<PAGE>   1
                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                   FORM 10-K/A
                                 AMENDMENT NO. 1

[X]      ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
         EXCHANGE ACT OF 1934 for the fiscal year ended December 31, 1998

                                       or

[ ]     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
        EXCHANGE ACT OF 1934 for the transition period from ___________ to
        _____________

                         Commission file number 0-25488
                        THE L.L. KNICKERBOCKER CO., INC.
             (Exact name of registrant as specified in its charter)

        CALIFORNIA                                               33-0230641
(State or other jurisdiction of                               (I.R.S. Employer
incorporation or organization)                               Identification No.)

25800 COMMERCENTRE DRIVE
LAKE FOREST, CA                                                     92630
(Address of principal executive offices)                         (Zip Code)

       REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (949) 595-7900
           SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
                                      NONE
           SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
                           Common Stock, No Par Value
                                (title of class)

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]

The aggregate market value of the voting stock of held by non-affiliates of the
registrant on March 16, 1999 was $12,916,854. Shares of common stock held by
each officer and director and by each person who owns 5% or more of the
outstanding common stock have been excluded in that such persons may be deemed
to be affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.

The number of shares outstanding of the registrant's common stock, as of March
15, 1999 was 27,691,185.

                       DOCUMENTS INCORPORATED BY REFERENCE

                                      NONE

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                               TABLE OF CONTENTS
<TABLE>
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ITEM                                                                           PAGE
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<S>                                                                            <C> 


                                     PART I

1. BUSINESS.......................................................................3
         A. History...............................................................3
         B. General Business..................................................... 3

2. PROPERTIES ...................................................................13

3. LEGAL PROCEEDINGS.............................................................13

4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ..........................14


                                    PART II

5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS ........15

6. SELECTED FINANCIAL DATA.......................................................16

7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
    CONDITION AND RESULTS OF OPERATIONS..........................................17

8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ..................................24

9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON 
     ACCOUNTING AND FINANCIAL DISCLOSURE.........................................24


                                    PART III

10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT ..........................25

11. EXECUTIVE COMPENSATION ......................................................27

12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT ..............33

13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS ..............................34


                                    PART IV

14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K .............36

SIGNATURES.......................................................................39
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                                     PART I

This Annual Report on Form 10-K contains forward-looking statements within the
meaning of the Securities Act of 1933, as amended, and the Securities Exchange
Act of 1934, as amended, which involve risks and uncertainties, including, but
not limited to, economic, competitive, governmental and technological factors
affecting the Company's operations, markets, products, services and prices, and
other factors discussed herein. The Company's actual results could differ
materially from those projected in the forward-looking statements as a result of
the factors described in this Report.


ITEM 1.  BUSINESS

GENERAL

The L.L. Knickerbocker Co., Inc. (the "Company" or "Knickerbocker") was formed
in 1985 by Louis L. Knickerbocker, Chairman, President, and Chief Executive
Officer, and Tamara Knickerbocker, Executive Vice President, under the name
International Beauty Supply, Ltd., a California corporation (IBS). In May of
1993, the name of International Beauty Supply, Ltd. was changed to The L.L.
Knickerbocker Co., Inc. and succeeded to the operations, assets and liabilities
of Knickerbocker Creations, Ltd, a California corporation formed in 1990 to
operate primarily in the collectible doll and teddy bear industries.

The Company is a designer, manufacturer, importer, marketer, and distributor of
high quality, branded collectibles and collectible toys, specialty giftware
products, and jewelry.

Knickerbocker markets its branded collectible products through diverse
distribution channels including a growing network of independent gift and
collectible retailers, electronic retailing, direct response sales, and an
international distributor base. The Company strives to deliver genuine value to
the consumer through innovative product design and award-winning quality. The
Company has developed relationships with a variety of manufacturers that have
consistently delivered high-quality products. Most of the manufacturing of
collectible items is outsourced to manufacturers in the Far East and Southeast
Asia.

Knickerbocker's jewelry operations consists of designing, manufacturing, and
marketing fashion and fine jewelry through electronic retailing, primarily QVC
and The Home Shopping Network, and an international customer base in 37 foreign
countries. The Company has launched a comprehensive Internet site,
Gemopolis.com, to market its products directly to customers through the
internet. The operations of the jewelry segments are vertically integrated, and
most of the design, stone sourcing, advanced stone cutting, and jewelry
manufacturing is performed by in-house personnel and facilities.

Knickerbocker holds passive investments in two unrelated companies, Pure Energy
Corporation and Ontro, Inc. The Company holds a 31.5% equity interest in Pure
Energy Corporation, a privately-held corporation, and a 13.2% interest in Ontro,
Inc., a publicly-traded corporation.


COLLECTIBLE DOLLS, FIGURINES, TEDDY BEARS AND COLLECTIBLE TOYS

INDUSTRY OVERVIEW

Collectibles are identified as any item that is manufactured and marketed solely
for the enjoyment of the collector. Collectibles include figurines, dolls,
collector plates, plush and die cast toys, sports/entertainment memorabilia,


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cottage/village reproductions and other decorative or limited edition items that
are intended for collecting. Unity Marketing, which is a collectible industry
market research firm and is not affiliated with Knickerbocker, estimates that
consumer sales of collectibles in the United States in 1997 totaled $10.0
billion. Unity Marketing currently estimates that women between the ages of 35
and 64 encompass the majority of collectors. This group, which we believe
constitutes a substantial portion of our collectors, is projected by the U.S.
Census Bureau to grow approximately 12% from 1998 to 2005. Unity Marketing
expects that growth in the collectibles industry will be driven by the increased
number of middle-aged female collectors and higher spending habits of the baby
boom generation.

COLLECTIBLE BRANDS

Georgetown Collection. The Georgetown Collection brand consists of high-quality,
exclusive-edition porcelain dolls designed and developed by artists licensed in
conjunction with an in-house development team. Manufacturing is outsourced to
factories in China and Southeast Asia. The dolls' retail prices range between
$90 and $145. The principal marketing channel is print media, including direct
mail and space ads.

Magic Attic Club. The Magic Attic Club (MAC) is a series of vinyl dolls, doll
clothing and accessories, all of which are based on imaginative theme books,
marketed primarily through a catalog. The books and Magic Attic Club catalogs
target girls in the U.S. between the ages of 6 and 12. The items in the catalog
do not vary much year to year, which keeps creative costs low and minimizes
inventory difficulties. Repeat customers can be highly profitable. In 1998, MAC
mailed approximately 6,200,000 catalogs, down from approximately 6,900,000 from
the prior year, an approximate 10% decrease in catalog mailings. An integral
part of the Magic Attic Club's appeal is a series of 32 illustrated novels based
on five girls and their adventures. The books have achieved national
distribution and have penetrated many of the major book store chains. Each Magic
Attic Club book contains a mail-in card to request a free catalog listing
products offered by the Magic Attic Club.

Marie Osmond Fine Porcelain Collector Dolls. This collection consists of a
diverse collection of more than 420 different styles of porcelain dolls at
retail prices ranging from $20 to $600. Marie Osmond is the celebrity
spokesperson and design director for the collection. The Marie Osmond Doll
Collection, celebrating its seventh anniversary, received 18 hours of
brand-building programmed airtime on QVC in 1998. In addition, Marie Osmond
makes scheduled appearances at retail stores throughout the United States to
promote the collection. On occasion, Marie Osmond appears on QVC in the United
Kingdom and in Germany.

Annette Funicello Collectible Bears Company. This line consists of more than 300
different styles of collectible teddy bears. Retail prices range from $25 to
approximately $200. Annette Funicello is the celebrity image and design director
for the collection. In 1998, the Company received the TOBY (Teddy Bear of the
Year) award, sponsored by Teddy Bear and Friends Magazine, one of two major
magazines in the teddy bear industry. Additionally, the Company received the
Golden Teddy award, naming the top teddy bear as voted by the magazine's
subscription base, sponsored by Teddy Bear Review magazine, the other major
teddy bear magazine in the industry. The Annette Funicello Collectible Bear
Company, celebrating its fifth anniversary, received 17 hours of brand-building
programmed airtime on QVC in 1998.

The Knickerbocker Toy Company. The 77-year-old Knickerbocker name is well
recognized in the toy and collectible teddy bear industries and is the Company's
"house" brand. The Company began selling collectible Knickerbocker products in
October 1986, and was issued the trademark "Knickerbocker" for toys, dolls,
plush stuffed animals and marionettes in January 1996. The collection offers
quality collectible products that have primarily been marketed to retail outlets
nationwide. The Knickerbocker Toy Company had 3 hours of brand-building
programmed airtime on QVC in 1998.

Richard Simmons Collectibles. In 1998 the Company launched a new line of dolls
and resin figurines with Richard Simmons. The largest line, Collection of the
Masters by Richard Simmons, debuted at the 1998 International Toy Fair in New
York and began to be mass-marketed, predominately at retail, in October of 1998.
Richard Simmons also successfully debuted his new line on QVC late in the year
and opened the way for more programming time in 1999.

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Other Brands. The company also markets dolls and collectibles brands such as
Candy Spelling's Fantasy Dolls, Universal Studio's Edith Head Collection, and
Bob Mackie Legendary Beauties.


JEWELRY PRODUCTS

INDUSTRY OVERVIEW

The Jewelry market consists of two major categories: Fine and Fashion. Fine
jewelry is manufactured with precious metals (gold, sterling silver, platinum)
with or without gemstones (precious or semiprecious). Natural and cultured
pearls are also considered fine jewelry. According to the World Gold Council, in
1998 retail sales of gold jewelry grew by almost 10% on a unit basis to 162
million units and by over 8% on a dollar basis to $13.7 billion. According to
Accessories Magazine, sterling silver jewelry retail sales increased
approximately 15% in 1997 to $2.4 billion. Fashion jewelry is manufactured with
non-precious metals (often gold plated), with or without imitation stones and
pearls, and is the largest category of the women's accessories market with
sales, according to Accessories Magazine, in the United States estimated at $2.6
billion dollars.

FASHION JEWELRY BRANDS

Approximately 50% of the Company's jewelry revenues come from fashion jewelry
sales. The Company markets these high-quality, designer fashion jewelry lines
and accessories primarily through QVC. Knickerbocker has its own fashion jewelry
manufacturing facility in Central Falls, Rhode Island but outsources, to a
limited extent, certain non-proprietary manufacturing functions to southeast
Asian manufacturers. The Company's fashion jewelry brands are as follows:

Kenneth Jay Lane: Jewelry's Living Legend -450 different styles of fashion
jewelry at retail prices ranging from $17 to $198. Kenneth Jay Lane is the
designer and spokesperson for the collection, which celebrated its seventh
anniversary and received over 16 hours of brand-building programmed airtime on
QVC in 1998.

The Nolan Miller Glamour Collection - 400 different styles of fashion jewelry at
retail prices ranging from $20 to $280. Nolan Miller is the designer and
spokesperson for the collection, which celebrated its sixth anniversary and
received over 33 hours of brand-building programmed airtime on QVC in 1998.

Barbara Mandrell's Country Sentiments - 50 different styles of fashion jewelry
at retail prices ranging from $19 to $90. Barbara Mandrell is the designer and
spokesperson for the collection, which started on QVC in May 1997.

Jewels of Unity with Cicely Tyson - 14 different styles of fashion jewelry at
retail prices ranging from $17 to $105. Cicely Tyson is the designer and
spokesperson for the collection, which started on QVC in May 1998.

The Dennis Basso Boutique - 90 different styles of fashion accessories at retail
prices ranging from $20 to $220. Dennis Basso is the designer and spokesperson
for the collection, which celebrated its fifth anniversary on QVC in 1998.

Anushka - This line of skin care products was introduced on QVC in 1997 and
appears periodically on the QVC Beauty Solutions program. Anushka, of Anushka
Day Spa in New York City, is the spokesperson for this line.

FINE JEWELRY BRAND

The Company's fine jewelry operation manufactures and markets gold, diamonds,
emeralds, rubies and other semi-precious stones through a sales force with a
presence in 37 countries, with a primary geographic focus in Western Europe and
South America. With expertise in stone sourcing and advanced cutting techniques
of specialty stones, the Company also generates revenue by supplying other
jewelry manufacturers with loose cut stones. The Company is recognized for
creating proprietary technology that enhances the color of gemstones and is
known in particular for its Blue Topaz stones which are exported all over the
world. In addition, the Company produces an assortment of fine jewelry in both
sterling silver and gold for the television retailer, Home Shopping Network
(?HSN?) and other worldwide recognized television shopping companies such as
TVSN Australia and 


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QVC England. The Company has developed an Internet site, Gemopolis.com, to
market fine jewelry directly to the consumer.

BRANDS UNDER DEVELOPMENT

Birmingham Bears (Collectible Brand) -The line consists of affordable
collectible plush and mohair items in various sizes and a variety of themes. The
product debuted on Home Shopping Network in February 1999. Knickerbocker plans
to introduce the Birmingham line through its retail distribution channel in the
third quarter of 1999.

Somers & Field Collection (Collectible Brand) - The Company has an exclusive
license agreement to manufacture and distribute the line of dolls designed by
Laura Meisner and Doug James under the Somers and Field Collection. The
collection is vinyl and the concept is based on "mod" British friends, Willow
Somers and Daisy Field whose fathers co-own a fashionable department store.
Costumes and accessories highlight fashion trends from the 1960's. Product
launch is planned for the third quarter of 1999.

Terri Lee (Collectible Brand) - The Company has an exclusive license to
manufacture and distribute the line of dolls, fashion apparel and accessories
with Terri Lee and Associates. The doll is molded in PVC and the concept is
derived from, and is a reproduction of the original 1940's doll. Original molds
were used in the reproduction of the doll and the clothing and accessories will
be designed with consideration to original designs as well as interpretations of
those designs. Terri Lee was launched at Toy Fair 1999.

Kodak Moments (Collectible Brand) - A partnership licensing agreement between
Kodak, Marie Osmond and Knickerbocker. The Company has the rights to manufacture
and distribute a collectible line of figurines, dolls and other items for the
Marie Osmond Porcelain Collector Doll line. Each product would depict a classic
"Kodak Moment" in fine porcelain or other collectible medium. Product launch is
planned for third quarter of 1999.

Although the Company currently believes that the above-listed products can be
developed and produced as commercially viable product line additions, there can
be no assurance that the new products will be introduced or, if introduced, that
they will be successful.

CONSUMER BRANDS DISCONTINUED

After a review of the Company's brand focus it was determined that it would be
in its best interest to discontinue the product development, manufacturing and
marketing of those programs not meeting certain sales expectations and re-focus
the brand selections on those that better suited the Company's current core
products. In 1998, the Company discontinued the Pilar Crespi Collection, Joyous
Jewels with Wendy Gell, Framm, and Enchanted Evenings with Albert Capraro. In
1998, the agreement for World Class Accessories by Mary McFadden was cancelled
by the licensor.

MARKETING STRATEGIES

The Company's marketing strategy is to develop products and build brands that
are marketed through diverse channels of distribution. In implementing this
strategy, the Company plans to continue to focus on building brand recognition,
developing new and innovative products, and selling those branded products
through appropriate channels of distribution. Generally, new brand programs are
tested conservatively prior to any roll-out.

The diverse channels of distribution of the branded products includes, but are
not limited to, electronic retailing through the television shopping industry,
direct response print advertisements, direct mail, catalogs, Internet, and
through retail outlets and distributors domestically and internationally. Each
brand has unique distribution strategies based on the product; however, where
possible, the distribution channels cross over from brand to brand. The wide
variety of branded items and distribution channels provides diversification to
the Company's risk profile.


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THE DIRECT MARKETING INDUSTRY

Direct marketing has five major areas: Electronic retailing through Television
Marketing, Print Media Advertising, Catalogs, Direct Mail and the Internet.

TELEVISION SHOPPING CHANNELS

Television Shopping Channels, as well as independent Infomercials, make up this
segment of the direct marketing industry.

The largest television shopping cable network is QVC, followed by HSN and a
number of smaller companies. The shopping networks purchase products from
vendors and generally require the vendors to ship the products to the networks'
warehouses before the networks will sell the items on the air. Generally, the
format of the home shopping channels is to present approximately 12 items per
hour. Each hour can be comprised of a special program (i.e., all Marie Osmond
Dolls) or a mix of products (i.e. a gift hour with different kinds of gift
items). Special programs, such as celebrity programs, can be given as much as
three straight hours of prime time. These types of programs must be
high-dollar-volume programs to warrant the allocation of this time. The shopping
channels then ship customer orders directly from their warehouses/fulfillment
centers.

The Company's expertise in marketing to home shopping channels has been to
identify its key product segments, such as jewelry and collectibles, and build
brand recognition within those product segments. Television shopping represents
over 19% of the Company's Collectible sales and 45% of Jewelry sales.
Additionally, sales to QVC accounted for 25%, 29% and 43% of the Company's
consolidated revenues in 1998, 1997 and 1996, respectively.

DIRECT MAIL

The Company manages Direct Mail programs by utilizing an in-house consumer
database to test and expand new product offers. The company maintains a large
database of customer names acquired through list rentals, Sunday newspaper
supplements, and magazine and catalog advertising. These names, after the
initial acquisition, are consistently marketed select offers that either contain
solo or multi-ad product presentations. The Company uses this marketing format
primarily for its Georgetown brand but has begun to expand these offerings into
all brands.

CATALOGS

The Company has four branded catalogs varying in size and content generally
being marketed in quarterly or half year segments. The Company develops a
wholesale/retail catalog, and three consumer catalogs; one for its Magic Attic
Brand, one for its Georgetown brand, and one for all Collectible brands. These
catalogs are used either for repeat buyers of a particular brand who would like
to see multiple product offerings or as a vehicle to prospect for new customers.

MEDIA ADVERTISING

The Company also utilizes direct response print advertising as a vehicle to
highlight new product offerings that have potentially high-dollar-volume sales.
The Company continues to market the collectible brands through this marketing
channel. In addition to scores of mainstream publications such as McCalls,
Ladies Home Journal, National Enquirer, the Company uses collectible
trade-specific niche publications including Dolls, Doll Crafter, Doll Reader,
Contemporary Dolls, Collectors Mart, Teddy Bear Review and Teddy Bear & Friends.
This type of advertising serves to replenish the database with new customer
names so the direct mail marketing can remain as a consistent growth vehicle for
sales.

INTERNET COMMERCE

The Company also maintains a corporate and a product web site on the World Wide
Web. The Company uses the Internet to give potential consumers the ability to
see a multiplicity of product and product specials and simultaneously order
without using the traditional marketing routes.

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TRADITIONAL RETAIL AND INTERNATIONAL DISTRIBUTORS

The Company markets to a wide variety of traditional retail outlets and to the
less traditional catalog retailers and international distributors. The Company
expanded its outside sales representative force domestically in 1998 and
currently covers the entire United States with defined sales territories. In
addition, the Company continues to market to specialty stores and other
customers such as Disney via its own internal sales organization and retail
support group. International distributors make up another portion of the
Company's collectible sales primarily marketing in the United Kingdom, Germany,
and other Benelux countries.

PRODUCTION PROCEDURES

CONTRACTED PRODUCTION

The Collectibles and some of the Jewelry brand managers develop products, locate
an appropriate contract manufacturing facility and prepare samples, which are
presented to the customer for approval. Upon approval of the samples, the
Company issues a purchase order to the manufacturer for the desired quantity of
the product. In some cases, the purchase order is secured by an irrevocable and
transferable letter of credit from the customer. All goods are inspected for
quality by either in-house quality assurance personnel or by an independent
quality assurance resource prior to shipment.

COMPANY-OWNED PRODUCTION

The Company manufactures fashion jewelry at its own 26,000 square-foot-facility
in Rhode Island. Almost all of the fashion jewelry manufacturing is done against
open purchase orders.

The Thailand jewelry operation manufactures fine jewelry for a diverse group of
international distributors and wholesalers, including the television shopping
industry. The majority of goods are manufactured in the Company's fully
integrated 35,000 square-foot-facility. The Company's 3,500-square-foot showroom
and the design and development divisions are located in the jewelry district of
Bangkok, making it convenient for customers to visit the showroom, inspect the
product lines and develop future programs with the Company's skilled design
team.

OPERATIONS STRATEGIES (CONSOLIDATION EFFORTS)

The company has recognized that acquisitions made in 1996 would be better
managed if those operations were consolidated to maximize efficiency in its
marketing and development strategy. In 1998 the Company embarked on a
restructuring plan that would consolidate or restructure the various operating
subsidiaries into more streamlined and focused marketing and development
divisions.

The Company began its consolidation with the closure of Magic Attic Press's
(MAP) New York Office. The Company realized that its future in publishing for
the Magic Attic Brand line would be better served if the book operations were
outsourced. In May 1998, the Company entered into a marketing and distribution
agreement with Millbrook Press, Inc. of Brooklyn, New York. Any future
publishing of the existing series of books will be handled by third party
arrangement enabling the company to realize cost savings by reducing overhead
tied to the MAP division.

In May 1998, the Company began exploring reducing its dependency on some of its
distribution operations in Maine by outsourcing those operations to a third
party. This would enable the Company to reduce manpower and overhead, as well as
shift other fixed expenses to a variable basis. During its three-month search
the Company found a fulfillment and customer service operation that would be
able, after extensive systems work, to accommodate the direct response business
for its Georgetown Brand. In September 1998, the Company signed a two-year
distribution agreement with Keystone Fulfillment. In October, the Company
elected to close one 45,000 square foot facility by moving those operations to
Keystone Fulfillment, Inc., a Hanover Direct (HNV:Amex) subsidiary.

In September 1998, the Company decided to move the remaining operations of the
Georgetown brand to California. As a result, the Company's Philadelphia
Development Office was closed.

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In November 1998, the Company decided to restructure its fashion jewelry
manufacturing operations by shifting certain non-proprietary manufacturing
functions to Southeast Asia and to domestic contractors. The Company's
manufacturing facility in Rhode Island has been reorganized to provide product
development and proprietary manufacturing functions.

By completing the consolidation of production and operations in the U. S., the
Company recently closed its overseas Trading Office in China and has elected to
manage overseas production either factory direct or through its California
sourcing group.

The Company continues to move forward on plans to complete its consolidation by
redirecting operations related to its Magic Attic Club Brand, currently residing
in Maine.

As a result of these consolidation efforts, manpower worldwide over the last 12
months has been reduced by approximately 25%, with most of those manpower
reductions occurring from streamlined efforts in the United States. Manpower in
the U.S. was reduced from approximately 250 personnel to approximately 160
personnel. In addition to streamlining manpower the Company has reduced other
employee-related costs as well as facilities costs worldwide.

EQUITY INVESTMENTS

Knickerbocker holds passive investments in two unrelated, independent companies,
as follows:

PURE ENERGY CORPORATION

The Company holds a 31.5% equity interest in Pure Energy Corporation (PEC).
Other shareholders include PEC's founders and officers, Donaldson, Lufkin &
Jenrette (DLJ), an investment banking firm and private individuals.

PEC has developed a cleaner-burning alternative automotive motor fuel designed
in response to the more stringent emission standards and vehicle purchase
requirements of the Energy Policy Act of 1992 (EPACT) and the Clean Air Act
Amendment of 1990 (CAAA). The fuel will be produced regionally, substantially
from renewable biomass, and distributed through existing infrastructure.
Currently produced flexible fuel vehicles (FFVs) can operate on the fuel. PEC's
strategy is to serve fleet customers initially and eventually a broader segment
of the motoring public. PEC has the exclusive worldwide license from Princeton
University to commercialize the fuel.

In December 1997 PEC was notified that the United States Patent and Trademark
Office had issued a patent on the new, non-petroleum substitute for gasoline
called P-series, U.S. Patent No. 5697987, to Princeton University, entitled
"Alternative Fuel." The fuel, which is non-petroleum and as much as 70 percent
renewable, is designed to operate in existing flexible-fuel vehicles. P-series
is a unique blend of ethanol, natural gas liquids and a co-solvent. Both ethanol
and the co-solvent are derived from renewable resources such as cellulosic
biomass. Use of the fuel as an alternative to gasoline will contribute to
significant reductions in greenhouse gases and lower tailpipe emissions.

In July 1997 PEC filed a formal petition with the Department of Energy (DOE)
seeking a ruling to designate its proprietary, non-petroleum motor fuel as an
alternative fuel under EPACT. The DOE has established three primary criteria for
official certification of an alternative motor fuel: (1) substantially not
petroleum, (2) substantial energy security and (3) substantial environmental
benefit. DOE certification is pending.

Due to the development stage nature of Pure Energy Corporation, the cost per
gallon of the product has not been established. Pure Energy Corporation had no
sales during 1998. The Company's risk in its investment in Pure Energy
Corporation is that the investment's value could be severely impacted by two
factors: The Department of Energy not approving the fuel as a designated
alternative fuel; and a lack of funding for the development of refineries in
which to produce the fuel.

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ONTRO, INC. (FORMERLY SELF-HEATING CONTAINER CORP.)

Knickerbocker holds a 13.2% equity interest in Ontro, Inc. (Ontro), engaged in
the development of integrated thermal containers. Ontro has the rights to
exploit a unique propriety technology which it has incorporated into a proposed
product line of fully contained self-heating beverage containers designed to
heat liquid contents such as coffee, tea, hot chocolate, soups and baby formula.
Ontro entered into an evaluation agreement with Nestle which allows Nestle an
exclusive period to review Ontro's designs and technology in order to determine
Nestle's interest in acquiring rights for the commercial use of the self-heating
food and beverage containers and to cooperate with Ontro in evaluating certain
commercial uses and markets for the technology and includes an obligation to pay
for one-half of the cost of certain market research studies that are currently
underway.

In June 1997, the Company signed a Distributorship Agreement with Ontro to
market products packaged in Ontro's thermal containers. The terms of the
Agreement call for Ontro to sell its containers to Knickerbocker for their use
in manufacturing and selling of approved products and for Knickerbocker to be
designated as exclusive distributor for such approved products. The Company may
also contract with manufacturers to produce approved products for the Company
and to package such products using Ontro's containers purchased by the Company.

Due to the development stage nature of Ontro, Inc., the price of the product has
not been established. The product heats the contents of the container only one
time and is not renewable. The container heats the beverage to a temperature of
180 degrees. Ontro, Inc.
had no sales during 1998.

ARKENOL ASIA, INC.

Arkenol Asia, Inc. is a Delaware corporation owned 50% by Knickerbocker and 50%
by Arkenol Holdings, LLC. In 1997 the joint venture acquired an exclusive
license to exploit Arkenol Holdings' technology and related intellectual
property to produce ethanol and other chemicals for sale and consumption in
certain Asian countries. The joint venture had limited activity in 1998.


