# 

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

# FORM        10-K/A

# Amendment No.        2

|   | [X] | ANNUAL REPORT                PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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For the fiscal year        ended December 31, 2006

or

|   | [_] | TRANSITION                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF                1934 |
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For the transition        period from ______ to _______

Commission File        Number: 0-26006

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

| **California**                (State or other jurisdiction                of incorporation or organization) | **95-4181026**                (I.R.S. Employer                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**                Common Stock | **NAME OF                EACH EXCHANGE ON WHICH REGISTERED**                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. See definition of “accelerated filer and large accelerated        filer” in Rule 12b-2 of the Exchange Act.   Large accelerated filer [_]           Accelerated filer [_]    Non-accelerated filer        [X]

        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 $34,264,994 based upon the closing price of the Common Stock on June 30,        2006.

        Number        of shares of Common Stock of the Registrant outstanding as of March 23, 2007:        30,543,763.

# DOCUMENTS        INCORPORATED BY REFERENCE

        None.

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# EXPLANATORY        NOTE

        We        are filing this Amendment No. 2 to Annual Report on Form 10-K/A for the year ended December        31, 2006 (the “Amendment”), to amend our Annual Report on Form 10-K for the        year ended December 31, 2006, which was originally filed with the Securities and Exchange        Commission (the “SEC”) on March 27, 2007, and amended by Amendment No. 1 to        Annual Report on Form 10-K/A filed with the SEC on April 30, 2007 (as amended, the        “Original Annual Report”). The Company is filing this Amendment in response to        comments received from the SEC. The following Items amend the Original Annual Report, as        permitted by the rules and regulations of the SEC.

        Except        as described above, no other changes have been made to the Original Annual Report. This        Amendment continues to speak as of the date of the Original Annual Report, and we have not        updated the disclosures contained therein to reflect any events which occurred at a date        subsequent to the filing of the Original Annual Report. Accordingly, this Amendment should        be read in conjunction with the Original Annual Report.

        As        a result of these amendments, we are also filing as exhibits to this Amendment the        certifications pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. Because no        financial statements are contained within this Amendment, we are not including        certifications pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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# PART II

**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,        2004, 2005 and 2006. 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        and Alain Weiz.

        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, 2004, 2005 and 2006 were as        follows (dollars in thousands):

| REVENUES AND NET INCOME (LOSS):  | 2004   | 2005   | 2006 |
|----------------------------------|--------|--------|------|
| Net                sales         |   |   | $    | 155,453 |   | $ | 214,648 |   | $ | 232,402 |   |
| Net income                (loss) |   |   | $    | (104,677 | ) | $ | 993 |   | $ | (22,221 | ) |

        Cash        flows for the years ended December 31, 2004, 2005 and 2006 were as follows (dollars in        thousands):

| CASH FLOWS:                                                        | 2004   | 2005   | 2006 |
|--------------------------------------------------------------------|--------|--------|------|
| Net cash                provided by (used in) operating activities |   |   | $    | 12,168 |   | $ | (12,900 | ) | $ | 15,047 |   |
| Net cash provided by (used                in) investing activities |   |   | $    | 1,250 |   | $ | 3,555 |   | $ | (5,071 | ) |
| Net cash provided by (used                in) financing activities |   |   | $    | (15,552 | ) | $ | 9,772 |   | $ | (10,713 | ) |

# Significant        Developments in 2006

*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.

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        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. The consideration for the stock and assets to be purchased by us under        the Purchase Agreement will consist of:

|   | o | $40,000,000 in                cash, subject to reduction prior to closing; |
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|   | o | $15,000,000 in                promissory notes that are due and payable in five equal annual installments                beginning on the second anniversary of the closing date; |
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|   | o | The issuance to                the sellers of 13,000,000 exchangeable shares of our Canadian subsidiary, which                shares will be exchangeable by the holders into shares of our common stock on a                1-to-1 basis; |
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|   | o | The issuance by                us to a trustee of shares of our Series A Special Voting Preferred Stock that will                entitle the sellers to direct the trustee to vote a number of shares equal to the                number of exchangeable shares of our Canadian subsidiary that remain outstanding                from time to time on all matters on which our shareholders are entitled to                vote; |
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|   | o | Assumption of                debt of the entities being acquired by us; and |
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|   | o | Earn-out                payments of up to $12,000,000 in the aggregate over a four year period, contingent                upon achievement by the acquired business of specified earnings targets in years                2007 through 2010. |
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        In        addition, we may be required to make a contingent cash payment following the fifth        anniversary of the closing if the average price of our common stock does not equal or        exceed $3.076 within any 10 trading days during the five year period following the closing        of the purchase transaction.

        At        signing of the Purchase Agreement, we delivered $5,000,000 to the sellers as a deposit        against the purchase price payable under the agreement. Upon closing, this deposit will be        used to pay a portion of the consideration payment and will reduce the amount of cash        delivered at closing. Under certain conditions specified under the agreement, if we or the        Buffalo Group terminate the agreement prior to closing, the $5.0 million deposit may or may        not be refundable to us.

        Pursuant        to the Purchase Agreement, at the closing we will enter into employment agreements with        each of Gabriel Bitton, Gilbert Bitton, David Bitton, Charles Bitton and Michel Bitton        pursuant to which they will serve as senior executives of the acquired business, and we        have agreed to issue options to purchase an aggregate of 2,000,000 shares of our common        stock to the Bittons. Gabriel Bitton will continue to serve as Chief Executive Officer of        the acquired business following closing and will be appointed to our Board of Directors. A        second nominee of the sellers reasonably acceptable to us will also be nominated to serve        on our Board of Directors upon completion of the transaction.

        The        completion of the transaction is subject to the satisfaction of a number of conditions as        set forth in the Purchase Agreement, including among others, the approval of the        acquisition and related transactions by our shareholders, our obtaining the necessary        financing to complete the acquisition, obtaining certain third party consents, and other        customary closing conditions. Dates for closing the acquisition and for our        shareholders’ meeting to vote on the acquisition have not yet been determined. The        Purchase Agreement may be terminated under certain conditions, including by mutual written        consent of the parties, by either party in the event of a material breach by the other        party, or by either party if the closing does not occur by April 30, 2007.

