19,586,565)      (3,003,131)
                                                              ------------     ------------
                                                              $ 11,218,062     $       0.00
                                                              ============     ============
</TABLE>


                                       37
<PAGE>


     DBS BANK CREDIT FACILITY

         In June 2006, our  subsidiaries in Hong Kong,  Tarrant Company Limited,
Marble  Limited  and Trade  Link  Holdings  Limited,  entered  into a new credit
facility with DBS Bank (Hong Kong)  Limited  ("DBS"),  which  replaced our prior
letter  of  credit  facility  for up to HKD 30  million  (equivalent  to US $3.9
million).  Under  this  facility,  we may  arrange  for  letters  of credit  and
acceptances. The maximum amount our Hong Kong subsidiaries may borrow under this
facility at any time is US $25 million.  The  interest  rate under the letter of
credit  facility is equal to the Standard Bills Rate quoted by DBS minus 0.5% if
paid in Hong  Kong  Dollars,  which  the  interest  rate was  7.5% per  annum at
December 31, 2007, or the Standard Bills Rate quoted by DBS plus 0.5% if paid in
any other currency,  which the interest rate was 8.12% per annum at December 31,
2007. This is a demand facility and is secured by a security interest in all the
assets of the Hong Kong  subsidiaries,  by a pledge of our office property where
our Hong Kong office is located,  which is owned by Gerard Guez and Todd Kay and
by our guarantee.  The DBS facility includes  customary default  provisions.  In
addition,  we are subject to certain  restrictive  covenants,  including that we
maintain  a  specified  tangible  net  worth,  and a minimum  level of EBITDA at
December  31,  2006 and  2007,  interest  coverage  ratio,  leverage  ratio  and
limitations  on  additional  indebtedness.  As of December 31, 2007,  we were in
violation  with the EBITDA and  tangible  net worth  covenants  and a waiver was
obtained  on  March  18,  2008.  As of  December  31,  2007,  $8.6  million  was
outstanding under this facility.  In addition,  $11.3 million of open letters of
credit was outstanding  and $5.1 million was available for future  borrowings as
of December 31, 2007.

         In September  2006, a tax loan for HKD 8.438 million  (equivalent to US
$1.1 million) was also made available by DBS to our Hong Kong  subsidiaries  and
bore  interest  at the rate  equal to the Hong Kong  prime rate plus 1% and were
subject to the same  security.  The interest rate was 8.75% per annum at October
31, 2007. We paid off this tax loan in October 2007. As of December 31, 2007, $0
was outstanding under this tax loan.

     REVOLVING CREDIT FACILITY - GMAC COMMERCIAL FINANCE

         On June 16, 2006, we expanded our previously  existing  credit facility
with GMAC CF by entering into a new Loan and Security Agreement and amending and
restating our previously  existing Factoring Agreement with GMAC CF. UPS Capital
Corporation  is also a lender under the Loan and Security  Agreement.  This is a
revolving  credit  facility and has a term of 3 years.  The amount we may borrow
under this credit  facility is determined  by a percentage of eligible  accounts
receivable and inventory,  up to a maximum of $55 million, and includes a letter
of credit  facility of up to $4 million.  Interest on outstanding  amounts under
this credit  facility  is payable  monthly and accrues at the rate of the "prime
rate" plus 0.5%. Our  obligations  under the GMAC CF credit facility are secured
by a lien on substantially  all our domestic assets,  including a first priority
lien on our accounts  receivable and inventory.  This credit  facility  contains
customary  financial  covenants,  including  covenants that we maintain  minimum
levels of EBITDA and interest  coverage  ratios and  limitations  on  additional
indebtedness.  This facility  includes  customary  default  provisions,  and all
outstanding obligations may become immediately due and payable in the event of a
default.  The facility bore interest at 7.75% per annum at December 31, 2007. As
of December 31, 2007, we were in violation with the EBITDA covenant and a waiver
was obtained on March 25, 2008.  A total of $3.0  million was  outstanding  with
respect to receivables factored under the GMAC CF facility at December 31, 2007.

         The  amount we can borrow  under the  factoring  facility  with GMAC is
determined  based on a  defined  borrowing  base  formula  related  to  eligible
accounts receivable.  A significant decrease in eligible accounts receivable due
to the  aging  of  receivables,  can have an  adverse  effect  on our  borrowing
capabilities under our credit facility,  which may adversely affect the adequacy
of our working  capital.  In addition,  we have typically  experienced  seasonal
fluctuations in sales volume. These seasonal fluctuations result in sales volume


                                       38
<PAGE>


decreases  in the first and  fourth  quarters  of each year due to the  seasonal
fluctuations  experienced  by  the  majority  of  our  customers.  During  these
quarters,  borrowing  availability  under our credit  facility may decrease as a
result of decrease in eligible accounts receivables generated from our sales.

     TERM LOAN FACILITY - GUGGENHEIM CORPORATE FUNDING LLC

         On June 16,  2006,  we entered  into a Credit  Agreement  with  certain
lenders and Guggenheim  Corporate Funding LLC ("Guggenheim"),  as administrative
agent and collateral  agent for the lenders.  This credit facility  provided for
borrowings of up to $65 million. This facility consisted of an initial term loan
of up to $25 million, of which we borrowed $15.5 million at the initial funding,
to be used to repay certain existing indebtedness and fund general operating and
working  capital  needs.  An additional  term loan of up to $40 million would be
available under this facility to finance acquisitions  acceptable to Guggenheim.
All  amounts  under the term loans  became due and  payable  in  December  2010.
Interest under this facility was payable  monthly,  with the interest rate equal
to the LIBOR rate plus an applicable margin based on our debt leverage ratio (as
defined in the credit  agreement).  Our obligations  under the Guggenheim credit
facility  were  secured  by a lien on  substantially  all of our  assets and our
domestic  subsidiaries,  including  a  pledge  of the  equity  interests  of our
domestic subsidiaries and 65% of our Luxembourg subsidiary.

         On September 26, 2007, we repaid in full the term loan of $15.5 million
outstanding under the Guggenheim credit facility.  Upon paying off the loan, the
unamortized loan fee paid to Guggenheim of $401,000 and the unamortized value of
the warrants to purchase 3.5 million  shares of our common stock of $3.5 million
was  expensed.  The  unamortized  loan fee paid to  Durham of  $178,000  and the
unamortized  value of the warrants to purchase 70,000 shares of our common stock
of $75,000 was also expensed.  Other unamortized expenses of $822,000 related to
obtaining the loan were also expensed.  All the above expenses  amounted to $5.0
million were  recorded on our  consolidated  statements  of  operations as other
expense in the third  quarter of 2007. On November 2, 2007, we executed a payoff
letter  with  Guggenheim  and the  lenders,  which  released  all liens  held by
Guggenheim and the lenders.

     EQUIPMENT LOANS

         We had three  equipment  loans  outstanding  during 2007.  One of these
equipment  loans bore  interest at 15.8% payable in  installments  through 2007,
which we paid off in  December  2007.  The second  loan bore  interest  at 6.15%
payable in  installment  through 2007,  which we paid off in December  2007. The
third loan bears  interest at 4.75% payable in  installment  through 2008. As of
December 31, 2007, $5,000 was outstanding under the remaining loan.

     LETTERS OF CREDIT

         From time to time, we open letters of credit under an uncommitted  line
of credit from Aurora Capital  Associates  which issues these letters of credits
out of Israeli  Discount  Bank.  As of  December  31,  2007,  $1.2  million  was
outstanding under this facility and $903,000 of letters of credit was open under
this  arrangement.  We pay a  commission  fee of 2.25% on all letters of credits
issued under this arrangement.

         The effective interest rates on bank borrowings as of December 31, 2006
and 2007 were 10.9% and 12.7%, respectively.

         The credit facility with GMAC CF prohibits us from paying  dividends or
making other  distributions on our common stock. In addition,  GMAC CF prohibits
our subsidiaries  that are borrowers under the facility from paying dividends or


                                       39
<PAGE>


making other  distributions  to us. The credit  facility with DBS Bank prohibits
our  Hong  Kong   subsidiaries   from  paying  any  dividends  or  making  other
distributions or cash advances to us.

         We have  financed our  operations  from our cash flow from  operations,
borrowings  under our bank and other  credit  facilities,  issuance of long-term
debt, and sales of equity and debt  securities.  Our  short-term  funding relies
very heavily on our major customers,  banks and suppliers. From time to time, we
have had temporary  over-advances from our banks. Any withdrawal of support from
these parties will have serious consequences on our liquidity.

         We may seek to  finance  future  capital  investment  programs  through
various methods, including, but not limited to, borrowings under our bank credit
facilities,  issuance of long-term debt, sales of equity securities,  leases and
long-term  financing  provided by the sellers of  facilities or the suppliers of
certain equipment used in such facilities.

         We do not believe that the  moderate  levels of inflation in the United
States in the last  three  years have had a  significant  effect on net sales or
profitability.

CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS

         Following is a summary of our  contractual  obligations  and commercial
commitments available to us as of December 31, 2007 (in millions):

<TABLE>
<CAPTION>
                                                         PAYMENTS DUE BY PERIOD
                                      -------------------------------------------------------------
                                                   Less than     Between      Between       After
CONTRACTUAL OBLIGATIONS                 Total        1 year     2-3 years    4-5 years     5 years
----------------------------------    ---------    ---------    ---------    ---------    ---------
<S>                                   <C>          <C>          <C>          <C>          <C>
Long-term debt(1) ................    $     3.2    $     3.2    $    --      $    --      $    --
Operating leases .................    $     7.6    $     1.4    $     2.6    $     1.8    $     1.8
Minimum royalties ................    $     7.6    $     0.9    $     2.2    $     2.8    $     1.7
                                      ---------    ---------    ---------    ---------    ---------
Total Contractual Cash Obligations    $    18.4    $     5.5    $     4.8    $     4.6    $     3.5
</TABLE>

----------
(1)      Includes interest on long-term debt  obligations.  Based on outstanding
         borrowings as of December 31, 2007, and assuming all such  indebtedness
         remained  outstanding  during  2007  and the  interest  rates  remained
         unchanged,  we estimate that our interest cost on long-term  debt would
         be approximately $233,000.

<TABLE>
<CAPTION>
                                                TOTAL         AMOUNT OF COMMITMENT EXPIRATION PER PERIOD
                                               AMOUNTS     ------------------------------------------------
COMMERCIAL                                    COMMITTED    Less than      Between       Between      After
COMMITMENTS AVAILABLE TO US                     TO US        1 year      2-3 years     4-5 years    5 years
-------------------------------------------   ---------    ---------    ---------    ---------    ---------
<S>                                           <C>          <C>               <C>          <C>          <C>
Lines of credit ..........................    $    80.0    $    80.0         --           --           --
Letters of credit (within lines of credit)    $    25.0    $    25.0         --           --           --
Total Commercial Commitments .............    $    80.0    $    80.0         --           --           --
</TABLE>


OFF-BALANCE SHEET ARRANGEMENTS

         At December 31, 2007 and 2006, we did not have any  relationships  with
unconsolidated  entities  or  financial  partnerships,  such as  entities  often
referred to as structured finance or special purpose entities,  which would have
been established for the purpose of facilitating  off-balance sheet arrangements
or other contractually  narrow or limited purposes.  As such, we are not exposed
to any  financing,  liquidity,  market or credit risk that could arise if we had
engaged in such relationships.


                                       40
<PAGE>


RELATED PARTY TRANSACTIONS

         We lease our executive offices and warehouse in Los Angeles, California
from GET and office  space and  warehouse  in Hong Kong from Lynx  International
Limited.  GET and Lynx International  Limited are each owned by Gerard Guez, our
Chairman and Interim Chief Executive  Officer,  and Todd Kay, our Vice Chairman.
We  believe,  at the time the  leases  were  entered  into,  the  rents on these
properties were comparable to then  prevailing  market rents.  Our lease for the
Los Angeles  offices and  warehouse  has a term of five years  expiring in 2011,
with an option  to renew for an  additional  five year  term.  Our lease for the
office space and warehouse in Hong Kong has expired and we are currently renting
on a month to month basis. We paid $1.0 million,  $1.1 million and $1.1 million,
respectively, in 2005, 2006 and 2007 in rent for office and warehouse facilities
at these locations.  On May 1, 2006, we sublet a portion of our executive office
in Los Angeles,  California and our sales office in New York to Seven  Licensing
Company,  LLC ("Seven Licensing") for a monthly payment of $25,000 on a month to
month basis.  Seven Licensing is beneficially  owned by Gerard Guez. We received
$200,000 and $300,000, respectively, in rental income from this sublease for the
years ended December 31, 2006 and 2007.

         From time to time in the past, we had advanced funds to Mr. Guez. These
were  net  advances  to Mr.  Guez or  payments  paid on his  behalf  before  the
enactment of the  Sarbanes-Oxley  Act in 2002. The promissory  note  documenting
these advances contains a provision that the entire amount together with accrued
interest is immediately  due and payable upon our written  demand.  The greatest
outstanding  balance of such advances to Mr. Guez during 2007 was  approximately
$2,151,000.  At December 31, 2007, the entire balance due from Mr. Guez totaling
$1.9 million was reflected as a reduction of shareholders'  equity.  All amounts
due from Mr. Guez bore  interest at the rate of 7.75%  during the period.  Total
interest  paid by Mr. Guez was  $209,000,  $171,000  and  $158,000 for the years
ended December 31, 2005, 2006 and 2007, respectively.  Mr. Guez paid expenses on
our behalf of approximately $397,000,  $299,000 and $365,000 for the years ended
December 31, 2005,  2006 and 2007,  respectively,  which amounts were applied to
reduce accrued interest and principal on Mr. Guez's loan. These amounts included
fuel and related expenses incurred by 477 Aviation,  LLC, a company owned by Mr.
Guez,  when our executives used this company's  aircraft for business  purposes.
Since the enactment of the Sarbanes-Oxley Act in 2002, no further personal loans
(or  amendments to existing  loans) have been or will be made to our officers or
directors.

         On July 1, 2001, we formed an entity to jointly  market,  share certain
risks and achieve economies of scale with Azteca Production International,  Inc.
("Azteca"), called United Apparel Ventures, LLC ("UAV"). This entity was created
to coordinate  the  production  of apparel for a single  customer of our branded
business.  Azteca is owned by the  brothers of Gerard Guez.  UAV made  purchases
from a related party in Mexico,  an affiliate of Azteca.  UAV was owned 50.1% by
Tag Mex, Inc., our wholly owned subsidiary,  and 49.9% by Azteca. Results of the
operation of UAV had been consolidated into our results since July 2001 with the
minority  partner's  share of gain and losses  eliminated  through the  minority
interest line in our financial  statements until 2004. Due to the  restructuring
of our Mexico  operations,  we discontinued  manufacturing  for UAV customers in
2004. We had been consolidating 100% of the results of the operation of UAV into
our results  since 2005.  UAV was  dissolved on February 27, 2007.  We purchased
$135,000,  $1.1 million and $499,000 of finished goods,  fabric and service from
Azteca and its affiliates for the years ended December 31, 2005,  2006 and 2007,
respectively.  Our total sales of fabric and service to Azteca in 2005, 2006 and
2007 were $88,000,  $9,000 and $0, respectively.  Based on the repayment history
of Azteca and litigation which Azteca is currently subject to, we estimated that
our  receivable  of  $3.4  million  will  take  approximately  three  years  for
collection  in  full.  We  therefore  made  a  $1.0  million  reserve  and  then
fair-valued the balance of this asset using our weighted average cost of capital
as the  discount  rate and a term of three  years as the  discount  period.  Net
amounts due from this  related  party as of December 31, 2006 and 2007 were $4.0
million and $1.5 million, respectively.


                                       41
<PAGE>


         On September 1, 2006,  our  subsidiary  in Hong Kong,  Tarrant  Company
Limited,  entered into an agreement with Seven  Licensing to be its buying agent
to source and purchase  apparel  merchandise.  Seven  Licensing is  beneficially
owned by  Gerard  Guez.  Total  sales to Seven  Licensing  for the  years  ended
December  31, 2006 and 2007 were $4.4 million and $19.4  million,  respectively.
Net amounts due from this  related  party as of December  31, 2006 and 2007 were
$3.5 million and $6.8 million, respectively.

         We  believe  that  each of the  transactions  described  above has been
entered into on terms no less favorable to us than could have been obtained from
unaffiliated  third  parties.  We have  adopted a policy  that any  transactions
between us and any of our affiliates or related parties, including our executive
officers,  directors,  the family members of those  individuals and any of their
affiliates,  must (i) be  approved  by a majority of the members of the Board of
Directors  and by a  majority  of the  disinterested  members  of the  Board  of
Directors  and (ii) be on terms no less  favorable  to us than could be obtained
from unaffiliated third parties.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         FOREIGN CURRENCY RISK. Our earnings are affected by fluctuations in the
value of the U.S. dollar as compared to foreign  currencies as a result of doing
business  in foreign  jurisdictions.  As a result,  we bear the risk of exchange
rate gains and losses  that may result in the  future.  At times we use  forward
exchange contracts to reduce the effect of fluctuations of foreign currencies on
purchases  and  commitments.   These  short-term   assets  and  commitments  are
principally related to trade payables positions. At December 31, 2007, we had no
open foreign exchange forward contracts.  We do not utilize derivative financial
instruments for trading or other speculative  purposes. We actively evaluate the
creditworthiness  of the  financial  institutions  that are  counter  parties to
derivative  financial  instruments,  and we do not expect any counter parties to
fail to meet their obligations.

         INTEREST RATE RISK.  Because our  obligations  under our various credit
agreements  bear  interest at floating  rates,  we are  sensitive  to changes in
prevailing  interest  rates.  Any major increase or decrease in market  interest
rates that  affect our  financial  instruments  would have a material  impact on
earning or cash flows during the next fiscal year.

         Our interest  expense is  sensitive to changes in the general  level of
U.S.  interest  rates.  In this regard,  changes in U.S.  interest  rates affect
interest paid on our debt. A majority of our credit  facilities  are at variable
rates.  As of December 31, 2006,  we had $228,000 of fixed-rate  borrowings  and
$48.6 million of variable-rate borrowings outstanding.  As of December 31, 2007,
we had $1.2 million of fixed-rate  borrowings and $11.6 million of variable-rate
borrowings outstanding.  A one percentage point increase in interest rates would
result in an annualized  increase to interest expense of approximately  $486,000
and $116,000 on our variable-rate borrowings for 2006 and 2007, respectively.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         See  "Item  15.  Exhibits,   Financial  Statement  Schedules"  for  our
financial  statements,  and  the  notes  thereto,  and the  financial  statement
schedules filed as part of this report.

ITEM 9.  CHANGES IN AND  DISAGREEMENTS  WITH THE  ACCOUNTANTS  ON ACCOUNTING AND
         FINANCIAL DISCLOSURE

         None.


                                       42
<PAGE>


ITEM 9A(T). CONTROLS AND PROCEDURES

         EVALUATION OF CONTROLS AND PROCEDURES

         Members of our management,  including our Chief  Executive  Officer and
Chief  Financial  Officer,  have evaluated the  effectiveness  of our disclosure
controls  and  procedures,  as defined by  paragraph  (e) of Exchange  Act Rules
13a-15 or 15d-15, as of December 31, 2007, the end of the period covered by this
report. Members of the our management, including our Chief Executive Officer and
Chief Financial  Officer,  also conducted an evaluation of our internal  control
over financial  reporting to determine  whether any changes  occurred during the
fourth quarter of 2007 that have materially  affected,  or are reasonably likely
to materially affect, our internal control over financial reporting.  Based upon
that  evaluation,  the  Chief  Executive  Officer  and Chief  Financial  Officer
concluded that our disclosure controls and procedures are effective.

         CHANGES IN CONTROLS AND PROCEDURES

         During  the fourth  quarter  ended  December  31,  2007,  there were no
changes in our internal  control over financial  accounting  that has materially
affected,  or is reasonably  likely to materially  affect,  our internal control
over financial reporting.

         MANAGEMENT'S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

         Our management is responsible for establishing and maintaining adequate
internal control over financial reporting as defined in Rule 13a-15(f) under the
Securities  Exchange Act of 1934. Internal control over financial reporting is a
process  designed by, or under the supervision  of, our Chief Executive  Officer
and Chief Financial  Officer and effected by our board of directors,  management
and other personnel,  to provide reasonable  assurance regarding the reliability
of financial reporting and the preparation of financial  statements for external
purposes in  accordance  with  generally  accepted  accounting  principles.  Our
internal control over financial reporting includes those policies and procedures
that:

         (i)      pertain to the  maintenance  of records  that,  in  reasonable
                  detail,  accurately  and fairly reflect our  transactions  and
                  dispositions of our assets;

         (ii)     provide reasonable assurance that transactions are recorded as
                  necessary to permit  preparation  of financial  statements  in
                  accordance with generally accepted accounting principles,  and
                  that our  receipts  and  expenditures  are being  made only in
                  accordance   with   authorizations   of  our   management  and
                  directors; and

         (iii)    provide reasonable  assurance  regarding  prevention or timely
                  detection of unauthorized  acquisition,  use or disposition of
                  our assets that could have a material  effect on our financial
                  statements.

         Because of its inherent  limitations,  internal  control over financial
reporting  determined to be effective can provide only reasonable assurance with
respect to  financial  statement  preparation  and may not prevent or detect all
misstatements.  Also,  projections of any evaluation of  effectiveness to future
periods are subject to the risk that controls may become  inadequate  because of
changes in  conditions,  or that the degree of  compliance  with the policies or
procedures may deteriorate.

         Our management  assessed the effectiveness of our internal control over
financial  reporting  as of December 31, 2007 based on the criteria set forth by
the  Committee  of  Sponsoring  Organizations  of  the  Treadway  Commission  in
"Internal  Control-Integrated  Framework".  Based on management's evaluation and
those criteria,  we concluded that our internal control over financial reporting
was effective as of December 31, 2007.


                                       43
<PAGE>


         This  annual  report  does not  include  an  attestation  report of our
registered  public  accounting  firm regarding  internal  control over financial
reporting.  Management's report was not subject to attestation by our registered
public  accounting  firm  pursuant  to  temporary  rules of the  Securities  and
Exchange  Commission that permit us to provide only management's  report in this
annual report.

ITEM 9B. OTHER INFORMATION

         None.

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

         The  information  concerning our directors and executive  officers will
appear in our definitive  Proxy Statement to be filed pursuant to Regulation 14A
within 120 days after the end of our last fiscal  year (the "Proxy  Statement"),
and is incorporated herein by reference.

ITEM 11. EXECUTIVE COMPENSATION

         The information  concerning  executive  compensation will appear in our
definitive Proxy Statement and is incorporated herein by reference.

ITEM 12. SECURITY  OWNERSHIP OF CERTAIN  BENEFICIAL  OWNERS AND  MANAGEMENT  AND
         RELATED STOCKHOLDER MATTERS

         The information concerning the security ownership of certain beneficial
owners  and  management  and  related  stockholder  matters  will  appear in our
definitive Proxy Statement and is incorporated herein by reference.

ITEM 13. CERTAIN   RELATIONSHIPS   AND  RELATED   TRANSACTIONS,   AND   DIRECTOR
         INDEPENDENCE

         The   information   concerning   certain   relationships   and  related
transactions  will appear in our definitive  Proxy Statement and is incorporated
herein by reference.

ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES

         The information  concerning principal accounting fees and services will
appear  in  our  definitive  Proxy  Statement  and  is  incorporated  herein  by
reference.

                                     PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

(a)      List the following documents filed as a part of this report:

         (1)      FINANCIAL STATEMENTS.

         Reference is made to the Index to Financial  Statements and Schedule on
page F-1 for a list of financial statements and the financial statement schedule
filed as part of this Annual Report on Form 10-K.


                                       44
<PAGE>


         (2)      FINANCIAL STATEMENT SCHEDULES.

