U.S. SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549

                                 AMENDMENT NO. 3
                                       to
                                   FORM 10-KSB


(Mark One)
[X] ANNUAL  REPORT UNDER SECTION 13 OR 15(d) OF THE  SECURITIES  EXCHANGE ACT OF
1934 For the fiscal year ended December 31, 1996

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

For the transition period from _______________ to _________________

Commission File Number:    1-14078

                            BLUE FISH CLOTHING, INC.
         ---------------------------------------------------------------
        (Exact Name of Small Business Issuer as Specified in Its Charter)
                
         Pennsylvania                                         22-2781253
       ----------------                                     --------------
 (State or Other Jurisdiction of                           (I.R.S. Employer
  Incorporation or Organization)                          Identification No.)
                                                             

                No. 3 Sixth Street, Frenchtown, New Jersey 08825
                ------------------------------------------------
                    (Address of Principal Executive Offices)

                                 (908) 996-3844
                 -----------------------------------------------
                (Issuer's Telephone Number, Including Area Code)
                                             
                                      N/A
--------------------------------------------------------------------------------
(Former  Name,  Former  Address and Former  Fiscal Year,  If Changed  Since Last
Report)

Securities registered under Section 12(b) of the Exchange Act:

                                                 Name of Each Exchange
          Title of Each Class                     on Which Registered
    -------------------------------         -------------------------------
        Common Stock, $.001 par 
           value per share                       Chicago Stock Exchange


Check whether the issuer:  (1) filed all reports required to be filed by Section
13 or 15(d) of the  Exchange  Act during the past 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 in this form, 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.[     ]

Issuer's revenues for the fiscal year ended December 31, 1996, were $11,610,855.
The aggregate market value of the voting stock held by  non-affiliates  computed
by  reference  to the price at which the stock was sold,  or the average bid and
asked prices of such stock, as of June 18, 1997, was $2,886,090.

As of  June 18,  1997,  4,599,200  shares of Common  Stock,  $.001 par value per
share, were issued and outstanding.



                                       1


                                     PART I


ITEM 1.  DESCRIPTION OF BUSINESS

THE COMPANY
     Blue Fish  Clothing,  Inc.  (the  "Company")  is a designer,  manufacturer,
wholesaler and retailer of hand  block-printed  women's and children's  clothing
and  accessories  for the home.  Each piece or garment that the Company sells is
unique  in that it is  based  upon  individual  artwork  applied  by  brush  and
block-print,  artist  signature and  embellishment.  The Company's  mission,  to
inspire  creativity  and  self-expression,  is  reflected in its  products,  its
workplace,  its selling environments and its community involvement.  The Company
markets  its  products  through  its  wholesale  division,  as well as its  four
Company-owned retail stores and participation in juried arts and craft fairs and
festivals across the United States.

COMPANY BACKGROUND
     The Company was founded in 1985 by Jennifer  Paige  Barclay,  who, prior to
founding the Company and at the age of 17, began block-printing  cotton T-shirts
and  dresses  in her  parents'  garage,  which she then sold at craft  shows and
festivals.  In 1986,  Blue Fish  participated  in a New York  wholesale show and
received over $100,000 in orders.  In March 1987,  the Company  leased its first
production facility in Frenchtown, New Jersey, and was incorporated in the state
of New Jersey ("Blue  Fish-NJ").  In June 1987, the first Blue Fish retail store
was opened in a renovated stone mill in Frenchtown,  New Jersey.  A second store
followed in June 1989,  in Taos,  New Mexico,  and Blue Fish Taos,  Inc.  ("Blue
Fish-NM") was incorporated in New Mexico in May 1989. In Spring 1988,  Nordstrom
became the Company's first major retailer added as a wholesale account. By 1994,
Blue Fish clothing was showcased in the Savvy  department in 52 Nordstrom stores
across  the United  States.  The  Company  expanded  its  product  offerings  by
introducing  a line of sweaters in September  1993,  and by  experimenting  with
different  fabrications.  In  Spring  1994,  the  Company  introduced  a line of
children's  clothing,  and in Spring 1995 it offered  its first home  furnishing
products,  tablecloths and pillows,  through its own retail stores.  In December
1994,  the Company  opened its third retail  store in Santa Fe, New Mexico.  The
Company  opened a  wholesale  showroom in New York City in  February  1996,  and
opened its fourth retail store in Austin, Texas, in September  1996. In December
1996,  the  Company  signed a lease for a retail  store in New York City,  which
opened in late March 1997. In January  1997,  the Company  closed its Taos,  New
Mexico store.

     In September 1995, Blue Fish-NJ, Blue Fish-NM and Blue Fish Clothing, Inc.,
a Pennsylvania  corporation  incorporated on September 6, 1995 (the  "Company"),
entered into a Plan of Merger,  pursuant to which the Company was the  surviving
corporation. The merger became effective on September 19, 1995.

PUBLIC OFFERING
     On November 13, 1995, the Company's Registration Statement on Form SB-2 for
800,000 shares of its Common stock was declared  effective by the Securities and
Exchange  Commission and the Company  commenced a public  offering of its Common
Stock.  The Offering was made directly by the Company on a best efforts-basis at
a  price of  $5 per share for a  minimum of  500,000  shares  ($2,500,000)  (the
"Minimum") and a maximum of 800,000 shares ($4,000,000).  The Minimum was raised
as of May 13, 1996, the public  offering  closed as of May 15, 1996, and 787,200
shares  were  issued,  generating  cash  of  approximately  $3,215,000,  net  of
transaction costs of $721,000,  of which approximately  $247,000 was expended in
1995.

COMPANY VALUES AND PHILOSOPHY
     The Company's goal in its artisan crafted products and through its business
is to encourage  people to believe in themselves  and to inspire  creativity and
self-expression (the "Blue Fish Concept").  The Company seeks to build long-term
relationships with its employees, suppliers, customers, stockholders,  community
and environment.  The Company has created its own educational  outreach program,
called  BLUEFISHGARTEN(TM),  which brings the talents of Blue Fish  employees to
art workshops at schools, camps and community organizations.

     The Company  also  strives to be a leader among  businesses  in  addressing
social and environmental concerns. The Company's major impact on the environment
is  through  its  material  usage.  The  Company  outsources  its dyeing to U.S.
contractors  that  use   energy-efficient   dyeing  processes  and  water-based,
non-metallic,  non-toxic fabric paints.  The Company does not use any sizings or
acid washing  treatments,  which contain  formaldehyde  and are frequently  used
throughout  the  industry.  The Company uses only organic  cotton for all of its
jersey garments. An independent

                                       2






environmental audit performed on the Company in March 1995 by GreenAudit,  Inc.,
found that, as a result of its extensive recycling and reuse programs, which the
Company has implemented at its production studio and at its stores,  the Company
produces 7.6 times less waste per sales dollar than the New Jersey average.1 The
Company takes pride in this ratio in that New Jersey has historically the second
highest  recycling  rate in the  country.  The  Company's  commitment  to social
responsibility  is evidenced by its support of community  organizations  through
sponsorships, product donations and donations of a percentage of certain product
proceeds,  as well as  considerable  time and effort.  The  Company  contributed
$31,419 and $19,472 in cash,  resources  and  products to various  organizations
during  1995  and  1996,   respectively,   as  well  as  donating   designs  and
participating in local events, such as environmental  cleanups. In future years,
the Company  intends to donate up to 10% of its net income as  determined at the
discretion of the Board of Directors.

PRODUCTS
     The  Company  designs,  hand  block-prints  and  distributes  clothing  and
accessories for the home. Each product is individually hand  block-printed  with
evocative  designs  and  symbols and signed by the  artist.  Many  products  are
embellished  with the  distinctive  Blue Fish label carrying a poetic message or
graphic  design.  The  clothes  are  designed  to be worn in a  variety  of ways
befitting the wearer.  The Company seeks to produce  clothing that is beautiful,
easy to wear,  comfortable  and  practical,  and that reflects the lifestyle and
spirit of the wearer and appeals to all age groups.

     The Company  currently has a women's line, and offers  approximately  2,500
stock  keeping  units  (SKUs).  In 1996,  the women's line was offered for eight
seasons per year. In 1997, the Company plans to introduce a men's clothing line.
The  Company  continually  researches  and  develops  new  products,  which  are
introduced through its retail stores to test customers'  reactions and gauge the
products'  sell-through  potential  before  offering  them through the wholesale
business.

MESSENGER PROGRAM
     The Messenger Program,  which was implemented in the Spring of 1995, shifts
the Company's  emphasis from using outside sales  representatives  to having its
own Company direct sales team out in the field. Each member, called a Messenger,
is  responsible  for  growing  wholesale  accounts  in their  territory  and for
relating the Company's philosophy, the Blue Fish Concept. The Messengers provide
personalized  service  by  visiting  the  Company's  wholesale  accounts  and by
providing  merchandising support, which includes helping with the display of its
clothing,  teaching  the  customers  how to wear and combine the  clothing,  and
working with the accounts to provide support for local communities. By servicing
and growing its specialty  store and boutique  accounts,  the Company intends to
reduce  dependence on major retailers  thereby reducing the risk of lost revenue
from account exodus or from forced price reductions.

     To date, the Company has five regional Messengers, who cover the Southwest,
Southeast,  Mid-Atlantic,  New England and Midwest regions of the United States.
The Company  believes  that the Messenger  program  encourages  wholesale  sales
growth due to the higher level of personal contact and attention being available
in a  region,  as well as  having a Blue  Fish  employee  explain  the Blue Fish
Concept.  The  Messenger  Program  incurs a higher  level  of fixed  costs  than
commission-only sales representatives do; however, the Company believes that the
higher costs of the Messenger Program will be offset by  proportionately  higher
sales,  although no  assurance  can be given that this will  occur.  The Company
intends to expand the Messenger Program to other regions of the United States.

OBJECTIVE AND GROWTH STRATEGY
     The  Company's  objective is to  consistently  offer  products that inspire
creativity,  self-expression  and  quality in terms of  aesthetics.  The Company
believes  that this  objective can be achieved by making and selling the highest
quality  artisan-crafted  clothing and related accessories.  The Company defines
highest  quality  in terms  of  durability,  craftsmanship  and  diversity.  The
Company's  growth  strategy  includes  designing new product  categories such as
men's  clothing  and home  furnishings  along  with new  clothing  lines  within
existing  categories,  such as a basics line,  and a more ornate Blue Fish line.
Additionally, the Company plans to increase the number of its wholesale accounts
and open new retail stores. This expansion, the Company believes, will enable it
to reach out to more people by  attracting  new  customers,  providing  jobs and
allowing the Company to expand its community  outreach  programs.  The following
are the principal elements of the Company's growth strategy. Elements not funded
through the  Company's  public  offering  are intended to be  ultimately  funded
through internally generated cash flow and debt.

                                       3

--------
Source:  BioCycle,  Vol. 34, No. 5 (May 1993),  Table 1, p. 46. U.S. Solid Waste
Management, By State (1992).




     WHOLESALE  GROWTH STRATEGY.  The Company's  wholesale growth strategy is to
increase the number of wholesale  accounts through  geographic  expansion and by
reaching new market segments through product line extensions.

   o Geographic  Expansion.  The Company plans to target new wholesale  accounts
     that  embrace the  Company's  philosophy  of  self-expression.  The Company
     intends to increase the number of specialty and boutique clothing stores as
     well as major  retailers  that  carry  its  products.  With  the  Messenger
     Program,  the Company intends to focus on developing sales to its specialty
     and boutique  accounts  across the country.  The Messengers are expected to
     attend to smaller,  regional markets and travel across their territories to
     attract new customers and grow existing accounts.

     In  February  1996,  the  Company  opened a  showroom  in New York  City to
     increase sales and to reduce its presence at trade shows and markets in New
     York. The Company  believes that a New York showroom will enable  wholesale
     accounts to buy directly  from the Company at their  convenience  in a more
     relaxed and unique Blue Fish  environment.  The Company also believes that,
     by  maintaining  a showroom and by continuing  to  participate  only at the
     highest  quality   wholesale  markets  in  New  York,  it  will  attract  a
     significant number of new wholesale customers.

   o Product  Line  Extensions.  The Company  introduced  a basic,  lower priced
     women's clothing line for the Spring of 1996. Management believes that this
     new line will  further  distinguish  the Company  from its  competitors  by
     enabling it to offer a wider price range of  merchandise.  The new line can
     be  combined  with and is planned to be sold  together  with the  Company's
     current  lines.  In addition,  to help  accomplish  its growth  plans,  the
     Company has redefined the National Sales Manager's job description and will
     fill  this  position  in 1997.  The  Company  also  plans to launch a men's
     clothing line in 1997, and plans to hire a men's designer.

     RETAIL GROWTH STRATEGY.  Management's decision to expand the number of Blue
Fish retail stores was based upon the increased  retail margins,  the ability to
offer a greater  selection by designing  small lines  exclusively for its retail
stores and the desire to foster increased customer  interaction.  In addition to
the showroom described above, the Company's retail store expansion plan includes
the addition of two or more retail stores per year through 2000.  This expansion
plan  includes  standard  stores  (small  city or town  destination  points with
approximately  1,500 selling sq. ft.) and high volume,  city stores (such as New
York City) of approximately  2,250 selling sq. ft. Expansion is expected to have
a minimal  effect upon the  Company's  existing  wholesale  business  due to the
limited number of new retail sites currently selected.  Management believes that
retail store  expansion may improve the  Company's  wholesale  business  through
increased  marketing  efforts and brand  recognition.  The new retail stores are
intended to reflect a lifestyle  by offering a wide  assortment  of  distinctive
products in unique shopping environments.  Primary elements of the retail growth
strategy include:

   o Retail  Store  Location.  The  Company  plans to select  retail  sites that
     naturally attract large  concentrations of its target customers.  These are
     usually  larger  cosmopolitan  cities and smaller  cities or towns (such as
     state capitals, major university towns and destination locations) that have
     a strong arts,  education  and craft  culture and attract a large number of
     tourists. The Company opened and entered into a lease agreement for two new
     retail  stores  within 7 months of the public  offering,  an  approximately
     2,000  selling  sq. ft.  Austin,  Texas  store in  September  1996,  and an
     approximately  3,000 selling square foot store in New York City in December
     1996.  Wherever  possible,  the  Company  intends  to locate  its stores in
     unconventional retail spaces and stand-alone structures.

   o Retail Store  Environments.  The Company  believes  that it  differentiates
     itself from other retailers by designing distinctive store environments and
     by employing  local or regional  artisans to assist in the buildout of each
     new store.  By creatively  using and re-using  natural  materials,  such as
     wood, stone, metal and glass, finishes and existing architectural elements,
     the Company creates a shopping  environment that it believes appeals to the
     senses  and  sensibilities  of its  customers.  Each  store is unique and a
     showpiece to local craftsmanship.

   o Merchandise  Selection.  The Company  intends to maintain  and increase the
     emphasis on its own merchandise  within its stores,  as well as broaden its
     range of merchandise  by offering a more basic,  lower priced women's line,
     and a men's line along with "lifestyle"  goods including home  furnishings,
     gifts,  and  other  related  products.  The  Company  has  hired a  Product
     Development/Merchandising  Manager  to design  these  goods  in-house,  and
     intends to produce the goods itself wherever economically viable.

                                       4





   o Personal Shopping Service. The Company provides a personal shopping service
     to customers  across the United States who may not have access to Blue Fish
     clothing  locally or who do not have the time to visit  stores.  A personal
     shopper,  who gets to know and  keeps a record of each  customer's  details
     (such as  height,  weight,  coloring  as well as  print,  color  and  style
     preferences),  describes  and  discusses  the  store's  selection  with the
     customer over the phone.  A personal  shopper often spends 30-45 minutes on
     the phone with a customer, helping her select garments and putting together
     outfits  for her.  Customers  using  this  service  are sent the Blue  Fish
     catalog  each major  season.  The  Company  intends to expand its  personal
     shopping  service,  currently offered largely through its Frenchtown store,
     to all of its retail locations. The Company believes that by increasing the
     level of  personalized  service  offered,  the stores will  increase  their
     average sales per customer as well as move additional merchandise in slower
     months due to increased marketing efforts.

     PRODUCTION AND MANAGEMENT EXPANSION. In order to achieve its objectives and
implement its wholesale and retail growth  strategies,  the Company  anticipates
the need for a significant  expansion of its production  capacity and management
infrastructure support.

   o Move to a New  Facility.  In December  1996,  the Company  entered  into an
     agreement to lease a 60,000  square foot  corporate  center and  production
     facility. The expected move date is January 1998. The Company believes this
     will meet its space  requirements for the foreseeable  future.  The Company
     intends  to fund  the  lease of the  building  and  leasehold  improvements
     through funds generated from operations and a new debt facility,  for which
     the Company has not yet secured a commitment.  See "Management's Discussion
     and Analysis or Plan of Operation -- Liquidity and Capital Resources."

   o Hire New Key Managers.  In 1996, the Company hired a Human Resource Manager
     and  a  Product   Development   Manager.   The  Company   reorganized   its
     infrastructure with the assistance of outside management  consultants,  and
     named two current  executives to the  positions of Vice  President of Sales
     and  Marketing,  and Vice  President  of  Production,  and hired a new Vice
     President  of Finance and Chief  Financial  Officer.  In 1997,  the Company
     hired a new Vice President of Retail.

   o Invest in  Information  Systems.  The Company has  invested  and intends to
     continue to invest in computer hardware, software and training. The Company
     believes that its investment in computer  information  systems will improve
     its  efficiency  and decrease its costs by  facilitating  the monitoring of
     inventory, enabling more accurate sales forecasting,  ensuring faster, more
     accurate order processing and refining production scheduling and work flows
     to ensure maximum efficiency and minimum waste.

   o Provide Greater Employee Benefits. In order to continually improve its work
     environment  and  attract and retain high  caliber  employees,  the Company
     intends to develop a child care center,  a fitness center,  and a workplace
     lunch program over time when it moves to its new facility.  It also intends
     to emphasize continued employee training and development,  through in-house
     training courses and workshops.