        There        are no material relationships between us and The Buffalo Group, other than in respect of        the Purchase Agreement.

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        The        Buffalo Group transaction is part of our strategy to grow and diversify our business. We        believe its benefits to us will include:

|   | o | Expanding our                operations by adding additional proprietary brands and products to compete more                effectively; |
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|   | o | Expanding the                scope, scale and strength of our operations by expanding its marketing, sales and                distribution capabilities; |
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|   | o | Enhancing our                capabilities to compete in Canada, the United States and other markets; and utilize                The Buffalo Group’s existing sales and marketing infrastructure as a platform                for expanding sales of our apparel products; and |
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|   | o | Providing                opportunities for us to penetrate new markets and expand our share in existing                markets. |
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        The        Buffalo Group was started in 1985 as the distributor of Buffalo branded products in Canada.        Initially, the Buffalo brand was a denim line, but it has been expanded over time. In 1993,        The Buffalo Group widened its customer base by adding U.S. retailers. In 2000, The Buffalo        Group started a private label business for retailers in Canada and the U.S. In 1996,        Buffalo opened its first retail store in Canada. Currently it operates 45 retail stores in        Canada. Over this time Buffalo has added additional brand names to its line. It has also        developed a licensing program for the Buffalo brand for the sale of apparel-related        products in Canada, and the sale of apparel products in foreign countries.

*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 2006 were $181.2 million compared to $159.6 million in 2005.

*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 2006 were $51.2        million compared to $55.0 million in 2005. During 2006, 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 $34.4 million in 2006 compared to                $21.8 million in 2005. |
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|   | o | *Alain                Weiz*: We have previously sold Alan Weiz apparel exclusively to Dillard’s                Department Stores. Net sales of Alain Weiz branded apparel totaled $5.5 million in                2006 compared to $5.3 million in 2005. From January 1, 2007, we may sell our                licensed brand “Alain Weiz” to specialty stores and department                stores. |
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|   | o | *Souvenir by                Cynthia Rowley*: 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. |
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|   | o | *Gear 7*:                During the fourth quarter of 2005, K-Mart discontinued sales of Gear 7 products,                which resulted in a decline in sales for this brand in the fourth quarter of 2005.                Net sales of Gear 7 branded apparel totaled $14.4 million in 2005. We did not have                any sales of Gear 7 branded apparel in 2006. |
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|   | o | *Jessica                Simpson* brands: The JS by Jessica Simpson brand was originally launched as a                denim line with Charming Shoppes. Net sales of JS by Jessica Simpson and Princy by                Jessica Simpson, which is the department store and better specialty store brand,                totaled $8.9 million in 2006 compared to $12.6 million in 2005. 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 are presently in litigation with this                licensor. Accordingly, we did not have any sales of Jessica Simpson branded apparel                after the first quarter of 2006 and do not anticipate any sales unless and until we                are able to successfully resolve our dispute and retain our rights to these                brands. |
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|   | o | *House of                Dereon by Tina Knowles:* We began shipping products for the House of Dereon by                Tina Knowles brand in the fourth quarter of 2005, resulting in net sales of                $309,000 in 2005. In March 2006, we terminated our license agreement for this                brand, and sold our remaining inventory to the licensor or its designee. Prior to                December 31, 2005, we had written off the capitalized balance of $1.2 million                related to the agreement and recognized a corresponding loss in 2005. Net sales of                House of Dereon by Tina Knowles branded apparel totaled $2.2 million in 2006 which                included $1.5 million of sales of inventory to a designee of the licensor. |
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*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 issued us unsecured promissory notes of $3,910,000 that mature on        November 30, 2007 and secured promissory notes of $40,204,000 that mature on December 31,        2014 and are payable in partial or total amounts anytime prior to the maturity of each        note. The secured notes are 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 were $41.1 million prior to the reserve. Historically, we have 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 have        satisfied our payment obligations for the fabric by offsetting the amounts payable against        the amounts due to us under the notes. However, during 2006, the purchasers ceased        providing fabric and are not currently 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 in the fourth quarter of 2006. We will continue to pursue payment of all        amounts under the notes receivable and believe the remaining $14 million balance at        December 31, 2006 is realizable. The entire reserve was recorded in the Luxembourg        geographic reporting segment.

*Credit Facility        Refinancing*

        In        June 2006, we entered into a new $65 million credit facility with Guggenheim Corporate        Funding, LLC (as agent for certain lenders) and expanded our existing facilities with GMAC        Commercial Finance Credit, LLC and DBS Bank (Hong Kong) Limited. The credit facility with        Guggenheim consists of an initial term loan of $25 million, of which $15.5 million was        advanced at the initial closing. The initial term loan was or will be used to repay certain        existing indebtedness and fund general operating and working capital needs. A second term        loan of up to $40 million will be available to finance acquisitions acceptable to        Guggenheim as agent. In addition, in June 2006, our credit facility with GMAC Commercial        Finance Credit, LLC and other lenders was increased from $45 million to $55 million, and        our credit facility with DBS Bank (Hong Kong) Limited was increased from $4.5 million to        $25 million. These financings significantly expand our borrowing base, which provides us        with enhanced financial flexibility.

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*Internal Revenue        Service Audit*

        In        January 2004, the Internal Revenue Service completed its examination of our Federal income        tax returns for the years ended December 31, 1996 through 2001. The IRS has 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 March 2005, the IRS proposed an adjustment to our        taxable income of approximately $9 million related to similar issues identified in their        audit of the 1996 through 2001 federal income tax returns. The proposed adjustments to our        2002 federal income tax return would not result in additional tax due for that year due to        the tax loss reported in the 2002 federal return. However, it could reduce the amount of        net operating losses available to offset taxes due from the preceding tax years. This        adjustment would also result in additional state taxes, penalties and interest. We believe        that we have meritorious defenses to and intend to vigorously contest the proposed        adjustments made to our federal income tax returns for the years ended 1996 through 2002.        If the proposed adjustments are upheld through the administrative and legal process, they        could have a material impact on our earnings and cash flow. We believe we have provided        adequate reserves for any reasonably foreseeable outcome related to these matters on the        consolidated balance sheets under the caption “Income Taxes”. The maximum        amount of loss in excess of the amount accrued in the financial statements is $8.3 million.        We do not believe that the adjustments, if any, arising from the IRS examination, will        result in an additional income tax liability beyond what is recorded in the accompanying        consolidated balance sheets.