         Reference is made to the Index to Financial  Statements and Schedule on
page F-1 for a list of financial statements and the financial statement schedule
filed as part of this  Annual  Report  on Form  10-K.  All other  schedules  are
omitted because they are not applicable or the required  information is shown in
the Company's financial statements or the related notes thereto.

         (3)      EXHIBITS.

         See the Exhibit  Index  attached  to this  Annual  Report on Form 10-K,
which is incorporated herein by reference..


                                       45
<PAGE>


                   INDEX TO FINANCIAL STATEMENTS AND SCHEDULE


                                                                            PAGE
                                                                            ----

Financial Statements

     Report of Independent Registered Public Accounting Firm,
     Singer Lewak Greenbaum & Goldstein LLP..................................F-2

     Consolidated Balance Sheets--December 31, 2006 and 2007.................F-3

     Consolidated Statements of Operations --Three year period
     ended December 31, 2007.................................................F-4

     Consolidated Statements of Shareholders' Equity--Three year
     period ended December 31, 2007..........................................F-5

     Consolidated Statements of Cash Flows--Three year period
     ended December 31, 2007.................................................F-6

     Notes to Consolidated Financial Statements..............................F-7

Financial Statement Schedule

     Schedule II--Valuation and Qualifying Accounts.........................F-40


                                      F-1
<PAGE>


             REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


To the Board of Directors and Shareholders
Tarrant Apparel Group
Los Angeles, California


We have audited the  consolidated  balance  sheets of Tarrant  Apparel Group and
subsidiaries (collectively, the "Company") as of December 31, 2007 and 2006, and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended  December  31,  2007.  Our
audits also included the financial  statement  schedule of Tarrant Apparel Group
listed  in Item  15(a).  These  financial  statements  and  financial  statement
schedule are the responsibility of the Company's management.  Our responsibility
is to express an opinion on these financial statements based on our audits.

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

In our opinion, the consolidated  financial statements referred to above present
fairly,  in all material  respects,  the financial  position of Tarrant  Apparel
Group and  subsidiaries  as of December  31,  2007 and 2006,  and the results of
their  operations and their cash flows for each of the three years in the period
ended December 31, 2007, in conformity with U.S. generally  accepted  accounting
principles. Also, in our opinion, the related 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.

As discussed in Note 1 to the consolidated financial statements, the Company has
adopted  the   provisions  of  Statement  of  Financial   Accounting   Standards
Interpretation  No.  48,  "Accounting  for  Uncertainty  in  Income  Taxes  - an
Interpretation of FASB Statement No. 109" on January 1, 2007.

We were not engaged to examine management's assertion about the effectiveness of
Tarrant Apparel Group's internal control over financial reporting as of December
31, 2007  included in the  accompanying  Management's  Annual Report on Internal
Control over Financial Reporting and, accordingly,  we do not express an opinion
thereon.


/s/ Singer Lewak Greenbaum & Goldstein LLP
--------------------------------------------
SINGER LEWAK GREENBAUM & GOLDSTEIN LLP

Los Angeles, California
March 27, 2008


                                      F-2
<PAGE>


<TABLE>
                              TARRANT APPAREL GROUP

                           CONSOLIDATED BALANCE SHEETS

<CAPTION>
                                                                                       DECEMBER 31,
                                                                             -------------------------------
                                                                                  2006              2007
                                                                             -------------     -------------
<S>                                                                          <C>               <C>
                                ASSETS
Current assets:
  Cash and cash equivalents .............................................    $     904,553     $     491,416
  Accounts receivable, net of $2.1 million and $2.0 million allowance for
     returns, discounts and bad debts at December 31, 2006 and 2007,
     respectively .......................................................       48,079,527        34,622,119
  Due from related parties ..............................................        3,688,355         6,812,951
  Inventory .............................................................       17,774,103        13,140,598
  Temporary quota rights ................................................           32,217             5,028
  Prepaid expenses ......................................................        1,515,087         1,277,361
  Deferred tax assets ...................................................          123,607           161,818
  Income taxes receivable ...............................................           25,468              --
                                                                             -------------     -------------
    Total current assets ................................................       72,142,917        56,511,291

Property and equipment, net of $9.4 million and $8.3 million accumulated
  depreciation at December 31, 2006 and 2007, respectively ..............        1,414,354         1,531,322
Notes receivable - related parties, net of $27.1 million reserve at
  December 31, 2006 .....................................................       14,000,000              --
Due from related parties, net of $1.0 million reserve and $0.8 million
  adjustment to fair value at December 31, 2007 .........................        4,168,205         1,740,707
Equity method investment ................................................          788,901           945,342
Deferred financing cost, net of $1.7 million and $226,000 accumulated
  amortization at December 31, 2006 and 2007, respectively ..............        2,448,526           213,876
Other assets ............................................................        6,223,816           101,692
Goodwill, net ...........................................................        9,945,005         9,945,005
                                                                             -------------     -------------

    Total assets ........................................................    $ 111,131,724     $  70,989,235
                                                                             =============     =============

                  LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:
  Short-term bank borrowings ............................................    $  13,696,182     $   9,745,218
  Accounts payable ......................................................       22,685,674        11,784,534
  Accrued expenses ......................................................        8,907,658         8,627,445
  Derivative liability ..................................................          195,953              --
  Income taxes ..........................................................       16,865,125        16,525,237
  Current portion of long-term obligations and factoring arrangement ....       19,586,565         3,003,131
                                                                             -------------     -------------
    Total current liabilities ...........................................       81,937,157        49,685,565

Term loan, net of $4.3 million debt discount at December 31, 2006 .......       11,212,724              --
Other long-term obligations .............................................            5,338              --
Deferred tax liabilities ................................................             --                --
                                                                             -------------     -------------
    Total liabilities ...................................................       93,155,219        49,685,565

Minority interest in PBG7 ...............................................           54,338            60,520
Commitments and contingencies

Shareholders' equity:
Preferred stock, 2,000,000 shares authorized;
  no shares at December 31, 2006 and 2007 issued and outstanding ........             --                --
Common stock, no par value, 100,000,000 shares authorized; 30,543,763
  shares and 32,043,763 shares at December 31, 2006 and 2007 issued and
  outstanding, respectively .............................................      114,977,465       116,672,465
Warrants to purchase common stock .......................................        7,314,239         7,314,239
Contributed capital .....................................................       10,191,511        10,862,902
Accumulated deficit .....................................................     (112,410,363)     (111,662,856)
Notes receivable from officer/shareholder ...............................       (2,150,685)       (1,943,600)
                                                                             -------------     -------------

    Total shareholders' equity ..........................................       17,922,167        21,243,150
                                                                             -------------     -------------

    Total liabilities and shareholders' equity ..........................    $ 111,131,724     $  70,989,235
                                                                             =============     =============
</TABLE>


                             See accompanying notes.


                                      F-3
<PAGE>


<TABLE>
                              TARRANT APPAREL GROUP

                      CONSOLIDATED STATEMENTS OF OPERATIONS

<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                  -------------------------------------------------
                                                       2005              2006              2007
                                                  -------------     -------------     -------------
<S>                                               <C>               <C>               <C>
Net sales ....................................    $ 214,648,218     $ 228,038,373     $ 224,289,591
Net sales to related party ...................             --           4,363,316        19,431,054
                                                  -------------     -------------     -------------
Total net sales ..............................      214,648,218       232,401,689       243,720,645

Cost of sales ................................      169,767,051       178,100,779       177,109,432
Cost of sales to related party ...............             --           3,658,806        17,711,950
                                                  -------------     -------------     -------------
Total cost of sales ..........................      169,767,051       181,759,585       194,821,382

Gross profit .................................       44,881,167        50,642,104        48,899,263
Selling and distribution expenses ............       10,726,425        11,016,352        14,723,837
General and administrative expenses ..........       26,864,789        26,878,871        24,312,038
Royalty expenses .............................        3,664,454         2,814,929         1,863,507
Loss on notes receivable - related parties ...             --          27,137,297              --
Terminated acquisition expenses ..............             --                --           2,000,000
Adjustment to fair value of long-term
  receivable - related parties ...............             --                --             807,875
                                                  -------------     -------------     -------------

Income (loss) from operations ................        3,625,499       (17,205,345)        5,192,006
Interest expense .............................       (4,624,590)       (6,059,628)       (4,117,914)
Interest income ..............................        2,081,456         1,181,437           168,690
Interest in income of equity method investee..          559,634            79,696           156,441
Other income .................................          354,347           335,731         4,094,317
Adjustment to fair value of derivative .......             --             315,134           195,953
Other expense ................................             (580)         (435,586)       (4,976,813)
                                                  -------------     -------------     -------------

Income (loss) before provision (credit) for
  income taxes and minority interest .........        1,995,766       (21,788,561)          712,680
Provision (credit) for income taxes ..........          927,181           453,090        (1,041,010)
Minority interest ............................           75,241           (20,903)            6,183
                                                  -------------     -------------     -------------

Net income (loss) ............................    $     993,344     $ (22,220,748)    $   1,747,507
                                                  =============     =============     =============

Net income (loss) per share - Basic ..........    $        0.03     $       (0.73)    $        0.06
                                                  =============     =============     =============

Net income (loss) per share - Diluted ........    $        0.03     $       (0.73)    $        0.06
                                                  =============     =============     =============

Weighted average common and common equivalent
shares outstanding:
Basic ........................................       29,728,997        30,545,599        30,617,736
                                                  =============     =============     =============

Diluted ......................................       29,734,291        30,545,814        30,617,736
                                                  =============     =============     =============
</TABLE>


                             See accompanying notes.


                                      F-4
<PAGE>


<TABLE>
                              TARRANT APPAREL GROUP

                 CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
              FOR THE YEARS ENDED DECEMBER 31, 2005, 2006 AND 2007


<CAPTION>


                                                 PREFERRED        NUMBER          COMMON          NUMBER
                                                   STOCK         OF SHARES         STOCK         OF SHARES         WARRANTS
                                               -------------   -------------   -------------   -------------    -------------
<S>                                            <C>                      <C>    <C>                <C>           <C>
Balance at January 1, 2005 .................   $        --              --     $ 111,515,091      28,814,763    $   2,846,833
   Net income ..............................            --              --              --              --               --
   Compensation expense ....................            --              --              --              --               --
   Issuance of common stock ................            --              --           375,000         195,313             --
   Conversion of debentures ................            --              --         3,087,374       1,543,687             --
   Repayment from shareholder ..............            --              --              --              --               --
                                               -------------   -------------   -------------   -------------    -------------

Balance at December 31, 2005 ...............   $        --              --     $ 114,977,465      30,553,763    $   2,846,833
   Net loss ................................            --              --              --              --               --
   Stock-based compensation ................            --              --              --              --               --
   Cancellation of common stock ............            --              --              --           (10,000)            --
   Issuance of warrants with debentures ....            --              --              --              --          4,467,406
   Repayment from shareholder ..............            --              --              --              --               --
                                               -------------   -------------   -------------   -------------    -------------

Balance at December 31, 2006 ...............   $        --              --     $ 114,977,465      30,543,763    $   7,314,239
   Accounting for uncertain tax position ...            --              --              --              --               --
   Net income ..............................            --              --              --              --               --
   Stock-based compensation ................            --              --              --              --               --
   Exercise of stock options ...............            --              --         1,695,000       1,500,000             --
   Dissolution of a partnership ............            --              --              --              --               --
   Repayment from shareholder ..............            --              --              --              --               --
                                               -------------   -------------   -------------   -------------    -------------

Balance at December 31, 2007 ...............   $        --              --     $ 116,672,465      32,043,763    $   7,314,239
                                               =============   =============   =============   =============    =============


<CAPTION>
                                                                   RETAINED
                                                                   EARNINGS                            TOTAL
                                                 CONTRIBUTED    (ACCUMULATED      NOTES FROM       SHAREHOLDERS'
                                                   CAPITAL         DEFICIT)      SHAREHOLDERS         EQUITY
                                                -------------   -------------    -------------    -------------
<S>                                             <C>             <C>              <C>              <C>
Balance at January 1, 2005 .................    $   9,965,591   $ (91,182,959)   $  (2,466,062)   $  30,678,494
   Net income ..............................             --           993,344             --            993,344
   Compensation expense ....................           38,740            --               --             38,740
   Issuance of common stock ................             --              --               --            375,000
   Conversion of debentures ................             --              --               --          3,087,374
   Repayment from shareholder ..............             --              --            187,359          187,359
                                                -------------   -------------    -------------    -------------

Balance at December 31, 2005 ...............    $  10,004,331   $ (90,189,615)   $  (2,278,703)   $  35,360,311
   Net loss ................................             --       (22,220,748)            --        (22,220,748)
   Stock-based compensation ................          187,180            --               --            187,180
   Cancellation of common stock ............             --              --               --               --
   Issuance of warrants with debentures ....             --              --               --          4,467,406
   Repayment from shareholder ..............             --              --            128,018          128,018
                                                -------------   -------------    -------------    -------------

Balance at December 31, 2006 ...............    $  10,191,511   $(112,410,363)   $  (2,150,685)   $  17,922,167
   Accounting for uncertain tax position ...             --        (1,000,000)            --         (1,000,000)
   Net income ..............................             --         1,747,507             --          1,747,507
   Stock-based compensation ................          771,391            --               --            771,391
   Exercise of stock options ...............             --              --               --          1,695,000
   Dissolution of a partnership ............         (100,000)           --               --           (100,000)
   Repayment from shareholder ..............             --              --            207,085          207,085
                                                -------------   -------------    -------------    -------------

Balance at December 31, 2007 ...............    $  10,862,902   $(111,662,856)   $  (1,943,600)   $  21,243,150
                                                =============   =============    =============    =============
</TABLE>


                             See accompanying notes.


                                      F-5
<PAGE>


<TABLE>
                              TARRANT APPAREL GROUP

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

<CAPTION>
                                                                          YEAR ENDED DECEMBER 31,
                                                             -------------------------------------------------
                                                                  2005              2006              2007
                                                             -------------     -------------     -------------
<S>                                                          <C>               <C>               <C>
Operating activities:
Net Income (loss) .......................................    $     993,344     $ (22,220,748)    $   1,747,507
Adjustments to reconcile net income (loss) to net cash
provided by (used in)
Operating activities:
   Deferred taxes .......................................         (166,686)          237,045           (38,211)
   Depreciation and amortization of fixed assets ........          727,233           455,124           414,909
   Amortization of deferred financing cost ..............        1,399,352         2,525,210         1,532,295
   Write-off of deferred financing cost and debt discount             --                --           4,950,616
   Receipt of merchandise in lieu of interest on notes
     receivable, related party ..........................       (1,742,540)             --                --
   Adjustment to fair value of derivative ...............             --            (315,134)         (195,953)
   Reserve of long-term receivable - related parties ....             --                --           1,000,000
   Adjustment to fair value of long-term receivable -
      related parties ...................................             --                --             807,875
   Loss (gain) on notes receivable - related parties ....             --          27,137,297        (3,750,000)
   Terminated acquisition expenses ......................             --                --           2,000,000
   Prepaid royalties write-off ..........................        1,165,970              --                --
   Income from equity method investment .................         (559,634)          (79,696)         (156,441)
   Loss (gain) on sale of fixed assets ..................         (124,041)           35,587            20,048
   Minority interest ....................................           75,241           (20,903)            6,183
   Compensation expense related to stock options ........           38,740              --                --
   Stock-based compensation .............................             --             187,180           771,392
   Change in the provision for returns and discounts ....          (78,060)          292,356          (333,648)
   Change in the provision for bad debts ................          591,945        (1,167,248)          234,066
   Changes in operating assets and liabilities:
      Accounts receivable ...............................      (17,352,985)        6,528,104        14,056,128
      Due to/from related parties .......................        2,702,047        (1,160,821)       (3,118,230)
      Inventory .........................................       (8,503,086)       13,305,121         4,633,506
      Temporary quota rights ............................             --             (32,217)           27,189
      Prepaid expenses ..................................           47,055           900,886           263,193
      Other assets ......................................             --                --             125,000
      Accounts payable ..................................        9,248,667       (10,593,284)      (10,901,140)
      Accrued expenses and income tax payable ...........       (1,362,218)         (967,312)       (1,620,101)
                                                             -------------     -------------     -------------
   Net cash provided by (used in) operating activities ..      (12,899,656)       15,046,547        12,476,183

Investing activities:
Purchase of fixed assets ................................         (559,081)         (208,571)         (553,060)
Proceeds from sale of fixed assets ......................          130,552             6,346             1,134
Collection on notes receivable - related parties ........        1,194,722         1,086,110              --
Proceeds from notes receivable ..........................             --                --          17,750,000
Distribution from equity method investee ................          301,050            67,500              --
Deposit in acquisition ..................................             --          (5,000,000)             --
Refund of deposit in acquisition ........................             --                --           4,750,000
Due diligence fees in acquisition .......................             --          (1,050,256)         (699,744)
Trademark ...............................................             --            (100,000)             --
Collection of advances from shareholders/officers .......        2,487,360           128,018           207,086
                                                             -------------     -------------     -------------
   Net cash provided by (used in) investing activities ..        3,554,603        (5,070,853)       21,455,416

Financing activities:
Short-term bank borrowings, net .........................       (4,117,625)         (137,351)       (3,950,964)
Proceeds from long-term obligations .....................      218,367,495       235,101,785       205,837,789
Payment of financing costs ..............................             --          (2,405,201)             --
Payment of long-term obligations and bank borrowings ....     (204,477,993)     (236,359,516)     (222,426,561)
Repayment of term loan ..................................             --                --         (15,500,000)
Proceeds (repayments) from convertible debentures .......             --          (6,912,626)             --
Exercise of stock options ...............................             --                --           1,695,000
                                                             -------------     -------------     -------------
   Net cash provided by (used in) financing activities ..        9,771,877       (10,712,909)      (34,344,736)
                                                             -------------     -------------     -------------

Increase (decrease) in cash and cash equivalents ........          426,824          (737,215)         (413,137)
Cash and cash equivalents at beginning of year ..........        1,214,944         1,641,768           904,553
                                                             -------------     -------------     -------------

Cash and cash equivalents at end of year ................    $   1,641,768     $     904,553     $     491,416
                                                             =============     =============     =============
</TABLE>


                             See accompanying notes


                                      F-6
<PAGE>


                              TARRANT APPAREL GROUP

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION AND BASIS OF CONSOLIDATION

The accompanying  financial  statements  consist of the consolidation of Tarrant
Apparel Group,  a California  corporation,  and its majority owned  subsidiaries
located  primarily in the U.S., Asia,  Mexico,  and Luxembourg.  At December 31,
2007,  we own 75% of PBG7,  LLC ("PBG7").  We  previously  owned 50.1% of United
Apparel  Ventures  ("UAV"),  which was  dissolved  on  February  27,  2007.  The
dissolution of UAV did not have a material impact on our consolidated  financial
statements.  We consolidate these entities and reflect the minority interests in
earnings (losses) of the ventures in the accompanying financial statements.  All
inter-company  amounts  are  eliminated  in  consolidation.  The 49.9%  minority
interest  in UAV was owned by Azteca  Production  International,  a  corporation
owned by the  brothers of our  Chairman  and Interim  Chief  Executive  Officer,
Gerard  Guez.  The 25%  minority  interest  in PBG7 is  owned  by BH7,  LLC,  an
unrelated party.

We serve  specialty,  retail,  mass  merchandisers,  department store chains and
branded wholesalers by designing, merchandising, contracting for the manufacture
of, and selling casual  apparel for women,  men and children under private label
and private brand.

Historically,  our operating  results have been subject to seasonal  trends when
measured on a quarterly  basis.  This trend is  dependent  on numerous  factors,
including the markets in which we operate,  holiday  seasons,  consumer  demand,
climate,  economic  conditions  and numerous  other factors  beyond our control.
Generally,  the second and third quarters are stronger than the first and fourth
quarters.  There can be no assurance that the historic  operating  patterns will
continue in future periods.

RISK AND UNCERTAINTIES - IRS EXAMINATION

In January 2004, the Internal Revenue Service ("IRS")  completed its examination
of our Federal  income tax returns for the years ended December 31, 1996 through
2001.  The IRS had proposed  adjustments  to increase our income tax payable for
these years under examination.  In addition,  in July 2004, the IRS initiated an
examination  of our Federal  income tax return for the year ended  December  31,
2002.  In December  2007,  we received a final  assessment  from the IRS of $7.4
million for the years ended  December  31, 1996 through  2002,  and in the first
quarter of 2008 we entered into a final settlement agreement with the IRS. Under
the settlement,  which totals $13.9 million, including $6.5 million of interest,
we agreed to pay the IRS $4 million in March 2008 and an additional $250,000 per
month until  repayment in full.  The  settlement  with the IRS is within amounts
previously  reserved for in our  financial  statements,  and we therefore do not
anticipate the  settlement to result in any  additional  charges to income other
than interest on the outstanding balance.

RISK AND UNCERTAINTIES - DEBT COVENANTS

As discussed in Note 9 of the "Notes to Consolidated  Financial Statements," our
debt agreements  require certain  covenants  including a minimum level of EBITDA
and  specified  tangible net worth;  and required  interest  coverage  ratio and
leverage ratio. If our results of operations erode and we are not able to obtain
waivers  from the  lenders,  the debt would be in default  and  callable  by our
lenders.  In addition,  due to cross-default  provisions in our debt agreements,
substantially  all of our long-term  debt would become due in full if any of the
debt is in default.  In  anticipation  of us not being able to meet the required
covenants  due to  various  reasons,  we either  negotiate  for  changes  in the
relative  covenants or an advance  waiver or  reclassify  the  relevant  debt as
current.  We also believe that our lenders would  provide  waivers if necessary.
However,  our expectations of future operating results and continued  compliance
with other debt  covenants  cannot be assured and our  lenders'  actions are not
controllable by us. If projections of future operating  results are not achieved
and the debt is placed in default,  we would be required to reduce our expenses,
including by curtailing  operations,  and to raise  capital  through the sale of
assets,  issuance  of equity or  otherwise,  any of which  could have a material
adverse effect on our financial condition and results of operations.  See Note 9
of the "Notes to Consolidated  Financial Statements" for a further discussion of
the credit  facilities and related debt  covenants.  As of December 31, 2007, we
were in violation of the EBITDA and tangible net worth  covenants and waivers of
the defaults were obtained in March 2008 from our lenders.


                                      F-7
<PAGE>


REVENUE RECOGNITION

Revenue is recognized at the point of shipment for all merchandise sold based on
FOB shipping point.  For merchandise  shipped on landed duty paid ("LDP") terms,
revenue  is  recognized  at the  point of  either  leaving  Customs  for  direct
shipments or at the point of leaving our warehouse  where title is  transferred,
net of an estimate of returned merchandise and discounts.  Customers are allowed
the rights of return or non-acceptance  only upon receipt of damaged products or
goods with quality  different  from  shipment  samples.  We do not undertake any
after-sale warranty or any form of price protection.

We often arrange, on behalf of manufacturers,  for the purchase of fabric from a
single  supplier.  We have the fabric shipped  directly to the cutting  factory.
Generally, the factories pay us for the fabric with offsets against the price of
the finished goods.

SHIPPING AND HANDLING COSTS

Freight  charges  are  included  in selling  and  distribution  expenses  in the
statements of operations and amounted to $667,000, $781,000 and $641,000 for the
years ended December 31, 2005,  2006 and 2007,  respectively.  In 2005, 2006 and
2007,  we did some billing for freight to specialty  stores  although the amount
was insignificant.

CASH AND CASH EQUIVALENTS

Cash equivalents  consist of cash and highly liquid investments with an original
maturity of three months or less when purchased.  Cash and cash equivalents held
in foreign financial  institutions  totaled $260,000 and $262,000 as of December
31,  2006 and 2007,  respectively.  Cash is  deposited  with what we believe are
highly  credited  quality  financial  institutions  and may exceed FDIC  insured
limits.  As  of  December  31,  2006  and  2007,  cash  deposited  in  financial
institutions  that exceeded  FDIC insured  limits was $1.4 million and $660,000,
respectively.