SUMMARY OF REVENUE BY PRODUCT LINE

In 1998, the Company's revenue was $60,427,000. The revenue by product line in
1998 is as follows:
<TABLE>
<CAPTION>
Category                              $000's        Percent
--------                             -------        -----
<S>                                  <C>             <C>  
Collectible dolls and bears          $39,424         65.2%
Fashion jewelry and accessories        9,241         15.3%
Fine Jewelry                          11,762         19.5%
                                     -------        -----

Total                                $60,427        100.0%
                                     =======        =====
</TABLE>



MATERIAL CONTRACTS

RICHARD SIMMONS

On February 1, 1999, the Company entered into a License Agreement with Richard
Simmons, Inc. to license the name, likeness and trademarks of Richard Simmons.
The Company has been granted the exclusive license to manufacture and distribute
the line of angel figurines under development with Richard Simmons. The lines of
collectible dolls and figurines were introduced at the 1998 International Toy
Fair in New York.

                                       10
<PAGE>   11

CELLO, INC.

The Company entered into a License Agreement with Cello, Inc. (Cello) on May 13,
1994 with respect to the services of Annette Funicello. The material terms of
the Agreement provide that the Company will design, develop and manufacture
collectible teddy bears and dolls, and such other products as the parties shall
agree on, with the approval of Cello. Cello retains all intellectual property
rights to the products, and the Company is solely responsible for the costs of
manufacturing, distribution, advertising and sales. The initial term of the
Agreement terminated in January 1998, and the Agreement automatically renewed
for an additional term through January 2001.

MARIE, INC.

The Company entered into a License Agreement with Marie, Inc. on April 1, 1993
with respect to the services of Marie Osmond. The material terms of the
Agreement provide that the Company will design, develop and manufacture dolls,
and such other products as the parties shall agree on, with the approval of
Marie, Inc. The Company retains all intellectual property rights to the products
unless they contain Marie Osmond's name, and the Company is solely responsible
for the costs of manufacturing, distribution, advertising and sales. Marie, Inc.
is bound to provide the services of Marie Osmond as the spokesperson for the
products, subject to Marie, Inc.'s approval of commentary and production, for a
minimum of eight personal appearances per year. The Agreement is for a five-year
term, and expired on April 1, 1998. The Company has exercised its option for the
renewal of the Agreement for an additional term through April 2003.

TRADEMARKS AND LOGOS

The Company has the right to use the trademark names of the following
spokespersons and celebrities currently under contract: Marie Osmond, Annette
Funicello, Bob Mackie, Richard Simmons, Gleason, the Honeymooners, Jim Yehl,
Nolan Miller, Kenneth Jay Lane, Dennis Basso, Barbara Mandrell, Anushka, and
Cicely Tyson. The Company has also been issued trademarks under the following
names: American Dairy Dolls, Portraits of Perfection, Baby Kisses, Quick Fox,
Hearts in Song, Children of the Great Spirit, Faraway Friends, Artists? Edition,
Sweethearts of Summer, Little Bit of Heaven, and Magic Attic Club.

Trademark applications have been filed for: Adorabell, Beauty Bug Ball, Betsy
Clark, Bob Mackie Legendary Beauties, Collection of the Masters, Folkbook
Friends, Greeting Card Treasures, KL, Knickerbocker, Knickerbocker Direct,
Legendary Beauties, Pendant Collection, Pendant Press, Storybook Bears by
Knickerbocker, Storybook Dolls by Knickerbocker, Teddy Tales by Annette
Funicello and Webbie Debbie.

COMPETITION

The direct marketing business is highly competitive and many of the Company's
competitors have substantially greater financial and personnel resources than
the Company. The Company believes that its primary competitors in direct
marketing are difficult to distinguish because the Company is involved in four
types of direct marketing: Television Shopping, Print Media Advertising,
Catalogs and Direct Mail. The Company feels, however, that its main competitors
are Aston Drake, Hamilton Mint, Franklin Mint, Mattel, the Boyds Bears, and
JMAM, Inc. The Company also competes with a wide variety of wholesalers,
retailers and other direct marketers.

EMPLOYEES

The Company employs a total of 463 employees.

The Company had 74 full-time employees at its main office in Lake Forest,
California as of February 10, 1999, consisting of 5 executives, 25 product
development, 4 sales, 14 administrative, 6 customer service, 6 marketing and 14
warehouse employees.

The Company had 28 full-time employees at its Magic Attic Club offices in
Portland, Maine as of February 10, 1999, consisting of 1 executive, 21 customer
service, general sales and office administrative, and 6 warehouse employees.

                                       11
<PAGE>   12

The Company has 6 full-time employees at its Krasner Group, Inc. office in New
York, New York as of February 10, 1999, consisting of 2 executives and 4 general
sales and office administrative employees.

The Company has 48 full-time employees at its Charisma Manufacturing Company,
Inc. factory in Central Falls, Rhode Island as of February 10, 1999, consisting
of 2 executives, 10 general sales and office administrative and 36 product
development, warehouse and factory employees.

The Company has 307 full-time employees at its L.L. Knickerbocker (Thai) Co.,
Ltd., offices in Bangkok, Thailand as of February 10, 1999. The 307 full-time
employees are comprised of 6 executives, 111 general sales and office
administrative and 190 factory/warehouse employees.




                                       12
<PAGE>   13



ITEM 2.  PROPERTIES

As of March 15, 1999, the Company had eight principal facilities where it leased
or owned an aggregate of 190,500 square feet of space. The location, function
and general description of the principal properties owned or leased by the
Company are set forth in the table below:
<TABLE>
<CAPTION>

                                                                 SQUARE
LOCATION                     PRINCIPAL FUNCTION                  FOOTAGE        OWNERSHIP
--------                     ------------------                  --------       ---------
<S>                          <C>                                 <C>            <C>  

        CORPORATE

Lake Forest, CA              Corporate headquarters, finance,
                             purchasing, service division
                             headquarters                        51,000         Leased

        COLLECTIBLE DOLLS AND BEARS


Portland, ME                 Administration, product
                             development, marketing and 
                             warehousing                         40,000         Leased


        COSTUME JEWELRY

New York, NY                 Administration, product 
                             development and marketing            5,000         Leased

Central Falls, RI            Manufacturing                       26,000         Leased

Pawtucket, RI                Fulfillment and warehousing         30,000         Leased


        FINE JEWELRY

Bangkok, Thailand            Administration, product 
                             development, marketing and 
                             showroom                             3,500         Owned

Bangkok, Thailand            Manufacturing and administration    35,000         Owned
</TABLE>

The Company believes that the properties are in good condition, suitable for its
operations and adequately insured.


ITEM 3.  LEGAL PROCEEDINGS

Plaintiff Michael Elam filed an action in Orange County Superior Court (Case No.
759883) on or about February 16, 1996, against Louis L. Knickerbocker, Tamara
Knickerbocker and the Company alleging causes of action for conversion, breach
of fiduciary duty, fraud, debitatus assumpsit, intentional interference with
contract, constructive trust, breach of oral agreement, specific performance,
money had and received, open book account and spoliation of evidence. The
plaintiff is seeking money damages and/or shares of stock of the Company ranging
between $500,000 and $35,000,000 as a result of prior business affiliations with
Mr. Knickerbocker, alleging that the Company is liable as a
successor-in-interest for the debts of Mr. Knickerbocker's prior companies, and
that Mr. Knickerbocker was obligated to allow the plaintiff to participate in
the Company when it was created. The defendants are vigorously opposing the
lawsuit. A motion for summary judgment filed in August 1998 eliminated those
causes of action claiming an interest in the company's predecessor,
Knickerbocker Creations, Ltd. The case is set for trial on May 24, 1999. The 
Company has made an offer to the plaintiff to settle the litigation in exchange
for shares of Pure Energy Corporation held by the Company with a carrying value 
of $168,000.


                                       13

<PAGE>   14

The Company's predecessor, Knickerbocker Creations, Ltd., filed an action in the
Los Angeles Superior Court in 1991 (Case No. 060405) against Excess, Inc.,
Beverly Johnson and Alan Johnson. The suit seeks repayment of $157,000, together
with pre-judgment interest and lost profits, as a result of defendants' failure
to manufacture and ship various clothing goods. A cross-complaint was filed by
Beverly Johnson against Knickerbocker Creations, Ltd. and Louis Knickerbocker
for $25,000 for commissions allegedly owed to her. The Company became involved
in the case in the fall of 1998 when a motion to substitute The L.L.
Knickerbocker Company, Inc. as plaintiff and cross-defendant for Knickerbocker
Creations, Ltd., an inactive corporation, was granted by the court. The matter
is currently set for trial on April 5, 1999.

The Company brought claims against State Street Bank and Trust Company ("State
Street") in federal district court in Boston, Massachusetts (Civil Action No.
97-12573-NO, U.S. District Court, D. MA) for conversion, breach of contract,
unjust enrichment, a declaratory judgment and violation of Massachusetts General
Laws, c. 93A arising from State Street's wrongful retention of 72,188 shares of
the Company's common stock after the Company's obligations to State Street under
a Settlement Agreement of the prior indebtedness of Georgetown Collection, Inc.,
a subsidiary acquired in 1996, had been paid in full. The stock retained by
State Street had an original value of $617,000. State Street denies liability
and brought a counterclaim against the Company for breach of contract and
specific performance seeking $102,000 in damages, plus attorneys fees and costs.
Discovery is substantially complete, and the final pre-trial conference is
scheduled on June 1, 1999.

Finance Authority of Maine, Coastal Enterprises, Inc, and the Southern Maine
Economic Development District brought claims in federal district court in
Portland, Maine (Civil Action No.98-2235-8, U.S. District Court, D. Maine) for
breach of contract, indemnification and specific performance arising from the
Company's performance under certain settlement documents following the
acquisition of the subsidiary, Georgetown Collection, Inc., in 1996. The
plaintiffs are seeking an order requiring the Company to purchase 63,030 shares
of the Company's stock previously transferred to plaintiffs for $11.50 per
share, plus interest and attorneys fees. The Company answered and denied
liability on plaintiffs' claims. The plaintiffs moved for summary judgment, and
the motion is currently under advisement. No discovery has been conducted and
the current scheduling order provides for a trial date in September 1999.

The Company is involved in certain other legal and administrative proceedings
and threatened legal and administrative proceedings arising in the normal course
of its business. While the outcome of such proceedings and threatened
proceedings cannot be predicted with certainty, in the opinion of management,
the ultimate resolution of these matters individually or in the aggregate will
not have a material adverse effect on the Company.

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

On December 8, 1998, the Company held a Special Meeting of Shareholders. The
meeting involved (1) the approval of a proposed amendment to the Company's
articles of incorporation to authorize the issuance of 10,000,000 shares of
preferred stock, and (2) the approval of transactions contemplated by a June 8,
1998 Securities Purchase Agreement, including the issuance by the Company of
convertible term debentures. The meeting was adjourned and rescheduled for
January 5, 1999.




                                       14
<PAGE>   15



                                     PART II


ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

STOCK MARKET AND OTHER INFORMATION

The Company's common stock is listed on the NASDAQ National Market System under
the symbol "KNIC" and has been so listed since January 25, 1995. Previous to
such date, there was no public trading market for the Company's equity
securities. In addition, warrants to purchase up to 2,357,500 shares of the
Company's common stock were listed on the NASDAQ National Market System under
the symbol "KNICW." On January 25, 1997, the warrants expired. The registration
of the warrants under Section 12(g) of the Securities Exchange Act of 1934, as
amended, was terminated on January 25, 1997 and the listing of such warrants on
NASDAQ National Market System was terminated on January 25, 1997. The terms of
the warrants provide that one warrant plus $1.30 was required to purchase one
additional share of the Company's common stock. The warrants were redeemable at
the Company's option commencing March 15, 1995 upon 30 days notice to the
warrant holders at $0.01 per share if the closing bid price of the common stock
averaged in excess of 110% of the then current exercise price of the warrants
for a period of 20 consecutive trading days ending within 15 days of the notice
of redemption.

On March 15, 1999, the common stock bid price closed at $.63 per share. The
closing bid price of the Company's stock on December 31, 1998 was $.53 per
share. The total volume of shares traded during the year ended December 31, 1998
was 37,948,643 shares. As of March 15, 1999, there were 203 holders of record of
the Company's common stock.

The following table presents information on the high and low prices per share
for the Company's common stock for each fiscal quarter in 1998 and 1997 as
reported by the NASDAQ National Market System. The following quotations reflect
inter-dealer prices, without retail mark-up, mark-down or commission, and may
not represent actual transactions.
<TABLE>
<CAPTION>

                                         1998          1997
                                    High $  Low $  High $ Low $
                                    ------  -----  ------ -----

<S>                                 <C>     <C>    <C>    <C> 
               First Quarter        8.13    4.63   7.75   4.93
               Second Quarter       5.60    2.38   6.62   4.62
               Third Quarter        4.75    1.00   9.00   5.87
               Fourth Quarter       1.50     .44   7.93   5.50
</TABLE>


DIVIDENDS

The Company has never paid any dividends on its common stock. The Company
intends to retain earnings and capital for use in its business and does not
expect to pay any dividends within the foreseeable future. Any payment of cash
dividends in the future on the common stock will be dependent on the Company's
financial condition, results of operations, current and anticipated cash
requirements, plans for expansion, restrictions, if any, under debt obligations,
as well as other factors that the Board of Directors deems relevant. The
Company's line of credit agreement prohibits the payment of dividends without
the prior written consent of the lender.

TRANSFER AGENT AND REGISTRAR

American Securities Transfer, Inc. of Colorado has been appointed and serves as
transfer agent and registrar of the Company's common stock.

                                       15
<PAGE>   16




ITEM 6.  SELECTED FINANCIAL DATA

The following table sets forth certain selected financial data regarding the
Company, which is qualified by reference to, and should be read in conjunction
with, the consolidated financial statements and notes thereto (see "Index to
Consolidated Financial Statements" and Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations"). The statement of
operations and balance sheet data presented below has been derived from the
Company's consolidated financial statements. The Company's consolidated
financial statements as of December 31, 1998 and 1997 and for each of the three
years in the period ended December 31, 1998 have been audited by Deloitte &
Touche LLP, the Company's independent auditors, as indicated in their report,
which contains an explanatory paragraph regarding substantial doubt about the
Company's ability to continue as a going concern, included elsewhere herein.
<TABLE>
<CAPTION>
  
                                                                           YEAR ENDED DECEMBER 31,
                                                      -------------------------------------------------------------------
                                                         1998          1997          1996          1995            1994
                                                      --------       --------       --------      --------       --------
                                                                      (IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:

<S>                                                   <C>            <C>            <C>           <C>            <C>     
Net sales                                             $ 60,427       $ 68,290       $ 42,095      $ 13,140       $  7,780
Cost of sales                                           29,383         30,790         21,451         6,327          4,212
                                                      --------       --------       --------      --------       --------
Gross profit                                            31,044         37,500         20,644         6,813          3,568
Operating expenses                                      51,412         39,542         16,794         4,767          2,384
                                                      --------       --------       --------      --------       --------
Operating (loss) income                                (20,368)        (2,042)         3,850         2,046          1,184
Loss on equity method investments                        1,347          1,857            629
Other (income) expense                                     (47)        (3,316)            62          (133)           (53)
Interest expense                                         3,658          4,831          1,205            27             18
                                                      --------       --------       --------      --------       --------
Income (loss) before income taxes                      (25,326)        (5,414)         1,954         2,152          1,219
Minority interest in (loss) income of subsidiary          (274)            10            132

Income tax expense (benefit)                             3,663         (1,047)           450           883            494
                                                      --------       --------       --------      --------       --------
Net (loss) income                                     $(28,715)      $ (4,377)      $  1,372      $  1,269       $    725
                                                      ========       ========       ========      ========       ========
Net (loss) income per share, diluted                  $  (1.46)      $   (.24)      $    .09      $    .10       $    .10
                                                      ========       ========       ========      ========       ========
Weighted average shares outstanding, diluted            19,630         18,052         16,471        13,280          7,139


BALANCE SHEET DATA:
Working capital (deficit)                             $ (7,785)      $ 12,496       $ 15,702      $  7,847       $    289
Total assets                                            38,742         50,961         57,572        11,214          2,202
Total debt                                              18,769         14,008         19,471
Stockholders' equity                                     3,268         24,725         24,263         8,600            607
</TABLE>


(1)      The Company's consolidated financial statements include the results of
         operations of Krasner Group, Inc.; S.L.S. Trading Co., Ltd. and Harlyn
         International Co., Ltd.; and Georgetown Collection, Inc. since June 18,
         1996; July 1, 1996; and October 18, 1996, respectively. 

(2)      Per share amounts and shares outstanding have been adjusted to reflect
         a five-for-one stock split effected in August 1995.


                                       16
<PAGE>   17



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

The following discussion should be read in conjunction with the financial
statements and the notes thereto appearing elsewhere in this Form 10-K.

RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
                                    Year ended December 31, 
                               ----------------------------------
                               1998          1997           1996
                               ----          ----           ----
<S>                            <C>           <C>          <C>   
Net Sales                       100.0%       100.0%       100.0%
Cost of sales                    48.6%        45.1%        51.0%
Gross profit                     51.4%        54.9%        49.0%
Operating expenses               85.1%        57.9%        39.9%
Operating income (loss)         -33.7%        -3.0%         9.1%
Other (income) expense            8.2%        -4.9%         4.5%
Net income (loss)               -47.5%        -6.4%         3.3%
</TABLE>

Year ended December 31, 1998 compared to year ended December 31, 1997

Net Sales

Net sales decreased to $60,427,000 for the year ended December 31, 1998 from
$68,290,000 for the year ended December 31, 1997, a decrease of $7,863,000, or
11.5%. The $7,863,000 decrease in annual net sales was comprised of decreases of
$7,986,000 in the Company's non-celebrity, direct response and catalog-driven
collectible doll programs and $2,466,000 in the Company's fashion jewelry
program, offset by increases in net sales of $1,838,000 in the Company's
celebrity-driven collectible doll program and $751,000 in the Company's fine
jewelry program. The decrease in non-celebrity collectible doll revenues was
primarily attributed to lower than expected response from the Company's catalog
mailings and direct response advertisement campaigns, combined with a planned
reduction from 1997 in direct response advertising spending in the second half
of 1998. The decrease in net sales from the Company's fashion jewelry program
was primarily attributed to lower dollar amount orders from the Company's major
customer in the home shopping industry, the primary distribution channel for the
Company's fashion jewelry. The increase in net sales from celebrity-driven
collectible doll programs is due primarily to increased sales from the Company's
retail base of customers, an area the Company focused on in the second half of
1998. The increase in fine jewelry sales related to an expanded customer base
established by the Company in 1998. The Company continues to assess the
potential of sales expansion of existing products through new distribution
channels, as well as continuing to develop new product categories.

Gross Profit

Gross profit decreased to $31,044,000 for the year ended December 31, 1998 from
$37,500,000 for the year ended December 31, 1997, a decrease of $6,456,000, or
17.2%. As a percentage of net sales, gross profit for the year decreased to
51.4% in 1998 from 54.9% in 1997. The decrease in the gross profit percentage in
1998 from 1997 is due primarily to a change in the sales mix of products sold
directly to the consumer, versus products sold by the Company at wholesale
prices. In 1998, 44.1% of the Company's sales were directly to the consumer
through catalogs and print advertisements, referred to as direct response sales,
versus 50.7% in 1997. Direct response sales, as opposed to wholesale, business
to business sales, generate higher margins to the Company as the products are
sold at retail prices to individual consumers. Therefore, the Company's gross
profit percentage will vary depending on the relationship of direct response
sales to total sales for the Company during the year. Correspondingly, should
the majority of the Company's sales come from fine and costume jewelry sales in
any year, the gross profit percentage of the Company will be lower due to lower
historical margins associated with jewelry production and sales.

Advertising Expense

Advertising expense increased to $14,196,000 for the year ended December 31,
1998 from $10,926,000 for the 


                                       17
<PAGE>   18

year ended December 31, 1997, due primarily to the Company's expansion of its
direct response advertising campaigns among more collectible brands in 1998 and
its attempt, in early 1998, to aggressively prospect for new customers for its
Georgetown Collection non-celebrity collectible doll brand. Additionally, the
Company incurred higher advertising costs in 1998 related to the expansion of
its retail distribution channel for the Company's products and the write off of
approximately $1,643,000 of prepaid advertising and related costs in connection
with the revised marketing strategy for the Company's Georgetown and Magic Attic
Club brands. Included in advertising expense are advertisement printing costs,
catalog printing costs, media space in magazines, and advertisement creative and
development costs.

Selling Expense

Selling expense increased to $7,029,000 for the year ended December 31, 1998
from $6,488,000 for the year ended December 31, 1997, an increase of $541,000,
or 8.3%. As a percentage of net sales, selling expense increased from 9.5% in
1997 to 11.6% in 1998. The increase in selling expense is due primarily to
increases in trade show and commission expenses related to the Company's
expansion of its products into the retail distribution channel, offset by lower
variable royalty expense attributable to lower revenues in 1998. Selling
expenses include royalty expense, commission expense, trade show expenses, and
other sales promotion expenses.

General and Administrative Expense

General and administrative expense increased to $27,196,000 for the year ended
December 31, 1998 from $22,128,000 for the year ended December 31, 1997, an
increase of $5,068,000, or 22.9%. The percentage of revenues represented by
these expenses increased from 32.4% in 1997 to 45.0% in 1998. The increase in
general and administrative expenses as a percentage of revenues resulted
primarily from the 11.5% decrease in the revenue base in 1998 from 1997. The
increase in general and administrative expenses was due in part to higher
personnel costs due to the addition of members of management, and higher
operating costs associated with the Company's new headquarters in California and
jewelry facility in Thailand. Included in general and administrative expense in
1998 is approximately $2 million of legal costs incurred in connection with
various legal proceedings, of which approximately $1.4 million was incurred in
the fourth quarter.

Also included in general and administrative expense in the fourth quarter of
1998 is a $1 million goodwill impairment charge. This charge is the result of
the Company's review of the carrying value of goodwill related to the 1996
acquisition of Krasner Group, Inc. Based upon projected undiscounted cash flows
of Krasner Group, Inc. over the remaining goodwill amortization period, the
Company determined that goodwill aggregating approximately $1 million would not
be recoverable.

Restructuring Charge

In the fourth quarter of 1998, the Company recorded a restructuring charge of
$2,991,000, related to the consolidation of Georgetown Collection and Magic
Attic Club lines (collectively GCI) into the Company's California facility and
outsourcing of fulfillment and order processing for these brands. The
restructuring charge includes $2,342,000 for write-downs of certain long-lived
assets, including goodwill; $500,000 for lease termination payments, net of
estimated sub-lease income; and $149,000 for employee severance and termination
benefits. The write-down of long-lived assets includes the write-down to
estimated fair value of tangible assets to be disposed of ($909,000) and
elimination of goodwill associated with the GCI acquisition ($1,433,000) due to
nonrecoverability based upon projected undiscounted cash flows over the
remaining amortization period.

Loss on Equity Method Investments

Loss on equity method investments decreased to $1,347,000 for the year ended
December 31, 1998 from $1,857,000 for the year ended December 31, 1997. The
major components of the 1998 loss from equity method investments stem from the
Company's 50% interest in Arkenol Asia, LLC and its interest in Pure Energy
Corporation, both development-stage corporations. Under the equity method of
accounting, the Company recorded loss on equity method investments equal to the
investees' net loss multiplied by the Company's ownership percentage. Effective
April 1, 1998, the Company discontinued the application of the equity method to
its investment in Pure Energy Corporation due to a reduction in ownership
interest during 1998. Additionally, during 



                                       18
<PAGE>   19

the year ended December 31, 1998, the Company wrote off its investment in
Arkenol Asia LLC due to the inactivity of the joint venture.

Other (Income) Expense

Other income decreased to $47,000 for the year ended December 31, 1998 from
income of $3,316,000 for the year ended December 31, 1997, a change of
$3,269,000. The primary reason for the substantial change from 1997 to 1998 is
that the 1997 comparative amount included $1,280,000 of foreign currency gains
from transactions of the Company's Thailand operations, compared to foreign
currency transaction losses of $333,000 in 1998, due to fluctuations in the Thai
baht. Included in other income in 1997 is a net gain of $1,710,000 from the sale
of a portion of the Company's interest in Pure Energy Corporation, compared to
1998 net gain on sales of Pure Energy stock of $769,000.

Interest Expense

Interest expense decreased to $3,658,000 for the year ended December 31, 1998
from $4,831,000 for the year ended December 31, 1997, a decrease of $1,173,000,
or 24.3%. The decrease occurred primarily as a result of a $1,899,000 noncash
restructuring charge and noncash conversion discounts incurred in 1997
associated with the Company's 1996 convertible debenture offering, offset by
increased interest charges from the issuance of convertible debentures totaling
$5,000,000 and $7,000,000 in September 1997 and June 1998, respectively.
Included in interest expense for the year ended December 31, 1998 and 1997, are
noncash charges of $2,183,000 and $3,099,000, respectively, that are classified
as interest expense. The remaining balance of interest expense includes interest
on borrowings from working capital lines of credit, mortgages on buildings owned
by the Company, and interest paid in cash on the remaining balance of the
September 1996 convertible debentures.

Income Tax Expense (Benefit)

Income tax expense (benefit) changed from an income tax benefit of $1,047,000 in
1997 to income tax expense of $3,663,000 in 1998. The 1998 expense includes
$3,451,000 to increase the valuation allowance for deferred tax assets due to
recurring tax losses and uncertain future taxable income. The remaining amount
of income tax expense includes estimated minimum state taxes payable based on
factors other than income and foreign taxes related to profitable Thai
operations.

Net Loss

As a result of the foregoing factors, net loss increased to $28,715,000 for the
year ended December 31, 1998 from net loss of $4,377,000 for the year ended
December 31, 1997, an increase in net loss of $24,338,000.