# 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        accounting principles generally accepted 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 cannot be determined with certainty. On        an ongoing basis, we evaluate estimates, including those related to returns, discounts, bad        debts, inventory, notes receivable – related parties reserve, intangible assets,        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,        management is periodically faced with uncertainties, the outcomes of which are not within        its control and will not be known for prolonged period of time.

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        We        believe our financial statements are fairly stated in accordance with accounting principles        generally accepted 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, 2006, the balance in the allowance for returns, discounts and bad debts        reserves was $2.1 million, compared to $3.0 million at December 31, 2005.

*Inventory*

        Our        inventories are valued at the lower of cost 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        assess the impairment of identifiable intangibles, long-lived assets and goodwill whenever        events or changes in circumstances indicate that the carrying value may not be recoverable.        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; |
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|   | o | a significant                change in the manner of the use of the acquired asset or the strategy for the                overall business; or |
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|   | o | a significant                negative industry or economic trend. |
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        Effective        January 1, 2002, we adopted Statement of Financial Accounting Standards        (“SFAS”) No. 142, “Goodwill and Other Intangible Assets.” According        to this statement, goodwill and other intangible assets with indefinite lives are no longer        subject to amortization, but rather an annual assessment of impairment applied on 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.

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        We        utilized the discounted cash flow methodology to estimate fair value. At December 31, 2006,        we have a goodwill balance of $8.6 million, and a net property and equipment balance of        $1.4 million, as compared to a goodwill balance of $8.6 million and a net property and        equipment balance of $1.7 million at December 31, 2005. During the years ended December 31,        2005 and 2006, we did not recognize any impairment related to goodwill and property and        equipment.

        We        assess the carrying value of long-lived assets in accordance with SFAS No. 144,        “Accounting for the Impairment or Disposal of Long-Lived Assets.” In 2004, we        evaluated the long-lived assets in Mexico for recoverability and concluded that the book        value of the asset group was significantly higher than the expected future cash flows and        that impairment had occurred. Accordingly, we recognized a non-cash impairment loss of        approximately $78 million in the second quarter of 2004. The impairment charge was the        difference between the carrying value and fair value of the impaired assets. Our        determination of fair value was determined based on independent appraisals of the property        and equipment obtained in June 2004.

*Foreign Currency        Translation*

        Assets        and liabilities of our Mexico and 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 respective periods. The functional currency        in which we transact business in Hong Kong is the Hong Kong dollar and in Mexico is the        peso. 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 the year.

        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.

*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 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,” 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 (“ABP”) 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).

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        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 year ended December 31, 2006        reflect the impact of SFAS 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 year ended December 31, 2006 was $187,000. 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.

        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 2004, 2005 and 2006:        weighted-average volatility factors of the expected market price of our common stock of        0.51 to 0.55 for 2004, 0.55 for 2005 and 0.7 for 2006, weighted-average risk-free interest        rates of 3% to 4% for 2004, 4% for 2005 and 5.075% for 2006, dividend yield of 0% for 2004,        2005 and 2006, and weighted-average expected life of the options of 4 years for 2004, 2005        and 6.25 years for 2006.

*Income        Taxes*

        As        part of the process of preparing our consolidated financial statements, management is        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. Management records a valuation allowance to reduce its        deferred tax assets to the amount that is more likely than not to be realized. Management        has 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.

*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 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, 2006, we were in        violation of the EBITDA, tangible net worth and leverage ratio covenants and waivers of the        defaults were obtained in March 2007 from our lenders.

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*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-Merton Option Pricing        Formula (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 adjustments to fair value of        derivatives. 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 10 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 consist 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 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 adjustments to fair        value of derivatives. There were no exchange contracts at December 31, 2005. 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 which has a maturity of less than one year. Hedge ineffectiveness        resulted in an impact of $196,000 in our consolidated statements of operations as of        December 31, 2006

# 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.”

9

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# 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, |
|----------------------------------------------------------------|--------------------------|
||
| Net                sales                                       |                     |   |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |
| Cost of sales                                                  |                     |   |   | 86.5 |   |   | 79.1 |   |   | 78.2 |   |
|                                                                |                          |  |  |  |  |  |
| Gross profit                                                   |                     |   |   | 13.5 |   |   | 20.9 |   |   | 21.8 |   |
| Selling and distribution                expenses               |                     |   |   | 6.0 |   |   | 5.0 |   |   | 4.7 |   |
| General and administration                expenses             |                     |   |   | 20.6 |   |   | 12.5 |   |   | 11.6 |   |
| Royalty expenses                                               |                     |   |   | 0.4 |   |   | 1.7 |   |   | 1.2 |   |
| Loss on notes                receivable-related parties        |                     |   |   | -- |   |   | -- |   |   | 11.7 |   |
| Impairment                charges                              |                     |   |   | 50.2 |   |   | -- |   |   | -- |   |
| Cumulative translation                loss                     |                     |   |   | 14.7 |   |   | -- |   |   | -- |   |
|                                                                |                          |  |  |  |  |  |
| Income (loss) from                operations                   |                     |   |   | (78.4 | ) |   | 1.7 |   |   | (7.4 | ) |
| Interest expense                                               |                     |   |   | (1.8 | ) |   | (2.2 | ) |   | (2.6 | ) |
| Interest income                                                |                     |   |   | 0.2 |   |   | 1.0 |   |   | 0.5 |   |
| Minority                interest                               |                     |   |   | 9.9 |   |   | 0.0 |   |   | 0.0 |   |
| Interest in income of equity                method investee    |                     |   |   | 0.5 |   |   | 0.3 |   |   | 0.0 |   |
| Other income                                                   |                     |   |   | 4.1 |   |   | 0.1 |   |   | 0.2 |   |
| Adjustment to fair value of                derivative          |                     |   |   | 0.0 |   |   | 0.0 |   |   | 0.1 |   |
| Other expense                                                  |                     |   |   | (0.3 | ) |   | (0.0 | ) |   | (0.2 | ) |
|                                                                |                          |  |  |  |  |  |
| Income (loss) before                provision for income taxes |                     |   |   | (65.8 | ) |   | 0.9 |   |   | (9.4 | ) |
| Provision for income                taxes                      |                     |   |   | (1.5 | ) |   | (0.4 | ) |   | (0.2 | ) |
|                                                                |                          |  |  |  |  |  |
| Net Income                (loss)                               |                     |   |   | (67.3 | )% |   | 0.5 | % |   | (9.6 | )% |
|                                                                |                          |  |  |  |  |  |