ACCOUNTS RECEIVABLE--ALLOWANCE FOR RETURNS, DISCOUNTS AND BAD DEBTS

We evaluate the collectibility of accounts receivable and chargebacks  (disputes
from the customer) based upon a combination of factors.  In circumstances  where
we  are  aware  of  a  specific  customer's  inability  to  meet  its  financial
obligations  (such  as  in  the  case  of  bankruptcy   filings  or  substantial
downgrading  of  credit  sources),  a  specific  reserve  for bad debts is taken
against  amounts  due to reduce  the net  recognized  receivable  to the  amount
reasonably  expected to be  collected.  For all other  customers,  we  recognize
reserves for bad debts and  uncollectible  chargebacks  based on our  historical
collection experience.  If collection experience  deteriorates (for example, due
to an unexpected  material adverse change in a major customer's  ability to meet
its financial obligations to us), the estimates of the recoverability of amounts
due to us could be reduced by a material  amount.  As of  December  31, 2006 and
2007, the balance of the allowance for returns, discounts and bad debts was $2.1
million and $2.0 million, respectively.

INVENTORY

Our inventories  are stated (valued) at the lower of cost (first-in,  first-out)
or market.  Under  certain  market  conditions,  we use  estimates and judgments
regarding  the  valuation of inventory to properly  value  inventory.  Inventory
adjustments  are made for the  difference  between the cost of the inventory and
the estimated  market value and charged to operations in the period in which the
facts that give rise to the adjustments become known.

COST OF SALES

Cost of sales  includes  costs related to product  costs,  direct  labor,  duty,
quota, freight in, brokerage, warehouse handling and markdown.


                                      F-8
<PAGE>


SELLING AND DISTRIBUTION EXPENSES

Selling and distribution  expenses  include expenses related to samples,  travel
and entertainment,  salaries,  rent, warehouse handling,  other office expenses,
professional  fees, freight out, and selling  commissions  incurred in the sales
process.

GENERAL AND ADMINISTRATIVE EXPENSES

General and  administrative  expenses  include  expenses related to research and
product  development,  travel and  entertainment,  salaries,  rent, other office
expenses, depreciation and amortization, professional fees and bank charges.

LICENSE AGREEMENTS AND ROYALTY EXPENSES

We enter into license  agreements from time to time that allow us to use certain
trademarks and trade names on certain of its products.  These agreements require
us to pay  royalties,  generally  based on the sales of such  products,  and may
require guaranteed minimum royalties, a portion of which may be paid in advance.
Our  accounting  policy is to match  royalty  expense  with revenue by recording
royalties  at the  time of sale at the  greater  of the  contractual  rate or an
effective  rate  calculated  based on the  guaranteed  minimum  royalty  and our
estimate of sales during the  contract  period.  If a portion of the  guaranteed
minimum royalty is determined not to be recoverable,  the unrecoverable  portion
is charged to  expense at that time.  See Note 13 of the "Notes to  Consolidated
Financial Statements" regarding various agreements we have entered into.

Royalty expense for each of the three fiscal years ended December 31, 2005, 2006
and 2007 were $3.7 million, $2.8 million and $1.9 million, respectively.

DEFERRED RENT PROVISION

When a lease requires  fixed  escalation of the minimum lease  payments,  rental
expense is  recognized  on a straight  line basis over the  initial  term of the
lease,  and the difference  between the average rental amount charged to expense
and  amounts  payable  under the lease is included  in  deferred  amount.  As of
December 31, 2006 and 2007, deferred rent of $93,000 and $260,000,  respectively
was recorded under accrued expense in our consolidated financial statements.

DERIVATIVE ACTIVITIES

WARRANT DERIVATIVES

Statement of Financial  Accounting  Standards  ("SFAS") No. 133  "Accounting for
Derivative  Instruments and Hedging Activities"  requires measurement of certain
derivative   instruments  at  their  fair  value  for  accounting  purposes.  In
determining  the  appropriate  fair  value,  we  use  the  Black-Scholes  model.
Derivative  liabilities  are  adjusted to reflect fair value at each period end,
with any increase or decrease in the fair value being  recorded in  consolidated
statements of operations as adjustment to fair value of derivative.  At December
31, 2006,  there was an income of $511,000  recorded as adjustment to fair value
of derivative on our  consolidated  statements of operations.  See Note 9 of the
"Notes to Consolidated Financial Statements"

FOREIGN CURRENCY FORWARD CONTRACT

We source  our  product in a number of  countries  throughout  the  world,  as a
result, are exposed to movements in foreign currency exchange rates. The primary
purpose of our foreign currency  hedging  activities is to manage the volatility
associated with foreign currency  purchases of materials in the normal course of
business.  We utilize derivative financial  instruments  consisting primarily of
forward currency  contracts.  These  instruments are intended to protect against
exposure  related  to  financing  transactions  and  income  from  international
operations.   We  do  not  enter  into  derivative  financial   instruments  for
speculative  or trading  purposes.  We may enter into certain  foreign  currency
derivative instruments that do not meet hedge accounting criteria.


                                      F-9
<PAGE>


SFAS No. 133 requires  measurement  of certain  derivative  instruments at their
fair value for accounting purposes.  All derivative  instruments are recorded on
our balance sheet at fair value;  as a result,  we mark to market all derivative
instruments.  Derivative  liabilities are adjusted to reflect fair value at each
period end,  with any  increase or decrease in the fair value being  recorded in
consolidated statements of operations as adjustment to fair value of derivative.
During the year ended  December  31,  2006,  we entered  into  foreign  currency
forward  contracts to hedge against the effect of exchange rate  fluctuations on
cash flows denominated in foreign currencies and certain inter-company financing
transactions. This transaction is undesignated and as such an ineffective hedge.
At December 31, 2006, we had one open foreign  exchange  forward  contract which
has a maturity of less than one year. Hedge  ineffectiveness  resulted in a loss
of $196,000 in our  consolidated  statements  of  operations  as of December 31,
2006. At December 31, 2007, we had no open foreign exchange  forward  contracts.
Hedge  ineffectiveness  resulted  in a gain  of  $196,000  in  our  consolidated
statements of operations as of December 31, 2007.

PRODUCT DESIGN, ADVERTISING AND SALES PROMOTION COSTS

Product design,  advertising and sales promotion costs are expensed as incurred.
Product  design,  advertising  and sales  promotion  costs  included in selling,
general and administrative expenses in the accompanying statements of operations
(excluding  the  costs  of  manufacturing   production   samples)   amounted  to
approximately  $3.0  million,  $2.7 million and $3.9  million in 2005,  2006 and
2007, respectively.

PROPERTY AND EQUIPMENT

Property  and  equipment  is recorded at cost.  Additions  and  betterments  are
capitalized  while repair and  maintenance  costs are charged to  operations  as
incurred.  Depreciation  of  property  and  equipment  is  provided  for  by the
straight-line method over their estimated useful lives.  Leasehold  improvements
are amortized using the straight-line  method over the lesser of their estimated
useful lives or the term of the lease.  Upon  retirement or disposal of property
and equipment, the cost and related accumulated depreciation are eliminated from
the accounts and any gain or loss is reflected in the  statement of  operations.
The estimated useful lives of the assets are as follows:

         Buildings.........................................     35 to 40 years
         Equipment.........................................      5 to 15 years
         Furniture and Fixtures............................       5 to 7 years
         Vehicles..........................................            5 years
         Leasehold Improvements........ Term of lease or Estimated useful life

IMPAIRMENT OF LONG-LIVED ASSETS

The carrying  value of long-lived  assets are reviewed when events or changes in
circumstances  indicate  that  the  carrying  amount  of an  asset  may  not  be
recoverable.  If it is determined  that an impairment loss has occurred based on
the lowest  level of  identifiable  expected  future  cash flow,  then a loss is
recognized in the statement of operations using a fair value based model.

VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS AND GOODWILL

We have adopted SFAS No. 142, "Goodwill and Other Intangible  Assets." We assess
the need for  impairment  of  identifiable  intangibles,  long-lived  assets and
goodwill with a  fair-value-based  test on an annual basis or more frequently if
an event occurs or  circumstances  change that would more likely than not reduce
the fair value of a reporting unit below its carrying amount. Factors considered
important that could trigger an impairment  review include,  but are not limited
to, the following:

         o        a significant underperformance relative to expected historical
                  or projected future operating results;

         o        a significant  change in the manner of the use of the acquired
                  asset or the strategy for the overall business; or

         o        a significant negative industry or economic trend.


                                      F-10
<PAGE>


We utilized the  discounted  cash flow  methodology  to estimate fair value.  At
December 31, 2006, we had a goodwill balance of $9.9 million, and a net property
and equipment balance of $1.4 million, as compared to a goodwill balance of $9.9
million and a net property and equipment balance of $1.5 million at December 31,
2007. See Note 6 and Note 8 of the "Notes to Consolidated Financial Statements."

During the years ended December 31, 2006 and 2007, we did not recognize any need
for impairment related to goodwill and property and equipment.

DEFERRED FINANCING COST

Deferred financing costs were $2.4 million and $214,000 at December 31, 2006 and
2007,  respectively.  These costs of  obtaining  financing  and issuance of debt
instruments are being  amortized on a  straight-line  basis over the term of the
related debt. Amortization expenses for deferred charges were $1.4 million, $2.5
million and $1.5 million for the years ended  December 31, 2005,  2006 and 2007,
respectively.

INCOME TAXES

We utilize SFAS No. 109, "Accounting for Income Taxes," which prescribes the use
of the  liability  method to compute  the  differences  between the tax basis of
assets  and  liabilities  and the  related  financial  reporting  amounts  using
currently  enacted  tax laws and rates.  A  valuation  allowance  is recorded to
reduce deferred taxes to the amount that is more likely than not to be realized.

Our foreign subsidiary had an accumulated earning and profit deficit at December
31, 2006 and 2007. Any current year foreign  earning and profit will be reported
by us as dividends on our tax returns.

In  June  2006,  the  Financial   Accounting  Standards  Board  ("FASB")  issued
Interpretation  No.  48,  "Accounting  for  Uncertainty  in  Income  Taxes  - An
Interpretation  of FASB  Statement  No. 109" ("FIN 48").  FIN 48  clarifies  the
accounting  for  uncertainty  in  income  taxes  recognized  in an  enterprise's
financial  statements in accordance  with SFAS No. 109,  "Accounting  for Income
Taxes." FIN 48 also prescribes a recognition threshold and measurement attribute
for the financial statement  recognition and measurement of a tax position taken
or  expected  to be  taken  in a  tax  return  that  results  in a tax  benefit.
Additionally,  FIN 48 provides  guidance  on  de-recognition,  income  statement
classification  of  interest  and  penalties,  accounting  in  interim  periods,
disclosure,  and  transition.  We adopted the provisions of FIN 48 on January 1,
2007.  As a result of the  implementation  of FIN 48, we  recognized no material
adjustment for  unrecognized  tax benefits but reduced  retained  earnings as of
January 1, 2007 by approximately $1 million attributable to penalties accrued as
a component of income tax payable. As of the date of adoption,  our unrecognized
tax benefits totaled approximately $8.9 million.

We and several of our  subsidiaries  file  income tax returns in the U.S.,  Hong
Kong,  Luxembourg,  Mexico and various  state  jurisdictions.  We are  currently
subject  to an audit by the State of New York for the years 2002 to 2005 but are
not currently  being  audited by other states or subject to non-U.S.  income tax
jurisdictions for years open in those taxing jurisdictions.

In January 2004,  the IRS completed its  examination  of our Federal  income tax
returns for the years ended December 31, 1996 through 2001. The IRS had proposed
adjustments   to  increase   our  income  tax  payable  for  these  years  under
examination.  In addition, in July 2004, the IRS initiated an examination of our
Federal  income tax return for the year ended  December  31,  2002.  In December
2007, we received a final  assessment from the IRS of $7.4 million for the years
ended  December  31, 1996 through  2002,  and in the first  quarter of 2008,  we
entered into a final  settlement  agreement with the IRS. Under the  settlement,
which totals $13.9 million, including $6.5 million of interest, we agreed to pay
the IRS $4 million  in March 2008 and an  additional  $250,000  per month  until
repayment in full. The settlement  with the IRS is within amounts accrued for as
of December  31,  2007 in our  financial  statements,  and we  therefore  do not
anticipate the  settlement to result in any  additional  charges to income other
than interest on the outstanding balance. Due to the negotiated  settlement,  we
reclassified  the IRS and state tax  liabilities  from uncertain tax position to
current payable on December 31, 2007.

The total  unrecognized  tax  benefits as of January 1, 2007 were $8.9  million,
excluding  interest,  penalties  and related  income tax  benefits  and would be
recorded  as a  component  of income tax  expense if  recognized.  We  recognize


                                      F-11
<PAGE>


interest  accrued  related to  unrecognized  tax  benefits  and  penalties  as a
component of income tax expense. As of January 1, 2007, the accrued interest and
penalties  were $8.0  million  and $1.2  million,  respectively,  excluding  any
related income tax benefits.  During 2007, we de-recognized a previous uncertain
tax  position  through  negotiations  with  the  state  tax  jurisdiction.   The
negotiated settlement resulted in a decrease of $1.5 million in unrecognized tax
benefits and $1.0 million in  penalties.  During 2007, we also  de-recognized  a
previous  uncertain tax position through settlement with the IRS. The negotiated
settlement  resulted in a decrease of $7.4 million in unrecognized tax benefits.
After the  above  adjustments,  there  was no  unrecognized  tax  benefit  as of
December 31, 2007. As of December 31, 2007,  the accrued  interest and penalties
were $7.2 million and $142,000, respectively.

In many cases,  the uncertain tax positions are related to tax years that remain
subject to  examination  by the  relevant  tax  authorities.  Federal  and state
statutes are open from 2003 through the present  period.  Hong Kong statutes are
open from 2001, Luxembourg from 2003 and Mexico from 2001.

NET INCOME (LOSS) PER SHARE

Basic and diluted  income (loss) per share has been computed in accordance  with
SFAS No. 128,  "Earnings  Per Share".  A  reconciliation  of the  numerator  and
denominator of basic income (loss) per share and diluted income (loss) per share
is as follows:

<TABLE>
<CAPTION>
                                                          YEAR ENDED DECEMBER 31,
                                                ---------------------------------------------
                                                    2005            2006             2007
                                                ------------    ------------     ------------
<S>                                             <C>             <C>              <C>
Basic EPS Computation:
Numerator:
Reported net income (loss) .................    $    993,344    $(22,220,748)    $  1,747,507

Denominator:
Weighted average common shares outstanding..      29,728,997      30,545,599       30,617,736

Basic EPS ..................................    $       0.03    $      (0.73)    $       0.06
                                                ============    ============     ============

Diluted EPS Computation:
Numerator:
Reported net income (loss) .................    $    993,344    $(22,220,748)    $  1,747,507

Denominator:
Weighted average common shares outstanding..      29,728,997      30,545,599       30,617,736
Incremental shares from assumed exercise of
warrants ...................................            --              --               --
convertible debentures .....................            --              --               --
options ....................................           5,294             215             --
                                                ------------    ------------     ------------
Total shares ...............................      29,734,291      30,545,814       30,617,736

Diluted EPS ................................    $       0.03    $      (0.73)    $       0.06
                                                ============    ============     ============
</TABLE>


The  following   potentially  dilutive  securities  were  not  included  in  the
computation  of  income  (loss)  per  share,  because  to do so would  have been
anti-dilutive:

                                       2005             2006             2007
                                    ----------       ----------       ----------

Options .....................        6,727,756        7,673,444        8,214,209
Warrants ....................        2,361,732        5,931,732        5,931,732
Convertible debentures ......        3,456,313             --               --
                                    ----------       ----------       ----------
   Total ....................       12,545,801       13,605,176       14,145,941


                                      F-12
<PAGE>


DIVIDENDS

We did not declare or pay any cash dividends in 2005, 2006 or 2007. We intend to
retain  any future  earnings  for use in our  business  and,  therefore,  do not
anticipate declaring or paying any cash dividends in the foreseeable future. The
declaration and payment of any cash dividends in the future will depend upon our
earnings,  financial condition,  capital needs and other factors deemed relevant
by the Board of  Directors.  In  addition,  our credit  agreements  prohibit the
payment of dividends during the term of the agreements.

FOREIGN CURRENCY TRANSLATION

Assets and liabilities of our Hong Kong  subsidiaries are translated at the rate
of  exchange  in effect on the  balance  sheet  date;  income and  expenses  are
translated  at the average  rates of exchange  prevailing  during the year.  The
functional  currency in which we transact business in Hong Kong is the Hong Kong
dollar.

Transaction  gains or losses,  other than  inter-company  debt deemed to be of a
long-term nature,  are included in net income (loss) in the period in which they
occur.  Foreign  currency gains and losses  resulting from translation of assets
and liabilities related to our Hong Kong subsidiaries were insignificant in 2006
and 2007.

FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of financial  instruments  is  determined by reference to various
market data and other valuation techniques as appropriate. Considerable judgment
is required in  estimating  fair values.  Accordingly,  the estimates may not be
indicative  of the amounts that we could realize in a current  market  exchange.
The  carrying  amounts  of cash and cash  equivalents,  receivables,  inventory,
prepaid expenses, accounts payable and accrued expenses approximate fair values.
The  carrying  amounts  of  our  variable  rate  borrowings  under  the  various
short-term borrowings and long-term debt arrangements approximate fair value.

CONCENTRATION OF CREDIT RISK

Financial  instruments,  which potentially  expose us to concentration of credit
risk, consist primarily of cash equivalents,  trade accounts receivable, related
party receivables and amounts due from factor.

Our products are  primarily  sold to mass  merchandisers  and  specialty  retail
stores.  These customers can be  significantly  affected by changes in economic,
competitive or other factors.  We make  substantial  sales to a relatively  few,
large customers. In order to minimize the risk of loss, we assign certain of our
domestic accounts  receivable to a factor without recourse or require letters of
credit  from our  customers  prior to the  shipment of goods.  For  non-factored
receivables,  account-monitoring procedures are utilized to minimize the risk of
loss.  Collateral  is  generally  not  required.  At December 31, 2006 and 2007,
approximately 23% and 31%, respectively of accounts receivable were due from two
customers. The following table presents the percentage of net sales concentrated
with certain customers.

                                                 PERCENTAGE OF NET SALES
                                           ------------------------------------
   CUSTOMER                                  2005          2006           2007
   ---------------------                   -------       -------        -------
   Macy's Merchandising Group............    13.4          18.9           21.1
   New York & Co. .......................     8.6           4.5           12.5
   Chico's ..............................     8.3           8.5           11.3
   Kohl's................................    13.5          14.1            8.5
   Mervyn's..............................    11.2          11.9            8.3
   Wal-Mart..............................    11.1           4.5            3.5

We maintain demand  deposits with several major banks.  At times,  cash balances
may be in excess of Federal Deposit Insurance  Corporation or equivalent foreign
insurance limits.


                                      F-13
<PAGE>


USE OF ESTIMATES

The preparation of financial  statements in conformity  with generally  accepted
accounting  principles  in the  United  States of  America  requires  us to make
estimates  and  assumptions  that affect the amounts  reported in the  financial
statements  and  accompanying  notes.   Significant  estimates  used  by  us  in
preparation of the financial statements include allowance for returns, discounts
and bad debts, inventory,  notes receivable - related parties reserve, valuation
of long-lived  and  intangible  assets and goodwill,  accrued  expenses,  income
taxes,  stock options  valuation,  contingencies and litigation.  Actual results
could differ from those estimates.

IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements". SFAS
No. 157  establishes a framework for measuring fair value in generally  accepted
accounting  principles,  and expands  disclosures about fair value measurements.
SFAS No. 157 is  effective  for  financial  statements  issued for fiscal  years
beginning  after  November 15, 2007.  We are required to adopt the  provision of
SFAS No. 157, as  applicable,  beginning in fiscal year 2008.  We are  currently
assessing the impact of SFAS No. 157 on our results of operations  and financial
condition.

In September  2006,  the FASB issued SFAS No. 158,  "Employer's  Accounting  for
Defined  Benefit  Pension and Other  Postretirement  Plans-an  amendment of FASB
Statements  No.  87,  88,  106 and  132(R)".  SFAS No.  158  requires  us to (a)
recognize a plan's  funded status in the  statement of financial  position,  (b)
measure a plan's assets and its obligations  that determine its funded status as
of the end of the employer's fiscal year and (c) recognize changes in the funded
status of a defined  postretirement  plan in the year in which the changes occur
through other comprehensive  income. SFAS No. 158 was effective for fiscal years
ending  after  December  15,  2006.  The adoption of SFAS No. 158 did not have a
material impact on our results of operations and financial condition.

In September 2006, the SEC issued SAB No. 108, "Considering the Effects of Prior
Year  Misstatements  when  Quantifying  Misstatements  in Current Year Financial
Statements", to address diversity in practice in quantifying financial statement
misstatements. SAB No. 108 requires the quantification of misstatements based on
their  impact on both the balance  sheet and the income  statement  to determine
materiality.  The guidance provides for a one-time  cumulative effect adjustment
to correct for  misstatements  that were not deemed  material  under a company's
prior approach but are material under the SAB No. 108 approach.  SAB No. 108 was
effective for fiscal years ending after  November 15, 2006.  The adoption of SAB
108 did not have a material  impact on our results of  operations  and financial
condition.

In February  2007,  the FASB issued  SFAS No.  159,  "The Fair Value  Option for
Financial Assets and  Liabilities-  Including an amendment of FASB Statement No.
115".  SFAS No. 159  permits  entities  to choose to measure  certain  financial
assets and liabilities at fair value (the "fair value option"). Unrealized gains
and losses, arising subsequent to adoption,  are reported in earnings.  SFAS No.
159 is effective  for fiscal years  beginning  after  November 15, 2007.  We are
currently  assessing the impact of SFAS No. 159 on our results of operations and
financial condition.

In  December  2007,  the FASB  issued  SFAS No. 141  (revised  2007),  "Business
Combinations".  The  objective of SFAS No.  141(R) is to improve the  relevance,
representational  faithfulness,  and  comparability  of the  information  that a
reporting entity provides in its financial reports about a business  combination
and its effects.  The new standard  requires the acquiring  entity in a business
combination  to recognize  all (and only) the assets  acquired  and  liabilities
assumed in the transaction;  establishes the acquisition-date  fair value as the
measurement  objective  for all assets  acquired and  liabilities  assumed;  and
requires  the  acquirer  to  disclose  to  investors  and other users all of the
information they need to evaluate and understand the nature and financial effect
of the  business  combination.  SFAS No.  141(R) is  effective  for fiscal years
beginning after December 15, 2008. We are currently assessing the impact of SFAS
No. 141(R) on our results of operations and financial condition.

In December  2007,  the FASB issued SFAS No. 160,  "Noncontrolling  Interests in
Consolidated Financial Statements - an amendment of ARB No.51". The objective of
SFAS No. 160 is to improve the relevance, comparability, and transparency of the
financial  information  that a reporting  entity  provides  in its  consolidated
financial  statements by  establishing  accounting  and  reporting  standards by
requiring  all  entities  to  report  noncontrolling   (minority)  interests  in
subsidiaries  in the  same  way - as an  entity  in the  consolidated  financial
statements.  Moreover,  SFAS No. 160  eliminates  the diversity  that  currently
exists in  accounting  for  transactions  between an entity  and  noncontrolling
interests by requiring they be treated as equity  transactions.  SFAS No. 160 is
effective for fiscal years  beginning  after December 15, 2008. We are currently
assessing the impact of SFAS No. 160 on our results of operations  and financial
condition.


                                      F-14
<PAGE>


RECLASSIFICATIONS

Certain prior year amounts have been reclassified to conform to the current year
presentation.  Equity method investment of $1.4 million has been reclassified to
goodwill in fiscal 2006 to conform to the fiscal 2007 presentation.