COMPANY OPERATIONS

     DESIGN.  The Company's team of designers create 20 or more designs for each
of the eight seasons per year.  Each season has a  distinctive  color palate and
unique  set of  prints,  inspired  by a  certain  topic  or  theme.  Much of the
Company's  inspiration comes from nature,  the world around us, poetry,  animals
and children.  Management  believes that the Company maintains  freshness in its
product offerings by using different fabrics,  such as recycled cotton,  acetate
and  silk,  and by using  vintage  clothing,  as well as  having  a  distinctive
inspiration  for each  season.  The  in-house  design  team  also  creates  home
accessory products, which are offered mainly through the Company's own stores.

     PRODUCTION. The Company's production process is divided into two production
categories,  external and internal.  External  production refers to all sourcing
from outside  contractors  and vendors.  The Company uses different  cutting and
sewing houses,  depending on the  fabrication and the quantities  involved.  The
Company piece-dyes its jersey fabric,  which it believes improves the quality of
the garments  produced while reducing cost and waste and favorably  reducing the
inventory  production  cycle.  The Company  continues to  garment-dye  its other
fabrications  due to the  relatively  small  quantities  involved.  The  Company
strives to maintain numerous vendor  relationships in order to generate the best
pricing  for  materials  and  external  labor.  The Company  believes  that this
strategy  will also  decrease  its  reliance  upon any one vendor.  The cutting,
sewing and dyeing of all the  Company's  

                                       5





products are by U.S. contractors and vendors that are currently located within a
100 mile radius of the Company's facility.

     After the garments have been cut, sewn and dyed by outside production, they
are brought into the Company for internal production. The garments are then hand
printed with  handcarved  blocks and  embellished  at the  Company's  production
studio.  Each garment is printed,  signed by the artist and hung to dry. Most of
the garments are then  embellished  with the Blue Fish label,  handmade  clay or
antique  buttons or  ribbons,  as  appropriate,  before  going to the  Company's
quality assurance department, where all of the Company's products are inspected.
Finally,  the garments are sent to the shipping department to be packed and sent
through the various distribution channels to the customer.

     SALES AND  DISTRIBUTION.  Blue  Fish  sells and  distributes  its  products
     through three channels:

   o Wholesale.  The Company  currently  sells to  approximately  400  specialty
     stores and boutiques,  as well as to major  retailers such as Nordstrom and
     Neiman Marcus, which the Company believes place a high emphasis on personal
     attention  and  service.  Thirteen  West  Coast  states  are  covered by an
     independent sales representative based in Los Angeles. Blue Fish Messengers
     currently cover  additional  states located in five national  regions,  the
     Southwest, the Southeast, Mid-Atlantic, New England and the Midwest.

   o Retail.  The Company's first retail store opened in Frenchtown,  New Jersey
     in 1987. Subsequent retail expansion involved the opening of a second store
     in Taos,  New Mexico in 1989,  a third in Santa Fe, New Mexico in  December
     1994, and a fourth store in Austin, Texas in September, 1996. The Company's
     Taos,  New Mexico store closed its  operations on January 31, 1997.  Due to
     the proximity of the Santa Fe store (70 miles), sales revenues needed could
     not be maintained in both stores.  The Santa Fe location was selected to be
     maintained  because of its larger  population base as well its larger size.
     The Company  entered into a ten-year lease  agreement for a retail store in
     New York City, which opened in late March 1997. A personal shopping service
     is provided by telephone,  largely from the Frenchtown store, for customers
     to make  purchases  from the  Company's  catalog,  which is mailed out each
     quarter to individuals who request to be on the Company's mailing list. The
     Company uses dynamic  visual  merchandising,  striking store displays and a
     distinctive  cross  merchandising  approach  to present  its  products in a
     creative  and  inspirational  context.  Product  displays  and fixtures are
     continually  updated in tandem with the stores' changing  merchandise.  The
     Company relies heavily on visual  merchandising and community  involvement,
     rather than  traditional  forms of advertising,  to invite its customers to
     enter  and  explore  its  stores  and buy its  merchandise.  Retail  stores
     incorporate  creative  decor,  fixtures  and  leasehold  improvements.  The
     Company's  current  policy is to lease retail sites.  The Company  believes
     that this allows adequate  post-opening site evaluation without a long-term
     financial commitment.

   o Craft.  The Company  attended  37 juried art and craft fairs and  festivals
     across  the  United  States  in  1996.  At  juried  arts and  craft  fairs,
     merchandiser  participation is limited to those invited after evaluation of
     representative  product  offerings.  In 1997, this number is anticipated to
     increase,  with a greater emphasis on developing the Company's  presence at
     arts and crafts  fairs and  festivals  in the West.  The Company  uses this
     sales vehicle as a means to explore and develop new markets,  as well as to
     sell excess  inventory.  Since past season goods are sold between wholesale
     and  retail  prices  at craft  fairs,  the  Company  is not  forced to take
     undesirable  markdowns  for  clearance  in its  retail  stores or give deep
     discounts  to   wholesalers.   As  the  Company's   inventory   levels  are
     significantly  reduced with the  development of its management  information
     systems,  the Company plans to continue  using this outlet as a vehicle for
     public  relations,  increasing its exposure and name  recognition,  raising
     money for causes it supports, as well as for networking.

MARKETING
     The Company's strategy is to develop highly interactive  relationships with
customers through a variety of means,  including:  (i) creating very distinctive
sales  environments,  which encourage customers to explore the creativity of the
Blue  Fish  Concept;   and  (ii)  creating  excitement  about  the  clothes  and
encouraging  word-of-mouth  advertising  by creating  educational  and inspiring
events at the  Company's  retail  stores and at its  wholesale  account  stores,
attending arts and craft fairs, as well as supporting creative events and causes
through sponsorship or product donations. The Company's advertising expenditures
have been  limited  and have  focused  on the  Company's  own  stores as well as
cooperative advertising around special events with major wholesale accounts, and
mailings for its arts and craft fairs and events.

                                       6






   o Wholesale.  The  Company's  Messenger  Program  provides  a high  level  of
     personalized  service on a regional basis.  Messengers  visit the wholesale
     accounts, assist with the display of clothing, educate the customers on how
     to wear and  combine  the  clothing  and work with the  accounts to provide
     support for local  communities.  By listening to the customers,  Messengers
     provide  valuable  feedback  to the  Company  in terms of design  and sales
     forecasts  and,  because  they  are out in the  field,  they  can act  upon
     customers' ideas and suggestions promptly.

   o Retail Stores.  The Company's  stores carry a range of related  accessories
     and gifts,  as well as other  designers'  merchandise  that complement Blue
     Fish  clothing.  The Company  regularly  produces a color  catalog which is
     mailed to all its retail  customers  on its mailing  list to promote  store
     visits and telephone  sales. The stores hold frequent events to promote new
     merchandise and to create the spirit of inspiration  and sharing,  in order
     to make shopping at Blue Fish retail stores a unique experience.

   o Craft Fairs and Events.  The Company  maintains an  extensive  mailing list
     with over 45,000 names and sends  customers on this mailing list a postcard
     inviting them to the craft fairs or events in their region. At craft fairs,
     the Company hands out a listing of all the  specialty  stores and boutiques
     in the area that carry its clothing and encourages customers to buy current
     season  goods.  The  Company  also  provides  support  or  sponsorship  for
     conferences,  festivals  and  other  events,  many of which  have a similar
     philosophical  approach.  In 1996, the Company's  sponsorship  included the
     Bioneers  biodiversity  conference,  the Taos Film  Festival,  the American
     Comedy  Awards,   Citizen's  Action,   and  the  National  Organic  Farmers
     Association in New Jersey.

CUSTOMER BRAND LOYALTY
     The  Company  believes  that it has a very high  degree of  customer  brand
loyalty.  Due to customer demand, the Company  reintroduced its former tradition
of sewing its Blue Fish label on the  outside of most of its  garments.  Earlier
Blue Fish garments,  which had dates printed on them, are considered  collectors
items by some of the Company's  customers.  The Company proactively  attempts to
communicate  directly  with its  customers  and develop a rapport and a personal
relationship  through special events at its own stores and through the Messenger
Program.  Hang tags on the Company's clothing frequently  encourage  interaction
with its  customers and the  Company's  Summer 1996 catalog  asked  customers to
share something  special about their  involvement  with Blue Fish Clothing.  The
Company is continuing its customer  contact through periodic Company updates and
highlights included in its seasonal catalog mailings.

     The Company  distributes a newsletter to all of its wholesale  accounts for
each major season.  The newsletter  communicates  information about the Company,
its philosophy and products,  the  inspiration  for the season,  as well as news
from the field and from its customers. The Company has also sent out surveys and
questionnaires  to measure  customer needs and  satisfaction,  and to hear their
ideas and feedback.

MANAGEMENT INFORMATION SYSTEM
     From   September  1994  through   December   1995,  the  Company   invested
approximately  $150,000 to begin the  establishment  of a fully  customized wide
area network, with remote dial-in capability.  During 1996, the Company invested
approximately  $700,000  from  its  initial  public  offering  proceeds  on  the
continued expansion of its management information systems in hardware, software,
consulting,   services  and  supplies.   In  1996  the  Company   completed  the
implementation of its retail point-of-sale system and merchandising system. This
system allows the Company to experience greater inventory control, higher retail
gross margins  through better  monitoring of inventory  turn, and more efficient
customer check out. During 1996 the Company also completed the installation of a
Wide  Area  Network ("WAN") that  connects  the  three  primary  production  and
operational  facilities  in  Frenchtown,  New  Jersey.  The  Company has already
experienced improved communications and productivity due to the WAN enabling the
use of messaging  software and the sharing of files.  Extensive training has and
will accompany each software/system installation.

     During 1997, the Company plans to complete the installation and integration
of numerous  software systems.  A new accounting  package will be installed that
will allow the Company to report on and monitor the Company's financial position
more  effectively,   automate  specific  tasks,  and  improve  efficiencies.  In
addition, a new manufacturing/production software system will be installed which
will allow the Company to obtain greater inventory  control,  improve production
management,  improve capacity  planning,  allow for the Company's sales force to
enter  orders  while on the road,  obtain  information  more  easily,  allow for
Electronic  Data  Interchange  ("EDI"),  and  utilize  bar  coding  and bar code
scanners. A new patternmaking system will also be installed which will allow the
Company to send patterns  electronically,  develop an electronic/file library of
patterns, and improve pattern, marker,

                                       7





and grading efficiencies. The software systems will be integrated, including but
not limited to  integration  of the  accounting  package to the existing  retail
point-of-sale system and the manufacturing/production system; and integration of
the  manufacturing/production  system  from the retail  point-of-sale  system to
receive  purchase  orders  directly.  By 1999, the Company plans to have a fully
integrated Company-wide computer network with Internet access.

INVENTORY MANAGEMENT
     The  Company's  designs for its women's line are produced for eight seasons
per year,  which limits  production,  sales and delivery times.  The Company has
countered this problem by improving workflows, delivery schedules and by selling
at or above planned production for new seasons, which compensates for returns or
cancellations.  Any  garments  that are  unsold  go to the  Company's  inventory
management center which tracks all past season  merchandise and handles the sale
of frequently requested garments from wholesale customers, promotional garments,
garments sold at craft fairs, as well as garments sold to employees.

     The Company completed  implementation of a customized Point-of-Sale ("POS")
register  and polling  system in 1996 for its retail  stores.  The POS  provides
register  efficiencies,  improves customer checkout and overnight  polling,  and
will become fully integrated with the Company's  planned  wholesale order entry,
accounting and inventory  management systems. The POS system provides management
with  accurate  and  timely  information  about  inventory,   pricing,  costing,
markdowns,  markups,  transfers,  damages, sales and perpetual inventory counts.
This system also allows  items to be  monitored  by SKU, by location and by day,
and will enable a faster sales cycle to be achieved by transferring  merchandise
from one location to another that is selling the item more quickly.

EMPLOYEES
     As of April 22, 1997,  the Company  employed 167 full-time and 34 part-time
employees.  Approximately 88 of these employees were involved in production,  54
in sales and  distribution,  28 in design and  creative  and 31 in  general  and
administrative.  The Company  employs  temporary  staff as the need arises.  The
Company believes it generally has good relations with its employees. None of its
work force is unionized.

TRADEMARK AND SERVICE MARKS
     The Company is the owner of the trademark and service mark "Blue  Fish(R),"
which  expires in the year 2000,  and the service mark  BLUEFISHGARTEN(R), which
expires  in  2006  and  which  is used  for its  educational  outreach  program.
Registered trademarks and service marks expire ten years after issuance, but are
renewable indefinitely if still in use at the time of renewal. In the opinion of
management,  the  Company's  trademark  and service  marks are  important to its
business  due  to  their  name   recognition   with  the  Company's   customers.
Accordingly,  the Company  intends to maintain and preserve  its  trademark  and
service marks and to vigorously protect them from infringement.

     The Company  regards its  trademarks,  service  marks,  trade dress,  trade
secrets  and other  intellectual  property  as  critical  to its  success.  This
intellectual property is protected by common law, as well as by registration and
contract.  Nonetheless,  given the large  number  of  potentially  copyrightable
expressions  that the Company could seek to register in the United States and in
other countries, the Company has relied largely on its common law rights, rather
than registration.  Merchandising  design and artwork are crucial to the success
of Blue  Fish,  and the  Company  intends  to take  action  to  protect  against
imitation of its products and to protect its copyrights as necessary.

COMPETITION
     The Company's clothing generally competes with other casual weekend wear or
sportswear  apparel,  in  the  better  sportswear  and  bridge  categories.  The
specialty retail and wholesale apparel businesses are highly competitive. Retail
competitive factors include store location; merchandise breadth, quality, style,
and  availability;  level of customer  service;  and price. The Company's retail
stores compete against a wide variety of smaller independent specialty stores as
well as department stores and national specialty stores. The Company's wholesale
division competes with numerous  companies.  To date, the Company has identified
20 companies that produce clothing with a hand block-printed look, and there may
be others. These companies are generally offering lower-priced garments, but the
Company believes the quality of the printing,  the colors used and the design of
the  silhouettes  are not directly  comparable  to those of the Company.  At the
present time, the Company does not intend to take any legal action against these
particular  companies  since the Company  believes that these  companies are too
small to pose any threat to the Company's business, but may do so in the future.
By  offering  a  dressier   Blue  Fish  line  with  more  ornate  and  elaborate
block-printing,  as  well as  using  only  organic  cotton  for  all its  jersey
garments, the Company plans to further distinguish itself from its competitors.

                                       8






GOVERNMENT REGULATION
         The   Company  is  subject   to  various   federal,   state  and  local
environmental  laws and  regulations  that  limit  the  discharge,  storage  and
disposal of a variety of substances. Operations of the Company are also governed
by laws  and  regulations  relating  to  workplace  safety  and  worker  health,
principally  the  Occupational   Safety  and  Health   Administration   Act  and
regulations and applicable  state laws and regulations  thereunder.  The Company
believes that it presently is in compliance with these laws and regulations.

ITEM 2.  DESCRIPTION OF PROPERTY.

     The Company has a five-year  lease  expiring in June 1998 at an annual rent
of $69,413,  for an approximately 18,000 sq. ft. facility located in Frenchtown,
New   Jersey,   which   currently   accommodates   the   Company's   production,
administrative,  accounting,  and wholesale functions. The Company also leases a
second  facility  consisting  of  approximately  18,000  sq.  ft. of  additional
production  and storage  space also located in  Frenchtown,  New Jersey,  for an
annual  rental of $50,493,  which  expires in November  1998.  The Company  also
leases an 800 sq. ft.  design  studio  located  above the  Company's  Frenchtown
retail store for a monthly  rental of $895.  The Company  intends to continue to
lease the design  studio on a  month-to-month  basis as long as required for the
Company's  operations.  Effective  January,  1, 1996, the Company entered into a
five-year lease to secure a wholesale showroom space in New York City, New York,
at an annual rental of $58,800. The Company's four retail stores are also leased
at monthly rental rates ranging from $2,875 to $19,000, as set forth below.

<TABLE>
<CAPTION>

<S>                               <C>                       <C>                       <C>
LOCATION                      DATE OPENED              LEASE EXPIRES          NET SELLING SQ. FT.
--------                      -----------              -------------          ------------------

Frenchtown, NJ                June 1987                April 2001             1,267
62 Trenton Avenue

Santa Fe, NM                  December 1994            October 1999           1,725
220 Shelby Street                                      3 options
                                                       3 years each

Austin, TX                    September 1996           August 2000            2,000
9901  Capital  of Texas Hwy,
North

New York City, NY             March 1997               December 2006          3,000
148 Greene Street
</TABLE>


     The Company has entered  into a lease,  commencing  January 1, 1997,  for a
6,500 sq. ft.  (approximately  3,000 selling sq. ft.) New York City retail store
at a monthly rent of $19,000, escalating to $24,791, ending in 2006.