*Comparison of 2006        to 2005*

        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 net sales was primarily due to increased sales of the private label        business, which was $181.2 million in 2006 compared to $159.6 million in 2005, with the        increase in 2006 resulting primarily from higher sales to Mothers Work and Charlotte Russe        which is a new customer. Private brands sales in 2006 was $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 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 net sales, compared to $44.9 million, or 20.9 % of 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.

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        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 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 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 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 net sales in        2006, compared to no such expense in 2005. During 2006, the purchasers of our Mexico assets        ceased providing fabric and are 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 net sales, compared to income from        operation of $3.6 million in 2005, or 1.7% of 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 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.

        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.

        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. While the        occupancy, depreciation and personnel expenses of the new store will become a permanent        overhead increase, it is not expected that similar amounts of inventory markdown will be        required in the current year due to tighter merchandising and inventory control.

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        Income        (loss) before provision for income taxes was $(21.8) million in 2006 and $1.9 million in        2005, representing (9.4)% and 0.9% of 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 net sales, respectively.

        Net        income (loss) was $(22.2) million in 2006 as compared $1.0 million in 2005, representing        (9.6)% and 0.5% of 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.

*Comparison of 2005        to 2004*

        Net        sales increased by $59.2 million, or 38.1%, from $155.5 million in 2004 to $214.6 million        in 2005. The increase in net sales was primarily due to increased sales of private brands,        which was $55.0 million in 2005 compared to $21.7 million in 2004. Gear 7, JS by Jessica        Simpson and Princy by Jessica Simpson recorded significant sales contributions in 2005, as        compared to sales of $1.2 million for these brands in 2004. We expect sales of these brands        to decline significantly in 2006 due to the discontinuance of the Gear 7 line by K-Mart,        the dispute over our continued rights to the Jessica Simpson line and the discontinuation        of House of Dereon. Private label sales in 2005 were $159.6 million compared to $133.8        million in 2004, with the increase resulting primarily from increased sales in 2005 to        Wal-Mart, Chico’s, Mothers Work and Macy’s Merchandising Group.

        Gross        profit for 2005 was $44.9 million, or 20.9% of net sales, compared to $21.0 million, or        13.5 % of net sales, for 2004, representing an increase of $23.9 million or 114.1%. The        increase in gross profit for 2005 occurred primarily because of an increase in sales volume        and gross margin. The improvement in gross margin is primarily attributable to the change        of relative product mix in favor of the higher margin private brands business as compared        to private label as well as improved margins in the private label business due to expansion        of our business to include more knitwear and woven tops at better margins using private        brand product developments.

        Selling        and distribution expenses increased by $1.4 million, or 15.5%, from $9.3 million in 2004 to        $10.7 million in 2005. As a percentage of net sales, these variable expenses decreased from        6.0% in 2004 to 5.0% in 2005 due to the significant increase in sales volume during        2005.

        General        and administrative expenses decreased by $5.2 million, or 16.3%, from $32.1 million in 2004        to $26.9 million in 2005. The decrease was primarily due to the depreciation and        amortization of our Mexico assets of $6.8 million and $1.1 million of severance paid to the        Mexican workers in 2004 as compared to no such expense in 2005 after disposition of our        fixed assets in Mexico in late 2004. As a percentage of net sales, these expenses decreased        from 20.6% in 2004 to 12.5% in 2005.

        Royalty        and marketing allowance expenses increased by $3.1 million, or 505.8%, to $3.7 million in        2005 from $605,000 in 2004. The increase was primarily due to increased sales under the        licensed Alain Weiz and Jessica Simpson brands and a write-off of the remaining balance of        $1.2 million of prepaid royalty on House of Dereon in 2005 as a result of termination of        our agreement to design, market and sell House of Dereon by Tina Knowles branded apparel in        March 2006. See Note 13 of the “Notes to Consolidated Financial Statements.” As        a percentage of net sales, these expenses increased to 1.7% in 2005 from 0.4% in        2004.

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        Impairment        charges were $78.0 million in 2004 or 50.2% of net sales, compared to no such expense in        2005. 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. See Note 5 of the        “Notes to Consolidated Financial Statements.”

        Cumulative        translation loss attributable to liquidated Mexico operations was $22.8 million in 2004, or        14.7% of net sales, compared to no such expense in 2005. We incurred this charge upon the        sale of our fixed assets in Mexico in the fourth quarter of 2004.

        Income        from operations was $3.6 million in 2005, or 1.7% of net sales, compared to loss from        operation of $121.8 million in 2004, or 78.4% of net sales, due to the factors described        above.

        Interest        expense increased by $1.7 million, or 61.9%, from $2.9 million in 2004 to $4.6 million in        2005. As a percentage of net sales, this expense increased to 2.2% in 2005 from 1.8% in        2004. The increase was primarily due to an interest expense of $1.3 million in 2005 related        to interest payments to holders of convertible debentures and amortization of debt discount        arising from issuing convertible debentures, compared to no such expense in 2004. Interest        income increased by $1.7 million, or 451.3%, from $378,000 in 2004 to $2.1 million in 2005.        The increase 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 no such income        in 2004. Other income decreased by $6.0 million, or 94.4%, from $6.4 million in 2004 to        $354,000 in 2005, due primarily to $5.5 million of lease income received for the lease of        our facilities and equipment in Mexico in 2004, compared to no such income in 2005 due to        the sale of our Mexico operations in the fourth quarter of 2004. Other expenses were        $529,000 in 2004 compared to $1,000 in 2005.