2.       ACCOUNTS RECEIVABLE

Accounts receivable consists of the following:

                                                           DECEMBER 31,
                                                  -----------------------------
                                                      2006             2007
                                                  ------------     ------------

U.S. trade accounts receivable ...............    $  2,975,840     $  4,277,218
Foreign trade accounts receivable ............      16,986,357        6,809,971
Factored accounts receivable .................      29,697,935       25,294,525
Other receivables ............................         496,253          217,681
Allowance for returns, discounts and bad debts      (2,076,858)      (1,977,276)
                                                  ------------     ------------
                                                  $ 48,079,527     $ 34,622,119
                                                  ============     ============

At December 31, 2007, substantially all trade receivables, irrespective of their
debt  ratings,  were  factored  under  our  credit  facility  with GMAC and GMAC
advances up to 90% of the invoice value to us immediately upon the submission of
invoices. See Note 9 of "Notes to Consolidated Financial Statements."

3.       INVENTORY

Inventory consists of the following:

                                                           DECEMBER 31,
                                                  -----------------------------
                                                      2006             2007
                                                  ------------     ------------

Raw materials - fabric and trim accessories ..    $  3,271,610     $    558,996
Work-in-process ..............................            --             5,040
Finished goods shipments-in-transit ..........       7,331,422        7,023,981
Finished goods ...............................       7,171,071        5,552,581
                                                  ------------     ------------
                                                  $ 17,774,103     $ 13,140,598
                                                  ============     ============


                                      F-15
<PAGE>


4.       PROPERTY AND EQUIPMENT

Property and equipment consists of the following:

                                                           DECEMBER 31,
                                                  -----------------------------
                                                      2006             2007
                                                  ------------     ------------

Land .........................................    $     85,000     $     85,000
Buildings ....................................         819,372          819,372
Equipment ....................................       4,621,339        3,820,098
Furniture and fixtures .......................       2,197,648        1,801,508
Leasehold improvements .......................       2,727,243        2,932,366
Vehicles .....................................         333,311          384,661
                                                  ------------     ------------
                                                    10,783,913        9,843,005

Less accumulated depreciation and amortization      (9,369,559)      (8,311,683)
                                                  ------------     ------------

                                                  $  1,414,354     $  1,531,322
                                                  ============     ============

Depreciation  expense,  including  amortization of assets recorded under capital
leases, totaled $727,000, $455,000 and $415,000 for the years ended December 31,
2005, 2006 and 2007, respectively.

5.       NOTES RECEIVABLE - RELATED PARTY RESERVE

In  connection  with the sale in 2004 of our assets and real property in Mexico,
the purchasers of the Mexico assets,  Solticio,  S.A. de C.V. ("Solticio"),  and
Acabados  y Cortes  Textiles,  S.A.  de C.V.  ("Acotex"),  issued  us  unsecured
promissory  notes of  $3,910,000  that  matured on November 30, 2007 and secured
promissory notes of $40,204,000 with payments due on December 31, 2005 and every
year  thereafter  until December 31, 2014. The secured notes were secured by the
real and  personal  property  in Mexico  that we sold to the  purchasers.  As of
September  30,  2006,  the  outstanding   balance  of  the  notes  and  interest
receivables was $41.1 million prior to the reserve.  Historically, we had placed
orders for  purchases  of fabric from the  purchasers  pursuant to the  purchase
commitment  agreement  we  entered  into at the time of the  sale of the  Mexico
assets,  and  we had  satisfied  our  payment  obligations  for  the  fabric  by
offsetting  the amounts  payable  against the amounts due to us under the notes.
However,  during the third  quarter of 2006,  the  purchasers  ceased  providing
fabric and were not making  payments under the notes.  We further  evaluated the
recoverability  of  the  notes  receivable  and  recorded  a loss  on the  notes
receivable  in the third  quarter of 2006 in an amount equal to the  outstanding
balance less the value of the underlying assets securing the notes. The loss was
estimated to be approximately $27.1 million, resulting in a net notes receivable
balance at September 30, 2006 of approximately $14 million. We believe there was
no  significant  change  subsequently  on the  value  of the  underlying  assets
securing the notes;  therefore,  we did not have  additional  reserve  after the
third quarter of 2006.

On March 21, 2007, our wholly-owned  subsidiary,  Tarrant  Luxembourg  S.a.r.l.,
entered into a letter  agreement with Solticio,  Inmobiliaria  Cuadros,  S.A. de
C.V.  ("Inmobiliaria"),  and Acotex,  (Acotex and  together  with  Solticio  and
Inmobiliaria,  the "Sellers"),  and Tavex Algodonera,  S.A. ("Tavex"), which was
subsequently amended. Pursuant to the agreement, as amended, Tavex had the right
and option  (but not an  obligation),  at any time on or prior to  September  1,
2007, to pay to Tarrant  Luxembourg an aggregate of U.S. $17.75 million in cash,
whereupon,  among other things,  Tarrant Luxembourg would terminate the Solticio
and Acotex  promissory  notes  described  above and release the Sellers from any
further  obligations  thereunder,  and  terminate  and  release all liens on the
collateral securing those notes.

On August 21, 2007, we received a payment of $17.75  million from Tavex upon the
exercise  by Tavex of its  option in  accordance  with the  agreement  among the
parties.  In return for the Tavex's payment of $17.75 million, we have taken the
following actions in accordance with the terms of the agreement:

         o        Tarrant   Luxembourg   terminated   the  Solticio  and  Acotex
                  promissory notes described above and released the Sellers from
                  any  further  obligations   thereunder,   and  terminated  and
                  released all liens on the collateral securing those notes;


                                      F-16
<PAGE>


         o        Tarrant  Luxembourg  and  the  Sellers  terminated  all  other
                  executory   obligations  among  the  parties,   including  any
                  obligation  of ours to  purchase  fabric  from  Soliticio  and
                  Acotex; and

         o        Tarrant Luxembourg agreed to purchase from Tavex at least U.S.
                  $1.25 million of fabric prior to the end of 2007,  and Tarrant
                  Luxembourg  agreed to deliver an irrevocable  letter of credit
                  for the full purchase price.

Upon closing of the transaction and receiving the payment of $17.75 million,  we
recorded a gain of $3.75 million on our consolidated statements of operations as
other income in the third  quarter of 2007.  We placed a fabric order with Tavex
on August 21, 2007 for $1.25 million pursuant to the agreement.  At December 31,
2007, the  irrevocable  letter of credit expired and we did not have any further
commitment to purchase fabric from Tavex.

6.       EQUITY METHOD INVESTMENT - AMERICAN RAG

In 2003,  we  acquired  a 45%  equity  interest  in the  owner of the  trademark
"American  Rag Cie" and the  operator  of  American  Rag retail  stores for $1.4
million, and our subsidiary, Private Brands, Inc., acquired a license to certain
exclusive  rights to this  trademark.  We have  guaranteed  the  payment  to the
licensor of minimum  royalties of $10.4 million over the initial 10-year term of
the agreement.  The guaranteed  annual minimum  royalty is payable in advance in
monthly  installments during the term of the agreement.  The royalty owed to the
licensor in excess of the guaranteed  minimum,  if any, is payable no later than
30 days after the end of the  preceding  full  quarter  with the amount for last
quarter  adjusted  based on actual  royalties owed for the year. If a portion of
the  guaranteed  minimum  royalty  is  determined  not  to be  recoverable,  the
unrecoverable  portion is charged to expense at that time. The guaranteed annual
minimum royalty for 2007 is $760,000. At December 31, 2007, the total commitment
on royalties remaining on the term was $7.6 million. Private Brands also entered
into a multi-year  exclusive  distribution  agreement with Macy's  Merchandising
Group,  LLC, the sourcing arm of Federated  Department  Stores, to supply Macy's
Merchandising  Group with American Rag Cie, a casual  sportswear  collection for
juniors  and young men.  Under this  arrangement,  Private  Brands  designs  and
manufactures American Rag apparel,  which is distributed by Macy's Merchandising
Group  exclusively to Federated  stores across the country.  Beginning in August
2003, the American Rag  collection was available in select Macy's  locations and
is currently  available  in  approximately  600 Macy's  stores  nationally.  The
investment  in American Rag Cie, LLC totaling  $789,000 and $945,000 at December
31, 2006 and 2007,  respectively,  is accounted  for under the equity method and
included in equity method  investment on the accompanying  consolidated  balance
sheets.  In 2007, we  re-classed  $1,362,160  from equity  method  investment to
goodwill to rectify the goodwill  portion arrived from the excess of the initial
investment over our 45% share of the net assets of American Rag. Income from the
equity method investment is recorded in the United States geographical  segment.
The change in investment in American Rag for 2006 and 2007 is as follows:

          Balance as of December 31, 2005 ....     $   2,138,865
          Reclassification to goodwill .......        (1,362,160)
          Share of income.....................            79,696
          Distribution .......................           (67,500)
                                                   -------------
          Balance as of December 31, 2006 ....     $     788,901
          Share of income.....................           156,441
                                                   -------------
          Balance as of December 31, 2007.....     $     945,342
                                                   =============


We hold a 45% member  interest in  American  Rag Cie,  LLC.  The  remaining  55%
belongs to an  unrelated  third party  entity who  contributed  the American Rag
trademark  and other  assets  and  liabilities  relating  to two  retail  stores
operating  under  the name of  "American  Rag".  Royalty  incomes  paid by us to
American Rag is  classified  as its other income and is ancillary to its primary
operations.  Reported revenues from the retail business in fiscal 2005, 2006 and
2007 were approximately $10 million, $10 million and $11 million,  respectively.
Royalty income paid to American Rag in 2005,  2006 and 2007 were $575,000,  $1.1
million and $1.7 million, respectively.

We have determined that we are not the primary  beneficiary of American Rag Cie,
LLC under FIN 46. There is no guaranteed return on our investment.  American Rag
Cie, LLC has sufficient  equity to finance its activities  without any financial
support from us. We are not involved in its day to day management  decisions and
it is  effectively  controlled  by its Chief  Executive  Officer who is also the
majority  shareholder of the 55% owners.  In June 2006, we signed a guarantee of


                                      F-17
<PAGE>


certain  liabilities  of American Rag Cie, LLC to California  United Bank to the
aggregate  amount  equal at all times to the lesser of (A) 45% of the  aggregate
amount of the  outstanding  liabilities  or (B)  $675,000,  which  guarantee was
re-affirmed in September 2007. Upon execution of the guarantee,  we re-evaluated
our investment  under the provisions of FIN 46 and concluded that  consolidation
under FIN 46 is still not appropriate.  Our variable  interest will not absorb a
majority of the VIE's  expected  losses.  We record our  proportionate  share of
income and losses but are not obligated nor do we intend to absorb losses beyond
our 45%  investment  interest.  Additionally,  we do not expect to  receive  the
entity's expected residual returns, other than their 45% ownership interest.

We are currently  involved in litigation with American Rag Cie, LLC and American
Rag Cie II with respect to our license rights to the American Rag Cie trademark.
See Note 21 of these "Notes to Consolidated Financial Statements".

7.       OTHER ASSETS AND WRITE OFF OF ACQUISITION EXPENSES

THE BUFFALO GROUP

On December  6, 2006,  we entered  into a  definitive  stock and asset  purchase
agreement  (the  "Purchase  Agreement")  to acquire  certain assets and entities
comprising  The Buffalo  Group.  The Buffalo  Group  designs,  imports and sells
contemporary branded apparel and accessories, primarily in Canada and the United
States.

Pursuant to the Purchase  Agreement,  we and our subsidiaries  agreed to acquire
(1) all the outstanding capital stock of four principal  operating  subsidiaries
of The Buffalo Group - Buffalo Inc.,  3163946  Canada Inc.,  3681441 Canada Inc.
and  Buffalo  Corporation,  and (2)  certain  assets,  consisting  primarily  of
intellectual  property rights and licenses,  from The Buffalo Trust, for a total
aggregate purchase price of up to approximately $120 million.  At signing of the
Purchase  Agreement,  we  delivered  $5.0  million  to the  sellers as a deposit
against the purchase price payable under the agreement.

On April 19, 2007, we entered into a Mutual  Termination  and Release  Agreement
with The  Buffalo  Group,  pursuant  to which we and the  other  parties  to the
Purchase  Agreement  mutually  agreed to terminate the Purchase  Agreement.  The
parties  determined  that it was in the mutual  best  interest  of each party to
terminate the proposed agreement.  Under the terms of the Mutual Termination and
Release  Agreement,  Buffalo agreed to return to us $4,750,000 of the $5,000,000
deposit previously  provided by us to The Buffalo Group pursuant to the Purchase
Agreement,  and the parties  have  released  each other from any claims  arising
under or  related  to the  Purchase  Agreement.  The $5.0  million  deposit  was
previously recorded in other assets in consolidated  balance sheets. We received
$4,750,000 in April 2007.  The remaining  portion of the deposit of $250,000 and
other due diligence  fees incurred in the  acquisition  process were recorded as
terminated acquisition expenses in the consolidated  statements of operations in
the first quarter of 2007.

8.       IMPAIRMENT OF ASSETS

IMPAIRMENT OF GOODWILL

Goodwill on the accompanying  consolidated balance sheets represents the "excess
of  costs  over  fair  value  of  net  assets  acquired  in  previous   business
combination".  SFAS No. 142,  "Goodwill and Other Intangible  Assets,"  requires
that goodwill and other  intangibles be tested for  impairment  using a two-step
process.  The first step is to determine the fair value of the  reporting  unit,
which may be calculated  using a discounted cash flow  methodology,  and compare
this value to its carrying  value. If the fair value exceeds the carrying value,
no further  work is required and no  impairment  loss would be  recognized.  The
second step is an allocation  of the fair value of the reporting  unit to all of
the reporting unit's assets and liabilities under a hypothetical  purchase price
allocation.

The following table displays the change in the gross carrying amount of goodwill
by reporting units for the years ended December 31, 2006 and 2007. The reporting
units below are one level  below the  reportable  segments  included in Note 18,
"Operations  by Geographic  Areas".  The  reporting  units FR TCL - Chazzz & MGI
Division and Private  Brands - American Rag Division  were  included  within the
United States geographical  segment of Note 18 of the "Notes to the Consolidated
Financial Statements."


                                      F-18
<PAGE>


                                                 REPORTING UNITS
                                                 ---------------
                                            FR TCL -          PRIVATE BRANDS -
                                    CHAZZZ & MGI DIVISION  AMERICAN RAG DIVISION
                                    ---------------------  ---------------------
Balance as of January 1, 2006 ....        $8,582,845            $1,362,160
Activities for the year ..........                 0                     0
                                          ----------            ----------
Balance as of December 31, 2006 ..        $8,582,845            $1,362,160
Activities for the year ..........                 0                     0
                                          ----------            ----------
Balance as of December 31, 2007 ..        $8,582,845            $1,362,160
                                          ==========            ==========


9.       DEBT

Debt consists of the following:

<TABLE>
<CAPTION>
                                                                       DECEMBER 31,
                                                              -----------------------------
                                                                  2006             2007
                                                              ------------     ------------
<S>                                                           <C>              <C>
Short-term bank borrowings:
  Import trade bills payable - DBS Bank and Aurora Capital    $  5,844,887     $  4,600,293
  Bank direct acceptances - DBS Bank .....................       3,368,054        1,222,998
  Other Hong Kong credit facilities - DBS Bank ...........       4,483,241        3,921,927
                                                              ------------     ------------
                                                              $ 13,696,182     $  9,745,218
                                                              ============     ============
Long-term obligations:
  Equipment financing ....................................    $     38,148     $      5,338
  Credit facility - Guggenheim, net ......................      11,212,724             --
  Debt facility and factoring agreement - GMAC CF ........      19,553,755        2,997,793
                                                              ------------     ------------
                                                                30,804,627        3,003,131
  Less current portion ...................................     (19,586,565)      (3,003,131)
                                                              ------------     ------------
                                                              $ 11,218,062     $       --
                                                              ============     ============
</TABLE>


IMPORT TRADE BILLS PAYABLE,  BANK DIRECT  ACCEPTANCES AND OTHER HONG KONG CREDIT
FACILITIES

In June 2006, our  subsidiaries in Hong Kong,  Tarrant Company  Limited,  Marble
Limited and Trade Link Holdings Limited, entered into a new credit facility with
DBS Bank (Hong Kong) Limited ("DBS"),  which replaced our prior letter of credit
facility for up to HKD 30 million  (equivalent to US $3.9  million).  Under this
facility,  we may  arrange for  letters of credit and  acceptances.  The maximum
amount our Hong Kong  subsidiaries may borrow under this facility at any time is
US $25 million.  The interest rate under the letter of credit  facility is equal
to the  Standard  Bills  Rate  quoted  by DBS  minus  0.5% if paid in Hong  Kong
Dollars, which the interest rate was 7.5% per annum at December 31, 2007, or the
Standard Bills Rate quoted by DBS plus 0.5% if paid in any other currency, which
the interest  rate was 8.12% per annum at December  31,  2007.  This is a demand
facility  and is secured by a  security  interest  in all the assets of the Hong
Kong subsidiaries, by a pledge of our office property where our Hong Kong office
is located, which is owned by Gerard Guez and Todd Kay and by our guarantee. The
DBS facility includes customary default provisions.  In addition, we are subject
to  certain  restrictive  covenants,  including  that we  maintain  a  specified
tangible net worth, and a minimum level of EBITDA at December 31, 2006 and 2007,
interest   coverage   ratio,   leverage  ratio  and  limitations  on  additional
indebtedness.  As of December 31, 2007, we were in violation with the EBITDA and
tangible net worth  covenants and a waiver was obtained on March 18, 2008. As of
December  31,  2007,  $8.6  million  was  outstanding  under this  facility.  In
addition,  $11.3  million of open  letters of credit  was  outstanding  and $5.1
million was available for future borrowings as of December 31, 2007.

As of December 31, 2007, the total balance outstanding under the DBS Bank credit
facilities was $8.6 million (classified above as follows: $3.5 million in import
trade bills payable, $1.2 million in bank direct acceptances and $3.9 million in
other Hong Kong credit facilities).


                                      F-19
<PAGE>


In  September  2006,  a tax loan for HKD 8.438  million  (equivalent  to US $1.1
million) was also made available by DBS to our Hong Kong  subsidiaries  and bore
interest at the rate equal to the Hong Kong prime rate plus 1% and were  subject
to the same security. The interest rate was 8.75% per annum at October 31, 2007.
We paid off this tax loan in October  2007.  As of  December  31,  2007,  $0 was
outstanding under this tax loan.

From time to time, we open letters of credit under an uncommitted line of credit
from Aurora  Capital  Associates  which issues  these  letters of credits out of
Israeli  Discount  Bank. As of December 31, 2007,  $1.2 million was  outstanding
under this  facility  (classified  above under import  trade bills  payable) and
$903,000  of  letters  of  credit  was open  under  this  arrangement.  We pay a
commission fee of 2.25% on all letters of credits issued under this arrangement.

EQUIPMENT FINANCING

We had three  equipment  loans  outstanding  during 2007. One of these equipment
loans bore interest at 15.8% payable in installments through 2007, which we paid
off in  December  2007.  The  second  loan bore  interest  at 6.15%  payable  in
installment  through 2007,  which we paid off in December  2007.  The third loan
bears interest at 4.75% payable in installment  through 2008. As of December 31,
2007, $5,000 was outstanding under the remaining loan.

DEBT FACILITY AND FACTORING AGREEMENT - GMAC CF

On June 16, 2006, we expanded our previously  existing credit facility with GMAC
Commercial  Finance  Credit,  LLC ("GMAC  CF") by  entering  into a new Loan and
Security Agreement and amending and restating our previously  existing Factoring
Agreement with GMAC CF. UPS Capital  Corporation is also a lender under the Loan
and Security Agreement.  This is a revolving credit facility and has a term of 3
years.  The amount we may borrow under this credit  facility is  determined by a
percentage of eligible accounts receivable and inventory, up to a maximum of $55
million, and includes a letter of credit facility of up to $4 million.  Interest
on outstanding amounts under this credit facility is payable monthly and accrues
at the rate of the "prime  rate" plus 0.5%.  Our  obligations  under the GMAC CF
credit facility are secured by a lien on substantially  all our domestic assets,
including a first priority lien on our accounts  receivable and inventory.  This
credit facility contains customary financial covenants, including covenants that
we  maintain  minimum  levels  of  EBITDA  and  interest   coverage  ratios  and
limitations on additional indebtedness. This facility includes customary default
provisions,  and all  outstanding  obligations  may become  immediately  due and
payable in the event of a default. The facility bore interest at 7.75% per annum
at December 31, 2007.  As of December  31, 2007,  we were in violation  with the
EBITDA  covenant  and a waiver was  obtained on March 25,  2008. A total of $3.0
million was outstanding  with respect to receivables  factored under the GMAC CF
facility at December 31, 2007.

CREDIT FACILITY FROM GUGGENHEIM CORPORATE FUNDING LLC AND WARRANTS

On June 16, 2006, we entered into a Credit  Agreement  with certain  lenders and
Guggenheim  Corporate Funding LLC  ("Guggenheim"),  as administrative  agent and
collateral agent for the lenders.  This credit facility  provided for borrowings
of up to $65 million.  This facility  consisted of an initial term loan of up to
$25 million,  of which we borrowed $15.5 million at the initial  funding,  to be
used to repay  certain  existing  indebtedness  and fund general  operating  and
working  capital  needs.  An additional  term loan of up to $40 million would be
available under this facility to finance acquisitions  acceptable to Guggenheim.
All  amounts  under the term loans  became due and  payable  in  December  2010.
Interest under this facility was payable  monthly,  with the interest rate equal
to the LIBOR rate plus an applicable margin based on our debt leverage ratio (as
defined in the credit  agreement).  Our obligations  under the Guggenheim credit
facility  were  secured  by a lien on  substantially  all of our  assets and our
domestic  subsidiaries,  including  a  pledge  of the  equity  interests  of our
domestic subsidiaries and 65% of our Luxembourg subsidiary.

In connection with Guggenheim  credit facility,  on June 16, 2006, we issued the
lenders under this facility warrants to purchase up to an aggregate of 3,857,143
shares of our  common  stock.  These  warrants  have a term of 10  years.  These
warrants  are  exercisable  at a price of $1.88 per share with respect to 20% of
the shares,  $2.00 per share with respect to 20% of the shares,  $3.00 per share
with  respect to 20% of the shares,  $3.75 per share with  respect to 20% of the
shares  and $4.50 per share  with  respect to 20% of the  shares.  The  exercise
prices are subject to adjustment for certain dilutive  issuances pursuant to the
terms of the warrants.  These warrants are exercisable for 3,500,000 shares, and


                                      F-20
<PAGE>


the remaining 357,143 shares of the warrants will not become exercisable because
a specified portion of the initial term loan was not funded by the lenders.  The
warrants  were  evaluated  under SFAS No.  133 and  Emerging  Issues  Task Force
("EITF") No. 00-19, "Accounting for Derivative Financial Instruments Indexed to,
and  Potentially  Settled  in, a  Company's  Own Stock" and  determined  to be a
derivative  instrument due to certain registration rights. As such, the warrants
excluding  the ones not  exercisable  were  valued  at $4.9  million  using  the
Black-Scholes model with the following  assumptions:  risk-free interest rate of
5.1%;  dividend yields of 0%; volatility factors of the expected market price of
our common stock of 0.70;  and  contractual  term of ten years.  We also paid to
Guggenheim  2.25% of the  committed  principal  amount  of the  loans  which was
$563,000 on June 16, 2006.  The $563,000 fee paid to Guggenheim  was included in
the  deferred  financing  cost,  and the value of the  warrants to purchase  3.5
million  shares  of our  common  stock  of $4.9  million  was  recorded  as debt
discount,  both of them were  amortized over the life of the loan. For the years
ended  December  31,  2006  and  2007,  $654,000  and  $906,000  was  amortized,
respectively.