     The  Frenchtown  retail  store and  design  studio  are  leased  from David
Barclay,  Jennifer  Barclay's  father.  See "Certain  Relationships  and Related
Transactions."

     The Company  closed its 750 net selling sq. ft.  Taos,  New Mexico store in
January  1997 in large  part due to its  proximity  to the Santa Fe,  New Mexico
store. The store had been leased on a month-to-month basis.

     The Company  believes  that, in order to accommodate  its growth plans,  it
will have to move into  additional  space by 1998. In December 1996, the Company
entered  into  an  agreement  to lease a  60,000  sq. ft. corporate  center  and
production facility in Palmer Township, Pennsylvania commencing in January 1998.
The Company plans to consolidate  its production  and  administrative  functions
into  this  single  facility.  The  Company  believes  this  will meet its space
requirements for at least the next 10 years.

                                       9





ITEM 3.  LEGAL PROCEEDINGS.

     The Company is not currently  involved in any material  litigation or legal
proceedings and is not aware of any material litigation or proceeding threatened
against it.

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

     No matter was  submitted  to a vote of security  holders  during the fourth
quarter of the fiscal year ended December 31, 1996 through the  solicitation  of
proxies or otherwise.


                                     PART II

ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

    The Company's Common Stock is currently traded on the Chicago Stock Exchange
under the  symbol  BLF.  The  following  table sets forth the high and low sales
prices quoted on the Chicago Stock Exchange for the periods indicated.


                                             Fiscal Year Ended
                                             December 31, 1996

                                          High                 Low
Quarter Ended June 30, 1996 *             10 1/8               5 1/2

Quarter Ended September 30, 1996           7 7/8               6 1/2

Quarter Ended December 31, 1996            7 1/8               3 3/4


     * Covers the period from the May 15, 1996 closing of the Company's  initial
       public offering though June 30, 1996.

    As of  June 18, 1997, the Company had  approximately  2,624  stockholders of
record. As of that date, the last sale price of the Company's Common Stock was 4
1/4 per share.

    The Company's  Subchapter S election was terminated  upon the closing of the
Company's  initial  public  offering on May 15, 1996.  Although the Company paid
dividends and made a distribution while an S corporation, the Company intends to
retain any future earnings and pay no dividends for the foreseeable future.

ITEM 6.  MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION

OVERVIEW
     The Company is a designer,  manufacturer,  wholesaler  and retailer of hand
block-printed women's and children's clothing and accessories for the home. Each
product is  individually  hand block printed with evocative  designs and symbols
and is signed by the artist.  The Company markets its products to  approximately
400  specialty  stores and  boutiques,  as well as to major  retailers,  such as
Nordstrom and Neiman Marcus,  through five regional direct sales personnel known
as Messengers,  and one independent sales  representative.  The Company has four
Company-owned retail stores in Frenchtown, New Jersey; Santa Fe, New Mexico; New
York, New York;  and Austin,  Texas and  participates  in juried arts and crafts
fairs and festivals across the United States.

                                       10





RESULTS OF OPERATIONS
      The  following  table sets forth,  as a percentage  of net sales,  certain
items  included  in  the  Company's  Statements  of  Operations  (see  Financial
Statements  and  Notes  thereto  elsewhere  in  this  Report)  for  the  periods
indicated:
                                                                 Years Ended
                                                                 December 31,
                                                              1995       1996
Statements of Operations Data:
         Sales                                                100.0%     100.0%
         Cost of goods sold                                    44.1       46.3
                                                            -------    -------
              Gross margin                                     55.9       53.7
         Operating expenses, net                               47.6       54.7
         Compensation expense related to stock grant            9.0       ----
                                                            -------    -------
              Income (loss) from operations                    (0.7)      (1.0)
         Interest expense, net                                  1.7        1.4
                                                              -----      -----
         Historical income (loss) before pro forma income
           taxes (benefit)                                     (2.4)      (2.4)
         Pro forma income taxes (benefit)                      (0.7)      (0.7)
                                                              -----      -----
         Pro forma net income (loss)                           (1.7)%     (1.7)%
                                                            =======    =======

YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
         SALES.  The Company's sales increased by $2.0 million or 20.2% to $11.6
million in 1996.  The  Company's  wholesale  sales  increased by 16.0% from $6.5
million in 1995 to $7.5  million in 1996,  its retail  sales  increased by 22.6%
from  $2.6  million  in 1995 to $3.2  million  in 1996,  and  craft  fair  sales
increased  by 59.5% from  $538,000  in 1995 to  $857,000  in 1996.  The  Company
attributes the wholesale sales increase  during the 1996 period  primarily to an
increase  in the number of  wholesale  accounts,  and  improved  relations  with
wholesale accounts through the Messenger  Program.  The increase in retail sales
is primarily  attributed to same store sales increases of $384,000 or 14.7%, and
a store opened during 1996 generating sales of $207,000.  The Company attributes
these increases to greater marketing efforts and repeat customer business.  Same
store sales for the Taos retail store declined due to the close proximity of its
Santa Fe  store,  which  is only 70 miles  away.  This was  instrumental  in the
Company's  decision to close the Taos store in first quarter 1997.  The increase
in craft fair sales was due to an increase in the number of fairs and  festivals
the Company attended.

         GROSS  MARGIN.  The major  components  affecting  gross  margin are raw
material and production costs, wholesale and retail maintained margins and sales
mix. The Company's  gross margin  decreased,  as a percentage  of sales,  by 2.2
percentage  points from 55.9% in 1995 to 53.7% in 1996.  The Company  attributes
this  decrease to increased  customer  returns  from  specialty  stores,  higher
markdowns at retail,  the planned  closing of the Taos retail store resulting in
markdown  driven  sales,  and an  increase  in  sales of past  season  inventory
yielding lower gross margins.

         OPERATING EXPENSES.  The Company's operating expenses increased by $1.8
million from $4.6 million in 1995 to $6.4  million in 1996.  Operating  expenses
increased  as a  percentage  of sales,  from 47.6% during 1995 to 54.7% in 1996.
This was a result of the Company growing its infrastructure with the proceeds of
the public  offering.  The  increase in the  Company's  operating  expenses  was
primarily due to expenses of  approximately  $1,100,000  in connection  with the
addition  of  corporate  management  team  members and staff  support,  $114,000
increase in marketing  and public  relation  activities,  $248,000 in connection
with the New York showroom and Austin retail store in 1996 and $121,000 relating
to consultant fees associated with the ongoing systems  selection  process.  The
Company  anticipates  continued  investment in the manufacturing,  wholesale and
retail operations throughout 1997.

         INTEREST EXPENSE,  NET. The Company's interest expense,  net, decreased
by $10,000 from $167,000 in 1995 to $157,000 in 1996. Interest expense increased
by $76,000  primarily  due to increased  borrowings  for the  Company's  working
capital.  Interest  income  increased  by  $86,000  as a result  of the  Company
investing  cash  raised  from the initial  public  offering in  interest-bearing
instruments.

         NET  INCOME  OR LOSS.  The net loss  before  income  taxes of  $275,000
represents  a decrease of $914,000 or 143% in net income,  which would have been
$639,000  in 1995  after  removing  the impact of the 1995  compensation  charge
relating to a stock  grant.  The income tax  benefit of $238,000 includes a one-
time  benefit of $174,000  due to  

                                       11






reinstatement  of deferred  income taxes upon  conversion  of the Company to a C
corporation  prior to the closing of the initial public offering.  Pro forma net
loss after pro forma income taxes increased 19.4% to $(193,000).

YEAR ENDED DECEMBER 31, 1995 COMPARED TO YEAR ENDED DECEMBER 31, 1994
         SALES. The Company's sales increased by $2.0 million or 26.2% from $7.7
million in 1994 to $9.7 million in 1995. The Company's wholesale sales increased
by 21.7% to $6.5 million,  its retail sales  increased by 39.3% to $2.6 million,
and craft fair sales  increased  by 24.6% to $0.5  million in 1995.  The Company
attributes the wholesale sales increase  during the 1995 period  primarily to an
increase in the number of wholesale accounts,  improved relations with wholesale
accounts through the Messenger Program, lower return percentages based on timely
shipments and a $100,000  special order  received  from a major  retailer.  Same
store sales at the Company's  retail division  increased 4.1%, which the Company
attributes to increased  marketing  efforts and repeat customer  business at its
Frenchtown  store offset by a decrease in same store sales at the Company's Taos
store.  The Company  believes  that same store  sales for its Taos retail  store
declined  during  1995 due to the opening  and close  proximity  of its Santa Fe
store, which achieved $673,000 in sales during 1995 and had minimal sales during
1994 due to the December 1994 opening date for this store. The increase in craft
fair  sales was due to an  increase  in the  number of fairs and  festivals  the
Company attended.

         GROSS  MARGIN.  The major  components  affecting  gross  margin are raw
material and production costs, wholesale and retail maintained margins and sales
mix. The Company's  gross margin  increased,  as a percentage  of sales,  by 3.3
percentage  points from 52.6% in 1994 to 55.9% in 1995.  The Company  attributes
this increase to production  efficiencies  including increased  production units
per employee,  damage reductions,  lower returns due to on-schedule  deliveries,
increased retail sales at higher margins and the sale of past season merchandise
through craft shows.

         OPERATING EXPENSES.  The Company's operating expenses increased by $1.5
million from $3.1 million in 1994 to $4.6  million in 1995.  Operating  expenses
also  increased  as a  percentage  of sales,  from 40.0% during 1994 to 47.6% in
1995.  The increase in the  Company's  operating  expenses was  primarily due to
expenses of $0.8 million  incurred in connection with the addition of management
team members and staff support and increased marketing expenses in the amount of
$0.2 million. The addition of the Santa Fe retail store,  including depreciation
and personnel  costs and  additional  depreciation  expense from the Taos retail
store renovation were only partially offset by increased Santa Fe revenues.

         COMPENSATION  EXPENSE  RELATED TO STOCK GRANT.  In September  1995, the
Company granted its Chief Executive  Officer 304,000 shares of common stock at a
market  value of $1.58 per share,  which  resulted  in  compensation  expense of
$480,000.  In addition to this grant,  the Company also accrued a $393,000 bonus
in September 1995, to be paid to its Chief Executive  Officer for the payment of
income taxes  associated with this stock grant.  There was no comparable item in
1994.

         INTEREST EXPENSE.  The Company's  interest expense increased by $51,000
from  $116,000 in 1994 to $167,000 in 1995.  This  increase  was  attributed  to
additional  borrowing  on a line of  credit  (up  $300,000  from  1994)  and the
increased  assignment of receivables (to a factor in 1994 and sold with recourse
in 1995). See "Liquidity and Capital Resources."

         NET INCOME OR LOSS. As a result of the $873,000 compensation charge and
the foregoing,  net income (loss) before state income taxes (benefit)  decreased
by $1.1 million or 127.5% from income of $852,000 in 1994 to a $234,000  loss in
1995.  Net income  (loss) after pro forma income  taxes  (benefit)  decreased by
$658,000 or 132.6% from income of $496,000 in 1994 to $162,000 loss in 1995.

SEASONALITY AND QUARTERLY RESULTS
        The Company's sales are seasonal and therefore its operating results are
subject  to  seasonal  fluctuations.  Historically,  wholesale  sales  have been
highest  during the  Company's  third and early  fourth  quarter  (July  through
October)  when it ships fall and winter  merchandise  in advance of the  apparel
sector's peak holiday  selling  season.  The Company's  wholesale  sales are the
lowest during January and February. The Company's highest levels of retail sales
have  historically  occurred  during June through  August and  November  through
December.  Certain  of the  Company's  retail  stores are  currently  located in
tourist destinations and are therefore affected by each location's overall level
of tourism.  Wholesale  and retail  sales  generated  during the  aforementioned
periods have  traditionally had a significant impact on the Company's results of
operations,  and any decrease in sales for these periods or in the  

                                       12




availability  of working  capital needed in the months  preceding  these periods
could have a material adverse effect on the Company's results of operations. The
Company's continued growth tends to mask seasonal fluctuations.

         The Company's  results of operations in one quarter are not necessarily
indicative  of the  results of  operations  that can be  expected  for any other
quarter or for the full year.  The  Company's  results  of  operations  may also
fluctuate  from  quarter  to  quarter  as a result  of the  addition  or loss of
wholesale  accounts,  the amount and timing of expenses  incurred in  connection
with the expansion and  integration  of new retail stores into the operations of
the Company, as well as other factors.

LIQUIDITY AND CAPITAL RESOURCES
     Since its inception,  the Company has financed its operations  through bank
lines of credit,  factoring agreements,  bank notes and capital lease financing.
In May 1996, the Company  completed an initial public  offering which  generated
approximately $3.5 million in proceeds in 1996, net of expenses. At December 31,
1996,  the  Company  had $1.9  million  in cash and cash  equivalents  (of which
$40,000  was  restricted),  a  receivable  purchase  line  of  credit  for up to
$1,500,000 (with a $403,000  outstanding  balance), a demand bank line of credit
for up to $1,000,000  (with a $1,000,000  outstanding  balance)  with  borrowing
limits  subject to 50% of finished  goods and 25% of work in progress  inventory
levels and a $450,000 loan from a shareholder.  The Company had working  capital
of $2.9 million on December 31, 1996,  reflecting an increase in working capital
of $3.0 million from $(79,000) on December 31, 1995.  Working capital is defined
as current assets less current liabilities.

     On September  11, 1995 the  Company's  then sole  stockholder  Ms.  Barclay
requested  a  distribution  of  $450,000  of  the  taxed  but   undistributed  S
corporation earnings. Ms. Barclay received this distribution on January 2, 1996.
Ms.  Barclay loaned these funds back to the Company on an unsecured  basis.  The
Company  issued her a promissory  note in the  principal  amount of $450,000 and
bearing interest of 7% per annum,  payable monthly.  The principal amount of the
note will be  payable  upon  demand by Ms.  Barclay,  subject  to the  following
limitations upon repayment: (i) the maximum amount of principal that the Company
is required to pay in any 3-month  period is $50,000 and in any 12-month  period
is  $100,000;  (ii)  the  Company  is not  required  to make any  repayments  of
principal when its current assets to current  liabilities  ratio as set forth in
its latest quarterly balance sheet is below 1.0, excluding  liabilities  related
to amounts due pursuant to the note; and (iii) no repayment of principal will be
paid in the  event  that a  disinterested  majority  of the  Company's  Board of
Directors  determines  that it is not advisable to make a repayment of principal
based upon the Company's then current cash flow or liquidity needs. Although the
restrictions  imposed on  repayment  were  designed to protect the Company  from
experiencing  liquidity  problems,  no assurance  can be given that a demand for
repayment by Ms.  Barclay will not result in a shortage of cash available to the
Company for operations. See "Certain Relationships and Related Transactions."

         Net cash used by operating  activities  was $1.2  million  during 1996,
consisting  primarily of a net loss before deferred tax benefit,  an increase in
inventories  of $979,000  for store  stock  levels and  planned  1997  wholesale
shipments,  and a decrease in accrued  bonus-stock  grant of $403,000  partially
offset by a decrease in accounts  receivable  of $293,000.  Net cash provided by
operating  activities  was  $348,000  during 1995,  consisting  primarily of net
income before non-cash stock grant and a corresponding  accrued bonus expense of
$636,000 and by payables  increases of $367,000.  This was  partially  offset by
increases  in  inventory  of $561,000  for store stock  levels and planned  1996
wholesale shipments.

         Net cash used in investing  activities in 1995 and in 1996 was $288,000
and  $425,000,  respectively.  Net cash  used in  investing  activities  in 1996
consisted primarily of capital  expenditures to purchase property and equipment,
the majority of which consisted of the buildout of the wholesale showroom in New
York and the  Austin  retail  store.  The 1995  investing  activities  consisted
primarily of capital expenditures to purchase property and equipment,  including
the opening of the Company's  Santa Fe retail store,  the renovation of its Taos
retail  store and the initial  implementation  of the  Company's  upgrade of its
management information system in 1994.

         Net cash  provided by financing  activities  in 1996 was $3.3  million,
consisting  primarily of net cash proceeds  received from the public offering of
$3.5 million in 1996, an increase on borrowings on the Company's  line of credit
of  $500,000,  and  $450,000 of  borrowings  from a majority  shareholder.  This
funding  was  offset  in  part  by  equity  distributions  of  $556,000  to  pay
stockholder  taxes  and  distribute  S  corporation  earnings.  Net cash used in
financing  activities  in 1995 was  $260,000,  consisting  primarily of deferred
offering costs of $247,000  related to the Company's  public offering and equity
distributions of $419,000 to pay stockholder taxes,  offset in part by increases
in short-term borrowings.

                                       13





         The  Company's  existing  bank  line of  credit at  December  31, 1996,
provided for  borrowings up to $1.0 million.  This line of credit bears interest
at the bank's prime  interest rate plus 0.75%  payable on demand or monthly.  At
December  31,  1996,  outstanding  borrowings  under  the  line of  credit  were
$1,000,000,  and the interest rate was 9.0%.  The line of credit is subject to a
maximum  outstanding  balance not to exceed 50% of finished goods inventory plus
25% of work in  process.  The Company  also has a  receivable  purchase  line of
credit  agreement,  which  provides for the assignment and processing of Company
receivables with recourse to a maximum outstanding assigned amount of $1,500,000
for a term of one year. The Company assigns 100% of its wholesale  credit sales.
The  Company  can  borrow  up to 90% of  these  assigned  receivables,  with the
remaining  10% held in reserve in the event of  customer  payment  default.  The
receivable  purchase line of credit bears interest at 1.75% as a discount to all
receivables  assigned,  and the Company is responsible  for reimbursing the bank
for all  uncollectible  accounts.  Interest  expense  under this  agreement  was
$107,000  and  $117,000  during  1995 and 1996,  respectively.  Both the line of
credit and the  receivable  purchase line of credit are secured by a stockholder
guarantee  and  have  a  first  lien  on  all  accounts  receivable,  inventory,
equipment, fixtures and deposit accounts. In March 1997, both the line of credit
and the  receivable  purchase line of credit were renewed and both were extended
through February 1998.