        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 interests in 2004        was $15.3 million, representing $471,000 attributed to the minority shareholder in United        Apparel Ventures, LLC, for its 49.9% share in the loss and $14.8 million attributed to the        minority shareholder in Tarrant Mexico for its 25% share in the loss.

        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 declined by 27.3% from $770,000        in 2004 to $560,000 in 2005 due to a general increase in overhead expenses. The more        significant items included increase in personnel expenses of $128,000 and outsourced        information technology support of $112,000.

        Income        before provision for income taxes was $1.9 million in 2005 and loss before provision for        income taxes was $102.3 million in 2004, representing 0.9% and (65.8)% of net sales,        respectively. The increase in income before provision for income taxes was due to the        factors discussed above.

        Provision        for income taxes was $927,000 in 2005 compared to $2.3 million in 2004, representing 0.4%        and 1.5% of net sales, respectively.

        Net        income was $1.0 million in 2005 as compared to net loss of $104.7 million in 2004,        representing 0.5% and (67.3)% of net sales, respectively. Included in the $104.7 million        loss in 2004 were charges of $78.0 million for the impairment of long-lived assets and        $22.8 million of cumulative translation loss attributable to liquidated Mexico operations.        There were no such charges in 2005.

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# 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 net sales:

|                                        | QUARTER ENDED |
|----------------------------------------|---------------|
||
| Net                Sales               |          |   | $ | 44.8 |   | $ | 50.5 |   | $ | 69.6 |   | $ | 49.7 |   | $ | 61.3 |   | $ | 59.1 |   | $ | 54.6 |   | $ | 57.4 |   |
| Gross profit                           |          |   |   | 8.9 |   |   | 11.5 |   |   | 14.5 |   |   | 10.0 |   |   | 12.5 |   |   | 12.7 |   |   | 11.8 |   |   | 13.6 |   |
| Operating income                (loss) |          |   |   | 0.2 |   |   | 1.5 |   |   | 3.0 |   |   | (1.1 | ) |   | 1.6 |   |   | 2.6 |   |   | (24.7 | ) |   | 3.3 |   |
| Net income                (loss)       |          |   |   | (0.1 | ) |   | 0.9 |   |   | 1.7 |   |   | (1.5 | ) |   | 0.8 |   |   | 0.6 |   |   | (25.3 | ) |   | 1.7 |   |

|                                        | QUARTER ENDED |
|----------------------------------------|---------------|
||
| Net                sales               |          |   |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |   | 100.0 | % |
| Gross profit                           |          |   |   | 20.0 |   |   | 22.7 |   |   | 20.9 |   |   | 20.0 |   |   | 20.4 |   |   | 21.4 |   |   | 21.6 |   |   | 23.8 |   |
| Operating income                (loss) |          |   |   | 0.5 |   |   | 2.8 |   |   | 4.3 |   |   | (2.1 | ) |   | 2.7 |   |   | 4.4 |   |   | (45.3 | ) |   | 5.7 |   |
| Net income                (loss)       |          |   |   | (0.2 | ) |   | 1.7 |   |   | 2.5 |   |   | (3.0 | ) |   | 1.4 |   |   | 1.0 |   |   | (46.4 | ) |   | 2.9 |   |

        As        is typical for us, quarterly 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 net sales for that period.

# Liquidity and Capital        Resources

        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.

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        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; 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.

        Cash        flows for the years ended December 31, 2004, 2005 and 2006 were as follows (dollars in        thousands):

| CASH FLOWS:                                                        | 2004   | 2005   | 2006 |
|--------------------------------------------------------------------|--------|--------|------|
| Net cash                provided by (used in) operating activities |   |   | $    | 12,168 |   | $ | (12,900 | ) | $ | 15,047 |   |
| Net cash provided by (used                in) investing activities |   |   | $    | 1,250 |   | $ | 3,555 |   | $ | (5,071 | ) |
| Net cash provided by (used                in) financing activities |   |   | $    | (15,552 | ) | $ | 9,772 |   | $ | (10,713 | ) |

        Net        cash provided by operating activities was $15.0 million in 2006, as compared to net cash        used in operating activities in 2005 of $12.9 million and net cash provided by operating        activities in 2004 of $12.2 million. Net cash provided by operating activities in 2006        resulted primarily from a net loss of $22.2 million and a decrease of $10.6 million in        accounts payable, offset by $27.1 million of loss on notes receivable — related        parties, $3.0 million of depreciation and amortization of fixed assets and deferred        financing cost, a decrease of $13.3 million in inventory and $6.5 million in accounts        receivable. The decrease in inventory was primarily due to the increase in sales in 2006,        the decrease in accounts payable resulted from the pay down of payables and the decrease in        accounts receivable was due to increased collections.

        During        2006, net cash used in investing activities was $5.1 million, as compared to net cash        provided by investing activities of $3.6 million in 2005 and $1.3 million in 2004. Cash        used in investing activities in 2006 included approximately $5.0 million in a deposit and        $1.1 million in due diligence fees incurred in connection with our pending acquisition of        the Buffalo Group, offset by $1.1 million of collection on notes receivable.

        During        2006, net cash used in financing activities was $10.7 million as compared to net cash        provided by financing activities of $9.8 million in 2005 and net cash used in financing        activities of $15.6 million in 2004. Net cash used in financing activities in 2006 resulted        primarily from net repayments of our long-term obligations and financing cost of $19.2        million, and repayments of borrowings from convertible debentures of $6.9 million, offset        by financing of $15.5 million under our credit facility with Guggenheim Corporate Funding        LLC.