Year ended December 31, 1997 compared to year ended December 31, 1996

Net Sales

Net sales increased to $68,290,000 for the year ended December 31, 1997 from
$42,095,000 for the year ended December 31, 1996, an increase of $26,195,000, or
62.2%. Of the $26,195,000 increase, $22,463,000 was attributable to a full
twelve months of 1997 net sales generated by the Georgetown Collection and Magic
Attic Club product lines that were acquired in October of 1996. The comparative
1996 year included approximately two and one half months of revenues of the
Georgetown Collection and Magic Attic Club lines totaling $12,162,000. The
remaining balance of the increase in sales for 1997 of $3,732,000 consists of an
increase in fashion jewelry sales of $5,902,000, offset by net decreases in
celebrity-driven collectible doll, bear and other consumer products and fine
jewelry sales of $2,094,000 and $76,000, respectively. The increases in fashion
jewelry sales were primarily attributed to the inclusion of a full twelve months
of sales in 1997, versus approximately six months of sales in 1996. The Company
acquired the fashion and fine jewelry subsidiaries in June 1996.

                                       19
<PAGE>   20

Gross Profit

Gross profit increased to $37,500,000 for the year ended December 31, 1997 from
$20,644,000 for the year ended December 31, 1996, an increase of $16,856,000, or
81.7%. As a percentage of net sales, gross profit increased to 54.9% in 1997
from 49.0% in 1996. The improvement of 5.9% in gross profit as a percentage of
net sales was primarily attributable to the inclusion in 1997 of a full year of
activity of Georgetown Collection and Magic Attic Club lines. The gross profit
margins generated by the collectible doll sales of Georgetown Collection and the
Magic Attic Club lines were 67.6% during 1997, while the Company's fashion and
fine jewelry lines generated gross profit margins of approximately 40% in 1997.
The net sales generated by the Georgetown Collection and Magic Attic Club lines,
which are distributed through catalogs, print advertisements and direct mail
aimed at consumers, will result in higher gross margins than the Company's
historical margins. Approximately one half of the Company's net sales, excluding
the portion contributed by Georgetown Collection and Magic Attic Club lines,
come from wholesale sales that typically carry lower gross margins than do
retail sales. Therefore, the Company's gross profit percentage will vary
depending on the volume of catalog, print advertisement, and direct response
sales in any particular quarter. Correspondingly, should the majority of the
Company's sales come from fine and costume jewelry sales in any period, the
Company's gross profit percentage will be lower due to lower historical margins
associated with wholesale jewelry sales. In the future, the Company expects its
direct response sales to make up a large percentage of its annual sales.

Advertising Expense

Advertising expense increased to $10,926,000 for the year ended December 31,
1997 from $4,882,000 for the year ended December 31, 1996, an increase of
$6,044,000, or 123.8%. The increase is due primarily to the inclusion in 1997 of
a full year of activity of the Company's direct response lines, Georgetown
Collection and Magic Attic Club. The comparative 1996 year included
approximately two and one half months of activity from the Georgetown Collection
and Magic Attic Club lines. The Company will continue to incur significant
advertising expense through its direct response business. While the Company
enjoys higher gross margins on direct response sales, substantial advertising
expense is incurred in generating direct response sales. The Company will
continue to focus in 1998 on improving returns from advertising dollars spent.
Included in advertising expense are advertisement printing costs, catalog
printing costs, media space in magazines, postage on mailings, infomercial
costs, and advertisement development costs.

Selling Expense

Selling expense increased to $6,488,000 for the year ended December 31, 1998
from $3,514,000 for the year ended December 31, 1997, an increase of $2,974,000,
or 84.6%. As a percentage of net sales, selling expense increased from 8.3% in
1996 to 9.5% in 1997. Selling expenses include royalty expense, commission
expense, trade show expenses and other sales promotion expenses.

General and Administrative Expense

Total selling, general and administrative expenses increased to $28,616,000 for
the year ended December 31, 1997 from $11,912,000 for the year ended December
31, 1996, an increase of $16,704,000, or 140.2%. The $16,704,000 increase is
primarily due to the inclusion of a full year of activity in 1997 from the
Company's 1996 acquisitions of the Georgetown Collection and Magic Attic Club
product lines and fashion and fine jewelry lines. All of the acquisitions were
completed in the second half of 1996. Therefore, the 1996 comparative base did
not include a full year of activity of the entities, which were included in
1997. As a result of the acquisitions completed in 1996, $661,000 of goodwill
amortization is included in 1997 selling, general and administrative expenses.
The Company also experienced increases in overhead costs such as higher
personnel costs, higher legal and public relations costs and higher operating
costs associated with the Company's new headquarters in California and its
jewelry facility in Thailand. In addition, the Company has incurred higher
travel and lodging costs due to its expansion of operations into southeast Asia.
The percentage of revenues represented by selling, general and administrative
expenses increased from 28.3% in 1996 to 41.9% in 1997. The Company also incurs
general and administrative expenses in connection with overseeing its investment
division that includes investments in Pure Energy Corporation, Ontro, Inc., and
Arkenol Asia, Inc.

                                       20
<PAGE>   21

Loss on Equity Method Investments

Loss on equity method investments increased to $1,857,000 in 1997 from $629,000
in 1996, an increase of $1,228,000. Equity in loss of investee companies
represents the Company's percentage share of losses, accounted for under the
equity method of accounting, incurred by entities in which the Company has a
greater than 20% percentage ownership, and has the ability to influence the
business decisions of the investee companies.

Other (Income) Expense

Other (income) expense increased to income of $3,316,000 for the year ended
December 31, 1997 from expense of $62,000 for the year ended December 31, 1997,
an increase of $3,378,000. The increase of $3,378,000 is primarily comprised of
$1,280,000 of net gains realized by Thailand-based subsidiaries in foreign
currency exchanges, $1,710,000 gain on the sale of shares in Pure Energy
Corporation, an investment held by the Company, offset by losses on infomercial
marketing joint ventures.

Interest Expense

Interest expense increased to $4,831,000 for the year ended December 31, 1997
from $1,205,000 for the year ended December 31, 1996, an increase of $3,626,000.
Included in the $4,831,000 of 1997 interest expense is $3,099,000 of noncash
charges in the form of noncash conversion discounts associated with the
Company's convertible debenture financings which occurred in September of 1996
and 1997, and a restructuring charge of $1,899,000 in February of 1997 incurred
to refinance the remaining convertible debenture completed in the September 1996
offering. The noncash conversion discount of 10% on conversions of convertible
debt into common stock is charged as interest expense. The total conversion
discount charged as interest expense in 1997 totaled $644,000. The remaining
balance of interest expense includes $1,732,000 of interest on borrowings from
working capital lines of credit, mortgages on buildings owned by the Company,
and interest paid in cash on the remaining balance of the September 1996
convertible debentures.

Net Income (Loss)

As a result of the above, net loss increased to $4,377,000 for the year ended
December 31, 1997 from net income of $1,372,000 for the year ended December 31,
1996, a decrease of $5,748,000. The Company's Thailand-based fine jewelry
operations enjoy lower operating costs and overhead and thus generate a higher
percentage of operating income relative to sales than do the Company's domestic
operations. The savings in labor pool and overhead is accomplished by its
location in southeast Asia, where labor and operating costs are typically less
expensive than in the United States.

LIQUIDITY AND CAPITAL RESOURCES

The Company has financed its operations from internally generated cash flow,
short-term borrowings and equity financings. As of December 31, 1998 the Company
had negative working capital of $7,785,000. Working capital decreased from
$12,496,000 at December 31, 1997.

Throughout 1998, the Company has continued to invest most of its available funds
generated from operations and raised in its convertible debenture financing by
capitalizing subsidiaries, purchasing inventory for seasonal needs and
developing new product categories.

The Company has available to use for working capital purposes and to post
letters of credit, a line of credit totaling $15,000,000, subject to certain
limits. The line of credit encompasses The L.L. Knickerbocker Co., Inc. (LLK),
Georgetown Collection, Inc. (GCI) and Krasner Group, Inc. (TKG) and expires in
July 1999. Certain credit limits are established for each company. The credit
limits are $5,000,000 for LLK, $7,000,000 for GCI and $3,000,000 for TKG.
Borrowing availability is determined by an advance rate on eligible accounts
receivable and inventory. The line of credit includes sublimits for letters of
credit and bankers acceptances aggregating $7,000,000, $5,000,000 and $3,000,000
for GCI, LLK and TKG, respectively. Borrowings bear interest at the bank's base
rate (7.75% at December 31, 1998) plus 2% for GCI and TKG borrowings and plus 1%
for LLK 



                                       21
<PAGE>   22

borrowings or, at the Company's option, an adjusted LIBOR rate. In addition, the
Company is charged an Unused Line fee of .25% of the unused portion of the
revolving loans.

At December 31, 1998, the Company had $4,324,000 of cash borrowings outstanding.
Borrowings are collateralized by substantially all assets of the Company. The
line of credit agreement contains, among other things, restrictive financial
covenants, which require the Company to maintain certain leverage and current
ratios (computed annually and quarterly), an interest coverage ratio (computed
annually) and to achieve certain levels of annual income. The agreement also
limits GCI annual capital expenditures and prohibits the payment of dividends.
At December 31, 1998, the Company was not in compliance with certain of these
covenants. As a result of noncompliance under the terms of the line of credit
agreement, the lender has the right to demand immediate repayment of the
outstanding balance. Absent the rights of the lender due to non-compliance,
available borrowings under the line of credit aggregated $1,997,000 at December
31, 1998. The two-year term of the line of credit is expiring in July 1999,
which, at expiration will need to either be paid off in full or renewed. The
Company currently does not have sufficient funds to pay off the line of credit
should the facility not be renewed. The Company believes that the facility will
be renewed, but no assurances can be made that the Company will be successful in
renewing the line of credit.

The Company is in the process of expanding distribution and product categories
and is limited in its ability to borrow on the $15,000,000 credit facility based
upon current levels of inventory and receivables. As a result of the limitations
on the usage of the $15,000,000 credit facility, the Company has looked to
outside financing to supplement the credit facility, completing a $7,000,000
convertible debenture offering in a private placement to institutional investors
in June 1998 (the 1998 Debentures). The 1998 Debentures were subject to an
agreement whereby after approval by the shareholders of the Company of the
issuance of the 1998 Debentures and the creation of a class of Preferred Stock
of the Company, the 1998 Debentures would be exchanged for shares of newly
created Preferred Stock of the Company, the terms of which would be
substantially similar to that of the 1998 Debentures. The Preferred Stock would
be convertible into shares of common stock of the Company at the lower of $4.02
or a graduated discounted price ranging from 97% to 90% of an average of the 7
lowest trading days of the 30 consecutive trading days prior to conversion. The
discounted price of 90% would have applied if the investor did not convert prior
to the two-year anniversary of the closing date. Citing the decline in the
Company's stock price, the holders of the 1998 Debentures chose not to complete
the exchange into Preferred Stock. As a result, under the terms of the
agreements related to the 1998 Debentures (the Agreements), the 1998 Debentures
matured on December 28, 1998. The Company has received a demand for payment from
one of the holders of the 1998 Debentures and currently does not have sufficient
funds to pay off the balance. The Company is negotiating with the holders of the
1998 Debentures to extend the note, but no assurances can be made that the
Company will be successful in the negotiations. As a result, the Company has
reflected the 1998 Debentures as a current liability in the accompanying
financial statements.

Cash flow used in operations was $6,324,000 in 1998 compared to $1,612,000 in
1997. The increase in cash used in operations was due primarily to the increase
in operating loss for the year ended December 31, 1998, offset by certain
noncash items included in operating loss such as depreciation and amortization,
a write-down of a deferred tax asset, a restructuring charge, a goodwill
impairment charge and amortization of debt discount associated with convertible
debenture financings. The cash items impacting cash flow from operations was a
$4,741,000 reduction in the Company's prepaid advertising account and a
$5,032,000 increase in the Company's accounts payable and accrued expenses.

Cash flow used in investing activities was $993,000 for the year ended December
31, 1998, primarily related to acquisitions of property and equipment and
advances to Arkenol Asia, LLC, a joint venture in which the Company has a 50%
interest, offset by proceeds from the sale of investments. Cash flow provided by
financing activities was $6,697,000 in 1998 due primarily to borrowings on the
$15,000,000 credit facility and net proceeds from the convertible debenture
offering completed in June 1998. The current ratio for the Company decreased
from 1.88 at December 31, 1997 to (.76) at December 31, 1998.

The Company believes it will be necessary to raise additional funds from
additional debt or equity financing or asset sales, to sustain its operations.
There can be no assurance that the Company will be successful in raising such
funds on terms acceptable to it, or at all. The Company's future success is
dependent upon raising additional financing to provide for the necessary
operations of the Company and to repay existing financing, as necessary. If the
Company 



                                       22
<PAGE>   23

is unable to obtain additional financing, there would be a material adverse
effect on the Company's business, financial position and results of operations.

SEASONALITY AND QUARTERLY RESULTS

The Company's business is subject to seasonal fluctuations. Georgetown
Collection, Inc., which was acquired effective October 18, 1996, has
historically experienced greater sales in the latter portion of the year.
Because of the seasonality of the Company's business, results for any quarter
are not necessarily indicative of the results that may be achieved for the full
fiscal year.

INFLATION

The Company does not believe that inflation has had a material effect on the
results of operations in the recent past. There can be no assurance that the
Company's business will not be affected by inflation in the future.

YEAR 2000 READINESS DISCLOSURE

The Company has undertaken a Year 2000 Compliance Project ("Y2K Project") that
is designed to ensure that the Company can effectively conduct business beyond
January 1, 2000, and that disruption from December 31, 1999 to January 1, 2000
is minimized. Although no assurances can be given regarding the result of the
Year 2000 event itself, major components of the Company's Y2K Project are
expected to be completed by the end of the third quarter of fiscal 1999.

The Company's Y2K Plan addresses reporting compliance and legal concerns and
contains various phases, including evaluation of systems, planning for system
fixes, implementation of system fixes, development of contingency plans, and
testing of system fixes. The Company has completed the evaluation phase related
to internal systems and is in the process of evaluating the state of readiness
of its major suppliers and customers. The planning phase for fixing internal
systems is completed, and currently the Company is implementing and testing
system fixes. The Company's main accounting system software, including general
ledger, accounts receivable and accounts payable modules, and related hardware
have been upgraded. Such software has been certified as Y2K compliant, and the
related hardware and operating system software has been warranted as Y2K
compliant. The components of the Company's LAN-based software and hardware that
require upgrading should be upgraded and tested through the first three quarters
of fiscal 1999.

The Company outsources its fulfillment and warehousing functions related to its
direct response businesses to an independent provider of such services. The
independent provider has warranted that it is actively taking steps so that its
hardware, software and data feeds, and other machinery and equipment, which
consider and process date-related information, will continue to function
properly after January 1, 2000. The independent provider has, among other
things, (i) taken an inventory of its hardware, software, and data feeds, and
applicable machinery and equipment, (ii) has adopted a testing and remediation
plan, (iii) is currently in progress regarding such testing and remediation for
application software, operating system software, embedded chips and firmware.

The Company is assessing the state of readiness of its major suppliers and
customers through written inquiry and evaluation of responses. The Company
intends to follow up with those suppliers or customers that indicate material
problems. Alternate suppliers or service providers will be identified for those
whose responses indicate an unusually high risk of a Y2K problem. The Company's
evaluation of business processes that are not related to information systems,
and the development of contingency plans where such evaluation identifies a high
risk of a Y2K problem should be completed by the third quarter of fiscal 1999.

The main risks of the Company's Y2K Project are the uncertainties as to whether
the Company's suppliers can continue to perform their services for the Company
uninterrupted by the Y2K event, and whether the Company's customers can continue
to operate their business uninterrupted by the Y2K event. Although the state of
readiness of the Company's suppliers and customers will be monitored and
evaluated, and contingency plans will be developed, no assurances can be given
as to the eventual state of readiness of the Company's suppliers and/or
customers. Nor can any assurance be given as to eventual effectiveness of the
Company's contingency plans.

                                       23
<PAGE>   24

When the Company's systems were upgraded as part of its Y2K Project, other
improvements to the Company's system were made. The cost of the Company's Y2K
Project, including such system upgrades, is estimated to be approximately
$10,000 through December 31, 1998 with $5,000 expected to be incurred in fiscal
1999.

NEW ACCOUNTING PRONOUNCEMENTS

In June 1997, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 130, "Reporting Comprehensive
Income," effective for fiscal years beginning after December 15, 1997. This
Statement requires that all items that are required to be recognized under
accounting standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as other
financial statements. This Statement further requires that an entity display an
amount representing total comprehensive income for the period in that financial
statement. This Statement also requires that an entity classify items of other
comprehensive income by their nature in a financial statement. For example,
other comprehensive income may include foreign currency items, minimum pension
liability adjustments, and unrealized gains and losses on certain investments in
debt and equity securities. Reclassification of financial statements for earlier
periods, provided for comparative purposes, is required. The Company adopted
SFAS No. 130 in the first quarter of 1998. The adoption of SFAS No. 130 required
additional disclosures in the consolidated financial statements but did not have
a material effect on the Company's financial position, results of operations or
liquidity.

In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," effective for fiscal years beginning after
December 15, 1997. This Statement establishes standards for reporting
information about operating segments in annual financial statements and requires
selected information about operating segments in interim financial reports
issued to shareholders. It also establishes standards for related disclosures
about products and services, geographic areas and major customers. Operating
segments are defined as components of an enterprise about which separate
financial information is available that is evaluated regularly by the chief
operating decision maker in deciding how to allocate resources and in assessing
performance. This Statement requires reporting segment profit or loss, certain
specific revenue and expense items and segment assets. It also requires
reconciliations of total segment revenues, total segment profit or loss, total
segment assets, and other amounts disclosed for segments to corresponding
amounts reported in the consolidated financial statements. Restatement of
comparative information for earlier periods presented is required in the initial
year of application, at which time comparative information is required. The
Company adopted SFAS No. 131 beginning with this annual report. The adoption of
SFAS No. 131 required additional disclosures in the consolidated financial
statements but did not have a material effect on the Company's financial
position, results of operations or liquidity.

FORWARD-LOOKING STATEMENTS

When used in this document, the words "believes," "anticipates," "expects" and
similar expressions are intended to identify in certain circumstances
forward-looking statements. Such statements are subject to a number of risks and
uncertainties that could cause actual results to differ materially from those
projected, including risks related to the dependence on sales to QVC; the
acceptance in the marketplace of new products; the ability to source raw
materials at prices favorable to the Company; currency fluctuations; and other
risks outlined in the Company's previously filed public documents, copies of
which may be obtained without cost from the Company. Given these uncertainties,
prospective investors are cautioned not to place undue reliance on such
statements. The Company also undertakes no obligation to update these
forward-looking statements.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

See "Index to Consolidated Financial Statements" for a listing of the
consolidated financial statements submitted as part of this report.

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

None.

                                       24
<PAGE>   25


                                    PART III



ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The directors and executive officers of the Company are as follows:
<TABLE>
<CAPTION>
Name                             Age               Position
----                             ---               --------

<S>                              <C>               <C>  
Louis L. Knickerbocker           58                Chief Executive Officer, President and
                                                   Chairman of the Board

Robert L. West, Jr.              40                Chief Operating Officer

Tamara Knickerbocker             35                Executive Vice President and Director

Anthony P. Shutts                35                Chief Financial Officer and Director

Gerald A. Margolis               69                Director

William R. Black                 46                Vice President, General Counsel, Secretary
                                                   and Director

F. Rene Alvarez                  60                Director
</TABLE>

All directors hold office until the next meeting of the shareholders of the
Company and until their successors are qualified and elected. Executive officers
of the Company are appointed by the Board of Directors and serve at the
discretion of the Board. All executive officers devote full time to the Company.

MR. LOUIS L. KNICKERBOCKER, CHIEF EXECUTIVE OFFICER, PRESIDENT, AND CHAIRMAN

Mr. Knickerbocker, 58, is the co-founder of the Company. Mr. Knickerbocker has
been Chairman, President, and Chief Executive Officer of the Company since
founding the Company in 1985. From 1965 through 1974, Mr. Knickerbocker acquired
and sold a total of seven restaurants, four of which comprised a chain of
Mexican restaurants. Mr. Knickerbocker has been a salesman and sales supervisor
at M. Cooper & Son, and purchased and sold several liquor stores. Between 1974
and 1985, he acted as a private investor and businessman, investing in real
estate and purchasing and selling small businesses. Mr. Knickerbocker also
serves on the Boards of Directors of Ontro, Inc. and Arkenol Asia, Inc. Mr.
Knickerbocker is married to Tamara Knickerbocker, the Executive Vice President
of the Company.

MR. ROBERT L. WEST, JR., CHIEF OPERATING OFFICER

Mr. West, 40, joined the Company in February 1997 as acting interim president of
Georgetown Collection, Inc. He assumed the position of Chief Operating Officer
of the Company in January 1998. Mr. West has over 16 years of experience in
consulting, finance and administration, specializing in direct marketing
companies. He holds a BSBA in Management and Finance from the University of
North Carolina, and has completed graduate work in Organizational Dynamics and
Leadership at the University of Pennsylvania. Mr. West is a member of the
American Management Association, the American Financial Association, the
Institute of Management Accountants, the World Affairs Council and is listed in
several "Who's Who" publications.

Mr. West has provided services relating to both finance and administration to
companies in the United States and abroad. From 1981 to 1984, he worked as
Division Controller for Royster Company in Norfolk, Virginia. He was Manager of
Financial Analysis for Rohm and Haas Company in Philadelphia, Pennsylvania from
1984 to 1987. Mr. West was the Head of European Operations for the Franklin
Mint, headquartered in London, England, from 1987 to 1990. From 1990 to 1991, he
served as Consultant to the Chief Executive Officer of J. Crew Group 



                                       25
<PAGE>   26

in New York, New York, and Consultant and Vice President of Finance and
Operations for Paradise Galleries, Inc. in San Diego, California. Mr. West was
Vice President and Chief Financial Officer of Georgetown Collection, Inc. in
Portland, Maine from 1991 to 1995, and Vice President of Worldwide Operations
for Quantum North America from 1995 to 1996.

MS. TAMARA KNICKERBOCKER, EXECUTIVE VICE PRESIDENT, DIRECTOR

Ms. Knickerbocker, 35, is the co-founder of the Company. Ms. Knickerbocker has
been with the Company as Vice President since its inception in 1985. In January
1998, she was appointed to the Board of Directors. She has over 10 years of
experience in the field of direct marketing. Since 1985, she has worked to
develop and market products and programs for the home shopping industry. Her
focus has mainly been the creation and development of the products, and she has
emphasized collectibles. Ms. Knickerbocker is married to Louis L. Knickerbocker,
the Chief Executive Officer, President and Chairman of the Board of the Company.

Ms. Knickerbocker is currently managing all aspects of the Marie Osmond Doll
Collection program, including product and program development, production,
marketing and sales. In addition, she also oversees the other collectible
programs, including the collectable bears. She has had primary responsibility
for the profitability and diversity of the collectible lines and is currently
coordinating expansion in these programs.

MR. ANTHONY P. SHUTTS, C.P.A., CHIEF FINANCIAL OFFICER, DIRECTOR

Mr. Shutts, 35, was hired as a consultant to the Company on April 1, 1993 and
became Chief Financial Officer of the Company on June 30, 1993. Mr. Shutts
became a full-time employee of the Company on April 1, 1996. Mr. Shutts has been
a director of the Company since June 1994. He is a certified public accountant
with over 13 years experience in public accounting, most notably with Deloitte &
Touche from 1986 to 1991, specializing in emerging companies. Mr. Shutts holds a
Bachelors in Business Administration and a Master's degree in Taxation, both
from the University of Southern California. Currently, Mr. Shutts serves as
Chief Financial Officer of the Company, overseeing the financial matters of the
Company and performing the general functions of CFO.


MR. GERALD A. MARGOLIS, DIRECTOR

Mr. Margolis, 69, was appointed to the Board of Directors in June 1994, and
served as Secretary of the Company from June 1994 until June 1995. He graduated
from the U.C.L.A. School of Law in 1954 and has been a licensed attorney in
private practice and a member of the California State Bar since 1955. Mr.
Margolis was a City Council member of the Culver City Counsel from 1962 to 1966.
Mr. Margolis has advised the Company on general corporate matters since its
inception in 1985.

MR. WILLIAM R. BLACK, VICE PRESIDENT, GENERAL COUNSEL, SECRETARY AND DIRECTOR

Mr. Black, 46, was appointed to the Board of Directors in November 1995. He
joined the Company as Vice President and General Counsel in April 1997, and was
appointed Secretary in January 1998. Mr. Black received a BSBA in Business from
the University of Denver in 1978, an MBA from the University of Denver in 1981
and a Juris Doctor from Western State University College of Law in 1987. Mr.
Black is a licensed attorney and a member of the California State Bar, the
Federal District Courts for the Central and Northern Districts of California and
the Ninth Circuit Court of Appeals. He holds a California Real Estate Broker's
license and is a member of the American Bar Association, the Orange County Bar
Association, the American Management Association, the American Employment Law
Council, the Professionals in Human Resources Association, the American
Corporate Counsel Association and has been listed in numerous "Who's Who"
publications from 1984 to the present.

Mr. Black worked as an Area Manager for Deere & Company from 1979 through 1984,
Director of Analysis for Management Resource Services Company from 1984 through
1985, and Senior Vice President of Geneva Corporation from 1985 through 1990.
From 1991 through 1997, he maintained a private law practice and served as Vice
President and General Counsel of Sunclipse, Inc. in Buena Park, California.

                                       26
<PAGE>   27

Mr. Black also serves on the Boards of Directors of Pyraponic Industries, Inc.
in San Diego, California, American Employer Defense, Inc. in Los Angeles,
California, and Arkenol Asia, Inc. in Lake Forest, California.

Mr. Black's employment with the Company and service as a director ended on March
31, 1999.

MR. F. RENE ALVAREZ, JR., DIRECTOR

Mr. Alvarez, 60, was appointed to the Board of Directors in May 1997. Mr.
Alvarez has been the Senior Vice President, Finance of the Pacific Bay Homes
subsidiary of Ford Motor Company since 1995. He worked as a member of the
finance staff for Ford Motor Company from 1969 to 1989, as Director of Internal
Audit for the USL Capital subsidiary of Ford Motor Company from 1989 to 1994,
and as Audit Manager, Finance Staff, for Ford Financial Services Group from 1994
to 1995. Mr. Alvarez attained the rank of Captain in the United States Army, and
was awarded the Bronze Star for service in Vietnam. He received a B.S.,
Accounting, from Canisius College in 1962 and a Juris Doctor and LLB from State
University of New York at Buffalo in 1967. Mr. Alvarez is a licensed attorney
and a member of the New York State Bar.

SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the
Company's directors and officers, and persons who own more than 10% of a
registered class of the Company's securities, to file with the Securities and
Exchange Commission ("SEC") initial reports of ownership and reports of changes
in ownership of the Company's common stock and other equity securities.
Officers, directors and greater-than-10% stockholders are required by SEC
regulation to furnish the Company with copies of all Section 16(a) forms they
file.

