---

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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON,
D.C. 20549

FORM 10-Q

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934.

FOR THE QUARTERLY PERIOD ENDED JULY 2, 2006

OR

o 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
          0-24543

|                                                        
|--------------------------------------------------------
|COST-U-LESS, INC.                                       
|(Exact name of registrant as
  specified in its charter)

|                                                                   |  |                                       
|------------------------------------------------------------------ |  | --------------------------------------
|Washington                                                         |  | 91-1615590                            
|(State or other jurisdiction of
  incorporation or
  organization) |  | (I.R.S. Employer Identification
  No.)

3633
136th Place SE, Suite 110
Bellevue, Washington 98006(Address of principal executive office) (Zip Code)

|                                                    
|----------------------------------------------------
|(425) 945-0213                                      
|(Registrants telephone number, including area code)

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 and 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.x YES
o NO.

Indicate by check mark
whether the registrant is a large accelerated filer, an accelerated filer, or a
non-accelerated filer (as defined in Rule 12b-2 of the Exchange Act):

| |                           |                     |                        
| | ------------------------- | ------------------- | -----------------------
| | Large accelerated filer o | Accelerated filer o | Non-accelerated filer x

Indicate by check mark
whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).o YES x NO.

The registrant
had 4,021,998 common shares, par value $0.001, outstanding at August 4, 2006.

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COST-U-LESS, INC.

INDEX TO FORM 10-Q

|           |                       |                                                                                         |   
|---------- | --------------------- | --------------------------------------------------------------------------------------- | --
|PART I.    | FINANCIAL INFORMATION |                                                                                        
|           |                       |                                                                                        
|           | Item 1.               | Financial Statements (Unaudited)                                                        |   
|           |                       |                                                                                         |   
|           |                       | Condensed
  Consolidated Statements of Operations.                                      | 3 
|           |                       |                                                                                         |   
|           |                       | Condensed
  Consolidated Balance Sheets.                                                | 4 
|           |                       |                                                                                         |   
|           |                       | Condensed
  Consolidated Statements of Shareholders Equity.                            | 5 
|           |                       |                                                                                         |   
|           |                       | Condensed
  Consolidated Statements of Cash Flows.                                      | 6 
|           |                       |                                                                                         |   
|           |                       | Notes
  to Condensed Consolidated Financial Statements.                                 | 7 
|           |                       |                                                                                         |   
|           | Item
  2.             | Managements
  Discussion and Analysis of Financial Condition and Results of Operations | 12
|           |                       |                                                                                         |   
|           | Item
  3.             | Quantitative
  and Qualitative Disclosures About Market Risk                            | 17
|           |                       |                                                                                         |   
|           | Item
  4.             | Controls
  and Procedures                                                               | 17
|           |                       |                                                                                         |   
|PART II.   | OTHER INFORMATION     |                                                                                        
|           |                       |                                                                                         |   
|           | Item
  1A.            | Risk
  Factors.                                                                         | 18
|           |                       |                                                                                         |   
|           | Item
  4.             | Submission
  of Matters to a Vote of Security Holders.                                  | 22
|           |                       |                                                                                         |   
|           | Item
  6.             | Exhibits.                                                                               | 22
|           |                       |                                                                                         |   
|SIGNATURES |                       | 23                                                                                     

2

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PART I 
FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

COST-U-LESS,
INC.

CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS
(in thousands, except share and per share data)
(Unaudited)

