SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549
                                   Form 10-KSB

            [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934
                   For the fiscal year ended December 31, 1998
                                       OR
          [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934
Commission File No.0-28128

                             ELEGANT ILLUSIONS, INC.
                 ----------------------------------------------
                 (Name of small business issuer in its charter)

             Delaware                                   88-0282654
-------------------------------             ------------------------------------
(State or other jurisdiction of             (I.R.S. Employer Identification No.)
 incorporation or organization)

 542 Lighthouse Ave., Suite 5, Pacific Grove, CA          93950
------------------------------------------------       ----------
     (Address of principal executive offices)          (Zip Code)

Issuer's telephone number  (408) 649-1814
                           --------------
Securities registered pursuant to Section 12(b) of the Act:  None
Securities registered pursuant to Section 12(g) of the Act:  Common Stock

Check  whether  the issuer  (1) has filed all  reports  required  to be filed by
Section 13 or 15(d) of the Exchange Act,  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
                                                           -----      ----

Check if there is no disclosure of delinquent  filers in response to Item 405 of
Regulation S-B contained herein, and no disclosure will be contained to the best
of  registrant's  knowledge,  in  definitive  proxy  or  information  statements
incorporated  by reference  in Part III of this Form 10-KSB or any  amendment to
this Form 10-KSB.[ ]

The  Issuer's  revenues  for its  fiscal  year  ended  December  31,  1998  were
$9,706,816.

The aggregate market value of the voting stock held by non-affiliates (1) of the
registrant based on the closing bid price of such stock, as of March 19, 1999 is
$2,857,153 based upon $1.625  multiplied by the 1,758,248 Shares of Registrant's
Common Stock held by non-affiliates1.

The number of shares  outstanding of each of the registrant's  classes of common
stock, as of March 22, 1999 is 6,084,379  shares,  all of one class of $.001 par
value Common Stock.

The information required by Items 9, 10, 11 and 12 under Part III of this report
is  incorporated by reference from the issuer's  definitive  proxy statement for
its 1999 Annual  Meeting of  Stockholders  (to be filed with the  Commission not
later than April 30, 1999).

Transitional Small Business Disclosure Format (check one):  Yes        No   X
                                                               -----     -----

1) Affiliates for purposes of this item refers to those persons who,  during the
preceding 3 months, were officers,  directors and/or owners of 5% or more of the
Company's outstanding stock.

<PAGE>




                             ELEGANT ILLUSIONS, INC.
                             -----------------------
                                   Form 10-KSB
                          Year Ended December 31, 1998

                                Table of Contents
                                -----------------
PART I                                                                Page
------                                                                ----

Item 1.  Description of Business.........................................1


Item 2.  Description of Properties.......................................4

Item 3.  Legal Proceedings...............................................5


Item 4.  Submission of Matters to a Vote of

               Security Holders..........................................5


Part II
-------

Item 5.  Market for Common

               Equity and Related Stockholder Matters....................6


Item 6.  Management's Discussion and Analysis of

               Financial Condition and Results of Operations.............7

Item 7.  Financial Statements...........................................12


Item 8.  Changes in and Disagreements with
               Accountants on Accounting and

                 Financial Disclosures..................................13


Part III
--------

Item 9.  Directors, Executive Officers, Promoters
               and Control Persons; Compliance with

                 Section 16(a) of the Exchange Act......................13

Item 10. Executive Compensation.........................................13


Item 11. Security Ownership of Certain Beneficial

               Owners and Management....................................13


Item 12. Certain Relationships and Related

               Transactions.............................................13

Item 13. Exhibits and Reports on Form 8-K...............................13

Signatures..............................................................14

Supplemental Information................................................15


Financial Statements...................................................F-1


<PAGE>




                                                   

                                     PART I

Item 1.      Description of Business.

General

     Elegant   Illusions,   Inc.  (the  "Company"),   through  its  wholly-owned
subsidiary, Elegant Illusions, Inc, a California corporation (the "Subsidiary"),
is primarily in the retail copy jewelry business and currently owns and operates
26 retail  copy  jewelry  stores,  three  fine  jewelry  stores and one fine art
gallery.

    The retail copy jewelry stores are located in:



<PAGE>

                                                                   
California                 Indiana                  Texas                       
     Gilroy,                    Michigan City            Grapevine              
     Monterey                                                                   
       (two stores),       Louisiana                U.S. Virgin Islands         
     Ontario,                   New Orleans              St. Croix and          
     Palm Springs,                                       St. Thomas (two stores)
     Sacramento,           Michigan                                             
     Santa Barbara,             Birch Run           Utah                        
     San Diego,                                          Salt Lake City         
     San Francisco         Minnesota                                            
       (two stores) and         Minneapolis         Wisconsin                   
     Tulare                                              Kenosha                
                           Missouri                 
Florida                         Branson      
      Miromar                                
                           Nevada            
Hawaii                          Laughlin     
     Maui and              
     Oahu



     One of the fine jewelry  stores  (which  includes a handcraft,  jewelry and
gift store) is located in Monterey, the other fine jewelry stores are located in
St. Croix and St. Thomas.

     The fine art gallery is located in New Orleans.

     In January 1999, the Company opened an additional copy jewelry  location in
St. Thomas at the Royal Dane Mall. It also closed the Portland,  Oregon location
where the Company's  lease expired and the landlord chose not to renew as it had
a tenant  willing to pay higher  rent.  These post  December 31, 1998 events are
reflected above.
                                       1

<PAGE>

     In 1997 we announced a 50 store expansion.  In this regard,  we opened four
locations in 1997,  seven in 1998 and one in January 1999.  However,  management
has elected to shift its focus from opening new locations to bolstering revenues
from existing stores.  As a result,  the Company is limiting its expansion plans
at this time and only open an additional three locations during the remainder of
1999.

     Management has slowed the Company's  store  expansion  plans because it was
not effective in containing costs at already established  locations or locations
opened in 1998. In addition,  two locations  opened in 1998 are performing below
our  expectations and four  established  locations are experiencing  substantial
downturns in sales.

     The two new locations not performing to expectations  are Grapevine,  Texas
and Ontario,  California.  Management has negotiated  with landlord to close the
Ontario location in or about June 1999.

     The four  established  locations  experiencing  revenue  declines are Oahu,
Hawaii,  two  locations in St. Croix (copy  jewelry and fine jewelry) and one in
San Francisco.  At these locations,  revenues were down  approximately 21%, 38%,
26% and 28%, respectively.

     Management believes that these declines in revenues resulted from:

 

Hawaii:        The ownership of the mall in which the Company's store is located
               went  through a  bankruptcy  in 1998 and,  subsequently,  changed
               ownership. This mall was subject to negative publicity during the
               bankruptcy.  Management has negotiated  more favorable terms with
               the new owners of the mall. These terms will take effect April 1,
               1999. The new owners of the mall are working to increase  traffic
               flow, something the prior owners did not do, and reopen the clock
               tower.  The clock tower is a major local and tourist  attraction.
               Management believes,  but cannot assure, that these measures will
               result in a reduction in operating losses at this location.

