SECURITIES AND EXCHANGE COMMISSION




Washington, D.C. 20549




FORM 10-K




FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934


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



Commission File Number 0-24543




COST-U-LESS, INC.




(Exact Name of Registrant as Specified in its Charter)







|Washington                                                    |  |  |  | 91-1615590                          
|------------------------------------------------------------- |  |  |  | ------------------------------------
|(State or
Other Jurisdictionof Incorporation or Organization) |  |  |  | (I.R.S. Employer Identification No.)



3633 136th Place SE, Suite 110, Bellevue, Washington 98006




(Address of Principal Executive Offices): (Zip
Code)




(425) 945-0213




(Registrants Telephone Number, Including Area
Code)




Securities registered pursuant to Section 12(b) of the Act: Common Stock Preferred Stock Purchase Rights 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
registrant 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 the
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.  [  ]




Indicate by check mark whether
the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined 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 Exchange Act).  Yes [  ] No [x]




The aggregate market value of the
registrants common stock held by non-affiliates of the registrant as of June 30, 2006, was approximately $22,903,245, based upon the closing sale
price on the Nasdaq Capital Market reported for such date.




The number of shares of the
registrants common stock outstanding at March 19, 2007, was 4,031,668.




DOCUMENTS INCORPORATED BY REFERENCE




The information
required by Part III of this report, to the extent not set forth herein, is incorporated herein by reference from the registrants definitive
proxy statement relating to the annual meeting of shareholders to be held on May 15, 2007.


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COST-U-LESS, INC. INDEX TO FORM
10-K







|           |  |    |  |          |  |                                                                                                    |  | Page
|---------- |  | -- |  | -------- |  | -------------------------------------------------------------------------------------------------- |  | ----
|PART
I:    |  |    |  |          |  |                                                                                                    |  |     
|           |  |    |  | Item 1.  |  | Business                                                                                           |  |     
|           |  |    |  | Item 1A. |  | Risk
Factors                                                                                       |  |     
|           |  |    |  | Item 1B. |  | Unresolved Staff Comments                                                                          |  |     
|           |  |    |  | Item 2.  |  | Properties                                                                                         |  |     
|           |  |    |  | Item 3.  |  | Legal Proceedings                                                                                  |  |     
|           |  |    |  | Item 4.  |  | Submission of Matters to a Vote of Security Holders                                                |  |     
|PART
II:   |  |    |  |          |  |                                                                                                    |  |     
|           |  |    |  | Item 5.  |  | Market for Companys Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities |  |     
|           |  |    |  | Item 6.  |  | Selected Financial Data                                                                            |  |     
|           |  |    |  | Item 7.  |  | Managements Discussion and Analysis of Financial Condition and Results of Operation               |  |     
|           |  |    |  | Item 7A. |  | Quantitative and Qualitative Disclosures About Market Risk                                         |  |     
|           |  |    |  | Item 8.  |  | Financial Statements and Supplementary Data                                                        |  |     
|           |  |    |  | Item 9.  |  | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure               |  |     
|           |  |    |  | Item 9A. |  | Controls and Procedures                                                                            |  |     
|           |  |    |  | Item 9B. |  | Other Information                                                                                  |  |     
|PART
III:  |  |    |  |          |  |                                                                                                    |  |     
|           |  |    |  | Item 10. |  | Directors, Executive Officers and Corporate Governance                                             |  |     
|           |  |    |  | Item 11. |  | Executive Compensation                                                                             |  |     
|           |  |    |  | Item 12. |  | Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters     |  |     
|           |  |    |  | Item 13. |  | Certain Relationships and Related Transactions and Director Independence                           |  |     
|           |  |    |  | Item 14. |  | Principal Accountant Fees and Services                                                             |  |     
|PART
IV:   |  |    |  |          |  |                                                                                                    |  |     
|           |  |    |  | Item 15. |  | Exhibits and Financial Statement Schedules                                                         |  |     
|SIGNATURES |  | 51 | 



2


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PART I




This annual report on Form 10-K
contains forward-looking statements within the meaning of the federal securities laws. These forward-looking statements include without limitation
statements regarding our expectations and beliefs about the market and industry; our goals, plans, and expectations regarding our business strategy,
attributes for successful stores, merchandising and distribution; our beliefs regarding the future success of our stores and our merchandising
strategy; our expectations and beliefs regarding competition, competitors, the basis of competition and our ability to compete; our beliefs regarding
our ability to hire and retain personnel and the labor costs associated with island wages; our beliefs regarding period to period results of
operations; our expectations regarding future growth and financial performance; our expectations regarding international sales and our revenues; our
expectations and beliefs regarding revenue and revenue growth; our expectations regarding our strategies; our expectations regarding fluctuations in
revenues, operating results and comparable store sales; our beliefs and expectations regarding our existing facilities and the availability of
additional space in the future; our intent to use all available funds for the expansion and the operation of our business and not to declare or pay any
cash dividends; our beliefs and expectations regarding our results of operation and financial position; our intentions and expectations regarding
utilization of tax benefits and credits; our beliefs and expectations regarding liquidity and capital resources and that amounts available under our
various credit facilities, existing cash available for working capital purposes and cash flow from operations will be sufficient to meet our cash
requirements; and our expectations regarding the impact of recent accounting pronouncements and revenue recognition matters. These statements are
subject to risks and uncertainties that could cause actual results and events to differ materially from those anticipated. These risks and
uncertainties include those identified below and in Item 1A of this annual report on Form 10-K. We undertake no obligation to update forward-looking
statements to reflect events or circumstances occurring after the date of this annual report on Form 10-K.




As used in this annual report on
Form 10-K, unless the context otherwise requires, the terms we, us, our, the Company, and
Cost-U-Less refer to Cost-U-Less, Inc., a Washington corporation, and its subsidiaries.


|Item 1. |  | Business
|------- |  | --------



Cost-U-Less operates mid-sized
warehouse club-style retail stores in the United States Territories (U.S. Territories), foreign island countries in the Pacific and the Caribbean, the
Hawaiian Islands and Sonora, California. Our primary strategy is to operate in island markets, offering predominantly U.S. branded goods. We currently
operate eleven retail stores as follows: two stores in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix, American Samoa, Fiji,
Curacao, St. Maarten and Sonora, California. We began construction on a new store in the Cayman Islands in late 2006 with a currently estimated
completion date late in the third fiscal quarter or in the fourth fiscal quarter of 2007.




Our management focus relative to
our core island store operations includes reviewing our merchandising and marketing strategies, both those that apply to all stores and those specific
to each store, in light of the different conditions in each market. We also continue to explore ways to maximize long-term value for our shareholders,
including focusing on means to increase earnings, responding to competition, and improving same store sales and gross margins.




We are continuously evaluating
methods of implementing future growth, including expansion opportunities in selected markets and relocation opportunities for stores in existing
markets with leases expiring in the next few years. For example, during 2006 we renovated and expanded the size of our St. Thomas store by
approximately 6,400 square feet (an increase of approximately 18%) and in 2005 we relocated our St. Croix store into a newly constructed building on a
parcel of land located closer to the main trade area in the center of the island than our former store. The size of the new St. Croix store is 38,000
square feet, a 45% increase in square footage over the previous store. We believe there are a number of new island markets that have the attributes
necessary to support a growth strategy for our business, however, licensing restrictions and political resistance to foreign retailers, among other
things, may make it difficult for us to enter some of these markets.




Industry Overview




Traditional warehouse clubs such
as Costco Wholesale Corporation, BJs Wholesale Club, Inc. and Sams Club, a division of Wal-Mart Stores, Inc., focus on both retail and
small-business customers, with store formats averaging approximately 130,000 square feet.




3


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These retailers
typically


| |  | offer a range of national brand and selected private label
products at low prices, often in case, carton or multiple-pack quantities,
|- |  | -------------------------------------------------------------------------------------------------------------------------------------

| |  | provide no-frills, self-service warehouse facilities with
pallet-stacked product aisles, and
|- |  | --------------------------------------------------------------------------------------------

| |  | charge annual membership fees.
|- |  | ------------------------------



Although we employ many of the
retailing methods of the larger participants in the warehouse club industry, we operate smaller stores (averaging approximately 32,500 square feet), we
do not charge a membership fee, we typically locate our stores in smaller markets with less concentrated population centers, and we rely to a greater
degree on long-haul water transportation than do other such companies.




While the typical U.S. warehouse
club customer has virtually unlimited access to popular U.S. brand-name products, we believe that these products are carried by relatively few local
retailers in a number of island markets. Moreover, island markets often demonstrate unique consumer preferences, which typically require retailers to
conduct local research and incorporate flexible merchandise purchasing policies in order to offer a diverse selection of local products, as well as
popular U.S. brand-name products.




Business Strategy




Our business strategy is
to


| |  | expand to new markets,
|- |  | ----------------------

| |  | enter small island markets familiar with the warehouse club
concept,
|- |  | --------------------------------------------------------------------

| |  | offer U.S. goods where availability of such goods is minimal and
significant demand exists,
|- |  | -------------------------------------------------------------------------------------------

| |  | leverage island-operations and long-haul logistics
expertise,
|- |  | -------------------------------------------------------------

| |  | utilize modern systems and merchandising methods,
|- |  | -------------------------------------------------

| |  | offer competitive prices while maintaining favorable
margins,
|- |  | -------------------------------------------------------------

| |  | provide a local product mix, and
|- |  | --------------------------------

| |  | offer superior customer service.
|- |  | --------------------------------



Expand to New
Markets.  The pace at which we will open new stores will be dictated by availability and ease of entry. We plan to focus on markets we
believe have a high U.S. brand awareness and demand, as well as other attributes that typify the markets in which our most successful stores are
located. Future development of our business will be directed to markets in which we believe we can compete effectively by offering competitive prices
while maintaining low costs of goods and services to consumers. We believe that there are a number of new island markets with the attributes prescribed
by our existing growth strategy; however, licensing restrictions and political resistance to foreign retailers may make it difficult for us to enter
some of these markets.




Enter Markets Familiar With
Warehouse Concept.  We plan to seek markets that have some familiarity with the warehouse club concept. Residents of potential island
markets often gain familiarity with the warehouse club concept through travel to the U.S. and other markets where warehouse clubs are present. We
believe that familiarity has helped accelerate market acceptance of our stores in the past.




Offer U.S. Goods in Markets
with Minimal Supply and Significant Demand.  We believe that markets that have awareness and acceptance of U.S. goods but have limited
access to those goods offer substantial sales and profit potential. We believe that procuring U.S. goods in large volumes and shipping them long
distances to island stores are two of our core competencies.




Leverage Island-Operations and
Long-Haul Logistics Expertise.  Through our experience in opening and operating retail warehouse club-style stores in the U.S.
Territories, foreign island countries and the Hawaiian Islands, we believe that we have developed a depth of expertise in dealing with the inherent
challenges of island market operations. We have refined a mid-sized building prototype that is designed to endure most severe island weather conditions
and that incorporates low construction costs and easily replicated specifications. Through our long-standing relationships with steamship lines, we
negotiate what we believe to be competitive transportation rates while selecting efficient shipping routes and utilizing cost-effective freight
handling techniques, including the use of both Company-operated cross-dock depots and independently operated distribution facilities.




Utilize Modern Systems and
Merchandising Methods.  We believe that many merchants in our most promising target markets have not adopted modern retail operating
efficiencies and do not have access to vendor network and




4


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distribution channels
equivalent to those we have developed. By utilizing the modern systems and merchandising methods we have developed, we believe that we can achieve
greater efficiencies and higher margins than other local island retailers.




Emphasize Strong Margins While
Maintaining Everyday Low Prices.  In addition to providing a pleasant shopping atmosphere, we strive to sell products at prices that we
believe are lower than those offered by our local island competitors. By leveraging our retail operating efficiencies, access to volume-purchasing
discounts and distribution capabilities, we believe that we are able to acquire some products at a significantly lower cost than that paid by other
local island retailers.




Use Localized Product Sourcing
While Deriving Benefits of Centralized Purchasing.  We conduct market research through our vendors, store managers and resident employees
to ascertain the product preferences of each particular locale, including which U.S. brands are favored and which regional and ethnic items are
desired. To the extent possible, our buyers then procure these products through our centralized purchasing department, thus deriving the benefits of
volume purchase discounts, streamlined distribution and enhanced selection. The remaining products, including locally produced items that are available
only in a particular region, are generally purchased by store managers and our corporate buyers directly from suppliers located in the
region.




Offer Superior Customer
Service.  We bring a commitment to customer service that we believe gives us a competitive advantage in each of the local markets we
serve. Our store layout is designed to maximize floor space used for selling product as well as to give customers a spacious feel while shopping. We
accept various forms of payment, including food stamps and credit and debit cards, and we selectively extend credit to some local businesses and
government agencies. For most items, we have a 30-day, no-questions-asked return policy. Each of our stores has approximately ten checkout lanes, which
allows for quick and efficient shopping. Each store features a customer desk where customers can have questions answered, usually by a management team
member. We also train our employees to help customers locate store products.




Market and Site Selection




We believe that there are certain
key attributes for successful stores, such as acceptance and demand for U.S. goods, familiarity with the warehouse concept, and absence of large
warehouse club competition. Once we identify a target location as a possible site for expansion and we are satisfied with the political and regulatory
environment in the target location, we compare the prices charged by local competitors to the prices we would need to charge in order to achieve an
acceptable return on our investment (after factoring in cost of the product, cost of freight, duties, port charges, transportation and taxes). If our
market research indicates that we would be able to charge an adequate price for our products, we then commence a formal search for a suitable store
site. Desirable attributes of suitable sites include a central location in a population center, sufficient space for our facility, including parking
and loading docks, access to utilities and acceptable geological conditions for successful construction.




We generally do not intend to own
the land or buildings for our stores. However, to the extent that we believe it to be advantageous to purchase land for our new store sites or to
construct new store buildings, we may use our cash resources or financing sources to buy and own the land during the construction period and
subsequently attempt to obtain permanent financing after the stores are opened. Our ability or the ability of a potential landlord to secure financing
for new stores is subject to the availability of commercial real estate financing on acceptable terms. Failure to secure adequate financing on a timely
basis could delay or potentially prevent new store openings.




We continuously evaluate methods
of implementing future growth, including expansion opportunities in selected markets and relocation opportunities for stores in existing markets.
Additionally, we are reviewing a number of new island markets that have the attributes necessary to support a growth strategy for our business.
However, licensing restrictions and political resistance to foreign retailers, among other things, may make it difficult for us to enter some of these
markets.




In July 2005, the Cayman Islands
Trade and Business Licensing Board granted us approval to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary
organized in the Cayman Islands. On April 25, 2006, we entered into a long-term lease with the developer of Governors Square in Grand Cayman to
lease land on which to construct and operate a store under the Cost-U-Less name. Construction on the new store began in late 2006 with a currently
estimated completion date late in the third fiscal quarter or in the fourth fiscal quarter of 2007.




5


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On August 10, 2006, we completed
the remodel and expansion of our store in St. Thomas. In addition to increasing the size of our store by approximately 6,400 square feet (an increase
of approximately 18%), we also upgraded and replaced much of the stores equipment, added our new produce format and a rotisserie department.
Additionally, we remodeled our Kauai store to add retail enhancements such as fresh produce by the pound.




Store Layout




We have incorporated into our
prototype store many standard features found in domestic warehouse clubs that have not been previously used in many island markets. Store layout and
interior designs were planned and calculated using computer models, with the goal of maximizing the sales per square foot and providing uniformity
among the stores. Further, we believe that we are able to gain a competitive advantage over most of our competitors by utilizing


| |  | loading docks,
|- |  | --------------

| |  | comparatively large freezer and refrigeration space with
state-of-the-art equipment,
|- |  | ------------------------------------------------------------------------------------

| |  | efficient shelving and display racks,
|- |  | -------------------------------------

| |  | computerized cash registers and inventory tracking
systems,
|- |  | -----------------------------------------------------------

| |  | multiple checkout lanes,
|- |  | ------------------------

| |  | fresh meat departments, including rotisserie meat items in
selected markets, and
|- |  | --------------------------------------------------------------------------------

| |  | produce items for sale by the pound in selected
markets.
|- |  | --------------------------------------------------------



Each of our stores is outfitted
with adjustable metal shelving that allows us to vary the display of our products based on each locations specific consumer needs. Each island
store has backup generators designed to protect perishables and the stores security system during disruption of electric service caused by severe
weather conditions that can occur in island markets.




We have used considerable care in
developing our store layout, which features a logical flow to encourage shopping of all departments. When ready for check out, the customer proceeds to
the check-out area in the front of the store, which usually features ten lanes. During a typical store visit, the average customer spent approximately
$54 in 2006. We accept various forms of payment in each store, including food stamps and debit and credit cards, and we selectively extend credit to
some local businesses and government agencies. Utilizing a no-frills approach, we display items in steel racking, usually on vendors
pallets or in open cases, to maximize warehouse space and minimize labor costs. We utilize in-store signage to reinforce our basic value image, and we
strive to generate customer excitement through the use of end-cap displays featuring new merchandise and special promotions, food demonstrators
offering product samples, and ongoing introduction of new items.




We have also attempted to design
our stores to minimize our costs. This includes more energy efficient buildings, lighting and equipment. For example, we achieve lower construction and
maintenance costs because we do not use expensive fixtures such as floor tiles and false ceilings. In addition, our refrigeration supplier has designed
specialized refrigeration units using modern equipment that allows for cost-effective monitoring, maintenance and repair, and helps keep our energy
costs to a minimum. We have also developed standardized construction specifications and have negotiated competitive prices on building materials, such
as metal exterior panels, building components, store equipment and shelving, allowing us better control of material costs on a per-facility basis and
helping us obtain more uniformity of materials throughout our facilities.




Merchandising




We typically carry approximately
3,000 stock-keeping units, or SKUs, compared to the 4,000 to 5,000 SKUs industry sources estimate are carried by traditional warehouse clubs. Our
stores do not have certain departments found in most large-format warehouse clubs, such as automobile tire, bakery, photo finishing and prescription
drug departments. Our stores feature the following main product categories:




Food-Perishables.  Meat, produce, deli, dairy and frozen items represent approximately 26% of a typical stores net
sales. The reach-in freezers and coolers are substantially larger than those found in the stores of most of our local island competitors.
In addition, we sell rotisserie chicken and ribs in six of our stores, and we offer produce for sale by the pound in seven of our
stores.




Food-Non-perishables.  Dry grocery goods, including soda, wine, beer, liquor, candy and snacks, represent approximately 41%
of a typical stores net sales. Also included in this area are ethnic and specialty items catering to local consumer demands.




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Nonfood.  Other
nonfood items comprise the remaining 33% of a typical stores net sales, and include tobacco, pet products, sundries, health and beauty aids,
office products, hardware, electronics, housewares, furniture and sporting goods.