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Contractual Obligations        and Commercial Commitments

        Following        is a summary of our contractual obligations and commercial commitments available to us as        of December 31, 2006 (in millions):

|                                                   | Payments                    Due By Period |
|---------------------------------------------------|-------------------------------------------|
||
| Long-term                debt(1)                  |                                      |   | $ | 44.4 |   | $ | 23.2 |   | $ | 3.8 |   | $ | 17.4 |   | $ | -- |   |
| Operating leases                                  |                                      |   | $ | 9.2 |   | $ | 1.8 |   | $ | 2.6 |   | $ | 2.3 |   | $ | 2.5 |   |
| Minimum                royalties(2)               |                                      |   | $ | 14.5 |   | $ | 6.0 |   | $ | 2.7 |   | $ | 2.5 |   | $ | 3.3 |   |
| Purchase                commitment                |                                      |   | $ | 45.4 |   | $ | 10.4 |   | $ | 10.0 |   | $ | 10.0 |   | $ | 15.0 |   |
|                                                   |                                           |  |  |  |  |  |  |  |  |  |
| Total Contractual Cash                Obligations |                                      |   | $ | 113.5 |   | $ | 41.4 |   | $ | 19.1 |   | $ | 32.2 |   | $ | 20.8 |   |

----

| (1) | Includes                interest on long-term debt obligations.  Based on outstanding borrowings as of                December 31, 2006, and assuming all such indebtedness remained outstanding during                2006 and the interest rates remained unchanged, we estimate that our interest cost                on long-term debt would be approximately $9.3 million. |
|-----|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| (2) | Includes                minimum royalties of $6.1 million under the agreement with the licensor of the                Jessica Simpson brands. |
|-----|-----------------------------------------------------------------------------------------------------------------------------------------------|

|                                                           |        | Amount of Commitment                    Expiration per Period |
|-----------------------------------------------------------|--------|---------------------------------------------------------------|
||
| 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 |   |   | -- |   |   | -- |   |   | -- |   |

        On        June 13, 2002, we entered into a letter of credit facility of $25 million with UPS Capital        Global Trade Finance Corporation (“UPS”). Under this facility, we could arrange        for the issuance of letters of credit and acceptances. The facility was collateralized by        the shares and debentures of all of our subsidiaries in Hong Kong. In addition to the        guarantees provided by us and our subsidiaries, Fashion Resource (TCL) Inc. and Tarrant        Luxembourg Sarl, Gerard Guez, our Chairman and Interim Chief Executive Officer, also signed        a guarantee of $5 million in favor of UPS to secure this facility. Additionally, Gerard        Guez pledged to UPS 4.6 million shares of our common stock held by Mr. Guez to secure the        obligations under the credit facility. On June 9, 2006, we completed the pay-off of all        remaining amounts due under the letter of credit facility with UPS. As a result of the        payment of these obligations, the letter of credit facility was terminated and all        collateral released. There was no prepayment penalty under this arrangement. As of December        31, 2006, $0 was outstanding under this facility with UPS.

        On        December 31, 2004, our Hong Kong subsidiaries entered into a loan agreement with UPS        pursuant to which UPS made a $5 million term loan, the proceeds of which were used to repay        $5 million of indebtedness owed to UPS under the letter of credit of facility. The        principal amount of this loan was due and payable in 24 equal monthly installments of        approximately $208,333 each, plus interest equivalent to the “prime rate” plus        2% commencing on February 1, 2005. The obligations under the loan agreement were        collateralized by the same security interests and guarantees provided under our letter of        credit facility with UPS. Additionally, the term loan was secured by two promissory notes        payable to Tarrant Luxembourg Sarl in the amounts of $2,550,000 and $1,360,000 and a pledge        by Gerard Guez, of 4.6 million shares of our common stock. On June 9, 2006, we completed        the pay-off of all remaining amounts due under the term loan agreement with UPS. As a        result of the payment of these obligations, the term loan agreement was terminated and all        collateral released. There was no prepayment penalty under this arrangement. As of December        31, 2006, $0 was outstanding under this loan arrangement with UPS.

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        Since        March 2003, DBS Bank (Hong Kong) Limited (“DBS”) had made available a letter of        credit facility of up to HKD 20 million (equivalent to US $2.6 million) to our subsidiaries        in Hong Kong. This was a demand facility and was secured by the pledge of our office        property, which is owned by Gerard Guez, our Chairman and Interim Chief Executive Officer,        and Todd Kay, our Vice Chairman, and by our guarantee. The letter of credit facility was        increased to HKD 30 million (equivalent to US $3.9 million) in June 2004. In September        2006, a tax loan for HKD 8.438 million (equivalent to US $1.1 million) was also made        available to our Hong Kong subsidiaries and bears interest at the rate equal to the Hong        Kong prime rate plus 1% and are subject to the same security. It bore interest at 9% per        annum at December 31, 2006. As of December 31, 2006, $1.0 million was outstanding under        this tax loan.

        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. 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 8.5% per annum at        December 31, 2006, or the Standard Bills Rate quoted by DBS plus 0.5% if paid in any other        currency, which the interest rate was 8.6% per annum at December 31, 2006. 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, interest coverage ratio, leverage ratio and limitations on additional        indebtedness. As of December 31, 2006, we were in violation with the EBITDA, tangible net        worth and leverage ratio covenants and a waiver was obtained on March 19, 2007. As of        December 31, 2006, $12.5 million was outstanding under this facility. In addition, $4.1        million of open letters of credit was outstanding and $7.4 million was available for future        borrowings as of December 31, 2006.

        On        October 1, 2004, we amended and restated our previously existing credit facility with GMAC        Commercial Finance Credit, LLC (“GMAC CF”) by entering into a new factoring        agreement with GMAC CF. The amended and restated agreement (the factoring agreement)        extended the expiration date of the facility to September 30, 2007 and added as parties our        subsidiaries Private Brands, Inc and No! Jeans, Inc. In addition, in connection with the        factoring agreement, our indirect majority-owned subsidiary PBG7, LLC entered into a        separate factoring agreement with GMAC CF. Pursuant to the terms of the factoring        agreement, we and our subsidiaries agree to assign and sell to GMAC CF, as factor, all        accounts which arise from our sale of merchandise or rendition of service created on a        going forward basis. At our request, GMAC CF, in its discretion, may make advances to us up        to the lesser of (a) up to 90% of our accounts on which GMAC CF has the risk of loss or (b)        $40 million, minus in each case, any amount owed by us to GMAC CF. In May 2005, we amended        our factoring agreement with GMAC CF to permit our subsidiaries party thereto and us, to        borrow up to the lesser of $3 million or 50% of the value of eligible inventory. In        connection with this amendment, we granted GMAC CF a lien on certain of our inventory        located in the United States. On January 23, 2006, we further amended our factoring        agreement with GMAC CF to increase the amount we might borrow against inventory to the        lesser of $5 million or 50% of the value of eligible inventory. The $5 million limit was        reduced to $4 million on April 1, 2006.