St.  Croix:    This  Island  experienced  a downturn in  tourism,  primarily  in
               Cruise Ship visits  which  resulted in lower than  expected  foot
               traffic to these  locations.  Management  does not  anticipate  a
               change  in this  situation  for  the  foreseeable  future  unless
               gambling (which has been approved,  but has not been implemented)
               comes to the island.
                    
San Francisco: The ownership of the mall in which the Company's store is located
               changed in 1998.  The new  landlord  elected to  restructure  the
               tenant  mix  at the  mall  and  vacated  tenants  from  locations
               adjacent to that of the Company's store.  Management anticipates,
               but cannot  assure,  that these  vacancies  will be filled in the
               near future  which  should  increase  foot  traffic and, in turn,
               revenues.  In addition,  the  landlord has granted the  Company's
               request to install new interactive  signage.  Management believes
               that this new signage will draw foot traffic to the center of the
               mall where the Company's store is located.

                                       2

<PAGE>

     Management  believes that it can effectively  increase revenues and profits
by  increasing  sales at existing  locations  with new  products and by reducing
operating costs.

Types of Stores

     The copy  jewelry  stores  sell  copies of fine  jewelry  including  rings,
pendants,  earrings,  necklaces,  bracelets,  pearl  enhancers  and  ear  charms
manufactured in 14 carat gold,  sterling  silver  vermeil,  gold bonded brass or
gold bonded white metal.  By using  synthetic and laboratory  grown stones,  the
Company offers copy jewelry at a fraction of the cost of real fine jewelry.

     The fine jewelry stores, Steinbeck Jewelers (Monterey), Kings Alley Jeweler
(St.  Croix) and Seaport  Jewelers  (St.  Thomas),  sell fine jewelry  including
rings, pendants, earrings,  necklaces,  bracelets,  manufactured in 10 carat, 12
carat  and 14 carat  gold and  other  precious  metals  set  with  precious  and
semi-precious stones.

     During  1997,  the Company  consolidated  its  handcraft,  jewelry and gift
store,  Steinbeck Lady, into Steinbeck Jewelers.  Steinbeck Lady primarily sells
jewelry,   including  rings,   pendants,   earrings,   necklaces  and  bracelets
manufactured in Sterling silver, other metals and other materials; gift items of
a marine nature; and some pottery.

     The fine art gallery,  Bourbon Street Gallery, sells predominantly original
oil paintings by contemporary Italian artists.

Purchase of Inventory

     The Company purchases its copy jewelry  merchandise  directly from a number
of manufacturers  located in and outside the United States; it does not purchase
from  distributors.  Products purchased include stock items and jewelry designed
by the Company.  The jewelry sold in the fine jewelry  stores and the handcraft,
jewelry and gifts sold in the Steinbeck  Lady section of the Steinbeck  Jewelers
store are  primarily  purchased  directly  from  manufacturers  and, to a lesser
extent,  from  distributors.  The Company  purchases its Art for Bourbon  Street
Gallery  directly from the artists.  Less than 5% of the art gallery's  revenues
are generated from sales of Art on consignment.


                                       3
<PAGE>

Marketing

     The Company's primary source of business results from "walk by" traffic and
word of mouth.  The Company also  advertises in magazines and  newspapers and on
radio.  Management believes that its choice of strategic location is its primary
marketing tool. The Company's  stores are located in high  trafficked  locations
including  malls and tourist areas.  The strategic  locations of the stores also
helps mitigate seasonal  factors;  the tourist locations do higher volume during
the summer and  vacation  times while the mall and heavy  shopping  locations do
higher volume around the traditional holiday times (e.g., Christmas,  Valentines
Day and Mothers Day).

Competition

     At this time,  management  believes  that the  Company  has  little  direct
competition.  The Company  knows of two copy  jewelry  retail  store chains that
could  compete with the Company if they were located  within close  proximity of
the Company's stores - Impostors and Landau Hyman.  Management believes that the
Company  would be able to  compete  even if  stores  were  opened  within  close
proximity of the  Company's  stores.  The  Company's  copy  jewelry  stores also
compete indirectly with fine jewelry and costume jewelry retail stores; however,
due to the type of merchandise  sold and the difference in product price ranges,
such competition has minimal if any affect on the Company's business.

Employees

     At March 22, 1999, the Company had approximately 172 employees, an increase
of 49 employees since March 1998.  These  employees  include the Company's three
officers, five regional managers, one national sales manager, 24 store managers,
two training managers, 118 sales personnel, one retail computer systems manager,
one art department manager, one office manager and 16 clerical personnel.


Item 2.      Description of Properties.


     The Company's  executive  offices are located at 542 Lighthouse Ave., Suite
5, Pacific  Grove,  California  93950.  The facility  consists of  approximately
10,100 square feet. Utilized approximately as follows:


                                                   Square
Usage                                             Footage
-----                                             -------

Executive office space ........................       700
Administrative space ..........................     1,100
art production and reproduction ...............     2,500
New facility assembly .........................     1,700
Manager training ..............................       800
Warehouse space ...............................     2,500
Computer and file space .......................       900
                                                   ------
                                                   10,100

                                       4

<PAGE>

     The facility is leased from an  unaffiliated  party  pursuant to a two year
lease that expires on February  28, 2001.  Pursuant to the lease the entire base
rent for the 24 month  term of  $109,000  was  paid in  March  1999.  Management
believes that the current executive facilities are sufficient for its needs over
the next few years.

     The Company's stores are leased from unaffiliated parties on various terms.
Certain of the  leases  provide  the  landlord  with a  percentage  of  revenues
generated at and from the specific  leased location (see Note 5 to the Company's
Consolidated Financial Statements).

Item 3.      Legal Proceedings.

     The Company is not presently a party to any material  litigation not in the
regular  course  of its  business,  nor  to  the  Company's  knowledge  is  such
litigation threatened.

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

     No matters  were  submitted to a vote of security  holders  during the last
quarter of the fiscal year ended December 31, 1998.
















                                       5
<PAGE>

                                     PART II
                                     -------

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

(a) Marketing  Information -- The principal  U.S.  market in which the Company's
Common Stock  ($.001 par value,  all of which are one class) is traded is in the
over-the-counter  market (NASDAQ SmallCap Symbol:  "EILL"). The Company's Common
Stock was listed for trading on the NASDAQ  Smallcap  Market on August 16, 1996.
Prior thereto, it traded in the over-the-counter  market (Bulletin Board Symbol:
"EILL").

     The following tables set forth the range of high and low closing bid prices
for the  Company's  Common  Stock on a  quarterly  basis for the past two fiscal
years as reported by the National  Quotation Bureau (which reflect  inter-dealer
prices, without retail mark-up, mark-down, or commission and may not necessarily
represent  actual  transactions).  The  prices  do not  take  into  account  the
one-for-three reverse split of the Common Stock effected in January 1999.