To the Company's knowledge, based solely on a review of the copies of such
reports furnished to the Company and written representations that no other
reports were required, the Company believes that during the year ended December
31, 1998, its officers, directors, and greater-than-10% stockholders complied
with all Section 16(a) filing requirements, with the exception of: (i) Louis L.
Knickerbocker, whose Form 5 for 1998 for three transactions is in the process of
being prepared and filed; (ii) Robert L. West, Jr., whose Form 5 for 1998 for
two transactions is in the process of being prepared and filed; (iii) Tamara
Knickerbocker, whose Form 5 for three transactions is being prepared and filed;
(iv) Anthony P. Shutts, whose Form 5 for two transactions is in the process of
being prepared and filed; (v) William R. Black, whose Form 5 for 1998 for two
transactions is in the process of being prepared and filed; (vi) Gerald A.
Margolis, whose Form 5 for one transaction is in the process of being prepared
and filed; and (vii) F. Rene Alvarez, Jr., whose Form 5 for one transaction is
in the process of being prepared and filed.

ITEM 11.  EXECUTIVE COMPENSATION



                                       27
<PAGE>   28




The following table sets forth certain information concerning annual, long-term
and other compensation received during the last three completed fiscal years and
to be received by (i) the Chief Executive Officer of the Company, and (ii) the
Company's four most highly compensated executive officers whose annual salary
and bonus compensation exceeded $100,000:

                           SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>

                                                                                         Long-Term
                                                        Annual Compensation            Compensation
                                                                                        Securities
Name and Principal                      Fiscal                                          underlying                All Other
Position                                 Year         Salary           Bonus         options/SARs (1)          Compensation(2)
--------                                 ----         ------           -----         ----------------          ---------------
<S>                                      <C>         <C>              <C>            <C>                       <C>
Louis L. Knickerbocker,                  1998        $ 300,000              N/A               825,000(3)            $92,733
   Chairman, Chief Executive             1997        $ 300,000        $ 200,000               500,000                   N/A
   Officer and President                 1996        $ 300,000              N/A                   N/A                   N/A

Robert L. West, Jr.                      1998        $ 113,846              N/A               250,000                 $ 350
   Chief Operating Officer               1997              N/A              N/A                   N/A                   N/A
                                         1996              N/A              N/A                   N/A                   N/A

Tamara Knickerbocker                     1998        $ 113,154              N/A               112,604(4)              $ 175
   Executive Vice President              1997         $ 80,000         $ 50,000                 2,216                   N/A
                                         1996         $ 80,000              N/A                12,362                   N/A

Anthony P. Shutts                        1998        $ 121,608              N/A               174,250(5)              $ 225
   Chief Financial Officer               1997        $ 120,000         $ 72,939               205,000                   N/A
                                         1996        $ 110,000              N/A                   N/A                   N/A

William R. Black (6)                     1998        $ 162,094              N/A               187,602(5)                N/A
    General Counsel and Secretary        1997        $ 109,038              N/A               250,000                   N/A
                                         1996              N/A              N/A                10,000                   N/A
</TABLE>




(1) Reflected amounts consist of the number of options to purchase the Company's
common stock.

(2) With respect to Mr. Knickerbocker, represents amounts paid as compensation
for personal guarantee and pledge of personal assets as collateral for the
Company's bank line of credit. With respect to all others, represents Company's
obligations to make matching contributions to the Company's 401(K) Plan,
qualified under Section 401(a) of the Internal Revenue Code of 1986, as amended.

(3) Includes options to purchase 425,000 shares of the Company's common stock,
which resulted from the repricing of previously awarded stock options.

(4) Includes options to purchase 39,578 shares of the Company's common stock,
which resulted from the repricing of previously awarded stock options.

(5) Consists of options issued as a result of the repricing of previously
awarded stock options.

(6) William R. Black's employment with the Company ended on March 31, 1999.

COMPENSATION OF DIRECTORS

Directors holding salaried positions with the Company do not receive
compensation for their services as a director. All other directors receive a fee
of $500 per meeting attended and reasonable travel expenses.

                                       28
<PAGE>   29


EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT AND CHANGE-IN-CONTROL
ARRANGEMENTS

In 1996, the Company entered into employment agreements with Louis L.
Knickerbocker, its Chairman, Chief Executive Officer and President; Anthony P.
Shutts, its Chief Financial Officer; and Tamara Knickerbocker, its Executive
Vice President. In April 1997, the Company entered into an employment agreement
with William R. Black, its former General Counsel and Secretary. In April 1998,
the Company entered into an employment agreement with Robert L. West, Jr., its
Chief Operating Officer. The respective terms of the employment agreements are
five years each. The agreements are subject to early termination by the Company
under certain conditions, including breach of the agreement, fraud by the
employee, and/or breach of fiduciary duty owed to the Company by the employee.
The Company has the right to extend the terms of each employment agreement for
an additional five years each upon written notice to the respective employee.
Under the agreements, each of the employees agrees to devote his or her full
time and effort to the business affairs of the Company and to use his or her
best efforts to promote the best interests of the Company.

Except for certain provisions contained in the Company's stock option plans,
there are no compensatory plans or arrangements with respect to any of the Named
Executive Officers which are triggered by, or result from, the resignation,
retirement or other termination of such named executive officer's employment, a
change-in-control of the Company or a change in the named executive officer's
responsibilities following a change-in-control.

During the first year, the employment agreements called for Mr. Knickerbocker to
receive an annual base salary of $300,000, for Mr. Shutts to receive an annual
base salary of $120,000, for Ms. Knickerbocker to receive an annual base salary
of $80,000, for Mr. Black to receive an annual base salary of $150,000, and for
Mr. West, Jr. to receive an annual base salary of $160,000. In addition to their
respective base salaries, Mr. Knickerbocker, Mr. Shutts, Ms. Knickerbocker, and
Mr. West are, and Mr. Black was, eligible to receive an annual bonus in an
amount to be determined by a compensation committee and ratified by the Board of
Directors out of a Management Bonus Fund up to a maximum of 10% of the greater
of pretax income or operating profits of the Company and are, or in the case of
Mr. Black, were, entitled to receive certain stock options from the Company's
stock option plans previously adopted by the Company. See "Stock Option Plans."

STOCK OPTION PLANS

THE L. L. KNICKERBOCKER 1995 AMENDED AND RESTATED STOCK OPTION PLAN

The shareholders approved and the Company adopted a Stock Option Plan on
September 27, 1994, which was amended and restated on June 15, 1995 as the L. L.
Knickerbocker 1995 Amended and Restated Stock Option Plan (the "Stock Option
Plan"). The Stock Option Plan is administered by a committee appointed by the
Board of Directors and provides that options may be granted at exercise prices
determined by the Board of Directors in its sole discretion. The Stock Option
Plan is designed as an incentive for employees, non-employee directors and
persons providing services of special importance to the Company. Unless
otherwise specified, the options expire ten years from the date of grant. The
Stock Option Plan covered an aggregate of 400,000 shares when granted, which was
increased by the Company's 1994 five-for-one stock split to a total of 2,000,000
shares. As of the date of this Report, 400,000 pre-split options have been
granted pursuant to the Plan, which has been increased by the Company's 1994
five-for-one stock split to a total of 2,000,000 options granted.

THE L.L. KNICKERBOCKER STOCK INCENTIVE COMPENSATION PLAN

On March 27, 1997, the Company's Board of Directors adopted the L.L.
Knickerbocker Stock Incentive Compensation Plan (the "ISO Plan"). The ISO Plan
was approved by the vote of the shareholders of the Company in June 1997. The
ISO Plan provides that incentive and nonstatutory options to purchase a total of
5,000,000 shares of common stock may be granted thereunder. The ISO Plan permits
the granting of options intended to qualify as "incentive stock options"
("ISOs") within the meaning of Section 422 of the Internal Revenue Code of 1986,
as amended from time to time (the "Code"), the granting of options that do not
so qualify ("NSOs"), and the granting of stock appreciation rights ("SARs"). The
Plan is administered by the Board of Directors, or if the Board so elects, by a
committee appointed by the Board of Directors consisting of not less than 2
members of the Board (the "Administrator"). The Administrator has the power to
determine the employees to 



                                       29
<PAGE>   30

be granted options and the number of shares to be granted to each optionee and
to interpret the ISO Plan.

The exercise price of any option is established by the Administrator at the time
of grant. The exercise price of any NSOs or ISOs granted under the Plan may not
be less than 100% of the fair market value of one share of common stock on the
date of grant. The exercise price of any ISO granted to an optionee who owns
stock possessing more than 10% of the voting rights of the Company's outstanding
shares must be at least 110% of the fair market value of the shares subject to
the option on the date of grant. So long as the Company's common stock is traded
on the NASDAQ National Market System, the fair market value of one share of
common stock is the closing bid price on the date of valuation.

The exercise price is payable in full in United States dollars or by certified
check upon the exercise of the option, provided however, that if the applicable
option agreement so provides, or the Administrator, in its sole discretion
otherwise approves thereof, the exercise price may be paid, (i) by the surrender
of shares of the Company's common stock owned by the person exercising the
option and having a fair market value on the date of exercise equal to the
purchase price, or (ii) in any combination of cash and common stock of the
Company, as long as the sum of the cash so paid and the fair market value of the
common stock so surrendered equals the purchase price. Additionally, if the
optionee is granted SARs, either in the stock option agreement or in a separate
agreement, such SARs may be exercised with the exercise of the options to permit
the Company to issue common stock with a fair market value equal to the
difference between the exercise price of one option and the fair market value of
one share of common stock on the date of exercise, multiplied by the total
number of options exercised.

NSOs and ISOs have maximum terms of 10 years. The aggregate fair market value
(determined as of the time the option is granted) of stock for which ISOs are
exercisable for the first time by an optionee during any calendar year may not
exceed $100,000, but the value of stock for which ISOs may be granted to an
Optionee in a given year may exceed $100,000.

In general, if an optionee ceases service to the Company or one or more of its
subsidiary Companies because of death or disability, options shall not be
exercised after the earlier of (i) the term of the option or (ii) twelve months
after the optionee's cessation of service, and such options shall only be
exercisable to the extent vested on the date of cessation of service. If an
optionee is discharged on account of misconduct, all options terminate
immediately and are no longer exercisable. If an optionee ceases service for any
other reason, options shall not be exercised after the earlier of (i) the term
of the option or (ii) three months after the optionee's cessation of service,
and such options shall only be exercisable to the extent vested on the date of
cessation of service. Options are, during the lifetime of the optionee,
exercisable only by him or her and may not be assigned or transferred other than
by will or by the laws of descent and distribution.

The ISO Plan provides that in the event a "Change in Control" of the Company
should occur, then the exercise dates of all options granted pursuant to the ISO
Plan shall automatically accelerate and all options granted pursuant to the ISO
Plan shall become exercisable in full. To the extent the Code would not permit
any ISO to be so accelerated, then such option, immediately upon the occurrence
of such Change in Control shall be treated for all purposes of the Plan as a NSO
and shall be immediately exercisable. A "Change in Control" is defined in the
Plan as a change in control of a nature that would be required to be reported in
response to Item I of Form 8-K required to be filed pursuant to the Securities
Exchange Act of 1934, as amended ("1934 Act"), and includes, without limitation
if: (i) the Company shall sell, transfer, or otherwise dispose of fifty percent
(50%) or more of its assets and properties (calculated on the basis of book
value); or (ii) any "person" (as such term is used in Section 13(d) and 14(d) of
the 1934 Act), other than the Company, is or becomes the "beneficial owner" (as
defined in Rule 13d-3 under the 1934 Act), directly or indirectly, of securities
of the Company representing 20% or more of the combined voting power of the
Company's then outstanding securities; or (iii) during the period of two
consecutive years during the term of the ISO Plan, individuals who at the
beginning of such period constitute the Board cease for any reason to constitute
at least a majority thereof, unless the election of each director who was not a
director at the beginning of such period has been approved in advance by
directors representing at least two-thirds of the directors then in office who
were directors at the beginning of the period.

The Board may from time to time, with respect to any shares at the time not
subject to options, suspend or discontinue the ISO Plan or revise or amend it in
any respect whatsoever except that, without the approval of the Company's
shareholders, no such revision or amendment shall increase the number of shares
subject to the ISO 



                                       30
<PAGE>   31

Plan or change the classes of persons eligible to receive options. Options may
be granted pursuant to the ISO Plan until the expiration of the Plan on March
27, 2007.

OPTIONS GRANTED

The following table sets forth information concerning the grant of stock options
during the fiscal year ended December 31, 1998 to each of the Named Executive
Officers.

                       OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>

                                               Individual Grants (1)
                               -----------------------------------------------------
                                                     Percent of
                                                  Total Options                                            Potential Realizable
                                                     Granted to                                              Value at Assumed
                                                     Employees       Exercise or                              Annual Rates of
                                   Options           in Fiscal        Base Price      Expiration          Stock Price Appreciation
Name                               Granted         Year 1998(2)     (per share)(3)     Date(4)               for Option Term(5)
----                               -------         ------------     --------------     -------               ------------------
                                                                                                            5%              10%
                                                                                                       --------         -----------
<S>                             <C>               <C>               <C>               <C>              <C>              <C>        
Louis L. Knickerbocker          825,000 (6)             37.38%          $0.64           2008           $ 184,234        $   606,114
Robert L. West, Jr.             250,000 (6)             11.33%          $0.64           2008           $  55,829        $   183,671
Tamara Knickerbocker            112,604 (6)              5.10%          $0.64           2008           $  25,146        $    82,728
Anthony P. Shutts               174,250 (6)              7.90%          $0.64           2008           $  38,912        $   128,019
William R. Black                187,602 (6)              8.50%          $0.64           2008           $  41,894        $   137,828
</TABLE>

--------------------------------------------------------------------------------

(1)      These options were granted pursuant to the Company's ISO Plan.

(2)      In fiscal 1998, 2,206,918 options were granted to employees pursuant to
         the Company's ISO Plan. This number was used in calculating the
         percentages in the above table.

(3)      All exercise prices are set at 100% of the market value of the
         Company's stock as of the date of grant, except (i) in the case of
         Louis L. Knickerbocker, whose options were granted at 110% of the
         market value of the Company's stock on the date of grant, and (ii)
         repriced options which were granted at 120% of the market value of the
         Company's stock on the date of grant.

(4)      The options granted as ISO's under the Company's ISO Plan expire on the
         tenth anniversary of the date of grant.

(5)      The dollar amounts under these columns are the result of calculations
         at the 5% and 10% rates required by applicable regulations of the
         Securities and Exchange Commission and, therefore, are not intended to
         forecast possible future appreciation, if any, of the Company's common
         stock price. Actual gains, if any, on stock option exercises depend on
         future performance of the Company's common stock and overall market
         conditions, as well as the optionee's continued employment through the
         vesting period. The amounts reflected in this table may not be
         achieved.

(6)      Amounts reflected consist of, (i) in the case of Mr. Knickerbocker,
         425,000 options granted in a prior year which were repriced in 1998
         and 400,000 options granted in 1998; (ii) in the case of Mr. West,
         amounts consist of options granted in 1998; (iii) in the case of Ms.
         Knickerbocker, 39,578 options granted in a prior year which were
         repriced in 1998 and 73,026 options granted in 1998; (iv) in the case
         of Mr. Shutts, 174,250 options granted in a prior fiscal year which
         were repriced in 1998 and (v) in the case of Mr. Black, 187,602 options
         granted in a prior fiscal year which were repriced in 1998. All options
         granted in 1998 are subject to vesting periods which range from one to
         five years.



                                       31
<PAGE>   32



OPTIONS EXERCISED AND FISCAL YEAR-END VALUES

The following table provides information with respect to the exercise of stock
options during the most recently completed fiscal year by the Named Executive
Officers of the Company together with the fiscal year-end value of unexercised
options.

                    AGGREGATED OPTION/SAR EXERCISES IN LAST
               FISCAL YEAR AND FISCAL YEAR-END OPTION/SAR VALUES
<TABLE>
<CAPTION>

                                                                   Number of securities
                                                                underlying unexercised       Value of unexercised in-the-
                                                            options/SARs at fiscal year-end   money options/SARs at fiscal
                                                                          (#)                       year-end ($) (1)
                                Shares
                              acquired on   Value realized
Name                          exercise (#)      ($) (1)     Exercisable    Unexercisable   Exercisable    Unexercisable
----                          ------------      -------     -----------    -------------   -----------    -------------
<S>                           <C>           <C>             <C>            <C>             <C>            <C>
Louis L. Knickerbocker                                         825,000            --       $    --        $   --
Robert L. West, Jr                                              --            250,000           --            --
Tamara Knickerbocker                                           112,604            --            --            --
Anthony P. Shutts                                              174,250            --            --            --
William R. Black                72,398         $570,500        162,602         25,000           --            --
</TABLE>



(1) Market value of the securities underlying the "in-the-money" options at
    exercise date or year-end, as the case may be, minus the exercise price of
    such options.

REPRICING OF OPTIONS

As discussed in the report below, the Company gave certain of its employees and
directors holding stock options the opportunity to exchange those options for
new options with a lower exercise price. The new options retained the same
vesting schedule of the old options. The following table sets forth information
concerning the repricing of previously awarded stock options during the fiscal
year ended December 31, 1998 to each of the Named Executive Officers.

                        TEN-YEAR OPTIONS/SAR REPRICINGS
<TABLE>
<CAPTION>
                                                                  Market                                 Length of
                                                Number of        Price of                                Original
                                                Securities       Stock at      Exercise                 Option Term
                                                Underlying        Time of      Price at       New        Remaining
                                               Options/SARs      Repricing     Time of      Exercise     at Date of
Name                             Date          Repriced (1)        ($)        Repricing     Price (2)    Repricing
------------------------------------------------------------------------------------------------------------------
<S>                            <C>             <C>              <C>           <C>           <C>         <C>      
Louis L. Knickerbocker,        12/14/98         425,000         $   0.53      $   4.62      $   0.64      8.5 years
Chairman, Chief Executive
Officer, and President
Tamara Knickerbocker,          12/14/98           8,272         $   0.53      $   7.75      $   0.64      7.5 years
  Executive Vice President     12/14/98           2,853         $   0.53      $   8.00      $   0.64      7.5 years
                               12/14/98           1,237         $   0.53      $   5.75      $   0.64      8 years
                               12/14/98             750         $   0.53      $   4.62      $   0.64      8.5 years
                               12/14/98           1,466         $   0.53      $   5.88      $   0.64      8.5 years
                               12/14/98          25,000         $   0.53      $   5.68      $   0.64      9 years
Anthony P. Shutts,             12/14/98         174,250         $   0.53      $   4.62      $   0.64      8.5 years
Chief Financial Officer
William R. Black,              12/14/98         187,602         $   0.53      $   4.62      $   0.64      8.5 years
General Counsel and Secretary

</TABLE>


(1)      The number of securities underlying options/SARs repriced is 85% of the
         securities underlying the canceled options for Louis L. Knickerbocker,
         Tamara Knickerbocker, Anthony P. Shutts and William R. Black.

(2)      The exercise price of stock options repriced is 120% of the market
         price of the Company's common stock at the date of repricing.


REPORT OF THE COMPENSATION COMMITTEE ON REPRICING OF OPTIONS

On December 14, 1998, the Board of Directors granted the Company's directors,
executive officers and employees who had been granted options to purchase shares
of the Company's common stock the right to exchange such options for new stock
options with an exercise price of $.64 per share, 120% of the closing sales
price of the Company's common stock on December 14, 1998. The new stock options
granted in connection with the repricing retained the vesting dates of the
original options. The number of new stock options granted to executive officers
was equivalent to 85% of the previously issued options. In total, options to
purchase an aggregate of 1,593,643 shares of common stock at exercise prices
ranging from $.75 to $8.00 were canceled and exchanged for 1,471,456 options at
an exercise price of $.64.

Stock options are intended to provide long-term incentives to officers, other
employees and directors of the company to improve the Company's financial
performance and to assist in the recruitment, motivation and retention of key
professional and managerial personnel. In authorizing the option repricing, the
Board of Directors considered the fact that the broad decline in the price of
the Company's common stock had resulted in a substantial number of the Company's
outstanding stock options having exercise prices considerably above the market
price of the common stock. The Board determined that the disparity between the
exercise price of the options and the then market price substantially impaired
the effectiveness of such options as meaningful performance incentives.
Consistent with the Company's philosophy of utilizing equity incentives to
motivate and retain management and employees, the Board determined it was in the
best interest of the Company and its shareholders to restore the performance
incentives intended to be provided by options by reducing the exercise price of
the overpriced options.

                                       32
<PAGE>   33

                                    The Compensation Committee

                                    Louis L. Knickerbocker
                                    Gerald A. Margolis
                                    F. Rene Alvarez

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION IN COMPENSATION
DECISIONS

The following directors served on the Company's Compensation Committee during
the year ended December 31, 1998: Louis L. Knickerbocker, Gerald A. Margolis,
and F. Rene Alvarez, Jr. Mr. Knickerbocker is the Chairman, Chief Executive
Officer and President of the Company and Mr. Margolis and Mr. Alvarez are
non-employee directors.

ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The following table sets forth certain information regarding the beneficial
ownership of the Company's common stock as of April 26, 1999 by (i) each
director of the Company, (ii) the CEO of the Company and the four most highly
compensated executive officers of the Company whose annual salary and bonus
compensation exceeded $100,000, (iii) all directors and executive officers as a
group, and (iv) each person known to the Company to own beneficially more than
5% of the outstanding shares of common stock:
<TABLE>
<CAPTION>

Name and Address of                                       Amount and Nature          Percent
Beneficial Owner (1)                                   of Beneficial Ownership       of Class
--------------------                                   -----------------------       --------
<S>                                                       <C>                        <C>
Louis L. Knickerbocker                                        4,417,392(2)           14.7%
Tamara Knickerbocker                                          3,544,996(3)           11.8%
Robert L. West, Jr.                                              50,000(4)            * 
Anthony P. Shutts                                               174,650(5)            *
Gerald Margolis                                                 219,500(6)            *
F. Rene Alvarez, Jr.                                             30,000(7)            *
Directors and Executive Officers
    as a Group                                                8,436,538(8)           28.1%
</TABLE>

---------------

*       Less than 1.0% of the outstanding common stock as of April 26, 1999.

(1)     The address for all persons listed is c/o The L.L. Knickerbocker Co.,
        Inc., 25800 Commercentre Drive, Lake Forest, CA 92630.

(2)     Includes 825,000 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan. Excludes 3,544,996 shares beneficially owned by Tamara
        Knickerbocker.

(3)     Includes 112,604 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan. Excludes 4,417,392 shares beneficially owned by Louis L.
        Knickerbocker.

(4)     Includes 50,000 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan.

(5)     Includes 174,250 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan.

(6)     Includes 70,000 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan.

(7)     Includes 20,000 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan.

(8)     Includes 1,251,854 shares issuable upon the exercise of stock options
        exercisable within 60 days of April 26, 1999 under the Company's ISO
        Plan.

                                       33
<PAGE>   34
ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

TRANSACTIONS WITH MANAGEMENT

From 1995 to 1998, the Company made loans to its Chairman, Chief Executive
Officer, and President, Louis L. Knickerbocker. The largest aggregate amount
outstanding (including accrued but unpaid interest) during fiscal 1998 was
$1,423,600, and $1,093,630 was outstanding as of April 26, 1999. The loans are
evidenced by promissory notes providing for payment of interest at the prime
rate plus 1% per annum, and payments in installments of $200,000 on March 31,
2000 and September 30, 2000 with any unpaid principal and interest due on April
11, 2001.

Between the months of February and April of 1998, Louis L. Knickerbocker
advanced a total of $2,615,000 to the Company as a working capital loan.
Interest was paid at the prime rate plus 1% per annum. A total of $75,000 in
interest expense was paid to Mr. Knickerbocker in 1998 in connection with the
working capital loan. The Company repaid the loan in June 1998.

In 1998, the Company's Board of Directors authorized monthly payments of $11,500
to Louis L. Knickerbocker as compensation for Mr. Knickerbocker's personal
guarantee and pledge of personal assets as collateral for the Company's bank
line of credit. During 1998, the Company made a total of $92,733 of such
payments.

Pursuant to a resolution of the Board of Directors of the Company, passed on
September 27, 1994, any ongoing 


                                       34
<PAGE>   35
and future transactions between the Company and its officers, directors,
employees, and affiliates, that are outside the scope of the Company's
employment relationship with such persons will be on terms no less favorable to
the Company than can be obtained from unaffiliated parties. Any such
transactions are subject to the approval of a majority of the disinterested
members of the Board of Directors. Each of the foregoing transactions complied
with this resolution.

AFFILIATED AND PREDECESSOR COMPANIES

The L.L. Knickerbocker Co., Inc. (the Company) was formed by Louis L.
Knickerbocker, Chairman, President, and Chief Executive Officer of the Company,
and Tamara Knickerbocker, his wife and the Executive Vice President of the
Company, under the name International Beauty Supply, Ltd., a California
corporation (IBS) in 1985. IBS developed a line of cosmetics called "Orchid
Premium" that was initially marketed to professional beauty supply houses and
subsequently expanded to retail stores.

The Knickerbockers' next venture was LaVie Cosmetics, a California corporation
(LaVie), co-founded in 1987 by the Knickerbockers. LaVie introduced a product
named Creme de LaVie in both the I. Magnin and Nordstrom department stores. In
October 1988, Creme de LaVie was introduced on The Home Shopping Network in
Tampa, Florida.

In 1989, the Knickerbockers co-founded another company, MLF Enterprises, a
California corporation (MLF). MLF developed replicas of the jewelry collection
of Farrah Fawcett, a former director of the Company, which were sold through the
television home shopping industry.

The Knickerbockers next formed Knickerbocker Creations, Ltd., a California
corporation ("Creations") in 1990 and began developing the products and
celebrity endorsement programs that are now part of the Company.

In 1993, the directors and shareholders of Creations and IBS determined to
effect an initial public offering in order to finance the continued growth of
the different companies. It was determined that the operations of Creations and
IBS should be consolidated under a single entity in order to facilitate the
contemplated public offering. However, because Creations had been switched from
a "C" corporation to a subchapter "S" corporation in 1990, the directors and
shareholders of the Company were advised that Creations would be an unsuitable
candidate for a public offering.