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        On        June 16, 2006, we expanded our 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 8.75% per annum at December 31, 2006. As of December 31,        2006, we were in violation with the EBITDA covenant and a waiver was obtained on March 23,        2007. A total of $19.6 million was outstanding with respect to receivables factored under        the GMAC CF facility at December 31, 2006.

        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        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.

        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 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, 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 will be available under this facility to finance acquisitions acceptable to        Guggenheim. All amounts under the term loans become due and payable in December 2010.        Interest under this facility is 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 are 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. 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.

        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. 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. 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 is 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 is recorded as debt discount, both of them are amortized over the        life of the loan. As of December 31, 2006, $654,000 was amortized.

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        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. 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. 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 is included in the        deferred financing cost, and is amortized over the life of the loan. As of December 31,        2006, $43,000 was amortized.

        The        Guggenheim facility bore interest at 12.36% per annum at December 31, 2006. As of December        31, 2006, we were in violation with the EBITDA covenant and a waiver was obtained on March        23, 2007. A total of $11.2 million, net of $4.3 million of debt discount, was outstanding        under this facility at December 31, 2006.

        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 are 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.

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        The        credit facilities with GMAC CF and Guggenheim include cross-default clauses subject to        certain conditions. An event of default under the GMAC CF facility would constitute an        event of default under the Guggenheim facility entitling Guggenheim to demand payment        in full of all outstanding amounts under its facility. An event of default under the        Guggenheim facility, under circumstances where Guggenheim has accelerated the debt or has        exercised any other remedy available to Guggenheim which constitutes a Lien Enforcement        Action under its Intercreditor Agreement with GMAC CF, would entitle GMAC CF to demand        payment in full of all outstanding amounts under its debt facilities.

        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 have a term of three years. We could elect to pay interest on the        Debentures in shares of our common stock if certain conditions are met, including a minimum        market price and trading volume for our common stock. The Debentures contained customary        events of default and permit 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 value of        the warrants of $866,000 and the intrinsic value of the conversion option of $804,000 were        netted from the $10 million presented as the convertible debentures, net on our        accompanying balance sheets at December 31, 2004.

        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 the 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.

        On        January 19, 2006, we borrowed $4.0 million from Max Azria pursuant to the terms of a        promissory note, which amount bore interest at the rate of 5.5% per annum and was payable        in weekly installments of $200,000 beginning on March 1, 2006. This was an unsecured loan.        We paid off the remaining balance of this loan in July 2006. As of December 31, 2006, $0        was outstanding under this loan.

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        We        had three equipment loans outstanding during 2006. One of these equipment loans bore        interest at 6% payable in installments through 2009, which we paid off in January 2006. The        second loan bears interest at 15.8% payable in installment through 2007 and the third loan        bears interest at 6.15% payable in installment through 2007. In August 2006, we entered        into a new auto loan that bears interest at 4.75% payable in installment through 2008. As        of December 31, 2006, $38,000 was outstanding under the three remaining loans.

        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, 2006, $190,000 was outstanding under this facility (classified above under        import trade bills payable) and $532,000 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 short-term bank borrowing as of December 31, 2005 and 2006 were        7.8% and 10.9%, respectively.

        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.

        From        time to time in the past, we borrowed funds from, and advanced funds to, certain officers        and principal shareholders, including Gerard Guez and Todd Kay. See disclosure under        “-Related Party Transactions” below.

        The        Internal Revenue Service has proposed adjustments to our Federal income tax returns to        increase our income tax payable for the years ended December 31, 1996 through 2001. In        addition, in July 2004, the IRS initiated an examination of our Federal income tax return        for the year ended December 31, 2002. In March 2005, the IRS proposed an adjustment to our        taxable income of approximately $9 million related to similar issues identified in their        audit of the 1996 through 2001 federal income tax returns. We believe that we have        meritorious defenses to and intend to vigorously contest the proposed adjustments made to        our federal income tax returns for the years ended 1996 through 2002. This adjustment would        also result in additional state taxes, penalties and interest. We believe that we have        meritorious defenses to and intend to vigorously contest the proposed adjustments. If the        proposed adjustments are upheld through the administrative and legal process, they could        have a material impact on our earnings and, in particular, cash flow. We may not have an        adequate cash reserve to pay the final adjustments resulting from the IRS examination. As a        result, we may be required to arrange for payments over time or raise additional capital in        order to meet these obligations. We believe we have provided adequate reserves for any        reasonably foreseeable outcome related to these matters on the consolidated balance sheets        under the caption “Income Taxes.” The maximum amount of loss in excess of the        amount accrued in the financial statements is $8.3 million. We do not believe that the        adjustments, if any, arising from the IRS examination, will result in an additional income        tax liability beyond what is recorded in the accompanying consolidated balance        sheets.

        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. As described        above, in December 2006, we entered into a definitive stock and asset purchase agreement to        acquire The Buffalo. If the acquisition is approved by our shareholders and is consummated        pursuant to the terms of the agreement, we will be required to issue 13 million        exchangeable shares of our Canadian subsidiary to the sellers (which are exchangeable in        shares of our common stock on a one-for-one basis), incur additional long-term and        medium-term debt of approximately $40 million to pay the cash portion of the purchase        price, issue promissory notes of $15 million to sellers, and assume certain debt of The        Buffalo Group. In addition, we may have to pay additional $12 million in cash earn-out        payments to the sellers over a four year period, contingent upon achievement of the        acquired business of specified earnings targets. We believe we have sufficient internal        resources and borrowing capability to cover all the related expenses.

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        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.

# Related Party        Transactions

        We        lease our principal offices and warehouse located in Los Angeles, California from GET and        office space 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. During the first        seven months of 2006, our Los Angeles offices and warehouse were leased on a month to month        basis. 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 paid        $1,330,000, $1,019,000 and $1,076,000, respectively, in 2004, 2005 and 2006 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 in rental income from this sublease in the year ended December 31,        2006.