                                                               Bid Prices
                                                         ---------------------
                                                           High          Low
                                                         -------       -------
Period - Fiscal Year 1997
-------------------------

First Quarter ending March 31, 1997 ................     2.875         1.25
Second Quarter ending June 30, 1997 ................     1.6875        0.6875
Third Quarter ending September 30, 1997 ............     1.1875        0.6525
Fourth Quarter ending December 31, 1997 ............     0.90625       0.40625

Period - Fiscal Year  1998
--------------------------

First Quarter ending March 31, 1998 ................     0.59375       0.21875
Second Quarter ending June 30, 1998 ................     1.46875       0.50
Third Quarter ending September 30, 1998 ............     0.9375        0.5625
Fourth Quarter ending December 31, 1998 ............     0.875         0.50

(b) Holders -- There were  approximately  97 holders of record of the  Company's
Common  Stock as of March 22, 1999  inclusive  of those  brokerage  firms and/or
clearing houses holding the Company's  securities for their clientele (with each
such brokerage house and/or clearing house being considered as one holder).


(c)  Dividends  -- The Company has not paid or declared any  dividends  upon its
Common Stock since its inception and, by reason of its present  financial status
and its contemplated financial requirements,  does not contemplate or anticipate
paying any dividends upon its Common Stock in the foreseeable future.

                                       6

<PAGE>

     On February 27, 1998, the Company  received a letter from NASDAQ  informing
the Company that Company was not in compliance  with NASDAQ's  $1.00 minimum bid
maintenance  requirement.  To maintain the listing of the Company's Common Stock
on NASDAQ, the Company effected a one-for-three reverse split of its outstanding
share which resulted in an increase in the bid for the Company's Common Stock to
over $1.00 per share.  All  references  in this report to numbers of shares have
been  adjusted  to reflect  the  reverse  split,  unless  the text  specifically
indicates  otherwise.  By letter  dated March 12,  1999,  NASDAQ  determined  to
continue  the listing of the  Company's  Common  Stock,  subject to its right to
change its  determination  should  conditions  dictate.  If the Company's Common
Stock is delisted from NASDAQ,  stockholders'  ability to resell their shares of
Company  stock  and/or the price at which such shares  could be resold  could be
adversely affected.

     In March 1996,  the Company  sold  202,021  shares of its Common Stock to a
foreign  investor for gross  proceeds of  $1,000,000  and paid a  commission  of
$50,000  on  the  transaction.  The  sales  of  these  shares  was  exempt  from
registration  by reason of the  exemption  provided by  Regulation S promulgated
under the Securities Act of 1933 (the "Act").

     In April 1996,  the Company  sold  33,334  shares of its Common  Stock to a
supplier in exchange for inventory valued at $200,000. The sales of these shares
was exempt from registration by reason of the exemption  provided by Rule 506 of
Regulation D promulgated under the Act.

     During 1997 and 1998, in accordance  with Rule 10b-18 under the  Securities
Exchange Act of 1934, the Company  repurchased an aggregate of 33,033 shares and
62,067 shares, respectively, of its Common Stock in the open market.


     In May 1998, the Company raised $720,000 from the sale of 266,667 shares in
a private  placement to one investor.  The sales of these shares was exempt from
registration  by reason of the  exemption  provided by Rule 506 of  Regulation D
promulgated  under the Act. In addition,  the Company  issued  68,334  shares to
consultants for public relations services.  The sales of these shares was exempt
from  registration  by reason of the  exemption  provided by Section 4(2) of the
Act.


Item 6. Management's  Discussion and Analysis of Financial Condition and Results
     of Operations.

Cautionary Statement on Forward-Looking Statements

     Except for the  historical  information  contained  herein,  certain of the
matters  discussed in this annual report are  "forward-looking  statements,"  as
defined in Section 21E of the  Securities  Exchange Act of 1934,  which  involve
certain  risks and  uncertainties,  which could cause  actual  results to differ
materially  from those  discussed  herein  including,  but not limited to, risks
relating to changing  economic  conditions,  the Company's  expansion  plans and
competitive pressures.

                                       7

<PAGE>

     The Company cautions readers that any such  forward-looking  statements are
based on management's current expectations and beliefs but are not guarantees of
future performance.  Actual results could differ materially from those expressed
or implied in the forward-looking statements.

Results of Operations

Fiscal Year ended  December 31, 1998 Compared to Fiscal Year Ended  December 31,
1997

     Sales for the year ended  December 31, 1998  increased  $1,321,109 or 15.8%
when compared to the year ended
December 31, 1997.

     Management  believes  that the increase in sales was due to the addition of
seven locations in 1998 (Birch Run,  Michigan City,  Grapevine,  Ontario,  Maui,
Miromar and St.  Thomas) and a full year of operations at the four stores opened
in 1997 (Gilroy, Kenosha, Tulare and St. Thomas).

     As of December 31, 1997, the Company operated 23 retail locations and as of
December 31, 1998, the Company  operated 30 retail  locations.  In January 1999,
the Company  opened an  additional  copy jewelry  location in St.  Thomas at the
Royal  Dane  Mall.  It also  closed  the  Portland,  Oregon  location  where the
Company's  lease expired and the landlord  chose not to renew as it had a tenant
willing to pay higher rent.

     The Costs of goods as a  percentage  of revenues  increased  slightly  from
29.2% in fiscal 1997 to 31.2% in fiscal 1998.


     During fiscal 1998, selling,  general and administrative expenses increased
when compared to fiscal 1997 by $1,066,155  (approximately 22.8%). A significant
portion of this  increase  ($205,000  or 19.2% of the  increase)  was due to the
issuance of consultants'  shares,  a non-recurring  event with no impact on cash
flow (see "Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters").  As a  percentage  of  sales,  selling,  general  and  administrative
expenses increased from approximately  55.8% during 1997 to approximately  59.2%
during 1998. Absent the non-recurring  event mentioned above,  selling,  general
and  administrative  expenses as a percentage  of sales during fiscal 1998 would
have been approximately  57.1% (an increase of 1.3%).  Management  believes that
this increase was primarily the result of the expenses incurred in (a) operating
the four stores  opened in 1997 for a full year;  and (b) opening and  operating
the seven new  stores  opened  in 1998.  Expenses  incurred  in  setting  up and
commencing  operations at new locations are non-recurring and are fully expensed
when incurred.


     As  discussed in "Item 1.  Business,"  two of the new  locations  opened in
1998,  Grapevine,   Texas  and  Ontario,   California,  are  not  performing  to
expectations.  Management  has  negotiated  with  landlord  to close the Ontario
location in or about June 1999.

                                       8

<PAGE>

     Management  believes that it can effectively  increase revenues and profits
by increasing sales at existing locations and by reducing operating costs.

     To generate  increased  sales, the Company plans to add new products to its
inventory and conduct one-on-one training of its managers and sales staff.

     With regard to reducing operating costs:

               In September 1998,  management  identified a problem with payroll
               cost control and  implemented  a software  system to manage this.
               This system identifies locations, on a payroll-by-payroll  basis,
               that are not keeping  payroll within the designed budget for that
               location.

               In  September  1998,  management  also  began the  process of not
               renewing certain advertising contracts.

               Management has identified  "freight" as an operating expense that
               is increasing as a percentage of sales and is currently examining
               its  policies  and  procedures,  particularly  in  the  areas  of
               distribution  of  product  from the  Company's  warehouse  to its
               stores and "customer special orders," to find cost savings.