Durham Capital  Corporation  ("Durham")  acted as our advisor in connection with
the Guggenheim credit facility.  As compensation for its services,  we agreed to
pay Durham a cash fee in an amount equal to 1% of the committed principal amount
of the loans under the Guggenheim  credit  facility.  As a result,  $250,000 was
paid on June 16,  2006.  In  addition,  we issued  Durham a warrant to  purchase
77,143  shares of our common  stock.  This warrant has a term of 10 years and is
exercisable  at a price of $1.88 per share,  subject to  adjustment  for certain
dilutive  issuances.  This warrant is  exercisable  for 70,000  shares,  and the
remaining  7,143 shares of this warrant  will not become  exercisable  because a
specified  portion of the initial term loan was not funded by the  lenders.  The
warrants were evaluated  under SFAS No. 133 and EITF No. 00-19 and determined to
be a derivative  instrument  due to certain  registration  rights.  As such, the
warrants  excluding the ones not  exercisable  were valued at $105,000 using the
Black-Scholes model with the following  assumptions:  risk-free interest rate of
5.1%;  dividend yields of 0%; volatility factors of the expected market price of
our common stock of 0.70; and  contractual  term of ten years.  The $250,000 fee
paid to Durham and the value of the  warrants to purchase  70,000  shares of our
common stock of $105,000 was included in the deferred  financing  cost,  and was
amortized  over the life of the loan.  For the years ended December 31, 2006 and
2007, $43,000 and $59,000 was amortized, respectively.

As of June 30,  2006,  the  warrants  were being  accounted  for as a  liability
pursuant to the provisions of SFAS No. 133 and EITF No. 00-19.  This was because
we granted the warrant holders certain registration rights that were outside our
control. In accordance with SFAS No. 133, the warrants were being valued at each
reporting  period.  Changes in fair value were  recorded as  adjustment  to fair
value of derivative in the statements of operations.  The  outstanding  warrants
were fair valued on June 16, 2006, the date of the transaction,  at $5.0 million
and we, in  accordance  with SFAS No. 133,  revaluated  the warrants on June 30,
2006 at the closing stock price on June 30, 2006 to $5.2  million;  as a result,
an expense of $218,000 was recorded as an adjustment to fair value of derivative
on  our  consolidated  statements  of  operations.   On  August  11,  2006,  the
registration  rights  agreement  relating to the warrants was amended to provide
that if we were  unable  to file or have  the  registration  statement  declared
effective  by the  required  deadlines,  we would be required to pay the warrant
holders  cash  payments  as partial  liquidated  damages  each  month  until the
registration  statement  was filed and/or  declared  effective.  The  liquidated
damages payable by us to the warrant holders were limited to 20% of the purchase
price  of the  shares  underlying  the  warrants,  which we  determined  to be a
reasonable  discount for restricted stock as compared to registered  stock. As a
result of amending the  registration  rights  relating to the warrants on August
11, 2006, the warrants were  reclassified from debt to equity in accordance with
EITF No.  00-19 in the third  quarter of 2006.  The  outstanding  warrants  were
revaluated  on August 11, 2006 at the closing  stock price on August 11, 2006 to
$4.5 million;  as a result,  income of $729,000 was recorded as an adjustment to
fair value of derivative on our consolidated statements of operations.  As such,
a net gain of $511,000 was  recognized  in our  statements  of  operations as an
adjustment to fair value of derivative in 2006.

On  September  26,  2007,  we  repaid  in full  the term  loan of $15.5  million
outstanding under the Guggenheim credit facility.  Upon paying off the loan, the
unamortized loan fee paid to Guggenheim of $401,000 and the unamortized value of
the warrants to purchase 3.5 million  shares of our common stock of $3.5 million
was  expensed.  The  unamortized  loan fee paid to  Durham of  $178,000  and the
unamortized  value of the warrants to purchase 70,000 shares of our common stock
of $75,000 was also expensed.  Other unamortized expenses of $822,000 related to
obtaining the loan were also expensed.  All the above expenses  amounted to $5.0
million were  recorded on our  consolidated  statements  of  operations as other
expense in the third  quarter of 2007. On November 2, 2007, we executed a payoff
letter  with  Guggenheim  and the  lenders,  which  released  all liens  held by
Guggenheim and the lenders.


                                      F-21
<PAGE>


The credit  facility  with GMAC CF prohibits us from paying  dividends or making
other  distributions  on our common  stock.  In addition,  GMAC CF prohibits our
subsidiaries  that are  borrowers  under the facility  from paying  dividends or
other  distributions  to us, and the credit facility with DBS prohibits our Hong
Kong  subsidiaries  from paying any dividends or making other  distributions  or
advances to us.

GUARANTEES

In June 2006, we signed a guarantee of certain  liabilities  of American Rag Cie
to  California  United Bank to the  aggregate  amount  equal at all times to the
lesser of (A) 45% of the aggregate amount of the outstanding  liabilities or (B)
$675,000, which guarantee was re-affirmed in September 2007.

10.      CONVERTIBLE DEBENTURES AND WARRANTS

On December 14, 2004, we completed a $10 million  financing through the issuance
of (i) 6% Secured  Convertible  Debentures  ("Debentures")  and (ii) warrants to
purchase up to 1,250,000  shares of our common  stock.  Prior to  maturity,  the
investors  could  convert the  Debentures  into shares of our common  stock at a
price of $2.00 per share. The warrants have a term of five years and an exercise
price of $2.50  per  share.  The  warrants  were  valued at  $866,000  using the
Black-Scholes model with the following  assumptions:  risk-free interest rate of
4%;  dividend yields of 0%;  volatility  factors of the expected market price of
our common stock of 0.55;  and an expected  life of four years.  The  Debentures
bore interest at a rate of 6% per annum and had a term of three years.  We could
elect to pay interest on the Debentures in shares of our common stock if certain
conditions were met, including a minimum market price and trading volume for our
common stock. The Debentures contained customary events of default and permitted
the holder  thereof to  accelerate  the  maturity if the full  principal  amount
together  with  interest and other  amounts  owing upon the  occurrence  of such
events of default. The Debentures were secured by a subordinated lien on certain
of our accounts  receivable and related assets.  The closing market price of our
common stock on the closing date of the financing was $1.96. The Debentures were
thus valued at $8,996,000,  resulting in an effective conversion price of $1.799
per share.  The intrinsic  value of the conversion  option of $804,000 was being
amortized over the life of the loan.

The placement agent in the financing,  received compensation for its services in
the amount of $620,000 in cash and issuance of five year warrants to purchase up
to 200,000  shares of our common stock at an exercise  price of $2.50 per share.
The  warrants  to  purchase  200,000  shares of our common  stock were valued at
$138,000 using the Black-Scholes model with the following assumptions: risk-free
interest rate of 4%; dividend yields of 0%;  volatility  factors of the expected
market  price of our common stock of 0.55;  and an expected  life of four years.
The financing cost paid to the placement agent of $620,000, and the value of the
warrants  to  purchase  200,000  shares of our  common  stock of  $138,000  were
included in the deferred financing cost, net on our accompanying  balance sheets
and was amortized over the life of the loan.

In June 2005,  holders of our Debentures  converted an aggregate of $2.3 million
of Debentures into 1,133,687 shares of our common stock. In August 2005, holders
of our Debentures  converted an aggregate of $820,000 of Debentures into 410,000
shares of our common stock.  The Debentures  were converted at the option of the
holders at a price of $2.00 per share.  Debt discount of $248,000 related to the
intrinsic  value of the  conversion  option of $804,000  was  expensed  upon the
conversion. Of the $620,000 financing cost paid to the placement agent, $191,000
was expensed upon the conversion.  The intrinsic value of the conversion option,
and the value of the warrant  amortized  in 2006 was  $237,000.  Total  deferred
financing cost amortized in 2006 was $95,000. Total interest paid to the holders
of the  Debentures  in 2006  was  $198,000.  On June 26,  2006,  we paid off the
remaining balance of the outstanding Debentures of $6.9 million plus all accrued
and unpaid  interest  and a prepayment  penalty of $171,000.  As a result of the
repayment,  the Debentures were terminated  effective June 26, 2006. Upon paying
off the Debentures,  debt discount of $278,000 related to the intrinsic value of
the conversion  option of $804,000 was expensed,  and of the $620,000  financing
cost paid to the placement agent, $214,000 was expensed.  The remaining value of
the  warrants  to holders of our  Debentures  of  $433,000  and  warrants to the
placement agent of $69,000 was also expensed.

11.      DERIVATIVES AND OTHER FINANCIAL INSTRUMENTS

We use forward currency  contracts to manage volatility  associated with foreign
currency  purchases of materials  in the normal  course of business.  During the
year ended December 31, 2006, we entered into foreign currency forward contracts


                                      F-22
<PAGE>


to hedge  against  the  effect  of  exchange  rate  fluctuations  on cash  flows
denominated   in  foreign   currencies  and  certain   inter-company   financing
transactions. This transaction is undesignated and as such an ineffective hedge.
At December  31,  2006,  we had one open foreign  exchange  forward  which has a
maturity  of less than one year.  Hedge  ineffectiveness  resulted  in a loss of
$196,000 in our  consolidated  statements of operations as of December 31, 2006.
At December 31, 2007, we had no open foreign exchange forward  contracts.  Hedge
ineffectiveness resulted in a gain of $196,000 in our consolidated statements of
operations as of December 31, 2007.

12.      INCOME TAXES

The provision (credit) for domestic and foreign income taxes is as follows:

                                           YEAR ENDED DECEMBER 31,
                               ------------------------------------------------
                                   2005              2006              2007
                               ------------      ------------      ------------
Current:
  Federal ................     $       --        $      6,968      $ (1,666,729)
  State ..................            2,425             6,400            42,150
  Foreign ................        1,091,442           202,677           621,780
                               ------------      ------------      ------------
                                  1,093,867           216,045        (1,002,799)
Deferred:
  Federal ................             --                --                --
  State ..................             --                --                --
  Foreign ................         (166,686)          237,045           (38,211)
                               ------------      ------------      ------------
                                   (166,686)          237,045           (38,211)
                               ------------      ------------      ------------

    Total ................     $    927,181      $    453,090      $ (1,041,010)
                               ============      ============      ============


The source of income (loss) before the provision (credit) for taxes and minority
interest is as follows:

                                           YEAR ENDED DECEMBER 31,
                            ----------------------------------------------------
                                2005                2006                2007
                            ------------        ------------        ------------

Federal .............       $ (4,406,638)       $  1,415,652        $    320,755
Foreign .............          6,402,404         (23,204,213)            391,925
                            ------------        ------------        ------------

         Total ......       $  1,995,766        $(21,788,561)       $    712,680
                            ============        ============        ============


Our effective tax rate differs from the statutory  rate  principally  due to the
following reasons:  (1) a substantial  valuation allowance has been provided for
deferred tax assets as a result of the operating losses in the United States and
Mexico,  since  recoverability  of those  assets has not been  assessed  as more
likely than not; and (2) the earnings of our Hong Kong subsidiary are taxed at a
rate of 17.5% versus the 35% U.S. federal rate. The impairment  charge in Mexico
did not result in a tax benefit due to an  increase in the  valuation  allowance
against the future tax  benefit.  We believe it is more likely than not that the
tax benefit will not be realized based on our future business plans in Mexico.


                                      F-23
<PAGE>


A reconciliation of the statutory federal income tax provision  (benefit) to the
reported tax provision (credit) on income (loss) is as follows:

<TABLE>
<CAPTION>
                                                         YEAR ENDED DECEMBER 31,
                                              -------------------------------------------
                                                  2005            2006            2007
                                              -----------     -----------     -----------
<S>                                           <C>             <C>             <C>
Income tax (benefit) based on federal
   statutory rate ........................    $   672,184     $(7,618,680)    $   247,274
State income taxes, net of federal benefit       (246,978)        190,152         100,560
Effect of foreign income taxes ...........     (1,316,085)      8,561,197         446,395
FIN48 adjustments ........................           --              --        (1,676,729)
Increase in valuation allowance
   and other .............................      1,818,060        (679,579)       (158,510)
                                              -----------     -----------     -----------
Reported tax provision (credit) ..........    $   927,181     $   453,090     $(1,041,010)
                                              ===========     ===========     ===========
</TABLE>


Deferred income taxes reflect the net effects of temporary  differences  between
the carrying amounts of assets and liabilities for financial  reporting purposes
and the amounts  used for income tax  purposes.  Significant  components  of the
deferred tax assets (liabilities) are as follows:

                                                           DECEMBER 31,
                                                  -----------------------------
                                                      2006             2007
                                                  ------------     ------------

Deferred tax assets:
   Provision for doubtful accounts and
      unissued credits .......................    $    501,546     $    452,822
   Provision for other reserves ..............       1,808,092        2,242,256
   Domestic and foreign loss carry forwards
      and foreign tax credits ................      13,867,841       11,984,024
   Goodwill ..................................       4,240,274        3,671,620
                                                  ------------     ------------
      Total deferred tax assets ..............      20,417,753       18,350,722

Deferred tax liabilities:
   Other .....................................            --               --
                                                  ------------     ------------
Valuation allowance for deferred tax assets ..     (20,294,146)     (18,188,904)
                                                  ------------     ------------

Net deferred tax assets (liabilities) ........    $    123,607     $    161,818
                                                  ============     ============


At December 31, 2007, we had $31.8  million of federal net operating  loss carry
forwards  that will expire  beginning  in 2023.  We also had foreign tax credits
carry forwards totaling $815,000 that will expire beginning in 2010.

In January 2004,  the IRS completed its  examination  of our Federal  income tax
returns for the years ended December 31, 1996 through 2001. The IRS had proposed
adjustments   to  increase   our  income  tax  payable  for  these  years  under
examination.  In addition, in July 2004, the IRS initiated an examination of our
Federal  income tax return for the year ended  December  31,  2002.  In December
2007, we received a final  assessment from the IRS of $7.4 million for the years
ended  December  31,  1996  through  2002,  and in the first  quarter of 2008 we
entered into a final  settlement  agreement with the IRS. Under the  settlement,
which totals $13.9 million, including $6.5 million of interest, we agreed to pay
the IRS $4 million  in March 2008 and an  additional  $250,000  per month  until
repayment in full. The settlement  with the IRS is within amounts accrued for as
of December  31,  2007 in our  financial  statements,  and we  therefore  do not
anticipate the  settlement to result in any  additional  charges to income other
than interest on the outstanding balance. Due to the negotiated  settlement,  we
reclassified  the IRS and state tax  liabilities  from uncertain tax position to
current payable on December 31, 2007.

We adopted the provisions of FIN 48 on January 1, 2007.  The total  unrecognized
tax  benefits  as of  January  1, 2007 were $8.9  million,  excluding  interest,
penalties  and related  income tax benefits and would be recorded as a component
of income tax expense if recognized.  We recognize  interest  accrued related to
unrecognized tax benefits and penalties as a component of income tax expense. As
of January 1, 2007,  the accrued  interest and  penalties  were $8.0 million and
$1.2 million,  respectively,  excluding any related income tax benefits.  During


                                      F-24
<PAGE>


2007, we de-recognized a previous  uncertain tax position  through  negotiations
with the  state  tax  jurisdiction.  The  negotiated  settlement  resulted  in a
decrease  of $1.5  million in  unrecognized  tax  benefits  and $1.0  million in
penalties.  During 2007, we also de-recognized a previous uncertain tax position
through  settlement  with the  IRS.  The  negotiated  settlement  resulted  in a
decrease  of  $7.4  million  in  unrecognized  tax  benefits.  After  the  above
adjustments,  there was no unrecognized  tax benefit as of December 31, 2007. As
of December 31, 2007,  the accrued  interest and penalties were $7.2 million and
$142,000, respectively.

The reconciliation of our unrecognized tax benefits is as follow:

Balance at January 1, 2007 .................................        $ 8,902,660
Decrease related to negotiated settlement with
   the state tax jurisdiction ..............................         (1,520,162)
Decrease related to negotiated settlement with
   the IRS .................................................         (7,382,498)
                                                                    -----------
Balance at December 31, 2007 ...............................        $         0
                                                                    ===========

13. COMMITMENTS AND CONTINGENCIES

We  have  entered  into  various  non-cancelable   operating  lease  agreements,
principally  for executive  office,  warehousing  facilities  and showrooms with
unexpired  terms in excess of one year.  Certain of these  leases  provided  for
scheduled rent increases.  We record rent expense on a straight-line  basis over
the  term  of  the  lease.   The  future  minimum  lease  payments  under  these
non-cancelable operating leases are as follows:

2008..........................................................      $  1,422,000
2009..........................................................         1,301,000
2010..........................................................         1,315,000
2011..........................................................         1,061,000
2012..........................................................           680,000
Thereafter....................................................         1,787,000
                                                                    ------------

      Total future minimum lease payments.....................      $  7,566,000
                                                                    ============

Included in the future  minimum  lease  payments  are,  $40,000  payable to Lynx
International Limited, a Hong Kong corporation that is owned by Messrs. Guez and
Kay for leasing our office  space and  warehouse  in Hong Kong,  and  $2,352,000
payable to GET a corporation which is owned by Messrs.  Gerard Guez and Todd Kay
for leasing the Los Angeles offices and warehouse.  See Note 17 of the "Notes to
Consolidated Financial Statements."

Several of the operating  leases contain  provisions  for additional  rent based
upon increases in the operating costs, as defined, per the agreement. Total rent
expense under the operating leases amounted to approximately $1.3 million,  $1.9
million and $2.0 million for 2005, 2006 and 2007, respectively.

We entered into a new lease  agreement in June 2005 for our showroom in New York
through June 2015.  This is currently the location  used for the private  brands
sales, design and technical departments, which functions were moved from our Los
Angeles executive office.

Our lease agreement in Mexico for our office and storage expired in March 2008.

On  August 1,  2006,  we  entered  into a lease  agreement  with GET for the Los
Angeles  offices  and  warehouse,  which  lease has a term of five years with an
option to renew for an  additional  five year term.  On  February  1,  2007,  we
entered into a one year lease agreement with Lynx International  Limited for our
office space and warehouse in Hong Kong.

We had open letters of credit of $9.5 million, $4.6 million and $12.2 million as
of December 31, 2005, 2006 and 2007, respectively.

We had two employment contracts dated January 1, 1998, and subsequently amended,
with two executives  providing for base  compensation and other  incentives.  On
April 1, 2004,  we amended  each of these  contracts  to extend the term through
March 31,  2006,  and to  provide  one  contract  for base  salary  per annum of


                                      F-25
<PAGE>


$500,000  for the  period  from April 1, 2003 to March 31,  2006,  and the other
contract  for base  salary per annum of $50,000  from April 1, 2003 to March 31,
2006.  Additionally,  we agreed to pay each of these  executives an annual bonus
(the "Annual  Bonus") for fiscal years ended December 31, 2003, 2004 and 2005 in
an amount,  if any, equal to ten percent (10%) of the amount by which our actual
pre-tax  income for such fiscal year  exceeds  the amount of  projected  pre-tax
income set forth in our annual  budget for the same  fiscal  year as approved by
our Board of Directors.  No bonuses were paid to these executives for the fiscal
year ended December 31, 2005 and 2007.  Bonus of $150,000 was paid to one of the
executives in 2006.

In 2003,  we  acquired  a 45%  equity  interest  in the  owner of the  trademark
"American  Rag Cie" and the  operator  of  American  Rag retail  stores for $1.4
million, and our subsidiary, Private Brands, Inc., acquired a license to certain
exclusive  rights to this  trademark.  We have  guaranteed  the  payment  to the
licensor of minimum  royalties of $10.4 million over the initial 10-year term of
the agreement. At December 31, 2007, the total commitment on royalties remaining
on the term was $7.6  million.  We are  currently  involved in  litigation  with
American Rag Cie, LLC and American Rag Cie II with respect to our license rights
to the "American Rag Cie"  trademark.  See Note 21 of the "Notes to Consolidated
Financial Statements."

On October  17,  2004,  our  subsidiary  Private  Brands,  Inc  entered  into an
agreement  with J. S. Brand  Management to design,  manufacture  and  distribute
Jessica Simpson branded jeans and casual apparel.  This agreement has an initial
three-year  term,  and  provided  we are in  compliance  with  the  terms of the
agreement,  is renewable for one additional two-year term. Minimum net sales are
$20  million  in year 1, $25  million  in year 2 and $30  million in year 3. The
agreement provides for payment of a sales royalty and advertising  commitment at
the rate of 8% and 3%,  respectively,  of net sales, for a total minimum payment
obligation of $8.3 million over the initial term of the  agreement.  On July 19,
2005,  Camuto  Consulting  Group  replaced J.S.  Brand  Management as the master
licensor.  In December  2004,  we advanced $2.2 million as payment for the first
year's minimum royalties. We applied $1.1 million from the above advance against
the  royalty  and  marketing  expenses  in 2005 and  $884,000 in the first three
months of 2006.  In March 2006,  we had written off the  capitalized  balance of
$192,000 and recognized a corresponding loss. The loss was classified as royalty
expense on our consolidated  statements of operations.  In March 2006, we became
involved in a dispute with the licensor of the Jessica  Simpson  brands over our
continued  rights  to  these  brands,  and we had  been in  litigation  with the
licensor. See Note 21 of the "Notes to Consolidated  Financial Statements".  The
licensor  refused to accept  payments and maintained that the agreement had been
terminated.  There had been no sales of new products since the licensor  started
refusing  to approve  products  for  manufacture  and sale.  As a result of this
litigation,  in 2006 and in the first nine months of 2007, we did not accrue for
the payments of minimum  royalty,  sales royalty and  advertising  commitment of
$4.4 million  pursuant to the  agreement.  In November  2007,  we entered into a
settlement agreement with the licensor, Jessica Simpson and related parties with
respect to the litigation,  pursuant to which the parties agreed to dismiss with
prejudice all claims relating to these actions or the sublicense agreement. As a
result, we are no longer required to make the guaranteed  payments  contemplated
under the agreement.

On January 3, 2005,  Private Brands,  Inc, our wholly owned subsidiary,  entered
into a term sheet exclusive licensing agreement with Beyond Productions, LLC and
Kids  Headquarters to collaborate on the design,  manufacturing and distribution
of women's  contemporary,  large sizes and junior apparel bearing the brand name
"House of Dereon",  Couture,  Kick and Soul.  This  agreement  was a  three-year
contract,  and providing compliance with all terms of the license, was renewable
for one  additional  three-year  term.  The agreement  also provided  payment of
royalty  at the rate of 8% on net sales and 3% on net sales for  marketing  fund
commitments.  In the first  quarter of 2005, we advanced $1.2 million as payment
for the first year's  minimum  royalty and  marketing  fund  commitment.  We had
applied  $34,000  from the above  advance  against  the  royalty  and  marketing
expenses in 2005. In March 2006, we agreed to terminate our agreement to design,
market and sell House of Dereon by Tina Knowles branded apparel and we agreed to
sell all remaining  inventory to the licensor or its designee.  As a result,  we
were no longer  involved in the sales of this private  brand.  Prior to December
31, 2005, we had written off the capitalized  balance of $1.2 million related to
agreement and recognized a loss  accordingly in 2005. The loss was classified as
royalty expense on our consolidated statements of operations.

In July 2006, we terminated our License  Agreements and the parent guaranty with
Cynthia  Rowley.  In  consideration  of termination  of the License  Agreements,
$400,000 was paid to Cynthia Rowley in July 2006.