Purchasing.  We
balance our product mix by providing popular U.S. brand-name products together with local ethnic items found in each island region. Approximately 25%
of our items are produced locally or purchased through local suppliers in each market. We believe offering locally-purchased merchandise enables us to
better serve our island customers and offer an innovative variation to the warehouse store format. Our store managers are able to purchase product that
may be available only on their particular islands. Our corporate buyers monitor sales and inventory levels on a daily basis from all of our stores. In
an effort to cater to retail customers who generally purchase products for home use, we carry products in various product sizes, including single
packages, bulk packages and mid-sized value-packs. We purchase merchandise from manufacturers and suppliers on a purchase order
basis.




Pricing.  We
strive to be the low price leader for the markets we serve. We do not charge our customers a membership fee, thereby allowing all consumers
to receive the benefits of our value-pricing philosophy. Our goal is to provide everyday low prices that are generally lower than regular prices
offered at most retailers, such as grocery stores, and are generally intended to be slightly lower than those offered by mass merchant discount
retailers, such as Wal-Mart and Kmart, that operate in some of our island markets. In our ongoing effort to achieve the lowest prices offered in a
particular market, we regularly compare prices and products being offered by our local competitors. Generally, given the economic efficiencies that we
can bring to bear with our ability to purchase product in large quantities as well as our efficient distribution system that allows us to take
advantage of favorable freight and transportation costs, we believe that we have a competitive advantage when pricing most of our products compared to
local competition. However, if the comparison of local competitors prices discloses that our prices exceed those of our local competition, then
our store managers have the authority to reduce prices to remain competitive. We believe this decentralization of pricing decisions allows us to
respond quickly and efficiently to competitive challenges in each of our island markets.




Distribution




We operate a distribution
facility in San Leandro, California, and we use third-party operated facilities in Port Everglades, Florida and Sacramento, California. To a lesser
extent, we use third-party facilities in New Zealand and Australia to serve our Fiji and Samoa markets. We have no written agreements with the
independently operated distribution facilities, but instead have month-to-month service relationships. At each distribution facility, merchandise is
received, consolidated and cross-docked, and ultimately shipped in fully-loaded containers to our stores under the supervision of our own Cost-U-Less
trained employees. The depot has a lane designated for each store. When a full container load is queued into a specific lane, goods are
loaded by forklift into a cargo container, which, when filled, is then delivered to the closest port for shipment to the designated store. Our
management has significant experience and long-term relationships with steamship lines and, with our present volume, has negotiated what we believe to
be competitive transportation rates. We do not have a warehouse, but control inventory levels in our stores by maintaining sufficient safety stock in
the stores combined with efficient cross-dock facilities. For perishable items, such as meats and frozen and chill goods, we use independently operated
refrigerated depots. Fruits and vegetables are purchased direct from established suppliers and then shipped in refrigerated containers to each
store.




Management Information Systems




We consider our management
information systems to be a key component of our business model. Each day we track inventory movement, sales and purchase orders by SKU number, vendor
number, store and date. We use electronic point-of-sale (POS) equipment in all our stores. During 2006, we replaced our POS system that was originally
installed in 1993 with a new and improved version at a cost of approximately $1.0 million, two-thirds of which was financed with a capital lease. We
believe our new POS system allows us to improve customer service, transmit data more reliably and remotely manage our store systems from our corporate
office, and provides a foundation for future growth and operational enhancement tools. We take pride in being among the leaders in technology in the
island markets we serve and our new POS system will help preserve our position.




All data and communications from
each location are sent via our company wide area network, to the computer system located at our headquarters in Washington State. Our company wide area
network provides communications capabilities that allow for quick responses to ever-changing customer needs and local retail opportunities. The
ability




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to quickly and consistently
communicate between our headquarters and store locations is necessary since our stores are located in such remote locations.




Employee Organization, Training and
Compensation




Management of each of our stores
generally consists of a store manager, one assistant manager and two to three department managers, depending on the store. The merchandising manager
oversees the training and day-to-day operations of the stockers and forklift operators. The receiving manager oversees the day-to-day receiving
operations and the receiving clerks. The administrative manager oversees the training and day-to-day operations of the vault clerks, cashiers and
security personnel, if applicable. In addition, we have both a Caribbean and a Pacific regional manager who supervise our store
managers.




Our goal is to hire most of our
employees from the island market in which the particular store resides, thus creating job opportunities for local residents. New store employees
initially receive one to two weeks of training, which typically includes working alongside individuals in comparable positions before working without
direct supervision. We have found that such on-the-job training, together with the use of detailed operating and training manuals, is an effective way
to introduce new employees and managers to our systems and procedures.




In total, we employ approximately
600 people worldwide. As of March 19, 2007, we had approximately 55 full-time equivalent employees at our corporate office and depots located in the
United States. None of our employees is currently covered by a collective bargaining agreement.




We strive to attract and retain
highly motivated, performance-oriented employees and managers by offering competitive compensation, including bonus programs based on performance. Our
Store Manager Bonus Program provides for annual bonuses for store managers based on store and company performance. We also provide an incentive bonus
program for all store employees based on monthly sales and inventory control targets.




Customer Service




We bring a commitment to customer
service that we believe gives us a competitive advantage in each of the local markets we serve. Our store layout is designed to maximize floor space
used for selling product as well as to give customers a spacious feel while shopping. We accept various forms of payment, including food stamps and
credit and debit cards, and we selectively extend credit to some local businesses and government agencies. For most items, we have a 30-day,
no-questions-asked return policy. Each of our stores has approximately ten checkout lanes, which allows for quick and efficient shopping. Each store
features a customer desk where customers can have questions answered, usually by a management team member. We also train our employees to help
customers locate store products.




Marketing and Advertising




We generally rely on
word-of-mouth advertising in order to save on advertising and marketing costs and pass on the savings to our customers. We have historically spent
approximately 0.2% of net sales on advertising; which consists of approximately fifteen advertisements per year in each market. However, in more
competitive markets we commit to higher marketing and advertising costs.




To remain competitive in the St.
Thomas, Guam and Curacao markets, among other things, we implemented a customer loyalty program for our customers. Our customers earn
points based on the dollar amount of items purchased in our stores, which affords them the opportunity to receive gift certificates for
merchandise in our stores and other promotional items.




Competition




The discount retail and grocery
businesses are highly competitive. Our competition includes local, national and international grocery store chains. We have also faced competition from
warehouse clubs and discount retailers such as Wal-Mart, Kmart and Costco in Hawaii, from Kmart in the U.S. Virgin Islands and Guam, and from
PriceSmart in St. Thomas and Guam.




Some of our competitors have
substantially greater resources, buying power and name recognition than we have. The cost of doing business in island markets is typically higher than
on the U.S. mainland because of ocean freight and duty costs and higher facility costs. While we expect that the size of some of the markets in which
we operate or expect to enter will delay or deter entry by many of our larger competitors, there can be no assurance




8


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that our larger competitors
will not decide to enter these markets or that other competitors will not compete more effectively against us.




Our gross margin and operating
income are generally lower for those stores in markets where traditional warehouse clubs and discount retailers also operate stores, due to increased
price competition and reduced market share. If a traditional warehouse club or discount retailer were to enter one of our existing markets, our
operating results would likely suffer. To remain competitive in our markets, we may be required to reduce prices and take other actions. Historically,
we have remodeled stores and implemented customer loyalty programs for our customers in response to increased competition.




In October 2006, Costco opened a
new store in Kauai, Hawaii, which caused our sales, gross margin and operating results for our Kauai store to be significantly lower in fiscal 2006
than in prior years due to the increased competition and reduced market share. Prior to, and subsequent to, Costcos opening, we have attempted to
preserve our position in the Kauai market by taking several actions which included, but were not limited to, adding produce for sale by the pound,
increasing our organic merchandise selection and facility improvements.




Intellectual Property




We obtain proprietary rights
protection for trademarks by filing applications for registrable marks with the U.S. Patent and Trademark Office. We have been granted federal
registration of the name and stylized logo Cost-U-Less. In addition, we rely on trade secret laws to protect our proprietary rights. While
we believe that our trademarks and other proprietary know-how have significant value, changing technology and the competitive marketplace make our
future success dependent principally upon our employees technical competence and our business strategy.




There can be no assurance that
third parties will not assert claims against us with respect to existing and future trademarks, trade names and sales techniques. In the event of
litigation to determine the validity of any third partys claims, such litigation could result in significant expense and divert the efforts of
our management, whether or not such litigation is determined in our favor.




Governmental Regulation




We are subject to various
applicable laws and regulations administered by federal, state and foreign regulatory authorities, including, but not limited to, laws and regulations
regarding tax, tariffs, currency repatriation, zoning, health and safety, employment and licensing requirements. Additionally, should we pursue future
expansion in foreign countries, our operations would be subject to additional foreign regulatory standards, laws and regulations, in addition to
customs, duties and immigration laws and regulations. Changes in the foregoing laws and regulations, or their interpretation by agencies and the
courts, occur from time to time. While we believe that we presently comply in all material respects with such laws and regulations, there can be no
assurance that future compliance will not have a material adverse effect on our business, financial condition and operating results.




Available Information




We file reports with the
Securities and Exchange Commission, including annual reports on Form 10-K, quarterly reports on Form 10-Q and other reports from time to time. You may
read and copy any materials we file with the SEC at the SECs Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549. You may obtain
information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. We are an electronic filer and the SEC maintains an
Internet site at http://www.sec.gov that contains the reports, proxy and information statements, and other information filed electronically. Additional
information about Cost-U-Less, Inc. is available at www.costuless.com.


|Item 1A. |  | Risk Factors
|-------- |  | ------------



You should carefully consider the
following factors that may affect future results and other information included in this annual report. The risks and uncertainties described below are
not the only ones we face. Additional risks and uncertainties not presently known to us or that are currently deemed immaterial also may impair our
business operations or could cause actual results to differ from historical results or those anticipated. If any of the following risks actually occur,
our business, financial condition and operating results could be materially adversely affected.




9


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Because we have a small store
base, adverse store performance or increased expenses will have a more significant adverse impact on our operating and financial results than if we had
a larger store base.  We opened our first store in 1989 and opened a total of 21 stores through December 2006 and presently operate
eleven stores. Our closure of the ten other stores prior to March 2001 adversely affected our operating results. Should any existing store experience a
significant decline in profitability or any new store be unprofitable, the negative effect on our business would be more significant than would be the
case if we had a larger store base, and could have a material adverse effect on our business, financial condition and results of operations. For
example, in October 2006, Costco opened a new store in Kauai, Hawaii, which caused our sales, gross margin and operating results for our Kauai store to
be significantly lower in fiscal 2006 than in prior years due to the increased competition and reduced market share. Although we have taken several
actions to try to preserve our market position in Kauai, if the store continues to be unprofitable it will have a significant negative effect on our
overall operating results and financial condition.




In addition, if our general and
administrative expenses increase, the negative effect on our business and results of operations would be more significant than if we had a larger store
base. Although we intend to carefully plan for the implementation of additional stores, there can be no assurance that such plans can be executed as
envisioned or that the implementation of those plans will not have a material adverse effect on our business, financial condition and results of
operations. In addition, our ability to acquire products at a lower cost than competitors or obtain volume-based pricing can be adversely affected
because of our small store base.




Our ability to operate
profitably in existing markets and to expand into new markets may be adversely affected by competing warehouse clubs or discount
retailers.  The warehouse club and discount retail businesses are highly competitive. If we fail to successfully respond to competitive
pressures in this industry, or to effectively implement our strategies to respond to these pressures, our operating results may be negatively affected.
Many of our competitors have substantially greater resources, buying power and name recognition. The cost of doing business in island markets is
typically higher than on the U.S. mainland because of ocean freight and duty costs and higher facility costs. In addition, our gross margin and
operating income are generally lower for stores in markets where traditional warehouse clubs and discount retailers also operate stores, due to
increased price competition and reduced market share. We may be required to implement price reductions and other actions in order to remain competitive
in our markets.




In October 2006, Costco opened a
new store in Kauai, Hawaii, which caused our sales, gross margin and operating results for our Kauai store to be significantly lower in fiscal 2006
than in prior years due to the increased competition and reduced market share. Prior to, and subsequent to, Costcos opening, we have attempted to
preserve our position in the Kauai market by taking several actions which included, but were not limited to, adding produce for sale by the pound,
increasing our organic merchandise selection and facility improvements. If we are not successful in recapturing our market position in Kauai, then the
profitability of this store will be in jeopardy.




Our ability to expand into and
operate profitably in new markets may be adversely affected by the existence or entry of competing warehouse clubs or discount retailers. These factors
could result in reduced sales and margins or loss of market share, any of which could negatively affect our results of operations.




One or more of our stores may
be damaged or destroyed by volatile weather conditions or natural disasters, which would severely harm our business and financial
results.  Our stores are primarily located on islands subject to volatile weather conditions and natural disasters, such as tsunamis,
hurricanes, floods, typhoons and earthquakes. If the islands on which any of our stores is located were to experience any of these or other severe
weather conditions or natural disasters, one or more of our stores could be damaged significantly or destroyed. For example, on December 8, 2002, our
two stores on the island of Guam suffered damage from Supertyphoon Pongsona, resulting in the immediate closure of both stores. Our Tamuning store lost
its generator in the storm and our Dededo store had to be closed for reconstruction. Additionally, we have four stores in the Caribbean, which has
experienced increased activity from hurricanes and tropical storms in the past few years. The damage or destruction of one or more of our stores would
materially harm our business, operating results and financial condition. We could also experience business interruptions, delays in shipping, delays in
construction or loss of life as a result of severe weather conditions, any of which could materially affect our business.




If we were to experience a
catastrophic loss as a result of severe weather conditions or otherwise, we may exceed our insurance policy limits and we may have difficulty obtaining
similar insurance coverage in the future.  We maintain property, casualty and business interruption insurance coverage in amounts we
consider




10


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customary in our industry for
these types of events. However, insurance payments generally do not fully reimburse us for all of the damages and lost profits caused by adverse
weather events. If any insurance reimbursement we receive does not fully cover the losses and business interruption caused by severe weather events or
natural disasters, or if our insurance coverage is not adequate to cover such losses or we exceed our insurance policy limits, we may be required to
pay substantial amounts and our financial condition and liquidity would suffer.




Additionally, we utilize a
combination of insurance policies and self-insurance mechanisms to provide for the potential liabilities for property, general liability, director and
officers liability, workers compensation and employee health care insurance. The costs related to obtaining our current insurance coverage
have been increasing. If the costs of maintaining this insurance coverage continue to increase significantly, we would experience an associated
increase in our store and administrative expenses that may negatively impact our results of operations. In addition, there is no assurance as to how
casualty insurance carriers may react to increasing weather related damages in areas where our stores are located. If we are unable to maintain our
current or similar insurance coverage, or if an event were to occur that was not covered by our current insurance policy coverage levels (including
acts of terrorism, war and actions such as government nationalizations), our business and results of operations could suffer.




If energy costs and fuel
surcharges continue to rise, the profitability of our stores may decline and our business and financial condition could suffer.  We have
experienced increasing energy and fuel surcharge costs over the last few years and have largely been able to pass these additional costs on to our
customers through higher prices. For example, during fiscal 2006, our store energy (utility) expenses were approximately 17% higher than in fiscal
2005. If these costs continue to rise, we may not be able to continue the practice of passing on these additional costs to our customers. If we are
unable to effectively pass on these costs to our customers could have a significant adverse effect on our business, results of operations and financial
condition. In addition, our customers may face higher energy costs in their households, which may result in less money available to spend in our
stores.




If we fail to effectively
manage the logistical and local operating challenges we face because our business primarily consists of island and international operations, our
business and results of operations would suffer.  Our net sales from island operations represented approximately 96.6% of our total net
sales for fiscal 2006. We expect that our island and international operations together will continue to account for nearly all of our total net sales.
The distance, as well as the time-zone differences, involved with island locations impose significant challenges to our ability to manage our
operations. Logistical challenges are presented by operating individual store units in remote locations, whether in terms of information flow or
transportation of goods. In addition, island operations involve uncertainties arising from items such as:


| |  | Changes in local labor markets, including unionization or
inadequate labor pools,
|- |  | ---------------------------------------------------------------------------------

| |  | Local business practices, language and cultural considerations,
including the capacity or willingness of local business and government officials to provide necessary services,
|- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Ability to acquire, install and maintain modern capabilities
such as dependable and affordable electricity, telephone, computer, Internet and satellite connections, and other equipment, often in undeveloped
regions,
|- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Currency exchange rate fluctuations and repatriation
restrictions,
|- |  | ------------------------------------------------------------------

| |  | Difficulty enforcing agreements or protecting intellectual
property,
|- |  | --------------------------------------------------------------------

| |  | Collection of debts and other obligations in foreign countries,
and
|- |  | -------------------------------------------------------------------

| |  | Volatile island operating expenses, including
utilities.
|- |  | --------------------------------------------------------



Our inability to effectively
manage these logistical challenges and local uncertainties inherent in our island and international operations could have a significant adverse effect
on our business, results of operations and financial condition.




If the countries in which we
operate experience a decrease in foreign aid, our business could suffer.  Eight of our stores are located outside the United States. Some
of those locations depend on foreign aid to support their local economies. A change in the level of foreign aid provided to these countries could have
a material adverse effect on our business, financial condition and results of operations.




Acts of terrorism or political
instability, globally or in countries where we operate, may cause a prolonged decrease in tourism and air travel, which could have an indirect but
significant impact on our financial performance, operations and liquidity.  The success of our operations depends to a significant extent
on tourism and the travel industry. Prolonged adverse occurrences affecting tourism or air travel, particularly to non-U.S.
destinations,




11


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including political
instability, armed hostilities, terrorism, weather conditions, or other activity that involves or affects air travel or the tourism industry generally,
could have an indirect but adverse and significant impact on our financial performance, operations, liquidity or capital resources.




We do not have operating
experience in many of the markets in which we may consider opening new stores. If we are unable to adapt our operations to support any future expansion
plans or if any new stores we open are not profitable, our business and financial condition could suffer.  We have not opened stores in
foreign island markets at a rapid pace. However, in July 2005, the Cayman Islands Trade and Business Licensing Board granted us approval to operate a
retail and wholesale business in the Cayman Islands through a controlled subsidiary organized in the Cayman Islands. On April 25, 2006, we entered into
a long-term lease with the developer of Governors Square in Grand Cayman to lease land on which to construct and operate a store under the
Cost-U-Less name. Construction on the new store began in late 2006 with a currently estimated completion date late in the third fiscal quarter or in
the fourth fiscal quarter of 2007.




Although we have no plans to open
additional stores in 2007, we continue to explore expansion opportunities in selected markets and additional relocation opportunities for stores in
existing markets. For example, in May 2005 we moved our St. Croix store into a newly constructed building on a parcel of land located closer to the
main trade area in the center of the island than our former store. On August 10, 2006, we completed the remodel and expansion of our store in St.
Thomas. In addition to increasing the size of our store by approximately 6,400 square feet (an increase of approximately 18%), we also upgraded and
replaced much of the stores equipment, added a new produce format and a rotisserie department. Additionally, we remodeled our Kauai store to add
retail enhancements such as fresh produce by the pound.