On May 24, 1993, the directors and shareholders of IBS approved an amendment of
the articles of incorporation of the corporation changing the name of the
corporation from "International Beauty Supply, Ltd." to the Company's current
name, "The L. L. Knickerbocker Co., Inc." The Company's name was chosen to
maximize the retention of the goodwill in the home shopping industry associated
with the name "Knickerbocker" by virtue of Creations' business. The Company then
consummated an asset purchase whereby the operating assets of Creations,
including but not limited to the marketing and distribution rights to the
products and programs of Creations, were acquired along with certain
liabilities. As of the date hereof, all current active contracts of Creations
have been assumed or amended to grant those rights and obligations to the
Company.



                                       35
<PAGE>   36


                                     PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)(1)  See page 29 for a listing of financial statements submitted as part of
        this report.

(a)(2)  All schedules for which provision is made in the applicable accounting
        regulation of the Securities and Exchange Commission are not required
        under the related instructions, are shown in the financial statements in
        Schedule II.

(a)(3)  The following exhibits are included in this report:


<TABLE>
<CAPTION>
Exhibit
Number                Description
------                -----------
<S>     <C>
3.1     Articles of Incorporation of International Beauty Supply, Ltd. ("IBS")
        dated July 11, 1985.(1)

3.2     Amendment to Articles of Incorporation of IBS dated May 24, 1993.(1)

3.3     Certificate of Amendment to Articles of Incorporation of The L. L.
        Knickerbocker Company Inc. (the "Company") dated June 20, 1994.(1)

3.4     Certificate of Amendment to Articles of Incorporation of the Company
        dated September 27, 1994.(1)

3.5     Bylaws of the Company.(2)

4.1     Qualified Stock Option Plan adopted by the Company on September 27,
        1994, along with form of Stock Option Agreement.(3)

4.2     Form of Warrant Agreement.(3)

4.3     Form of Representative's Warrant issued to W.B. McKee Securities, Inc.
        upon consummation of the Company's offering on January 25, 1995.(3)

4.4     Form of Common Stock Purchase Warrant issued to Shoreline Pacific, the
        Institutional Finance Division of Financial West Group. (6)

4.5     Form of 7% Convertible Debenture.(6)

10.1    Employment Agreement, dated July 1, 1996, between the Company and Louis
        L. Knickerbocker.(10)

10.2    Employment Agreement, dated July 1, 1996, between the Company and Tamara
        Knickerbocker.(10)

10.3    Employment Agreement, dated July 1, 1996, between the Company and
        Anthony P. Shutts.(10)
</TABLE>


                                       36
<PAGE>   37
<TABLE>
<CAPTION>
Exhibit
Number                Description
------                -----------
<S>     <C>
10.4    Employment Agreement, dated April 1, 1997, between the Company and
        William R. Black.(11)

10.5    Agreement between Marie, Inc. and the Company dated April 1, 1993 re the
        services of Marie Osmond in the design, production, and sale of products
        and licensing to the Company of the use of Marie Osmond's name in
        conjunction with the Company's products.(3)

10.6    Agreement between Bob Mackie (US), Inc. and the Company dated May 1,
        1994 re the services of Bob Mackie in the design, production and sale of
        products and licensing to the Company of the use of Bob Mackie's name in
        conjunction with the Company's products. (3)

10.7    Agreement between Cello, Inc. and the Company dated May 13, 1994 re
        services of Annette Funicello in the design, development, manufacture
        and the sale of products, with Acceptance by Annette Funicello and
        Cancellation of Prior Agreement dated October 30, 1991 between Cello,
        Inc. and Creations.(3)

10.8    Lease Agreement between the Company and Security Capital Industrial
        Trust for 25800 Commercentre Drive, Lake Forest, CA dated February 15,
        1995.(2)

10.9    Agreement between the Company and Grant King International Co., Ltd.,
        dated November 28, 1995 re the acquisition of 49% of the issued and
        outstanding stock of Grant King International Co., Ltd. (5)

10.10   Agreement between the Company and Grant King Design Co., Ltd., dated
        November 27, 1995 re the distribution of the jewelry products of Grant
        King Design Co., Ltd. (5)

10.11   Agreement of Purchase and Sale of the Capital Stock of Pure Energy
        Corporation between the Company and Pure Energy Corporation, dated
        February 7, 1996 re the acquisition of 40% of the issued and outstanding
        capital stock of Pure Energy Corporation. (5)

10.12   Letter of intent between Pure Energy Corporation and Biofine, Inc.,
        dated March 3, 1996 re the licensing of the patents of Biofine, Inc. (5)

10.13   License Agreement between the Company and SIM-GT Licensing Corp., dated
        May 1, 1995 re the licensing of the name, likeness and trademarks of
        Richard Simmons. (5)

10.14   Employment Agreement, dated April 1, 1998, between the Company and
        Robert L. West, Jr. (12)

10.15   Agreement of Purchase and Sale of the Capital Stock of Krasner Group,
        Inc., dated June 15, 1996 re the acquisition of 100% of the issued and
        outstanding capital stock of Krasner Group,. (7)

10.16   Stock Purchase Agreement dated September 30, 1996, by and among Harlyn
        Products, Inc., Harlyn International Co., Ltd. and the Company.(6)

10.17   First Amendment to Stock Purchase Agreement dated October 15, 1996, by
        and among Harlyn Products, Inc., Harlyn International Company, Ltd. and
        the Company.(6)

10.18   Second Amendment to Stock Purchase Agreement dated November 7, 1996, by
        and among Harlyn Products, Inc., Harlyn International Company, Ltd. and
        the Company.(6)

10.19   Agreement of Purchase and Sale of the Capital Stock of Self Heating
        Container, Inc., dated September 17, 1996 by and between Self Heating
        Container Corporation of California and the Company(10)

10.20   Agreement of Purchase and Sale of the Capital Stock of Insta-Heat, Inc.,
        dated September 17, 1996, by and between Insta-Heat, Inc. and the
        Company.(10)

10.21   Agreement of Purchase and Sale of the Capital Stock of Georgetown
        Collection, Inc., dated November 20, 1996, by and between Consumer
        Venture Partners I, L.P., Vermont Capital Venture Fund, North Atlantic
        Venture Fund, Merchant Partners and the Company.(8)
</TABLE>


                                       37
<PAGE>   38
<TABLE>
<CAPTION>
Exhibit
Number                Description
------                -----------
<S>     <C>

10.22   Form of Private Securities Subscription Agreement.(6)

10.23   Form of Registration Rights Agreement.(6)

21.1    Subsidiaries of Registrant.(11)

23.0    Consent of Deloitte & Touche LLP, independent auditors. (13)

27.0    Financial Data Schedule (12)
</TABLE>

---------------------------

(1)     Filed as part of Exhibit 3.1 to The L. L. Knickerbocker Co., Inc. Form
        SB-2 Registration Statement No. 33-85230-LA as filed with the Securities
        and Exchange Commission on or about October 13, 1994.

(2)     Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Annual Report
        on Form 10-KSB filed with the Securities and Exchange Commission on or
        about March 29, 1995.

(3)     Filed as an Exhibit to The L. L. Knickerbocker Co., Inc. Form SB-2
        Registration Statement No. 33-85230-LA as filed with the Securities and
        Exchange Commission on or about October 13, 1994.

(4)     Filed as Exhibit to The L. L. Knickerbocker Co., Inc. report on Form 8-K
        filed with the Securities and Exchange Commission on or about March 21,
        1995.

(5)     Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Annual Report
        on Form 10-KSB filed with the Securities and Exchange Commission on or
        about April 15, 1996.

(6)     Filed as an Exhibit to The L. L. Knickerbocker Co., Inc. Form 10-QSB/A
        as filed with the Securities & Exchange Commission on or about November
        27, 1996.

(7)     Filed as Exhibit to The L. L. Knickerbocker Co., Inc. report on Form 8-K
        filed with the Securities and Exchange Commission on or about July 3,
        1996.

(8)     Filed as Exhibit to The L. L. Knickerbocker Co., Inc. report on Form 8-K
        filed with the Securities and Exchange Commission on or about December
        5, 1996.

(9)     Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Annual Report
        on Form 10-KSB filed with the Securities and Exchange Commission on or
        about April 15, 1997.

(10)    Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Amended Annual
        Report on Form 10-KSB/A filed with the Securities and Exchange
        Commission on or about August 15, 1997.

(11)    Filed as an exhibit to The L.L. Knickerbocker Co., Inc. Form 10-KSB
        filed with the Securities and Exchange Commission on or about March 31,
        1998.

(12)    Filed herewith as an exhibit to The L.L. Knickerbocker Co., Inc. Annual
        Report on Form 10-K filed with the Securities and Exchange Commission on
        or about April 15, 1999.

(13)    Filed herewith.

(b)     Reports on Form 8-K 
        There were no reports on Form 8-K filed during the fourth quarter of
        1998.

(c)     See (a)(2) above for a listing of the exhibits included as a part of
        this report.


                                       38
<PAGE>   39

                                   SIGNATURES

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

                               The L. L. Knickerbocker Co., Inc.
                               ---------------------------------
                               (Registrant)



Date: April 29, 1999           By: /S/ Louis L. Knickerbocker
                                  -------------------------------
                                    Louis L. Knickerbocker
                                    Chief Executive Officer,
                                    President and Chairman

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>
Signature                                      Title                            Date
---------                                      -----                            ----
<S>                                <C>                                     <C>
/S/   Louis L. Knickerbocker       Chief Executive Officer,                April 29, 1999
-------------------------------    President and Chairman
  Louis L. Knickerbocker           (Principal Executive Officer)


/S/   Anthony P. Shutts            Chief Financial Officer,                April 29, 1999  
-------------------------------    Secretary and Director 
  Anthony P. Shutts                (Principal Financial and 
                                   Accounting Officer)



/S/    Robert L. West, Jr.         Chief Operating Officer                 April 29, 1999  
-------------------------------
  Robert L. West, Jr.



/S/ Tamara Knickerbocker           Executive Vice President and Director   April 29, 1999 
-------------------------------
   Tamara Knickerbocker



/S/    Gerald A. Margolis          Director                                April 29, 1999
-------------------------------
     Gerald A. Margolis



/S/  F. Rene Alvarez, Jr.          Director                                April 29, 1999
-------------------------------
     F. Rene Alvarez, Jr.
</TABLE>


                                       39
<PAGE>   40

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS


<TABLE>
<CAPTION>
                                                                          PAGE
                                                                          ----
<S>                                                                       <C>
Independent Auditors' Report                                               41

Consolidated Balance Sheets as of December 31, 1998 and 1997               42

Consolidated Statements of Operations for the Years Ended
   December 31, 1998, 1997 and 1996                                        43

Consolidated Statements of Comprehensive Income/Loss for the
   Years Ended December 31, 1998, 1997 and 1996                            44

Consolidated Statements of Stockholders' Equity for the
   Years Ended December 31, 1998, 1997 and 1996                            45

Consolidated Statements of Cash Flows for the
   Years Ended December 31, 1998, 1997 and 1996                            47

Notes to Consolidated Financial Statements                                 49
</TABLE>



                                       40
<PAGE>   41
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
  The L.L. Knickerbocker Co., Inc.:


We have audited the accompanying consolidated balance sheets of The L.L.
Knickerbocker Co., Inc. and subsidiaries (the Company) as of December 31, 1998
and 1997, and the related consolidated statements of operations, comprehensive
income/loss, stockholders' equity and cash flows for each of the three years in
the period ended December 31, 1998. Our audits also included the financial
statement schedule listed in the Index at Item 14 (a)(2). These financial
statements and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and financial statement schedule 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, such consolidated financial statements present fairly, in all
material respects, the financial position of The L.L. Knickerbocker Co., Inc.
and subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
Also, in our opinion, such financial statement schedule, when considered in
relation to the basic financial statements taken as a whole, presents fairly, in
all material respects, the information set forth therein.

The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 2 to the
consolidated financial statements, certain conditions exist, including the
Company's non-compliance with terms of certain of its debt agreements, recurring
operating losses and negative working capital position, which raise substantial
doubt about its ability to continue as a going concern. Management's plans
concerning these matters are also described in Note 2. The financial statements
do not include any adjustments that might result from the outcome of this
uncertainty.

As discussed in Note 12 to the consolidated financial statements, the Company is
a party to litigation and threatened litigation relating to several matters.



/s/ DELOITTE & TOUCHE LLP

March 31, 1999
Costa Mesa, California



                                       41
<PAGE>   42
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 1998 AND 1997


<TABLE>
<CAPTION>
ASSETS                                                                                               1998                 1997
                                                                                                ------------         ------------
<S>                                                                                             <C>                  <C>         
CURRENT ASSETS:
Cash and cash equivalents                                                                       $    199,000         $     92,000
Restricted cash (Note 1)                                                                             310,000              250,000
Accounts receivable, less allowance for doubtful accounts of $658,000 (1998)
   and $669,000 (1997)                                                                             8,365,000            8,021,000
Inventories (Note 5)                                                                              10,989,000           10,851,000
Prepaid expenses and other current assets, including $1,188,000 (1998)
   and $4,155,000 (1997) of prepaid advertising                                                    2,745,000            7,486,000
Notes receivable (Note 8)                                                                          1,800,000
                                                                                                ------------         ------------
         Total current assets                                                                     24,408,000           26,700,000

PROPERTY AND EQUIPMENT, net (Note 6)                                                               4,970,000            5,537,000
NOTES RECEIVABLE (Note 8)                                                                          1,800,000
RECEIVABLE FROM STOCKHOLDER (Note 7)                                                               1,072,000            1,383,000
INVESTMENTS (Note 8)                                                                               3,541,000            2,585,000
GOODWILL, net of accumulated amortization of $1,395,000 (1998) and $971,000 (1997)                 3,409,000            6,393,000
DEFERRED INCOME TAXES (Note 15)                                                                    4,215,000
OTHER ASSETS                                                                                       1,342,000            2,348,000
                                                                                                ------------         ------------
                                                                                                $ 38,742,000         $ 50,961,000
                                                                                                ============         ============
LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
Accounts payable                                                                                $  9,461,000         $  5,943,000
Accrued expenses                                                                                   3,080,000            2,028,000
Notes payable (Note 9)                                                                             4,324,000            3,650,000
Commissions and royalties payable                                                                  1,368,000              751,000
Interest payable                                                                                     595,000              270,000
Current portion of long-term debt (Note 13)                                                          215,000              242,000
Income taxes payable                                                                                 279,000              123,000
Loan from stockholder (Note 7)                                                                       248,000
Due to former shareholders of Krasner Group, Inc. (Note 3)                                           280,000              900,000
Deferred gain (Note 8)                                                                             1,642,000
Deferred income taxes (Note 15)                                                                       49,000
Convertible debentures, net of discount of $491,000  (Note 10)                                    10,949,000
                                                                                                ------------         ------------
         Total current liabilities                                                                32,193,000           14,204,000

LONG-TERM DEBT, less current portion (Note 13)                                                       541,000              661,000
CONVERTIBLE DEBENTURES, net of discount of $110,000 (1998) and $444,000 (1997) (Note 10)           2,740,000            9,455,000
DEFERRED GAIN (Note 8)                                                                             1,642,000
                                                                                                ------------         ------------
         Total long-term liabilities                                                               3,281,000           11,758,000

MINORITY INTEREST (Note 1)                                                                           274,000
COMMITMENTS AND CONTINGENCIES (Notes 9 and 12)

STOCKHOLDERS' EQUITY (Note 11):
Common stock, no par value, authorized shares-100,000,000;
   issued and outstanding shares - 20,659,309 (1998) and 18,754,693 (1997), stated at             30,757,000           27,282,000
Additional paid-in capital                                                                         6,112,000            3,904,000
Accumulated deficit                                                                              (29,945,000)          (1,230,000)
Accumulated other comprehensive loss                                                              (3,656,000)          (5,231,000)
                                                                                                ------------         ------------
         Total stockholders' equity                                                                3,268,000           24,725,000

                                                                                                ------------         ------------
                                                                                                $ 38,742,000         $ 50,961,000
                                                                                                ============         ============
</TABLE>


 See Independent Auditors' Report and Notes to Consolidated Financial Statements


                                       42
<PAGE>   43
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


<TABLE>
<CAPTION>
                                                                     1998                 1997                 1996
                                                                 ------------         ------------         ------------
<S>                                                              <C>                  <C>                  <C>         
Net sales                                                        $ 60,427,000         $ 68,290,000         $ 42,095,000
Cost of sales                                                      29,383,000           30,790,000           21,451,000
                                                                 ------------         ------------         ------------

Gross profit                                                       31,044,000           37,500,000           20,644,000
Advertising expense                                                14,196,000           10,926,000            4,882,000
Selling expense                                                     7,029,000            6,488,000            3,514,000
General and administrative expense                                 27,196,000           22,128,000            8,398,000
Restructuring charge (Note 4)                                       2,991,000
                                                                 ------------         ------------         ------------

Operating income (loss)                                           (20,368,000)          (2,042,000)           3,850,000
Loss on equity method investments                                   1,347,000            1,857,000              629,000
Other (income) expense, net                                           (47,000)          (3,316,000)              62,000
Interest expense  (Notes 9 and 10)                                  3,658,000            4,831,000            1,205,000
                                                                 ------------         ------------         ------------

Income (loss) before minority interest
  and income tax expense (benefit)                                (25,326,000)          (5,414,000)           1,954,000
Minority interest in income (loss) of subsidiary (Note 1)            (274,000)              10,000              132,000
Income tax expense (benefit)                                        3,663,000           (1,047,000)             450,000
                                                                 ------------         ------------         ------------

Net income (loss)                                                $(28,715,000)        $ (4,377,000)        $  1,372,000
                                                                 ============         ============         ============

Net income (loss) per share:
  Basic                                                          $      (1.46)        $      (0.24)        $       0.09
                                                                 ============         ============         ============
  Diluted                                                        $      (1.46)        $      (0.24)        $       0.09
                                                                 ============         ============         ============

Shares used in computing net income (loss) per share:
  Basic                                                            19,630,175           18,052,081           14,713,903
                                                                 ============         ============         ============
  Diluted                                                          19,630,175           18,052,081           16,470,624
                                                                 ============         ============         ============
</TABLE>


See Independent Auditors' Report and Notes to Consolidated Financial Statements


                                       43
<PAGE>   44
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME/LOSS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


<TABLE>
<CAPTION>
                                                      1998                 1997                 1996
                                                  ------------         ------------         ------------
<S>                                               <C>                  <C>                  <C>         
Net income (loss)                                 $(28,715,000)        $ (4,377,000)        $  1,372,000

Other comprehensive income (loss):
  Foreign currency translation adjustments           1,575,000           (5,247,000)              16,000
                                                  ------------         ------------         ------------

Comprehensive income (loss)                       $(27,140,000)        $ (9,624,000)        $  1,388,000
                                                  ============         ============         ============
</TABLE>


See Independent Auditors' Report and Notes to Consolidated Financial Statements


                                       44
<PAGE>   45
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


<TABLE>
<CAPTION>
                                                                                                              Retained       
                                                                                                             Additional      
                                                                             Common Stock                     paid-in        
                                                                       Shares             Amount              capital        
<S>                                                                <C>                 <C>                  <C>              
BALANCE, January 1, 1996                                             13,752,285         $  6,575,000         $    250,000    

Exercise of stock warrants                                              687,472            1,176,000                         
Exercise of stock options                                               885,514              728,000                         
Exercise of stock options in connection
 with Krasner Group, Inc. acquisition (Note 3)                           62,090              903,000             (427,000)   
Issuance of common stock pursuant to
 Krasner Group, Inc. acquisition (Note 3)                                85,162              516,000                         
Issuance of common stock in connection
 with convertible debentures (Note 10)                                  282,824            1,505,000              (81,000)   
Issuance of stock purchase warrants pursuant to
 investment in Pure Energy Corporation (Note 11)                                                                1,875,000    
Issuance of stock purchase warrants pursuant to
 S.L.S. Trading Co., Ltd. acquisition (Note 3)                                                                    405,000    
Issuance of stock purchase warrants pursuant to
 Krasner Group, Inc. acquisition (Note 3)                                                                       1,674,000    
Issuance of common stock pursuant to
 Georgetown Collection, Inc. acquisition (Note 3)                       196,377            1,679,000                         
Issuance of stock purchase warrants in connection
 with convertible debenture offering (Note 10)                                                                    233,000    
Discount on convertible debenture offering (Note 10)                                                            2,735,000    
Tax benefit related to exercise of stock options (Note 15)                                                      1,354,000    
Foreign currency translation gain                                                                                            
Net income                                                                                                                   
                                                                    ---------------------------------------------------------

BALANCE, December 31, 1996                                           15,951,724           13,082,000            8,018,000    

Exercise of stock options                                               431,250              513,000                         
Exercise of stock warrants                                              317,237              280,000                         
Issuance of common stock in connection with
 Krasner Group, Inc. acquisition (Note 3)                               243,606            1,253,000                         
Issuance of common stock in connection
 with convertible debentures (Note 10)                                1,620,350           11,262,000                         
Exchange of stock warrants for
  common stock (Notes 3 and 11)                                         190,526              892,000             (892,000)   
Cancellation of stock warrants in connection
 with sale of partial interest in
 Pure Energy Corporation (Note 8)                                                                              (1,874,000)   
Issuance of stock purchase warrants in connection with
 convertible debenture offering (Note 10)                                                                         434,000    
Discount on convertible debenture offering (Note 10)                                                           (1,782,000)   
Foreign currency translation loss                                                                                            
Net loss                                                                                                                     
                                                                    ---------------------------------------------------------
BALANCE, December 31, 1997                                           18,754,693           27,282,000            3,904,000    
</TABLE>


<TABLE>
<CAPTION>
                                                                     Accumulated
                                                                      earnings             other
                                                                    (Accumulated         comprehensive
                                                                      deficit)           income (loss)              Total
<S>                                                                 <C>                  <C>                     <C>         
BALANCE, January 1, 1996                                              $  1,775,000          $         --          $  8,600,000

Exercise of stock warrants                                                                                           1,176,000
Exercise of stock options                                                                                              728,000
Exercise of stock options in connection
 with Krasner Group, Inc. acquisition (Note 3)                                                                         476,000
Issuance of common stock pursuant to
 Krasner Group, Inc. acquisition (Note 3)                                                                              516,000
Issuance of common stock in connection
 with convertible debentures (Note 10)                                                                               1,424,000
Issuance of stock purchase warrants pursuant to
 investment in Pure Energy Corporation (Note 11)                                                                     1,875,000
Issuance of stock purchase warrants pursuant to
 S.L.S. Trading Co., Ltd. acquisition (Note 3)                                                                         405,000
Issuance of stock purchase warrants pursuant to
 Krasner Group, Inc. acquisition (Note 3)                                                                            1,674,000
Issuance of common stock pursuant to
 Georgetown Collection, Inc. acquisition (Note 3)                                                                    1,679,000
Issuance of stock purchase warrants in connection
 with convertible debenture offering (Note 10)                                                                         233,000
Discount on convertible debenture offering (Note 10)                                                                 2,735,000
Tax benefit related to exercise of stock options (Note 15)                                                           1,354,000
Foreign currency translation gain                                                                 16,000                16,000
Net income                                                               1,372,000                                   1,372,000
                                                                   -----------------------------------------------------------

BALANCE, December 31, 1996                                               3,147,000                16,000            24,263,000

Exercise of stock options                                                                                              513,000
Exercise of stock warrants                                                                                             280,000
Issuance of common stock in connection with
 Krasner Group, Inc. acquisition (Note 3)                                                                            1,253,000
Issuance of common stock in connection
 with convertible debentures (Note 10)                                                                              11,262,000
Exchange of stock warrants for
  common stock (Notes 3 and 11)                                                                                             --
Cancellation of stock warrants in connection
 with sale of partial interest in
 Pure Energy Corporation (Note 8)                                                                                   (1,874,000)
Issuance of stock purchase warrants in connection with
 convertible debenture offering (Note 10)                                                                              434,000
Discount on convertible debenture offering (Note 10)                                                                (1,782,000)
Foreign currency translation loss                                       (5,247,000)           (5,247,000)
Net loss                                                                (4,377,000)                                 (4,377,000)
                                                                   -----------------------------------------------------------
BALANCE, December 31, 1997                                              (1,230,000)           (5,231,000)           24,725,000
</TABLE>


See Independent Auditors' Report and Notes to Consolidated Financial Statements



                                       45
<PAGE>   46
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)


<TABLE>
<CAPTION>
                                                                                                                            
                                                                                                             Additional     
                                                                           Common Stock                       paid-in       
                                                                   Shares                Amount               capital       
<S>                                                              <C>                 <C>                   <C>              
BALANCE, December 31, 1997                                       18,754,693          $ 27,282,000          $  3,904,000     

Cashless exercise of stock options                                   72,364                    --                           
Cancelation of sahres received in payment
  of receivable from shareholder                                   (200,000)             (150,000)                          
Issuance of stock options to nonemployee                                                                          5,000     
Issuance of common stock in connection with
 Krasner Group, Inc. acquisition (Note 3)                           394,389               620,000                           
Issuance of common stock in connection with
 Georgetown Collection, Inc. acquisition (Note 3)                   250,000               258,000                           
Issuance of common stock in connection with
 convertible debentures (Note 10)                                 1,387,863             2,747,000              (268,000)    
Issuance of stock purchase warrants in connection with
 convertible debentures  (Note 10)                                                                              228,000     
Discount on convertible
 debenture offering (Note 10)                                                                                 1,170,000     
Increase as a result of Ontro, Inc.'s sale
 of stock, net of income taxes (Note 8)                                                                       1,073,000     
Foreign currency translation gain                                                                
Net loss                                                                                                                    
                                                                                                                            
                                                               --------------------------------------------------------
BALANCE, December 31, 1998                                       20,659,309          $ 30,757,000          $  6,112,000     
                                                               ========================================================
</TABLE>


<TABLE>
<CAPTION>
                                                                    Retained            Accumulated
                                                                    earnings               other
                                                                  (Accumulated         comprehensive
                                                                    deficit)            income (loss)           Total
<S>                                                              <C>                   <C>                   <C>         
BALANCE, December 31, 1997                                       $ (1,230,000)         $ (5,231,000)         $ 24,725,000