         The Company has four notes payable to banks with  outstanding  balances
of $49,586 on December  31,  1996,  and mature in August 1997  through  November
2000. As of December 31, 1996,  the Company has $152,537  outstanding in capital
lease  obligations for various pieces of equipment.  Four leases expire in 1998,
and one lease expires in October 1999.

        The proceeds of the  Company's  public offering,  together  with planned
additional working capital financing, are expected to meet the Company's funding
needs to achieve its objectives  and growth  strategy  through 1997.  Additional
working capital financing would include  inventory,  receivables and fixed asset
secured lines of credit or term debt.  The Company has entered into an agreement
to  lease,  with  an  option  to buy a  corporate  headquarters  and  production
facility. If such a purchase option is exercised,  the Company would pursue bank
mortgage   financing.   Thereafter,   if  funds   generated  by  operations  are
insufficient to finance the Company's growth strategy,  it would be necessary to
raise  additional  funds from public or private  financing.  The  Company  would
pursue  bank  working  capital   financing,   which  would  include   inventory,
receivables  and fixed asset  secured lines of credit or term debt. No assurance
can be given that the Company  would be  successful  in raising such  additional
financing.


ITEM 7.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

    See Item 14 and the Index therein for a listing of the financial  statements
which are a part of this Report.

ITEM 8.  CHANGES  IN  AND  DISAGREEMENTS  WITH  ACCOUNTANTS  ON  ACCOUNTING  AND
         FINANCIAL DISCLOSURE

     There  have  been  no  changes  in or  disagreements  with  accountants  on
accounting and financial disclosure items.


                                    PART III

ITEM 9.  DIRECTORS,   EXECUTIVE   OFFICERS,   PROMOTERS  AND  CONTROL   PERSONS;
         COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.

     The names and ages of the  executive  officers and directors of the Company
are as follows:

<TABLE>
<CAPTION>

NAME                          AGE         POSITION
----                          ---         --------
<S>                          <C>              <C>  
Jennifer Barclay (1)          30          Chairman of the Board of Directors
Marc Wallach (1)              59          President and Chief Executive Officer and Director
Richard Swarttz               40          Vice President of Finance, Chief Financial Officer and
                                          Treasurer
Jolie Cross Doyle             41          Vice President of Sales and Marketing
Megan Doyle                   28          Vice President of Production

                                       14






Dianne Ige                    48          Vice President of Retail
Lana Schempp                  50          Corporate Secretary
Ben Cohen (2)(3)              46          Director
Gary Hirshberg (2)(3)         42          Director

</TABLE>
                       --------------

                (1) Member of Executive Committee
                (2) Member of Audit Committee
                (3) Member of Compensation Committee

     JENNIFER  BARCLAY founded Blue Fish in 1985, and has been its President and
Chairman of the Board of Directors  since the Company's  incorporation  in March
1987. She also served as the Company's Chief  Executive  Officer from March 1987
until September 1994, and as its Treasurer from August 1993 through August 1995.
In September 1996, Ms. Barclay  relinquished  the title of President but remains
Chairman of the Board.

     MARC  WALLACH  joined the  Company as Chief  Operating  Officer and General
Manager in September 1993 and became the Company's  Chief  Executive  Officer in
September  1994.  Mr. Wallach was appointed as a Director of the Company in June
1995. In September 1996, Mr. Wallach assumed the additional  title of President.
From  1990-1993,  Mr.  Wallach  was an  independent  consultant  to the  apparel
industry.  In 1987, Mr. Wallach founded U.S. One, a manufacturer and marketer of
children's  apparel,  and served as its President  until 1989.  For the 15 years
preceding 1987, Mr. Wallach served in various  executive  capacities,  including
Senior Vice President of the Youthwear  Division,  for Cluett Peabody,  Inc., an
apparel conglomerate.  Mr. Wallach holds a Bachelor of Science degree in Textile
Management from Philadelphia College of Textiles and Science.

     RICHARD SWARTTZ joined the Company in May 1996 as Chief  Financial  Officer
and was appointed  Treasurer in August 1996. In September  1996,  Mr.  Swarttz's
position was changed to Vice President of Finance,  Chief Financial  Officer and
Treasurer.  Prior to joining the Company,  Mr.  Swarttz was most  recently  Vice
President of Finance at International Women's  Apparel,  Inc., from May 1994, to
May 1996,  and Vice President and  Controller of McBriar  Sportswear,  Inc. from
October 1990 to May 1994.  Mr.  Swarttz is a Certified  Public  Accountant,  and
holds a  Bachelor  of Science  degree in  Accounting  and a Masters in  Business
Administration from Philadelphia College of Textiles and Science.

     JOLIE CROSS DOYLE has served as the Company's  Vice  President of Sales and
Marketing  since  October  1996.  She joined the  Company  in  November  1995 as
Director of Marketing and  previously  held various  marketing  positions in the
magazine  publishing  industry.  Until  January  1994, Ms. Cross Doyle served as
Vice President of Corporate Communications for Hachette Fillipacchi Magazines, a
company she joined in 1983 when it was owned by CBS Magazines.

     MEGAN DOYLE has served as the Company's Vice President of Production  since
October 1996. She joined the Company in February 1992 as a Patternmaker and held
various  positions  in  production,  such as  Production  Manager,  Director  of
Production,  and Director of Merchandising and Manufacturing.  Ms. Doyle holds a
Bachelor of Fine Arts degree from Parsons School of Design.

     DIANNE IGE joined the Company in February 1997 as Vice President of Retail.
From  January  1995 to May 1996 she was  Director  of  Merchandising  for  Gant,
Division  of  Phillips - Van  Heusen.  From June 1993 to  December  1994 she was
Senior Director of Outerwear for Polo/Ralph Lauren.  From March 1992 to May 1993
she was Vice  President  of Sales and  Marketing  for Natori.  Her  professional
experience  has spanned  many  product  categories  including  men's and women's
sportswear, women's accessories, and intimate apparel. She has had experience in
both  retail  and   wholesale,   and   exposure  to  both  import  and  domestic
manufacturing  markets.  Ms. Ige holds a Bachelor of Arts  degree in  Psychology
from the University of Wisconsin.

     LANA SCHEMPP was appointed  Corporate  Secretary in August 1996. She joined
the Company in January 1993, working with the accounting department in a variety
of  capacities  until June 1996.  She now serves as  Executive  Assistant to the
President  and Chief  Executive  Officer of Blue Fish  Clothing,  Inc.  Prior to
joining the Company, she was an educator in several New Jersey school districts.
Ms. Schempp holds a Bachelor of Science degree from Douglass College.

                                       15





     BEN COHEN has served as a member of the Board of Directors since June 1995.
Mr.  Cohen is the  Co-Founder  and  Chairman  of the  Board  of Ben and  Jerry's
Homemade,  Inc., a public  company,  and served as its Chief  Executive  Officer
until February  1995. He presently  serves as a member of the Board of Directors
of The Social Venture Network. Mr. Cohen also serves as a member of the Board of
Directors  of Community  Products,  Inc., a privately  held  buttercrunch  candy
manufacturer,  which filed a petition for federal bankruptcy protection in April
1997.

     GARY HIRSHBERG has served as a member of the Board of Directors  since June
1995. Mr.  Hirshberg has been the Chief  Executive  Officer of Stonyfield  Farm,
Inc., a privately  held yogurt and ice cream company,  since  September 1983 and
its President  since June 1989. He is the Chairman of The Social Venture Network
and a Trustee of  Leadership  New  Hampshire,  Inc. Mr.  Hirshberg has extensive
experience  as an  environmental  activist,  including  terms  as  the  founding
President  of the  Cape  and  Island  Self  Reliance  Corporation,  as  founding
President  of the Cape Cod  Environmental  Alliance and as a Director of the New
Hampshire  Audubon Society and the Association for the Preservation of Cape Cod.
Mr.  Hirshberg  holds a Bachelor  of Arts  degree  from  Hampshire  College,  an
honorary  Doctor of Science  degree from New  Hampshire  College and an honorary
Doctor of Laws degree from Notre Dame College (Manchester, New Hampshire).

BOARD COMMITTEES
     The Company's Board of Directors has established  various  committees.  The
Executive  Committee  consists of Ms.  Barclay and Mr.  Wallach.  The  Executive
Committee is  authorized to take any action upon which the Board of Directors is
authorized  to act,  except as  reserved  by law or the  Company's  Bylaws.  The
Executive Committee also administers the Company's 1995 Non-Employee  Directors'
Stock Option Plan. The Audit Committee consists of Messrs.  Cohen and Hirshberg.
The Audit Committee,  which is responsible to meet  periodically with management
and the Company's  independent public  accountants,  will review the results and
scope of the audit and other  services  provided  by the  Company's  independent
public  accountants,  the need for internal auditing procedures and the adequacy
of internal controls.  The Compensation  Committee consists of Messrs. Cohen and
Hirshberg.  The Compensation  Committee has the  responsibility and authority to
establish and administer  compensation  policies for all executive  officers and
employees  of  the  Company,   including  the  Chief  Executive   Officer.   The
Compensation Committee also administers the Company's 1995 Stock Option Plan.

     The personal liability of the Company's directors is limited to the fullest
extent   permitted  by  Pennsylvania   law.  Under  the  Company's   Bylaws  and
Pennsylvania  Business  Corporation  Law  ("PBCL"),  a  director  shall  not  be
personally  liable for  monetary  damages  for his or her  actions as a director
unless:  (1) the  director  has  breached or failed to perform the duties of his
office under  subchapter  17B of PBCL;  and (2) the breach or failure to perform
constitutes self-dealing,  willful misconduct or recklessness.  Pennsylvania law
further  provides  that this  limitation  is not  available  with respect to the
responsibility  or liability of a director  pursuant to any criminal  statute or
the liability of a director for the payment of taxes pursuant to Federal,  state
or local law.

     The Company's Bylaws provide that the Company will indemnify  directors and
officers,  and may indemnify  its  employees  and other  agents,  to the fullest
extent  permitted  by law.  Indemnified  parties are covered in all cases except
where such  indemnification  is  prohibited  by law, or where the conduct of the
indemnified party (i) constitutes willful misconduct or recklessness, or (ii) is
based  upon  receipt by the  indemnified  representative  from the  Company of a
personal  benefit to which the indemnified  party is not legally  entitled.  The
Company shall pay the expenses  incurred in good faith by an indemnified  party,
against an undertaking by the indemnified  party to repay such expenses if it is
ultimately   determined   that  the   indemnified   party  is  not  entitled  to
indemnification.  Any dispute  related to the right of  indemnification  will be
decided by arbitration.  The Company also maintains  liability insurance for its
directors and officers.

     Insofar as  indemnification  for  liabilities  arising under the Securities
Act,  indemnification  may be  permitted  to  directors,  officers,  or  persons
controlling the Company  pursuant to the foregoing  provisions.  The Company has
been informed that, in the opinion of the  Securities  and Exchange  Commission,
such indemnification is against public policy as expressed in the Securities Act
and is therefore unenforceable.  The Company believes that its Bylaws provisions
and  indemnification  agreements  are necessary to attract and retain  qualified
persons as directors and officers.

NUMBER OF DIRECTORS, DIRECTORS' TERM OF OFFICE AND DIRECTOR COMPENSATION
     The  Company's  Bylaws  provide  that  the  Company  may  have up to  eight
directors. At each annual meeting of stockholders,  directors will be elected to
hold  office  until the next annual  meeting.  The  Company  currently  has four

                                       16







directors and intends to elect an additional  outside  director  within the next
year. The Company's  employee directors do not receive any cash compensation for
their  service  on the  Board  of  Directors.  Directors  who are not  otherwise
employees  of the  Company  are  eligible  to receive  stock  options  under the
Company's 1995 Non-Employee Directors' Stock Option Plan. See "1995 Non-Employee
Directors'  Stock Option  Plan." All directors  may be  compensated  for certain
expenses in connection with their attendance at Board meetings.

COMPLIANCE WITH SECTION 16(A) OF THE SECURITIES EXCHANGE ACT OF 1934.
     Section  16(a) of the  Securities  and  Exchange  Act of 1934  requires the
Company's directors and executive officers, and persons who own more than 10% of
the Company's Common Stock ("10% Stockholders"), to file with the Securities and
Exchange  Commission  (the "SEC") initial  reports of ownership of the Company's
Common  Stock and other  equity  securities  on Form 3 and reports of changes in
such  ownership on a Form 4 and Form 5.  Executive  officers,  directors and 10%
Stockholders  are required by SEC regulations to furnish the Company with copies
of all Section 16(a) forms they file.

     To the  Company's  knowledge,  based solely on review of the copies of such
reports  furnished to the Company  during,  and with respect to, its most recent
fiscal year and written  representation that no other reports were required, all
Section 16(a) filing requirements applicable to its officers,  directors and 10%
Stockholders were complied with, except as follows:

     On October 1, 1996, the Company  appointed Jolie Cross Doyle Vice President
of Sales and  Marketing  and Megan  Doyle Vice  President  of  Production.  Both
individuals  failed to file Form 3s reporting their beneficial  ownership of the
Company's  securities (or lack thereof)  within ten days of their  appointments.
Form 3s for each  individual were filed with the Commission on April 17, 1997.


                                       17






ITEM 10. EXECUTIVE COMPENSATION

     The following table sets forth for the years ended December 31, 1994, 1995,
and 1996 the annual  compensation,  including salary,  bonuses and certain other
compensation, paid by the Company to its President, Chief Executive Officer, and
any executive officers whose annual  compensation  exceeded $100,000 (the "Named
Executive Officers").


<TABLE>
<CAPTION>
-------------------------------- ----------- -------------------------------------- ------------------------------- ------------
                                                                                        Long Term Compensation
                                                                                    -------------------------------
                                                      Annual Compensation                 Awards         Payouts
-------------------------------- ----------- ---------- ---------- ---------------- ---------- --------- ---------- ------------
(a)                                 (b)         (c)        (d)           (e)           (f)       (g)        (h)
                                                                        Other
                                                                       Annual       Restricted                          All
                                                                       Compen-        Stock                LTIP        Other
Name and                           Fiscal                               sation      Awards(s)  Options/   Payouts   Compensation
Principal Position                  Year     Salary     Bonus ($)        ($)           ($)     SARs(#)      ($)          ($)
                                                ($)
-------------------------------- ----------- ---------- ---------- ---------------- ---------- --------- ---------- ------------
<S>                               <C>        <C>        <C>        <C>              <C>        <C>       <C>        <C>
Jennifer Barclay                  12/31/96   $          $          $                $                    $     ---  $     ---
                                             100,000    -0-        2,178 (4)        ---        ---
   Chairman (1)                                                    $
                                                                   4,905 (5)
                                                                   $
                                                                   1,985 (6)

                                  12/31/95   $          $          $                $                    $     ---  $     ---
                                             100,000    1,923      1,968 (4)        ---        ---
                                                                   $
                                                                   5,420 (5)
                                                                   $
                                                                   2,038 (6)

                                  12/31/94   $          $          $                $                    $     ---  $     ---
                                             108,903    207,328(3) 1,968 (4)        ---        ---
                                                                   $
                                                                   5,420 (5)

Marc Wallach                      12/31/96   $          $          $                $                    $     ---  $     ---
                                             105,000    -0-        4,581 (4)        ---        ---
    President & Chief                                              $
Executive Officer (2)                                              900 (5)
                                                                   $
                                                                   2,355 (6)

                                  12/31/95   $          $          $                $          114,000   $     ---  $     ---
                                             105,000     21,576    5,163 (4)         480,320
                                                                   $
                                                                   900 (5)
                                                                   $
                                                                   2,532 (6)
                                                                   $
                                                                   392,989 (7)

                                  12/31/94   $          $          $
                                             101,524    -0-        5,163 (4)

-------------------------------- ----------- ---------- ---------- ---------------- ---------- --------- ---------- ------------
</TABLE>

(1) Ms. Barclay served as Chairman and President  until September 1996, when she
relinquished the title of President.

(2) Mr. Wallach served as Chief Executive  Officer until September 1996, when he
assumed the additional title of President.

(3) S Corporation distribution

(4) Company contribution for healthcare premiums

(5) Allowance for automobile lease

(6) 401(k) Company match accrued at December 31

(7) Deferred grossed up bonus to pay taxes due on the restricted stock grant

         The following  table sets forth the  aggregated  option / SAR exercises
and fiscal year end option / SAR values by the Company to each executive officer
of the Company who earned $100,000 or more for the year ended December 31, 1996.