     Revenues same store locations.

     As of December 31, 1997,  the Company  operated 23 locations that were also
in operation at December 31, 1998: two in New Orleans, three in Monterey, one in
Sacramento, one in San Diego, one in Santa Barbara, two in San Francisco, one in
Palm Springs,  one in Salt Lake City,  one in Portland,  one in Branson,  one in
Minneapolis,  one in Laughlin, one in Gilroy, one in Kenosha, one in Tulare, two
in St Croix one in St.  Thomas and one in Oahu. 20 of these  locations  operated
for the full 12 month  periods in fiscal 1997 and 1998.  Revenues  from these 20
locations for the year ended December 31, 1998, decreased  approximately 4% from
the same period in 1997.  Management  believes  that this decrease in same store
revenues was due primarily to decreased revenues at the location in Oahu, one of
the  locations in San Francisco and the two locations in St. Croix (copy jewelry
and fine jewelry).  At these locations,  revenues were down  approximately  21%,
28%,  38% and 26%,  respectively.  For a  discussion  of the  reasons  for these
declines in revenues,  see "Item 1.  Business - General."  Absent  revenues from
these four locations,  same store revenues  increased  approximately  1% in 1998
compared to 1997.

     Inventory Turnover Ratios

     During fiscal 1998,  the Company  maintained  an inventory  that provided a
turnover ratio of 1.20.  Management does not believe that it's current inventory
turnover is indicative of impaired or slow-moving  inventory.  Management  notes
that  the  Company  opened  seven  locations  during  1998  and  has not had the
opportunity of a full year's sales.

                                       9

<PAGE>

     Management  believes that it's current inventory  turnover ratio of 1.20 is
appropriate for it's plan of operation,  including  opening new locations out of
inventory on hand and  maintaining  its strategy of replacing  inventory sold at
its retail  locations within a 2-3 day time frame.  Management  reviews items on
hand, on a regular  basis,  to determine  slow moving items,  then discounts the
price of those items so they are sold at prices  that still  generate a positive
gross margin. The inventory turnover ratio for fiscal 1997 was 1.11.  Management
believes that this  improvement in the ratio between fiscal 1997 and fiscal 1998
was due to management's efforts to more effectively manage inventories.

     Recent Accounting Pronouncements

     In June of 1997, the Financial Accounting Standards Board issued Statements
of Financial Accounting Standards,  No. 130, Reporting Comprehensive Income, and
No. 131,  Disclosures  About Segments of an Enterprise and Related  Information,
effective for years  beginning  after December 15, 1997. In February 1998,  FASB
issued  Statement  of  Financial  Accounting  Standards,   No.  132,  Employers'
Disclosures  about  Pensions and Other  Postretirement  Benefits,  effective for
years  beginning  after  December 15, 1997.  FAS 130  establishes  standards for
reporting and display of  comprehensive  income and its components in a full set
of  general-purpose  financial  statements.  FAS 131  establishes  standards for
reporting  information  about  operating  segments and the methods by which such
segments  were   determined.   FAS  132  establishes   standards  for  reporting
disclosures about pensions and postretirement benefit plans.


     Effective  January 1, 1998,  the Company  adopted FAS 130,  FAS 131 and FAS
132;  however,  the  adoption  has not had a  material  effect on the  Company's
consolidated financial statements.


     SFAS No. 123, Accounting for Stock-Based Compensation, encourages, but does
not require,  companies to record  compensation  cost for  stock-based  employee
compensation  plans at fair value. The Company has chosen to continue to account
for stock-based  compensation  using the intrinsic value method as prescribed in
Accounting  Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued
to Employees  and related  interpretations,  under which no  compensations  cost
related to stock  options  has been  recognized  as the  exercise  price of each
option at the date of grant was equal to the fair value of the underlying common
stock.

     In April 1998, the Accounting  Standards  Executive  Committee of the AICPA
issued  Statement  of  Position  ("SOP")  No.  98-5  "Reporting  on the Costs of
Start-Up  Activities".  Costs of  start-up  activities,  including  organization
costs,  should be expensed as  incurred.  This SOP is  effective  for  financial
statements for fiscal years  beginning after December 15, 1998. The Company does
not expect  adoption of SOP No. 98-5 to have a material  effect,  if any, on its
financial position or results of operations.

                                       10

<PAGE>

     Year 2000 Compliance

     Many currently  installed  computer  systems and software  products use two
digits  rather  than  four to  define  the  applicable  year.  In  other  words,
date-sensitive  software may recognize a date using "00" as the year 1900 rather
than the year 2000.  This could  result in system  failures  or  miscalculations
causing disruptions of operations.

     Management  does not  believe  that the year  2000  problem  will  have any
material adverse affects on the Company's  operations or revenues.  In 1994, the
Company  adjusted its Point of Sale and Inventory  Control  software in light of
the year 2000 problem. The foregoing software now utilizes a database management
system which provides date management tools. Mathematical date calculations were
changed to store date  information in an eight  character field  (YYYYMMDD).  In
1996,  the credit card  authorization  modules were adjusted to avoid  potential
issues from the year 2000 problem.  Although  years  continue to be expressed in
two  digits,  any two digits  prior to 96 will be read as  expiring in the 2000s
rather than the 1900s. The Company has confirmed with its credit card processors
that their systems are year 2000 compliant.

Liquidity and Capital Resources

     As of  December  31,  1998,  the Company  had  $1,560,403  in cash and cash
equivalents  and  its  current  assets  exceeded  its  current   liabilities  by
$4,862,655.

     In 1997 we announced a 50 store expansion.  In this regard,  we opened four
locations in 1997,  seven in 1998 and one in January 1999.  However,  management
has elected to shift its focus from opening new locations to bolstering revenues
from existing stores.  As a result,  the Company is limiting its expansion plans
at this time and only  plans to open three  locations  (in  addition  to the St.
Thomas  store  opened in January  1999)  during  the  remainder  of 1999.  For a
discussion of this change in focus, see "Item 1. Business - General."

     The  anticipated  opening of a store to be located at Universal  Studios in
Orlando,  Florida  continues to be delayed due to delays in the  construction of
Universal City Walk. We now  anticipate  that this store will open at the end of
May or beginning of June 1999.

     The cost of opening new stores generally ranges from approximately $120,000
to $140,000,  depending  upon a number of factors.  It is  anticipated  that the
opening of  additional  new stores will be funded from  current  cash  reserves,
revenues and bank and/or  equity  financing.  In this regard,  the Company has a
commitment for a line of credit up to $2,000,000  from Comerica Bank to open new
stores and the Company's subsidiary, Elegant Illusions, Inc. (California), has a
commitment  for a  $350,000  revolving  line of credit  from  Comerica  Bank for
working capital  purposes.  These lines of credit would be collateralized by the
Company's assets and the Company would be required to maintain certain financial
ratios and covenants.  The commitment expires on April 30, 1999. The Company had
a line of credit up to $2,000,000 and its  subsidiary  had a $350,000  revolving
line of credit,  both from Comerica Bank.  These credit lines expired in January
1999.  As of  December  31,  1998 no funds had been  advanced on either of these
lines of credit.