Cashless exercise of stock options                                                                                     --
Cancelation of sahres received in payment
  of receivable from shareholder                                                                                 (150,000)
Issuance of stock options to nonemployee                                                                            5,000
Issuance of common stock in connection with
 Krasner Group, Inc. acquisition (Note 3)                                                                         620,000
Issuance of common stock in connection with
 Georgetown Collection, Inc. acquisition (Note 3)                                                                 258,000
Issuance of common stock in connection with
 convertible debentures (Note 10)                                                                               2,479,000
Issuance of stock purchase warrants in connection with
 convertible debentures  (Note 10)                                                                                228,000
Discount on convertible
 debenture offering (Note 10)                                                                                   1,170,000
Increase as a result of Ontro, Inc.'s sale
 of stock, net of income taxes (Note 8)                                                                         1,073,000
Foreign currency translation gain                                                         1,575,000             1,575,000
Net loss                                                          (28,715,000)                                (28,715,000)
                                                                                                                         
                                                                 --------------------------------------------------------
BALANCE, December 31, 1998                                       $(29,945,000)         $ (3,656,000)         $  3,268,000
                                                                 ========================================================
</TABLE>


See Independent Auditors' Report and Notes to Consolidated Financial Statements


                                       46
<PAGE>   47
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


<TABLE>
<CAPTION>
                                                                                       1998             1997             1996
                                                                                  ------------     ------------     ------------
<S>                                                                               <C>              <C>              <C>         
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income                                                                 $(28,715,000)    $ (4,377,000)    $  1,372,000
Adjustments to reconcile net (loss) income to net cash (used in)
  provided by operating activities:
  Depreciation and amortization                                                      3,056,000        2,727,000          833,000
  Expense related to issuance of stock options, warrants and common stock              491,000               --               --
  Debenture inducement                                                                      --        1,899,000               --
  Deferred income taxes                                                              3,451,000       (1,095,000)        (184,000)
  Amortization of deferred revenue                                                          --               --          (95,000)
  Loss on investment                                                                        --           78,000          238,000
  Gain on sale of investment                                                          (769,000)      (1,710,000)              --
  Loss on equity method investments                                                  1,347,000        1,857,000          629,000
  Loss on disposition of joint venture                                                      --          302,000               --
  Loss on disposition of fixed assets                                                  290,000               --               --
  Restructuring charge                                                               2,342,000               --               --
  Goodwill impairment                                                                1,000,000               --               --
  Minority interest                                                                   (274,000)          10,000          132,000
  Amortization of debt discount                                                      1,005,000          644,000          391,000
Changes in operating accounts, net of effect of acquisitions:
  Accounts receivable, net                                                            (344,000)       5,709,000       (3,612,000)
  Note receivable                                                                           --               --          150,000
  Income tax receivable                                                                     --          733,000          943,000
  Inventories                                                                         (384,000)      (2,377,000)         495,000
  Prepaid expenses and other assets                                                  4,741,000       (1,823,000)       2,709,000
  Other assets                                                                         634,000       (1,068,000)
  Accounts payable and accrued expenses                                              5,032,000       (3,116,000)      (1,889,000)
  Commissions and royalties payable                                                    617,000          (77,000)         121,000
  Income taxes payable                                                                 156,000          123,000       (1,330,000)
  Other long-term liabilities                                                               --          (51,000)          11,000
                                                                                  ------------     ------------     ------------
     Net cash (used in) provided by operating activities                            (6,324,000)      (1,612,000)         914,000

CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions of property, plant and equipment                                       (1,429,000)      (2,778,000)      (2,018,000)
Proceeds from sales of property and equipment                                           21,000               --               --
Receivable from stockholder                                                            161,000         (787,000)        (335,000)
Proceeds from sales of investment                                                      818,000               --               --
Investments/advances to investees                                                     (564,000)        (965,000)      (3,329,000)
Cash paid for acquisitions, less cash acquired                                              --               --       (2,902,000)
                                                                                  ------------     ------------     ------------
     Net cash used in investing activities                                            (993,000)      (4,530,000)      (8,584,000)

CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (payments) on line of credit                                            674,000       (3,358,000)      (5,025,000)
Payments on long-term debt                                                            (347,000)        (226,000)        (155,000)
Proceeds from borrowings on long-term debt                                              45,000          831,000               --
Proceeds from exercise of stock options and warrants                                        --          793,000        2,380,000
Deferred debt issue costs                                                             (427,000)        (365,000)        (149,000)
Proceeds from issuance of convertible debentures                                     7,000,000        5,000,000       14,880,000
Net payments (borrowings) on stockholder loan                                         (248,000)         248,000               --
                                                                                  ------------     ------------     ------------
     Net cash provided by financing activities                                       6,697,000        2,923,000       11,931,000

EFFECT OF EXCHANGE RATE CHANGES ON CASH                                                787,000       (3,186,000)          16,000
                                                                                  ------------     ------------     ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                                   167,000       (6,405,000)       4,277,000

CASH AND CASH EQUIVALENTS, beginning of year                                           342,000        6,747,000        2,470,000
                                                                                  ------------     ------------     ------------

CASH AND CASH EQUIVALENTS, end of year                                            $    509,000     $    342,000     $  6,747,000
                                                                                  ============     ============     ============
</TABLE>


See Independent Auditors' Report and Notes to Consolidated Financial Statements


                                       47
<PAGE>   48
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1998 AND 1996 (CONTINUED)

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION-


<TABLE>
<CAPTION>
                                                      1998                1997                 1996
                                                  -----------         -----------          -----------
<S>                                               <C>                 <C>                  <C>        
Cash paid (refunded) during the year for:

  Interest                                        $ 1,218,000         $ 1,643,000          $   899,000
                                                  ===========         ===========          ===========

  Income taxes                                    $    56,000         $  (806,000)         $   499,000
                                                  ===========         ===========          ===========
</TABLE>


SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITY:

During the years ended December 31, 1998 and 1997, the Company issued 394,389
       and 243,606 shares of common stock in payment of $620,000 and $1,253,000,
       respectively, of liability to former Krasner shareholders (Note 3).

During the years ended December 31, 1998, 1997 and 1996, $2,610,000, $11,169,000
       and $1,330,000 of convertible debentures and $137,000, $93,000 and
       $175,000 of accrued interest, respectively, were converted to common
       stock (Note 10).

During the year ended December 31, 1998, the Company acquired property and
       equipment under capital lease obligations totaling $91,000.

During the year ended December 31, 1998, the Company cancelled 200,000 shares of
       previously issued common stock in settlement of $150,000 receivable from
       stockholder.

During the year ended December 31, 1998, the Company recorded a $1,788,000
       increase to investments in connection with the initial public offering of
       Ontro, Inc. (Note 8).

During the year ended December 31, 1997, the Company sold a portion of its
       investment in Pure Energy Corporation with a carrying value of $164,000
       in exchange for 397,500 common stock purchase warrants with an ascribed
       value of $1,874,000, resulting in a gain of $1,710,000. Also during the
       year ended December 31, 1997, the Company recorded a deferred gain of
       $1,642,000 in connection with the sale of a portion of its Pure Energy
       Corporation investment with a carrying value of $158,000 in exchange for
       a note receivable of $1,800,000 (Note 8).

During the year ended December 31, 1996, the Company issued 400,000 warrants in
       conjunction with the acquisition of an interest in Pure Energy
       Corporation. The warrants have an ascribed value of $1,875,000 (Note 8).

During the years ended December 31, 1997 and 1996, the Company issued 150,000
       and 46,971 warrants with an ascribed value of $434,000 and $233,000,
       respectively as debt issuance cost in connection with convertible
       debenture offerings (Note 10).

During the year ended December 31, 1996, the Company recorded an increase to
       additional paid-in capital of $1,354,000 related to tax benefits
       associated with the exercise of non-qualified stock options.

During the year ended December 31, 1996, the Company acquired interests in
       certain entities as follows (Note 3):


<TABLE>
<S>                                                    <C>        
Fair value of assets acquired                          $34,553,000
Cash paid to sellers, acquisition payables and
 transaction costs                                       4,239,000
Value of common stock and stock purchase
 warrants issued                                         4,274,000
                                                       -----------

Liabilities assumed                                    $26,040,000
                                                       ===========
</TABLE>

See Independent Auditors' Report and Notes to Consolidated Financial Statements



                                       48
<PAGE>   49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996

1.  DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES

Description of Business - The Company is in the businesses of developing and
selling celebrity and non-celebrity products which include collectible items
such as porcelain and vinyl dolls, teddy bears, figurines, fine and costume
jewelry, and other consumer products. The Company's customers include major
networks in the home shopping industry, retail and wholesale distributors, and
consumers. The dolls, bears and figurines are manufactured by independent
manufacturing facilities to the Company's specifications. The fine and costume
jewelry is manufactured by the Company. The Company's distribution includes home
shopping channels, catalog mailings, direct mailings from customer lists, retail
stores, wholesale distributors, and the Internet.

Principles of Consolidation - The financial statements presented herein include
the accounts of The L.L. Knickerbocker Co., Inc.; its wholly-owned subsidiaries,
Krasner Group, Inc.; Harlyn International Co., Ltd.; S.L.S. Trading Co., Ltd.;
L.L. Knickerbocker (Thai) Co., Ltd., and its majority-owned subsidiary
Georgetown Collection, Inc. (collectively, the "Company"). Intercompany accounts
and transactions have been eliminated in consolidation.

Cash and Cash Equivalents - For purposes of the statement of cash flows, the
Company considers all highly liquid instruments with original maturities of
three months or less and with an insignificant interest rate risk to be cash
equivalents.

Restricted Cash - Restricted cash represents funds deposited with a financial
institution to serve as collateral for a line of credit (Note 9).

Inventories - Inventories consist of finished products and related packaging,
work-in-process, and raw materials, and are stated at the lower of cost
(first-in, first-out basis) or market.

Prepaid Advertising Costs - The Company capitalizes certain direct-response
advertising costs and amortizes such costs over the period during which future
period revenues are expected to be received from each direct-response
advertising campaign, generally 3 to 12 months. The nature of the direct
response advertising costs is primarily production costs associated with media
costs for print advertising, and catalog printing costs.

Property and Equipment - Property and equipment are stated at cost. Depreciation
is being provided on the straight-line method over estimated useful lives of
five to seven years. Depreciation on buildings is being provided on the
straight-line method over an estimated useful life of twenty years.

Investments in Investees - Investments in the common stock of unconsolidated
entities (Note 8) in which the Company's interest is in excess of 20% and in
which the Company has an ability to influence the business decisions of the
investee company, are accounted for using the equity method of accounting.

Intangible Asset - Excess of cost over net assets acquired (goodwill), which
arose from the acquisition of certain entities (Note 3) is being amortized on a
straight-line basis over 10 years. The Company evaluates the recoverability of
goodwill at each balance sheet date by comparing the carrying value of the
goodwill to the estimated operating income of the related entity on an
undiscounted cash flow basis. Any impairment is recorded at the date of
determination. During the year ended December 31, 1998, the Company recorded an
aggregate impairment charge of $2,433,000 (Notes 3 and 4).

Long-Lived Assets - The Company accounts for the impairment and disposition of
long-lived assets in accordance with 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." In accordance with SFAS No. 121,
long-lived assets are reviewed for events or changes in circumstances, which
indicate that their carrying value may not be recoverable. During the year ended
December 31, 1998, the Company recorded an impairment charge of $2,342,000 (Note
4) related to long-lived assets.



                                       49
<PAGE>   50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

Deferred Debt Issuance Costs - Deferred debt issuance costs which are included
in other assets, relate to the issuance of Convertible Debentures (Note 10).
These costs totaled $1,801,000 at December 31, 1998 and 1997, and are being
amortized over the estimated life of the debentures. The related accumulated
amortization at December 31, 1998 and 1997, is $1,539,000 and $1,005,000,
respectively. Upon conversion of the Convertible Debentures, any portion of the
deferred debt issuance costs not previously amortized is recorded as a debit to
additional paid-in capital on the conversion date.

Revenue Recognition - Revenues from sales of products are recognized when
merchandise is shipped to customers. The Company offers credit to its customers
and performs ongoing credit evaluations of its customers.

Income Taxes - The Company accounts for income taxes using SFAS No. 109,
"Accounting for Income Taxes," which requires that the Company recognize
deferred tax assets and liabilities based on the differences between the
financial statement carrying amounts and the tax bases of assets and
liabilities, using enacted tax rates in effect in the years in which the
differences are expected to reverse. A valuation allowance related to deferred
tax assets is recorded when it is more likely than not that some portion or all
of the deferred tax asset will not be realized.

Net Income (Loss) Per Share - The Company adopted SFAS No. 128, "Earnings Per
Share," beginning with the Company's fourth quarter of fiscal 1997. All prior
period earnings per common share data have been restated to conform to the
provisions of this statement. Basic earnings per common share is computed using
the weighted average number of shares outstanding. Diluted earnings per common
share assumes conversion of convertible debentures, elimination of the related
interest expense, and the issuance of common stock for all other potentially
dilutive equivalent shares outstanding.

Stock-Based Compensation - In October 1995, the Financial Accounting Standards
Board (FASB) issued SFAS No. 123, "Accounting for Stock-Based Compensation." The
Company has determined that it will not change to the fair value method and will
continue to use Accounting Principles Board (APB) Opinion No. 25 for measurement
and recognition of employee stock-based transactions. See Note 11 for disclosure
of the pro forma effect on net income (loss) and net income (loss) per share.

Reclassifications - Certain amounts previously reported have been reclassified
to conform to the 1998 financial statement presentation.

Foreign Currency - The Company's primary functional currency is the U.S. dollar,
while the functional currency of the Company's Thailand subsidiaries is the Thai
baht. Assets and liabilities denominated in foreign currencies are translated at
the rate of exchange on the balance sheet date. Revenues and expenses are
translated using the average exchange rate for the period. Translation gains and
losses are included in other comprehensive income in the accompanying financial
statements. Gains and losses on foreign currency transactions are recognized as
incurred (Note 14).

Use of Estimates - The preparation of financial statements in conformity with
generally accepted accounting principles necessarily 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 periods. Actual results could differ from these estimates.

Fair Value of Financial Instruments - SFAS No. 107, "Disclosures About Fair
Value of Financial Instruments," requires management to disclose the estimated
fair value of certain assets and liabilities defined by SFAS No. 107 as
financial instruments. Financial instruments are generally defined by SFAS No.
107 as cash, evidence of ownership interest in equity, or a contractual
obligation that both conveys to one entity a right to receive cash or other
financial instruments from another entity and imposes on the other entity the
obligation to deliver cash or other financial instruments to the first entity.
At December 31, 1998, management believes that the carrying amount of cash and
cash equivalents, accounts receivable, accounts payable, accrued expenses and
short-term debt approximates fair value because of the short maturity of these
financial instruments. Management also believes the carrying amount of long-term
debt approximates fair value as the underlying interest rates approximate market
rates.


                                       50
<PAGE>   51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

New Accounting Pronouncements - The Company adopted SFAS No. 130, "Reporting
Comprehensive Income" in the first quarter of 1998. SFAS No. 130 establishes
standards for the reporting and display of comprehensive income. Components of
comprehensive income may include net earnings (loss), foreign currency
translation adjustments and unrealized gains and losses on marketable securities
classified as available-for-sale. The adoption of SFAS No. 130 required
additional disclosures but did not have a material effect on the Company's
financial position, results of operations or liquidity.

2. GOING CONCERN AND MANAGEMENT PLANS

During the year ended December 31, 1998, the Company incurred a net loss of
$28,715,000. This loss results primarily from the following factors:

        -       a decrease in net sales and gross margin of $7,863,000 and
                $6,456,000, respectively, from the prior year

        -       an increase in advertising costs of $3,270,000 over prior year
                amounts without a related increase in sales

        -       charges aggregating $1,643,000 to write down certain prepaid
                advertising and related costs

        -       recognition of impairment of goodwill aggregating $2,433,000 of
                which $1,433,000 is included in restructuring charge (Notes 3
                and 4)

        -       severance and other costs associated with restructuring certain
                operations aggregating $1,558,000 (Note 4)

        -       recognition of costs aggregating $1,967,000 associated with
                certain litigation against the Company (Note 12)

        -       recognition of a valuation allowance of $3,415,000 for deferred
                tax assets (Note 15)

Additionally, at December 31, 1998, the Company had a negative working capital
position of $7,785,000 and an accumulated deficit of $29,945,000. As more fully
described in Notes 9 and 10 the Company is not in compliance with certain terms
and conditions of its credit facility and convertible debenture agreements. As a
result of noncompliance, under the terms of the credit facility and convertible
debenture agreements the lenders have the right to demand repayment of the
outstanding balances, which aggregate $14,014,000. These circumstances raise
substantial doubt about the Company's ability to continue as a going concern.

Management is currently evaluating and implementing several steps to improve the
liquidity and operations of the Company. While there can be no assurance that
ultimate implementation will be successful, these steps include:


        -       Renegotiating the terms associated with its credit facility
                (Note 9)

        -       Renegotiating the terms associated with the convertible
                debenture agreement or repaying the debenture holders with
                non-cash assets of the Company (Note 10)

        -       Seeking additional financing either in the form of equity or
                additional debt

        -       Restructuring the Company's operations by consolidating certain
                subsidiary operations in one location (Note 4)

        -       Implementation of expense reduction strategies

        -       Expanding the distribution channels in which several of the
                Company's products are sold

3.  ACQUISITIONS

The Company completed a number of acquisitions during 1996. The following
describes the transactions completed during the year ended December 31, 1996.
The funds for the acquisitions were obtained primarily from the proceeds of the
convertible debenture offering described in Note 10, and through the issuance of
the Company's common stock and common stock purchase warrants (Note 11).

Krasner Group, Inc.

Effective June 18, 1996, the Company acquired all of the outstanding capital
stock of Krasner Group, Inc. (TKG), which designs, manufactures, and markets
costume jewelry. The aggregate acquisition cost of $4,435,000 included the
issuance of 723,157 shares of the Company's common stock valued at $2,389,000,
the issuance of 250,628 stock purchase warrants with an ascribed value of
$1,674,000 (determined utilizing the Black-Scholes option-pricing model) and
related acquisition costs. At December 31, 1998, $280,000 was still owing and is
included in Due to shareholders of Krasner Group, Inc. During the year ended
December 31, 1997, the Company exchanged 70,000 unexercised stock purchase
warrants with an intrinsic value of $240,000 for 50,526 shares of the Company's
common stock. The acquisition was 


                                       51
<PAGE>   52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

accounted for as a purchase and resulted in the recording of goodwill
aggregating $3,339,000 which is being amortized over 10 years.

At December 31, 1998, the Company reviewed the carrying value of goodwill and
determined that based upon projected undiscounted cash flows of TKG over the
remaining amortization period, goodwill aggregating $1,000,000 would not be
recoverable. Consequently, in December 1998, the Company recorded an impairment
of TKG goodwill of $1,000,000 in the accompanying financial statements.

Grant King International, Ltd.

Effective July 1, 1996, the Company acquired the remaining 51% interest in Grant
King International Co., Ltd. (GKI) that the Company did not previously own (Note
11), in exchange for the forgiveness of $414,000 owed by GKI to the Company.
This transaction increased the Company's investment to $664,000. The operations
and assets of GKI have been merged with S.L.S Trading Co., Ltd., a subsidiary of
the Company.

S.L.S. Trading Co., Ltd. 

Effective July 1, 1996, the Company acquired certain assets and assumed certain
liabilities of S.L.S. Trading Co., Ltd., (S.L.S.) which sources gemstones and
develops certain proprietary stone-cutting technologies. The aggregate
acquisition cost of $555,000 includes $150,000 cash, the issuance of 108,000
warrants to purchase common stock of the Company with an ascribed value of
approximately $405,000 (determined utilizing the Black-Scholes option-pricing
model) and related acquisition costs. During the year ended December 31, 1997,
the Company exchanged 108,000 unexercised stock purchase warrants with an
intrinsic value of $402,000 for 80,000 shares of the Company's common stock.

Harlyn International Co., Ltd. 

Effective July 1, 1996, the Company acquired all of the outstanding capital
stock of Harlyn International Co., Ltd. (Harlyn), which manufactures and markets
fine jewelry. The aggregate acquisition cost of $2,711,000 includes cash
payments to the former shareholder of $2,358,000 and related acquisition costs.
In addition, the Company repaid $234,000 of Harlyn's bank debt, concurrent with
consummation of the purchase transaction.

Georgetown Collection, Inc. 

Effective October 18, 1996, the Company acquired approximately 82% of the
outstanding capital stock of Georgetown Collection, Inc. (GCI), which markets
collectible dolls through direct response mediums. The aggregate acquisition
cost of $3,199,000 includes issuance of 196,377 restricted shares of the
Company's common stock with an intrinsic value of $1,679,000 at the acquisition
date plus related acquisition costs. In addition, the Company repaid $1,500,000
of GCI's bank debt, concurrent with consummation of the purchase transaction.
The purchase agreement also provides for future consideration in an amount equal
to 15% of GCI's pretax earnings during calendar year 1997 and 4.5% of pretax
earnings in each of calendar years 1998 through 2001. Future contingent payments
based on pretax earnings, if payable, will be recorded as additional purchase
price consideration and will increase goodwill recorded in conjunction with this
acquisition. As of December 31, 1998, the Company recorded an increase to
goodwill of $8,000 pursuant to contingent payments. The Company guaranteed the
value of the 196,377 restricted shares of the Company's common stock issued in
conjunction with this acquisition to be $1,679,000 at the first anniversary of
the acquisition. In accordance with this guarantee an additional 32,735 shares
of the Company's common stock were issuable at December 31, 1997. During 1998,
due to a further decrease in the fair market value of the Company's common stock
the Company issued 250,000 shares of its common stock in connection with this
guarantee, and an additional 157,996 shares were issuable as of December 31,
1998. As a result of the increase in shares to be issued, the Company recorded
$347,000 as other expense in 1998, representing the fair value of the
incremental shares at date of issuance.

During 1998, the Company acquired for $10,000 cash, 232,335 additional shares of
GCI capital stock from a minority shareholder, which increased the Company's
ownership to 87%.


                                       52
<PAGE>   53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

Each of the acquisitions was accounted for under the purchase method of
accounting and, accordingly the operating results of each of the subsidiaries
are included in the Company's consolidated financial statements since the
respective acquisition dates.

4. RESTRUCTURING CHARGE

In the fourth quarter of 1998, the Company recorded a restructuring charge of
$2,991,000, related to the consolidation of GCI into the Company's California
facility and the outsourcing of fulfillment for these brands. This charge
includes $2,342,000 for write-downs of certain long-lived assets, including
goodwill; $500,000 for lease termination payments, net of estimated sub-lease
income; and $149,000 for employee severance and termination benefits. The work
force reductions anticipated under this plan, 31 of which occurred prior to
December 31, 1998, total approximately 44 positions in general sales and office
administrative functions and warehouse-related areas. The write-down of
long-lived assets, resulting from the restructuring of GCI operations, includes
the write-down to estimated fair value of fixed assets to be disposed of
($909,000) and elimination of goodwill associated with the GCI acquisition
($1,433,000) due to its nonrecoverability based upon GCI's projected
undiscounted cash flows over the remaining amortization period. As of December
31, 1998, $81,000 of the severance and termination benefits had been paid. The
remaining liability of $568,000, lease termination and severance costs, is
included in Accrued Expenses at December 31, 1998.

5.   INVENTORIES

At December 31, 1998 and 1997 inventories consist of the following:


<TABLE>
<CAPTION>
                               1998                  1997
                           ------------          ------------
<S>                        <C>                   <C>         
Finished goods             $ 11,710,000          $ 10,892,000
Work-in-process                 663,000               428,000
Raw materials                 1,532,000             1,680,000
Inventory reserves           (2,670,000)           (2,149,000)
                           ============          ============
                           $ 11,235,000          $ 10,851,000
                           ============          ============
</TABLE>


6. PROPERTY AND EQUIPMENT

At December 31, 1998 and 1997, property and equipment consist of the following:


<TABLE>
<CAPTION>
                                                1998                 1997
                                            -----------          -----------
<S>                                         <C>                  <C>        
 Land, buildings and improvements           $ 2,994,000          $ 2,064,000
 Computer equipment and software                726,000              932,000
 Production models, molds and tools           1,487,000            1,228,000
 Autos                                          217,000              194,000
 Office furniture and equipment                 929,000            1,331,000
 Machinery and equipment                        807,000            1,738,000
                                            -----------          -----------
                                              7,160,000            7,487,000
Accumulated depreciation                     (2,190,000)          (1,950,000)
                                            ===========          ===========
                                            $ 4,970,000          $ 5,537,000
                                            ===========          ===========
</TABLE>


7. RECEIVABLE FROM STOCKHOLDER/LOAN FROM STOCKHOLDER

Receivable from stockholder bears interest at the prime rate plus 1% and is
payable in installments of $200,000 on March 31, 2000 and September 30, 2000
with any unpaid principal and interest due on April 11, 2001.

Loan from stockholder of $248,000 at December 31, 1997 bears interest at the
prime rate plus 2% and was repaid in 1998.


                                       53
<PAGE>   54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

8. INVESTMENTS

At December 31, 1998, the Company had the following equity investments:

The Company owns 400,000 and 1,000 shares of Tracker Corporation and Camelot
Corporation, respectively, which were received in exchange for marketing
services provided to these companies. The shares represent an ownership interest
of less than 10% in each of these companies and are restricted as to the
Company's ability to sell them. The aggregate estimated carrying value of these
shares at December 31, 1998 and 1997 is $24,000, which approximates fair value.

During 1996, the Company acquired a 38.3% interest in Pure Energy Corporation
(PEC) in exchange for $2 million in cash and the issuance of stock purchase
warrants with an ascribed value of $1,875,000 (determined utilizing the
Black-Scholes option-pricing model). Additionally, the Company agreed to fund up
to $1,000,000 of PEC expenses. Through December 31, 1997 the Company had
fulfilled its funding commitment and funded a total of $507,000, which increased
the Company's investment to $4,382,000. Effective April 1, 1998, the Company
discontinued the application of the equity method of accounting to its
investment in Pure Energy Corporation due to the Company's lack of significant
influence over the operations of PEC.

During the year ended December 31, 1997, the Company sold a portion of its
investment in PEC with a carrying value of $164,000 in exchange for 397,500
previously issued Company common stock purchase warrants with an ascribed value
of $1,874,000 (determined utilizing the Black-Scholes option-pricing model). The
sale resulted in a gain to the Company of $1,710,000, which is included in other
income. Also during the year ended December 31, 1997, the Company recorded a
deferred gain of $1,642,000 in connection with the sale of a portion of its
investment in PEC with a carrying value of $158,000 in exchange for a note
receivable of $1,800,000. The note receivable is collateralized by the
underlying securities sold and accrues interest at 7.5% per annum. The note
receivable and accrued interest are due and payable on December 30, 1999. The
resulting gain has been deferred on the accompanying balance sheet until such
time that the note is repaid.