        On        October 16, 2003, we leased to affiliates of Mr. Kamel Nacif, a shareholder at the time of        the transaction, for a substantial portion of our manufacturing facilities and operations        in Mexico including real estate and equipment. We leased our twill mill in Tlaxcala,        Mexico, and our sewing plant in Ajalpan, Mexico, for a period of 6 years and for an annual        rental fee of $11 million. In connection with this lease transaction, we also entered into        a management services agreement pursuant to which Mr. Nacif’s affiliates agreed to        manage the operation of our remaining facilities in Mexico in exchange for the use of such        facilities. The term of the management services agreement was also for a period of 6 years.        In 2004, $5.5 million of lease income was recorded in other income. We agreed to purchase        annually, six million yards of fabric manufactured at the facilities leased and/or operated        by Mr. Nacif’s affiliates at market prices to be negotiated. We purchased $5.3        million of fabric under this agreement in 2004.

        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.        The secured promissory notes are payable in partial or total amounts anytime prior to the        maturity of each note. As of September 30, 2006, the outstanding balance of the notes and        interest receivables were $41.1 million prior to the reserve. Historically, we have 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 have        satisfied our payment obligations for the fabric by offsetting the amounts payable against        the amounts due to us under the notes. However, during 2006, the purchasers ceased        providing fabric and are not currently 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 will continue to pursue payments on the notes receivable        and believe the remaining $14 million balance at December 31, 2006 is        realizable.

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        Upon        consummation of the sale of our Mexico assets, 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. This agreement replaced a        previously existing purchase commitment agreement with Mr. Nacif’s affiliates. 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. Net amount due from Mr. Kamel Nacif and his affiliates was $236,000 and $116,000        as of December 31, 2005 and 2006, respectively.

        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 2006 was approximately        $2,279,000. At December 31, 2006, the entire balance due from Mr. Guez totaling $2.2        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 $370,000, $209,000 and $171,000 for the years ended December 31, 2004, 2005 and        2006, respectively. Mr. Guez paid expenses on our behalf of approximately $400,000,        $397,000 and $299,000 for the years ended December 31, 2004, 2005 and 2006, 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 officers or        directors of Tarrant.

        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”). Azteca is owned by the brothers of        Gerard Guez. This entity was created to coordinate the production of apparel for a single        customer of our branded business. UAV is owned 50.1% by Tag Mex, Inc., our wholly owned        subsidiary, and 49.9% by Azteca. Results of the operation of UAV have been consolidated        into our results since July 2001 with the minority partner’s share of all gains and        loses eliminated through the minority interest line in our financial statements. Due to the        restructuring of our Mexico operations, we discontinued manufacturing for UAV customers in        the second quarter of 2004. We have been consolidating 100% of the results of the operation        of UAV into our results since 2005. Two and one half percent of gross sales as management        fees were paid in 2004 to each of the members of UAV, per the operating agreement. The        management fees paid to Azteca in 2004 was $179,000. We purchased $11.5 million, $135,000        and $1.1 million of finished goods, fabric and service from Azteca and its affiliates for        the years ended December 31, 2004, 2005 and 2006, respectively. Our total sales of fabric        and service to Azteca in 2004, 2005 and 2006 were $1.0 million, $88,000 and $9,000,        respectively.

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        Since        June 2003, UAV had been selling to Seven Licensing, jeans wear bearing the brand        “Seven7", which was ultimately purchased by Express. In the third quarter of 2004, in        order to strengthen our own private brand business, we decided to discontinue sourcing for        Seven7. Total sales to Seven Licensing in the year ended December 31, 2004 were $2.6        million. 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. Total sales to Seven Licensing during the year ended December        31, 2006 were $4.4 million.

        At        December 31, 2006, Messrs. Guez and Kay beneficially owned 488,400 and 1,003,500 shares,        respectively, of common stock of Tag-It Pacific, Inc. (“Tag-It”), collectively        representing 8.1% of Tag-It’s common stock. Tag-It is a provider of brand identity        programs to manufacturers and retailers of apparel and accessories. Tag-It assumed the        responsibility for managing and sourcing all trim and packaging used in connection with        products manufactured by or on our behalf in Mexico. Due to the restructuring of our Mexico        operations, Tag-It no longer manages our trim and packaging requirements. We purchased $1.0        million, $450,000 and $205,000 of trim from Tag-It during the years ended December 31,        2004, 2005 and 2006. Our sales of garment accessories to Tag-It for the year ended December        31, 2006 were $39,000.

        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.

**PART        IV**

# Item 15.             Exhibits, Financial Statement Schedules

|  |     (a)                                  Financial Statements and Schedule. (Previously filed with the Original Annual                    Report.) |
|--|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|  |     (b)                                  Exhibits. |
|--|----------------------------------------------------------------------------------------------------------------------------------------------|

|  |     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. |
|--|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

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# 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 |
|--|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

        Pursuant        to the requirements of Section 13 or 15(d) 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                                |
|--------------------------------------------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------|-------------------------------------|
|                                                  |
| /S/                    GERARD GUEZGerard Guez    | Chairman                    of the Board of Directors and                    Interim Chief Executive Officer                    (Principal Executive Officer) | January                    14, 2008 |
| /S/ PATRICK CHOW                    Patrick Chow | Chief Financial Officer (Principal                    Financial and Accounting Officer)                    and Director                                       | January 14, 2008                    |
| *                    Todd Kay                    | Vice Chairman of the Board of Directors                                                                                                                       | January 14, 2008                    |
| *                    Milton Koffman              | Director                                                                                                                                                      | January 14, 2008                    |
| *                    Stephane Farouze            | Director                                                                                                                                                      | January 14, 2008                    |
| *                    Mitchell Simbal             | Director                                                                                                                                                      | January 14, 2008                    |
| *                    Joseph Mizrachi             | Director                                                                                                                                                      | January 14, 2008                    |
| *                    Simon Mani                  | Director                                                                                                                                                      | January 14, 2008                    |

* By: /S/ Gerard        Guez                       Gerard Guez, Attorney-in-fact

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