                                       11

<PAGE>

     No  assurance  can be  given  that  the  Company  will be  able  to  secure
additional bank and/or equity financing over and above its current resources, if
required.  In  addition,  no assurance  can be given as to the actual  number or
location of stores that the Company will open in the future.

Item 7.      Financial Statements.

     The  following  consolidated  financial  statements  have been  prepared in
accordance  with the  requirements  of Item  310(a)  of  Regulation  S-B and are
located at the end of this Annual Report on Form 10-KSB.

                             ELEGANT ILLUSIONS, INC.
                        CONSOLIDATED FINANCIAL STATEMENTS
                          YEAR ENDED December 31, 1998

                                      INDEX
                                                                     Page No.
                                                                     --------

Report of Independent Auditor ........................................ F-1

Consolidated Balance Sheets - December 31, 1997 and 1998 ............. F-2

Consolidated Statements of Operations for the
Years Ended December 31, 1997 and 1998 ............................... F-3

Consolidated Statement of Stockholders'
Equity for the Years
Ended December 31, 1997 and 1998 ..................................... F-4

Consolidated Statements of Cash Flows for the
Years Ended December 31, 1997 and 1998 ............................... F-5

Notes to Consolidated Financial Statements ........................... F-6


                                       12
<PAGE>



          

Item 8.   Changes  in and  Disagreements  with  Accountants  on  Accounting  and
          Financial Disclosures.

     There  have  been no  changes  in,  or  disagreements  with  the  Company's
independent  accountants with respect to accounting and/or financial disclosure,
during the past two fiscal years. However,  Jeffrey S. Gilbert, CPA, who audited
the consolidated  financial  statements  included herein,  is a successor to the
auditing  firm of  Hollander,  Gilbert & Co.  Hollander,  Gilbert & Co.  was the
accounting  firm  that  audited  the  Company's  1996   consolidated   financial
statements.

                                    PART III
                                    --------
       
Item 9.   Directors,   Executive   Officers,   Promoters  and  Control  Persons;
          compliance with Section 16(a) of the Exchange Act.

     The  information  required  by  this  Item 9 is set  forth  in the  section
entitled "Election of Directors" in the Company's definitive proxy statement for
its  1999  Annual  meeting  of  Stockholders  (the  "Proxy  Statement"),  and is
incorporated herein by this reference.

Item 10.  Executive Compensation.

     The  information  required  by this  Item 10 is set  forth  in the  section
entitled  "Executive  Compensation"  in the Company's  Proxy  Statement,  and is
incorporated herein by this reference.

Item 11.  Security Ownership of Certain Beneficial Owners and Management.

     The  information  required  by this  Item 11 is set  forth  in the  section
entitled "Security Ownership of Certain Beneficial Owners and Management" in the
Company's Proxy Statement, and is incorporated herein by this reference.

Item 12.  Certain Relationships and Related Transactions.

     The  information  required  by this  Item 11 is set  forth  in the  section
entitled "Certain Relationships and Related Transactions" in the Company's Proxy
Statement, and is incorporated herein by this reference.

Item 13.  Exhibits and Reports on Form 8-K.

Exhibits
--------

   3.a    Certificate  of  Incorporation  of the Company (1) 
   3.b    Amendment to the Certificate  of  Incorporation  of the  Company  (1)
   3.c    Amendment  to the Certificate of  Incorporation  of the Company (3) 
   3.d    By-Laws of the Company (1)  
   3.e    Amendment  to the  Certificate  of  Incorporation  of the  Company
          concerning the reverse stock split

  10.a    May 12,  1993  Agreements  between  the  Company,  Subsidiary  and the
          Subsidiary's Stockholders(2)          
  10.b    Agreement of purchase of the two franchise stores(2)

                                       13

<PAGE>

(1) Previously filed as an Exhibit to the  Registration  Statement on Form S-18,
file No.  33-42851-D filed with the Commission at its Denver Regional Office and
declared effective by the Commission on February 14, 1992.

(2) Previously filed as an Exhibit to the Company's Form 8-K dated June 1, 1993,
as filed with the  Commission  on or about  August 26,  1993,  and  incorporated
herein by reference.

(3) Previously filed as Appendix A to the Company's Annual Report on Form 10-KSB
for the year ended  December 31, 1995, as filed with the  Commission on or about
March 22, 1996, and incorporated herein by reference.


Reports of Form 8-K
-------------------

     Form 8-K filed January 4, 1999.

     Statements  contained in this 10-KSB as to the contents of any agreement or
other document  referred to are not complete,  and where such agreement or other
document is an exhibit to the Company's Registration Statement or is included in
the forms  indicated  above,  each such  statement is deemed to be qualified and
amplified in all respects by such provisions.

                                       14
<PAGE>



                                   SIGNATURES

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

                                                      ELEGANT ILLUSIONS, INC.

 Dated:  March 24, 1999                         By:   /s/ James Cardinal
                                                      -------------------------
                                                      James Cardinal,
                                                      Chief Executive Officer,

                                                      /s/ Tamara Gear
                                                      -------------------------
                                                      Tamara Gear, Treasurer

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

 SIGNATURES                      TITLE              DATE


/s/ James Cardinal              Director        March 24, 1999
------------------              
    James Cardinal

/s/ Gavin Gear                  Director        March 24, 1999
------------------                               
    Gavin Gear

/s/ Tamara Gear                 Director        March 24, 1999
------------------
    Tamara Gear
                                Director        March __, 1999
------------------                
 Janet Heinze
                                Director        March __, 1999
------------------                
 Keith Brandon


                                       15
<PAGE>



                            SUPPLEMENTAL INFORMATION

     Supplemental  Information  to be Furnished  With Reports Filed  Pursuant to
Section 15(d) of the Act by  Registrants  Which Have Not  Registered  Securities
Pursuant to Section 12 of the Act.

                                 Not Applicable.
























<PAGE>







                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                        CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 1997 AND 1998


















<PAGE>





                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                        CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 1997 AND 1998

                                                                        Page
                                                                        ----

Report of Independent Auditor .......................................... F-1

Consolidated Balance Sheets at December 31, 1997 an 1998 ............... F-2

Consolidated Statements of Operations -
     Years Ended December 31, 1997 and 1998 ............................ F-3

Consolidated Statements of Stockholders' Equity -
     Years Ended December 31, 1997 and 1998 ............................ F4

Consolidated Statements of Cash Flows -
    Years Ended Decmeber 31, 1997 and 1998 ............................. F-5

Notes to Consolidated Financial Statements ............................. F-6





<PAGE>




                          REPORT OF INDEPENDENT AUDITOR

To the Board of Directors and Stockholders
Elegant Illusions, Inc.

I  have  audited  the  accompanying   consolidated  balance  sheets  of  Elegant
Illusions,  Inc.  and  Subsidiaries  as of December  31, 1997 and 1998,  and the
related  consolidated  statements of operations,  stockholders'  equity and cash
flows  for  the  years  then  ended.   These   financial   statements   are  the
responsibility of the Company's  management.  My responsibility is to express an
opinion on these financial statements based on my audits.