|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|----------------------------------------------------- |  | -------------- | --------- | --------------- | - | -------------- | - | --------------- | --------- | - | - | --------- | -
|                                                      |  | 13 WeeksEnded  |           | 26 WeeksEnded   |  
|                                                      |  |                |           |                 |  
|                                                      |  | July 2,
  2006 |           | June 26,
  2005 |   | July 2,
  2006 |   | June 26,
  2005 |          
|                                                      |  |                |           |                 |   |                |   |                 |          
|                                                      |  |                |           |                 |   |                |   |                 |          
|Net sales                                             |  | $              | 53,568    |                 | $ | 52,295         |   | $               | 108,260   |   | $ | 105,534   |  
|Merchandise costs                                     |  |                | 43,515    |                 |   | 42,597         |   |                 | 88,008    |   |   | 86,262    |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Gross profit                                          |  |                | 10,053    |                 |   | 9,698          |   |                 | 20,252    |   |   | 19,272    |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Operating expenses:                                   |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Store                                                 |  |                | 7,319     |                 |   | 6,978          |   |                 | 14,535    |   |   | 13,705    |  
|General and administrative                            |  |                | 1,680     |                 |   | 1,513          |   |                 | 3,343     |   |   | 3,210     |  
|Store openings                                        |  |                | 139       |                 |   | 233            |   |                 | 153       |   |   | 264       |  
|Store closings                                        |  |                | 0         |                 |   | 59             |   |                 | 0         |   |   | 59        |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Total operating expenses                              |  |                | 9,138     |                 |   | 8,783          |   |                 | 18,031    |   |   | 17,238    |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Operating income                                      |  |                | 915       |                 |   | 915            |   |                 | 2,221     |   |   | 2,034     |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Other income (expense):                               |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Interest expense, net                                 |  |                | (107      | )               |   | (59            | ) |                 | (213      | ) |   | (110      | )
|Other                                                 |  |                | (3        | )               |   | (34            | ) |                 | (15       | ) |   | 82        |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Income before income taxes                            |  |                | 805       |                 |   | 822            |   |                 | 1,993     |   |   | 2,006     |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Income tax provision                                  |  |                | 330       |                 |   | 310            |   |                 | 760       |   |   | 760       |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Net income                                            |  | $              | 475       |                 | $ | 512            |   | $               | 1,233     |   | $ | 1,246     |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Earnings per common share:                            |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Basic                                                 |  | $              | 0.12      |                 | $ | 0.13           |   | $               | 0.31      |   | $ | 0.32      |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Diluted                                               |  | $              | 0.11      |                 | $ | 0.12           |   | $               | 0.29      |   | $ | 0.30      |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Weighted average common shares outstanding,
  basic   |  |                | 4,021,173 |                 |   | 3,981,856      |   |                 | 4,009,506 |   |   | 3,886,453 |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  
|Weighted average common shares outstanding,
  diluted |  |                | 4,244,038 |                 |   | 4,228,017      |   |                 | 4,232,807 |   |   | 4,134,133 |  
|                                                      |  |                |           |                 |   |                |   |                 |           |   |   |           |  

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

3

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COST-U-LESS, INC.

CONDENSED
CONSOLIDATED BALANCE SHEETS
(in thousands)

(Unaudited)