New markets such as the Cayman
Islands and others we may enter may present operational, competitive, regulatory and merchandising challenges that are different from those we
currently encounter. We do not have operating experience in many of the markets in which we may consider opening new stores. In fact, in June 2000, we
closed the two stores that we had opened in New Zealand in 1999, since they had performed below expectations, due in part to competitive and
merchandising challenges that are different from our other stores. Additionally, in February 2001, we closed one of our two Fiji stores, due primarily
to the impact that political turmoil and the resulting economic downturn in Fiji were having on the tourist industry. We have encountered, and may
continue to encounter, substantial delays, increased expenses or loss of potential store sites due to the complexities, cultural differences, and local
political issues associated with the regulatory and permitting processes in the island markets in which we may locate our stores. There can be no
assurance that we will be able to adapt our operations to support our future expansion plans or that any new stores will be profitable. Any failure on
our part to manage our growth could have a material adverse effect on our business, financial condition and results of
operations.




A decline in the general
economic condition in the United States or in island markets in which we operate could have a significant impact on our financial
performance.  The success of our operations depends to a significant extent on a number of factors relating to discretionary consumer
spending, including employment rates, business conditions, interest rates, inflation, population and gross domestic product levels in each of our
island markets, taxation, consumer spending patterns and customer preferences. We cannot fully foresee the changes in business and economic conditions
that may result from domestic or foreign factors. There can be no assurance that consumer spending in our markets will not be adversely affected by
these factors, thereby affecting our growth, net sales and profitability. A downturn in tourism or a decline in the national or regional economies of
the United States and the U.S. Territories or any foreign countries in which we currently or will operate, could have a material adverse effect on our
business, financial condition and results of operations.




The loss of key personnel or
our inability to successfully hire skilled store managers could harm our business and results of operations.   Our success depends in
large part on the abilities and continued service of our executive officers and other key employees. Additionally, we rely significantly on the skill
and expertise of our on-site store managers, particularly in island markets where language, education and cultural factors may impose additional
challenges. We do not carry key-man life insurance on any of our personnel. There can be no assurance that we will be able to hire, train and retain
skilled managers and personnel to support our existing business and any growth, or that we will be able to retain the services of our executive
officers and other key employees, the loss of any of whom could have a material adverse effect on our business, financial condition and results of
operations.




If our information systems are
disrupted, our business and results of operations could suffer.  Our business depends on communications and information systems,
primarily systems provided by third-party vendors. Any




12


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failure or interruption of
our systems or systems provided by third-party vendors could cause delays or other problems in our operations, which could have a material adverse
effect on our business, financial condition and results of operations.




If our store employees decide
to unionize, we may experience increased operating costs or other operation problems.  None of our employees is currently covered by a
collective bargaining agreement. Unionization of any of our stores could result in higher employee compensation and restrictive working condition
demands that could increase our operating costs and have a material adverse effect on our business, financial condition and results of
operations.




We are subject to various
governmental regulations and licensing requirements, which may have an adverse effect on our business.  Governmental regulations and
licensing requirements in foreign countries where we plan to expand our operations might prevent or delay entry into the market or prevent or delay the
introduction, or require modification, of certain of our operations. For example, construction on our new store in the Cayman Islands began in late
2006 as anticipated, but permitting delays experienced since that time have extended the completion date beyond the first half of fiscal 2007 to a
currently estimated completion date late in the third fiscal quarter or in the fourth fiscal quarter of 2007. Additionally, our ability to compete may
be adversely affected by foreign governmental regulations and licensing requirements that encourage or mandate the employment of citizens of, or
purchase of supplies from vendors, in a particular jurisdiction. We may also be subject to taxation in these foreign jurisdictions, and the final
determination of our tax liabilities may involve the interpretation of the statutes and requirements of the various domestic and foreign taxing
authorities. We may also be subject to currency repatriation restrictions. If governmental regulations or licensing requirements prevent or delay our
entry into markets, require modification of our existing operations, or subject us to taxation or currency repatriation issues, our business, financial
condition and results of operations could suffer.




If we are unable to overcome
challenges resulting from the isolation of store operations from our corporate management and our increased dependence on local managers, we may
experience decreased productivity or other operational problems.  Our headquarters and administrative offices are located in Washington
State; however, ten of our eleven stores and a majority of our employees are located on islands. Although we invest resources to hire and train our
on-site managers, the inability of our executives to be physically present at our current and planned store sites on a regular basis may result in the
following:


| |  | Isolation of store operations from corporate management and an
increased dependence on store managers,
|- |  | ------------------------------------------------------------------------------------------------------

| |  | Diminished ability to oversee employees, which may lead to
decreased productivity or other operational problems,
|- |  | ----------------------------------------------------------------------------------------------------------------

| |  | Construction delays or difficulties caused by inadequate
supervision of the construction process, and
|- |  | -----------------------------------------------------------------------------------------------------

| |  | Communication challenges.
|- |  | -------------------------



We may need to invest significant
resources to update and expand our communications systems and information networks and to devote a substantial amount of time, effort and expense to
national and international travel in order to overcome these challenges; failure to do so could have a material adverse effect on our business,
financial condition and results of operations.




We may encounter disruption in
the transportation of our products, which would significantly harm our business.  Our island locales require the transportation of
products over great distances on water, which results in the following:


| |  | Substantial lags between the procurement and delivery of
product, thus complicating merchandising and inventory control methods,
|- |  | --------------------------------------------------------------------------------------------------------------------------------

| |  | Possible loss of product due to potential damage to, or
destruction of, ships or containers delivering our goods,
|- |  | -----------------------------------------------------------------------------------------------------------------

| |  | Tariff, customs and shipping regulation issues,
|- |  | -----------------------------------------------

| |  | Substantial ocean freight and duty costs,
|- |  | -----------------------------------------

| |  | Port and container security issues, and
|- |  | ---------------------------------------

| |  | Interruption in the delivery of product due to labor disruption
or weather related issues.
|- |  | ------------------------------------------------------------------------------------------



Moreover, only a limited number
of transportation companies service our regions, none of which has entered into a long-term contract with us. The inability or failure of one or more
key transportation companies to provide transportation services to us, changes in the regulations that govern shipping tariffs or any other disruption
in our




13


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ability to transport our
merchandise could have a material adverse effect on our business, financial condition and results of operations.




Our failure to adequately
address barriers and challenges associated with expansion outside of the United States or its territories could cause our business to
suffer.  Three of our existing stores, as well as the store we are building in the Cayman Islands, are located outside the United States
and its territories. Our future expansion plans may involve entry into additional foreign countries, which may involve additional or heightened
barriers and challenges that are different from those we currently encounter, including risks associated with being further removed from the political
and economic systems in the United States and anti-American sentiment as a result of political or military action. We do not currently engage in
currency hedging activities. The failure to adequately address the additional challenges involved with international operations could have a material
adverse effect on our business, financial condition and results of operations.




Certain provisions in our
charter documents and elsewhere may discourage third parties from attempting to acquire control of our Company, which may have an adverse effect on the
price of our stock.  Our board of directors has the authority, without obtaining shareholder approval, to issue up to 2,000,000 shares of
preferred stock and to fix the rights, preferences, privileges and restrictions of such shares without any further vote or action by our shareholders.
Our articles of incorporation and bylaws also provide for a classified board, special advance notice provisions for proposed business at annual
meetings and a requirement that a business combination be approved by holders of at least two-thirds of our outstanding common stock under certain
circumstances. In addition, Washington law contains certain provisions that may have the effect of delaying, deferring or preventing a hostile takeover
of our company. Further, we have a shareholder rights plan that is designed to cause substantial dilution to a person or group that attempts to acquire
our company without approval of our board of directors, and thereby make a hostile takeover attempt prohibitively expensive for a potential acquirer.
These provisions, among others, may have the effect of making it more difficult for a third party to acquire, or discouraging a third party from
attempting to acquire, control of our company, even if shareholders may consider such a change in control to be in their best interests, which may
cause the price of our common stock to suffer.


|Item 1B. |  | Unresolved Staff Comments
|-------- |  | -------------------------



None.




14


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|Item 2. |  | Properties
|------- |  | ----------



We lease a majority of our
existing store locations. We also lease the land for our St. Thomas and St. Maarten stores, but own the store facilities. The stores average
approximately 32,500 square feet and range in size from approximately 22,000 square feet to approximately 42,400 square feet. Traditional warehouse
stores found in the United States average approximately 130,000 square feet. With the exception of our Sonora store, which opened in an existing
facility, all of our stores have been built to our specifications.




We recently developed a new and
larger store footprint based on our new St. Croix store. This footprint averages 35,000 to 41,000 square feet. The larger and improved
footprint allows us to add retail enhancements such as fresh produce by the pound and rotisserie chicken, features we successfully added to our stores
in St. Croix, St Thomas, Curacao, California and both Guam stores.




We have developed a standard
lease that we use as a starting point for our lease negotiations with each potential landowner/developer. We routinely negotiate 10-year net leases
with at least two five-year renewal options. The following is a summary of our store locations:







|Location                                      |  |  |  | Date Opened               |  | Approximate Store Square Footage |  | Current Lease Term |  | Current Expiration Date |  | Remaining Options to Extend
|--------------------------------------------- |  |  |  | ------------------------- |  | -------------------------------- |  | ------------------ |  | ----------------------- |  | ---------------------------
|Dededo, Guam                                  |  |  |  | May 1,
1992               |  | 38,800                           |  | 15
years           |  | May 31,
2017            |  | none                       
|Hilo, Hawaii                                  |  |  |  | August 27,
1992           |  | 23,000                           |  | 15
years           |  | August 31,
2007         |  | 10
years                   
|Kapaa, Kauai                                  |  |  |  | March 18,
1993            |  | 22,000                           |  | 17
years           |  | April 22,
2010          |  | 10
years                   
|St. Thomas,
USVI(Land Lease) (1)              |  |  |  | August 19,
1993 (2)       |  | 42,400                           |  | 20
years           |  | September 30,
2017      |  | 30
years                   
|Sonora, CA                                    |  |  |  | January
27, 1994          |  | 23,150                           |  | 10
years           |  | April 30,
2009          |  | 5
years                    
|St. Croix,
USVI (3)                           |  |  |  | November
3, 1994          |  | 38,000                           |  | 15
years           |  | March 31,
2022          |  | 10
years                   
|Tamuning, Guam                                |  |  |  | March 15,
1995            |  | 35,000                           |  | 15
years           |  | March 1,
2010           |  | 10
years                   
|Pago Pago,
American Samoa                     |  |  |  | March 20,
1995            |  | 32,055                           |  | 10
years           |  | February 28,
2015       |  | 5
years                    
|Suva, Fiji                                    |  |  |  | November
12, 1998         |  | 30,000                           |  | 10
years           |  | November 1,
2008        |  | 10
years                   
|Curacao,
Netherlands Antilles                 |  |  |  | March 2,
1999             |  | 38,711                           |  | 10
years           |  | February 1,
2009        |  | 10
years                   
|St. Maarten,
NetherlandsAntilles (Land Lease) |  |  |  | June 29,
2000             |  | 36,000                           |  | 25
years           |  | February 25,
2024       |  | 30
years                   
|Cayman Islands                                |  |  |  | Scheduled
to open in 2007 |  | 41,000                           |  | 20
years           |  | March 31,
2026          |  | 10
years                   






|(1) |  | On August 10, 2006, we completed the remodel and expansion of
our store in St. Thomas, adding approximately 6,400 square feet (an increase of approximately 18%). On November 29, 2005, we amended our St. Thomas
lease to provide for increased rent as a result of the increased size of our store. No other terms and conditions of the original lease were
amended.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) |  | We relocated and reopened our St. Thomas store on June 25,
1998.
|--- |  | ----------------------------------------------------------------

|(3) |  | On May 26, 2005, we relocated our St. Croix store to a newly
constructed building on a parcel of land, which is located closer to the main trade area in the center of the island. This new building expanded the
size of our St. Croix store by about 45% to approximately 38,000 square feet.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



While we initially owned the land
and building of our new St. Croix store, in December 2006, we entered into an agreement providing for the sale and simultaneous leaseback of the store.
The purchase agreement provided for the sale of the building and land on which we currently operate the store to Series B, LLC, an Arizona limited
liability company, for $6.2 million. The purchase agreement contained customary representations, warranties, covenants and conditions to close. The
purchase agreement was also subject to completion of satisfactory due diligence by Series B. On March 26, 2007, we closed the sale and simultaneous
leaseback of the St. Croix store under the purchase agreement. The term of the lease is 15 years and contains two five-year options to extend the term
of the lease.




In July 2005, the Cayman Islands
Trade and Business Licensing Board granted us approval to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary
organized in the Cayman Islands. On April 25, 2006, we entered into a long-term lease with the developer of Governors Square in Grand Cayman to
lease land on which to construct and operate a store under the Cost-U-Less name. Construction on the new store began in late 2006 with a currently
estimated completion date late in the third fiscal quarter or in the fourth fiscal quarter of 2007.




15


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On April 5, 2004, we relocated
our principal offices to a new location approximately ten miles from our former offices. Our lease consists of approximately 9,000 square feet of
office space in Bellevue, Washington, and expires on March 31, 2009. In addition, we lease our San Leandro distribution facility. The facility is
approximately 56,000 square feet, and the lease expires on January 31, 2012. We also use third-party operated distribution facilities in Florida,
California, New Zealand and Australia.




We intend to finance any future
relocations and new stores, either through an operating lease, a sale-leaseback arrangement or long-term funding from a financial institution. We
intend to continue leasing as many of our store locations as feasible. In those instances where a lease is not available on acceptable terms, we intend
to finance our stores utilizing long-term funding from a financial institution (as we currently do for our St. Thomas and St. Maarten
buildings).


|Item 3. |  | Legal Proceedings
|------- |  | -----------------



We may be subject to legal
proceedings or claims, either asserted or unasserted, that arise in the ordinary course of business. While the outcome of these potential claims cannot
be predicted with certainty, we do not believe that any pending legal matters will have a material adverse effect on us. However, any adverse outcome
to future lawsuits against us may result in a material adverse affect on our financial condition.


|Item 4. |  | Submission of Matters to a Vote of Security
Holders
|------- |  | ---------------------------------------------------



No matters were submitted to a
vote of our shareholders during the fourth quarter of the fiscal year ended December 31, 2006.




16


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PART II


|Item 5. |  | Market for Companys Equity, Related Shareholder Matters
and Issuer Purchases of Equity Securities
|------- |  | --------------------------------------------------------------------------------------------------



Market Information




Our common stock is currently
traded on the Nasdaq Capital Market under the symbol CULS. The last sale price of our common stock on the Nasdaq Capital Market on March
19, 2007 was $9.16 per share. High and low sales prices for our common stock for the periods indicated are as follows. Such prices reflect inter-dealer
prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.







|                                      |  |  |  | Stock Price |      
|------------------------------------- |  |  |  | ----------- | -----
|
|Fiscal 2006
(ended December 31, 2006) |  |  |  |             |      
|First Quarter                         |  |  |  | $           | 8.75 
|Second
Quarter                        |  |  |  |             | 8.72 
|Third Quarter                         |  |  |  |             | 9.41 
|Fourth
Quarter                        |  |  |  |             | 9.45 
|                                     
|Fiscal 2005
(ended January 1, 2006)   |  |  |  |             |      
|First Quarter                         |  |  |  | $           | 10.96
|Second
Quarter                        |  |  |  |             | 11.94
|Third Quarter                         |  |  |  |             | 9.05 
|Fourth
Quarter                        |  |  |  |             | 7.85 



We have never declared nor paid
any cash dividends on our common stock. We currently anticipate that we will retain all future earnings for use in the expansion and operations of our
business and do not anticipate paying cash dividends in the foreseeable future.




Holders




As of March 19, 2007, there were
41 holders of record of our common stock. This figure does not include the number of shareholders whose shares are held of record by a broker or
clearing agency, but does include each such brokerage house or clearing agency as a single holder of record.




17


---



Comparison of Shareholder Return




The following graph compares the
cumulative total shareholder return on our common stock for the period commencing on December 28, 2001, and ending on December 29, 2006, with the
cumulative total return of the Nasdaq Stock Market Index (US) and the Nasdaq Retail Trade Stocks Index over the same period (assuming an investment of
$100 in the common stock, stocks comprising the Nasdaq Stock Market Index (US), and the stocks comprising the Nasdaq Retail Trade Stocks Index December
28, 2001, and the reinvestment of all dividends).




Equity Compensation Plan Information




Information relating to our
equity compensation plans is incorporated by reference to the definitive proxy statement for our 2007 annual meeting of shareholders. Additional
information regarding our equity compensation plans can be found in note 8 to our consolidated financial statements in this annual
report.




18


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|Item 6. |  | Selected Financial Data
|------- |  | -----------------------



The following selected financial
data, excluding the selected operating data, is derived from our audited consolidated financial statements and accompanying notes. This selected
financial data should be read in conjunction with Managements Discussion and Analysis of Financial Condition and Results of Operation
and the consolidated financial statements and the notes thereto included elsewhere in this report. Our fiscal year ends on the Sunday nearest to the
end of December. All years presented represent 52-week fiscal years except fiscal 2005, which was a 53-week fiscal year.