<TABLE>
<CAPTION>
--------------------------------------------- ---------------------- --------------- --------------------- ----------------------
                                                                                          Number of
                                                                                         Unexercised             Value of
                                                                                          Securities            Unexercised
                                                     Shares                               Underlying           In-The-Money
                                                    Acquired                             Options/SARs          Options/SARs
                                                       On                               At FY-End (#)          At FY-End ($)
                                                    Exercise             Value           Exercisable/          Exercisable/
Name                                                   (#)              Realized        Unexercisable          Unexercisable
(a)                                                    (b)                (c)                (d)                    (e)
--------------------------------------------- ---------------------- --------------- --------------------- ----------------------
<S>                                           <C>                    <C>             <C>                   <C>
Marc Wallach                                                  -0-    $        -0-          45,600/68,400   $  28,500/ $  42,750
    President & Chief Executive Officer
--------------------------------------------- ---------------------- --------------- --------------------- ----------------------
</TABLE>

                                       18


EMPLOYMENT AND NON-DISCLOSURE AGREEMENTS
     The Company entered into an Employment Agreement with Marc Wallach to serve
as the Company's General Manager and Chief Operating Officer,  effective January
1, 1994, for a period of three years,  subject to termination by the Company for
cause or, by either  party,  at any time upon  ninety  (90) days  prior  written
notice. On September 7, 1994, Mr. Wallach was appointed Chief Executive Officer.
Although Mr.  Wallach's  Employment  Agreement  expired on December 31, 1996, he
continues  to work for the Company on the same  terms.  The  Company's  Board of
Directors intends to consider an extension of the current  Employment  Agreement
or the execution of a new one at its next meeting. The Employment Agreement,  as
amended,  provides that Mr. Wallach's annual base  compensation will be $105,000
effective September  1, 1994, and that he will  receive an annual bonus of 3% of
the Company's net after-tax profits for each year that the Employment  Agreement
remains in effect.  Mr.  Wallach will also receive an additional  bonus of 1% of
the  Company's  net  after-tax  profits  for each of the five  years  commencing
January 1, 1994 and ending  December 31, 1998 provided that Mr. Wallach  remains
continuously  employed  by  the  Company  during  this  five-year  period.  This
additional  bonus will be paid by the Company in five equal annual  installments
commencing on January 1, 1999.  Mr.  Wallach is also entitled to  participate in
the Company's  employee  benefit  plans.  Mr. Wallach is also subject to certain
non-disclosure  covenants and has agreed not to compete with the Company  during
the term of the Employment Agreement and for two years thereafter.  On September
15, 1995, the Company  granted to Mr. Wallach  304,000 shares of Common Stock in
consideration  of services  rendered.  In connection with this stock grant,  Ms.
Barclay  contributed  304,000  shares of her Common  Stock to the capital of the
Company and Ms.  Barclay,  Mr. Wallach and the Company entered into a Restricted
Stock Agreement. Pursuant to this Agreement, all of Mr. Wallach's 304,000 shares
are subject  to  purchase  by the Company for a total consideration of $1 in the
event that Mr.  Wallach  voluntarily  terminates his employment or is terminated
for cause by the Company  prior to  September  16,  1997.  In 1995,  the Company
recognized  a  compensation  expense of $873,309,  representing  the fair market
value of the  Common  Stock  plus a bonus  to  cover  income  taxes  payable  in
connection  with the stock grant.  Mr.  Wallach also waived his right to receive
any portion or all of his undistributed S corporation earnings other than to pay
taxes  on  S  corporation  earnings.  See  "Certain  Relationships  and  Related
Transactions."

     The  Company  has  also  executed   stock  option   agreements   containing
non-competition  and  non-disclosure  provisions  with  each  of  the  Company's
officers  and key  employees  who have  been  granted  stock  options  under the
Company's 1995 Stock Option Plan.

401(K) PLAN
     In March 1995, the Company adopted an employee  savings and retirement plan
(the "401(k)  Plan")  covering all of the Company's  employees who have attained
the age of 21 and who  normally  work 20 hours  per  week.  The  401(k)  Plan is
intended to be a tax-qualified plan under Section 401(a) of the Internal Revenue
Code. The 401(k) Plan enables employees to reduce their taxable  compensation by
electing  to  defer  current  compensation  into  the  401(k)  Plan,  up to  the
statutorily prescribed annual limit ($9,500 in 1996). The trustees of the 401(k)
Plan, at the direction of each participant, invest the assets of the 401(k) Plan
in the  various  investment  alternatives  offered  under the 401(k)  Plan.  The
Company may, but is not required to, make matching  contributions  to the 401(k)
Plan based on the amounts participants  contribute to the 401(k) Plan, but in no
event may the  Company's  contribution  exceed  10% of the  participant's  gross
compensation.  The Company presently makes monthly matching  contributions of up
to 2% of a participant's gross compensation.  The 401(k) Plan is administered by
Merrill Lynch.

1995 STOCK OPTION PLAN
     The 1995 Stock Option Plan (the "Option  Plan") was adopted by the Board of
Directors and approved by the stockholders in September 1995. The Option Plan is
intended to motivate and reward  employees and selected  consultants by granting
them stock options to acquire shares of Common Stock.

     Grants of stock  options under the Option Plan may be made to the Company's
employees,  officers (including officers who are directors),  and consultants. A
total of 570,000 shares of Common Stock has been reserved for issuance under the
Option Plan. The Option Plan is  administered by the  Compensation  Committee of
the Board of Directors.

     Both stock options intended to qualify as incentive stock options under the
Code and  nonqualified  stock  options may be granted  under the Option Plan. No
employee may receive  options in any given  calendar  year to purchase more than
200,000 shares.  The exercise price of incentive stock options granted under the
Option Plan will be at least equal to the fair market  value of the Common Stock
of the  Company on the date of the grant.  The  exercise


                                       19

price of  nonqualified  stock options  granted under the Option Plan will be not
less than eighty-five percent (85%) of the fair market value of the Common Stock
of the Company on the date of the grant.  In addition,  any option granted under
the Option  Plan will have an  exercise  price of one  hundred  and ten  percent
(110%)  of the fair  market  value  on the date of the  grant in the case of any
person  who owns stock  possessing  more than 10% of the total  combined  voting
power.  Options  granted  under the  Option  Plan will vest at such times as are
specified by the Compensation Committee. If an individual with outstanding stock
options  terminates  employment  on account of death,  disability  or retirement
approved by the  Company,  all of the  individual's  stock  options  will become
immediately  exercisable.  Once  exercisable,  stock  options  granted under the
Option Plan remain exercisable for nine years from the date of grant, unless the
individual  terminates  his or her  relationship  with the  Company  other  than
described above.  However,  if an option holder wishes to preserve the status of
an option as an  incentive  stock  option,  the holder must  exercise the option
within three months of his or her  termination  of employment or within one year
from a termination of employment on account of disability.

     Prior to October 23, 1995,  the Option Plan provided  that all  outstanding
stock options granted under the Option Plan, whether or not vested, would become
immediately exercisable upon a "change of control of the Company" (as defined in
the Option Plan). In certain circumstances, if an individual who has received an
option grant under the Option Plan terminates  employment  within 18 months of a
"change of control  of the  Company,"  the  Company is  required  to make a cash
payment to the individual in an amount equal to the difference  between the fair
market  value of the  shares of  Common  Stock  subject  to the  option  and the
option's exercise price, unless the individual elects otherwise. In addition, if
the Company is not the surviving  corporation in a transaction such as a merger,
or sale of  substantially  all the assets of the  corporation,  at least 10 days
before  the  effective  date  of the  transaction,  each  individual  who has an
outstanding and currently  exercisable stock option will be entitled to exercise
the option or to receive a cash payment equal to the difference between the fair
market  value of the  shares of  Common  Stock  subject  to the  option  and the
option's  exercise  price if a cash payment of the stock option would not affect
the  accounting  treatment  of  any  such  transaction  in the  judgment  of the
Compensation  Committee.  The Option  Plan was amended  such that the  provision
relating to individuals who terminate employment within 18 months of a change of
control was deleted,  and for options granted on or after October 23, 1995, only
vested  options are subject to immediate  exercise or cash payment upon a change
of control.

     On September 11, 1995 the  Compensation  Committee  authorized the grant of
nine-year  incentive  stock options with an effective date of September 15, 1995
to purchase an aggregate of 60,000 shares of the  Company's  Common Stock to its
officers and key employees  pursuant to the Option Plan.  Options to purchase an
aggregate  of only 55,000  shares were  actually  granted.  Twenty  percent were
immediately  exercisable on September 15, 1995 and an additional 20% will become
exercisable  on each of the first  four  anniversaries  of the grant  date.  The
Compensation Committee also granted a nine-year incentive stock option under the
Option Plan with an effective date of September 15, 1995 to the Company's  Chief
Executive  Officer,  Marc Wallach,  to purchase  114,000 shares of the Company's
Common Stock. Mr. Wallach's option becomes  exercisable  according to a schedule
that provides for the most rapid  exercise of the option  without  disqualifying
the option as an incentive  stock option under the Code. All of the options were
granted with an exercise  price of $4.00 per share.  On December  15, 1995,  the
Compensation  Committee  authorized an additional  grant of nine-year  incentive
stock  options to  purchase  45,000  shares to its  officers  and key  employees
pursuant to the Option Plan under the same  conditions as the September 15, 1995
grant,  with an  exercise  price of $5.00 per share.  Options to  purchase  only
40,000 shares were actually  granted.  During 1996, the  Compensation  Committee
granted a nine-year  incentive  stock option to purchase 14,300 shares of Common
Stock to an officer,  with the same vesting  schedule as the 1995 grants  (other
than  to Mr.  Wallach),  and at an  exercise  price  of  $7.00  per  share.  The
Compensation  Committee also granted  non-qualified  five-year  stock options to
purchase an  aggregate  of 12,000  shares to three  consultants,  at an exercise
price of $7.25 per share.  One-half of the options became exercisable on January
1, 1997 and the balance become  exercisable on January 1, 1998. On April 4, 1997
the Compensation  Committee granted an incentive stock option to purchase 10,000
shares of the Company's  Common Stock to an officer of the Company with the same
vesting  schedule as the 1995 grants with an exercise  price of $4.75 per share.
On May 27, 1997 the Compensation  Committee  granted  incentive stock options to
purchase an  aggregate  of 20,000  shares of the  Company's  Common Stock to two
managers of the Company with the same  vesting  schedule as the 1995 grants with
an exercise price of $4.50 per share.

     Options to purchase 4,000 shares were exercised by three  employees  during
1996. The employment of four optionees  holding options to purchase an aggregate
of 60,000 shares  terminated  during 1996.  Of these options to purchase  60,000
shares, options to purchase 42,000 shares terminated unexercised during 1996 and
options to purchase an additional 10,000 shares terminated  unexercised on March
2, 1997.  Options  to  purchase  the  remaining  


                                       20







8,000 shares were exercised. Accordingly, as of the date of this Report, options
to purchase a total of 181,300  shares of Common Stock  granted  pursuant to the
Option Plan remain outstanding.

                                       
PERFORMANCE STOCK ESCROW AND LOCK-IN AGREEMENTS
     All  executive  officers  and  directors  of the  Company  are subject to a
"lock-in"  agreement,  under  which they have  agreed  not to sell or  otherwise
transfer any shares of the  Company's  Common Stock which are held or come to be
held by them for less than the Company's $5.00 initial public offering price. In
addition,  Jennifer Barclay, the founder,  Chairman of the Board of the Company,
has deposited  into escrow  3,495,224 of the  3,486,000  shares of the Company's
Common Stock owned by her. Under the terms of the Escrow  Agreement,  25% of her
shares  shall  become  transferable  on the  sixth,  seventh,  eighth  and ninth
anniversary  dates of November 13, 1995. No transfer of those shares may be made
until  November  13,  2001,  except as follows:  (A) Ms.  Barclay may transfer a
number of her  shares  that,  within any  three-month  period,  would  equal one
percent of the shares of the Company's Common Stock then outstanding; or (B) all
of  the  shares  may  earlier  become  transferable  upon  certification  by the
Company's Chief  Financial  Officer that any of the following has been achieved:
(i) for two  consecutive  fiscal years after  November 13, 1995, the Company has
minimum  annual  earnings  equal to $0.25 per share;  (ii) for five  consecutive
fiscal years after November 13, 1995, the Company has an average  minimum annual
earnings  of $0.25 per share;  (iii) after at least one year from  November  13,
1995,  the Company's  Shares have traded on a United States stock  exchange at a
price of at least of $8.75 per share (adjusted for stock splits, stock dividends
and  recapitalizations)  for at least 90  consecutive  trading days; or (iv) the
Company's  initial  public  offering is  terminated,  and none of the  Company's
registered Common Stock is sold.

1995 NON-EMPLOYEE DIRECTORS' STOCK OPTION PLAN
     In  September  1995,  the Board of Directors  adopted and the  stockholders
approved  the  Company's   Non-Employee   Directors'   Stock  Option  Plan  (the
"Directors' Plan"). The Directors' Plan provides for an annual  nondiscretionary
grant of stock  options to each  director  who is not an employee of the Company
(collectively,  the "Non-Employee Directors"). The annual grant is in lieu of an
annual retainer for service as a member of the Board of Directors.

     A total of 75,000  shares of Common  Stock has been  reserved  for issuance
under the Directors' Plan. On January 1 of each year, each Non-Employee Director
will receive a  nondiscretionary  grant of options to purchase a total amount of
shares of Common Stock equal in value to $7,500,  plus an additional  $2,500 for
each Board of Directors'  committee on which the  Non-Employee  Director serves,
based on the fair  market  value of the Common  Stock on the date of grant.  The
exercise price of options granted under the Directors' Plan will be equal to the
fair  market  value of the Common  Stock on the date of grant,  except  that the
exercise  price shall be one  hundred and ten percent  (110%) of the fair market
value in the case of any person who owns stock  possessing  more than 10% of the
total combined voting power. Options will remain exercisable for nine years from
the date of grant.

     Pursuant to the terms of the Directors' Plan, each of the  two Non-Employee
Directors received grants of nonqualified stock options to purchase 2,500 shares
of Common Stock, at an exercise price of $5.00 per share on January 1, 1996, and
2,700 shares of Common Stock, at an exercise price of $4.63 per share on January
1, 1997.  As of the date of this  Report,  options to purchase a total of 10,400
shares of Common Stock have been granted under the Directors' Plan.

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     The  following  table sets forth certain  information  known to the Company
regarding the beneficial ownership of the Company's Common Stock as of  June 18,
1997 for (i) each  director  and  executive  officer of the  Company;  (ii) each
stockholder  known  by  the  Company  to  own  beneficially  5% or  more  of the
outstanding  shares of its Common Stock; and (iii) all directors and officers as
a group for each class of capital  stock of the  Company.  The Company  believes
that  the  beneficial  owners  of  the  Common  Stock  listed  below,  based  on
information furnished by such owners, have sole investment and voting power with
respect to such shares, subject to community property laws where applicable.




                                       21


<TABLE>
<CAPTION>
                DIRECTORS,                    SHARES
            EXECUTIVE OFFICERS             BENEFICIALLY
           AND 5% STOCKHOLDERS:              OWNED (1)         PERCENTAGE OF COMMON SHARES OUTSTANDING (1):
           ---------------------------------------------      ----------------------------------------------
<S>                                     <C>                       <C>
     Jennifer Barclay.................      3,486,000              75.8%
     c/o Blue Fish Clothing, Inc.
         No. 3 Sixth Street
         Frenchtown, NJ  08825

     Marc Wallach.........                    349,600   (2)         7.5%


     Richard Swarttz .................          2,860   (3)          *

     Jolie Cross Doyle................          4,400   (4)          *

     Megan Doyle......................          1,000   (5)          *

     Dianne Ige.......................          2,000   (6)          *

     Ben Cohen .......................          5,200   (7)          *

     Gary Hirshberg ..................          5,200   (7)          *

     All directors and executive .....      3,856,260   (8)        82.7%
       officers as a group (eight persons)
</TABLE>

     *Less than 1%
     (1)   Pursuant  to the rules of the  Securities  and  Exchange  Commission,
           shares of Common  Stock which an  individual  or group has a right to
           acquire  within  60 days  pursuant  to the  exercise  of  options  or
           warrants  are deemed to be  outstanding  for the purpose of computing
           the  percentage  ownership of such  individual or group,  but are not
           deemed to be outstanding  for the purpose of computing the percentage
           ownership of any other person shown in the table.
     (2)   Consists of 304,000 shares of Common stock owned  beneficially by Mr.
           Wallach and 45,600  shares of Common Stock  issuable upon exercise of
           currently  exercisable  incentive stock options  assuming a five-year
           vesting  schedule but excludes 68,400 shares of Common Stock issuable
           upon  exercise of incentive  stock  options  granted under the Option
           Plan that are not currently exercisable.
     (3)   Consists of 2,860 shares of Common Stock  issuable  upon  exercise of
           currently  exercisable  incentive  stock options but excludes  11,440
           shares of Common Stock  issuable  upon  exercise of  incentive  stock
           options  granted  under  the  Option  Plan  that  are  not  currently
           exercisable.
     (4)   Consists  of 400 shares of Common  stock  owned  beneficially  by Ms.
           Cross Doyle and 4,000 shares of Common Stock  issuable  upon exercise
           of currently  exercisable  incentive stock options but excludes 6,000
           shares of Common Stock  issuable  upon  exercise of  incentive  stock
           options  granted  under  the  Option  Plan  that  are  not  currently
           exercisable.
     (5)   Consists of 1,000 shares of Common Stock  issuable  upon  exercise of
           currently  exercisable  incentive  stock  options but excludes  3,000
           shares of Common Stock  issuable  upon  exercise of  incentive  stock
           options  granted  under  the  Option  Plan  that  are  not  currently
           exerciable.
     (6)   Consists of 2,000 shares of Common Stock  issuable upon  excercise of
           currently  exercisable  incentive  stock  options but excludes  8,000
           shares of Common Stock  issuable  upon  exercise of  incentive  stock
           options  granted  under  the  Option  Plan  that  are  not  currently
           exercisable.
     (7)   Consists of 2,500 shares of Common Stock  issuable  upon  exercise of
           nonqualified options issued under the Directors' Plan
     (8)   Includes an aggregate of 65,860  shares of the Common Stock  issuable
           upon  exercise  of  currently  exercisable  incentive  stock  options
           granted  under  the  Option  Plan and  Directors'  Plan to  executive
           officers and  directors,  but excludes  96,840 shares of Common Stock
           issuable upon exercise of incentive  stock options  granted under the
           Option Plan that are not yet exercisable.