|                                           |  |             |        |                |   |        | 
|------------------------------------------ |  | ----------- | ------ | -------------- | - | ------ | 
|                                           |  | July 2,2006 |        | January 1,2006 |  
|                                           |  |             |        |                |  
|ASSETS                                     |  |             |        |                |   |        | 
|                                           |  |             |        |                |   |        | 
|Current
  assets:                          |  |             |        |                |   |        | 
|Cash and cash equivalents                  |  | $           | 4,031  |                | $ | 5,304  | 
|Accounts receivable, net                   |  |             | 842    |                |   | 843    | 
|Inventories, net                           |  |             | 24,565 |                |   | 23,027 | 
|Other current assets                       |  |             | 1,615  |                |   | 1,136  | 
|                                           |  |             |        |                |   |        | 
|Total current assets                       |  |             | 31,053 |                |   | 30,310 | 
|                                           |  |             |        |                |   |        | 
|Buildings
  and equipment, net             |  |             | 19,858 |                |   | 18,550 | 
|Deposits and
  other assets                |  |             | 713    |                |   | 772    | 
|                                           |  |             |        |                |   |        | 
|                                           |  |             |        |                |   |        | 
|Total assets                               |  | $           | 51,624 |                | $ | 49,632 | 
|                                           |  |             |        |                |   |        | 
|                                           |  |             |        |                |   |        | 
|LIABILITIES AND SHAREHOLDERS EQUITY       |  |             |        |                |   |        | 
|                                           |  |             |        |                |   |        | 
|Current
  liabilities:                     |  |             |        |                |   |        | 
|Accounts payable                           |  | $           | 15,164 |                | $ | 15,062 | 
|Accrued expenses and other liabilities     |  |             | 5,680  |                |   | 5,422  | 
|Line of credit                             |  |             | 389    |                |   | 80     | 
|Current portion of long-term debt          |  |             | 267    |                |   | 267    | 
|Current portion of capital lease           |  |             | 234    |                |   | 226    | 
|                                           |  |             |        |                |   |        | 
|Total current liabilities                  |  |             | 21,734 |                |   | 21,057 | 
|                                           |  |             |        |                |   |        | 
|Other
  long-term liabilities              |  |             | 1,341  |                |   | 1,192  | 
|Long-term
  debt, less current portion     |  |             | 1,877  |                |   | 2,011  | 
|Capital
  lease, less current portion      |  |             | 1,210  |                |   | 1,329  | 
|                                           |  |             |        |                |   |        | 
|Total liabilities                          |  |             | 26,162 |                |   | 25,589 | 
|                                           |  |             |        |                |   |        | 
|Commitments
  and contingencies            |  |             |       |                |   |       | 
|                                           |  |             |        |                |   |        | 
|Shareholders
  equity                     |  |             | 25,462 |                |   | 24,043 | 
|                                           |  |             |        |                |   |        | 
|                                           |  |             |        |                |   |        | 
|Total liabilities and shareholders
equity |  | $           | 51,624 |                | $ | 49,632 | 
|                                           |  |             |        |                |   |        | 

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

4

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COST-U-LESS, INC.

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

(Unaudited)

|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|--------------------------------------------------------------- |  | ------------------------ | --------- | ------------------------ | - | ------------------- |  | --------------------------------------- | ------ | ----- | - | ---- | - | - | ------ | -
|                                                                |  | Common
  Stock
  Shares |           | Common
  Stock
  Amount |   | Retained
  Earnings |  | AccumulatedOther
  Comprehensive
  Loss |        | Total |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Balance at December 26, 2004                                    |  |                          | 3,751,306 |                          | $ | 12,795              |  | $                                       | 7,911  |       | $ | (773 | ) | $ | 19,933 |  
|Net income                                                      |  |                          |          |                          |   |                    |  |                                         | 1,246  |       |   |     |   |   | 1,246  |  
|Foreign currency translation adjustments                        |  |                          |          |                          |   |                    |  |                                         |       |       |   | (18  | ) |   | (18    | )
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Comprehensive income                                            |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   | 1,228  |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Exercise of common stock options including
  income tax benefit |  |                          | 238,570   |                          |   | 1,111               |  |                                         |       |       |   |     |   |   | 1,111  |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Balance at June 26, 2005                                        |  |                          | 3,989,876 |                          | $ | 13,906              |  | $                                       | 9,157  |       | $ | (791 | ) | $ | 22,272 |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Balance at January 1, 2006                                      |  |                          | 3,990,171 |                          | $ | 13,931              |  | $                                       | 10,926 |       | $ | (814 | ) | $ | 24,043 |  
|Net income                                                      |  |                          |          |                          |   |                    |  |                                         | 1,233  |       |   |     |   |   | 1,233  |  
|Foreign currency translation adjustments                        |  |                          |          |                          |   |                    |  |                                         |       |       |   | (8   | ) |   | (8     | )
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Comprehensive income                                            |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   | 1,225  |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Stock based compensation                                        |  |                          |          |                          |   | 20                  |  |                                         |       |       |   |     |   |   | 20     |  
|Exercise of common stock options including
  income tax benefit |  |                          | 31,827    |                          |   | 174                 |  |                                         |       |       |   |     |   |   | 174    |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  
|Balance at July 2, 2006                                         |  |                          | 4,021,998 |                          | $ | 14,125              |  | $                                       | 12,159 |       | $ | (822 | ) | $ | 25,462 |  
|                                                                |  |                          |           |                          |   |                     |  |                                         |        |       |   |      |   |   |        |  

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

5

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COST-U-LESS, INC.

CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

(Unaudited)

|                                                                                           |  |                |        |              |   |        |  
|------------------------------------------------------------------------------------------ |  | -------------- | ------ | ------------ | - | ------ | -
|                                                                                           |  | 26 Weeks Ended |       
|                                                                                           |  |                |       
|                                                                                           |  | July 2,2006    |        | June 26,2005 |  
|                                                                                           |  |                |        |              |  
|OPERATING
  ACTIVITIES:                                                                    |  |                |        |              |   |        |  
|Net income                                                                                 |  | $              | 1,233  |              | $ | 1,246  |  
|Adjustments to reconcile net income to net
  cash provided/(used) by operating activities: |  |                |        |              |   |        |  
|Depreciation and amortization                                                              |  |                | 1,141  |              |   | 883    |  
|Stock Option Expense                                                                       |  |                | 20     |              |   |       |  
|Deferred tax provision                                                                     |  |                | 94     |              |   | 146    |  
|Loss on buildings and equipment                                                            |  |                | 22     |              |   | 35     |  
|Tax benefit from exercise of stock
options                                                 |  |                |       |              |   | 684    |  
|Cash provided by/(used in) changes in
  operating assets and liabilities:                  |  |                |        |              |   |        |  
|Accounts receivable                                                                        |  |                | 121    |              |   | (887   | )
|Inventories                                                                                |  |                | (1,538 | )            |   | (605   | )
|Other current assets                                                                       |  |                | (482   | )            |   | (532   | )
|Deposits and other assets                                                                  |  |                | 59     |              |   | 6      |  
|Accounts payable                                                                           |  |                | 470    |              |   | (1,199 | )
|Accrued expenses and other liabilities                                                     |  |                | (550   | )            |   | (1,220 | )
|Other long-term liabilities                                                                |  |                | 58     |              |   | (2     | )
|                                                                                           |  |                |        |              |   |        |  
|Net cash provided/(used) by operating
  activities                                         |  |                | 648    |              |   | (1,445 | )
|                                                                                          
|INVESTING
  ACTIVITY:                                                                      |  |                |        |              |   |        |  
|Cash used to purchase property and
  equipment                                             |  |                | (2,482 | )            |   | (4,813 | )
|Proceeds from sale of buildings and
equipment                                              |  |                | 8      |              |   | 68     |  
|                                                                                           |  |                |        |              |   |        |  
|Net cash used by investing activities                                                      |  |                | (2,474 | )            |   | (4,745 | )
|                                                                                          
|FINANCING
  ACTIVITIES:                                                                    |  |                |        |              |   |        |  
|Proceeds from exercise of common stock
  options                                           |  |                | 128    |              |   | 427    |  
|Tax benefit from exercise of stock
options                                                 |  |                | 46     |              |   |       |  
|Proceeds from short term note payable                                                      |  |                | 688    |              |   |       |  
|Proceeds from capital lease obligations                                                    |  |                |       |              |   | 500    |  
|Proceeds from line of credit, net                                                          |  |                | 309    |              |   | 2,873  |  
|Increase/(decrease) in bank checks
  outstanding                                           |  |                | (368   | )            |   | 645    |  
|Principal payments on capital lease
  obligations                                          |  |                | (111   | )            |   | (50    | )
|Principal payments on long-term debt                                                       |  |                | (134   | )            |   | (133   | )
|                                                                                           |  |                |        |              |   |        |  
|Net cash provided by financing
activities                                                  |  |                | 558    |              |   | 4,262  |  
|                                                                                           |  |                |        |              |   |        |  
|Foreign currency translation adjustments                                                   |  |                | (5     | )            |   | (9     | )
|                                                                                           |  |                |        |              |   |        |  
|                                                                                          
|Net decrease
  in cash and cash equivalents                                                |  |                | (1,273 | )            |   | (1,937 | )
|                                                                                           |  |                |        |              |   |        |  
|Cash and
  cash equivalents:                                                               |  |                |        |              |   |        |  
|Beginning of period                                                                        |  |                | 5,304  |              |   | 6,081  |  
|                                                                                           |  |                |        |              |   |        |  
|End of period                                                                              |  | $              | 4,031  |              | $ | 4,144  |  
|                                                                                           |  |                |        |              |   |        |  
|                                                                                           |  |                |        |              |   |        |  
|SUPPLEMENTAL
  DISCLOSURE OF CASH FLOW INFORMATION:                                        |  |                |        |              |   |        |  
|Cash paid during the period for:                                                           |  |                |        |              |   |        |  
|Interest                                                                                   |  | $              | 219    |              | $ | 230    |  
|Income taxes                                                                               |  | $              | 546    |              | $ | 465    |  
|Cash received during the period for:                                                       |  |                |        |              |   |        |  
|Income taxes                                                                               |  | $              | 45     |              | $ | 14     |  