Selected Consolidated Financial and Operating Data (in
thousands, except per share data, average sales per square foot, number of stores and percentage data)







|                                                          |  |  |  | Dec 31, 2006 |         | Jan 01, 2006 |  | Dec.26, 2004 |         | Dec.28, 2003 |  | Dec.29, 2002
|--------------------------------------------------------- |  |  |  | ------------ | ------- | ------------ |  | ------------ | ------- | ------------ |  | ------------
|Income
Statement Data:                                    |  |  |  |              |         |              |  | (53
Weeks)   |         |              |  |             
|Net sales                                                 |  |  |  | $            | 222,022 |              |  | $            | 219,414 |              |  | $           
|Gross profit                                              |  |  |  |              | 41,675  |              |  |              | 40,801  |              |  |             
|Operating
Expenses:                                       |  |  |  |              |         |              |  |              |         |              |  |             
|Store                                                     |  |  |  |              | 29,988  |              |  |              | 28,567  |              |  |             
|General and
administrative                                |  |  |  |              | 6,605   |              |  |              | 6,828   |              |  |             
|Store opening                                             |  |  |  |              | 415     |              |  |              | 335     |              |  |             
|Store closing                                             |  |  |  |              | 0       |              |  |              | 81      |              |  |             
|Operating
income                                          |  |  |  |              | 4,667   |              |  |              | 4,990   |              |  |             
|Interest
expense, net                                     |  |  |  |              | (405    | )            |  |              | (367    | )            |  |             
|Other income
(expense)                                    |  |  |  |              | 6       |              |  |              | 42      |              |  |             
|Income before
income taxes                                |  |  |  |              | 4,268   |              |  |              | 4,665   |              |  |             
|Income tax
provision                                      |  |  |  |              | 1,600   |              |  |              | 1,650   |              |  |             
|Net income                                                |  |  |  | $            | 2,668   |              |  | $            | 3,015   |              |  | $           
|Earnings per
common share:                                |  |  |  |              |         |              |  |              |         |              |  |             
|Basic                                                     |  |  |  | $            | 0.66    |              |  | $            | 0.77    |              |  | $           
|Diluted                                                   |  |  |  | $            | 0.63    |              |  | $            | 0.72    |              |  | $           
|Weighted
average common shares outstanding, basic         |  |  |  |              | 4,016   |              |  |              | 3,939   |              |  |             
|Weighted
average common shares outstanding, diluted       |  |  |  |              | 4,243   |              |  |              | 4,169   |              |  |             
|                                                         
|Selected
Operating Data:                                  |  |  |  |              |         |              |  |              |         |              |  |             
|Stores opened
(1)                                         |  |  |  |              | 0       |              |  |              | 0       |              |  |             
|Stores closed
(1)                                         |  |  |  |              | 0       |              |  |              | 0       |              |  |             
|Stores open
at end of period                              |  |  |  |              | 11      |              |  |              | 11      |              |  |             
|Average net
comparable store sales per square foot (2)(3) |  |  |  | $            | 615     |              |  | $            | 605     |              |  | $           
|Comparable-store net sales increase (2)(3)                |  |  |  |              | 3.4     | %            |  |              | 4.7     | %            |  |             
|                                                         
|Consolidated Balance Sheet Data:                          |  |  |  |              |         |              |  |              |         |              |  |             
|Working
capital                                           |  |  |  | $            | 10,316  |              |  | $            | 9,253   |              |  | $           
|Total assets                                              |  |  |  |              | 54,035  |              |  |              | 49,632  |              |  |             
|Line of
credit                                            |  |  |  |              | 0       |              |  |              | 80      |              |  |             
|Long-term
debt, less current portion                      |  |  |  |              | 1,744   |              |  |              | 2,011   |              |  |             
|Capital
lease, less current portion                       |  |  |  |              | 1,604   |              |  |              | 1,329   |              |  |             
|Total
shareholders equity                                |  |  |  |              | 26,996  |              |  |              | 24,043  |              |  |             






|(1) |  | On December 8, 2002, our two stores on the island of Guam
suffered damage from Supertyphoon Pongsona, resulting in the immediate closure of both stores. Our Tamuning store lost its generator in the storm but
reopened shortly thereafter on December 12, 2002. Our Dededo store, however, suffered more significant damage, and had to be closed for reconstruction.
The store was rebuilt and it reopened for business on October 3, 2003.
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) |  | Fiscal 2005 was a 53-week year; all other fiscal years were
52-week years. Comparable store net sales and average sales per square foot for fiscal 2005 have been adjusted to reflect a 52-week year. Our fiscal
quarters are 13 weeks, except 4th quarter 2005, which was a 14 week quarter.
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) |  | A new store becomes comparable after it has been open for a full
13 months. Comparable-store net sales increases for fiscal 2002, fiscal 2003 and fiscal 2004 are calculated on stores excluding the Guam market as our
Dededo store was closed from December 8, 2002, until its reopening on October 3, 2003.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



19


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|Item 7. |  | Managements Discussion and Analysis of Financial
Condition and Results of Operation
|------- |  | ------------------------------------------------------------------------------------



This Managements Discussion
and Analysis contains forward-looking statements. All statements other than statements of historical fact made in this annual report are
forward-looking. Forward-looking statements reflect managements current expectations and are subject to risks and uncertainties discussed below
and those identified in Item 1A of this annual report on Form 10-K that could cause actual results to differ materially from historical results or
those anticipated.




Overview




We operate mid-sized warehouse
club-style stores in the U.S. Territories, foreign island countries in the Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. Our
primary strategy is to operate in island markets, offering predominantly U.S. branded goods. We currently operate eleven retail stores as follows: two
stores in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix, American Samoa, Fiji, Curacao, St. Maarten and Sonora,
California.




Our stores are patterned after
the warehouse club concept, although our stores


| |  | are smaller (averaging approximately 32,500 square feet vs.
large format warehouse clubs of approximately 130,000 square feet),
|- |  | -------------------------------------------------------------------------------------------------------------------------------

| |  | generally target niche markets, mainly U.S. Territories, U.S.
island states and foreign island countries, where demographics do not support large format warehouse clubs,
|- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | carry a wide assortment of local and ethnic food items,
and
|- |  | -----------------------------------------------------------

| |  | do not charge a membership fee.
|- |  | -------------------------------



Although we do not have large
seasonal fluctuations in sales, the fourth quarter is typically the highest sales quarter due to additional holiday sales.




On August 10, 2006, we completed
the remodel and expansion of our store in St. Thomas. In addition to increasing the size of our store by approximately 6,400 square feet (an increase
of approximately 18%), we also upgraded and replaced much of the stores equipment, added a new produce format and a rotisserie
department.




In late 2006 we began
construction on a new store in the Cayman Islands as anticipated, but permitting delays experienced since that time have extended the completion date
beyond the first half of fiscal 2007 to a currently estimated completion date late in the third fiscal quarter or in the fourth fiscal quarter of
2007.




During fiscal 2005, we built a
new St. Croix store on a parcel of land located closer to the main trade area in the center of the island than our existing store. This new building
expanded the size of our St. Croix store by about 45% to approximately 38,000 square feet. The new store opened on May 26, 2005.




Our net sales increased for the
fiscal year ended December 31, 2006, as compared to the prior year, primarily because of increases in comparable-store sales. Eight of our eleven
stores experienced positive comparable sales during the year; two of which experienced double-digit sales increases. These increases were primarily due
to general inflationary trends and related price increases, improvements in market conditions in isolated cases, improvements in our assortment of
goods and other operating enhancements.




We have experienced increasing
energy and fuel surcharge costs over the last few years and have largely been able to pass these additional costs on to our customers with higher
prices. For example, during fiscal 2006, our store energy (utility) expenses were approximately 17% higher than the same period in fiscal 2005. As
these costs continue to rise, we have had increasing difficulty in passing on these additional costs to our customers.




Store Economics




During fiscal 2006, our eleven
stores generated annual average net sales of approximately $19.8 million, average net sales per square foot of approximately $615, average annual per
store contribution of approximately $1.0 million, and average annual per store contribution before depreciation of approximately $1.2 million. Store
contribution is store gross profit less direct store operating expenses.




20


---



Results of Operations




Our fiscal year ends on the
Sunday nearest to the end of December. Fiscal year 2006 and fiscal year 2004 each included 52 weeks. Fiscal year 2005 included 53 weeks, with the
53rd week falling in the fiscal fourth quarter.




The following table sets forth,
for the periods indicated, the percentage of our net sales represented by certain consolidated income statement data.







|                           |  |  |  | Fiscal Year Ended |      
|-------------------------- |  |  |  | ----------------- | -----
|
|
|Net sales                  |  |  |  |                   | 100.0
|Gross margin               |  |  |  |                   | 18.8 
|Operating
Expenses:        |  |  |  |                   |      
|Store                      |  |  |  |                   | 13.5 
|General and
administrative |  |  |  |                   | 3.0  
|Store opening              |  |  |  |                   | 0.2  
|Operating
income           |  |  |  |                   | 2.1  
|Interest
expense, net      |  |  |  |                   | (0.2 
|Income before
income taxes |  |  |  |                   | 1.9  
|Income tax
provision       |  |  |  |                   | 0.7  
|Net income                 |  |  |  |                   | 1.2  



Fiscal 2006 (52 weeks) Compared to Fiscal 2005 (53
weeks)




Net Sales.  Net
sales for the 52 weeks in fiscal 2006 were $222.0 million, an increase of 1.2%, as compared to net sales of $219.4 million for the 53 weeks in fiscal
2005. The increase in net sales was due to comparable-store sales increases partially offset by a decline in business-to-business sales as compared to
the same period in the prior year. We expect the level of business-to-business activity for fiscal 2007 to be slightly less than the levels in 2006.
Additionally, we anticipate that sales for our Kauai store will be lower in fiscal 2007, as compared to fiscal 2006, due to increased competition and
reduced market share, which has occurred as a result of Costco opening a new store in Kauai on October 17, 2006.




Comparable-store sales (stores
open for a full 13 months) increased 3.4% during fiscal 2006 as compared to fiscal 2005 (as adjusted to reflect a 52-week year). The increase was
primarily due to general inflationary trends and related price increases, improvements in market conditions in isolated cases, improvements in our
assortment of goods and other operating enhancements.




Gross
Margin.  Gross margin improved to $41.7 million, or 18.8% of sales, in fiscal 2006 from $40.8 million, or 18.6% of sales, in fiscal 2005.
The improvement in gross margin was primarily due to improvements in merchandising, including enhanced sourcing and pricing strategies to maintain
operating margins.




Store
Expenses.  Store expenses increased to $30.0 million, or 13.5% of sales, for fiscal 2006 as compared to $28.6 million, or 13.0% of sales,
for fiscal 2005. Approximately 50% of the dollar increase in store expenses was attributable to higher energy (utility) expenses, which were 17% higher
than the same period in the prior year. Another 36% of the dollar increase was due to increased depreciation expense, primarily due to our new store in
St. Croix and the St. Thomas store expansion and remodel. An additional 10% of the dollar increase was attributable to payroll and related costs such
as health care, which were 1% higher than the same period in the prior year. Payroll and related costs, although higher due to volume, remained
comparable as a percent of store sales at 5.2% of store sales for both fiscal 2006 and 2005.




General and Administrative
Expenses.  General and administrative expenses decreased to $6.6 million, or 3.0% of sales, in fiscal 2006, as compared to $6.8 million,
or 3.1% of sales, in fiscal 2005. The decrease in general and administrative expenses in fiscal 2006 was primarily due to lower general liability
insurance costs.




Store Opening
Expense.  Store opening expenses were approximately $0.4 million in fiscal 2006 compared to $0.3 million in fiscal 2005. Expenses for
both years included costs associated with the evaluation of potential new store locations, primarily the Cayman Islands in fiscal 2006 and St. Croix in
fiscal 2005.




21


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Store Closing
Expenses.  Store closing expenses of $0.1 million in fiscal 2005 were due to the costs incurred with relocating our St. Croix store on
May 26, 2005.




Net Interest
Expense.  Interest expense, net, approximated $0.4 million in both fiscal 2006 and fiscal 2005. The additional interest associated with
the new debt related to the equipment for the St. Croix relocation and the newly-acquired POS system was more than offset by lower borrowings under the
line of credit. Approximately $32,000 in interest was capitalized in fiscal 2006, compared to $104,000 capitalized in the prior year.




Other income
(expense).  Other income was $6,000 for fiscal 2006 and $42,000 for fiscal 2005 The decrease in fiscal 2006 was primarily due to the
receipt of a $0.1 million non-recurring insurance reimbursement in 2005. All other amounts included in other income/(expense) were attributable to
gains on foreign currency transactions and translation of intercompany balances for transactions that exceed the permanent investments in those
countries.




Income Tax
Provision.  The provision for income taxes in fiscal 2006 increased to 37.5% of pre-tax income, compared to a provision of 35.4% of
pre-tax income in fiscal 2005. The increase in our effective tax rate in fiscal 2006 was primarily due to expenses incurred in the Cayman Islands that
were not tax deductible as there are no corporate taxes in the Cayman Islands. This increase was partially offset by the implementation of tax planning
strategies in the latter half of fiscal 2005, which enabled us to offset a portion of our other foreign subsidiary losses against foreign subsidiary
income.




As of December 31, 2006, we had
foreign net operating loss carryforwards (NOLs) of approximately $4.2 million, $0.7 million of which, if not utilized, will begin to expire in fiscal
2010. NOLs totaling $3.3 million expired in 2006. Our ability to utilize the NOLs is dependent upon generating taxable income in these foreign
jurisdictions. As a result, we have recorded a valuation allowance of $1.4 million attributable to the $1.4 million of tax benefits recorded for
NOLs.




Net Income.  Our
net income was $2.7 million, or $0.63 per fully diluted share, in fiscal 2006, compared to net income of $3.0 million, or $0.72 per fully diluted
share, in fiscal 2005.




Fiscal 2005 (53 weeks) Compared to Fiscal 2004 (52
weeks)




Net Sales.  Net
sales for the 53 weeks in fiscal 2005 were $219.4 million, an increase of 4.8%, as compared to net sales of $209.4 million for the 52 weeks in fiscal
2004. Approximately 36% of the increase was due to the benefit of an additional week of sales in fiscal 2005 as compared to fiscal 2004. The balance of
the increase was due to comparable-store sales increases offset by a decline in business-to-business sales as compared to fiscal 2004.




Comparable-store sales (stores
open for a full 13 months) increased 4.7% during fiscal 2005 (as adjusted to reflect a 52-week year) as compared to fiscal 2004. All but one of our
stores experienced increased sales as compared to the prior year, primarily due to general inflationary trends, improvements in our assortment of goods
and operating improvements including better in-stock inventory levels.




Gross
Margin.  Gross margin improved to $40.8 million, or 18.6% of sales, in fiscal 2005 from $38.5 million, or 18.4% of sales, in fiscal 2004.
The increase in gross profit as a percent of sales resulted primarily from a stronger mix of retail store sales, with typically higher margins, as
compared to business-to-business sales, which generally provide a lower gross margin but are executed at minimal direct expense.




Store
Expenses.  Store expenses increased to $28.6 million, or 13.0% of sales, for fiscal 2005 as compared to $26.4 million, or 12.6% of sales,
for fiscal 2004. Approximately 30% of the dollar increase in store expenses was attributable to increased payroll and related costs attributable to the
higher volume of sales in fiscal 2005. As a percent of store sales, payroll and related costs were 5.2% of store sales in both fiscal 2005 and fiscal
2004. Increased energy (utility) expenses, which were 17% higher than the same period in the prior year, accounted for an additional 28% of the dollar
increase in store expenses. We expect energy costs to continue to increase for the foreseeable future. The remainder of the dollar increase was
primarily attributable to an increase of 10% in bankcard fees (primarily attributable to higher sales volume), an 8% increase in commercial insurance
expense, and increases in depreciation and advertising in fiscal 2005 as compared to fiscal 2004.




General and Administrative
Expenses.  General and administrative expenses decreased to $6.8 million, or 3.1% of sales, in fiscal 2005, as compared to $7.1 million,
or 3.4% of sales, in fiscal 2004. The decrease in general and administrative expenses in fiscal 2005 was primarily due to lower compensation costs
largely resulting from




22


---



decreased performance based
awards pursuant to our incentive bonus program as compared to the same awards in the prior year.




Store Opening
Expense.  Store opening expenses were $0.3 million in fiscal 2005, as compared to $0.2 million in fiscal 2004. The increase in store
opening expenses in fiscal 2005 primarily related to costs associated with the relocation of our St. Croix store, which opened on May 26, 2005.
Expenses for both years include costs associated with the evaluation of potential new store locations.




Store Closing
Expenses.  Store closing expenses of $0.1 million in fiscal 2005 were due to the costs incurred with closing our former St. Croix
location after we relocated our store on May 26, 2005.




Net Interest
Expense.  Interest expense, net, remained flat at $0.4 million for both fiscal 2005 and fiscal 2004, as increased interest costs
associated with rising interest rates in fiscal 2005 were offset by the capitalization of approximately $104,000 in interest related to the
construction of our St. Croix store, as compared to $12,000 capitalized in the prior year.




Other income
(expense).  Other income (expense) declined to $42,000 for fiscal 2005, as compared to $80,000 for the same period in the prior year. The
decrease in fiscal 2005 as compared to the prior year, was primarily due to losses exceeding gains on foreign currency transactions and translation of
intercompany balances for transactions that exceed the permanent investments in foreign countries in fiscal 2005, partially offset by the receipt of a
$100,000 non-recurring insurance reimbursement. The income and losses on foreign currency in both fiscal years was primarily attributable to
appreciation/depreciation in the Fijian dollar as compared to the U.S. dollar.




Income Tax
Provision.  We recorded a tax provision in fiscal 2005 of $1.7 million, or 35.4% of pre-tax income. The tax provision primarily
represents taxes associated with income generated in the U.S. and U.S. Territories. Additionally, during fiscal 2005, due to certain tax planning
strategies, we were able to offset a portion of our foreign subsidiary losses against foreign subsidiary income, which resulted in a decrease in our
effective tax rate as compared to prior years.




Net Income.  Our
net income was $3.0 million, or $0.72 per fully diluted share, in fiscal 2005, compared to net income of $2.7 million, or $0.69 per fully diluted
share, in fiscal 2004.




Liquidity and Capital Resources




We currently finance our
operations with proceeds from various credit facilities and internally generated funds. In fiscal 2005, we utilized existing working capital to finance
the $5.6 million used to purchase the land and construct our new St. Croix store. In December 2006, we entered into an agreement providing for the sale
and simultaneous leaseback of the store. The purchase agreement provided for the sale of the building and land on which we currently operate the store
to Series B, LLC, an Arizona limited liability company, for $6.2 million. The purchase agreement contained customary representations, warranties,
covenants and conditions to close. The purchase agreement was also subject to completion of satisfactory due diligence by Series B. On March 26, 2007,
we closed the sale and simultaneous leaseback of the St. Croix store under the purchase agreement. The term of the lease is 15 years and contains two
five-year options to extend the term of the lease.




We hope to finance any future
relocations and new stores, either through an operating lease, a sale-leaseback arrangement or long-term funding from a financial institution. We
intend to continue leasing as many of our store locations as feasible. In those instances where a lease is not available on acceptable terms, we intend
to finance our stores utilizing long-term funding from a financial institution (as we currently do for our St. Thomas and St. Maarten
buildings).




We generated $6.6 million of net
cash from operations during fiscal 2006, as compared to $4.1 million in the prior year. The increase of $2.5 million in net cash provided by operating
activities in fiscal 2006 compared to the prior year was primarily due to an increase in accounts payable. Accounts payable as a percent of inventory
increased to 69% at December 31, 2006 as compared to 65% at January 1, 2006.




Net cash used in investing
activities was $4.8 million for fiscal year 2006, as compared to $6.2 million in the prior year. The cash used in investing activities during fiscal
2006 was primarily due to costs associated with renovating and expanding the size of our store in St. Thomas by approximately 6,400 square feet (an
increase of approximately 18%) and the replacement of our current POS system with a new and improved version. The cost of building construction and
updating equipment associated with our St. Thomas store was approximately $2.0 million




23


---



and the cost of replacing our
current POS system was approximately $1.0 million, a majority of which was refinanced with a capital lease. Additionally, we spent approximately $0.2
million on the remodel of our Kauai store in order to add retail enhancements such as fresh produce by the pound, and we have spent approximately $0.5
million on the development of our store in the Cayman Islands.




We began construction on a new
store in the Cayman Islands in late 2006, with a currently estimated completion date late in the third fiscal quarter or in the fourth fiscal quarter
of 2007. We anticipate spending approximately $6.0 million to $7.0 million on the building and $2.0 million for equipment during fiscal 2007 for the
new store. Although we currently have no plans to open additional stores in new markets during fiscal 2007, we are continuing to explore expansion
opportunities in selected markets and additional relocation opportunities for stores in existing markets.




Net cash provided by financing
activities in fiscal 2006 of $0.3 million was due to $0.6 million in proceeds from a short-term note that was converted into a capital lease in
September 2006, and $0.2 million received from the exercise of common stock options, partially offset by payments on capital leases and long-term
debt.