In August  2004,  we entered  into an  Agreement  for  Purchase  of Assets  with
affiliates  of Mr. Kamel Nacif;  a shareholder  at the time of the  transaction,
with  agreement  was  amended in October  2004.  Pursuant to the  agreement,  as
amended,  on November 30, 2004, we sold to the purchasers  substantially  all of
our assets and real property in Mexico,  including the equipment and  facilities


                                      F-26
<PAGE>


we previously leased to Mr. Nacif's  affiliates.  Upon consummation of the sale,
we entered into a purchase commitment agreement with the purchasers, pursuant to
which we agreed to purchase annually over the ten-year term of the agreement, $5
million  of  fabric  manufactured  at  our  former  facilities  acquired  by the
purchasers at negotiated  market prices. We purchased $6.4 million of fabric, of
which $2.4  million  was paid in cash and $4.0  million  was offset  against the
notes receivable  principal and accrued interest on the note receivable from the
affiliates  of Mr.  Kamel Nacif in 2005.  We did not purchase any fabric in 2006
and 2007. On August 21, 2007, we received a payment of $17.75 million from Tavex
upon the exercise by Tavex of its option,  and this fabric  purchase  commitment
agreement was terminated.  Instead,  Tarrant  Luxembourg agreed to purchase from
Tavex at least  U.S.  $1.25  million  of fabric  prior to the end of 2007 and to
deliver an irrevocable letter of credit for the full purchase price. We placed a
fabric  order with Tavex on August 21,  2007 for $1.25  million  pursuant to the
agreement. At December 31, 2007, the irrevocable letter of credit expired and we
did not have any further  commitment to purchase fabric from Tavex.  See Note 17
of the "Notes to Consolidated Financial Statements."

On September 1, 2006,  our  subsidiary in Hong Kong,  Tarrant  Company  Limited,
entered into an agreement  with Seven  Licensing  Company,  LLC to be its buying
agent  to  source  and  purchase   apparel   merchandise.   Seven  Licensing  is
beneficially owned by Gerard Guez.

We are involved  from time to time in routine  legal  matters  incidental to our
business.  In our opinion,  resolution  of such matters will not have a material
effect on our financial position or results of operations.

14.      STOCK-BASED COMPENSATION

Our  Employee  Incentive  Plan,  formerly  the 1995 Stock Option Plan (the "1995
Plan"),  authorized the grant of both incentive and non-qualified  stock options
to our officers,  employees,  directors and consultants for shares of our common
stock.  As of December 31, 2007,  there were  outstanding  options to purchase a
total of  1,041,000  shares of common  stock  granted  under the 1995  Plan.  No
further  grants may be made under the 1995 Plan. On May 25, 2006, we adopted the
Tarrant  Apparel  Group  2006 Stock  Incentive  Plan (the  "2006  Plan"),  which
authorizes  the issuance of up to 5,100,000  shares of our common stock pursuant
to options or awards granted under the 2006 Plan. As of December 31, 2007, there
were  outstanding  options  to  purchase a total of  1,773,000  shares of common
stock,  and 1,827,000 shares remained  available for issuance  pursuant to award
granted under the 2006 Plan.  The exercise  price of options under the plan must
be equal to 100% of fair market value of common stock on the date of grant.  The
2006 Plan also  permits  other  types of awards,  including  stock  appreciation
rights, restricted stock and other performance-based benefits.

On January  1,  2006,  we adopted  SFAS No.  123  (revised  2004),  "Share-Based
Payment,"  ("SFAS No. 123(R)") which requires the measurement and recognition of
compensation  expense for all  share-based  payment awards made to employees and
directors  based on  estimated  fair  values.  SFAS No.  123(R)  supersedes  our
previous  accounting under  Accounting  Principles Board Opinion ("APB") No. 25,
"Accounting for Stock Issued to Employees" for periods beginning in fiscal 2006.
In March 2005,  the  Securities  and Exchange  Commission  ("SEC")  issued Staff
Accounting Bulletin ("SAB") No. 107 relating to SFAS No. 123(R). We have applied
the provisions of SAB No. 107 in our adoption of SFAS No. 123(R).

We adopted SFAS No.  123(R) using the modified  prospective  transition  method,
which requires the application of the accounting standard as of January 1, 2006,
the first day of our fiscal year 2006.  Our  financial  statements as of and for
the years  ended  December  31,  2006 and 2007  reflect  the  impact of SFAS No.
123(R).  SFAS No.  123(R)  requires  companies  to  estimate  the fair  value of
share-based payment awards to employees and directors on the date of grant using
an  option-pricing  model.  The  value  of the  portion  of the  award  that  is
ultimately  expected to vest is recognized as expense over the requisite service
periods in our consolidated  statements of operations.  Prior to the adoption of
SFAS No. 123(R),  we accounted for  stock-based  payment awards to employees and
directors  using the  intrinsic  value method in  accordance  with APB No. 25 as
allowed under SFAS No. 123, "Accounting for Stock-Based Compensation". Under the
intrinsic value method, no stock-based  compensation expense had been recognized
in our  consolidated  statements  of  operations  for  awards to  employees  and
directors  because  the  exercise  price of our stock  options  equaled the fair
market value of the underlying  stock at the date of grant.  In accordance  with
the modified  prospective  transition method, our financial statements for prior
periods have not been  restated to reflect,  and do not  include,  the impact of
SFAS No. 123(R).


                                      F-27
<PAGE>


The  following  table  illustrates  the  effect on net income and net income per
share if we had applied the fair value recognition provisions of SFAS No. 123 to
stock-based  payment  awards  granted  under our stock option plans for the year
ended December 31, 2005:

                                                         2005
                                                    ------------

Net income as reported...........................   $    993,344
Add stock-based employee compensation charges
   reported in net income........................   $     38,740
Pro forma compensation expense, net of tax.......   $ (4,298,193)
                                                    ------------
Pro forma net loss...............................   $ (3,266,109)
                                                    ============

Net income per share - Basic.....................   $       0.03
Add stock-based employee compensation charges
   reported in net income - Basic................   $       0.00
Pro forma compensation expense per share.........   $      (0.14)
                                                    ------------
Pro forma loss per share - Basic.................   $      (0.11)
                                                    ============

Net income per share - Diluted...................   $       0.03
Add stock-based employee compensation charges
   reported in net income - Diluted..............   $       0.00
Pro forma compensation expense per share.........   $      (0.14)
                                                    ------------
Pro forma loss per share - Diluted...............   $      (0.11)
                                                    ============

On September  23,  2005,  the Board of Directors  approved the  acceleration  of
vesting of all our unvested stock options,  including those not issued under the
plan.  In total,  1.7 million stock  options with an average  exercise  price of
$3.69 and an average  remaining  contractual  life of 7.9 years were  subject to
this  acceleration.  The  exercise  prices and  number of shares  subject to the
accelerated  options  were  unchanged.  The  acceleration  was  effective  as of
September  23,  2005.  Had the  acceleration  of these  stock  options  not been
undertaken,  the future  compensation  expense we would  recognize in the fiscal
years of 2006, 2007, 2008 and 2009 would be $1.4 million,  $810,000, $10,000 and
$3,000,  respectively.  Our  decision to  accelerate  the vesting of these stock
options  was based upon the  accounting  of this $2.2  million  of  compensation
expense  from  disclosure-only  in 2005 to being  included in our  statement  of
operations in 2006 to 2009 based on our anticipated  adoption of SFAS No. 123(R)
effective in January  2006.  As a result,  there were no stock  options  granted
prior to, but not yet vested as of January 1, 2006.


                                      F-28
<PAGE>


A summary of our stock  option  activity  and related  information  for the year
ended December 31, 2005, 2006 and 2007 is as follows:

                                                             EMPLOYEES
                                                   -----------------------------
                                                    NUMBER OF        EXERCISE
                                                     SHARES            PRICE
                                                   ----------       ------------

Options outstanding at December 31, 2004 ....       8,331,962       $1.39-$45.50
Granted .....................................          42,000        $1.95-$3.68
Exercised ...................................            --                 --
Forfeited ...................................      (1,573,300)      $1.95-$25.00
Expired .....................................         (67,612)      $       4.50
                                                   ----------       ------------
Options outstanding at December 31, 2005 ....       6,733,050       $1.39-$45.50
Granted .....................................       1,233,259        $1.84-$1.94
Exercised ...................................            --                 --
Forfeited ...................................         (19,650)      $1.94-$33.13
Expired .....................................        (273,000)      $6.75-$7.38
                                                   ----------       ------------
Options outstanding at December 31, 2006 ....       7,673,659       $1.39-$45.50
Granted .....................................       2,630,000        $1.13-$1.99
Exercised ...................................      (1,500,000)      $       1.13
Forfeited ...................................         (87,450)      $1.63-$18.50
Expired .....................................        (502,000)       $1.13-$8.50
                                                   ----------       ------------
Options outstanding at December 31, 2007 ....       8,214,209       $1.39-$45.50
                                                   ==========       ============

We had no stock option  outstanding  to  non-employees  as of December 31, 2005,
2006 and 2007.

The following  table  summarizes  information  about stock options  outstanding,
expected to vest and exercisable at December 31, 2006 and 2007:

<TABLE>
<CAPTION>
                                                                        WEIGHTED
                                                        WEIGHTED        AVERAGE
                                                        AVERAGE        REMAINING
                                        NUMBER OF       EXERCISE      CONTRACTUAL      INTRINSIC
                                         SHARES          PRICE        LIFE (YEARS)       VALUE
                                      ------------    ------------    ------------    ------------
<S>                                      <C>            <C>               <C>           <C>
As of December 31, 2006:
Employees - Outstanding ..........       7,673,659      $   5.52          5.9           $   0
Employees - Expected to vest .....       7,579,083      $   5.57          5.9           $   0
Employees - Exercisable ..........       6,445,400      $   6.22          5.3           $   0

As of December 31, 2007:
Employees - Outstanding ..........       8,214,209      $   5.28          5.2           $   0
Employees - Expected to vest .....       8,078,438      $   5.34          5.2           $   0
Employees - Exercisable ..........       6,748,015      $   6.01          4.5           $   0
</TABLE>

The following  table  summarizes our non-vested  options as of December 31, 2007
and changes during the year ended December 31, 2007.

                                                                       WEIGHTED
                                                                       AVERAGE
                                                        NUMBER OF     GRANT-DATE
                  NON-VESTED OPTIONS                     SHARES       FAIR VALUE
---------------------------------------------------    ----------     ----------

Non-vested at January 1, 2007 .....................     1,228,259     $     1.26
  Granted .........................................     2,630,000           1.23
  Vested ..........................................    (2,307,065)          1.22
  Forfeited .......................................       (85,000)          1.15
                                                       ----------     ----------
Non-vested at December 31, 2007 ...................     1,466,194     $     1.28
                                                       ==========     ==========


                                      F-29
<PAGE>


The following table shows the fair value of each option granted to employees and
directors  estimated on the date of grant using the Black-Scholes model with the
following weighted average assumptions used for grants in 2005, 2006 and 2007.

                                              YEARS ENDED DECEMBER 31,
                                     ----------------------------------------
                                        2005          2006          2007
                                        ----          ----          ----
Expected dividend ...............       0.0%          0.0%          0.0%
Risk free interest rate .........         4%        5.075%     3.90% to 4.67%
Expected volatility .............        55%           70%           70%
Expected term (in years) ........         4          6.25       0.06 to 6.18


Stock-based  compensation  expense  recognized during the period is based on the
value of the portion of share-based  payment awards that is ultimately  expected
to vest during the period.  Stock-based  compensation  expense recognized in the
consolidated  statements of operations  for the years of 2006 and 2007 consisted
of compensation expense for the share-based payment awards granted subsequent to
January 1, 2006 based on the grant date fair value  estimated in accordance with
the  provisions of SFAS No.  123(R).  For  stock-based  payment awards issued to
employees and directors, stock-based compensation is attributed to expense using
the  straight-line  single  option  method,  which  is  consistent  with how the
prior-period  pro-formas  were  provided.  As stock-based  compensation  expense
recognized in the  consolidated  statements of operations  for the years of 2006
and 2007 is based on awards ultimately expected to vest, it has been reduced for
estimated  forfeitures  which we estimate to be 7.7%.  SFAS No. 123(R)  requires
forfeitures to be estimated at the time of grant and revised,  if necessary,  in
subsequent  periods if actual  forfeitures  differ from those estimates.  In our
pro-forma  information  for the period fiscal 2005, we accounted for forfeitures
as they occurred.

Our  determination of fair value of share-based  payment awards to employees and
directors on the date of grant using the Black-Scholes  model, which is affected
by our stock price as well as  assumptions  regarding a number of highly complex
and subjective  variables.  These variables include,  but are not limited to our
expected  stock  price  volatility  over the term of the  awards.  When  valuing
awards,  we  estimate  its  expected  terms using the "safe  harbor"  provisions
provided in SAB No. 107 and its  volatility  using  historical  data. We granted
options to purchase  1,233,259 and 2,630,000  shares of common stock during 2006
and 2007, respectively. The options granted were fair valued in the aggregate at
$1.6 million and $3.2 million or the  weighted-average  exercise  price of $1.86
and $1.32 during 2006 and 2007,  respectively.  Stock-based compensation expense
related to employees or director stock options  recognized  during 2006 and 2007
was $187,000 and $771,000,  respectively.  Basic and dilutive earnings per share
for the year ended  December  31, 2006 were  decreased  by $0.01 from $(0.72) to
$(0.73)  by  the  additional  stock-based  compensation  recognized.  Basic  and
dilutive  earnings per share for the year ended December 31, 2007 were decreased
by  $0.02  from  $0.08  to  $0.06  by the  additional  stock-based  compensation
recognized.

The total intrinsic value of options  exercised  during 2006 and 2007 was $0 and
$120,000,  respectively.  Cash received from stock options exercised during 2006
and 2007 was $0 and $1.7 million,  respectively.  The total fair value of shares
vested  during  the  years  ended  December  31,  2005,   2006  and  2007,  were
approximately $5.7 million, $0, and $2.8 million, respectively.

As  of  December  31,  2007,  there  was  $1.4  million  of  total  unrecognized
compensation cost related to non-vested  share-based  compensation  arrangements
granted  under  the  plans.  That cost is  expected  to be  recognized  over the
weighted-average period of 2.5 years.

When options are exercised,  our policy is to issue previously  un-issued shares
of common stock to satisfy share option  exercises.  As of December 31, 2007, we
had 68.0 million shares of un-issued shares of common stock.

15.      EQUITY TRANSACTIONS

In March 2005, in connection  with a settlement of a dispute  involving a former
employee  named Nicolas  Nunez,  we agreed to compensate  Mr. Nunez in the total
amount of $875,000.  In April 2005, we issued 195,313 shares of our common stock
(having a value of $375,000) to Mr. Nunez  pursuant to the terms of an agreement
and plan of  reorganization  and paid Mr. Nunez  $500,000 in  settlement  of all
remaining claims by Mr. Nunez against us. In connection with this settlement, in
March 2006, we cancelled 10,000 shares of our common stock previously  issued to
him.


                                      F-30
<PAGE>


In June 2005,  holders of our Debentures  converted an aggregate of $2.3 million
of Debentures into 1,133,687 shares of our common stock. In August 2005, holders
of our Debentures  converted an aggregate of $820,000 of Debentures into 410,000
shares of our common stock. See Note 10 of the "Notes to Consolidated  Financial
Statements."

On June 16, 2006, we entered into a Credit  Agreement  with certain  lenders and
Guggenheim,  as administrative agent and collateral agent for the lenders.  This
credit  facility  provides for  borrowings  of up to $65 million.  This facility
consists  of an initial  term loan of up to $25  million,  of which we  borrowed
$15.5  million at the  initial  funding.  An  additional  term loan of up to $40
million will be available under this facility to finance acquisitions acceptable
to Guggenheim.  In connection with Guggenheim credit facility, on June 16, 2006,
we issued  the  lenders  under  this  facility  warrants  to  purchase  up to an
aggregate  of  3,857,143  shares  of our  common  stock.  357,143  shares of the
warrants will not become exercisable unless and until a specified portion of the
initial term loan is actually funded by the lenders. Durham acted as our advisor
in connection  with the Guggenheim  credit  facility.  As  compensation  for its
services,  we  agreed to pay  Durham a cash fee in an amount  equal to 1% of the
committed principal amount of the loans under the Guggenheim credit facility. In
addition,  we issued  Durham a warrant to purchase  77,143  shares of our common
stock. 7,143 shares of this warrant will not become exercisable unless and until
a specified  portion of the initial term loan is actually funded by the lenders.
See Note 9 of the "Notes to Consolidated Financial Statements."

In November 2007, we granted an award to purchase 2 million shares of our common
stock at $1.13 to one of our  employees,  which  offer had to be accepted by the
employee on or before  December 15, 2007. The award was  immediately  vested and
was granted  under the 2006 Plan. On December 14, 2007,  the employee  exercised
his right to purchase  1.5  million of the shares  subject to the award at $1.13
for a total of $1.7 million.

We previously  owned 50.1% of United  Apparel  Ventures,  which was dissolved on
February 27, 2007. Upon dissolution,  we distributed $100,000 initial capital to
the 49.9% minority interest owner.

In November  2003, our board of directors  adopted a  shareholders  rights plan.
Pursuant  to the plan,  we issued a dividend  of one right for each share of our
common  stock  held by  shareholders  of record as of the close of  business  on
December 12, 2003.  Each right  initially  entitled  shareholders  to purchase a
fractional share of our Series B Preferred Stock for $25.00. However, the rights
are not  immediately  exercisable  and will  become  exercisable  only  upon the
occurrence  of certain  events.  Generally,  if a person or group  acquires,  or
announces a tender or exchange offer that would result in the acquisition of 15%
or more of our common stock while the shareholder  rights plan remains in place,
then, unless the rights are redeemed by us for $0.001 per right, the rights will
become  exercisable,  by all rights  holders other than the acquiring  person or
group,  for our shares or shares of the third party  acquirer  having a value of
twice the right's  then-current  exercise price. The shareholder  rights plan is
designed to guard against  partial tender offers and other  coercive  tactics to
gain control of our company without offering a fair and adequate price and terms
to all of our shareholders.  The plan was not adopted in response to any efforts
to acquire our company, and we are not aware of any such efforts.

Our credit  agreement  prohibits the payment of dividends during the term of the
agreement.

16.      SUPPLEMENTAL SCHEDULE OF CASH FLOW INFORMATION

                                                YEAR ENDED DECEMBER 31,
                                      ------------------------------------------
                                         2005            2006             2007
                                      ----------      ----------      ----------

Cash paid for interest .........      $3,335,000      $4,246,000      $3,261,000
                                      ==========      ==========      ==========

Cash paid for income taxes .....      $  875,000      $1,153,000      $   35,000
                                      ==========      ==========      ==========

In March 2005, in connection  with a settlement of a dispute  involving a former
employee  named Nicolas  Nunez,  we agreed to compensate  Mr. Nunez in the total
amount of $875,000.  In April 2005, we issued 195,313 shares of our common stock
(having a value of $375,000) to Mr. Nunez  pursuant to the terms of an agreement
and plan of  reorganization  and paid Mr. Nunez  $500,000 in  settlement  of all
remaining claims by Mr. Nunez against us. In connection with this settlement, in
March 2006, we cancelled 10,000 shares of our common stock previously  issued to
him.


                                      F-31
<PAGE>


In June 2005,  holders of our Debentures  converted an aggregate of $2.3 million
of Debentures into 1,133,687 shares of our common stock. In August 2005, holders
of our Debentures  converted an aggregate of $820,000 of Debentures into 410,000
shares of our common stock. On June 26, 2006, we paid off the remaining  balance
of the  outstanding  Debentures  of $6.9  million  plus all  accrued  and unpaid
interest and a prepayment penalty of $171,000. As a result of the repayment, the
Debentures  were  terminated  effective  June  26,  2006.  Upon  paying  off the
Debentures,  debt  discount of $278,000  related to the  intrinsic  value of the
conversion option of $804,000 was expensed,  and of the $620,000  financing cost
paid to the placement agent,  $214,000 was expensed.  The remaining value of the
warrants to holders of our  Debentures of $433,000 and warrants to the placement
agent of $69,000 was also  expensed.  See Note 10 of the "Notes to  Consolidated
Financial Statements."

In 2005,  we purchased  $6.4 million of fabric from  Acabados y  Terminados,  of
which $2.4  million  was paid in cash and $4.0  million  was offset  against the
notes receivable  principal and accrued interest on the note receivable from the
affiliates of Mr. Kamel Nacif.

In  2006,   we  purchased   $1.1  million  of  fabric  from  Azteca   Production
International,  Inc.  ("Azteca"),  a corporation owned by the brothers of Gerard
Guez, our Chairman and Interim Chief  Executive  Officer,  of which $0.5 million
was paid in cash and $0.6 million was offset against amount due from Azteca.  In
2007,  we  purchased  $499,000 of fabric from  Azteca  which was offset  against
amount due from Azteca.

On June 16, 2006, we entered into a Credit  Agreement  with certain  lenders and
Guggenheim,  as administrative agent and collateral agent for the lenders.  This
credit  facility  provides for  borrowings  of up to $65 million.  This facility
consists  of an initial  term loan of up to $25  million,  of which we  borrowed
$15.5  million at the  initial  funding.  An  additional  term loan of up to $40
million will be available under this facility to finance acquisitions acceptable
to Guggenheim.  In connection with Guggenheim credit facility, on June 16, 2006,
we issued  the  lenders  under  this  facility  warrants  to  purchase  up to an
aggregate  of  3,857,143  shares  of our  common  stock.  357,143  shares of the
warrants will not become exercisable unless and until a specified portion of the
initial term loan is actually funded by the lenders. Durham acted as our advisor
in connection  with the Guggenheim  credit  facility.  As  compensation  for its
services,  we  agreed to pay  Durham a cash fee in an amount  equal to 1% of the
committed principal amount of the loans under the Guggenheim credit facility. In
addition,  we issued  Durham a warrant to purchase  77,143  shares of our common
stock. 7,143 shares of this warrant will not become exercisable unless and until
a specified  portion of the initial term loan is actually funded by the lenders.
See Note 9 of the "Notes to Consolidated Financial Statements."

17.      RELATED-PARTY TRANSACTIONS

Related-party  transactions,  consisting  primarily  of  purchases  and sales of
finished goods and raw materials, are as follows:

                                                 YEAR ENDED DECEMBER 31,
                                       -----------------------------------------
                                           2005           2006           2007
                                       -----------    -----------    -----------

Sales to related parties ..........    $    88,000    $ 4,417,000    $19,430,000
Purchases from related parties ....    $ 6,987,000    $10,035,000    $10,914,000


As of December 31, 2006 and 2007,  related party  affiliates were indebted to us
in the amounts of $10.0 million and $10.5 million,  respectively.  These include
amounts due from Gerard Guez, our Chairman and Interim Chief Executive  Officer,
of $2.2 million and $1.9  million at December  31, 2006 and 2007,  respectively,
which have been shown as reductions to shareholders'  equity in the accompanying
financial statements.

From time to time in the past, we had advanced funds to Mr. Guez. These were net
advances to Mr. Guez or payments  paid on his behalf before the enactment of the
Sarbanes-Oxley  Act in 2002.  The  promissory  note  documenting  these advances
contains a provision  that the entire amount  together with accrued  interest is
immediately  due and payable upon our written demand.  The greatest  outstanding
balance of such advances to Mr. Guez during 2007 was  approximately  $2,151,000.
At December 31, 2007, the entire balance due from Mr. Guez totaling $1.9 million
was reflected as a reduction of shareholders'  equity.  All amounts due from Mr.


                                      F-32
<PAGE>


Guez bore interest at the rate of 7.75% during the period.  Total  interest paid
by Mr. Guez was $209,000, $171,000 and $158,000 for the years ended December 31,
2005,  2006 and 2007,  respectively.  Mr.  Guez paid  expenses  on our behalf of
approximately  $397,000,  $299,000 and $365,000 for the years ended December 31,
2005, 2006 and 2007, respectively,  which amounts were applied to reduce accrued
interest and  principal on Mr.  Guez's loan.  These  amounts  included  fuel and
related  expenses  incurred by 477  Aviation,  LLC, a company owned by Mr. Guez,
when our executives used this company's  aircraft for business  purposes.  Since
the enactment of the  Sarbanes-Oxley  Act in 2002, no further personal loans (or
amendments  to  existing  loans)  have been or will be made to our  officers  or
directors.