                                       22


ITEM 12.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

LEASE OF FRENCHTOWN RETAIL STORE
    The Company  leases its  Frenchtown  retail  store,  together  with a design
studio  located  above the store,  from David  Barclay,  the father of  Jennifer
Barclay, the Company's Chairman and President, under leases dated April 1, 1991,
and April 11, 1994, respectively. The lease for the retail store, which consists
of 1,267 square feet of selling space,  is for a term of ten years.  The Company
pays approximately  $35,000 in rent on an annual basis for the retail store. The
design studio is leased on a monthly basis for approximately  $900 per month and
consists of 800 square feet.

AGREEMENTS WITH FORMER STOCKHOLDER

      Pursuant to an Agreement dated June 30, 1993, the Company  repurchased all
of the 2,048,696 shares of the Company's Common Stock then owned by Anne Haag, a
former  stockholder  and  officer  of the  Company.  These  shares  were held in
Treasury  by  the  Company  (the  "Treasury  Stock").  Pursuant  to  a  Security
Agreement,   the  Treasury  Stock,   together  with  all  accounts   receivable,
inventories,  work-in-progress,  bank  accounts,  trademarks,  choses in action,
leasehold  interests,  and fixed  assets now or  hereafter  acquired,  served as
collateral to secure the Company's  obligations  under certain  promissory notes
representing the purchase price for Ms. Haag's shares.  The total purchase price
of the  Treasury  Stock was  $230,000,  of which  $162,400  was in the form of a
promissory note due in monthly  installments of $3,140 including  interest at 6%
and maturing in March 1997. The stockholder's  note had an outstanding  balance,
as of  December  31,  1996,  of  $24,557.  The  Company  satisfied  all  of  its
obligations to Anne Haag pursuant to the Agreement and promissory notes on April
5, 1997. On April 20, 1997, the Company  retired the Treasury Stock and returned
it to the status of authorized but unissued shares.

     In addition,  the Company executed a separate  agreement on August 27, 1993
consisting of a Consulting  and  Non-Competition  Agreement  with Ms. Haag which
provided  that the Company  would  retain Ms. Haag for a period of five years to
provide management consulting services to the Company and Ms. Haag agreed not to
compete with the business of the Company during this period of time.  During the
period of the Consulting and Non-Competition  Agreement, Ms. Haag may not engage
in a competitive  business within a twenty-five  (25) mile radius of Frenchtown,
New  Jersey.  Originally,  Ms.  Haag was to be paid a total of  $120,000  over a
period of five years in monthly  installments  of $2,000 through August 1998 for
such  consulting  services,  and $50,000  over a period of five years in monthly
installments  of $833 through  August 1998 for her agreement not to compete.  In
December 1995, the Company agreed with Ms. Haag to accelerate quarterly payments
by $20,000  ($40,000 in the first quarter of 1996) in  anticipation of increased
usage of her consulting contract on a short-term basis. This repayment agreement
is coincident with the existing loan,  consulting,  and non-compete  agreements,
and does not increase the long-term liability of the Company,  but rather repays
these  agreements in an  accelerated  fashion.  See "Certain  Relationships  and
Related  Transactions".  As a result of these accelerated payments, Ms. Haig was
paid in full as of September, 1996.

EMPLOYMENT AGREEMENT WITH MARC WALLACH
     The Company entered into an Employment Agreement with Marc Wallach to serve
as the Company's  General Manager and Chief Operating  Officer effective January
1, 1994, for a period of three years,  subject to termination by the Company for
cause or, by either party,  at any time upon ninety (90) days prior  notice.  On
September 7, 1994, Mr. Wallach was appointed Chief Executive  Officer.  Although
Mr. Wallach's Employment Agreement expired on December 31, 1996, he continues to
work for the Company on the same terms. The Company's Board of Directors intends
to consider an extension of the current Employment Agreement or the execution of
a new one at its  next  meeting.  The  Employment  Agreement  provides  that Mr.
Wallach will be employed by the Company for a period of three years,  subject to
termination by the Company for cause. Mr. Wallach's annual base  compensation is
$105,000  effective  September  1, 1994 and Mr.  Wallach is to receive an annual
bonus of 3% of the Company's net after-tax  profits for each year the Employment
Agreement  remains in effect.  Mr. Wallach will also receive an additional bonus
of 1% of the  Company's  net  after-tax  profits  for  each  of the  five  years
commencing  January 1, 1994 and ending  December  31,  1998,  provided  that Mr.
Wallach  remains  continuously  employed  by the  Company  during this five year
period.  This additional  bonus will be paid by the Company in five equal annual
installments  commencing  on January 1, 1999.  Mr.  Wallach is also  entitled to
participate in the Company's employee benefit plans. Mr. Wallach is also subject
to certain  non-disclosure  covenants  and has  agreed  not to compete  with the
Company  during  the  term  of  the  Employment  Agreement  and  for  two  years
thereafter.  Effective  September 15, 1995, in connection with an  understanding
Mr.  Wallach  reached with Ms.  Barclay in September 1994 regarding the terms of
his  service


                                       23


as Chief Executive Officer, the Company granted to Mr. Wallach 304,000 shares of
Common Stock in  consideration  for services  rendered.  In connection with this
stock grant, Ms. Barclay  contributed  304,000 shares of her Common Stock to the
Company and Ms.  Barclay,  Mr. Wallach and the Company entered into a Restricted
Stock Agreement. Pursuant to this Agreement, all of Mr. Wallach's 304,000 shares
are subject to purchase by the Company for a total consideration of $1.00 in the
event that Mr.  Wallach  voluntarily  terminates his employment or is terminated
for cause by the Company  prior to September  16, 1997.  The Company  recorded a
compensation  expense charge of $873,309 in 1995,  representing  the fair market
value for the Common  Stock plus a bonus to Mr.  Wallach to cover  income  taxes
payable in connection with the stock grant. The Company also granted a nine-year
incentive  stock option to Mr.  Wallach  pursuant to the Option Plan to purchase
114,000  shares of the Company's  Common Stock at an exercise price of $4.00 per
share. This option becomes exercisable according to a schedule that provides for
the most rapid exercisability  permitted under the Internal Revenue Code without
disqualifying the incentive stock option.

DISTRIBUTION OF S CORPORATION EARNINGS AND LOAN FROM STOCKHOLDER
     On September 11, 1995, the Company's then sole stockholder Jennifer Barclay
requested a withdrawal of $450,000 of the taxed but  undistributed S corporation
earnings. Ms. Barclay received this distribution on January 2, 1996. Ms. Barclay
has loaned these funds back to the Company on an unsecured basis and the Company
issued her a  promissory  note in the  principal  amount of $450,000 and bearing
interest of 7% per annum, payable monthly. The principal amount of the note will
be payable upon demand by Ms. Barclay, subject to the following limitations upon
repayment:  (i) the maximum  amount of principal that the Company is required to
pay in any 3-month  period is $50,000 and in any  12-month  period is  $100,000;
(ii) the Company is not required to make any  repayments  of principal  when its
current assets to current liabilities ratio as set forth in its latest quarterly
balance  sheet is below  1.0,  excluding  liabilities  related  to  amounts  due
pursuant to the note;  and (iii) no repayment  of principal  will be paid in the
event  that  a  disinterested  majority  of the  Company's  Board  of  Directors
determines  that it is not advisable to make a repayment of principal based upon
the  Company's  then  current  cash  flow  or  liquidity  needs.   Although  the
restrictions  imposed on  repayment  were  designed to protect the Company  from
experiencing  liquidity  problems,  no assurance  can be given that a demand for
repayment by Ms.  Barclay will not result in a shortage of cash available to the
Company for operations.

     The Company believes the foregoing  transactions  were fair and on terms no
less  favorable to the Company than could be obtained  from  unaffiliated  third
parties.  The Bylaws of the  Company  provide  that  contracts  or  transactions
between the Company and any of its  officers or  directors  shall not be void or
voidable  solely for that reason,  or solely  because the director or officer is
present  at or  participates  in the  meeting  of the  Board of  Directors  that
authorizes  the  contract or  transaction,  or solely  because his, her or their
votes are counted for that purpose,  if (i) the contract or  transaction is fair
as to the Company as of the time it is  authorized,  approved or ratified by the
Board of Directors  or the  stockholders,  or (ii) the material  facts as to the
relationship  or interest are  disclosed to or are known either by (a) the Board
of  Directors  and the Board  authorizes  the  contract  or  transaction  by the
affirmative votes of a majority of the  disinterested  directors even though the
disinterested directors are less than a quorum; or (b) the stockholders entitled
to vote thereon and the contract or transaction is specifically approved in good
faith by vote of those stockholders.



ITEM 13. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

     (A)  FINANCIAL STATEMENTS.  The financial statements required to be 
        filed by Item 8 herewith are as follows:
     Index to Financial Statements                                         F-1
     Report of Independent Public Accountants - Arthur Andersen LLP        F-2
     Balance Sheets at December 31, 1996                                   F-3
     Statements of Operations for the years ending                       
          December 31, 1995 and 1996                                       F-4
     Statements of Stockholders' Equity for the years                    
          ending December 31, 1995 and 1996                                F-5
     Statements of Cash Flows for the years ending                       
          December 31, 1995 and 1996                                       F-6
     Notes to Financial Statements                                         F-7
                                                                      
     (B) EXHIBITS  AND REPORTS ON 8-K.  The exhibits  listed below were filed on
     September 27, 1995  pursuant to Item 601 of  Regulation  S-B as part of the
     Registration  Statement  on  Form  SB-2,  on  November  6,  1995 as part of
     Amendment  No. 1 thereto,  on November 13, 1995 as part of Amendment  No. 2
     thereto,  on December 27, 1995 as part of Form  10-QSB,  on May 20, 1996 as
     part of Form  10-QSB,  or on  March  31,  1997 as part of Form  10-KSB.  No
     Reports on Form 8-K were filed with the Commission  during the last quarter
     of 1996.


        Exhibit
        Number                               Description
        ------                               -----------

        2.1(a)   Articles  of Merger  merging  Blue Fish  Clothing,  Inc.  a New
                 Jersey  corporation,  and Blue Fish  Taos,  Inc.,  a New Mexico
                 corporation   with  and  into  Blue  Fish  Clothing,   Inc.,  a
                 Pennsylvania corporation, dated September 6, 1995

        2.1(b)   Certificate of Merger  merging Blue Fish  Clothing,  Inc. a New
                 Jersey  corporation,  and Blue Fish  Taos,  Inc.,  a New Mexico
                 corporation   with  and  into  Blue  Fish  Clothing,   Inc.,  a
                 Pennsylvania corporation, dated September 6, 1995

        2.1(c)   Merger  Agreement and Irrevocable  Appointment of the Secretary
                 of State of New Mexico as Agent for Service of  Process,  dated
                 September 8, 1995

        3.1      Articles of Incorporation

        3.2      Bylaws, as amended

        4.1      Specimen Stock Certificate

        4.2      Excerpts  from  Registrant's  Bylaws  defining  the  rights  of
                 security holders

        10.1     Employment  Agreement  between the  Registrant and Marc Wallach
                 effective as of January 1, 1994

        10.2     1995 Stock Option Plan, as amended

        10.2(a)  Form of Stock  Option  Grant  and  Nondisclosure/Noncompetition
                 Agreement

        10.3     1995 Non-Employee Directors' Stock Option Plan, as amended

        10.4     401(k) Plan

        10.5     Restricted Stock Agreement by and among Marc Wallach,  Jennifer
                 Barclay and the Registrant dated September 15, 1995

        10.6     Agreement  for Purchase and Sale of Shares by and among Anne F.
                 Haag,  Blue Fish Clothing,  Inc. and Blue Fish Taos, Inc. dated
                 June 30, 1993

        10.6(a)  Promissory  Note dated August 27, 1993 in the principal  amount
                 of $162,400 by and  between  the  Registrant  as Maker and Anne
                 Haag as Payee

        10.6(b)  Resignations  of Anne Haag dated  August 27, 1993 as  Director,
                 Officer and employee of Blue Fish Clothing,  Inc. and Blue Fish
                 Taos, Inc.

        10.6(c)  General Releases dated August 27, 1993 executed by Anne Haag in
                 favor of the Registrant

        10.6(d)  Security  Agreement  dated  August 27,  1993 by and between the
                 Registrant as Debtor and Anne Haag as Secured Party

        10.6(e)  Consulting and Non-Competition Agreement dated as of August 27,
                 1993 by and between the Registrant and Anne Haag

        10.7     Lease  Agreement  between  David M. Barclay and the  Registrant
                 dated April 1, 1991

        10.8     Lease Agreement  between Frederick A. Krause and the Registrant
                 dated July 1, 1993, as amended

        10.9     Lease  Agreement  between  T.H.  McElvain  Oil  &  Gas  Limited
                 Partnership  and the  Registrant  dated October 24, 1994 (Santa
                 Fe, New Mexico Retail Store)

        10.10    $500,000 Line of Credit Agreement between  Flemington  National
                 Bank and Trust  Company and the  Registrant  dated  February 9,
                 1995

        10.10(a) Loan and  Security  Agreement  and  $1,000,000  Line of  Credit
                 Agreement  between  Carnegie Bank NA and the  Registrant  dated
                 February 9, 1996

        10.11    Business Manager  Receivable  Purchase Line of Credit Agreement
                 between  Flemington  National  Bank and Trust  Company  and the
                 Registrant dated February 9, 1994

        10.11(a) Business Manager  Receivable  Purchase Line of Credit Agreement
                 between  Carnegie Bank NA and the Registrant  dated February 9,
                 1996

        10.12    Revised Forms of Subscription and Share Purchase Agreement

        10.13    Impound  Agreement between  Flemington  National Bank and Trust
                 Company and the Registrant dated September 19, 1995

        10.13(a) Impound Account Fee Agreement between Flemington  National Bank
                 and Trust Company and the Registrant dated September 19, 1995

        10.13(b) Custody  Agreement between  Flemington  National Bank and Trust
                 Company and the Registrant dated September 19, 1995 as amended

        10.13(c) Acknowledgment  Letter to  Flemington  National  Bank and Trust
                 Company and the Registrant dated September 19, 1995

        10.13(d) Acknowledgment  Letter  between  United  Jersey Bank  (formerly
                 Flemington  National Bank and Trust Company) and the Registrant
                 dated March 5, 1996

        10.14    Key Person Life Insurance Policies, National Life of Vermont

        10.15    Marketing  Agreement between Drew Field/Direct Public Offerings
                 and the Registrant dated April 12, 1995

        10.16    Lease Agreement between the Ruth Group and the Registrant dated
                 as of December 1, 1995

        10.17    Form  of  Escrow  Agreement  by  and  between  the  Registrant,
                 Jennifer Barclay and Flemington National Bank

        10.18    Form of Lock-in  Agreement  for the Shares of the  Registrant's
                 Common Stock

        10.19    Lease  agreement  dated  November  15,  1995  with G.  Holdings
                 Corporation and Blue Fish Clothing, Inc.

        10.20    Letter agreement dated December 6, 1995 with Anne Haag and Blue
                 Fish Clothing, Inc.

        10.21    Promissory  Note between the  Registrant  and Jennifer  Barclay
                 dated January 2, 1996

        10.22    Lease Agreement  between Tangmere Ltd. and the Registrant dated
                 January 5, 1996

        10.23    Employment  Agreement by and between the Registrant and Richard
                 Swarttz dated April 29, 1995, and effective May 20, 1996

        10.24    Lease  Agreement  dated  December 16, 1996, between  William I.
                 Roberts and the Registrant

        10.25    Lease  Agreement  dated  December  19, 1996, between 150 Greene
                 Street Corp. and the Registrant

        27       Financial Data Schedule


                            BLUE FISH CLOTHING, INC.


                          INDEX TO FINANCIAL STATEMENTS




                                                                          PAGE



REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS                                   F-2


BALANCE SHEET                                                              F-3


STATEMENTS OF OPERATIONS                                                   F-4


STATEMENTS OF STOCKHOLDERS' EQUITY                                         F-5


STATEMENTS OF CASH FLOWS                                                   F-6


NOTES TO FINANCIAL STATEMENTS                                              F-7



                                      F-1








                  REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS



To Blue Fish Clothing, Inc.:

We have audited the  accompanying  balance sheet of Blue Fish Clothing,  Inc. (a
Pennsylvania corporation) as of December 31, 1996, and the related statements of
operations, stockholders' equity and cash flows for each of the two years in the
period  ended   December  31,  1996.   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  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion,  the financial  statements  referred to above present fairly, in
all material respects, the financial position of Blue Fish Clothing,  Inc. as of
December 31, 1996, and the results of its operations and its cash flows for each
of the two years in the period  ended  December  31, 1996,  in  conformity  with
generally accepted accounting principles.