Foreign currency translation
resulted in a gains of $27,000 in 2006 and a loss of $24,000 in 2005. The foreign currency translation gains and losses are a result of the translation
of our subsidiaries operating results and balance sheets from local currencies to U. S. dollars.




In March 2007, we replaced our
asset based line of credit with a working capital line of credit with Wells Fargo Bank. The new line of credit, which has a two-year term, consists of
a $6.0 million credit line with a sublimit for letters of credit and bankers acceptances in the amount up to $1.0 million. Borrowings under the
new line of credit bear interest at either Prime 0.25% or LIBOR +1.75%. A fee of 0.30% will be charged on the unused portion of the line of
credit. The new line of credit contains various covenants, including a requirement that we maintain a minimum net profit, a minimum tangible net worth,
and that the outstanding balances under the line of credit shall not exceed 30% of net inventory, excluding inventory in St. Maarten and the Cayman
Islands. We believe that we are currently in compliance with all such covenants.




A significant portion of our cash
flow is generated by our operations. If our operating results deteriorate as a result of a decrease in customer demand, declining economic conditions
in the markets in which we have stores, energy related cost increases, or pricing pressures from our customers or our competitors, our ability to
generate positive cash flow from operations may be jeopardized. We believe that amounts available under our various credit facilities, existing cash
available for working capital purposes, and cash flow from operations will most likely be sufficient to fund our operations through the next twelve
months. However, if such sources of liquidity are unavailable or insufficient to satisfy our liquidity requirements, we may need to issue equity or
debt securities, obtain additional credit facilities or consider alternative financing arrangements. There can be no assurance that we will be able to
obtain additional financing when needed, or that any available financing will be on terms acceptable to us.




Contractual Obligations




As of December 31, 2006, our
commitments to make future payments under contractual obligations were as follows (in thousands):







|                     |  |  |  | Payments Due by Period |       
|-------------------- |  |  |  | ---------------------- | ------
|
|Long-term
debt       |  |  |  | $                      | 2,011 
|Operating
leases (1) |  |  |  |                        | 34,711
|Capital
leases       |  |  |  |                        | 2,317 
|Total                |  |  |  | $                      | 39,039






|(1) |  | Adjusted to reflect the November 7, 2006, amendment to our San
Leandro distribution facility lease to extend the expiration date of the lease from January 31, 2007, to January 31, 2012.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



24


---



Critical Accounting Policies




We have chosen accounting
policies that we believe are appropriate to report accurately and fairly our operating results and financial position, and we apply those accounting
policies in a consistent manner. The significant accounting policies are summarized in Note 1 to the consolidated financial statements included in this
annual report on Form 10-K.




The preparation of financial
statements in accordance with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect
the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the
reported amounts of revenues and expenses during the reporting period. We base our estimates on historical experience and other factors believed to be
reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that
are not readily apparent from other sources. Actual results could differ from those estimates.




We believe that the following
accounting policies are the most critical in the preparation of our financial statements because they involve the most difficult, subjective or complex
judgments about the effect of matters that are inherently uncertain.




Inventories




Inventories are carried at the
lower of average cost or market. We provide for estimated inventory losses between physical inventory counts on the basis of a percentage of sales. The
provision is adjusted periodically to reflect the trend of actual physical inventory count results.




Long Lived Assets




When facts and circumstances
indicate that the carrying values of long-lived assets, including intangibles, may be impaired, we perform an evaluation of the recoverability by
comparing the carrying value of the assets to projected future cash flows. Upon indication that the carrying value of such assets may not be
recoverable, we recognize an impairment loss by a charge against current operations.




Foreign Currency Translation




The U.S. dollar is the functional
currency for all our locations, except for Fiji and Netherlands Antilles, where the local currency is the functional currency. Assets and liabilities
denominated in foreign currencies are translated at the applicable exchange rate on the balance sheet date. Net sales costs and expenses are translated
at the average rates of exchange prevailing during the period. Adjustments resulting from this process are reported, net of taxes, as Accumulated Other
Comprehensive Income (Loss), a component of Shareholders Equity. Realized and unrealized gains on foreign currency transactions are included in
Other Income (Expense). The cumulative translation adjustment resulting from a net investment in a country is recognized as income or expense in the
period we substantially liquidate operations in that country.




Income Taxes




Income tax expense includes U.S.
and foreign income taxes. We account for income taxes under the liability method. Under the liability method, deferred tax assets and liabilities are
determined based on differences between financial reporting and tax basis of assets and liabilities, and are measured using the enacted tax rates and
laws that will be in effect when the differences are expected to reverse. We apply judgment in determining whether it is more likely than not that the
deferred tax assets will be realized, and valuation allowances are established when necessary. Our effective tax rate is currently higher than the
federal statutory rate because valuation allowances have been established against the tax benefits of foreign losses, as we have no assurance that we
will be able to generate an adequate amount of taxable income in the future to utilize such benefits. We are developing and implementing certain tax
planning strategies, which may affect our ability to recognize some of the deferred tax assets that are currently allowed for and may ultimately change
our estimate of the valuation allowance in future periods.




Accounting Pronouncements




In July 2006, the FASB issued
Interpretation No. 48 (FIN 48), Accounting for Uncertainty in Income Taxes, an interpretation of SFAS No. 109, which seeks to reduce the
diversity in practice associated with the accounting and reporting for uncertainty in income tax positions. FIN 48 prescribes a comprehensive model for
the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to




25


---



be taken in income tax
returns. FIN 48 is effective for fiscal years beginning after December 15, 2006 and we will adopt the new requirements in our fiscal first quarter of
2007. The cumulative effects, if any, of adopting FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the period of
adoption. We believe that the adoption of FIN 48 will not have a significant impact on our results of operations or financial
position.




In October 2005, the FASB issued
Staff Position No. FAS 13-1, Accounting for Rental Costs Incurred During a Construction Period (FSP 13-1). FSP 13-1 requires that rental
costs associated with ground or building operating leases that are incurred during a construction period be recognized as rental expense. FSP 13-1 is
effective for the first reporting period beginning after December 15, 2005. The adoption of FSP 13-1 did not impact our financial statements for fiscal
2006, as we did not have a lease for a site under construction. However, on April 25, 2006, we announced that we had entered into a twenty-year lease
with the developer of Governors Square in Grand Cayman to lease land on which to construct and operate a store under the Cost-U-Less name. Rental
payments under this lease commenced on April 1, 2006. In accordance with FSP 13-1 and other applicable lease accounting guidance, we will expense
rental costs over the lease term, which includes the construction period.




In December 2004, the Financial
Accounting Standards Board (the FASB) issued Statement of Financial Accounting Standards (SFAS) No. 123 (revised 2004), Share-Based Payment
(SFAS No. 123(R)). SFAS No. 123(R) requires that the compensation cost relating to share-based payment transactions be recognized in financial
statements. The cost will be measured based on the fair value of the instruments issued. SFAS No. 123(R) covers a wide range of share-based
compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights and employee share
purchase plans. SFAS No. 123(R) replaces SFAS No. 123 and supersedes APB 25. As originally issued in 1995, SFAS No. 123 established as preferable the
fair-value-based method of accounting for share-based payment transactions with employees. However, that statement permitted entities the option of
continuing to apply the guidance in APB 25, as long as the footnotes to the financial statements disclosed what net income would have been had the
preferable fair-value-based method been used. Effective with the first fiscal quarter of fiscal 2006, we adopted the fair value recognition provisions
of SFAS No. 123R, using the modified-prospective transition method. The adoption of this new accounting standard did not have a significant impact on
our results of operations or financial position, as we had a limited amount of unvested options and have a limited amount of options available for
issuance in the future.




On November 24, 2004, the FASB
issued SFAS No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4 which clarifies the accounting for abnormal amounts of idle
facility expense, freight, handling costs, and wasted material. SFAS No. 151 requires that abnormal items be recognized as current-period charges, as
well as unallocated overheads recognized in the period in which they are incurred. The provisions of SFAS No. 151 are effective for inventory costs
incurred during fiscal periods beginning after June 15, 2005. Our adoption of SFAS No. 151 in our first quarter of fiscal 2006 did not have a
significant impact on our results of operations or financial position.




26


---

|Item 7A. |  | Quantitative and Qualitative Disclosures About Market
Risk
|-------- |  | ----------------------------------------------------------



We operate stores in foreign
countries and have market risks associated with foreign currencies. However, sales are primarily made in U.S. dollars or foreign currencies with
minimal trade credit extended and no borrowings exist in foreign currencies. Cash deposited from sales are remitted back to the U.S. bank account
routinely.




We record gains and losses on
foreign currency transactions, and translation of intercompany balances for transactions that exceed the permanent investments in those countries in
Other Income (Expense). Gains and losses are primarily attributable to appreciation and (depreciation) in the Fijian dollar as compared to the U.S.
dollar.




We operate in four foreign
countries that function under currencies other than the U.S. dollar. Two of the these foreign countries operate under the Netherlands Antilles Guilder
and one of these foreign countries operates under the Caymans Island Dollar, both of which have historically had an exchange rate fixed to the U.S.
dollar. However, there can be no assurance that this will continue. If the Netherlands Antilles Guilder and/or the Caymans Island Dollar is allowed to
float, an increase in foreign exchange volatility and risk would occur, which could have a materially adverse effect on our business, financial
condition and operating results. There is also the possibility that these foreign countries that function under currencies other than the U.S. dollar
could devalue their currency against the U.S. dollar at any time and if this were to occur there could be a materially adverse effect on our business,
financial condition and operating results.




We have also assessed our
vulnerability to interest rate risk associated with our financial instruments, including cash and cash equivalents, lines of credit and long-term debt.
Due to the nature of these financial instruments, we believe that the risk associated with interest rate fluctuations does not pose a material risk.
Our line of credit and long-term debt can be expected to vary in the future as a result of future business requirements, market conditions and other
factors.




We did not have any derivative
financial instruments as of December 31, 2006.




27


---

|Item 8. |  | Financial Statements and Supplementary Data
|------- |  | -------------------------------------------



The following consolidated
financial statements and supplementary data are included beginning on page 29 of this report:







|                                                        |  |  |  | Page
|------------------------------------------------------- |  |  |  | ----
|Report of
Independent Registered Public Accounting Firm |  |  |  |     
|Consolidated
Financial Statements:                      |  |  |  |     
|Consolidated
Statements of Operations                   |  |  |  |     
|Consolidated
Balance Sheets                             |  |  |  |     
|Consolidated
Statements of Shareholders Equity         |  |  |  |     
|Consolidated
Statements of Cash Flows                   |  |  |  |     
|Notes to
Consolidated Financial Statements              |  |  |  |     



28


---



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM




To the Board of Directors and Shareholders Cost-U-Less, Inc.




We have audited the accompanying
consolidated balance sheets of Cost-U-Less, Inc. and subsidiaries as of December 31, 2006 and January 1, 2006, and the related consolidated statements
of operations, shareholders equity, and cash flows for each of the three fiscal years in the period ended December 31, 2006. These financial
statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on
our audits.




We have conducted our audits in
accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor
were we engaged to perform an audit of its internal control over financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Companys internal control over financial reporting. Accordingly, we express no such opinion. An audit also
includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.




In our opinion, the consolidated
financial statements referred to above present fairly, in all material respects, the consolidated financial position of Cost-U-Less, Inc. and
subsidiaries as of December 31, 2006 and January 1, 2006, and the consolidated results of their operations and their cash flows for each of the three
fiscal years in the period ended December 31, 2006, in conformity with accounting principles generally accepted in the United States of
America.




Our audits were conducted for the
purpose of forming an opinion on the basic consolidated financial statements taken as a whole. The consolidated financial statement schedule listed in
Item 15 is presented for purposes of additional analysis and is not a required part of the basic consolidated financial statements. This schedule has
been subjected to the auditing procedures applied in the audit of the basic consolidated financial statements and, in our opinion, is fairly stated in
all material respects in relation to the basic consolidated financial statements taken as a whole.









Seattle, Washington March 13, 2007 (March 26, 2007 as to Note 14)




29


---








COST-U-LESS, INC.




CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands,
except share data)







|                                                    |  |  |  | Fiscal Year Ended |          
|--------------------------------------------------- |  |  |  | ----------------- | ---------
|
|
|Net sales                                           |  |  |  | $                 | 222,022  
|Merchandise
costs                                   |  |  |  |                   | 180,347  
|Gross profit                                        |  |  |  |                   | 41,675   
|Operating
expenses:                                 |  |  |  |                   |          
|Store                                               |  |  |  |                   | 29,988   
|General and
administrative                          |  |  |  |                   | 6,605    
|Store
openings                                      |  |  |  |                   | 415      
|Store
closings                                      |  |  |  |                   |         
|Total
operating expenses                            |  |  |  |                   | 37,008   
|                                                   
|Operating
income                                    |  |  |  |                   | 4,667    
|Other income
(expenses):                            |  |  |  |                   |          
|Interest
expense, net                               |  |  |  |                   | (405     
|Other                                               |  |  |  |                   | 6        
|Income before
income taxes                          |  |  |  |                   | 4,268    
|Income tax
provision                                |  |  |  |                   | 1,600    
|Net income                                          |  |  |  | $                 | 2,668    
|                                                   
|Earnings per
common share:                          |  |  |  |                   |          
|Basic                                               |  |  |  | $                 | 0.66     
|Diluted                                             |  |  |  | $                 | 0.63     
|                                                   
|Weighted
average common shares outstanding, basic   |  |  |  |                   | 4,016,469
|Weighted
average common shares outstanding, diluted |  |  |  |                   | 4,243,339



The accompanying Notes to Consolidated Financial Statements
are an integral part of these statements.




30


---



COST-U-LESS, INC.




CONSOLIDATED BALANCE SHEETS (in thousands, except
share data)







|                                                                                                                                                   |  |  |  | December 31, 2006 |        | January 1, 2006
|-------------------------------------------------------------------------------------------------------------------------------------------------- |  |  |  | ----------------- | ------ | ---------------
|ASSETS                                                                                                                                             |  |  |  |                   |        |                
|Current
assets:                                                                                                                                    |  |  |  |                   |        |                
|Cash and cash
equivalents                                                                                                                          |  |  |  | $                 | 7,420  |                
|Accounts
receivable (net of allowance of $66 and $80 in 2006 and 2005, respectively)                                                               |  |  |  |                   | 1,133  |                
|Inventories                                                                                                                                        |  |  |  |                   | 22,829 |                
|Prepaid
expenses                                                                                                                                   |  |  |  |                   | 200    |                
|Deferred
taxes, net                                                                                                                                |  |  |  |                   | 849    |                
|Total current
assets                                                                                                                               |  |  |  |                   | 32,431 |                
|Buildings and
equipment, net                                                                                                                       |  |  |  |                   | 20,881 |                
|Deposits and
other assets                                                                                                                          |  |  |  |                   | 723    |                
|Total assets                                                                                                                                       |  |  |  | $                 | 54,035 |                
|                                                                                                                                                  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                               |  |  |  |                   |        |                
|                                                                                                                                                  
|Current
liabilities:                                                                                                                               |  |  |  |                   |        |                
|Accounts
payable                                                                                                                                   |  |  |  | $                 | 15,831 |                
|Accrued
expenses                                                                                                                                   |  |  |  |                   | 5,337  |                
|Income taxes
payable                                                                                                                               |  |  |  |                   | 369    |                
|Line of
credit                                                                                                                                     |  |  |  |                   |       |                
|Current
portion of long-term debt                                                                                                                  |  |  |  |                   | 267    |                
|Current
portion capital leases                                                                                                                     |  |  |  |                   | 311    |                
|Total current
liabilities                                                                                                                          |  |  |  |                   | 22,115 |                
|Deferred rent                                                                                                                                      |  |  |  |                   | 677    |                
|Deferred
taxes, net                                                                                                                                |  |  |  |                   | 899    |                
|Long-term
debt, less current portion                                                                                                               |  |  |  |                   | 1,744  |                
|Capital
lease, less current portion                                                                                                                |  |  |  |                   | 1,604  |                
|Total
liabilities                                                                                                                                  |  |  |  |                   | 27,039 |                
|                                                                                                                                                  
|Commitments
and Contingencies                                                                                                                      |  |  |  |                   |       |                
|                                                                                                                                                  
|Shareholders equity:                                                                                                                              |  |  |  |                   |        |                
|Preferred
stock$0.001 par value; Authorized shares2,000,000; Issued and outstanding sharesnone                                                  |  |  |  |                   |       |                
|Common
stock$0.001 par value; Authorized shares25,000,000; Issued and outstanding shares, 4,028,718 and 3,990,171 in 2006 and 2005,
respectively |  |  |  |                   | 14,172 |                
|Retained
earnings                                                                                                                                  |  |  |  |                   | 13,594 |                
|Accumulated
other comprehensive loss                                                                                                               |  |  |  |                   | (770   | )              
|Total
shareholders equity                                                                                                                         |  |  |  |                   | 26,996 |                
|Total
liabilities and shareholders equity                                                                                                         |  |  |  | $                 | 54,035 |                



The accompanying Notes to Consolidated Financial Statements
are an integral part of these statements.




31


---



COST-U-LESS, INC.




CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
(in thousands, except share data)







|                                                              |  |  |  | Common Stock Shares |           | Common Stock Amount |  | Retained Earnings |        | Accumulated Other Comprehensive Loss |  | Total
|------------------------------------------------------------- |  |  |  | -------------------- | --------- | -------------------- |  | ----------------- | ------ | ------------------------------------ |  | -----
|Balance at
December 28, 2003                                  |  |  |  |                      | 3,688,376 |                      |  | $                 | 12,597 |                                      |  | $    
|Net income                                                    |  |  |  |                      |          |                      |  |                   |       |                                      |  |      
|Foreign
currency translation adjustments                      |  |  |  |                      |          |                      |  |                   |       |                                      |  |      
|Comprehensive
income                                          |  |  |  |                      |           |                      |  |                   |        |                                      |  |      
|Stock based
compensation                                      |  |  |  |                      |          |                      |  |                   | 9      |                                      |  |      
|Exercise of
common stock options including income tax benefit |  |  |  |                      | 62,930    |                      |  |                   | 189    |                                      |  |      
|Balance at
December 26, 2004                                  |  |  |  |                      | 3,751,306 |                      |  |                   | 12,795 |                                      |  |      
|Net income                                                    |  |  |  |                      |          |                      |  |                   |       |                                      |  |      
|Foreign
currency translation adjustments                      |  |  |  |                      |          |                      |  |                   |       |                                      |  |      
|Comprehensive
income                                          |  |  |  |                      |           |                      |  |                   |        |                                      |  |      
|Stock based
compensation                                      |  |  |  |                      |          |                      |  |                   | 24     |                                      |  |      
|Exercise of
common stock options including income tax benefit |  |  |  |                      | 238,865   |                      |  |                   | 1,112  |                                      |  |      
|Balance at
January 1, 2006                                    |  |  |  |                      | 3,990,171 |                      |  |                   | 13,931 |                                      |  |      
|Net income                                                    |  |  |  |                      |          |                      |  |                   |       |                                      |  |      
|Foreign
currency translation adjustments                      |  |  |  |                      |          |                      |  |                   |       |                                      |  |      
|Comprehensive
income                                          |  |  |  |                      |           |                      |  |                   |        |                                      |  |      
|Stock based
compensation                                      |  |  |  |                      |          |                      |  |                   | 20     |                                      |  |      
|Exercise of
common stock options including income tax benefit |  |  |  |                      | 38,547    |                      |  |                   | 221    |                                      |  |      
|Balance at
December 31, 2006                                  |  |  |  |                      | 4,028,718 |                      |  | $                 | 14,172 |                                      |  | $    



The accompanying Notes to Consolidated Financial Statements
are an integral part of these statements.