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

In my opinion,  the consolidated  financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Elegant
Illusions,  Inc.  and  Subsidiaries  as of  December  31,  1997 and 1998 and the
consolidated results of operations,  stockholders' equity and cash flows for the
years then ended, in conformity with generally accepted accounting principles.





                                                         Jeffrey S. Gilbert, CPA

Los Angeles, California
March 17, 1999


<PAGE>



                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                           DECEMBER 31, 1997 AND 1998
<TABLE>
<CAPTION>


                                                                                           1997           1998
                                                                                       -----------    -----------
                                     ASSETS

CURRENT ASSETS
<S>                                                                                    <C>            <C>        
    Cash and cash equivalents ......................................................   $ 1,321,448    $ 1,560,403
    Accounts receivable (net of allowances for
      doubtful accounts of $16,000 in 1998) ........................................       357,124        415,141
    Income taxes receivable (Note 4) ...............................................        82,192        142,800
    Inventory ......................................................................     2,424,755      2,635,870
    Prepaid expenses ...............................................................        90,427        270,685
                                                                                       -----------    -----------

        TOTAL CURRENT ASSETS .......................................................     4,275,946      5,024,899
                                                                                       -----------    -----------

PROPERTY AND EQUIPMENT, NET (Note 2) ...............................................     1,216,353      1,743,134
                                                                                       -----------    -----------

OTHER ASSETS
    Deposits .......................................................................        65,196         65,090
    Patents and trademarks, net of accumulated amortization
      of $1,161 and $3,150 in 1997 and 1998, respectively ..........................         3,563          2,807
    Excess cost over net assets acquired, net of accumulated
      amortization of $18,606 and $14,556 in 1997 and 1998, respectively ...........        22,241         26,291
                                                                                       -----------    -----------

        TOTAL OTHER ASSETS .........................................................        91,002         94,188
                                                                                       -----------    -----------

                                                                                       $ 5,583,301    $ 6,862,221
                                                                                       ===========    ===========

                                                LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES
    Accounts payable and accrued expenses ..........................................   $   113,751    $   162,244
    Income taxes payable (Note 4) ..................................................        71,915              -
                                                                                       -----------    -----------
                                                                                                      
        TOTAL CURRENT LIABILITIES ..................................................       113,751        162,244

DEFERRED INCOME TAXES (Note 4) .....................................................       127,871        152,871
                                                                                       -----------    -----------

        TOTAL LIABILITIES ..........................................................       241,622        315,115
                                                                                       -----------    -----------

COMMITMENTS AND CONTINGENCIES (Note 5)

STOCKHOLDERS' EQUITY (Notes 6 and 8)
    Common stock - authorized 30,000,000 shares, $.001 par value,
      issued and outstanding 5,811,446 in 1997 and 6,146,446 in 1998 ...............         5,811          6,146
    Additional paid-in capital .....................................................     2,989,844      3,914,509
    Retained earnings ..............................................................     2,392,080      2,710,459
    Less treasury stock at cost (31,033 shares in 1997 and 62,067 shares in 1998) ..       (46,056)       (84,008)
                                                                                       -----------    -----------

        TOTAL STOCKHOLDERS' EQUITY .................................................     5,341,679      6,547,106
                                                                                       -----------    -----------

                                                                                       $ 5,583,301    $ 6,862,221
                                                                                       ===========    ===========
</TABLE>

          See accompanying Notes to Consolidated Financial Statements.

                                       F-2


<PAGE>



                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                 FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1998


                                                   1997         1998
                                             ----------   ----------
                                             
REVENUES ..............................      $8,385,707   $9,706,816
                                             
COST OF GOODS SOLD ....................       2,452,396    3,030,003
                                             ----------   ----------
                                            
GROSS PROFIT ..........................       5,933,311    6,676,813
                                             
EXPENSES                                     
    Selling, general and administrative       4,677,435    5,743,590
    Depreciation and amortization .....         311,125      407,369
    Interest expense ..................             347          475
                                             ----------   ----------
                                             
        TOTAL EXPENSES ................       4,988,907    6,151,434
                                             ----------   ----------
                                             
INCOME BEFORE INCOME TAXES ............         944,404      525,379
                                             
PROVISION FOR INCOME TAXES (Note 4) ...         359,000      207,000
                                             ----------   ----------
                                             
NET INCOME ............................      $  585,404   $  318,379
                                             ==========   ==========
                                             
WEIGHTED AVERAGE SHARES OUTSTANDING ...       5,810,000    5,988,000
                                             ==========   ==========
                                             
BASIC EARNINGS PER COMMON SHARE .......      $      .10   $      .05
                                             ==========   ==========
                                          
          See accompanying Notes to Consolidated Financial Statements.

                                       F-3


<PAGE>



                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                 CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
                 FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1998

<TABLE>
<CAPTION>

                             Common Stock              
                      ------------------------    Additional
                         Shares                    Paid-in      Retained     Treasury
                      Outstanding     Amount       Capital      Earnings      Stock          Total
                      -----------   ----------    ----------   ----------   ----------    ----------
<S>                   <C>          <C>           <C>          <C>          <C>           <C>  
BALANCE,          
  December 31, 1996    5,811,446    $    5,811    $2,989,844   $1,806,676   $             $4,802,331

  Treasury Stock
    purchased .....                                                            (46,056)      (46,056)

  Net income
    for the year ..                                               585,404                    585,404
                      ----------    ----------    ----------   ----------   ----------    ----------

BALANCE
  December 31, 1997    5,811,446         5,811     2,989,844    2,392,080      (46,056)    5,341,679

  Treasury Stock
    purchased .....                                                            (37,952)      (37,952)

  Sale of stock ...      266,667           267       719,733                                 720,000

  Issuance of stock
    for services ..       68,333            68       204,932                                 205,000

  Net income
    for the year ..                                               318,379                    318,379
                      ----------    ----------    ----------   ----------   ----------    ----------

BALANCE
  December 31, 1998    6,146,446    $    6,146    $3,914,509   $2,710,459   $  (84,008)   $6,547,106
                      ==========    ==========    ==========   ==========   ==========    ==========
</TABLE>

          See accompanying Notes to Consolidated Financial Statements.