Philadelphia, Pa.
    March 4, 1997


                                      F-2




                            BLUE FISH CLOTHING, INC.


                             BALANCE SHEET (Note 1)

                                DECEMBER 31, 1996

<TABLE>
<CAPTION>

                                   ASSETS
<S>                                                                                             <C>            
CURRENT ASSETS:
    Cash and cash equivalents                                                                   $     1,887,994
    Restricted cash                                                                                      40,346
    Receivables, net of allowance of $33,000                                                            526,157
    Inventories                                                                                       3,005,717
    Other current assets                                                                                 63,013
    Deferred income taxes                                                                               222,119
                                                                                                ---------------
                Total current assets                                                                  5,745,346
PROPERTY AND EQUIPMENT, net of accumulated depreciation and amortization of
    $472,343                                                                                          1,113,411
OTHER ASSETS:
    Noncompete and consulting agreement, net                                                             56,667
    Security deposits                                                                                   197,884
    Deferred income taxes                                                                                15,876
                                                                                                ---------------
                                                                                                $     7,129,184
                                                                                                ===============

                    LIABILITIES AND STOCKHOLDER'S EQUITY
CURRENT LIABILITIES:
    Line of credit                                                                              $     1,000,000
    Current portion of long-term debt                                                                   193,698
    Receivable purchase line of credit                                                                  403,464
    Accounts payable                                                                                    849,667
    Accrued expenses                                                                                    432,099
                                                                                                ---------------
                Total current liabilities                                                             2,878,928
                                                                                                ---------------
LONG-TERM DEBT                                                                                          482,982
                                                                                                ---------------
COMMITMENTS AND CONTINGENCIES (Note 13)
STOCKHOLDERS' EQUITY:
    Common stock, $.001 par value, 11,000,000 shares authorized, 6,647,896
       shares issued and 4,599,200 shares outstanding                                                     6,648
    Additional paid-in capital                                                                        4,027,766
    Retained earnings (deficit)                                                                         (37,140)
    Less- Treasury stock, 2,048,696 common shares, at cost                                             (230,000)
                                                                                                ---------------
                Total stockholders' equity                                                            3,767,274
                                                                                                ---------------
                                                                                                $     7,129,184
                                                                                                ===============
</TABLE>


         The accompanying notes are an integral part of this statement.

                                      F-3






                            BLUE FISH CLOTHING, INC.


                        STATEMENTS OF OPERATIONS (Note 1)


<TABLE>
<CAPTION>

                                                           Year Ended December 31
                                                     -----------------------------
                                                           1995              1996
                                                     ---------------      ----------


<S>                                                  <C>               <C>           
SALES                                                $     9,657,842   $   11,610,855

COST OF GOODS SOLD                                         4,257,813        5,371,707
                                                     ---------------   --------------

                Gross margin                               5,400,029        6,239,148

OPERATING EXPENSES                                         4,593,779        6,356,986

COMPENSATION RELATING TO
   STOCK GRANT                                               873,309               --
                                                     ---------------   --------------

                (Loss) from operations                       (67,059)        (117,838)

INTEREST EXPENSE, net of interest income
   of $4,275 and $90,062                                     167,127          157,297
                                                     ---------------   --------------

(LOSS) BEFORE INCOME TAXES                                  (234,186)        (275,135)

INCOME TAX PROVISION (BENEFIT)                                13,527         (237,995)
                                                     ---------------   --------------

NET (LOSS)                                           $      (247,713)  $      (37,140)
                                                     ===============   ==============
PRO FORMA DATA (Note 3)
    (unaudited):
       Historical (loss) before
          income taxes                               $      (234,186)  $     (275,135)
       Pro forma income tax (benefit)                        (72,363)         (81,990)
                                                     ---------------   --------------

PRO FORMA NET (LOSS)                                 $      (161,823)  $     (193,145)
                                                     ===============   ==============
PRO FORMA NET (LOSS) PER SHARE                       $         (.04)   $         (.04)
                                                     ==============    ==============

PRO FORMA WEIGHTED AVERAGE
    SHARES OUTSTANDING                                     3,800,000        4,362,366
                                                     ===============   ==============
</TABLE>





        The accompanying notes are an integral part of these statements.


                                      F-4






                            BLUE FISH CLOTHING, INC.


                   STATEMENTS OF STOCKHOLDERS' EQUITY (NOTE 1)



<TABLE>
<CAPTION>


                                                            Additional
                                              Common          Paid-in        Retained       Treasury
                                               Stock          Capital        Earnings         Stock           Total
                                               -----          -------        --------         -----           -----
<S>                                             <C>             <C>            <C>             <C>             <C>
BALANCE, JANUARY 1, 1995                       $5,849         $23,151       $1,101,574     $(230,000)       $900,574
 
  Stockholder distributions,
    $0.037 per share                             --             --           (142,042)         --           (142,042)
  Stock contribution to 
    Company                                      --           480,320             --        (480,320)           --
  Stock grant (Note 10)                          --             --                --         480,320         480,320
  Net (loss)                                     --             --           (247,713)         --           (247,713)
                                               -------        --------       ---------      ---------       ---------

BALANCE, DECEMBER 31, 1995                      5,849         503,471         711,819       (230,000)        991,139

  Sale of common stock in initial
    public offering, net of
    expenses                                      787       3,214,597             --            --         3,215,384
  S corporation distribution                     --             --           (454,109)          --          (454,109)
  Reclassification of S
    corporation earnings                         --           257,710        (257,710)          --              --
  Exercise of common stock
    options                                        12          51,988             --            --            52,000
  Net (loss)                                     --             --            (37,140)          --           (37,140)
                                               -------        --------       ---------      ---------       ---------

BALANCE, DECEMBER 31, 1996                     $6,648      $4,027,766        $(37,140)     $(230,000)      $3,767,274
                                               =======     ===========        ========      =========       =========      

</TABLE>
    




        The accompanying notes are an integral part of these statements.


                                      F-5



                            BLUE FISH CLOTHING, INC.


                        STATEMENTS OF CASH FLOWS (Note 1)


<TABLE>
<CAPTION>

                                                                                        Year Ended December 31
                                                                                      --------------------------
                                                                                          1995           1996
                                                                                      -----------     ----------
<S>                                                                                  <C>            <C>         
OPERATING ACTIVITIES:
    Net (loss)                                                                       $  (247,713)   $   (37,140)
    Adjustments to reconcile net (loss) to net cash
       provided by (used in) operating activities-
         Non-cash stock grant                                                            480,320            --
         Deferred tax benefit                                                                --        (237,997)
         Depreciation and amortization                                                   167,192        214,776
         Provision for losses on accounts receivable                                      93,397         (1,452)
         (Gain) on disposal of property and equipment                                     (1,918)            --
         (Increase) decrease in assets-
             Accounts receivable                                                        (183,771)       293,361
             Inventories                                                                (561,144)      (978,729)
             Other current assets                                                          4,050        (42,329)
             Security deposits                                                            (9,920)      (177,681)
         Increase (decrease) in liabilities-
             Accounts payable                                                            367,098        109,115
             Accrued expenses                                                           (163,068)       105,812
             Accrued bonus                                                               402,989       (402,989)
                                                                                     -----------    -----------
              Net cash provided by (used in) operating activities                        347,512     (1,155,253)
                                                                                     -----------    -----------
INVESTING ACTIVITIES:
    Proceeds from sale of property and equipment                                           7,639             --
    Payments for purchases of property and equipment                                    (295,223)      (425,476)
                                                                                     -----------    -----------
              Net cash used in investing activities                                     (287,584)      (425,476)
                                                                                     -----------    -----------
FINANCING ACTIVITIES:
    Net borrowings on line of credit                                                     300,000        500,000
    Increase (decrease) in receivable purchase line of credit, net                       131,431       (406,699)
    Borrowing on long-term debt                                                           63,313        450,000
    Repayments on long-term debt                                                         (88,387)      (173,766)
    Payments on capital lease obligations                                                    --         (24,052)
    Stockholder distributions paid                                                      (419,381)      (556,266)
    Net proceeds from initial public offering                                           (246,590)     3,461,974
    Exercise of employee stock options                                                       --          52,000
                                                                                     -----------    -----------
             Net cash provided by (used in) financing activities                        (259,614)     3,303,191
                                                                                     -----------    -----------
NET INCREASE (DECREASE) IN CASH AND
   CASH EQUIVALENTS                                                                     (199,686)     1,722,462
CASH AND CASH EQUIVALENTS,
   BEGINNING OF PERIOD                                                                   405,564        205,878
                                                                                     -----------    -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD                                             $   205,878    $ 1,928,340
                                                                                     ===========    ===========
CASH PAID DURING THE PERIOD FOR:
    Interest                                                                         $   168,434    $   244,438
                                                                                     ===========    ===========

    Income taxes                                                                     $    13,527    $     3,452
                                                                                     ===========    ===========

</TABLE>



        The accompanying notes are an integral part of these statements.


                                      F-6






                            BLUE FISH CLOTHING, INC.


                          NOTES TO FINANCIAL STATEMENTS

                                DECEMBER 31, 1996



1. COMPANY BACKGROUND AND BASIS OF PRESENTATION:

Business

Blue Fish Clothing, Inc. is a designer, manufacturer, wholesaler and retailer of
specialty  block-printed  merchandise  sold to upscale  department and specialty
stores  throughout  the United States and through four  Company-owned  specialty
stores.

Basis of Combination

The financial statements of Blue Fish Clothing, Inc. (the "Company") include the
accounts of Blue Fish  Clothing,  Inc.  ("Blue  Fish") and Blue Fish Taos,  Inc.
("Taos"),  which were  wholly  owned and  managed by the same  stockholder.  All
material  intercompany   transactions  and  balances  have  been  eliminated  in
combination. In connection with the consummation of the Company's initial public
offering  (the  "Offering"),  Blue Fish and  Taos,  were  merged  into Blue Fish
Clothing, Inc. (a newly-formed Pennsylvania corporation) in September 1995. This
combination has been accounted for similar to a pooling-of-interest  whereby all
historical financial statements have been combined.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

Use of Estimates

The preparation of financial  statements in conformity  with generally  accepted
accounting principles requires management to make estimates and assumptions that
affect  the  reported  amounts  of assets  and  liabilities  and  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.
Actual results could differ from those estimates.

Cash and Cash Equivalents

The Company  considers  all highly  liquid debt  instruments  purchased  with an
original  maturity  of three  months or less,  amounts due from bank card sales,
restricted cash and amounts in transit from bank for factored  receivables to be
cash equivalents for the purpose of determining cash flows.


                                      F-7




Accounts Receivable

Accounts  receivable  are  transferred  with  recourse  to  a  third  party  for
processing  under a business  manager  receivable  purchase line of credit.  The
Company borrows against these receivables for working capital purposes (see Note
7).

Inventories

Inventories  are stated at the lower of cost  (first-in,  first-out)  or market.
Inventories manufactured by the Company include the cost of materials,  freight,
direct labor and manufacturing overhead.

Property and Equipment

Property and  equipment are stated at cost.  Depreciation  and  amortization  is
calculated using the straight-line method based on the estimated useful lives of
the assets as follows:

            Automobiles                      3-5 years
            Fixtures and equipment           5-7 years
            Leasehold improvements           Lesser of useful life or lease term

Repair and  maintenance  costs are charged to  operations,  while  additions and
betterments are capitalized.  The cost and related  accumulated  depreciation of
assets sold or retired are eliminated from the accounts, and any gains or losses
are reflected in operations.

Preopening Costs

Costs  incurred prior to opening a store are charged to expense over a six-month
period after the store commences  operations.  Preopening costs of approximately
$54,200 are included in other current assets at December 31, 1996.

Accrued Expenses

Accrued  expenses  include  payroll,  bonus and related  costs of $278,464 as of
December 31, 1996.

Income Taxes

Effective  January 1, 1993,  the Company  adopted  the  Statement  of  Financial
Accounting Standards No. 109 (SFAS No. 109),  "Accounting for Income Taxes." The
effect of this  statement is to take  principally  a balance  sheet  approach to
providing deferred income taxes.  Deferred tax balances will be adjusted through
the  income  statement  to  reflect  the  current  year  estimate  of future tax
payments. In May 1996, the Company elected to terminate its S Corporation status
and become a C Corporation.  A deferred tax asset of approximately  $174,000 was
recorded by the Company in May 1996, to record the future tax benefits that will
accrue to the C Corporation for tax differences  that existed at the date of the
C Corporation election.



                                      F-8






Prior to May 1996, the Company had elected not to be taxed as a corporation  and
the shareholders had consented to include the income or loss in their individual
federal and state  income tax returns.  In 1995 and 1996,  the Company made cash
distributions  to shareholders  for their estimated tax liability.  Prior to May
1996,  the Company  recorded a provision for state income taxes for those states
that did not recognize or partially recognize S Corporations.

Major Customers and Concentration of Credit Risk

The Company has one  significant  customer that accounted for 18.9% and 10.4% of
net sales for the years ended  December  31, 1995 and 1996,  respectively.  This
same  customer  accounted  for 6.3% of net accounts  receivable  at December 31,
1996.

The Company  manufactures and retails  specialty  block-printed  merchandise and
accessories,  and has four specialty  stores located in Frenchtown,  New Jersey;
Taos and Santa Fe, New Mexico and Austin, Texas. In addition,  the Company sells
manufactured  merchandise  to other  retailers.  The  Company  grants  credit to
substantially  all its  wholesale  customers,  the  majority  of whom are in the
apparel  industry.  Prior to December 31,  1996,  the decision to close the Taos
store was made and appropriate accruals recorded.

Stock Split

In September 1995, the Board of Directors authorized a 3304.34783-for-1 split of
the Company's common stock and authorized  11,000,000  shares of common stock at
$.001  par  value.  All  common  stock  and per share  amounts  included  in the
accompanying  financial  statements  have been  adjusted  retroactively  to give
effect to this split.

Net Income (Loss) Per Share

Net income (loss) per share is calculated  utilizing the treasury  stock method.
All per share amounts are based upon weighted average common shares  outstanding
during the period  including  the dilutive  effect of common  stock  options and
warrants, if any.

Adoption of New Accounting Standards

In March 1995, the Financial  Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 121, "Accounting for the Impairment
of Long-Lived  Assets and for Long-Lived Assets to be Disposed Of." SFAS No. 121
requires that long-lived assets and certain identifiable intangibles be reviewed
for impairment  whenever events or changes in  circumstances  indicate that full
recoverability  is  questionable.  Management  evaluates the  recoverability  of
goodwill and other  long-lived  assets and several factors used in the valuation
including,  but not limited to,  management's  future  operating  plans,  recent
operating results and projected cash flows. The impact of adopting this SFAS had
no impact on the Company's operating results.

In October  1995,  the FASB  issued SFAS No. 123,  "Accounting  for  Stock-Based
Compensation,"  which the Company was required to adopt in the first  quarter of
fiscal 1996.  SFAS No. 123  establishes  accounting and disclosure  requirements
using  a  fair-value-based   method  of  accounting  for  stock-based   employee
compensation  plans.  Under SFAS No. 123,  the Company may either  adopt the new
fair-value-based accounting method or

                                      F-9





continue the  intrinsic-value-based  method under APB 25,  "Accounting for Stock
Issued to  Employees,"  and provide pro forma  disclosures  of net  earnings and
earnings  per share as if the  accounting  provisions  of SFAS No.  123 had been
adopted.  The Company adopted only the disclosure  requirements of SFAS No. 123;
therefore,  such adoption had no effect on the Company's  consolidated operating
results.

3. PUBLIC OFFERING AND PRO FORMA INFORMATION:

Public Offering

On May 15, 1996,  the Company  sold  787,200  shares of common stock in a public
offering  at a price of $5 per share.  The  offering  was  registered  under the
Securities Act of 1933. Net proceeds to the Company,  after  deducting  offering
expenses,  were  approximately  $3,215,000.  Upon the  closing of the  offering,
offering costs deferred prior to the offering were reclassified to stockholders'
equity and the Company  converted to C Corporation  status and recorded deferred
income tax assets of $173,566  (see Note 12). All S  Corporation  earnings  were
reclassified to additional paid-in capital.

Pro Forma Income Statement Data

For informational  purposes,  the accompanying  statements of operations for the
two years in the period ended December 31, 1996,  include an unaudited pro forma
adjustment for the income taxes that would have been recorded if the Company had
not been an S Corporation, based on the tax laws in effect during the respective
period.

The differences  between the federal statutory income tax rate and the pro forma
income tax rate for all periods presented are as follows:

                                                                Year Ended
                                                                December 31
                                                        ------------------------
                                                            1995          1996
                                                        ----------    ----------

        Federal statutory tax rate                         (34.0)%       (34.0)%
        State income taxes, net of federal benefit          (5.0)         (5.1)
        Non-deductible expenditures                          4.7           4.2
        Valuation allowance for state net
          operating losses                                   --            5.1
        Other                                                3.4            --
                                                        --------      --------
                                                           (30.9)%       (29.8)%
                                                        ========      ========  

Pro Forma Net (Loss) Per Share

Pro forma net (loss) per share was  calculated  by dividing pro forma net (loss)
by the weighted  average  number of shares of common stock  outstanding  for the
respective periods, adjusted for the dilutive effect of common stock equivalents
that consist of stock options.  Pursuant to the  requirements  of the Securities
and Exchange  Commission,  common stock issued by the Company  during the twelve
months  immediately  preceding the initial public  offering,  plus the number of
common  equivalent  shares that were  authorized and will become issuable during
the same  period  pursuant  to the  grant of  common  stock  options,  have been
included in the calculation of the shares used in

                                      F-10





computing  pro forma net  (loss) per share as if they were  outstanding  for all
periods  presented using the treasury stock method and the public offering price
of $5.00 per share.