On July 1, 2001, we formed an entity to jointly market,  share certain risks and
achieve   economies  of  scale  with  Azteca  Production   International,   Inc.
("Azteca"), called United Apparel Ventures, LLC ("UAV"). This entity was created
to coordinate  the  production  of apparel for a single  customer of our branded
business.  Azteca is owned by the  brothers of Gerard Guez.  UAV made  purchases
from a related party in Mexico,  an affiliate of Azteca.  UAV was owned 50.1% by
Tag Mex, Inc., our wholly owned subsidiary,  and 49.9% by Azteca. Results of the
operation of UAV had been consolidated into our results since July 2001 with the
minority  partner's  share of gain and losses  eliminated  through the  minority
interest line in our financial  statements until 2004. Due to the  restructuring
of our Mexico  operations,  we discontinued  manufacturing  for UAV customers in
2004. We had been consolidating 100% of the results of the operation of UAV into
our results  since 2005.  UAV was  dissolved on February 27, 2007.  We purchased
$135,000,  $1.1 million and $499,000 of finished goods,  fabric and service from
Azteca and its affiliates for the years ended December 31, 2005,  2006 and 2007,
respectively.  Our total sales of fabric and service to Azteca in 2005, 2006 and
2007 were $88,000,  $9,000 and $0, respectively.  Based on the repayment history
of Azteca and litigation  Azteca is currently  subject to, we estimated that our
receivable of $3.4 million will take approximately three years for collection in
full. We therefore made a $1.0 million reserve and then  fair-valued the balance
of this asset using our weighted  average  cost of capital as the discount  rate
and a term of three  years as the  discount  period.  Net  amounts due from this
related  party as of  December  31,  2006 and 2007  were $4.0  million  and $1.5
million, respectively.

On September 1, 2006,  our  subsidiary in Hong Kong,  Tarrant  Company  Limited,
entered into an agreement with Seven Licensing Company,  LLC ("Seven Licensing")
to be its  buying  agent to  source  and  purchase  apparel  merchandise.  Seven
Licensing is beneficially  owned by Gerard Guez.  Total sales to Seven Licensing
for the years  ended  December  31,  2006 and 2007 were $4.4  million  and $19.4
million,  respectively.  Net amounts due from this related  party as of December
31, 2006 and 2007 were $3.5 million and $6.8 million, respectively.

We purchased  $8.7 million and $10.4 million of finished goods from Star Source,
LLC and AJG Inc. dba  Astrologie for the years ended December 31, 2006 and 2007,
respectively.  Star Source,  LLC and AJG Inc. dba  Astrologie  are  beneficially
owned by an adult son of one of our  employees.  As of  December  31,  2007,  we
advanced $327,000 to Star Source, LLC for fabric purchase.

In August  2004,  we entered  into an  Agreement  for  Purchase  of Assets  with
affiliates  of Mr. Kamel Nacif,  a shareholder  at the time of the  transaction,
which  agreement  was amended in October  2004.  Pursuant to the  agreement,  as
amended,  on November 30, 2004, we sold to the purchasers  substantially  all of
our assets and real property in Mexico,  including the equipment and  facilities
we previously leased to Mr. Nacif's affiliates in October 2003, for an aggregate
purchase price  consisting of: a) $105,400 in cash and $3,910,000 by delivery of
unsecured   promissory  notes  bearing  interest  at  5.5%  per  annum;  and  b)
$40,204,000,  by delivery of secured  promissory  notes bearing interest at 4.5%
per annum,  with  payments  due on December  31, 2005 and every year  thereafter
until  December 31, 2014. As of September 30, 2006, the  outstanding  balance of
the notes and  interest  receivables  were $41.1  million  prior to the reserve.
Historically,  we had placed orders for purchases of fabric from the  purchasers
pursuant to the purchase commitment agreement we entered into at the time of the
sale of the Mexico assets, and we had satisfied our payment  obligations for the
fabric by offsetting the amounts payable against the amounts due to us under the
notes.  However,  during  the  third  quarter  of 2006,  the  purchasers  ceased
providing  fabric  and were not  making  payments  under the  notes.  We further
evaluated the  recoverability of the notes receivable and recorded a loss on the
notes  receivable  in the  third  quarter  of 2006  in an  amount  equal  to the
outstanding  balance less the value of the underlying assets securing the notes.
The loss was estimated to be approximately  $27.1 million,  resulting in a notes
receivable  balance at  September  30, 2006 of  approximately  $14  million.  We
believe  there  was no  significant  change  subsequently  on the  value  of the
underlying  assets  securing the notes;  therefore,  we did not have  additional
reserve after the third quarter of 2006.


                                      F-33
<PAGE>


Upon consummation of the sale, we entered into a purchase  commitment  agreement
with the purchasers,  pursuant to which we agreed to purchase  annually over the
ten-year term of the agreement,  $5 million of fabric manufactured at our former
facilities  acquired by the purchasers at negotiated market prices. We purchased
$6.4 million of fabric,  of which $2.4 million was paid in cash and $4.0 million
was offset against the notes  receivable  principal and accrued  interest on the
note  receivable  from the  affiliates  of Mr.  Kamel Nacif in 2005.  We did not
purchase  any fabric in 2006 and 2007.  Net amount due from Mr.  Kamel Nacif and
his  affiliates  as  of  December  31,  2006  and  2007  was  $116,000  and  $0,
respectively.

On March 21, 2007, our wholly-owned  subsidiary,  Tarrant  Luxembourg  S.a.r.l.,
entered into a letter  agreement with Solticio,  Inmobiliaria  Cuadros,  S.A. de
C.V.  ("Inmobiliaria"),  and Acotex,  (Acotex and  together  with  Solticio  and
Inmobiliaria,  the "Sellers"),  and Tavex Algodonera,  S.A. ("Tavex"), which was
subsequently  amended.  On August  21,  2007,  we  received  a payment of $17.75
million from Tavex upon the exercise by Tavex of its option in  accordance  with
the  agreement  among the parties.  In return for the Tavex's  payment of $17.75
million, we have taken the following actions in accordance with the terms of the
agreement:

         o        Tarrant   Luxembourg   terminated   the  Solticio  and  Acotex
                  promissory notes described above and released the Sellers from
                  any  further  obligations   thereunder,   and  terminated  and
                  released all liens on the collateral securing those notes;

         o        Tarrant  Luxembourg  and  the  Sellers  terminated  all  other
                  executory   obligations  among  the  parties,   including  any
                  obligation  of ours to  purchase  fabric  from  Soliticio  and
                  Acotex; and

         o        Tarrant Luxembourg agreed to purchase from Tavex at least U.S.
                  $1.25 million of fabric prior to the end of 2007,  and Tarrant
                  Luxembourg  agreed to deliver an irrevocable  letter of credit
                  for the full purchase price.

Upon closing of the transaction and receiving the payment of $17.75 million,  we
recorded a gain of $3.75 million on our consolidated statements of operations as
other income in the third  quarter of 2007.  We placed a fabric order with Tavex
on August 21, 2007 for $1.25 million pursuant to the agreement.  At December 31,
2007, the  irrevocable  letter of credit expired and we did not have any further
commitment to purchase fabric from Tavex.

We lease our  executive  offices and warehouse in Los Angeles,  California  from
GET, a corporation which is owned by Gerard Guez, our Chairman and Interim Chief
Executive Officer, and Todd Kay, our Vice Chairman.  Additionally,  we lease our
office space and warehouse in Hong Kong from Lynx International  Limited, a Hong
Kong  corporation  that is owned by Messrs.  Guez and Kay. Our lease for the Los
Angeles offices and warehouse has a term of five years expiring in 2011, with an
option to renew for an additional five year term. Our lease for the office space
and warehouse in Hong Kong has expired and we are  currently  renting on a month
to  month  basis.  We  paid  $1.0  million,   $1.1  million  and  $1.1  million,
respectively, in 2005, 2006 and 2007 in rent for office and warehouse facilities
at these locations.  On May 1, 2006, we sublet a portion of our executive office
in Los Angeles,  California and our sales office in New York to Seven  Licensing
for a monthly  payment of $25,000 on a month to month basis.  Seven Licensing is
beneficially   owned  by  Gerard  Guez.  We  received   $200,000  and  $300,000,
respectively,  in rental income from this sublease for the years ended  December
31, 2006 and 2007.

At December  31, 2006 and 2007,  we had various  employees  receivable  totaling
$250,000 and $220,000, respectively, included in due from related parties.

We believe the each of the transactions described above has been entered into on
terms no less  favorable to us than could have been obtained  from  unaffiliated
third parties.


                                      F-34
<PAGE>


18.      OPERATIONS BY GEOGRAPHIC AREAS

Our predominant business is the design,  distribution and importation of private
label and private brand casual  apparel.  Substantially  all of our revenues are
from the sales of apparel.  We are organized  into two geographic  regions:  the
United States and Asia. We evaluate  performance  of each region based on profit
or loss from operations  before income taxes not including the cumulative effect
of change in  accounting  principles.  Information  about our  operations in the
United States,  Asia,  Mexico and Luxembourg is presented  below.  Inter-company
revenues and assets have been eliminated to arrive at the consolidated amounts.

<TABLE>
<CAPTION>
                                                                   ADJUSTMENTS
                                                                       AND
                               UNITED STATES          ASIA         ELIMINATIONS         TOTAL
                               -------------     -------------    -------------     -------------
<S>                            <C>               <C>              <C>               <C>
2005
Sales .....................    $ 213,366,000     $   1,282,000    $        --       $ 214,648,000
Inter-company sales .......             --         135,531,000     (135,531,000)             --
                               -------------     -------------    -------------     -------------
Total revenue .............    $ 213,366,000     $ 136,813,000    $(135,531,000)    $ 214,648,000
                               =============     =============    =============     =============

Income (loss) from
   operations .............    $  (1,446,000)    $   5,071,000    $        --       $   3,625,000
                               =============     =============    =============     =============
Interest income (1) .......    $   2,079,000     $       2,000    $        --       $   2,081,000
                               =============     =============    =============     =============
Interest expense ..........    $   4,222,000     $     403,000    $        --       $   4,625,000
                               =============     =============    =============     =============
Provision for depreciation
   and amortization .......    $   2,025,000     $     102,000    $        --       $   2,127,000
                               =============     =============    =============     =============
Capital expenditures ......    $     335,000     $     224,000    $        --       $     559,000
                               =============     =============    =============     =============

Total assets ..............    $ 136,904,000     $ 129,737,000    $(115,399,000)    $ 151,242,000
                               =============     =============    =============     =============

2006
Sales .....................    $ 226,851,000     $   5,551,000    $        --       $ 232,402,000
Inter-company sales .......             --         112,393,000     (112,393,000)             --
                               -------------     -------------    -------------     -------------
Total revenue .............    $ 226,851,000     $ 117,944,000    $(112,393,000)    $ 232,402,000
                               =============     =============    =============     =============

Income (loss) from
   operations (2) .........    $ (21,210,000)    $   4,005,000    $        --       $ (17,205,000)
                               =============     =============    =============     =============
Interest income (3) .......    $   1,178,000     $       3,000    $        --       $   1,181,000
                               =============     =============    =============     =============
Interest expense ..........    $   5,848,000     $     212,000    $        --       $   6,060,000
                               =============     =============    =============     =============
Provision for depreciation
   and amortization .......    $   2,872,000     $     108,000    $        --       $   2,980,000
                               =============     =============    =============     =============
Capital expenditures ......    $     134,000     $      75,000    $        --       $     209,000
                               =============     =============    =============     =============

Total assets ..............    $  97,196,000     $ 119,531,000    $(105,595,000)    $ 111,132,000
                               =============     =============    =============     =============

2007
Sales .....................    $ 223,028,000     $  20,693,000    $        --       $ 243,721,000
Inter-company sales .......             --         117,064,000     (117,064,000)             --
                               -------------     -------------    -------------     -------------
Total revenue .............    $ 223,028,000     $ 137,757,000    $(117,064,000)    $ 243,721,000
                               =============     =============    =============     =============

Income from operations (4).    $   1,408,000     $   3,784,000    $        --       $   5,192,000
                               =============     =============    =============     =============
Interest income ...........    $     166,000     $       3,000    $        --       $     169,000
                               =============     =============    =============     =============
Interest expense ..........    $   3,935,000     $     183,000    $        --       $   4,118,000
                               =============     =============    =============     =============
Provision for depreciation
   and amortization .......    $   1,812,000     $     135,000    $        --       $   1,947,000
                               =============     =============    =============     =============
Capital expenditures ......    $     303,000     $     250,000    $        --       $     553,000
                               =============     =============    =============     =============

Total assets ..............    $  56,559,000     $ 116,566,000    $(102,136,000)    $  70,989,000
                               =============     =============    =============     =============
</TABLE>


(1)  Interest income in the U.S.  included  $1,856,000  interest earned from the
     notes receivable related to the sale of our fixed assets in Mexico of which
     notes were recorded in Luxembourg
(2)  Income (loss) from  operations in the U.S.  included a loss of  $27,156,000
     recorded  in  Luxembourg;  of which  $27,137,000  related  to loss on notes
     receivable - related parties.
(3)  Interest  income in the U.S.  included  $901,000  interest  earned from the
     notes receivable related to the sale of our fixed assets in Mexico of which
     notes were recorded in Luxembourg.
(4)  Income from operations in the U.S.  included a loss of $1,477,000  recorded
     in Luxembourg; of which $1,458,000 related to loss on sales of fabric.


                                      F-35
<PAGE>


19.      EMPLOYEE BENEFIT PLANS

Tarrant Hong Kong has adopted a defined contribution  retirement benefits scheme
-- the  National  Mutual  Central  Provident  Fund Scheme (the  "Provident  Fund
scheme")  which  has been  approved  under  Section  87A of the  Inland  Revenue
Ordinance  of Hong  Kong  since  1992.  This  scheme  has been  registered  as a
Mandatory  Provident Fund exempted  Occupational  Retirement  Schemes  Ordinance
scheme under the Mandatory  Provident Fund Schemes Ordinance.  From August 1992,
an employee,  upon completion of one full year's service with Tarrant Hong Kong,
is entitled to enroll in the  Provident  Fund scheme on voluntary  basis.  Since
December 1, 2000,  no new members  have been  allowed to enroll in this  scheme.
Monthly  contributions are made based on 5% of the employees' basic salary.  The
employees  having  completed more than 3 years of service with Tarrant Hong Kong
are entitled to the vested benefits according the vesting scale of the Provident
Fund scheme.

Tarrant Hong Kong has adopted a Mandatory Provident Fund Scheme - AIA-JF Premium
MPF Scheme under the Mandatory  Provident Fund Schemes  Ordinance,  in which the
employees who have joined  Tarrant Hong Kong since December 1, 2000 are eligible
to enroll. Monthly contributions are made based on 5% of the employees' relevant
income. Costs of the plan charged to operations for 2005, 2006 and 2007 amounted
to approximately $160,000, $178,000 and $188,000, respectively.

On July 1, 1994, we established a defined contribution  retirement plan covering
all of our U.S. employees whose period of service exceeds 12 months. Plan assets
are monitored by a third-party  investment manager and are segregated from those
of  ours.   Participants  may  contribute  from  1%  to  15%  of  their  pre-tax
compensation  up to effective  limitations  specified  by the  Internal  Revenue
Service.  Our  contributions to the plan are based on a 50% (100% effective July
1, 1995) matching of participants' contributions, not to exceed 6% (5% effective
July 1, 1995) of the participants' annual compensation. In addition, we may also
make a discretionary  annual contribution to the plan. Costs of the plan charged
to  operations  for 2005,  2006 and 2007  amounted  to  approximately  $199,000,
$251,000 and $294,000, respectively.

20.      OTHER INCOME AND EXPENSE

Other income and expense consists of the following:

<TABLE>
<CAPTION>
                                                     YEAR ENDED DECEMBER 31,
                                             --------------------------------------
                                                 2005          2006          2007
                                             ----------    ----------    ----------
<S>                                          <C>           <C>           <C>
Rental income ...........................    $  193,000    $  298,000    $  300,000
Gain on sale of fixed assets ............       124,000          --            --
Gain on notes receivable-related parties.          --            --       3,750,000
Other items .............................        37,000        38,000        44,000
                                             ----------    ----------    ----------
Total other income ......................    $  354,000    $  336,000    $4,094,000
                                             ==========    ==========    ==========

Loss on sale of fixed assets ............          --          36,000        25,000
Termination of license agreement ........          --         400,000          --
Write-off of deferred financing cost and
   debt discount ........................          --            --       4,951,000
Other items .............................         1,000          --           1,000
                                             ----------    ----------    ----------
Total other expense .....................    $    1,000    $  436,000    $4,977,000
                                             ==========    ==========    ==========
</TABLE>


21.      LEGAL PROCEEDINGS

1. AMERICAN RAG CIE, LLC & AMERICAN RAG CIE II, INC.

On February 1, 2008,  Tarrant  Apparel  Group and our  wholly-owned  subsidiary,
Private Brands,  Inc., filed and served a  cross-complaint  against American Rag
Cie,  LLC (the "LLC") and  American  Rag Cie II ("ARC II") in the, in the action
AMERICAN  RAG CIE V.  PRIVATE  BRANDS,  INC.,  Superior  Court  of the  State of
California,  County of Los Angeles,  Central District,  Case No. BC 384428.  The


                                      F-36
<PAGE>


original action had been filed on January 28, 2008 against Private Brands by the
LLC. The LLC owns the trademark "American Rag Cie", which mark has been licensed
to Private  Brands on an exclusive  basis  throughout the world except for Japan
and pursuant to which Private Brands sells  American Rag Cie branded  apparel to
Macy's  Merchandising  Group and has sub-licensed to Macy's  Merchandising Group
the right to manufacture  certain categories of American Rag Cie branded apparel
in the United States.  The LLC is owned 55% by ARC II and 45% by Tarrant Apparel
Group.  In the original  complaint the LLC seeks a declaratory  judgment that we
have  breached the license  agreement  and that the license  agreement  has been
properly  terminated.  Our  cross-complaint  counters  this  claim,  and seeks a
declaration  that the license  agreement is valid and continues to be in effect.
Additionally,  the cross-complaint seeks relief on a number of causes of action,
including breach of the license agreement, a declaration by the Court imposing a
reasonable term into the agreement for  sublicensing  royalties,  dissolution of
LLC,  damages for breach of  fiduciary  duty,  and an  accounting  of the monies
diverted  by  defendants'  actions.  Based  upon a clause  in the LLC  operating
agreement,  the causes of action asserted in the  cross-complaint  for breach of
fiduciary  duty and an  accounting  are subject to  determination  by a Judicial
Referee, and the parties are currently in the process of selecting one. On March
3, 2008, we dismissed, without prejudice, our claim for dissolution of LLC after
being  notified  that ARC II had  elected  to buy out our  share  in the LLC,  a
permitted  defense to an action for dissolution.  On March 19, 2008, the LLC and
ARC II filed an amended  complaint,  in which they expanded their claims against
us to include  claims for breach of  contract,  fraud,  and breach of  fiduciary
duty,  and seeking  further  declaratory  relief and  compensatory  and punitive
damages. The action is in the early stages of discovery.

2. JESSICA SIMPSON & CAMUTO CONSULTING GROUP

In April  2006,  we  commenced  an action  against  the  licensor of the Jessica
Simpson brands  (captioned  TARRANT  APPAREL GROUP V. CAMUTO  CONSULTING  GROUP,
INC., VCJS LLC, WITH YOU, INC. AND JESSICA  SIMPSON) in the Supreme Court of the
State of New York,  County of New York. The suit named Camuto  Consulting Group,
Inc., VCJS LLC, With You, Inc. and Jessica  Simpson as defendants,  and asserted
that the defendants  failed to provide  promised  support in connection with our
sublicense  agreement for the Jessica Simpson  brands,  as well as fraud against
Camuto  Consulting.  The  complaint  was  amended  to add  Vincent  Camuto  as a
defendant  and  included  nine  causes  of  action,   including  two  seeking  a
declaration  that the  sublicense  agreement  was  exclusive and remains in full
force and effect,  as well as claims for breach of contract,  breach of the duty
of good  faith  and  fair  dealing  and  fraudulent  inducement  against  Camuto
Consulting,   a  claim  against  Vincent  Camuto   individually  for  fraudulent
inducement,  and a claim against With You, Inc. and Ms.  Simpson that we were an
intended  third party  beneficiary of the license  between those  defendants and
Camuto Consulting. On or about Camuto Consulting,  VCJS and Vincent Camuto filed
a  counterclaim  against us for breach of the  sublicense  agreement and alleged
damages of no less than $100 million.  With You,  Inc. and Jessica  Simpson also
filed  counterclaims   against  us  alleging  trademark   infringement,   unfair
competition and business practices,  violation of the right of privacy and other
claims,  and seeking injunctive relief and damages in an amount to be determined
but no less than $100 million plus treble and punitive  damages.  By Order filed
January 17, 2007, the Court granted the motion of With You, Inc. and Ms. Simpson
to  discontinue   all  of  Ms.   Simpson's   counterclaims,   and  her  personal
counterclaims were dismissed with prejudice. In November 2007, we entered into a
settlement  agreement with Camuto  Consulting  Group,  Inc., VCJS LLC, With You,
Inc. and Jessica  Simpson with respect to the litigation  regarding our previous
agreement to design,  manufacture  and distribute  Jessica Simpson branded jeans
and casual apparel.  Pursuant to the settlement agreement, the parties agreed to
dismiss with  prejudice all claims  relating to these actions or the  sublicense
agreement and we received a payment of $3 million.

3. BAZAK INTERNATIONAL CORPORATION

Shortly before May 2004, Bazak International  Corp.  commenced an action against
us in the New York  County  Supreme  Court  claiming  that we  breached  an oral
contract to sell a quantity of close-out  goods, as a consequence of which Bazak
was damaged to the extent of $1.3 million.  Bazak  International  Corp.  claimed
that our  liability  exists  under a theory  of  breach  of  contract  or unjust
enrichment.  A non-jury  trial was held in the United States  District Court for
the Southern  District of New York  beginning on November 27, 2006 and ending on
February 1, 2007. On June 12, 2007, the Court  dismissed the case against us. We
settled with Bazak International Corp. for $25,000.

From  time to  time,  we are  involved  in  various  routine  legal  proceedings
incidental to the conduct of our business.  Our management does not believe that
any of these  legal  proceedings  will  have a  material  adverse  impact on our


                                      F-37
<PAGE>


business, financial condition or results of operations, either due to the nature
of the claims,  or because our  management  believes that such claims should not
exceed the limits of the our insurance coverage.