32


---



COST-U-LESS, INC.CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)







|                                                                                             |  |  |  | Fiscal Year Ended |       
|-------------------------------------------------------------------------------------------- |  |  |  | ----------------- | ------
|
|OPERATING
ACTIVITIES:                                                                        |  |  |  |                   |       
|Net income                                                                                   |  |  |  | $                 | 2,668 
|Adjustments
to reconcile net income to net cash provided by (used for) operating activities: |  |  |  |                   |       
|Depreciation
and amortization                                                                |  |  |  |                   | 2,416 
|(Gain) loss
on buildings and equipment                                                       |  |  |  |                   | 66    
|Deferred tax
provision                                                                       |  |  |  |                   | 261   
|Tax benefit
from exercise of stock options                                                   |  |  |  |                   |      
|Allowance for
doubtful accounts                                                              |  |  |  |                   | (14   
|Stock option
expense                                                                         |  |  |  |                   | 20    
|Cash provided
by changes in operating assets and liabilities:                                |  |  |  |                   |       
|Insurance
receivable                                                                         |  |  |  |                   |      
|Accounts
receivable                                                                          |  |  |  |                   | (276  
|Income taxes                                                                                 |  |  |  |                   | 349   
|Inventories                                                                                  |  |  |  |                   | 198   
|Prepaid
expenses                                                                             |  |  |  |                   | 60    
|Deposits and
other assets                                                                    |  |  |  |                   | 49    
|Accounts
payable                                                                             |  |  |  |                   | 671   
|Accrued
expenses                                                                             |  |  |  |                   | (65   
|Deferred rent                                                                                |  |  |  |                   | 150   
|Net cash
provided by operating activities                                                    |  |  |  |                   | 6,553 
|                                                                                            
|INVESTING
ACTIVITIES:                                                                        |  |  |  |                   |       
|Cash used to
purchase buildings and equipment                                                |  |  |  |                   | (4,804
|Proceeds from
sale of buildings and equipment                                                |  |  |  |                   | 8     
|Proceeds from
insurance settlement                                                           |  |  |  |                   |      
|Net cash used
by investing activities                                                        |  |  |  |                   | (4,796
|                                                                                            
|FINANCING
ACTIVITIES:                                                                        |  |  |  |                   |       
|Proceeds from
exercise of common stock options                                               |  |  |  |                   | 171   
|Tax benefit
from exercise of stock options                                                   |  |  |  |                   | 50    
|Proceeds from
short term note payable (1)                                                    |  |  |  |                   | 608   
|Proceeds
(payments) from (on) line of credit, net                                            |  |  |  |                   | (80   
|Increase
(decrease) in bank checks outstanding                                               |  |  |  |                   | 98    
|Proceeds from
capital lease obligations                                                      |  |  |  |                   |      
|Payments on
capital lease obligations                                                        |  |  |  |                   | (248  
|Payments on
long-term debt                                                                   |  |  |  |                   | (267  
|Net cash
provided (used) by financing activities                                             |  |  |  |                   | 332   
|Foreign
currency translation adjustments                                                     |  |  |  |                   | 27    
|Net increase
(decrease) in cash and cash equivalents                                         |  |  |  |                   | 2,116 
|Cash and cash
equivalents:                                                                   |  |  |  |                   |       
|Beginning of
period                                                                          |  |  |  |                   | 5,304 
|End of period                                                                                |  |  |  | $                 | 7,420 
|                                                                                            
|SUPPLEMENTAL
DISCLOSURE OF CASH FLOW INFORMATION:                                            |  |  |  |                   |       
|Cash paid
during the period for:                                                             |  |  |  |                   |       
|Interest                                                                                     |  |  |  | $                 | 449   
|Income taxes                                                                                 |  |  |  |                   | 985   






|(1) |  | In September 2006, the Company refinanced its short-term note
payable with a seven-year capital lease.
|--- |  | ------------------------------------------------------------------------------------------------------



The accompanying Notes to Consolidated Financial Statements
are an integral part of these statements.




33


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS












|1. |  | Nature of Business and Summary of Significant Accounting
Policies
|-- |  | -----------------------------------------------------------------



Nature of
Business




Cost-U-Less, Inc. (the
Company) operates mid-sized warehouse club-style stores in the United States Territories (U.S. Territories), foreign island
countries in the Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. At December 31, 2006, the Company operated eleven retail
stores as follows: two stores in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix, American Samoa, Fiji, Curacao, St. Maarten
and Sonora, California. In July 2005, the Cayman Islands Trade and Business Licensing Board granted the Company approval to operate a retail and
wholesale business in the Cayman Islands through a controlled subsidiary organized in the Cayman Islands. On April 25, 2006, the Company entered into a
long-term lease with the developer of Governors Square in Grand Cayman to lease land on which to construct and operate a store under the
Cost-U-Less name. Construction on the new store began in late 2006 with a currently estimated completion date late in the third fiscal quarter or in
the fourth fiscal quarter of 2007.




Fiscal
Year




The Company reports on a
52/53-week fiscal year, consisting of four thirteen-week periods and ending on the Sunday nearest to the end of December. The years ended December 31,
2006 and December 26, 2004 were 52-week fiscal years. Fiscal 2005, ending on January 1, 2006, was a 53-week fiscal year with the extra week included in
the fourth quarter.




Principles of
Consolidation




The consolidated financial
statements include the accounts of the Company and its wholly owned subsidiaries in the U.S. Virgin Islands, Cayman Islands, Netherlands Antilles,
Guam, American Samoa, Nevada, Fiji and New Zealand. All inter-company accounts and transactions have been eliminated in consolidation.




Foreign Currency Translations
and Comprehensive Income




The U.S. dollar is the functional
currency for all locations, except for Fiji, the Cayman Islands and Netherlands Antilles, where the local currency is the functional currency. Assets
and liabilities denominated in foreign currencies are translated at the applicable exchange rate on the balance sheet date. Net sales, costs and
expenses are translated at the average rates of exchange prevailing during the period. Adjustments resulting from this process are reported, net of
taxes, as Accumulated Other Comprehensive Income (Loss), a component of Shareholders Equity. Realized and unrealized gains on foreign currency
transactions are included in Other Income (Expense). The cumulative translation adjustment resulting from a net investment in a country is recognized
as income or expense in the period the Company has substantially liquidated operations in that country.




Use of
Estimates




The preparation of financial
statements in accordance with accounting principles generally accepted in the United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the
financial statements, and the reported amounts of revenues and expenses during the reporting period. Estimates are used for, but not limited to:
allowance for doubtful accounts; depreciable lives of assets; reserves for store closure expenses; and tax valuation allowances. Future events and
their effects cannot be determined with certainty. Accordingly, the accounting estimates require the exercise of judgment. The accounting estimates
used in the preparation of the consolidated financial statements may change as new events occur, as more experience is acquired, as additional
information is obtained and as the Companys operating environment changes. Actual results could differ from those estimates.




Cash
Equivalents




The Company considers all highly
liquid investments with an initial maturity three months or less to be cash equivalents.




34


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




Financial
Instruments




The carrying value of financial
instruments, including cash, cash equivalents, receivables, payables, and long-term debt, approximates market value at December 31, 2006 and January 1,
2006. The carrying value of cash, cash equivalents, receivables and payables approximates their fair value based on the liquidity of these financial
instruments or based on their short-term nature. The carrying value of long-term debt approximates fair value based on the variable interest rates
charged on the debt.




Inventories




Inventory consists of retail
merchandise inventory and is carried at the lower of average cost or market.




Accounts Receivable,
net




Accounts receivable consist
primarily of receivables from local businesses and government agencies, vendor rebates and promotional allowances and other miscellaneous amounts due
to the Company. Management determines the allowance for doubtful accounts based on known troubled accounts and historical experience applied to an
aging of accounts.




Buildings and
Equipment




Buildings and equipment are
stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are computed using the straight-line method for financial
reporting purposes. Buildings are generally depreciated over thirty-five years; equipment and fixtures are depreciated over three to ten years; and
leasehold improvements are amortized over the lesser of the initial term of the lease or the assets estimated useful life. Equipment acquired
under capitalized leases is depreciated over the shorter of the assets estimated useful life or the life of the related lease.




Long Lived
Assets




When facts and circumstances
indicate that the carrying values of long-lived assets may be impaired, an evaluation of the recoverability is performed by comparing the carrying
value of the assets to projected future cash flows. Upon indication that the carrying value of such assets may not be recoverable, the Company
recognizes an impairment loss by a charge against current operations.




Accounts
Payable




The Companys major bank
accounts are replenished as checks are presented. Accordingly, included in accounts payable at December 31, 2006 and January 1, 2006 are $3.9 million
and $3.8 million, respectively, representing the excess of outstanding checks over cash on deposit in the accounts on which the checks were
drawn.




Insurance/Self Insurance
Liabilities




The Company uses a combination of
insurance and self-insurance mechanisms to provide for the potential liabilities for workers compensation, general liability, property insurance,
director and officers liability, vehicle liability and employee health care benefits. Liabilities associated with the risks that are retained by
the Company are not discounted and are estimated, in part, by considering historical claims experience and outside expertise, demographic factors,
severity factors and other actuarial assumptions. The estimated accruals for these liabilities could be significantly affected if future occurrences
and claims differ from these assumptions and historical trends.




Revenue
Recognition




The Company recognizes revenue
from product sales when the customer purchases the products, generally at the point of sale.




Merchandise
Costs




Merchandise costs consist of the
purchase price of inventory sold, inbound shipping charges and all costs related to our depot operations, including freight from depots to selling
warehouses. Merchandise costs also include salaries and other related expenses incurred in certain fresh food departments.




35


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




Vendor
Allowances




Periodic payments from vendors in
the form of volume rebates or other allowances that are evidenced by signed agreements are reflected in the carrying value of the inventory when earned
or as the Company progresses towards earning the rebate and as a component of cost of sales as the merchandise is sold. Other consideration received
from vendors is generally recorded as a reduction of merchandise costs upon completion of the terms of the related agreement, or by other systematic
and rational approach. Vendor allowances received for advertising programs reduce the Companys expense for the related advertising
program.




Advertising
Costs




The cost of advertising is
expensed as incurred. Advertising expenses incurred during fiscal years 2006, 2005 and 2004 were not considered material to the Companys
operating results.




Store Opening
Costs




Pre-opening costs incurred in
connection with the startup and promotion of new stores are expensed as incurred.




Stock-Based
Compensation




The Company adopted Statement of
Financial Accounting Standards (SFAS) No. 123R, Share-Based Payments, which revises SFAS No. 123, Accounting for Stock-Based
Compensation, in the first quarter of fiscal 2006. Prior to the adoption of SFAS No. 123R, the Company accounted for stock-based compensation
using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and
related interpretations in accounting for stock options. Under the previous guidelines, compensation cost for stock options was measured as the excess,
if any, of the fair value of the Companys common stock at the date of grant over the stock option exercise price. Because the Company generally
grants stock options to employees at exercise prices equal to fair market value on the date of grant, no significant compensation cost has been
recognized for option grants in periods prior to fiscal 2006. As permitted by SFAS No. 123, stock-based compensation was included as a pro forma
disclosure in the notes to the consolidated financial statements.




Effective with the first fiscal
quarter of fiscal 2006, the Company adopted the fair value recognition provisions of SFAS No. 123R, using the modified-prospective transition method.
Under this transition method, stock-based compensation expense is recognized in the consolidated financial statements for stock options granted
subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123R. Results for prior
periods have not been restated, as provided for under the modified-prospective method.




Prior to the adoption of SFAS No.
123R, the Company presented all tax benefits resulting from the exercise of stock options as operating cash inflows in the consolidated statements of
cash flows, in accordance with the provisions of the Emerging Issues Task Force Issue No 00-15, Classification in the Statement of Cash Flows of
the Income Tax Benefit Received by a Company upon Exercise of a Nonqualified Employee Stock Option. SFAS No. 123R requires the benefits of tax
deductions in excess of the compensation cost recognized for those options to be classified as financing cash inflows rather than operating cash
inflows, on a prospective basis. This amount is shown as Tax benefit from exercise of stock options on the consolidated statement of cash
flows.




36


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




Had stock option compensation
expense for the Companys stock option plan been recognized based on the estimated fair value on the grant date under the fair value methodology
allowed by SFAS No. 123, as amended by SFAS No. 148, the Companys net income and earnings per share amounts would have been as
follows:







|                                                                                                                     |  |  |  | 2005 |       | 2004
|-------------------------------------------------------------------------------------------------------------------- |  |  |  | ---- | ----- | ----
|
|Net income,
as reported                                                                                              |  |  |  | $    | 3,015 |     
|Add:  Stock-based compensation, as reported                                                                          |  |  |  |      | 24    |     
|Less:  Total stock-based employee compensation expense determined under fair value method for all awards, net of tax |  |  |  |      | (51   | )   
|Net income
pro forma                                                                                                 |  |  |  | $    | 2,988 |     
|Earnings per
common share, basic as reported .                                                                       |  |  |  | $    | 0.77  |     
|Earnings per
common share, basic pro forma .                                                                         |  |  |  | $    | 0.76  |     
|Earnings per
common share, diluted as reported .                                                                     |  |  |  | $    | 0.72  |     
|Earnings per
common share, diluted pro forma .                                                                       |  |  |  | $    | 0.72  |     



Disclosures for fiscal year 2006
are not presented because the amounts are recognized in the consolidated financial statements.




The fair value of each option,
for recognition of compensation expense in 2006 and for presentation of pro forma expense in 2005 and 2004, was estimated on the date of grant under
the Black-Scholes option-pricing model using the following assumptions:







|                        |  |  |  | 2006 |         | 2005 |  | 2004
|----------------------- |  |  |  | ---- | ------- | ---- |  | ----
|Risk-free
interest rate |  |  |  |      | 5.03    | %    |  |     
|Expected life           |  |  |  |      | 5 years |      |  |     
|Expected
dividend yield |  |  |  |      | 0       | %    |  |     
|Volatility              |  |  |  |      | 69      | %    |  |     



The risk-free interest rate is
based on the U.S. Treasury yield curve in effect at the time of the grant with an equivalent remaining term. The expected life of options granted has
been estimated based upon the vesting period and historical experience of employee behavior. The Company has have never declared nor paid any cash
dividends on its common stock and does not anticipate paying cash dividends in the foreseeable future. The expected volatility was estimated using the
historical volatility of the Companys common stock.




Income
Taxes




Income tax expense includes U.S.
and foreign income taxes. The Company accounts for income taxes under the liability method. Under the liability method, deferred tax assets and
liabilities are determined based on differences between financial reporting and tax basis of assets and liabilities, and are measured using the enacted
tax rates and laws that will be in effect when the differences are expected to reverse. Valuation allowances are established when necessary to reduce
deferred tax assets to the amounts that more likely than not will be realized.




Segment
Reporting




The Company operates mid-sized
warehouse club-style stores in the United States, U.S. Territories, and foreign island countries throughout the Pacific and the Caribbean. The
Companys retail operations are its only reportable segment. The financial information used by the Companys chief operating decision maker
in allocating resources and assessing performance is only provided for one reportable segment.




New Accounting
Pronouncements




In July 2006, the FASB issued
Interpretation No. 48 (FIN 48), Accounting for Uncertainty in Income Taxes, an interpretation of SFAS No. 109, which seeks to reduce the
diversity in practice associated with the accounting and reporting for uncertainty in income tax positions. FIN 48 prescribes a comprehensive model for
the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to




37


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




be taken in income tax
returns. FIN 48 is effective for fiscal years beginning after December 15, 2006 and the Company will adopt the new requirements in its fiscal first
quarter of 2007. The cumulative effects, if any, of adopting FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the
period of adoption. The Company believes that the adoption of FIN 48 will not have a significant impact on its results of operations or financial
position.




In October 2005, the FASB issued
Staff Position No. FAS 13-1, Accounting for Rental Costs Incurred During a Construction Period (FSP 13-1). FSP 13-1 requires that rental
costs associated with ground or building operating leases that are incurred during a construction period be recognized as rental expense. FSP 13-1 is
effective for the first reporting period beginning after December 15, 2005. The adoption of FSP 13-1 did not impact the Companys financial
statements for fiscal 2006, as the Company did not have a lease for a site under construction. However, on April 25, 2006, the Company announced that
it had entered into a twenty-year lease with the developer of Governors Square in Grand Cayman to lease land on which to construct and operate a
store under the Cost-U-Less name. Rental payments under this lease commenced on April 1, 2006. In accordance with FSP 13-1 and other applicable lease
accounting guidance, the Company will expense rental costs over the lease term, which includes the construction period.




Reclassifications




Certain reclassifications of
prior years balances have been made for consistent presentation with the current year.


|2. |  | Buildings and Equipment
|-- |  | -----------------------



Buildings and equipment consist
of the following (in thousands):







|                                                     |  |  |  | December 31, 2006 |        | January 1, 2006
|---------------------------------------------------- |  |  |  | ----------------- | ------ | ---------------
|Buildings                                            |  |  |  | $                 | 12,040 |                
|Equipment                                            |  |  |  |                   | 17,449 |                
|Leasehold
improvements                               |  |  |  |                   | 1,300  |                
|Land
improvements                                    |  |  |  |                   | 1,041  |                
|Land                                                 |  |  |  |                   | 906    |                
|Equipment
under capital lease                        |  |  |  |                   | 2,413  |                
|Buildings,
equipment, land and improvements          |  |  |  |                   | 35,149 |                
|Less
accumulated depreciation and amortization       |  |  |  |                   | 14,644 |                
|Net book
value of depreciable assets                 |  |  |  |                   | 20,505 |                
|Construction
in progress                             |  |  |  |                   | 338    |                
|Computer
system and software development in progress |  |  |  |                   | 38     |                
|Total
Buildings and equipment                        |  |  |  | $                 | 20,881 |                

|3. |  | Line of Credit
|-- |  | --------------



The Company has maintained a line
of credit with Wells Fargo Business Credit since April 9, 2003. On May 26, 2005, the Company entered into a Fourth Amendment to the Credit and Security
Agreement (the Fourth Amendment) as it relates to the line of credit. The Fourth Amendment extended the maturity date of the line of credit from April
9, 2006, to May 18, 2007. Additionally, the Fourth Amendment (1) reduced the interest rate to an annual interest rate equal to the prime
rate as defined by Wells Fargo Bank National Association, (2) reduced the minimum interest charge to not less than $25,000 per calendar year, (3)
increased the unused line fee to a rate of three-eighths of one percent (0.375%) per annum on the average daily unused line and (4) eliminated the one
day interest charge on all payments received on the line of credit. The line of credit was further amended on April 20, 2006, to update specific
financial covenants contained in the credit agreement, including minimum book net worth, minimum net income and capital expenditures.