In September 1998, the Company sold a portion of its investment in Pure Energy
Corporation with a carrying value of $49,000 for net cash proceeds of $818,000.
The sale resulted in a gain to the Company of $769,000, which is included in
other income.

In September 1996, the Company purchased an equity interest in Ontro, Inc.
(Ontro). The purchase price consisted of $650,000 in cash for 858,673 common
shares. The investment provided the Company with a 27.8% common equity interest
in Ontro. In May 1998, Ontro successfully completed an initial public offering
whereby Ontro received approximately $15 million and issued 3,400,000 shares of
its common stock. As a result of the sale of previously unissued shares to the
public, the Company's ownership interest in Ontro was reduced to 13.2% and the
Company increased the balance of its investment in Ontro to reflect the enhanced
value of the Company's equity interest in Ontro. The net increase of $1,073,000
was recorded as a capital transaction, resulting in an increase to the Company's
additional paid-in capital account after giving effect to deferred taxes of
$715,000. The Company is restricted, until May 1999, from selling its Ontro
shares, which had a fair market value at December 31, 1998 of approximately
$2,790,000.

During 1997 the Company entered into a joint venture, Arkenol Asia, Inc., a
Delaware corporation owned 50% by LLK and 50% by Arkenol Holdings, LLC. The
joint venture acquired an exclusive license to exploit Arkenol Holdings
technology and related intellectual property to produce ethanol and other
chemicals for sale and consumption in Thailand, Cambodia, Burma, Vietnam, Laos,
India, China and Japan, and non-exclusive licenses for Indonesia and California.
As of December 31, 1998, the joint venture was inactive and the Company reduced
its investment to $0.

9. LINE OF CREDIT AND NOTES PAYABLE

The Company has available to use for working capital purposes and to post
letters of credit, a line of credit totaling $15,000,000, subject to certain
limits. The line of credit encompasses The L.L. Knickerbocker Co., Inc. (LLK),
Georgetown Collection, Inc. (GCI) and Krasner Group, Inc. (TKG) and expires in
July 1999. Certain credit limits are established for each company. The credit
limits are $5,000,000 for LLK, $7,000,000 for GCI and $3,000,000 for 


                                       54
<PAGE>   55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

TKG. Borrowing availability is determined by an advance rate on eligible
accounts receivable and inventory. The line of credit includes sublimits for
letters of credit and bankers acceptances aggregating $7,000,000, $4,000,000 and
$3,000,000 for GCI, LLK and TKG, respectively. Borrowings bear interest at the
bank's base rate (7.75% at December 31, 1998) plus 2% for GCI and TKG
borrowings, and plus 1% for LLK borrowings or, at the Company's option, an
adjusted LIBOR rate. In addition, the Company is charged an Unused Line fee of
 .25% of the unused portion of the revolving loans.

At December 31, 1998, the Company had $4,324,000 of cash borrowings outstanding
and no outstanding letters of credit. Borrowings are collateralized by
substantially all assets of the Company. The line of credit agreement contains,
among other things, restrictive financial covenants, which require the Company
to maintain certain leverage and current ratios (computed annually and
quarterly), an interest coverage ratio (computed annually) and to achieve
certain levels of annual income. The agreement also limits GCI annual capital
expenditures and prohibits the payment of dividends. At December 31, 1998, the
Company was not in compliance with certain of these covenants. As a result of
noncompliance under the terms of the line of credit agreement, the lender has
the right to demand immediate repayment of the outstanding balance (Note 2).
Absent the rights of the lender due to noncompliance, available borrowings under
the line of credit aggregated $1,997,000 at December 31, 1998.

S.L.S. and Harlyn have available lines of credit aggregating 66,000,000 Thai
baht (approximately $1,784,000 at December 31, 1998). Outstanding borrowings
bear interest at rates ranging from 8.5% to 10.5%. One such line of credit was
secured by a $250,000 standby letter of credit in 1997 and by restricted cash of
$310,000 at December 31, 1998.

10. CONVERTIBLE DEBENTURES

1998 Debentures - In June 1998, the Company issued Convertible Debentures (the
1998 Debentures) with a face value of $7,000,000 in a private placement to
institutional investors. This private placement yielded net proceeds to the
Company totaling $6,573,000 after deducting costs associated with issuing the
1998 Debentures. The 1998 Debentures accrue interest at the rate of 6% per
annum, payable upon conversion of the related debt. The 1998 Debentures are
convertible at the option of the holder into shares of the Company's common
stock at the lower of $4.02 or a graduated discounted price ranging from 97% to
90% of an average of the 7 lowest trading days of the 30 consecutive trading
days prior to conversion. The discounted price of 90% applies if the investor
does not convert prior to the two-year anniversary of the closing date. Through
December 31, 1998, the Company issued a total of 290,213 shares of its common
stock in connection with the conversion of $160,000 of the principal amount of
the Debentures, plus interest accrued through the conversion date of $4,000.

The 1998 Debentures were subject to an agreement whereby after approval by the
shareholders of the Company of the issuance of the 1998 Debentures and the
creation of a class of Preferred Stock of the Company, the 1998 Debentures would
be exchanged for shares of newly created Preferred Stock of the Company, the
terms of which would be substantially similar to that of the 1998 Debentures.
However, the 1998 Debenture Holders chose not to exchange the 1998 Debentures
for Preferred Stock, citing a "material adverse effect," which was the decline
in the price of the Company's common stock. Under the terms of the related
agreements the 1998 Debentures matured on December 28, 1998. The Company was
unable to repay the 1998 Debenture Holders as of December 31, 1998 and is
default of the 1998 Debenture Agreement. Although the company is attempting to
negotiate an extension of the maturity date, under the terms of the 1998
Debentures the face amount of the Debentures, aggregating $6,840,000, is due and
payable by the Company (Note 2).

The conversion of the securities at a maximum of 90% of the closing price of the
Company's common stock resulted in the 1998 Debentures being issued at a
discount (the conversion discount). The Company is recognizing the conversion
discount as non-cash interest expense over the estimated term of the 1998
Debentures (two years) with a corresponding increase to the original principal
amount of the 1998 Debentures. Upon conversion of the 1998 Debentures any
portion of the conversion discount not previously recognized is recorded as
interest expense on the conversion date. In connection with the issuance of the
1998 Debentures, the Company issued to the investors warrants to purchase
261,194 shares of common stock. The warrants vest as of the grant date with an
exercise price of $4.72 per share, which was equivalent to 135% of the fair
market value of the Company's common stock at the date of grant and are valid
for five years from the date of the grant. The warrants have an ascribed value
of $470,000 (determined utilizing the Black-Scholes option-pricing model), which
was recorded as debt discount (the warrant discount) and additional 



                                       55
<PAGE>   56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

paid-in capital. The Company recognized the warrant discount as noncash interest
expense over the approximate seven-month term of the securities in 1998. During
the year ended December 31, 1998, a total of $1,324,000 of noncash interest
expense was recorded relating to the 1998 Debentures, including $12,000 relating
to the additional conversion discount recorded upon conversion and $470,000
related to the warrant discount.

1997 Debentures - In September 1997, the Company issued Convertible Debentures
(the 1997 Debentures) with a face value of $5,000,000 in a private placement to
an institutional investor. This private placement yielded net proceeds to the
Company totaling $4,675,000 after deducting costs associated with issuing the
1997 Debentures. The 1997 Debentures accrue interest at the rate of 6% per
annum, payable upon conversion of the related debt or at debt maturity of
September 7, 2000. The 1997 Debentures are convertible at the option of the
holder into shares of the Company's common stock at a graduated discounted price
ranging from 97% to 90% of an average of the 7 lowest trading days of the 30
consecutive trading days prior to conversion. The discounted price of 90%
applies if the investor does not convert prior to the two-year anniversary of
the closing date. As of December 31, 1998, the Company issued a total of
1,060,150 shares of its common stock in connection with the conversion of
$2,150,000 of the principal amount of the 1997 Debentures, plus interest accrued
through the conversion date of $111,000.

The conversion of the notes at a maximum of 90% of the closing price of the
Company's common stock resulted in the 1997 Debentures being issued at a
discount (the conversion discount). The conversion discount is being recognized
by the Company as noncash interest expense over the estimated term of the 1997
Debentures (two years) with a corresponding increase to the original principal
amount of the 1997 Debentures. Upon conversion of the 1997 Debentures, any
portion of the conversion discount not previously recognized is recorded as
interest expense on the conversion date. During the years ended December 31,
1998 and 1997, a total of $786,000 and $188,000, respectively, of noncash
interest expense was recorded relating to the 1997 Debentures, including
$143,000 in 1998 relating to the additional conversion discount recorded upon
conversion (none in 1997).

In August 1998, the Company entered into an agreement with the 1997 Debenture
holders whereby the Company had the right, until September 1, 1998, to purchase
up to $3,000,000 of the principal amount of the 1997 Debentures, adjusted for
conversions through September 1, 1998, for a purchase price in cash of 110% of
face value. In connection with the agreement the Company issued warrants to the
Debenture holders to purchase an aggregate of 213,132 shares of common stock.
The warrants have an aggregate ascribed value of $228,000 (determined utilizing
the Black-Scholes option-pricing model), which was recorded as other expense in
the third quarter of 1998. The Company did not purchase any of the debentures
under the agreement.

1996 Debentures - In September 1996, the Company issued Convertible Debentures
(the 1996 Debentures) with a face value of $15,500,000 in a private placement to
institutional investors. This private placement yielded net proceeds to the
Company totaling $14,730,000 after deducting costs associated with issuing the
1996 Debentures. The Debentures accrued interest of the rate of 7% per year,
payable quarterly. The Debentures were convertible at the option of the holder
into shares of the Company's common stock at a price equal to 85% of the closing
price of the Company's common stock at the date of conversion, subject to a
minimum and maximum conversion price of $5.25 and $12.00 per share, at any time
through the second anniversary of the original date of issuance. Through
December 31, 1998, the Company issued a total of 1,940,674 shares of its common
stock in connection with the conversion of $12,799,000 of the original principal
amount of the Debentures, plus interest accrued through the conversion date of
$268,000.

The conversion of the notes at 85% of the closing price of the Company's common
stock resulted in the Debentures being issued at a discount (the conversion
discount). The conversion discount is being recognized by the Company as
non-cash interest expense over the term of the Debentures with a corresponding
increase to the original principal amount of the Debentures. Upon conversion of
the Debentures any portion of the conversion discount not previously recognized
is recorded as interest expense on the conversion date. During the years ended
December 31, 1998, 1997 and 1996, a total of $73,000, $644,000 and $391,000,
respectively, of noncash interest expense was recorded relating to the
Debentures, including $537,000 and $220,000 in 1997 and 1996, respectively,
relating to the additional conversion discount recorded upon conversion.

In January 1997, the Company reached agreement with the debenture holders to
tender all outstanding Debentures to the Company in exchange for new convertible
Debentures (the New Debentures). Under the terms of the agreement, New
Debentures were issued with a face value of 117.5% of the face value of the
tendered debentures. The New 


                                       56
<PAGE>   57
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

Debentures bear interest at 7% per year, payable quarterly. The New Debentures
are convertible at the option of the holder into shares of the Company's common
stock at $8.00 per share. The New Debentures must be converted by January 31,
1999. As a result of the 17.5% premium given as in inducement to the Debenture
holders to tender the original debentures into New Debentures, the Company
recorded a noncash charge of $1,899,000 in the first quarter of 1997. Subsequent
to December 31, 1998, the Company issued 586,650 shares of its common stock in
connection with the conversion of the remaining $4,600,000 principal amount of
the New Debentures, plus interest accrued through January 31, 1999 of $93,000.

11. STOCKHOLDERS' EQUITY

Warrants - On November 21, 1995, the Company issued warrants to purchase 200,000
shares of common stock to Shamrock Partners, Ltd., in consideration of financial
and business consulting services to be provided to the Company. The warrants
vest as of the grant date with an exercise price of $5.00 per share, which was
equivalent to the fair market value of the Company's common stock at the date of
grant and are valid for five years from the date of the grant. As of December
31, 1998, none of the warrants had been exercised.

On November 28, 1995, the Company entered into an agreement to issue warrants to
purchase 300,000 shares of common stock to Grant G. King in consideration of the
purchase by the Company of 49% of the issued and outstanding capital stock of
Grant King International Co., Ltd. The warrants vest as of the grant date with
an exercise price of $5.50 per share, which was equivalent to the fair market
value of the Company's common stock at the date of grant and are valid for five
years from the date of the grant. The warrants have an ascribed value of
$250,000 (determined utilizing the Black-Scholes option-pricing model), which
was recorded as an investment and additional paid-in capital. During the year
ended December 31, 1997, the Company exchanged the 300,000 unexercised warrants
for 60,000 shares of the Company's common stock.

On March 13, 1996, the Company entered into an agreement to issue warrants to
purchase 200,000 shares each of common stock to two individuals in consideration
of the purchase by the Company of 40% of the outstanding capital stock of Pure
Energy Corporation. The warrants vest as of April 30, 1996 with an exercise
price of $8.50 per share (200,000 warrants) and $12.00 per share (200,000
shares). The warrants are valid through April 30, 2001. The warrants have an
ascribed value of $1,875,000, which was recorded as an investment and additional
paid-in-capital. As of December 31, 1997, 2,500 of the warrants were exercised.
During the year ended December 31, 1997, the remaining 397,500 warrants were
canceled in connection with the sale of a portion of the Company's investment in
PEC (Note 8).

During the years ended December 31, 1997 and 1996, the Company issued 150,000
and 46,971 warrants as commission in connection with the 1997 and 1996
convertible debenture offerings, respectively (Note 10). The 1997 warrants vest
as of the grant date with an exercise price of $5.60, which was equivalent to
the fair market value of the Company's common stock at the date of grant and are
valid for three years from the date of grant. The 1996 warrants vest as of the
grant date with an exercise price of $11.87, which was equivalent to the fair
market value of the Company's common stock at the date of grant and are valid
for five years from the date of grant. The 1997 and 1996 warrants have an
ascribed value, determined utilizing the Black-Scholes option-pricing model, of
$434,000 and $233,000, respectively, which was recorded as deferred debt issue
costs and additional paid-in capital. As of December 31, 1998, none of the
warrants had been exercised.

In conjunction with the acquisitions described in Note 3 the Company issued
stock purchase warrants as part of the consideration paid for these
acquisitions. The following table summarizes the warrants issued:


<TABLE>
<CAPTION>
                                                                                             Outstanding
                                Warrants         Exercise                                    at December        Expiration
 Acquisition                     issued            Price       Exercised      Canceled        31, 1998              Date
-----------------------------------------------------------------------------------------------------------------------------
<S>                             <C>             <C>            <C>            <C>            <C>               <C>
Krasner Group, Inc.              250,628         $   7.75       62,090          70,000         118,538         April 10, 2004
S.L.S. Trading Co., Ltd.         108,000         $   7.75           --         108,000              --         April 10, 2004
</TABLE>


                                       57
<PAGE>   58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

During 1997, 70,000 and 108,000 warrants issued in conjunction with the TKG and
S.L.S. acquisitions, respectively, were exchanged for shares of the Company's
common stock (Note 3). There were no warrants exercised during 1997 or 1998.

During the year ended December 31, 1998, the Company issued 261,194 warrants in
connection with the issuance of the 1998 Debentures (Note 10). The warrants vest
as of the grant date with an exercise price of $4.72 per share, which was
equivalent to 135% of the fair market value of the Company's common stock at the
date of grant and are valid for five years from the date of grant. As of
December 31, 1998, none of the warrants had been exercised.

During the year ended December 31, 1998, the Company issued 213,132 warrants in
connection with a repurchase agreement with the 1997 Debenture holders. The
warrants vest as of the grant date with an exercise price of $3.00 per share,
which was equivalent to the fair market value of the Company's common stock at
the date of grant and are valid for five years from the date of grant. As of
December 31, 1998, none of the warrants had been exercised.

The L.L. Knickerbocker 1995 Amended and Restated Stock Option Plan - The
shareholders approved and the Company adopted a Stock Option Plan on September
27, 1994 which was amended and restated on June 15, 1995 as the L.L.
Knickerbocker Amended and Restated Stock Option Plan (the Plan). The Plan is
administered by a committee appointed by the Board of Directors and provides
that options may be granted at exercise prices determined by the Board of
Directors at its sole discretion. The Plan is designed as an incentive for
employees, non-employee directors and persons providing services of special
importance to the Company. Unless otherwise specified, the options expire ten
years from the date of grant. The Plan covered an aggregate of 2,000,000 shares
when granted. In 1996, the Board of Directors authorized an increase in the
number of shares covered by the Plan to a total of 5,000,000. Non-employee
directors of the Company are automatically granted options to purchase 10,000
shares of common stock at the fair market value at the date of grant each year
that such person remains a director of the Company.

The L.L. Knickerbocker Stock Incentive Compensation Plan - On March 27, 1997,
the Company's Board of Directors adopted the L.L. Knickerbocker Stock Incentive
Compensation Plan (the ISO Plan). The ISO Plan provides that incentive and
nonstatutory options to purchase a total of 5,000,000 shares of common stock may
be granted thereunder. The ISO Plan permits the granting of options intended to
qualify as "incentive stock options" (ISO's), the granting of options that do
not so qualify (NSO's), and the granting of stock appreciation rights (SAR's).

The exercise price of any option is established by the Administrator, who is
appointed by the Board of Directors, at the time of grant. The exercise price of
any NSO's or ISO's granted under the Plan may not be less than 100% of the fair
market value of one share of common stock on the date of grant. The exercise
price of any ISO granted to an optionee who owns stock possessing more than 10%
of the voting rights of the Company's outstanding shares must be at least 110%
of the fair market value of the shares subject to the option on the date of
grant. Options granted under the ISO Plan have a maximum term of 10 years.

The Board may from time to time, with respect to any shares at the time not
subject to options, suspend or discontinue the ISO Plan or revise or amend it in
any respect whatsoever except that, without the approval of the Company's
shareholders, no such revision or amendment shall increase the number of shares
subject to the ISO Plan or change the classes of persons eligible to receive
options. Options may be granted pursuant to the ISO Plan until the expiration of
the Plan on March 27, 2007.



                                       58
<PAGE>   59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

Option activity under the plans is as follows:


<TABLE>
<CAPTION>
                                                          AVERAGE
                                        NUMBER OF        PRICE PER
                                         SHARES            SHARE
                                       ----------        ---------
<S>                                    <C>               <C>     
Outstanding, January 1, 1996            2,000,000         $   0.75
                                        ---------

Granted                                   273,309             7.65
Exercised                                (885,514)            0.82
Canceled                                  (32,500)            0.75
                                        ---------

Outstanding, December 31, 1996          1,355,295             2.10

Granted                                 1,315,617             4.81
Exercised                                (431,250)            1.21
Canceled                                     (250)            7.75
                                        ---------

Outstanding, December 31, 1997          2,239,412             3.86

Granted                                 2,423,814             1.29
Exercised                                 (72,398)            4.62
Canceled                               (1,594,143)            4.85
                                        ---------

Outstanding, December 31, 1998          2,996,685             1.49
                                        =========
</TABLE>


During 1998, as an incentive to employees, key officers and directors, 1,593,643
options were canceled and exchanged for 1,471,456 options at an exercise price
of $.64 (120% of fair market value at the date of grant). At December 31, 1998,
1997 and 1996, 2,215,785, 1,692,545 and 652,040 options were exercisable at a
weighted average exercise price of $1.78, $4.33 and $2.92, respectively. The
weighted average fair value of options granted during 1998, 1997 and 1996, was
$.74, $3.29 and $6.65, respectively.

Additional information regarding options outstanding as of December 31, 1998 is
as follows:


<TABLE>
<CAPTION>
                         OPTIONS OUTSTANDING                               OPTIONS EXERCISABLE
                         -------------------                               -------------------
                                     WEIGHTED AVG.
                                       REMAINING        WEIGHTED AVG.                   WEIGHTED AVG.
    RANGE OF           NUMBER         CONTRACTUAL         EXERCISE        NUMBER          EXERCISE
EXERCISE PRICES     OUTSTANDING          LIFE              PRICE       EXERCISABLE         PRICE
--------------------------------------------------------------------------------------------------
<S>                 <C>              <C>                <C>            <C>              <C>     
 $0.64-1.00          2,586,022         9.29 years         $   0.66      1,805,122         $   0.67
$3.00-$10.00           410,663         8.37 years         $   6.67        410,663         $   6.67
                     -----------------------------------------------------------------------------
                     2,996,685         9.16 years         $   1.49      2,215,785         $   1.78
</TABLE>


At December 31, 1998, 5,614,153 shares were available for future grants under
the Option plans.

The fair value of each option grant was estimated as of the grant date using the
Black-Scholes option-pricing model for the years ended December 31, 1998, 1997
and 1996 assuming risk-free interest rates of 5.5%, 5.5% and 6.5%, respectively,
volatility of 73%, 68% and 85%, respectively, zero dividend yield, and expected
lives of 10 years for all periods. Forfeitures are recognized as they occur. If
compensation expense was determined based on the fair value method beginning
with grants in the year ended December 31, 1996, the Company's net (loss) income
and net (loss) 


                                       59
<PAGE>   60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

income per share would have been reduced to the approximate pro forma amounts
indicated below for the years ended December 31:


<TABLE>
<CAPTION>
                                                    1998                   1997                   1996
                                               --------------          -------------          -------------
<S>                                            <C>                     <C>                    <C>          
Actual net (loss) income                       $  (28,715,000)         $  (4,377,000)         $   1,372,000
Pro forma net (loss) income                    $  (29,662,000)            (6,657,000)               335,000
Actual net (loss) income per share:
  Basic and diluted                            $           (1.46)      $          (0.24)      $           0.09
Pro forma net (loss) income per share:
  Basic and diluted                            $           (1.51)      $          (0.37)      $           0.02
</TABLE>

12. COMMITMENTS AND CONTINGENCIES

Leases - The Company is committed under operating lease agreements for
facilities and equipment. The facility leases contain provisions for annual
rental increases.

Minimum annual rental commitments under operating leases are as follows:


<TABLE>
<S>                           <C>
Year ending December 31:
1999                         $  803,000
2000                            755,000
2001                            714,000
2002                            673,000
2003                            386,000
Thereafter                    1,326,000
                             ----------
                             $4,657,000
                             ==========
</TABLE>


Rent expense for the years ended December 31, 1998, 1997 and 1996 was
$1,153,000, $578,00 and $650,000, respectively.

Contractual Arrangements - The Company has contractual arrangements with several
celebrities and other third parties, including Marie Osmond, Annette Funicello,
Richard Simmons and Bob Mackie. Under the terms of these contracts, the
celebrities agree to act as spokesperson for their respective products, promote
the product, approve the design and make a minimum number of public appearances.
The Company is obligated to manufacture a safe product approved by the
celebrity, hold the celebrity harmless from liability, maintain specified levels
of liability insurance and pay royalties based on a percentage of net wholesale
and retail sales. Each contract has a termination clause in the event certain
minimum annual sales are not attained (ranging from $50,000 to $500,000). In
certain instances, the celebrity or other third party has the right to terminate
the contract if the minimum sales level is not attained for any single year. The
contracts generally run from 18 months to 5 years and contain audit clauses,
with penalties for errors or omissions.

Letters of Credit - The Company finances certain collectible program purchases
and other product utilizing irrevocable, transferable letters of credit. These
letters of credit are issued to the Company by its major customer's bank, with
the Company as the beneficiary. The Company then transfers a portion of the
letter of credit to the Company's supplier to secure payment of the purchase.
The Company and the supplier draw down the letter of credit when the supplier
ships the product directly to the Company's customer.

Employment Contracts - The Company has entered into eight employment agreements
with Company officers with five-year terms. The agreements call for aggregate
annual compensation of $1,300,000 and a discretionary bonus of up to 10% of
operating income.

Litigation - Plaintiff Michael Elam filed an action in Orange County Superior
Court (Case No. 759883) on or about February 16, 1996, against Louis L.
Knickerbocker, Tamara Knickerbocker and the Company alleging causes of action
for conversion, breach of fiduciary duty, fraud, debitatus assumpsit,
intentional interference with contract, constructive trust, breach of oral
agreement, specific performance, money had and received, open book account and
spoliation of 


                                       60
<PAGE>   61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)


evidence. The plaintiff is seeking money damages and/or shares of stock of the
Company ranging between $500,000 and $35,000,000 as a result of prior business
affiliations with Mr. Knickerbocker, alleging that the Company is liable as a
successor-in-interest for the debts of Mr. Knickerbocker's prior companies, and
that Mr. Knickerbocker was obligated to allow the plaintiff to participate in
the Company when it was created. The defendants are vigorously opposing the
lawsuit. A motion for summary judgment filed in August 1998 eliminated those
causes of action claiming an interest in the Company's predecessor,
Knickerbocker Creations, Ltd. The case is set for trial on May 24, 1999. The
Company has made an offer to the plaintiff to settle the litigation in exchange
for shares of Pure Energy Corporation held by the Company with a carrying value
of $168,000. This amount is included in accrued liabilities at December 31,
1998.

The Company's predecessor, Knickerbocker Creations, Ltd., filed an action in the
Los Angeles Superior Court in 1991 (Case No. 060405) against Excess, Inc.,
Beverly Johnson and Alan Johnson. The suit seeks repayment of $157,000, together
with pre-judgment interest and lost profits, as a result of defendants' failure
to manufacture and ship various clothing goods. A cross-complaint was filed by
Beverly Johnson against Knickerbocker Creations, Ltd. and Louis Knickerbocker
for $25,000 for commissions allegedly owed to her. The Company became involved
in the case in the fall of 1998 when a motion to substitute The L.L.
Knickerbocker Company, Inc. as plaintiff and cross-defendant for Knickerbocker
Creations, Ltd., an inactive corporation, was granted by the court. The matter
is currently set for trial on April 5, 1999.

The Company brought claims against State Street Bank and Trust Company ("State
Street") in federal district court in Boston, Massachusetts (Civil Action No.
97-12573-NO, U.S. District Court, D. MA) for conversion, breach of contract,
unjust enrichment, a declaratory judgment and violation of Massachusetts General
Laws, c. 93A arising from State Street's wrongful retention of 72,188 shares of
the Company's common stock after the Company's obligations to State Street under
a Settlement Agreement of the prior indebtedness of Georgetown Collection, Inc.,
a subsidiary acquired in 1996, had been paid in full. The stock retained by
State Street had an original value of $617,000. State Street denies liability
and brought a counterclaim against the Company for breach of contract and
specific performance seeking $102,000 in damages, plus attorneys fees and costs.
Discovery is substantially complete, and the final pre-trial conference is
scheduled on June 1, 1999.