                                       F-4


<PAGE>



                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                 FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1998

<TABLE>
<CAPTION>

                                                                       1997           1998
                                                                   -----------    -----------

CASH FLOWS FROM OPERATING ACTIVITIES
<S>                                                                <C>            <C>        
    Net income .................................................   $   585,404    $   318,379
    Adjustments to reconcile net income to
      net cash provided by operating activities:
        Depreciation and amortization ..........................       311,125        407,369
        Expenses related to stock issued for consulting services             -        205,000
        Changes in operating assets and liabilities:
        (Increase) decrease in:
         Accounts receivable ...................................      (166,854)       (58,017)
         Inventory .............................................      (434,581)      (211,115)
         Prepaid expenses ......................................       (44,784)      (180,258)
         Income tax receivable .................................       (82,192)       (60,608)
        Increase (decrease) in:
         Accounts payable and accrued expenses .................        20,924         48,493
        Income taxes payable and deferred income taxes .........       (39,915)        25,000
                                                                   -----------    -----------

        NET CASH PROVIDED BY OPERATING ACTIVITIES ..............       149,127        494,243
                                                                   -----------    -----------

CASH FLOWS FROM INVESTING ACTIVITIES
    Purchase of property and equipment .........................      (637,688)      (947,491)
    Deposits and other assets ..................................       (10,232)        10,155
                                                                   -----------    -----------

        NET CASH USED IN INVESTING ACTIVITIES ..................      (647,920)      (937,336)
                                                                   -----------    -----------

CASH FLOWS FROM FINANCING ACTIVITIES
    Proceeds (payments) from bank credit line, net
    Principal reduction of note payable ........................       (20,000)             -
    Payments to stockholders/officers
    Sale of common stock .......................................             -        720,000
    Purchase of treasury stock .................................       (46,056)       (37,952)
                                                                   -----------    -----------

        NET CASH PROVIDED BY FINANCING ACTIVITIES ..............       (66,056)       682,048
                                                                   -----------    -----------

NET INCREASE IN CASH AND CASH EQUIVALENTS ......................      (564,849)       238,955

CASH AND CASH EQUIVALENTS BALANCE, Beginning of period .........     1,886,297      1,321,448
                                                                   -----------    -----------

CASH AND CASH EQUIVALENTS BALANCE, End of period ...............   $ 1,321,448    $ 1,560,403
                                                                   ===========    ===========

SUPPLEMENTAL CASH FLOW DISCLOSURE:
    Interest paid ..............................................   $       347    $       475
    Income taxes paid ..........................................   $   480,398    $   242,528

NON-CASH FINANCING ACTIVITY:
    Issuance of shares of common stock in exchange for services              -    $   205,000

</TABLE>

          See accompanying Notes to Consolidated Financial Statements.

                                       F-5


<PAGE>


                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
              NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued




                    ELEGANT ILLUSIONS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 1997 AND 1998


1.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     Organization  and  Description  of Business - Elegant  Illusions,  Inc. was
     incorporated  in  Delaware  in March  1988.  The  Company is engaged in the
     retail  sale of fine  jewelry  in  three  locations  and  copy  jewelry  at
     locations  in  California,   Nevada,  Utah,  Minnesota,  Missouri,  Oregon,
     Louisiana,  Hawaii Wisconsin,  Michigan,  Indiana,  Florida, Texas and U.S.
     Virgin  Islands.  Copy  jewelry  items are  replications  of fine  jewelry,
     manufactured  with synthetic  stones set in 14 carat gold,  sterling silver
     vermeil or plated  brass.  In  addition,  the Company  sells  original  oil
     paintings, lithographs and other art in store in New Orleans.

     Principles of Consolidation - The financial statements include the accounts
     of  the  Company  and  its  wholly-owned   subsidiaries.   All  significant
     intercompany transactions and balances have been eliminated.

     Cash and Cash  Equivalents  - Cash  equivalents  are  purchased  short-term
     highly  liquid  investments  readily  convertible  to  cash  with  original
     maturities of no more than three months. There are cash balances in certain
     Federal  insured banks that exceed the maximum  insured  amounts.  However,
     management of the Company does not consider this a significant  risk. As of
     December 31, 1998,  the Company has deposits in excess of the FDIC limit in
     the amount of approximately $1,236,000.

     Inventories  -  Inventories  are  stated  at the  lower  of cost or  market
     determined on a first-in, first-out (FIFO) basis.

     Use of Estimates - The  preparation  of financial  statements in conformity
     with generally accepted accouting  principles  requires  management to make
     estimates  and  assumptions   that  affect  certain  reported  amounts  and
     disclosures. Accordingly, actual results could differ from those estimates.

     Impairment of  Long-Lived  Assets - The Company  periodically  assesses the
     recoverability  of the carrying  amounts of  long-lived  assets,  including
     intangible assets. A loss is recognized when expected  undiscounted  future
     cash flows are less than the carrying  amount of the asset.  The impairment
     loss is the  difference by which the carrying  amount of the assets exceeds
     its fair value. The Company does not expect to have any significant  losses
     resulting from its review of impairment of long-lived assets.

     Stock-Based  Compensation  -  SFAS  No.  123,  Accounting  for  Stock-Based
     Compensation,  encourages,  but  does  not  require,  companies  to  record
     compensation  cost  for  stock-based  employee  compensation  plans at fair
     value.  The  Company  has chosen to  continue  to account  for  stock-based
     compensation  using the intrinsic  value method as prescribed in Accounting
     Principles  Board ("APB")  Opinion No. 25,  Accounting  for Stock Issued to
     Employees and related  interpretations,  under which no compensations  cost
     related to stock options has been  recognized as the exercise price of each
     option at the date of grant was equal to the fair  value of the  underlying
     common stock.

     Property  and  Equipment  -  Property  and  equipment  is  stated  at cost.
     Depreciation  is  computed  on the  straight-line  method  based  upon  the
     estimated useful life of the asset. Useful lives are generally as follows:

             Office furniture, fixtures & equipment     5-7 years
             Store furniture, fixtures & equipment      5-7 years
             Leasehold improvements                     5-7 years

     Patents  and  Trademarks  - The costs of patents and  trademarks  are being
     amortized on the straight line method over a 17 year life.

                                      F-6
<PAGE>

     Excess  cost over net assets  acquired - The excess of cost over fair value
     of  net  assets  acquired  related  to  acquisition  of the  Company's  two
     franchised  stores  is being  amortized  over 10 years on a  straight  line
     basis.

     Income  Taxes - The Company  utilizes  the asset and  liability  method for
     income taxes.  Under this method,  deferred tax assets and  liabilities are
     recognized  for the future tax  consequences  attributable  to  differences
     between the financial  statement  carrying  amounts of existing  assets and
     liabilities  and their  respective  tax bases  and  operating  loss and tax
     credit  carryforwards.  Deferred  tax assets and  liabilities  are measured
     using enacted tax rates expected to apply to taxable income in the years in
     which those temporary  differences are expected to be recovered or settled.
     The effect on deferred tax assets and  liabilities of a change in tax rates
     is recognized in income in the period that includes the enactment date.

     Basic and Diluted Loss per Share - Effective December 31, 1997, the Company
     adopted SFAS No. 128,  Earnings  per Share,  which  established  simplified
     standards  for  computing and  presenting  earnings per share  information.
     Basic loss per common share is based upon the net loss applicable to common
     shares after preferred dividend  requirements and upon the weighted average
     number of common  shares  outstanding  during the period.  Diluted loss per
     common  share  adjusts  for the  effect of  convertible  securities,  stock
     options and  warrants  only in the periods  presented in which effect would
     have been dilutive.  The Company did not grant options and warrants  during
     1997 and 1998.

     Start-up  Costs  -  In  April  1998,  the  Accounting  Standards  Executive
     Committee  of the AICPA  issued  Statement  of  Position  ("SOP")  No. 98-5
     "Reporting  on  the  Costs  of  Start-Up  Activities".  Costs  of  start-up
     activities,  including  organization costs, should be expensed as incurred.
     This SOP is effective for financial  statements for fiscal years  beginning
     after  December 15, 1998.  The Company does not expect  adoption of SOP No.
     98-5 to have a  material  effect,  if any,  on its  financial  position  or
     results of operations.