38


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




The line of credit consists of a
$6.0 million committed, secured revolving credit line with a sublimit for letters of credit and bankers acceptances in an amount up to $0.7 million. At
December 31, 2006, there were no amounts outstanding on the line of credit and no letters of credit outstanding. At December 31, 2006, the rate charged
by Wells Fargo was 8.25%.




Borrowings continue to be limited
to the lesser of $6.0 million or the amount calculated under the borrowing base. The borrowing base is equal to the lesser of (a) $6.0 million or (b)
the sum of 70% of eligible inventory in the United States of America, plus 60% of eligible inventory in the U.S. Virgin Islands and Guam, less
specified reserves.




The line of credit contains
various covenants, all of which the Company believes it was in compliance with as of December 31, 2006.


|4. |  | Long-Term Debt
|-- |  | --------------



In conjunction with the
construction of the relocated St. Thomas store in 1998, the Company entered into a $2.0 million note payable to a bank which matures in June 2013.
Interest on the note at December 31, 2006 is at the prime rate plus 1% (9.25%). As of December 31, 2006, there was a balance owed of $0.9 million,
which is secured by a first leasehold priority mortgage on the St. Thomas building. The Company makes principal payments of approximately $11,000 per
month, plus interest.




In November 1999, the Company
entered into a $2.0 million credit facility with a financial institution to fund the construction of the St. Maarten store. The note payable matures in
June 2015. As of December 31, 2006, there was a balance owed of $1.1 million against this credit facility. Interest on the note at December 31, 2006 is
at the prime rate plus 1% (9.25%). The credit facility is secured by a first leasehold security interest on the St. Maarten property. The Company makes
principal payments of approximately $11,000 per month, plus interest.




Maturities of long-term debt are
as follows (in thousands):







|2007       |  |  |  | $ | 267   |  |  |  |  | 
|---------- |  |  |  | - | ----- |  |  |  |  | 
|2008       |  |  |  |   | 267   |  |  |  |  | 
|2009       |  |  |  |   | 267   |  |  |  |  | 
|2010       |  |  |  |   | 267   |  |  |  |  | 
|2011       |  |  |  |   | 267   |  |  |  |  | 
|Thereafter |  |  |  |   | 676   |  |  |  |  | 
|Total      |  |  |  | $ | 2,011 |  |  |  |  | 

|5. |  | Contingencies
|-- |  | -------------



The Company is involved from time
to time in claims, proceedings and litigation arising from its business and property ownership. The Company does not believe that any such claim,
proceeding or litigation, either alone or in the aggregate, will have a material adverse effect on the Companys business, financial condition or
results of operations.


|6. |  | Interest Expense, Net
|-- |  | ---------------------



The components of interest
expense, net are as follows (in thousands):







|                      |  |  |  | 2006 |     | 2005 |  | 2004
|--------------------- |  |  |  | ---- | --- | ---- |  | ----
|Interest
incurred     |  |  |  | $    | 447 |      |  | $   
|Capitalized
interest  |  |  |  |      | (32 | )    |  |     
|Interest
income       |  |  |  |      | (10 | )    |  |     
|Interest
expense, net |  |  |  | $    | 405 |      |  | $   



39


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)


|7. |  | Income Taxes
|-- |  | ------------



Income before income taxes by
jurisdiction is as follows (in thousands):







|                           |  |  |  | 2006 |       | 2005 |  | 2004
|-------------------------- |  |  |  | ---- | ----- | ---- |  | ----
|United States              |  |  |  | $    | 827   |      |  | $   
|U.S.
Territories           |  |  |  |      | 2,267 |      |  |     
|Foreign                    |  |  |  |      | 1,174 |      |  |     
|Income before
income taxes |  |  |  | $    | 4,268 |      |  | $   



The provision for income taxes is
as follows (in thousands):







|                           |  |  |  | 2006 |       | 2005 |  | 2004
|-------------------------- |  |  |  | ---- | ----- | ---- |  | ----
|Current
income taxes:      |  |  |  |      |       |      |  |     
|United States              |  |  |  | $    | 346   |      |  | $   
|U.S.
Territories           |  |  |  |      | 710   |      |  |     
|Foreign                    |  |  |  |      | 283   |      |  |     
|Current
income taxes       |  |  |  |      | 1,339 |      |  |     
|                          
|Deferred
income taxes      |  |  |  |      |       |      |  |     
|United States              |  |  |  |      | (43   | )    |  |     
|U.S.
Territories           |  |  |  |      | 94    |      |  |     
|Foreign                    |  |  |  |      | 210   |      |  |     
|Deferred
income taxes      |  |  |  |      | 261   |      |  |     
|Provision for
income taxes |  |  |  | $    | 1,600 |      |  | $   



A reconciliation of the
Companys effective tax rate with the federal statutory rate of 34% for the years ended December 31, 2006, January 1, 2006, and December 26, 2004,
is as follows (dollars in thousands):







|                                                             |  |  |  | 2006 |       |   |  | 2005 |      |    |  | 2004 |       | 
|------------------------------------------------------------ |  |  |  | ---- | ----- | - |  | ---- | ---- | -- |  | ---- | ----- | 
|Tax at U.S.
Statutory Rate                                   |  |  |  | $    | 1,451 |   |  |      | 34.0 | %  |  | $    | 1,586 | 
|Non-Deductible Permanent Differences                         |  |  |  |      | 47    |   |  |      | 1.1  | %  |  |      | 25    | 
|Foreign Tax
Losses not Benefited (Taken)                     |  |  |  |      | (69   | ) |  |      | (1.6 | )% |  |      |      | 
|Foreign Tax
Credit Taken (not utilized)                      |  |  |  |      |      |   |  |      |      |    |  |      | 10    | 
|Statutory
Rate Difference as Compared to U.S. Statutory Rate |  |  |  |      | 131   |   |  |      | 3.1  | %  |  |      | 21    | 
|Other                                                        |  |  |  |      | 40    |   |  |      | 0.9  | %  |  |      | 8     | 
|Effective
Income Tax Rate                                    |  |  |  | $    | 1,600 |   |  |      | 37.5 | %  |  | $    | 1,650 | 



40


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




Significant components of the
Companys deferred tax assets and liabilities are as follows (in thousands):







|                                        |  |  |  | December 31, 2006 |        | January 1, 2006
|--------------------------------------- |  |  |  | ----------------- | ------ | ---------------
|Deferred tax
assets                     |  |  |  |                   |        |                
|Inventory
adjustments                   |  |  |  | $                 | 232    |                
|Vacation
accrual                        |  |  |  |                   | 417    |                
|Deferred rent                           |  |  |  |                   | 175    |                
|Accrued
expenses                        |  |  |  |                   | 246    |                
|Net operating
loss carryforwardforeign |  |  |  |                   | 1,448  |                
|Foreign tax
credits                     |  |  |  |                   |       |                
|Total
deferred tax assets               |  |  |  |                   | 2,518  |                
|Valuation
allowance                     |  |  |  |                   | (1,448 | )              
|                                        |  |  |  |                   | 1,070  |                
|Deferred tax
liabilities                |  |  |  |                   |        |                
|Cash
discounts                          |  |  |  |                   | (33    | )              
|Fixed asset
basis difference            |  |  |  |                   | (1,056 | )              
|Other                                   |  |  |  |                   | (31    | )              
|Total
deferred tax liabilities          |  |  |  |                   | (1,120 | )              
|Net deferred
tax assets                 |  |  |  | $                 | (50    | )              



The Company has established a
valuation allowance in the full amount of the net deferred tax asset balance as sufficient uncertainty exists regarding its ability to realize such tax
assets in the future. The net decrease in the valuation allowance for the year ending December 31, 2006, was due to the expiration of $3.3 million of
NOLs during Fiscal 2006.




Net deferred tax assets are
classified on the balance sheet as follows (in thousands):







|                           |  |  |  | December 31, 2006 |      | January 1, 2006
|-------------------------- |  |  |  | ----------------- | ---- | ---------------
|Current
assets             |  |  |  | $                 | 849  |                
|Long-term
liabilities, net |  |  |  |                   | (899 | )              
|Net deferred
tax assets    |  |  |  | $                 | (50  | )              



As of December 31, 2006, the
Company has foreign net operating loss carryforwards (NOLs) of approximately $4.2 million, some of which, if not utilized, will begin
expiring in the year 2010. The Companys ability to utilize these NOLs is dependent upon generating taxable income in the foreign jurisdictions.
As a result, the Company has recorded a valuation allowance of $1.4 million attributable to the $1.4 million of tax benefits recorded for net operating
loss carryforwards.




The Company had a tax credit
carryforward of $0.1 million as of January 1, 2006. During 2006, the Company was able to utilize the full amount of the tax credit
carryforward.


|8. |  | Shareholders Equity
|-- |  | --------------------



Stock
Options




In 1998, the Company adopted, and
shareholders approved, issuance of the 1998 Stock Incentive Compensation Plan (the 1998 Plan). The 1998 Plan, as amended, provides for the
granting of various stock awards, including stock options and issuance of restricted stock, with a maximum of 1,000,000 shares of common stock
available for issuance. Options issued under the 1998 Plan vest at various terms ranging from immediately to five years and generally expire ten years
from the date of grant. The options are usually granted at prices equal to the fair value on the date of grant. There were 357 shares available for
future grant under the 1998 Plan at December 31, 2006.




41


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)




The following table summarizes
the stock option transactions during the fiscal year ended December 31, 2006:







|                                 |  |  |  | Options |         | Weighted Average Exercise Price |  | Weighted Average Contractual Life |      | Aggregate Intrinsic Value (a)
|-------------------------------- |  |  |  | ------- | ------- | ------------------------------- |  | --------------------------------- | ---- | -----------------------------
|Outstanding
at January 1, 2006   |  |  |  |         | 613,324 |                                 |  | $                                 | 3.39 |                              
|Granted at
fair value            |  |  |  |         | 4,000   |                                 |  |                                   | 8.09 |                              
|Forfeited                        |  |  |  |         | (1,475  | )                               |  |                                   | 4.75 |                              
|Exercised                        |  |  |  |         | (38,547 | )                               |  |                                   | 4.45 |                              
|Outstanding
at December 31, 2006 |  |  |  |         | 577,302 |                                 |  |                                   | 3.35 |                              
|Exercisable
at December 31, 2006 |  |  |  |         | 577,302 |                                 |  |                                   | 3.35 |                              






|(a) |  | The intrinsic value of a stock option is the amount by which the
market value of the underlying stock exceeds the exercise price of the option.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------



The weighted average fair values
of options granted in fiscal years 2006, 2005 and 2004 were $4.97, $3.21 and $1.61, respectively.




The Company recognized stock
compensation costs of $20,000, $24,000 and $9,000 and a related tax benefit of $8,000, $8,000, and $4,000 during fiscal years 2006, 2005 and 2004,
respectively. The expense recorded for the portion vesting in the current period for the 2,090 options granted prior to, but not vested as of, January
1, 2006, was less than $1,000. These options were fully vested as of December 31, 2006.




Cash proceeds, tax benefits and
intrinsic value related to total stock options exercised during fiscal years 2006, 2005 and 2004 were as follows (in thousands):







|                                               |  |  |  | 2006 |     | 2005 |  | 2004
|---------------------------------------------- |  |  |  | ---- | --- | ---- |  | ----
|Proceeds from
stock options exercised          |  |  |  | $    | 171 |      |  | $   
|Tax benefit
related to stock options exercised |  |  |  |      | 50  |      |  |     
|Intrinsic
value of stock options exercised     |  |  |  |      | 146 |      |  |     



The following summarizes
information related to options outstanding and exercisable at December 31, 2006:







|           |  |  |  | Outstanding |         | Exercisable | 
|---------- |  |  |  | ----------- | ------- | ----------- | 
|
|$1.181.88 |  |  |  |             | 219,090 |             | 
|2.003.08  |  |  |  |             | 160,668 |             | 
|4.386.10  |  |  |  |             | 154,867 |             | 
|7.008.11  |  |  |  |             | 42,677  |             | 
|           |  |  |  |             | 577,302 |             | 



Preferred Share Purchase
Rights




On February 23, 1999, the
Companys Board of Directors declared a dividend distribution of preferred share purchase rights (the Rights) pursuant to a
Shareholder Rights Plan. The Rights initially trade with shares of the Companys common stock and have no impact upon the way in which
shareholders can trade the Companys common stock. However, ten days after a person or group acquires 15% or more of the Companys common
stock, or such date, if any, as the Board of Directors may designate after a person or group commences or publicly announces its intention to commence
a tender or exchange offer which could result in that person or group owning 15% or more of the Companys common stock (even if no purchases
actually occur), the Rights will become exercisable and separate certificates representing the Rights will be distributed. The Rights would then begin
to trade independently from the Companys shares. As of December 31, 2006, no rights have become exercisable. The Rights will expire on March 15,
2009, unless earlier redeemed or exchanged by the Company.




42


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)


|9. |  | Earnings Per Share
|-- |  | ------------------



Basic earnings per share is
computed using the weighted average number of common shares outstanding during the period and excludes any dilutive effects of stock options. Diluted
earnings per share are computed using the weighted average number of common shares and potentially dilutive shares outstanding during the period.
Potentially dilutive shares are excluded from the computation if their effect is anti-dilutive.




The following table sets forth
the computation of basic and diluted earnings per common share (dollars in thousands):







|                                                                                                                    |  |  |  | Fiscal Year Ended |          
|------------------------------------------------------------------------------------------------------------------- |  |  |  | ----------------- | ---------
|
|Numerator:                                                                                                          |  |  |  |                   |          
|Net income                                                                                                          |  |  |  | $                 | 2,668    
|Denominator:                                                                                                        |  |  |  |                   |          
|Denominator
for basic earnings per shareweighted average shares                                                    |  |  |  |                   | 4,016,469
|Effect of
potentially dilutive shares:                                                                              |  |  |  |                   |          
|Stock options                                                                                                       |  |  |  |                   | 226,870  
|Denominator
for diluted earnings per shareadjusted weighted average shares and assumed conversion of stock options |  |  |  |                   | 4,243,339
|Basic
earnings per common share                                                                                     |  |  |  | $                 | 0.66     
|Diluted
earnings per common share                                                                                   |  |  |  | $                 | 0.63     



The diluted share calculations
for the fiscal years ended January 1, 2006 and December 26, 2004 exclude outstanding stock options representing 4,000 and 164,947 shares, respectively.
These options are excluded due to their anti-dilutive effect. No stock options have been excluded in the stock calculation for the fiscal year ended
December 31, 2006.


|10. |  | Geographic Information
|--- |  | ----------------------



Geographic information pertaining
to the Companys one reporting segment is as follows (in thousands):







|                                       |  |  |  | Sales |         | Long-lived Assets
|-------------------------------------- |  |  |  | ----- | ------- | -----------------
|2006                                   |  |  |  |       |         |                  
|United States                          |  |  |  | $     | 41,526  |                  
|U.S.
Territories and foreign countries |  |  |  |       | 180,496 |                  
|                                       |  |  |  | $     | 222,022 |                  
|2005                                   |  |  |  |       |         |                  
|United States                          |  |  |  | $     | 42,222  |                  
|U.S.
Territories and foreign countries |  |  |  |       | 177,192 |                  
|                                       |  |  |  | $     | 219,414 |                  
|2004                                   |  |  |  |       |         |                  
|United States                          |  |  |  | $     | 43,280  |                  
|U.S.
Territories and foreign countries |  |  |  |       | 166,110 |                  
|                                       |  |  |  | $     | 209,390 |                  



43


---



COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)


|11. |  | Lease Commitments
|--- |  | -----------------



The Company has entered into
operating leases for its administrative office and certain of its retail locations. The leases range from 3 to 15 years and generally include renewal
options. The Company is required to pay a base rent, plus insurance, taxes, and maintenance.




In January 2004, the Company sold
and leased back $0.8 million of equipment residing in its reconstructed store in Dededo, Guam. The lease is for seven years with annual rental payments
of approximately $0.1 million. In 2005, the Company entered into a capital lease for $1.0 million of equipment at its new St. Croix store. The lease is
also for seven years with annual rental payments of approximately $0.2 million.




A summary of the Companys
future minimum lease obligations at December 31, 2006, under noncancellable leases is as follows (in thousands):







|Fiscal Year                              |  |  |  | Operating Leases |        | Capital Lease
|---------------------------------------- |  |  |  | ---------------- | ------ | -------------
|2007                                     |  |  |  | $                | 5,073  |              
|2008                                     |  |  |  |                  | 4,945  |              
|2009                                     |  |  |  |                  | 3,872  |              
|2010                                     |  |  |  |                  | 2,629  |              
|2011                                     |  |  |  |                  | 2,367  |              
|Thereafter                               |  |  |  |                  | 15,825 |              
|Total                                    |  |  |  | $                | 34,711 |              
|Less imputed
interest                    |  |  |  |                  |        |              
|Present value
of minimum rental payments |  |  |  |                  |        |              
|Less current
portion                     |  |  |  |                  |        |              
|Capital lease
obligation                 |  |  |  |                  |        |              



Rent expense under operating
leases for the fiscal years ended December 31, 2006, January 1, 2006 and December 26, 2004 totaled $5.6 million, $5.4 million and $5.4 million ,
respectively.


|12. |  | Employee Benefit Plans
|--- |  | ----------------------



The Company maintains a 40l(k)
profit-sharing plan covering all eligible employees over the age of 18 with at least six months of service. Participating employees may elect to defer
and contribute up to 100% of their annual compensation to the plan, subject to annual limitations under the Internal Revenue Code. The Company matches
employee contributions at a rate of 25%, up to 15% of their annual compensation. The Companys matching contributions to the plan approximated
$0.1 million in each of fiscal years 2006, 2005 and 2004.




The Company has a Manager Bonus
Program, which provides for annual bonuses for managers based on store and company performance. All amounts payable under the program are accrued in
the year earned. Accordingly, bonuses accrued under this program totaled $0.6 million, $0.7 million and $1.4 million for fiscal 2006, 2005 and 2004,
respectively.




The Company also has a sales
incentive bonus program for all store employees based on sales targets and inventory shrink goals. These bonuses are paid monthly and were
approximately $0.1 million, $0.1 million and $0.2 million and in fiscal 2006, 2005 and 2004, respectively.