Finance Authority of Maine, Costal Enterprises, Inc, and the Southern Maine
Economic Development District brought claims in federal district court in
Portland, Maine (Civil Action No.98-2235-8, U.S. District Court, D. Maine) for
breach of contract, indemnification and specific performance arising from the
Company's performance under certain settlement documents following the
acquisition of the subsidiary, Georgetown Collection, Inc., in 1996. The
plaintiffs are seeking an order requiring the Company to purchase 63,030 shares
of the Company's stock previously transferred to plaintiffs for $11.50 per
share, plus interest and attorneys fees. The Company answered and denied
liability on plaintiffs' claims. The plaintiffs moved for summary judgment, and
the motion is currently under advisement. No discovery has been conducted and
the current scheduling order provides for a trial date in September 1999.

A former shareholder of GCI alleges that the Company is liable for a $750,000
note payable to the former shareholder. No accrual for potential loss related to
this note has been recorded as of December 31, 1998, as the Company believes
that the note payable was settled in connection with the acquisition of GCI and
that the Company is not liable for this amount.

In connection with the matters discussed above, the Company incurred legal
expense during the year ended December 31, 1998 of approximately $2 million,
which is included in general and administrative expense. At December 31, 1998,
approximately $1.6 million of this amount is included in accounts payable.

The Company is involved in certain other legal and administrative proceedings
and threatened legal and administrative proceedings arising in the normal course
of its business. While the outcome of such proceedings and threatened
proceedings cannot be predicted with certainty, in the opinion of management,
the ultimate resolution of these matters individually or in the aggregate will
not have a material adverse effect on the Company.



                                       61
<PAGE>   62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

13. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS


Long-term debt at December 31, 1998 and 1997 consists of:


<TABLE>
<CAPTION>
                                                                  1998               1997
                                                               ---------          ---------
<S>                                                            <C>                <C>      
Building mortgage, interest at 11.0% per annum,
  payable in monthly installments of $7,000, including
  interest, collateralized by real estate                      $ 423,000          $ 349,000

Building mortgage, interest at 14.75% per annum,
  payable in monthly installments of $17,000 including
  interest, collateralized by real estate                         75,000            263,000

Equipment leases, interest ranging from 4.90% to
  24.93% per annum, payable in aggregate monthly
  installments of $16,000, including interest,
  collateralized by equipment                                    258,000            291,000
                                                               ---------          ---------
                                                                 756,000            903,000
Less current portion                                            (215,000)          (242,000)
                                                               ---------          ---------
                                                               $ 541,000          $ 661,000
                                                               =========          =========
</TABLE>


Principal payments on long-term debt and capital lease obligations are due
approximately as follows:


<TABLE>
<S>                   <C>       
1999                  $  215,000
2000                     104,000
2001                      94,000
2002                      74,000
2003                      51,000
Thereafter               218,000
                      ----------
                      $  756,000
                      ==========
</TABLE>


14. SIGNIFICANT CONCENTRATIONS AND RISKS

Customer Concentration - During the years ended December 31, 1998, 1997 and
1996, the Company conducted business with one customer whose aggregate net sales
volume comprised approximately 25%, 29% and 43% of the Company's revenues,
respectively. A reduction in sales to this customer could adversely impact the
financial condition and operations of the Company.

Merchandise Risk - The Company's success is largely dependent on its ability to
provide to its customers merchandise that satisfies consumer tastes and demand.
Any inability to provide appropriate merchandise in sufficient quantities and in
a timely manner could have a material adverse effect on the Company's business,
operating results, and financial condition.

Foreign Currency - Approximately 13% of the Company's revenues are derived from
subsidiaries operating in Thailand. In an attempt to reduce economic risks
associated with devaluations of the Thai baht, the Company's Thailand
subsidiaries require their customers to remit payment in U.S. dollars. Included
in other income for the years ended December 31, 1998 and 1997 is $(333,000) and
$1,094,000, respectively, in transaction gains (losses) associated with this
strategy.



                                       62
<PAGE>   63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

15. INCOME TAXES

The provision (benefit) for income taxes consists of the following for the years
ended December 31:


<TABLE>
<CAPTION>
                                                                     1998                       1997                       1996
                                                                 ------------               ------------               ------------
<S>                                                              <C>                        <C>                        <C>         
Current federal and state income taxes                           $     99,000               $     37,000               $    227,000
Current foreign taxes                                                 113,000                     11,000                    408,000
Deferred federal and state income taxes                            (9,137,000)                (3,282,000)                  (185,000)
Valuation allowance, federal and state income taxes                12,588,000                  2,187,000
                                                                 ------------               ------------               ------------

Provision (benefit) for income taxes                             $  3,663,000               ($ 1,047,000)              $    450,000
                                                                 ============               ============               ============
</TABLE>


A reconciliation of the statutory federal rate and the provision (benefit) for
income taxes is as follows:


<TABLE>
<CAPTION>
                                                        1998                       1997                       1996
                                                   ------------               ------------               ------------
<S>                                                <C>                        <C>                        <C>         
Federal tax at statutory rate                      ($ 8,864,000)              ($ 1,895,000)              $    684,000
State taxes                                             505,000                    (28,000)                    (8,000)
Goodwill amortization                                   524,000                    125,000                     59,000
Residual U.S. tax on foreign earnings                  (140,000)                  (883,000)                  (313,000)
Valuation allowance                                  10,520,000                    325,000                         --
Non-deductible interest on
     convertible debentures                             764,000                  1,219,000                         --
Other                                                   354,000                     90,000                     28,000
                                                   ------------               ------------               ------------

                                                   $  3,663,000               ($ 1,047,000)              $    450,000
                                                   ============               ============               ============
</TABLE>



                                       63
<PAGE>   64
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

Significant components of the Company's deferred tax assets and liabilities at
December 31 are as follows: 


<TABLE>
<CAPTION>
                                                                        1998                       1997
                                                                    ------------               ------------
<S>                                                                 <C>                        <C>         
Deferred tax assets
 Bad debt reserve                                                   $    277,000               $    261,000
 Difference between book and tax basis of fixed assets
  and goodwill                                                            30,000                         --
 Uniform capitalization                                                  185,000                    154,000
 Inventory reserves                                                    1,160,000                    796,000
 Returns and allowances                                                  635,000                    419,000
 Pre-acquisition net operating loss carryforward                       2,370,000                  2,370,000
 Post-acquisition net operating loss carryforward                      7,719,000                  4,585,000
 Difference between book and tax basis of investments                  1,108,000
 Restructuring reserve                                                 1,282,000
 State income taxes                                                       44,000
 Other                                                                   188,000
 Valuation allowance                                                 (14,775,000)                (2,187,000)
                                                                    ------------               ------------

Total deferred tax assets                                                223,000                  6,398,000

Deferred tax liabilities
 Difference between book and tax basis of fixed assets
  and goodwill                                                      $         --               $   (271,000)
 Prepaids                                                               (223,000)                (1,563,000)
 State income taxes                                                     (308,000)
 Other                                                                   (90,000)
                                                                    ------------               ------------

Total deferred tax liabilities                                          (223,000)                (2,232,000)

                                                                    ============               ============
                                                                    $         --               $  4,166,000
                                                                    ============               ============
</TABLE>

The Company has provided a full valuation allowance on the net deferred tax
asset at December 31, 1998 due to the uncertainty regarding its realization.

The Company has not provided any residual U.S. tax on approximately $401,000 of
the Company's foreign subsidiaries' undistributed earnings, as the Company
intends to indefinitely reinvest such earnings in the foreign subsidiaries.

The Company recorded a credit to equity of $1,354,000 as a result of the tax
benefit from the exercise of stock options in 1996. During 1997, the Company had
a tax deduction from exercises of stock options in the amount of $2,162,000.
Since the Company does not have sufficient taxable income or carry back
potential to utilize the deductions generated from the exercise of the options,
approximately $5,319,000 of deductions for 1997 and 1996 have not been recorded
in the accompanying financial statements. As these losses are utilized in future
years, the tax benefit will be recorded to equity.

The Company has an approximate $4,395,000 loss carryforward related to GCI and
TKG which can be used to reduce future taxable income. Sections 382 and 383 of
the Internal Revenue Code of 1986 place certain limitations on the use of these
acquired losses. A maximum of $405,000 of the net operating loss carryforward
can be utilized annually in 1998 and subsequent years. Any net operating loss
not utilized will begin expiring in 2010.


                                       64
<PAGE>   65
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

16. BUSINESS SEGMENT INFORMATION

The Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise
and Related Information", beginning with this annual report. SFAS No. 131
requires segments to be determined and reported based on how management measures
performance and makes decisions about allocating resources.

The Company is engaged primarily in the design, manufacture and marketing of
branded collectibles and jewelry. The Company has three reportable segments: (1)
collectible brands, (2) fashion jewelry brands and (3) fine jewelry. The
collectible brands segment encompasses collectible dolls, toys, teddy bears and
figurines. The fashion jewelry brands encompass items manufactured by the
Company from non-precious metals, for sale primarily to the home shopping
industry. The fine jewelry segment encompasses jewelry manufactured by the
Company with precious metals. Corporate activities including financing
transactions are reflected in the tables below as "Corporate". The Company
evaluates performance based on profit or loss from operations. The operating
segments are managed separately because each segment requires different
marketing strategies.



                                       65
<PAGE>   66
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)


<TABLE>
<CAPTION>
                                                               1998                       1997                       1996
                                                           ------------               ------------               ------------
<S>                                                        <C>                        <C>                        <C>         
Net sales
  Collectible brands                                       $ 39,424,000               $ 46,311,000               $ 26,094,000
  Fashion jewelry brands                                      9,241,000                 11,707,000                  5,805,000
  Fine jewelry                                               11,762,000                 10,272,000                 10,196,000
  Corporate                                                          --                         --                         --
                                                           ------------               ------------               ------------
  Consolidated                                             $ 60,427,000               $ 68,290,000               $ 42,095,000

Operating (loss) income
  Collectible brands                                       $(14,708,000)              $ (2,271,000)              $  1,216,000
  Fashion jewelry brands                                     (2,638,000)                   416,000                    395,000
  Fine jewelry                                                  294,000                    986,000                  2,932,000
  Corporate                                                  (3,316,000)                (1,173,000)                  (693,000)
                                                           ------------               ------------               ------------
  Consolidated                                             $(20,368,000)              $ (2,042,000)              $  3,850,000

Interest expense
  Collectible brands                                       $         --               $         --               $         --
  Fashion jewelry brands                                             --                         --                         --
  Fine jewelry                                                       --                         --                         --
  Corporate                                                   3,658,000                  4,831,000                  1,205,000
                                                           ------------               ------------               ------------
  Consolidated                                             $  3,658,000               $  4,831,000               $  1,205,000

Total assets
  Collectible brands                                       $ 15,702,000               $ 23,130,000               $ 26,813,000
  Fashion jewelry brands                                      2,787,000                  3,948,000                  3,338,000
  Fine jewelry                                               10,431,000                  7,507,000                 12,787,000
  Corporate                                                   9,822,000                 16,376,000                 14,634,000
                                                           ------------               ------------               ------------
  Consolidated                                             $ 38,742,000               $ 50,961,000               $ 57,572,000

Geographic areas Sales to external customers:
    United States                                          $ 50,616,000               $ 59,230,000               $ 32,858,000
    Thailand                                                  9,811,000                  9,060,000                  9,237,000
                                                           ------------               ------------               ------------
    Consolidated                                             60,427,000                 68,290,000                 42,095,000

  Long-lived assets:
    United States                                             3,272,000                  7,823,000                  6,098,000
    Thailand                                                  5,107,000                  4,107,000                  6,983,000
                                                           ------------               ------------               ------------
    Consolidated                                           $  8,379,000               $ 11,930,000               $ 13,081,000
</TABLE>



                                       66
<PAGE>   67
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

17. EARNINGS PER SHARE

Earnings per common share (EPS) data were computed as follows:


<TABLE>
<CAPTION>
1998:                                                                  Income (Loss)          Shares    Per-Share Amount
<S>                                                                    <C>                 <C>          <C>
Net Loss                                                               $(28,715,000)                      
                                                                       ============                       

Basic EPS:
Loss available to common shareholders                                   (28,715,000)         19,630,175       $  (1.46)
                                                                                                              =========

Effect of Dilutive Securities                                                    --                  --
                                                                       --------------------------------
Diluted EPS:
Loss available to common stockholders and assumed conversions          $(28,715,000)         19,630,175       $  (1.46)
                                                                       ================================================

1997:

Net Loss                                                               $ (4,377,000)
                                                                       =============

Basic EPS:
Loss available to common shareholders                                    (4,377,000)         18,052,081       $  (0.24)
                                                                                                              =========

Effect of Dilutive Securities                                                    --                  --
                                                                       --------------------------------
Diluted EPS:
Loss available to common stockholders and assumed conversions          $ (4,377,000)         18,052,081       $  (0.24)
                                                                       ================================================

1996:

Net Income                                                             $  1,372,000
                                                                       ============

Basic EPS:
Income available to common shareholders                                   1,372,000          14,713,903       $   0.09
                                                                                                              ========

Effect of Dilutive Securities:
Options and Warrants                                                      1,373,584
Convertible debentures                                                    1,480,000             383,137
                                                                       --------------------------------

Diluted EPS:
Income available to common stockholders and assumed conversions        $  1,520,000          16,470,624       $   0.09
                                                                       ===============================================
</TABLE>


Options and warrants to purchase 246,971 shares of common stock at $12 per share
were outstanding during 1996 but were not included in the computation of diluted
EPS because the options' exercise price was greater than the average market
price of the common shares.

18. EMPLOYEE BENEFIT PLAN

Georgetown Collection, Inc. maintains a defined contribution plan (401(K) Plan)
covering employees who have completed six months of service. Effective January
1, 1998, the 401(K) Plan was amended to cover all U.S. employees of the Company
who meet eligibility requirements. Matching Company contributions are made based
upon 


                                       67
<PAGE>   68
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (CONTINUED)

a minimum of 2% of participant contributions. During the years ended December
31, 1998, 1997 and 1996, the Company made contributions of $5,000, $37,000 and
$32,000, respectively.

19. QUARTERLY FINANCIAL DATA (UNAUDITED)


<TABLE>
<CAPTION>
                                                    First                Second               Third                Fourth
                                                   Quarter               Quarter             Quarter               Quarter
                                                 ------------         ------------         ------------         ------------
<S>                                              <C>                  <C>                  <C>                  <C>         
Year ended December 31, 1998:
     Net sales                                   $ 11,482,000         $ 13,434,000         $ 15,769,000         $ 19,742,000
     Gross profit                                   6,626,000            6,946,000            8,064,000            9,408,000
     Net income (loss)                             (2,576,000)          (2,680,000)          (1,690,000)         (21,769,000)
     Net income (loss) per share, diluted        $      (0.14)        $      (0.14)        $      (0.09)        $      (1.06)

Year ended December 31, 1997:
     Net sales                                   $ 13,441,000         $ 17,609,000         $ 14,112,000         $ 23,128,000
     Gross profit                                   6,975,000            8,908,000            7,635,000           13,982,000
     Net income (loss)                             (3,839,000)            (561,000)            (586,000)             609,000
     Net income (loss) per share, diluted        $      (0.23)        $      (0.03)        $      (0.03)        $       0.04
</TABLE>


Fourth Quarter Adjustments

Net loss for the fourth quarter of 1998 includes a $2,991,000 restructuring
charge related to the consolidation of GCI into the Company's California
facility (Note 4). In connection with the revised marketing strategy for the
Company's Georgetown and Magic Attic Club brands, in the fourth quarter of 1998,
the Company recorded an approximate $1,643,000 charge to write down prepaid
advertising and related costs.

Based on management's year-end evaluation of the carrying value of intangible
assets, an impairment charge of $1,000,000 was recorded in the fourth quarter of
1998 to reduce the carrying value of goodwill related to the TKG acquisition to
management's estimate of fair value (Note 3).

The fourth quarter of 1998 also includes an $840,000 adjustment for estimated
excess inventory quantities and obsolescence of inventory and production models
related to discontinued product lines. Also included in the fourth quarter of
1998 is approximately $1,446,000 of expense related to litigation and other
legal matters (Note 12).

At December 31, 1998, the Company wrote off $712,000 of unamortized debt
discount and deferred debt issuance costs related to the 1998 Debentures, due to
the maturity of the debentures prior to exchange of the debentures to preferred
stock. This amount is included in interest expense for the year ended December
31, 1998.

The Company also recorded in the fourth quarter of 1998, a $4,683,000 adjustment
to increase its valuation allowance for net deferred tax assets due to recurring
tax losses (Note 15).

20. SUBSEQUENT EVENT

Subsequent to December 31, 1998, the Company issued 6,136,010 shares of its
common stock in connection with the conversion of $950,000 and $1,800,000 of the
principal amount of the 1997 and 1998 Debentures, respectively, plus interest
accrued through the conversion date.



                                       68
<PAGE>   69
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


<TABLE>
<CAPTION>
                                            Balance at       Additions
                                            beginning        charged to                                          Balance at
                                            of period         expense         Deductions       Adjustments(1)   end of period
                                           -----------      -----------       -----------      --------------   -------------
<S>                                        <C>              <C>               <C>              <C>              <C>        
For the year ended December 31, 1996:
    Allowance for doubtful accounts        $   741,000      $ 1,638,000       $(1,657,000)      $   370,000      $ 1,092,000
                                           ===========      ===========       ===========       ===========      ===========

    Inventory reserve                      $        --      $   121,000       $  (946,000)      $ 3,630,000      $ 2,805,000
                                           ===========      ===========       ===========       ===========      ===========

For the year ended December 31, 1997:
    Allowance for doubtful accounts        $ 1,092,000      $ 1,710,000       $(2,133,000)                       $   669,000
                                           ===========      ===========       ===========       ===========      ===========

    Inventory reserve
                                           $ 2,805,000      $ 1,633,000       $(2,289,000)                       $ 2,149,000
                                           ===========      ===========       ===========       ===========      ===========

For the year ended December 31, 1998:
    Allowance for doubtful accounts        $   669,000      $ 1,872,000       $(1,883,000)                       $   658,000
                                           ===========      ===========       ===========       ===========      ===========

    Inventory reserve                      $ 2,149,000      $ 2,347,000       $(1,826,000)                       $ 2,670,000
                                           ===========      ===========       ===========       ===========      ===========
</TABLE>


(1) Additions attributable to acquisitions.



                                       69
<PAGE>   70

                                 EXHIBIT INDEX
                                 -------------

<TABLE>
<CAPTION>
Exhibit
Number                Description
------                -----------
<S>     <C>
3.1     Articles of Incorporation of International Beauty Supply, Ltd. ("IBS")
        dated July 11, 1985.(1)

3.2     Amendment to Articles of Incorporation of IBS dated May 24, 1993.(1)

3.3     Certificate of Amendment to Articles of Incorporation of The L. L.
        Knickerbocker Company Inc. (the "Company") dated June 20, 1994.(1)

3.4     Certificate of Amendment to Articles of Incorporation of the Company
        dated September 27, 1994.(1)

3.5     Bylaws of the Company.(2)

4.1     Qualified Stock Option Plan adopted by the Company on September 27,
        1994, along with form of Stock Option Agreement.(3)

4.2     Form of Warrant Agreement.(3)

4.3     Form of Representative's Warrant issued to W.B. McKee Securities, Inc.
        upon consummation of the Company's offering on January 25, 1995.(3)

4.4     Form of Common Stock Purchase Warrant issued to Shoreline Pacific, the
        Institutional Finance Division of Financial West Group. (6)

4.5     Form of 7% Convertible Debenture.(6)

10.1    Employment Agreement, dated July 1, 1996, between the Company and Louis
        L. Knickerbocker.(10)

10.2    Employment Agreement, dated July 1, 1996, between the Company and Tamara
        Knickerbocker.(10)

10.3    Employment Agreement, dated July 1, 1996, between the Company and
        Anthony P. Shutts.(10)

10.4    Employment Agreement, dated April 1, 1997, between the Company and
        William R. Black.(11)

10.5    Agreement between Marie, Inc. and the Company dated April 1, 1993 re the
        services of Marie Osmond in the design, production, and sale of products
        and licensing to the Company of the use of Marie Osmond's name in
        conjunction with the Company's products.(3)

10.6    Agreement between Bob Mackie (US), Inc. and the Company dated May 1,
        1994 re the services of Bob Mackie in the design, production and sale of
        products and licensing to the Company of the use of Bob Mackie's name in
        conjunction with the Company's products. (3)

10.7    Agreement between Cello, Inc. and the Company dated May 13, 1994 re
        services of Annette Funicello in the design, development, manufacture
        and the sale of products, with Acceptance by Annette Funicello and
        Cancellation of Prior Agreement dated October 30, 1991 between Cello,
        Inc. and Creations.(3)

</TABLE>

                                       70
<PAGE>   71

<TABLE>
<CAPTION>
Exhibit
Number                Description
------                -----------
<S>     <C>
10.8    Lease Agreement between the Company and Security Capital Industrial
        Trust for 25800 Commercentre Drive, Lake Forest, CA dated February 15,
        1995.(2)

10.9    Agreement between the Company and Grant King International Co., Ltd.,
        dated November 28, 1995 re the acquisition of 49% of the issued and
        outstanding stock of Grant King International Co., Ltd. (5)

10.10   Agreement between the Company and Grant King Design Co., Ltd., dated
        November 27, 1995 re the distribution of the jewelry products of Grant
        King Design Co., Ltd. (5)

10.11   Agreement of Purchase and Sale of the Capital Stock of Pure Energy
        Corporation between the Company and Pure Energy Corporation, dated
        February 7, 1996 re the acquisition of 40% of the issued and outstanding
        capital stock of Pure Energy Corporation. (5)

10.12   Letter of intent between Pure Energy Corporation and Biofine, Inc.,
        dated March 3, 1996 re the licensing of the patents of Biofine, Inc. (5)

10.13   License Agreement between the Company and SIM-GT Licensing Corp., dated
        May 1, 1995 re the licensing of the name, likeness and trademarks of
        Richard Simmons. (5)

10.14   Employment Agreement, dated April 1, 1998, between the Company and
        Robert L. West, Jr. (12)

10.15   Agreement of Purchase and Sale of the Capital Stock of Krasner Group,
        Inc., dated June 15, 1996 re the acquisition of 100% of the issued and
        outstanding capital stock of Krasner Group,. (7)

10.16   Stock Purchase Agreement dated September 30, 1996, by and among Harlyn
        Products, Inc., Harlyn International Co., Ltd. and the Company.(6)

10.17   First Amendment to Stock Purchase Agreement dated October 15, 1996, by
        and among Harlyn Products, Inc., Harlyn International Company, Ltd. and
        the Company.(6)

10.18   Second Amendment to Stock Purchase Agreement dated November 7, 1996, by
        and among Harlyn Products, Inc., Harlyn International Company, Ltd. and
        the Company.(6)

10.19   Agreement of Purchase and Sale of the Capital Stock of Self Heating
        Container, Inc., dated September 17, 1996 by and between Self Heating
        Container Corporation of California and the Company(10)

10.20   Agreement of Purchase and Sale of the Capital Stock of Insta-Heat, Inc.,
        dated September 17, 1996, by and between Insta-Heat, Inc. and the
        Company.(10)

10.21   Agreement of Purchase and Sale of the Capital Stock of Georgetown
        Collection, Inc., dated November 20, 1996, by and between Consumer
        Venture Partners I, L.P., Vermont Capital Venture Fund, North Atlantic
        Venture Fund, Merchant Partners and the Company.(8)
</TABLE>

                                       71
<PAGE>   72

<TABLE>
<CAPTION>
Exhibit
Number                Description
------                -----------
<S>     <C>

10.22   Form of Private Securities Subscription Agreement.(6)

10.23   Form of Registration Rights Agreement.(6)

21.1    Subsidiaries of Registrant.(11)

23.0    Consent of Deloitte & Touche LLP, independent auditors. (13)

27.0    Financial Data Schedule (12)
</TABLE>

---------------------------

(1)     Filed as part of Exhibit 3.1 to The L. L. Knickerbocker Co., Inc. Form
        SB-2 Registration Statement No. 33-85230-LA as filed with the Securities
        and Exchange Commission on or about October 13, 1994.

(2)     Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Annual Report
        on Form 10-KSB filed with the Securities and Exchange Commission on or
        about March 29, 1995.

(3)     Filed as an Exhibit to The L. L. Knickerbocker Co., Inc. Form SB-2
        Registration Statement No. 33-85230-LA as filed with the Securities and
        Exchange Commission on or about October 13, 1994.

(4)     Filed as Exhibit to The L. L. Knickerbocker Co., Inc. report on Form 8-K
        filed with the Securities and Exchange Commission on or about March 21,
        1995.

(5)     Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Annual Report
        on Form 10-KSB filed with the Securities and Exchange Commission on or
        about April 15, 1996.

(6)     Filed as an Exhibit to The L. L. Knickerbocker Co., Inc. Form 10-QSB/A
        as filed with the Securities & Exchange Commission on or about November
        27, 1996.

(7)     Filed as Exhibit to The L. L. Knickerbocker Co., Inc. report on Form 8-K
        filed with the Securities and Exchange Commission on or about July 3,
        1996.

(8)     Filed as Exhibit to The L. L. Knickerbocker Co., Inc. report on Form 8-K
        filed with the Securities and Exchange Commission on or about December
        5, 1996.

(9)     Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Annual Report
        on Form 10-KSB filed with the Securities and Exchange Commission on or
        about April 15, 1997.

(10)    Filed as an exhibit to The L. L. Knickerbocker Co., Inc. Amended Annual
        Report on Form 10-KSB/A filed with the Securities and Exchange
        Commission on or about August 15, 1997.

(11)    Filed as an exhibit to The L.L. Knickerbocker Co., Inc. Form 10-KSB
        filed with the Securities and Exchange Commission on or about March 31,
        1998.

(12)    Filed herewith as an exhibit to The L.L. Knickerbocker Co., Inc. Annual
        Report on Form 10-K filed with the Securities and Exchange Commission on
        or about April 15, 1999.

(13)    Filed herewith.

(b)     Reports on Form 8-K 
        There were no reports on Form 8-K filed during the fourth quarter of
        1998.

(c)     See (a)(2) above for a listing of the exhibits included as a part of
        this report.

                                       72