     Advertising   -   Advertising   costs  are  expensed  the  first  time  the
     advertisement  is  run.  Total  advertising  and  promotion  expenses  were
     $259,674  and  $255,088  for the years  ended  December  31, 1997 and 1998,
     respectively.


2.   PROPERTY AND EQUIPMENT

     Property and equipment  consisted of the following at December 31, 1997 and
     1998:

<TABLE>
<CAPTION>

                                                                      1997         1998 
                                                                  ----------   ----------

<S>                                                               <C>          <C>       
     Office furniture, fixtures & equipment ...................   $   93,360   $  161,804
     Store furniture, fixtures & equipment ....................    1,550,423    2,156,526
     Vehicles .................................................       19,500       19,500
     Leasehold improvements ...................................      483,096      756,037
                                                                  ----------   ----------

                                                                   2,146,379    3,093,867

           Less: accumulated depreciation and amortization.....      930,026    1,350,733
                                                                  ----------   ----------

                                                                  $1,216,353   $1,743,134
                                                                  ==========   ==========
</TABLE>

3.   NOTES PAYABLE

     The Company had entered into a loan agreement with an individual who loaned
     $100,000  in March  1990  without  a due date  requiring  monthly  interest
     payments  of $850 (10% per  annum).  The amount was deemed long term as the
     creditor in the past has not requested  payoff.  The Company repaid $80,000
     of the loan during 1996 and the remainder during 1997.

     The Company had a  $2,350,000  line of credit with a bank  effective  March
     1998 due on  demand  expiring  in  January  1999.  The  bank  has  issued a
     commitment for a $2,350,000 line of credit through April 1999.  Interest is
     at annual base rate as announced by the bank  (initial base rate was 8.25%)
     plus .25% to 1.75%. The line of credit is  collateralized  by the Company's
     accounts  receivable,  inventory  and  equipment.  The  Company  shall also
     maintain certain  financial ratios and covenants.  As of December 31, 1998,
     no amount was due on the creditline.

                                      F-7
<PAGE>



4.   INCOME TAXES

     The  components of income tax expense for the years ended December 31, 1997
     and 1998 follow:

                                              Federal     State     Total
                                             ------------------------------
     1998:
        Current ...........................  $151,000   $ 31,000   $182,000
                                             --------   --------   --------
        Deferred ..........................    24,000      1,000     25,000
                                             --------   --------   --------
                                             $175,000   $ 32,000   $207,000
                                             ========   ========   ========

     1997:
        Current ...........................  $279,000   $ 48,000   $327,000
                                             --------   --------   --------
        Deferred ..........................    28,000      4,000     32,000
                                             --------   --------   --------
                                             $307,000   $ 52,000   $359,000
                                             ========   ========   ========

     The  component  of deferred  tax  liability  was as follows at December 31,
     1998:

             Deferred tax liability:
                Depreciation.........................   $         152,871
                                                        =================

     Income tax  expense  amounted  to  $359,000  in 1997 and  $207,000  in 1998
     (effective tax rates of 41% and 38%, respectively).  The actual tax expense
     differs  from the  expected  tax expense  (computed by applying the Federal
     corporate tax rate of 34% to earnings before income taxes) as follows:

                                                      1997       1998
                                                    --------   --------

     Expected statutory tax .....................   $321,097   $178,629

     State income tax, net of federal tax benefit     34,282     21,120
     Other ......................................      3,621      7,251
                                                    --------   --------

          Actual tax ............................   $359,000   $207,000
                                                    ========   ========


5.   OPERATING LEASES

     The  Company  leases its office and retail  store  facilities  and  certain
     equipment  under  operating  leases  with terms  ranging  from three to ten
     years.  Certain  of the  leases  include  percentage  rates of 3% to 12% of
     revenues  as  defined.  Future  minimum  lease  payments by year and in the
     aggregate,  under noncancelable  operating leases with initial or remaining
     lease terms in excess of one year, as of December 31, 1998 are as follows:

               Year Ended
               December 31,

                1999...............   $1,299,000
                2000...............    1,051,000
                2001...............      624,000
                2002...............      350,000
                2003...............      207,000
                Thereafter.........      116,000
                                      ----------
                                   
                                      $3,626,000
                                       F-8

<PAGE>

     Rent  expense for the fiscal  years ended  December  31, 1997 and 1998 were
     $1,197,460 and $1,477,595, respectively.


6.   STOCKHOLDERS' EQUITY

     During 1998 the Company sold 266,667  common shares for  $720,000,  net and
     also,  issued 68,333 common shares,  valued at approximately  $205,000,  in
     connection with services performed by consultants. During 1997 and 1998 the
     Company  acquired  31,083  shares in each year of its  common  stock for an
     aggregate price of $46,056 in 1997 and $37,952 in 1998.


7.   QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

     Subsequent  to the year ended  1998 the  Company  determined  that an error
     related to the  elimination  of  intercompany  inventory  profits  affected
     operating results in previous quarters of 1998. Also, the Company failed to
     reflect an issuance of common stock during the quarter ended June 30, 1998.
     Listed below are those restated quarterly results:

                                                Three Months Ended
                                                ------------------
                                       March 31       June 30     September 30,
                                         1998          1998            1998
                                     -----------    -----------    -----------

     REVENUES ...................... $ 2,165,578    $ 2,232,328    $ 2,320,587


     COST OF GOODS SOLD ............     771,139        674,126        733,721
                                     -----------    -----------    -----------

     GROSS PROFITS .................   1,394,439      1,558,202      1,586,866


     SELLING, GENERAL AND
        ADMINISTRATION .............   1,420,280      1,498,568      1,249,731

     FINANCIAL CONSULTING
        (PAID IN STOCK) ............     205,000

                                       1,420,280      1,703,568      1,249,731
                                     -----------    -----------    -----------

                                         (25,841)      (145,366)       337,135


     PROVISION FOR INCOME TAXES ....     (10,906)       (45,596)       127,965
                                     -----------    -----------    -----------

     NET INCOME .................... $   (14,934)   $   (99,770)   $   209,170
                                     ===========    ===========    ===========

     WEIGHTED AVERAGE SHARES
        OUTSTANDING (GIVES EFFECT TO
        REVERSE 3 FOR 1 STOCK SPLIT)   5,757,333      5,904,667      6,016,000
                                     ===========    ===========    ===========

     BASIC AND DILUTED INCOME
        PER SHARE .................. $     (0.00)   $     (0.02)   $      0.03
                                     ===========    ===========    ===========


8.   COMMON STOCK REVERSE SPLIT

     On January 2, 1999, the Board of Directors approved a one for three reverse
     stock split.  The number of  authorized  shares and par value  remained the
     same.  The  effect  of the  reverse  stock  split  has  been  retroactively
     reflected  as of  December  31,  1996  in  the  financial  statements.  All
     references to the number of common  shares and per share amounts  elsewhere
     in the consolidated  financial  statements and related  footnotes have been
     restated as  appropriate  to reflect the effect of the reverse  stock split
     for all periods presented.



                                       F-9