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

6

---



COST-U-LESS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS

(Unaudited)

1. Nature of Business and Summary of
Significant Accounting Policies

Nature of
Business

Cost-U-Less,
Inc. (the Company) operates mid-sized warehouse club-style stores in various
United States Territories (U.S. Territories), foreign island countries in the
Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. As of
July 2, 2006, the Company operated eleven retail stores as follows: two stores
in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix,
American Samoa, Fiji, Curacao, St. Maarten and Sonora, California.

On
July 8, 2005, the Company announced that it had been granted approval from the
Cayman Islands Trade and Business Licensing Board to operate a retail and
wholesale business through a controlled subsidiary organized in the Cayman
Islands.      And on April 25, 2006, the
Company announced that it had entered into a long-term lease with the developer
of Governors Square in Grand Cayman to lease land on which to construct and
operate a store under the Cost-U-Less name. The signing of the lease is one in
a number of steps that must be undertaken before a store operating under the
Cost-U-Less name can be opened in the Cayman Islands. Although there are still
a number of steps that have to be taken before the store can be opened, the
Company expects to open the store during the first half of 2007.

Basis of
Presentation

The
accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial reporting and pursuant to the
rules and regulations of the Securities and Exchange Commission (SEC). In the
opinion of management, the financial information includes all adjustments that
the Company considers necessary for a fair presentation of the financial
position at such dates and the operations and cash flows for the periods then
ended. The condensed consolidated balance sheet at January 1, 2006, has been
derived from the audited financial statements at that date. Certain information
and footnote disclosures normally included in the financial statements prepared
in accordance with accounting principles generally accepted in the United
States have been condensed or omitted pursuant to SEC rules and regulations on
quarterly reporting. Operating results for the 13  and 26 week periods ended July 2, 2006, are
not necessarily indicative of results that may be expected for the entire year.
All quarterly periods reported consist of 13 weeks. For further information,
refer to the financial statements and footnotes included in the Companys
annual report on Form 10-K filed with the SEC on March 29, 2006.

Fiscal Year

The
Company reports on a 52/53-week fiscal year, consisting of four thirteen-week
periods and ending on the Sunday nearest to the end of December. Fiscal 2006,
ending on December 31, 2006, is a 52-week year. Fiscal 2005, which ended
on January 1, 2006, was a 53-week fiscal year.

Principles of
Consolidation

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

7

---



COST-U-LESS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS(continued)

(Unaudited)

Foreign
Currency Translations and Comprehensive Income

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

Use of
Estimates

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

Stock-Based
Compensation

The
Company maintains a stock incentive compensation plan that provides for the
granting of various stock awards, including stock options and restricted stock,
with a maximum of 1,000,000 shares of common stock available for issuance.
Options issued under the plan vest at various terms ranging from immediately to
five years and generally expire ten years from the date of grant. The options
are generally granted at prices equal to the fair value on the date of grant.
There were 357 shares available for future grant under the plan at July 2,
2006.