4. STATEMENT OF CASH FLOWS INFORMATION:

The following  noncash  transactions  are  reflected in the Company's  financial
statements as noted below:

                                                       Year Ended December 31
                                                   ---------------------------- 
                                                        1995           1996
                                                    ------------    ---------

Stockholder distributions declared but not paid     $   102,157     $      --
Deferred offering costs incurred but not paid           266,180            --
Capital lease obligation                                     --        125,469

5. INVENTORIES:

                                                         December 31
                                                             1996
                                                         ------------
           Raw materials                                $     304,361
           Work-in-process                                    709,302
           Finished goods                                   1,992,054
                                                        -------------
                                                        $   3,005,717
                                                        =============

6. PROPERTY AND EQUIPMENT:

Property and equipment is made up of the following at December 31, 1996:


           Automobiles                                   $      58,303
           Fixtures and equipment                            1,038,944
           Leasehold improvements                              488,507
                                                         -------------

                                                             1,585,754
           Less- Accumulated depreciation
               and amortization                               (472,343)
                                                         -------------
                    Net property and equipment           $   1,113,411
                                                         =============

Depreciation  and  amortization  expense was $133,192 and $180,776 for the years
ended December 31, 1995 and 1996, respectively.



                                      F-11





7. FACTORING AND FINANCING AGREEMENTS:

During 1995, the Company utilized a business manager receivable purchase line of
credit agreement with a bank which permitted  borrowings against  receivables of
up to $1  million  for a term of one year.  On  February  9, 1996,  the  Company
entered  into a one-year  business  manager  agreement  with another  bank.  The
agreement  provides for the assignment of all  receivables  held by the previous
bank up to $1 million and was increased to $1.5 million in July 1996.  This line
has been extended through December 1997.

Borrowings are collateralized by a stockholder guarantee and a first lien on all
accounts receivable,  inventory,  equipment,  fixtures and deposit accounts. The
Company can borrow up to 90% of these  receivables.  This amount can be adjusted
at the discretion of the bank. The remainder is held in escrow until  collected.
Restricted cash of $40,346 was held in escrow at December 31, 1996.  Interest is
charged  at  1.75% of all  receivables  assigned  to the  bank  for  collection.
Interest  expense under these  agreements was $107,247 and $116,681  during 1995
and 1996, respectively. The Company is responsible to reimburse the bank for all
uncollectible  accounts  previously  assigned  to the bank for  collection.  The
accounts  receivable  assigned to the bank for collection  and amounts  borrowed
from the bank are included in accounts  receivable and receivable  purchase line
of credit, respectively, until collected by the bank.

8. LINE OF CREDIT:

In December  1994,  the Company  obtained a $300,000 line of credit from a bank.
Borrowings on the facility  bore interest at prime plus .75%. In February  1995,
the Company  entered into a new agreement with the bank for a $500,000 line that
expired March 9, 1996, and the $300,000 line of credit was repaid. Borrowings on
this new facility bore interest at prime plus .75% (9.25% at December 31, 1995).
On February 9, 1996, the Company  entered into a $1 million  revolving note with
the bank  for the  purchase  of  inventory.  Borrowings  are  limited  to 50% of
finished goods and 25% of work in process inventory  levels.  Borrowings on this
facility bear interest at prime plus .75% (9.0% at December 31, 1996).  Interest
is payable  monthly and principal is payable on demand or in full on February 9,
1997, if no demand has been made. In 1997, this line was extended  through April
1998.

At December 31, 1996,  $1,000,000 was  outstanding  under this line and interest
expense under these lines of $44,700,  and $62,239 was incurred during 1995, and
1996,  respectively.  The weighted average interest rate was 9.59%, and 9.18% in
1995 and 1996,  respectively.  See Note 7 for  guarantee and  collateral,  also,
applicable to this line of credit.



                                      F-12


9. LONG-TERM DEBT:


                                                                  December 31
                                                                     1996
                                                                  ----------

    Note payable to a current stockholder of the Company        $    450,000
                                                                
    Note payable to a former stockholder of the Company, for
        treasury stock purchased, due in 1997                         24,557
                                                                     

    Obligations under capital leases                                 152,537

    Other                                                             49,586
                                                                  ----------

                                                                     676,680

    Less-  Current portion                                           193,698
                                                                  ----------
               Long-term debt, net of current portion           $    482,982
                                                                ============


In January 1996, the Company's  majority  stockholder  withdrew  $450,000 of the
taxed but  undistributed S corporation  earnings.  The stockholder  loaned these
funds  back to the  Company  on an  unsecured  basis and has waived the right to
receive any further  distributions  of S corporation  earnings other than to pay
taxes on S  corporation  earnings.  The  Company  borrowed  these funds from the
stockholder  and issued a promissory  note in the amount of $450,000 and bearing
interest at 7%. Interest is payable monthly,  and the principal is due on demand
subject  to certain  limitations,  as  defined,  including  limiting  payment to
$100,000 in any 12-month period.

The Company has entered into capital leases for various pieces of equipment that
expire in 1998 and 1999, with aggregate  monthly  payments of $6,070 at December
31,  1996.  The  capitalized  costs of $206,780  are  included  in fixtures  and
equipment  with  accumulated  amortization  of $51,615 at December 31, 1996. The
present value of the minimum lease payments is as follows:

                                                             December 31
                                                                 1996
                                                            ------------

     Total minimum lease payments                           $    184,424
     Less-  Amount representing interest                         (31,887)
                                                            ------------

          Present value of net minimum lease payments       $    152,537
                                                            ============



                                      F-13







Maturities as of December 31, 1996, are as follows:

                                               Long-Term         Capital
                                                Debt             Leases
                                             ------------      ----------- 

                 1997                        $   139,765       $    53,933
                 1998                            113,911            58,659
                 1999                            111,377            39,945
                 2000                            109,090               --
                 2001                             50,000               --
                                             ------------      ----------- 

                                             $   524,143       $   152,537
                                             ===========       ===========

10. STOCKHOLDERS' EQUITY:

In September  1995, the sole  stockholder  contributed  304,000 shares of common
stock to the Company,  and the Company granted 304,000 shares of common stock to
an officer.  The market value of the common stock on the date of grant was $1.58
per share, which resulted in $480,320  compensation expense charged. The Company
also recorded an increase in paid-in capital for the  compensation  expense.  In
addition, the Company agreed to reimburse the officer for any and all taxes that
may be imposed as a result of this grant.  This  reimbursement  of $392,989  was
deemed additional  compensation  expense at the date of grant. The reimbursement
was paid in 1996. All shares granted were restricted and are subject to purchase
by the  Company  for  total  consideration  of $1.00 in the  event  the  officer
voluntarily  terminates  his  employment or is  terminated  for cause within two
years.

11. SAVINGS PLAN AND STOCK OPTIONS PLAN:

In March  1995,  the  Company  established  the Blue  Fish  401(k)  Savings  and
Investment  Plan.  All employees  who have  attained age 21 and completed  1,000
hours of service  in a plan year are  eligible  to  participate.  Employees  can
contribute  up to 10% of their  compensation  subject  to  certain  limitations.
Employer  contributions  are  discretionary.  During 1995 and 1996,  the Company
accrued $43,722 and $45,667 as estimated contributions.

In September 1995, the Company  adopted the Blue Fish Clothing,  Inc. 1995 Stock
Option  Plan. A total of 570,000  shares of common stock have been  reserved for
issuance to the Company's employees, officers, directors (who are employees) and
consultants.  Qualified  and  nonqualified  stock options will be granted at the
discretion of the Compensation  Committee  (subject to certain plan limitations)
at exercise  prices at least equal to the fair market  value of the common stock
for qualified  incentive stock options.  The Company issued nine-year options to
purchase  209,000  shares of common stock to certain  officers and key employees
during 1995 and 26,300 to employees and consultants during 1996.



                                      F-14


Information with respect to the 1995 Stock Option Plan is as follows:

<TABLE>
<CAPTION>
                                                           Aggregate         Option Price
                                         Shares              Price             Per Share
                                   --------------     --------------     ------------------

<S>                               <C>                 <C>               <C>
Outstanding, January 1, 1995                  --      $          --
    Granted                               209,000            876,000     $    4.00 - $5.00
    Exercised                                 --                 --                 --
    Canceled                                  --                 --                 --
                                   --------------     --------------      

Outstanding, December 31, 1995            209,000            876,000          4.00 -  5.00
    Granted                                26,300            187,100          7.00 -  7.25
    Exercised                             (12,000)           (52,000)         4.00 -  5.00
    Canceled                              (42,000)          (184,000)         4.00 -  5.00
                                   --------------     --------------

Outstanding, December 31, 1996            181,300     $      827,100          4.00 -  7.25
                                   ==============     ==============
</TABLE>





At December 31,  1996,  there were 322,700  options  available  for future grant
under the 1995 Stock Option Plan.  In  addition,  there were 62,460  exercisable
options at prices ranging from $4.00 to $7.00 per share. The aggregate  exercise
price of these options was $266,420.  The weighted average remaining contractual
life of these options is approximately 8 years.

In  September  1995,  the Company  adopted  the Blue Fish  Clothing,  Inc.  1995
Non-Employee  Directors'  Stock Option Plan. A total of 75,000  shares of common
stock have been  reserved for issuance to directors who are not employees of the
Company.  Non-employee  directors  will receive  non-qualified  stock options to
purchase an amount of shares  equal to $7,500 at the then fair  market  value on
January 1 of each year  commencing  January 1,  1996,  and  options to  purchase
shares  equal to  $2,500  at the then  prevailing  fair  market  value  for each
committee on which they serve.  On January 1, 1996 and 1997, the Company granted
options  to  purchase  2,500  shares  and  2,700,  respectively  to  each of the
nonemployee  directors  at  $5 and $4.63,  respectively  per share.  The options
were fully  vested on date of grant.  No  options  have been  exercised  through
December 31, 1996.

The Company has elected to follow  Accounting  Principles  Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB No. 25"), in accounting for its
stock  options  granted  to  employees  and  directors.  Under  APB No.  25,  no
compensation  expense is recognized  because the exercise price of the Company's
stock options equals the market price of the underlying stock on the date of the
grant. If compensation  cost for these plans had been determined  under SFAS No.
123, "Accounting for Stock-Based Compensation," the Company's net loss per share
for 1995 and 1996 would have been reduced to the following pro forma amounts:

                                                       1995           1996
                                                   ------------    -----------

    Pro forma net loss--as reported                $  (161,823)  $   (193,145)
    Pro forma net loss--as adjusted                   (268,367)      (295,670)
    Pro forma net loss per share--as reported            (.04)          (.04)
    Pro forma net loss per share--as adjusted            (.07)          (.07)



                                      F-15







The fair  value  of the  options  were  estimated  on the date of grant  using a
Black-Scholes   option   pricing  model  with  the  following   weighted-average
assumptions used for grants in 1995 and 1996,  respectively:  risk-free interest
rates of 5.9% and 6.6%; no dividend yield for both years; expected volatility of
52% for both years;  and a weighted  average  expected  life of the options of 7
years.

Because  the  accounting  under  SFAS No.  123 has not been  applied  to options
granted prior to January 1, 1995, the resulting pro forma  compensation cost may
not be representative of that to be expected in future years.

12. INCOME TAXES:

Reference is made to footnotes 2 and 3 which  discuss the  Company's  accounting
policies for income taxes, the termination of its S corporation  election in May
1996 and the pro forma income tax disclosure as a result of the public offering.

Income tax  (benefit) for the year ended  December 31, 1996, is comprised of the
following:


     Current provision (benefit)                          $        --
     Deferred provision (benefit)                             (64,429)
                                                          -----------
                                                              (64,429)
     Reinstatement of deferred income tax assets             (173,566)
                                                          -----------
                                                          $  (237,995)
                                                          ===========

The  reconciliation  of the statutory  federal rate to the  Company's  effective
income  tax  rate on the  (loss)  for the year  ended  December  31, 1996, is as
follows:

                                                               Year Ended
                                                               December 31,
                                                                   1996
                                                             --------------
        Statutory tax rate                                         (34.0)%
        Reinstatement of deferred income tax assets                (63.1)
        Loss allocated to S corporation                             12.8
        State taxes, benefit                                       (13.0)
        Valuation allowance                                          8.2
        Other                                                        2.6
                                                             --------------
                                                                   (86.5)%
                                                             ==============



                                      F-16




The deferred tax effects of temporary  differences  giving rise to the Company's
deferred income tax assets at December 31, 1996, are as follows:

       Deferred tax assets:
           Net operating loss carryforward                       $      230,997
           Depreciation                                                  17,804
           Accruals and reserves not currently deductible
              for tax                                                    54,091
           Valuation allowance-state tax                                (47,323)
                                                                     ----------
                                                                        255,569
       Other deferred tax liabilities                                   (17,574)
                                                                     ----------
                                                                 $      237,995
                                                                     ==========

A valuation  allowance  has been  provided for a portion of the net deferred tax
assets relating primarily to the state net operating loss  carryforwards.  Based
on the  Company's  historical  levels of taxable  income,  as  adjusted  for the
nonrecurring  charges in 1995 and future projections,  management believes it is
more  likely  than not that the  Company  will  realize  the  benefit of the net
deferred tax assets,  including  the Federal net  operating  loss  carryforward,
existing at December 31, 1996. Furthermore, management believes the existing net
deductible  temporary  differences  will  reverse  during  periods  in which the
Company generates net taxable income. There can be no assurance,  however,  that
the Company will generate  taxable  earnings or any specific level of continuing
earnings in the future.  The Federal net operating loss carryforward  expires in
2011.

13. COMMITMENTS AND CONTINGENCIES:

Operating Leases

The Company leases its retail, production, office facilities and other equipment
under various noncancelable  operating leases.  Operating leases generally range
from 5 to 10 years.

Rental expense,  including certain  maintenance  expenditures,  was $203,635 and
$395,151 for the years ended  December 31, 1995 and 1996,  respectively.  Future
minimum rental payments due under noncancelable  operating leases (including one
store scheduled to open in 1997) are as follows:

       1997                                              $    655,506
       1998                                                   600,620
       1999                                                   509,538
       2000                                                   404,165
       2001                                                   308,368
       Thereafter                                           1,403,292
                                                         ------------

                  Total minimum lease payments           $  3,881,489
                                                         ============

In addition to the above commitment,  one store location is currently  operating
under a month-to-month lease.

In December 1996, the Company entered into a lease for a new Corporate facility.
The lease obligation is scheduled to begin in January 1998 once  construction is
completed and the 

                                      F-17





facility is ready for occupancy.  The lease is a 15-year lease with an option to
buy.  Minimum lease  payments are due monthly and begin at $267,120 per year and
increase 3% per year  throughout  the term.  The option to buy can be  exercised
during  2003 for  $4,000,000  as adjusted  by the change in the  consumer  price
index.

Employment Agreement and Covenant Not to Compete

Effective  January 1, 1994,  the Company  entered into a  three-year  employment
agreement  and covenant not to compete with an officer that  provides for annual
compensation  of $105,000  per year plus a 3% annual  bonus based on Company net
after tax profits (as defined)  plus an  additional  1% bonus that is calculated
annually and due in five annual installments beginning January 1, 1999, if still
an employee of the Company at that date.

Other

From time to time the Company is named as a defendant in legal  actions  arising
from its normal business  activities.  Although the amount of any liability that
could arise with  respect to  currently  pending  actions  cannot be  accurately
predicted,  in the opinion of the Company,  any such  liability  will not have a
material  adverse effect on the financial  position or operating  results of the
Company.

14. RELATED-PARTY TRANSACTIONS:

The Company  leases one of its store  locations from the father of the principal
stockholder under a ten-year operating lease for approximately $35,000 per year.
The Company also leases  additional office space from this individual on a month
to month basis for approximately $11,000 per year.

                                      F-18





                                   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, on June 19, 1997.



                                    BLUE FISH CLOTHING, INC.




                                    By: /s/ Jennifer Barclay
                                        ---------------------------------
                                        Jennifer Barclay
                                        Chairman of the Board of Directors
                                        (Principal Executive Officer)


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

<TABLE>
<CAPTION>
                Name                                     Title                               Date

<S>                                         <C>                                                <C>
/s/ Jennifer Barclay                        Chairman of the Board of Directors                 June 19, 1997
-----------------------------               (Principal Executive Officer)       
Jennifer Barclay




/s/ Marc Wallach                            President and Chief Executive Officer              June 19, 1997
------------------------------              (Principal Executive Officer and Director)
Marc Wallach




/s/ Richard Swarttz                         Vice President of Finance, Chief Financial         June 19, 1997
------------------------------              Officer, and Treasurer
Richard Swarttz                             (Principal Financial Officer and Principal
                                            Accounting Officer)


/s/ Gary Hirshberg                          Director                                           June 19, 1997
------------------------------
Gary Hirshberg


/s/ Ben Cohen                               Director                                           June 19, 1997
------------------------------
Ben Cohen

</TABLE>