22.      QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

<TABLE>
<CAPTION>
                                                        QUARTER ENDED
                                        ----------------------------------------------
                                         MAR. 31      JUN. 30     SEP. 30      DEC. 31
                                        --------     --------    --------     --------
                                             (In thousands, except per share data)
<S>                                     <C>          <C>         <C>          <C>
2006
Total net sales ....................    $ 61,261     $ 59,083    $ 54,645     $ 57,413
Gross profit .......................      12,519       12,662      11,801       13,660
Operating income (loss) ............       1,646        2,609     (24,719)       3,259
Net income (loss) ..................    $    836     $    611    $(25,352)    $  1,684
Net income (loss) per common share:
   Basic ...........................    $   0.03     $   0.02    $  (0.83)    $   0.05
   Diluted .........................    $   0.03     $   0.02    $  (0.83)    $   0.05
Weighted average shares outstanding:
   Basic ...........................      30,551       30,544      30,544       30,544
   Diluted .........................      30,551       30,544      30,544       30,544

2007
Total net sales ....................    $ 56,107     $ 60,101    $ 70,203     $ 57,310
Gross profit .......................      12,346       12,555      12,948       11,050
Operating income (loss) ............          63        2,529       2,661          (61)
Net income (loss) ..................    $ (1,001)    $    809    $  1,615     $    325
Net income (loss) per common share:
   Basic ...........................    $  (0.03)    $   0.03    $   0.05     $   0.01
   Diluted .........................    $  (0.03)    $   0.03    $   0.05     $   0.01
Weighted average shares outstanding:
   Basic ...........................      30,544       30,544      30,544       30,837
   Diluted .........................      30,544       30,544      30,544       30,837
</TABLE>


                                      F-38
<PAGE>


23.      SUBSEQUENT EVENTS

On February 1, 2008,  Tarrant  Apparel  Group and our  wholly-owned  subsidiary,
Private Brands,  Inc., filed and served a  cross-complaint  against American Rag
Cie,  LLC (the "LLC") and  American  Rag Cie II ("ARC II") in the, in the action
AMERICAN  RAG CIE V.  PRIVATE  BRANDS,  INC.,  Superior  Court  of the  State of
California,  County of Los Angeles,  Central District,  Case No. BC 384428.  The
original action had been filed on January 28, 2008 against Private Brands by the
LLC. The LLC owns the trademark "American Rag Cie", which mark has been licensed
to Private  Brands on an exclusive  basis  throughout the world except for Japan
and pursuant to which Private Brands sells  American Rag Cie branded  apparel to
Macy's  Merchandising  Group and has sub-licensed to Macy's  Merchandising Group
the right to manufacture  certain categories of American Rag Cie branded apparel
in the United States.  The LLC is owned 55% by ARC II and 45% by Tarrant Apparel
Group.  In the original  complaint the LLC seeks a declaratory  judgment that we
have  breached the license  agreement  and that the license  agreement  has been
properly  terminated.  Our  cross-complaint  counters  this  claim,  and seeks a
declaration  that the license  agreement is valid and continues to be in effect.
Additionally,  the cross-complaint seeks relief on a number of causes of action,
including breach of the license agreement, a declaration by the Court imposing a
reasonable term into the agreement for  sublicensing  royalties,  dissolution of
LLC,  damages for breach of  fiduciary  duty,  and an  accounting  of the monies
diverted  by  defendants'  actions.  Based  upon a clause  in the LLC  operating
agreement,  the causes of action asserted in the  cross-complaint  for breach of
fiduciary  duty and an  accounting  are subject to  determination  by a Judicial
Referee, and the parties are currently in the process of selecting one. On March
3, 2008, we dismissed, without prejudice, our claim for dissolution of LLC after
being  notified  that ARC II had  elected  to buy out our  share  in the LLC,  a
permitted  defense to an action for dissolution.  On March 19, 2008, the LLC and
ARC II filed an amended  complaint,  in which they expanded their claims against
us to include  claims for breach of  contract,  fraud,  and breach of  fiduciary
duty,  and seeking  further  declaratory  relief and  compensatory  and punitive
damages. The action is in the early stages of discovery.


                                      F-39
<PAGE>


<TABLE>
                                   SCHEDULE II

                              TARRANT APPAREL GROUP

                        VALUATION AND QUALIFYING ACCOUNTS


<CAPTION>
                                                            ADDITIONS       ADDITIONS
                                           BALANCE AT      CHARGED TO        CHARGED                         BALANCE
                                            BEGINNING       COSTS AND       TO OTHER                          AT END
                                            OF YEAR         EXPENSES        ACCOUNTS       DEDUCTIONS         OF YEAR
                                          ------------    ------------    ------------    ------------     ------------
<S>                                       <C>             <C>             <C>             <C>              <C>
For the year ended December 31, 2005
  Allowance for returns and discounts     $  1,063,321    $    871,208    $       --      $   (949,268)    $    985,261
  Allowance for bad debt .............    $  1,374,544    $    637,210    $       --      $    (45,265)    $  1,966,489
  Inventory reserve ..................    $  1,116,662    $       --      $       --      $ (1,032,836)    $     83,826
                                          ============    ============    ============    ============     ============

For the year ended December 31, 2006
  Allowance for returns and discounts     $    985,261    $  1,189,090    $       --      $   (896,734)    $  1,277,617
  Allowance for bad debt .............    $  1,966,489    $     13,445    $       --      $ (1,180,693)    $    799,241
  Inventory reserve ..................    $     83,826    $    375,000    $       --      $    (83,826)    $    375,000
  Notes receivable - related parties
     reserve .........................    $       --      $ 27,137,297    $       --      $       --       $ 27,137,297
                                          ============    ============    ============    ============     ============

For the year ended December 31, 2007
  Allowance for returns and discounts     $  1,277,617    $    527,838    $       --      $   (861,486)    $    943,969
  Allowance for bad debt .............    $    799,241    $    243,561    $       --      $     (9,495)    $  1,033,307
  Inventory reserve ..................    $    375,000    $    550,000    $       --      $       --       $    925,000
  Notes receivable - related parties
     reserve .........................    $ 27,137,297    $       --      $       --      $(27,137,297)    $       --
                                          ============    ============    ============    ============     ============
</TABLE>


                                      F-40
<PAGE>


                                   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.

                                           TARRANT APPAREL GROUP

                                     By:           /S/ GERARD GUEZ
                                           -------------------------------
                                                     Gerard Guez
                                           Interim Chief Executive Officer

                                POWER OF ATTORNEY

         The  undersigned  directors  and officers of Tarrant  Apparel  Group do
hereby  constitute  and appoint  Gerard Guez and Patrick Chow, and each of them,
with full power of  substitution  and  resubstitution,  as their true and lawful
attorneys  and agents,  to do any and all acts and things in our name and behalf
in our  capacities  as  directors  and  officers  and to  execute  any  and  all
instruments  for us and in our names in the capacities  indicated  below,  which
said  attorney  and  agent,  may deem  necessary  or  advisable  to enable  said
corporation to comply with the  Securities  Exchange Act of 1934, as amended and
any  rules,   regulations  and  requirements  of  the  Securities  and  Exchange
Commission,  in  connection  with this  Annual  Report on Form  10-K,  including
specifically but without  limitation,  power and authority to sign for us or any
of us in our names in the  capacities  indicated  below,  any and all amendments
(including  post-effective  amendments)  hereto,  and we do  hereby  ratify  and
confirm all that said attorneys and agents, or either of them, shall do or cause
to be done by virtue hereof.

         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.

         SIGNATURE                         TITLE                       DATE
         ---------                         -----                       ----

                               Chairman of the Board of           March 28, 2008
     /S/ GERARD GUEZ           Directors and Interim Chief
-------------------------      Executive Officer (Principal
       Gerard Guez             Executive Officer)

      /S/ TODD KAY             Vice Chairman of the Board         March 28, 2008
-------------------------      of Directors
        Todd Kay

    /S/ PATRICK CHOW           Chief Financial Officer and        March 28, 2008
-------------------------      Director (Principal Financial
      Patrick Chow             and Accounting Officer)

   /S/ MILTON KOFFMAN          Director                           March 28, 2008
-------------------------
     Milton Koffman

  /S/ STEPHANE FAROUZE         Director                           March 28, 2008
-------------------------
    Stephane Farouze

   /S/ MITCHELL SIMBAL         Director                           March 28, 2008
-------------------------
     Mitchell Simbal

   /S/ JOSEPH MIZRACHI         Director                           March 28, 2008
-------------------------
     Joseph Mizrachi

     /S/ SIMON MANI            Director                           March 28, 2008
-------------------------
       Simon Mani


                                      S-1
<PAGE>


                              TARRANT APPAREL GROUP

                                  EXHIBIT INDEX

EXHIBIT
NUMBER                                 DESCRIPTION
-------      -------------------------------------------------------------------

2.1+         Stock and Asset Purchase  Agreement,  dated December 6, 2006, among
             Tarrant  Apparel Group,  4366883 Canada Inc.,  3681441 Canada Inc.,
             Buffalo Inc.,  3163946 Canada Inc.,  Buffalo  Corporation,  Buffalo
             International  Inc.,  4183517 Canada Inc.,  3975912 Canada Inc. and
             The Buffalo  Trust.  (Incorporated  by reference  to the  Company's
             Current Report on Form 8-K filed on December 12, 2006.)

2.1.1        Amendment No. 1 to Stock and Asset Purchase Agreement,  dated March
             20, 2007, by and among Tarrant Apparel Group,  4366883 Canada Inc.,
             3681441 Canada Inc.,  Buffalo Inc.,  3163946  Canada Inc.,  Buffalo
             Corporation,  BFL  Management  Inc.  in its  capacity  as the  sole
             trustee  of The  Buffalo  Trust  and  each  stockholder  of  Target
             Companies.  (Incorporated  by reference to the Company's  Quarterly
             Report on Form 10-Q for the quarter ended March 31, 2007.)

2.1.2        Mutual Termination and Release Agreement,  dated April 19, 2007, by
             and among  Tarrant  Apparel  Group,  4366883  Canada Inc.,  3681441
             Canada  Inc.,   Buffalo   Inc.,   3163946   Canada  Inc.,   Buffalo
             Corporation,  BFL  Management  Inc.  in its  capacity  as the  sole
             trustee  of The  Buffalo  Trust  and  each  stockholder  of  Target
             Companies.  (Incorporated  by  reference  to  Exhibit  2.1  to  the
             Company's Current Report on Form 8-K filed on April 20, 2007.)

3.1          Restated Articles of  Incorporation.  (Incorporated by reference to
             the  Company's  Registration  Statement on Form S-1 filed on May 4,
             1995 (File No. 33-91874).)

3.1.1        Certificate  of  Amendment of Restated  Articles of  Incorporation.
             (Incorporated  by reference to the  Company's  Quarterly  Report on
             Form 10-Q for the quarter ending June 30, 2002.)

3.1.2        Certificate  of  Amendment of Restated  Articles of  Incorporation.
             (Incorporated  by reference to the  Company's  Quarterly  Report on
             Form 10-Q for the quarter ending June 30, 2002.)

3.1.3        Certificate  of  Amendment of Restated  Articles of  Incorporation.
             (Incorporated by reference to the Company's  Current Report on Form
             8-K dated December 4, 2003.)

3.2          Restated  Bylaws.  (Incorporated  by  reference  to  the  Company's
             Registration  Statement  on Form S-1 filed on May 4, 1995 (File No.
             33-91874).)

3.2.1        Amendment to Restated Bylaws of Tarrant Apparel Group, dated August
             9, 2007. (Incorporated by reference to the Company's Current Report
             on Form 8-K filed on August 10, 2007.)

4.1          Specimen of Common Stock Certificate. (Incorporated by reference to
             Amendment No. 1 to Registration Statement on Form S-1 filed on July
             15, 1995.)

4.2          Rights  Agreement  dated as of November 21, 2003,  between  Tarrant
             Apparel Group and  Computershare  Trust  Company,  as Rights Agent,
             including the Form of Rights  Certificate and the Summary of Rights
             to Purchase Preferred Stock,  attached thereto as Exhibits B and C,
             respectively.  (Incorporated by reference to the Company's  Current
             Report on Form 8-K dated November 12, 2003.)

4.3          Certificate of Determination of Preferences, Rights and Limitations
             of Series B Preferred  Stock.  (Incorporated  by  reference  to the
             Company's Amendment to Current Report on Form 8-K/A, filed December
             12, 2003.)


                                      EX-1
<PAGE>


EXHIBIT
NUMBER                                 DESCRIPTION
-------      -------------------------------------------------------------------

10.1*        Tarrant  Apparel Group Employee  Incentive Plan.  (Incorporated  by
             reference to the  Company's  Quarterly  Report on Form 10-Q for the
             quarter ending June 30, 2004.)

10.2         Indemnification  Agreement dated as of March 14, 1995, by and among
             Tarrant Apparel Group,  Gerard Guez and Todd Kay.  (Incorporated by
             reference to Amendment No. 1 to Registration  Statement on Form S-1
             filed on July 15, 1995.)

10.3         Form  of  Indemnification  Agreement  with  directors  and  certain
             executive  officers.  (Incorporated  by reference to the  Company's
             Quarterly Report on Form 10-Q for the quarter ended June 30, 1997.)

10.4         Exclusive  Distribution  Agreement  dated  April 1,  2003,  between
             Federated   Merchandising  Group,  an  unincorporated  division  of
             Federated Department Stores, and Private Brands, Inc. (Incorporated
             by reference to the Company's Quarterly Report on Form 10-Q for the
             quarter ending March 31, 2003.)

10.4.1       Amendment  No. 1 to Exclusive  Distribution  Agreement  dated as of
             June  22,  2004,   between   Federated   Merchandising   Group,  an
             unincorporated division of Federated Department Stores, and Private
             Brands, Inc.  (Incorporated by reference to the Company's Quarterly
             Report on Form 10-Q for the quarter ending June 30, 2004.)

10.4.2       Amendment  No. 2 to Exclusive  Distribution  Agreement  dated as of
             March 7, 2005, between Macy's  Merchandising Group, LLC and Private
             Brands, Inc.  (Incorporated by reference to the Company's Quarterly
             Report on Form 10-Q for the quarter ending March 31, 2005.)

10.4.3       Trademark  Sublicense  Agreement dated as of March 3, 2005, between
             Macy's   Merchandising   Group,   LLC  and  Private  Brands,   Inc.
             (Incorporated  by reference to the  Company's  Quarterly  Report on
             Form 10-Q for the quarter ending March 31, 2005.)

10.5         Unconditional  Guaranty  of  Performance  dated  April 1, 2003,  by
             Tarrant Apparel Group.  (Incorporated by reference to the Company's
             Quarterly  Report on Form  10-Q for the  quarter  ending  March 31,
             2003.)

10.6         Promissory  Note dated May 31, 2003 made by Gerard Guez in favor of
             Tarrant Apparel Group.  (Incorporated by reference to the Company's
             Quarterly  Report  on Form  10-Q for the  quarter  ending  June 30,
             2003.)

10.7        Indemnification  Agreement  dated  April 10, 2003  between  Tarrant
             Apparel Group and Seven Licensing  Company,  LLC.  (Incorporated by
             reference to the  Company's  Quarterly  Report on Form 10-Q for the
             quarter ending June 30, 2003.)

10.8         Common  Stock  Purchase  Warrant  dated  October 17,  2003,  by and
             between  Tarrant  Apparel  Group and  Sanders  Morris  Harris  Inc.
             (Incorporated by reference to the Company's  Current Report on Form
             8-K dated October 16, 2003.)

10.9*        Employment  Agreement,  dated  September 16, 2005,  between Tarrant
             Company  Limited and Henry Chu.  (Incorporated  by reference to the
             Company's  Quarterly  Report  on Form 10-Q for the  quarter  ending
             September 30, 2005.)

10.10        Common  Stock  Purchase  Warrant  dated  January 26,  2004  between
             Tarrant Apparel Group and Sanders Morris Harris Inc.  (Incorporated
             by  reference  to the  Company's  Current  Report on Form 8-K dated
             January 23, 2004.)

10.11        Common Stock  Purchase  Warrant  dated  December 14, 2004 issued by
             Tarrant  Apparel  Group in favor of T.R.  Winston &  Company,  LLC.
             (Incorporated by reference to the Company's  Current Report on Form
             8-K dated December 14, 2004.)


                                      EX-2
<PAGE>


EXHIBIT
NUMBER                                 DESCRIPTION
-------      -------------------------------------------------------------------

10.12        Form of Common Stock Purchase  Warrant.  (Incorporated by reference
             to the  Company's  Current  Report on Form 8-K dated  December  14,
             2004.)

10.13        Debenture,  dated  June  9,  2006,  by and  among  Tarrant  Company
             Limited,  Trade Link  Holdings  Limited and Marble  Limited and DBS
             Bank  (Hong  Kong)  Limited.  (Incorporated  by  reference  to  the
             Company's Quarterly Report on Form 10-Q for the quarter ending June
             30, 2006.)

10.14        Form of Guaranty and Indemnity of Tarrant Apparel Group in favor of
             DBS Bank (Hong Kong)  Limited.  (Incorporated  by  reference to the
             Company's Quarterly Report on Form 10-Q for the quarter ending June
             30, 2006.)

10.15        Loan and Security Agreement, dated June 16, 2006, by and among GMAC
             Commercial  Finance LLC,  the Lenders  signatory  thereto,  Tarrant
             Apparel Group,  Fashion Resource (TCL), Inc., Tag Mex, Inc., United
             Apparel  Ventures,  LLC, Private Brands,  Inc., and NO! Jeans, Inc.
             (Incorporated  by reference to the  Company's  Quarterly  Report on
             Form 10-Q for the quarter ending June 30, 2006.)

10.15.1      Consent and Amendment No. 1 to Agreements, dated February 22, 2007,
             by and among GMAC  Commercial  Finance LLC,  the Lenders  signatory
             thereto,  Tarrant Apparel Group,  Fashion Resource (TCL), Inc., Tag
             Mex, Inc., United Apparel Ventures,  LLC, Private Brands, Inc., and
             NO!  Jeans,  Inc.  (Incorporated  by  reference  to  the  Company's
             Quarterly  Report on Form  10-Q for the  quarter  ending  March 31,
             2007.)

10.15.2      Amendment No. 2 to Loan and Security Agreement,  dated May 9, 2007,
             by and among GMAC  Commercial  Finance LLC,  the Lenders  signatory
             thereto,  Tarrant Apparel Group,  Fashion Resource (TCL), Inc., Tag
             Mex, Inc., and Private Brands,  Inc.  (Incorporated by reference to
             the Company's  Quarterly Report on Form 10-Q for the quarter ending
             June 30, 2007.)

10.15.3      Amendment No. 3 to Loan and Security  Agreement,  dated November 2,
             2007,  by and  among  GMAC  Commercial  Finance  LLC,  the  Lenders
             signatory thereto,  Tarrant Apparel Group,  Fashion Resource (TCL),
             Inc., Tag Mex, Inc., and Private Brands, Inc..

10.16        Amended and Restated Factoring Agreement, dated June 16, 2006, GMAC
             Commercial Finance LLC and Tarrant Apparel Group,  Fashion Resource
             (TCL),  Inc., Tag Mex, Inc., United Apparel Ventures,  LLC, Private
             Brands, Inc., and NO! Jeans, Inc. (Incorporated by reference to the
             Company's Quarterly Report on Form 10-Q for the quarter ending June
             30, 2006.)

10.17        Credit Agreement, dated June 16, 2006, by and among Tarrant Apparel
             Group,  Fashion Resource (TCL), Inc., Tag Mex, Inc., United Apparel
             Ventures,  LLC,  Private  Brands,  Inc. and NO!  Jeans,  Inc.,  the
             Guarantors  a  party  thereto,  the  Lenders  a party  thereto  and
             Guggenheim  Corporate Funding,  LLC.  (Incorporated by reference to
             the Company's  Quarterly Report on Form 10-Q for the quarter ending
             June 30, 2006.)

10.17.1      Amendment  No. 1 to Credit  Agreement,  dated July 5, 2006,  by and
             among Tarrant Apparel Group, Fashion Resource (TCL), Inc., Tag Mex,
             Inc.,  United Apparel Ventures,  LLC, Private Brands,  Inc. and NO!
             Jeans,  Inc., the  Guarantors a party thereto,  the Lenders a party
             thereto and Guggenheim  Corporate  Funding,  LLC.  (Incorporated by
             reference to the  Company's  Quarterly  Report on Form 10-Q for the
             quarter ending September 30, 2006.)

10.18        Security  Agreement,  dated  June 16,  2006,  by and among  Tarrant
             Apparel Group,  the other Credit  Parties and Guggenheim  Corporate
             Funding, LLC. (Incorporated by reference to the Company's Quarterly
             Report on Form 10-Q for the quarter ending June 30, 2006.)

10.19        Pledge Agreement, dated June 16, 2006, by and among Tarrant Apparel
             Group,  the other Pledgors  party thereto and Guggenheim  Corporate
             Funding, LLC. (Incorporated by reference to the Company's Quarterly
             Report on Form 10-Q for the quarter ending June 30, 2006.)


                                      EX-3
<PAGE>

EXHIBIT
NUMBER                                 DESCRIPTION
-------      -------------------------------------------------------------------

10.20        Warrants  Purchase  Agreement  dated  June 16,  2006,  by and among
             Tarrant  Apparel  Group,  Orpheus  Holdings,  LLC,  North  American
             Company  for Life  and  Health  Insurance,  Midland  National  Life
             Insurance Company and Durham Capital Corporation.  (Incorporated by
             reference to the Company's Registration Statement on Form S-3 filed
             on August 10, 2006.)

10.21        Registration  Rights  Agreement,  dated as of June 16, 2006, by and
             among Tarrant Apparel Group, Orpheus Holdings,  LLC, North American
             Company  for Life  and  Health  Insurance,  Midland  National  Life
             Insurance Company and Durham Capital Corporation.  (Incorporated by
             reference to the Company's Registration Statement on Form S-3 filed
             on August 10, 2006.)

10.22        Form of Warrants to Purchase  Common  Stock  issued June 16,  2006.
             (Incorporated by reference to the Company's  Registration Statement
             on Form S-3 filed on August 10, 2006.)

10.23        Warrant  dated June 16, 2006,  issued by the  Registrant  to Durham
             Capital  Corporation.  (Incorporated  by reference to the Company's
             Registration Statement on Form S-3 filed on August 10, 2006.)

10.24*       Tarrant Apparel Group 2006 Stock Incentive Plan.  (Incorporated  by
             reference to the  Company's  Quarterly  Report on Form 10-Q for the
             quarter ending June 30, 2006.)

10.25        Commercial  Lease,  dated August 1, 2006,  between  Tarrant Apparel
             Group  and  GET.   (Incorporated  by  reference  to  the  Company's
             Quarterly  Report  on Form  10-Q for the  quarter  ending  June 30,
             2006.)

10.26        Tenancy Agreement,  dated February 1, 2007, between Tarrant Company
             Limited and Lynx International Limited.  (Incorporated by reference
             to Exhibit  10.30 to the  Company's  Annual Report on Form 10-K for
             the year ended December 31, 2006.)

10.27        Letter  Agreement,  dated March 21, 2007, among Tarrant  Luxembourg
             S.a.r.l.,  Solticio,  S.A. de C.V.,  Inmobiliaria  Cuadros, S.A. de
             C.V.  ,  Acabados  y Cortes  Textiles,  S.A.  de.  C.V.,  and Tavex
             Algodonera,  S.A.  (Incorporated  by  reference  to  the  Company's
             Quarterly  Report on Form  10-Q for the  quarter  ending  March 31,
             2007.)

10.27.1      Amendment, dated July 19, 2007, to Letter Agreement dated March 21,
             2007, among Tarrant Luxembourg  S.a.r.l.,  Solticio,  S.A. de C.V.,
             Inmobiliaria  Cuadros,  S.A. de C.V. , Acabados y Cortes  Textiles,
             S.A.  de.  C.V.,  and  Tavex  Algodonera,   S.A.  (Incorporated  by
             reference to the  Company's  Quarterly  Report on Form 10-Q for the
             quarter ending September 30, 2007.)

14.1         Code  of  Ethical  Conduct.   (Incorporated  by  reference  to  the
             Company's  Annual Report on Form 10-K for year ending  December 31,
             2003.)

21.1         Subsidiaries.

23.1         Consent of Singer Lewak Greenbaum & Goldstein LLP.

31.1         Certificate of Chief Executive  Officer  pursuant to Rule 13a-14(a)
             under the Securities and Exchange Act of 1934, as amended.

31.2         Certificate of Chief Financial  Officer  pursuant to Rule 13a-14(a)
             under the Securities and Exchange Act of 1934, as amended.

32.1         Certificate of Chief Executive  Officer  pursuant to Rule 13a-14(b)
             under the Securities and Exchange Act of 1934, as amended.

32.2         Certificate of Chief Financial  Officer  pursuant to Rule 13a-14(b)
             under the Securities and Exchange Act of 1934, as amended.

-------------------
   *  Management contract or compensatory plan or arrangement.

   +  Schedules  and exhibits  have been  omitted  from the  exhibit.  A list of
      omitted  schedules  and exhibits is set forth  immediately  following  the
      table  of  contents  of  the  exhibit.  Copies  will  be  provided  to the
      Securities and Exchange Commission upon request.


                                      EX-4