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

Effective
with the first fiscal quarter of fiscal 2006, the Company adopted the fair
value recognition provisions of SFAS 123R, using the modified-prospective
transition method. Under this transition method, stock-based compensation
expense will be recognized in the consolidated financial statements for stock
options granted subsequent to January 1, 2006, based on the grant date fair
value estimated in accordance with the provisions of SFAS 123R. Results for
prior periods have not been restated, as provided for under the
modified-prospective method.

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

8

---



COST-U-LESS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS(continued)

(Unaudited)

Had
stock option compensation expense for the Companys stock option plans been recognized
based on the estimated fair value on the grant date under the fair value
methodology allowed by FAS 123, as amended by FAS 148, the Companys net income
and earnings per share amounts would have been as follows:

| |                                                                                                                         |  |                               |   |                                |  |  |  |   |       |  | 
| | ----------------------------------------------------------------------------------------------------------------------- |  | ----------------------------- | - | ------------------------------ |  |  |  | - | ----- |  | 
| |                                                                                                                         |  | 13 Weeks
  EndedJune 26, 2005 |   | 26 Weeks Ended
  June 26, 2005 | 
| |                                                                                                                         |  |                               |   |                                | 
|
| | Net income as reported                                                                                                  |  |                               | $ | 512                            |  |  |  | $ | 1,246 |  | 
| | Less: Total stock-based employee
  compensation expense determined under fair value method for all awards, net
  of tax |  |                               |   | 12                             |  |  |  |   | 14    |  | 
| |                                                                                                                         |  |                               |   |                                |  |  |  |   |       |  | 
| | Net income pro forma                                                                                                    |  |                               | $ | 500                            |  |  |  | $ | 1,232 |  | 
| |                                                                                                                         |  |                               |   |                                |  |  |  |   |       |  | 
| |                                                                                                                         |  |                               |   |                                |  |  |  |   |       |  | 
| | Earnings per common share, basic as
  reported                                                                          |  |                               | $ | 0.13                           |  |  |  | $ | 0.32  |  | 
| | Earnings per common share, basic pro
forma                                                                              |  |                               | $ | 0.13                           |  |  |  | $ | 0.32  |  | 
| | Earnings per common share, diluted as
  reported                                                                        |  |                               | $ | 0.12                           |  |  |  | $ | 0.30  |  | 
| | Earnings per common share, diluted pro
  forma                                                                          |  |                               | $ | 0.12                           |  |  |  | $ | 0.30  |  | 

Disclosures
for the 13 and 26 week periods ended July 2, 2006, are not presented because
the amounts are recognized in the consolidated financial statements.

The
following table summarizes the stock option transactions during the 26 weeks
ended July 2, 2006:

|                                 |  |         |         |                                     |  |                                       |      |                                   |  |  |      |  |   |           | 
|-------------------------------- |  | ------- | ------- | ----------------------------------- |  | ------------------------------------- | ---- | --------------------------------- |  |  | ---- |  | - | --------- | 
|                                 |  | Options |         | Weighted
  Average
  Exercise Price |  | Weighted
  Average
  Contractual Life |      | Aggregate
  Intrinsic
  Value (a) | 
|                                 |  |         |         |                                     |  |                                       |      |                                   | 
|Outstanding
  at January 1, 2006 |  |         | 613,324 |                                     |  | $                                     | 3.39 |                                   |  |  |     |  |   |          | 
|Granted at fair
value            |  |         | 4,000   |                                     |  |                                       | 8.09 |                                   |  |  |     |  |   |          | 
|Forfeited                        |  |         | (1,475  | )                                   |  |                                       | 4.75 |                                   |  |  |     |  |   |          | 
|Exercised                        |  |         | (31,827 | )                                   |  |                                       | 4.06 |                                   |  |  |     |  |   |          | 
|                                 |  |         |         |                                     |  |                                       |      |                                   |  |  |      |  |   |           | 
|Outstanding
  at July 2, 2006    |  |         | 584,022 |                                     |  |                                       | 3.38 |                                   |  |  | 5.65 |  | $ | 2,742,935 | 
|                                 |  |         |         |                                     |  |                                       |      |                                   |  |  |      |  |   |           | 
|                                 |  |         |         |                                     |  |                                       |      |                                   |  |  |      |  |   |           | 
|Exercisable
  at July 2, 2006    |  |         | 583,432 |                                     |  |                                       | 3.39 |                                   |  |  | 5.65 |  | $ | 2,739,153 | 
|                                 |  |         |         |                                     |  |                                       |      |                                   |  |  |      |  |   |           | 