44


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COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS(continued)


|13. |  | Quarterly Financial Data (Unaudited)
|--- |  | ------------------------------------



The following is a summary of the
Companys unaudited quarterly results of operations:







|               |  |  |  |  |     |  |  |   |        |  |  | Earnings Per Common Share |       
|-------------- |  |  |  |  | --- |  |  | - | ------ |  |  | ------------------------- | ------
|
|
|Fiscal
2006(1) |  |  |  |  |     |  |  |   |        |  |  |                           |       
|First
quarter  |  |  |  |  | 143 |  |  | $ | 54,692 |  |  | $                         | 10,199
|Second
quarter |  |  |  |  | 143 |  |  |   | 53,568 |  |  |                           | 10,053
|Third
quarter  |  |  |  |  | 143 |  |  |   | 54,613 |  |  |                           | 10,312
|Fourth
quarter |  |  |  |  | 143 |  |  |   | 59,149 |  |  |                           | 11,111
|              
|Fiscal
2005(1) |  |  |  |  |     |  |  |   |        |  |  |                           |       
|First quarter  |  |  |  |  | 143 |  |  | $ | 53,239 |  |  | $                         | 9,574 
|Second
quarter |  |  |  |  | 143 |  |  |   | 52,295 |  |  |                           | 9,698 
|Third quarter  |  |  |  |  | 143 |  |  |   | 53,011 |  |  |                           | 10,020
|Fourth
quarter |  |  |  |  | 154 |  |  |   | 60,869 |  |  |                           | 11,509






|(1) |  | The Companys fiscal quarters are 13 weeks except fourth
quarter 2005, which was a 14-week quarter.
|--- |  | ---------------------------------------------------------------------------------------------------

|14. |  | Subsequent Events
|--- |  | -----------------



Line of
Credit




In March 2007, the Company
replaced its asset based line of credit with a working capital line of credit with Wells Fargo Bank. The new line of credit, which has a two-year term,
consists of a $6.0 million credit line with a sublimit for letters of credit and bankers acceptances in the amount up to $1.0 million. Borrowings
under the new line of credit bear interest at either Prime 0.25% or LIBOR +1.75%. A fee of 0.30% will be charged on the unused portion of the
line of credit. The new line of credit contains various covenants, including a requirement that we maintain a minimum net profit, a minimum tangible
net worth, and that the outstanding balances under the line of credit shall not exceed 30% of net inventory, excluding inventory in St. Maarten and the
Cayman Islands. The Company believes that it is currently in compliance with all such covenants.




St. Croix
Sale-Leaseback




On December 21, 2006, the Company
entered into an agreement providing for the sale and simultaneous leaseback of its St. Croix store. The purchase agreement provided for the sale of the
building and land on which it currently operates the store to Series B, LLC, an Arizona limited liability company, for $6.2 million. The purchase
agreement contained customary representations, warranties, covenants and conditions to close. The purchase agreement was also subject to completion of
satisfactory due diligence by Series B. On March 26, 2007, the Company closed the sale and simultaneous leaseback of the St. Croix store under the
purchase agreement. The term of the lease is 15 years and contains two five-year options to extend the term of the lease. The Company has agreed to pay
rent at a rate of $42,666.67 per month, with an increase of ten percent at the end of each five-year period.




45


---



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



None.


|Item 9A. |  | Controls and Procedures
|-------- |  | -----------------------



Under the supervision and with
the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our
disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended.
Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were
effective as of the end of the period covered by this annual report.


|Item 9B. |  | Other Information
|-------- |  | -----------------



St. Croix
Sale-Leaseback




On December 21, 2006, we entered
into an agreement providing for the sale and simultaneous leaseback of our St. Croix store. The purchase agreement provided for the sale of the
building and land on which we currently operate the store to Series B, LLC, an Arizona limited liability company, for $6.2 million. The purchase
agreement contained customary representations, warranties, covenants and conditions to close. The purchase agreement was also subject to completion of
satisfactory due diligence by Series B.




On March 26, 2007, we closed the
sale and simultaneous leaseback of the St. Croix store under the purchase agreement. The term of the lease is 15 years and contains two five-year
options to extend the term of the lease. We have agreed to pay rent at a rate of $42,666.67 per month, with an increase of ten percent at the end of
each five-year period.




Chief Executive Officer
Employment Agreement




On March 26, 2007, we entered
into an employment agreement with J. Jeffrey Meder to continue to serve as our president and chief executive officer. The agreement is effective as of
March 1, 2007, and continues through February 28, 2011, unless extended by mutual agreement or terminated sooner under the terms of the agreement. The
agreement provides for the payment to Mr. Meder of an initial annual salary of $385,000, subject to annual review and adjustment by the board of
directors. Mr. Meder will also be eligible for an annual bonus of $100,000, adjusted upward or downward as appropriate, based on the achievement of
specified financial targets. In addition, Mr. Meder will receive a bonus of $50,000 for each new store we open.




Either party may terminate the
agreement at any time and for any reason upon 30 days written notice to the other party. If we terminate Mr. Meders employment prior to the end
of the term of the agreement other than for cause, disability or change in control (all as defined in the agreement), he is entitled to receive
severance pay equal to twenty-four months base salary paid pro-rata on regular company paydays and continuation of benefits for twelve months. If
Mr. Meders employment is terminated within twelve months following a change of control (as defined in the agreement), he is entitled to a lump
sum payment equal to twelve months base salary and, the continuation of benefits for twelve months and the immediate vesting of all options or
other rights to acquire our common stock.




46


---



PART III


|Item 10. |  | Directors, Executive Officers and Corporate
Governance
|-------- |  | ------------------------------------------------------



Information called for by Part
III, Item 10, is incorporated by reference to the information in our proxy statement relating to our 2007 annual meeting of
shareholders.


|Item 11. |  | Executive Compensation
|-------- |  | ----------------------



Information called for by Part
III, Item 11, is incorporated by reference to the information in our proxy statement relating to our 2007 annual meeting of
shareholders.


|Item 12. |  | Security Ownership of Certain Beneficial Owners and Management
and Related Shareholder Matters
|-------- |  | ----------------------------------------------------------------------------------------------



Information called for by Part
III, Item 12, is incorporated by reference to the information in our proxy statement relating to our 2007 annual meeting of
shareholders.


|Item 13. |  | Certain Relationships and Related Transactions, and Director
Independence
|-------- |  | -------------------------------------------------------------------------



Information called for by Part
III, Item 13, is incorporated by reference to the information in our proxy statement relating to our 2007 annual meeting of
shareholders.


|Item 14. |  | Principal Accountant Fees and Services
|-------- |  | --------------------------------------



Information called for by Part
III, Item 14, is incorporated by reference to the information in our proxy statement relating to our 2007 annual meeting of
shareholders.




47


---



PART IV


|Item 15. |  | Exhibits and Financial Statement Schedules
|-------- |  | ------------------------------------------



Documents filed as part of this
Report:


|(1) |  | Financial Statementsall consolidated financial statements
of the Company as set forth under Item 8, beginning on p. 28 of this Report.
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------

|(2) |  | Financial Statement SchedulesSchedule II Valuation and
Qualifying Accounts.
|--- |  | ----------------------------------------------------------------------------



The independent auditors
report with respect to the financial statement schedules appears on page 29 of this annual report. All other financial statements and schedules not
listed are omitted because either they are not applicable or not required, or the required information is included in the consolidated financial
statements.


|(3) |  | Exhibits
|--- |  | --------






|      |  |  |  |                                                                                                                                                                        |  |   |  | Incorporated by Reference | 
|----- |  |  |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | - |  | ------------------------- | 
|
|3.1   |  |  |  | Restated Articles of Incorporation of Cost-U-Less, Inc.                                                                                                                |  |   |  | S-1/A                     | 
|3.2   |  |  |  | Amended and Restated Bylaws of Cost-U-Less, Inc.                                                                                                                       |  |   |  | 10-Q                      | 
|4.1   |  |  |  | Rights Agreement between Cost-U-Less, Inc. and ChaseMellon Shareholder Services, L.L.C. as rights agent, dated March 15,
1999                                          |  |   |  | 8-A                       | 
|4.2   |  |  |  | Form
of Common Stock Certificate of Cost-U-Less, Inc.                                                                                                                  |  |   |  | S-1/A                     | 
|10.1  |  |  |  | Amended and Restated 1998 Stock Incentive Compensation Plan*                                                                                                           |  |   |  | 10-K                      | 
|10.2  |  |  |  | Form
of Stock Option Agreement                                                                                                                                         |  |   |  | 10-K                      | 
|10.3  |  |  |  | Amended and Restated 1989 Stock Option Plan*                                                                                                                           |  |   |  | S-1                       | 
|10.4  |  |  |  | Form
of Director Stock Option Agreement (Vesting)*                                                                                                                     |  |   |  | S-1                       | 
|10.5  |  |  |  | Form
of Director Stock Option Agreement (Nonvesting)*                                                                                                                  |  |   |  | S-1                       | 
|10.6  |  |  |  | Form
of Indemnification Agreement*                                                                                                                                     |  |   |  | 10-Q                      | 
|10.7  |  |  |  | Credit agreement, dated March 14, 2007 between Cost-U-Less, Inc. and Wells Fargo Bank                                                                                  |  |   |  | 8-K                       | 
|10.8  |  |  |  | Construction/Permanent Loan Agreement by and among CULUSVI, Inc., Cost-U-Less, Inc. and Banco Popular de Puerto Rico, dated November 6,
1997                           |  |   |  | S-1                       | 
|10.9  |  |  |  | Construction/Permanent Loan Agreement by and among CUL (SINT MAARTEN) N.V., Cost-U-Less, Inc., CULUSVI, Inc. and Banco Popular de Puerto Rico,
dated December 17, 1999 |  | X |  |                           | 
|10.10 |  |  |  | Employment Agreement between Cost-U-Less, Inc. and J. Jeffrey Meder, dated October 20, 2004*                                                                           |  |   |  | 8-K                       | 
|10.11 |  |  |  | Lease Agreement between Westmall Limited and CUL (Fiji) Limited, effective March 1, 1998                                                                               |  |   |  | S-1/A                     | 
|10.12 |  |  |  | Lease Agreement between Fiji Public Service Association and CUL (Fiji) Limited, dated June 4, 1998                                                                     |  |   |  | 10-K                      | 
|10.13 |  |  |  | Lease Agreement between Baroud Real Estate Development N.V. and C.U.L. (Curacao) N.V., dated April 3, 1998                                                             |  |   |  | S-1                       | 
|10.14 |  |  |  | Ground Lease between Market Square East, Inc. and CULUSVI, Inc., dated October 20, 1997                                                                                |  |   |  | S-1                       | 
|10.15 |  |  |  | First Amendment to Ground Lease between Market Square East, Inc. and CULUSVI, Inc., dated November 29, 2005                                                            |  |   |  | 10-K                      | 



48


---

|      |  |  |  |                                                                                                                          |  |   |  | Incorporated by Reference | 
|----- |  |  |  | ------------------------------------------------------------------------------------------------------------------------ |  | - |  | ------------------------- | 
|
|10.16 |  |  |  | Sublease Agreement between Tamuning Capital Investment, Inc. and Cost-U-Less, Inc., dated July 15, 1994                  |  |   |  | S-1                       | 
|10.17 |  |  |  | Lease Agreement between Haleck Enterprises Incorporated and Cost-U-Less, Inc., dated February 3, 2005                    |  |   |  | 8-K                       | 
|10.18 |  |  |  | Lease Agreement between Inmostrat Corporation and Cost-U-Less, Inc., dated August 1993                                   |  |   |  | S-1                       | 
|10.19 |  |  |  | Industrial Real Estate Lease between Hilo Partners and Cost-U-Less, Inc., dated September 1, 1991                        |  |   |  | S-1                       | 
|10.20 |  |  |  | Indenture of Lease between H.C.L. Investments, Inc. and Cost-U-Less, Inc., dated August 21, 1992                         |  |   |  | 10-K                      | 
|10.21 |  |  |  | Amendment to Lease between H.C.L. Investments, Inc. and Cost-U-Less, Inc., dated April 27, 2000                          |  |   |  | 10-K                      | 
|10.22 |  |  |  | Lease Agreement between Caribe Lumber & Trading N.V. (St. Maarten) and CUL Sint Maarten N.V., dated February 19, 1999    |  |   |  | 10-K                      | 
|10.23 |  |  |  | Sublease Agreement between New Breed Distribution Corp of California, Inc. and Cost-U-Less, Inc., dated November 1, 1999 |  |   |  | 10-K/A                    | 
|10.24 |  |  |  | Lease Agreement between AMB Property, L.P. and Cost-U-Less, Inc., dated November 12, 1999                                |  |   |  | 10-K/A                    | 
|10.25 |  |  |  | First Amendment to Lease Agreement between AMB Property, L.P. and Cost-U-Less, Inc., dated November 21, 2001             |  |   |  | 10-K                      | 
|10.26 |  |  |  | Amendment to Lease Agreement between AMB Partners II, L.P. and Cost-U-Less, Inc., dated November 7, 2006                 |  | X |  |                           | 
|10.27 |  |  |  | Lease Agreement between Tonko Reyes, Inc., a Guam corporation and Cost-U-Less, Inc., dated October 22, 2001              |  |   |  | 10-K                      | 
|10.28 |  |  |  | Amendment to Lease Agreement between Tonko Reyes, Inc., a Guam corporation and Cost-U-Less, Inc., dated October 22, 2001 |  |   |  | 10-K                      | 
|10.29 |  |  |  | Lease Agreement between Sun Life Assurance Company of Canada and Cost-U-Less, Inc., dated November 18, 2003              |  |   |  | 10-K                      | 
|10.30 |  |  |  | Executive Severance Plan*                                                                                                |  |   |  | 10-K                      | 
|10.31 |  |  |  | Real
Estate Purchase and Sale Agreement dated April 30, 2004, between Mint Capital, Casco Inc., and Cost-U-Less, Inc.    |  |   |  | 10-Q                      | 
|10.32 |  |  |  | Summary of Cost-U-Less, Inc. 2005 Incentive Bonus Program*                                                               |  |   |  | 8-K                       | 
|10.33 |  |  |  | Summary of Cost-U-Less, Inc. Non-Employee Director Compensation*                                                         |  |   |  | 8-K                       | 



49


---

|      |  |  |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                       |  |   |  | Incorporated by Reference | 
|----- |  |  |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | - |  | ------------------------- | 
|
|10.34 |  |  |  | Shareholders Agreement dated July 11, 2005 between Cost-U-Less Cayman Holdings, an exempted company incorporated under the laws of the Cayman
Islands; Cayman Drug Limited, a company incorporated in the Cayman Islands; Cayman Cost-U-Less Limited, a company incorporated under the laws of the
Cayman Islands; Naul Bodden of c/o NCB Consulting Ltd in the Cayman Islands; and Robert Bodden of c/o NCB Consulting Ltd in the Cayman Islands.
** |  |   |  | 10-Q                      | 
|10.35 |  |  |  | Lease Agreement between Governors Square Limited and Cayman Cost U Less Limited dated April 19, 2006 **                                                                                                                                                                                                                                                                                                                                              |  |   |  | 10-Q                      | 
|10.36 |  |  |  | Purchase Agreement and Escrow Instructions between Cost-U-Less, Inc., a Washington corporation, as seller, and Series B, LLC, as buyer, dated
December 21, 2006                                                                                                                                                                                                                                                                                       |  | X |  |                           | 
|21.1  |  |  |  | Subsidiaries of Cost-U-Less, Inc.                                                                                                                                                                                                                                                                                                                                                                                                                     |  | X |  |                           | 
|23.1  |  |  |  | Consent of Independent Registered Public Accounting Firm                                                                                                                                                                                                                                                                                                                                                                                              |  | X |  |                           | 
|24.10 |  |  |  | Power of Attorney (See page 51)                                                                                                                                                                                                                                                                                                                                                                                                                       |  | X |  |                           | 
|31.1  |  |  |  | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                    |  | X |  |                           | 
|31.2  |  |  |  | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                    |  | X |  |                           | 
|32.1  |  |  |  | Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                    |  | X |  |                           | 
|32.2  |  |  |  | Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                    |  | X |  |                           | 






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

|** |  | This exhibit (or portions thereof) has been filed separately
with the Commission pursuant to an application for confidential treatment. The confidential portions of this Exhibit have been omitted and are marked
by an asterisk.
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



50


---



SIGNATURES




Pursuant to the requirements of
Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this Report to be signed on its behalf by the undersigned,
thereunto duly authorized.







|                     |  |  |  | COST-U-LESS, INC.                                                              
|-------------------- |  |  |  | -------------------------------------------------------------------------------
|Date: March 28,
2007 |  |  |  | By:  /s/ J. Jeffrey MederJ. Jeffrey Meder President and Chief Executive
Officer



Each person whose individual
signature appears below hereby authorizes and appoints J. Jeffrey Meder and Martin P. Moore, and each of them, with full power of substitution and
resubstitution and full power to act without the other, as his or her true and lawful attorney-in-fact and agent to act in his or her name, place and
stead and to execute in the name and on behalf of each person, individually and in each capacity stated below, and to file, any and all amendments to
this Report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission,
granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing, ratifying
and confirming all that said attorneys-in-fact and agents or any of them or their or his or her substitute or substitutes may lawfully do or cause to
be done by virtue thereof.




Pursuant to the requirements of
the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Company and in the capacities
indicated below on the 28th day of March 2007.







|Signature                              |  |  |  | Title                                                                                                        
|-------------------------------------- |  |  |  | -------------------------------------------------------------------------------------------------------------
|                                      
|/s/
GEORGE C. TEXTORGeorge C. Textor   |  |  |  | Chairman of the Board                                                                                        
|                                      
|/s/
J. JEFFREY MEDERJ. Jeffrey Meder   |  |  |  | President, Chief Executive Officer and Director (Principal Executive Officer)                                
|                                      
|/s/
MARTIN P. MOOREMartin P. Moore     |  |  |  | Vice President, Chief Financial Officer, Secretary and Treasurer (Principal Financial and Accounting Officer)
|                                      
|/s/
ROBERT C. DONEGANRobert C. Donegan |  |  |  | Director                                                                                                     
|                                      
|/s/
DAVID A. ENGERDavid A. Enger       |  |  |  | Director                                                                                                     
|                                      
|/s/
GARY W. NETTLESGary W. Nettles     |  |  |  | Director                                                                                                     



51


---





SCHEDULE II



COST-U-LESS, INC.



VALUATION AND QUALIFYING ACCOUNTS



|Description                                           | Balance at
Beginning
of  Year | Additions(Reductions) | (1)
Deductions | Balance at
End of
Year
|----------------------------------------------------- | ----------------------------- | --------------------- | -------------- | ----------------------
|                                                      |                               |                       |                |                       
|Year Ended December 31, 2006                          |                               |                       |                |                       
|Reserves and allowances deducted from asset accounts: |                               |                       |                |                       
|Allowance for doubtful accounts                       | $80,000                       | ($8,000)              | $6,000         | $66,000               
|                                                      |                               |                       |                |                       
|                                                      |                               |                       |                |                       
|Year Ended January 1, 2006                            |                               |                       |                |                       
|Reserves and allowances deducted from asset accounts: |                               |                       |                |                       
|Allowance for doubtful accounts                       | $205,000                      | ($15,000)             | $110,000       | $80,000               
|                                                      |                               |                       |                |                       
|                                                      |                               |                       |                |                       
|Year Ended December 26, 2004                          |                               |                       |                |                       
|Reserves and allowances deducted from asset accounts: |                               |                       |                |                       
|Allowance for doubtful accounts                       | $208,000                      | $93,000               | $96,000        | $205,000              

_________________________

|(1) | Uncollectible accounts written off, net of recoveries.
|--- | ------------------------------------------------------







1







---