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

The
Company recognized stock compensation costs of $20,000 and a related tax
benefit of $8,000 during both the 13 and 26 weeks ended July 2, 2006. The
expense recorded for the portion vesting in the current period for the 2,090
options granted prior to, but not vested as of, January 1, 2006, is less than
$1,000. The remaining unrecognized compensation cost related to these unvested
options, as of January 1, 2006, is also less than $1,000. These options will be
fully vested as of August 2006.

9

---



COST-U-LESS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS(continued)

(Unaudited)

Cash
proceeds, tax benefits and intrinsic value related to total stock options
exercised during the first 26 weeks of fiscal 2006 and fiscal 2005
were as follows (in thousands):

|                                                 |  |                  |     |                 |   |       | 
|------------------------------------------------ |  | ---------------- | --- | --------------- | - | ----- | 
|                                                 |  | 26 Weeks
  Ended |    
|                                                 |  |                  |    
|                                                 |  | July 2,
  2006   |     | June 26,
  2005 |  
|                                                 |  |                  |     |                 |  
|                                                 |  |                  |     |                 |   |       | 
|Proceeds
  from stock options exercised          |  | $                | 128 |                 | $ | 427   | 
|Tax benefit
  related to stock options exercised |  |                  | 46  |                 |   | 684   | 
|Intrinsic
  value of stock options exercised     |  |                  | 134 |                 |   | 2,013 | 

Reclassifications

Certain
reclassifications of prior period balances have been made for consistent
presentation with the current period.

New Accounting Pronouncements

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

|   |                   
|-- | ------------------
|2. | Earnings Per Share

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

The
following table sets forth the computation of basic and diluted earnings per
common share:

|                                                                                                                        |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|----------------------------------------------------------------------------------------------------------------------- |  | ---------------- | --------- | ---------------- | - | -------------- |  | --------------- | --------- |  | - | --------- | 
|                                                                                                                        |  | 13 Weeks
  Ended |           | 26 Weeks
  Ended |  
|                                                                                                                        |  |                  |           |                  |  
|                                                                                                                        |  | July 2,
  2006   |           | June 26,
  2005  |   | July 2,
  2006 |  | June 26,
  2005 |          
|                                                                                                                        |  |                  |           |                  |   |                |  |                 |          
|Numerator:                                                                                                              |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|Net income                                                                                                              |  | $                | 475       |                  | $ | 512            |  | $               | 1,233     |  | $ | 1,246     | 
|                                                                                                                        |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|Denominator:                                                                                                            |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|Denominator for basic earnings per
  shareweighted average shares                                                      |  |                  | 4,021,173 |                  |   | 3,981,856      |  |                 | 4,009,506 |  |   | 3,886,453 | 
|Effect of
  dilutive common equivalent shares:                                                                          |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|Stock options.                                                                                                          |  |                  | 222,865   |                  |   | 246,161        |  |                 | 223,301   |  |   | 247,680   | 
|                                                                                                                        |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|Denominator for diluted earnings per
  shareadjusted weighted average shares and assumed conversion of stock
  options |  |                  | 4,244,038 |                  |   | 4,228,017      |  |                 | 4,232,807 |  |   | 4,134,133 | 
|                                                                                                                        |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|                                                                                                                        |  |                  |           |                  |   |                |  |                 |           |  |   |           | 
|Basic
  earnings per common share                                                                                       |  | $                | 0.12      |                  | $ | 0.13           |  | $               | 0.31      |  | $ | 0.32      | 
|Diluted
  earnings per common share                                                                                     |  | $                | 0.11      |                  | $ | 0.12           |  | $               | 0.29      |  | $ | 0.30      | 

10

---



COST-U-LESS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS(continued)

(Unaudited)

The
diluted share calculation for the 13 and 26 weeks ended July 2, 2006, excludes
8,000 stock options outstanding. These options are excluded due to their
anti-dilutive effect.

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

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

The
line of credit consists of a $6.0 million committed, secured revolving credit
line with a sublimit for letters of credit and bankers acceptances in an amount
up to $0.7 million. At July 2, 2006, there was $0.4 million outstanding on the
line of credit and $0.2 million in letters of credit outstanding. At July 2, 2006, the rate charged by Wells
Fargo was 8.25%.

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

The
line of credit contains various covenants, all of which the Company believes it
was in compliance with as of July 2, 2006.

|   |                              
|-- | -----------------------------
|4. | Commitments and Contingencies

Legal
Proceedings

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

11

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|        |                                                                                        
|------- | ---------------------------------------------------------------------------------------
|ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
  RESULTS OF OPERATIONS

Certain Factors That May Affect Future
Results of Operations

This
discussion and analysis should be read in conjunction with our unaudited
condensed consolidated financial statements and the related notes thereto
appearing in Item 1 of this report. In addition to historical information, this
quarterly report on Form 10-Q contains, and may incorporate by reference,
statements which may constitute forward-looking statements which involve known
and unknown risks, uncertainties and other factors that could cause actual
results to differ materially from those expressed or implied by such
forward-looking statements. Forward-looking statements may be identified by the
use of forward-looking terminology such as may, will, expect, estimate,
anticipate, continue, or similar terms, variations of such terms or the
negative of those terms, but the absence of such terms does not mean that a
statement is not forward-looking. Forward-looking statements reflect the
expectations of our management at the time that they are made and do not
represent an opinion about what may happen in the future. More information
about factors that could affect our financial results is included in Item 1A.
of Part II of this report and in the Risk Factors That May Affect Future
Results and Managements Discussion and Analysis of Financial Condition and
Results of Operations sections of our annual report on Form 10-K for the
fiscal year ended January 1, 2006, which was filed on March 29, 2006, with the
Securities and Exchange Commission.

The
following managements discussion and analysis of financial condition and
results of operations should be read in conjunction with managements
discussion and analysis of financial condition and results of operations
included in our annual report on Form 10-K for the fiscal year ended
January 1, 2006.

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

Overview

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

Our
stores are patterned after the warehouse club concept, except our stores (i)
are smaller (averaging approximately 32,000 square feet vs. large format
warehouse clubs of approximately 130,000 square feet), (ii) generally target
niche markets, mainly U.S. Territories, U.S. island states and foreign island
countries, (iii) carry a wide assortment of local and ethnic food items, and
(iv) do not charge a membership fee. Although we do not have large seasonal
fluctuations in sales, the fourth quarter is typically the highest sales
quarter due to additional holiday sales.

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

On
April 25, 2006, we announced that we had entered into a long-term lease with
the developer of Governors Square in Grand Cayman to lease land on which to
construct and operate a store under the Cost-U-Less name through a controlled
subsidiary organized in the Cayman Islands. The signing of the lease is one in
a number of steps that we must undertake before we can open a store operating
under the Cost-U-Less name in the Cayman Islands. Although there are still a
number of steps that we have to take before the store can be opened, we expect
to open the store during the first half of 2007.

On
August 10, 2006, we completed the remodel and expansion of our store in St.
Thomas. In addition to increasing the size of our store by approximately 6,400
square feet (an increase of approximately 18%), we also upgraded and replaced
much of the stores equipment, added a new produce format and a rotisserie
department. Additionally, we recently completed a remodel of our Kauai store to
add retail enhancements such as fresh produce by the pound. Furthermore, we
continue to explore expansion opportunities in selected markets and additional relocation
opportunities for stores in existing markets. We currently have no plans to
open stores in new markets during fiscal 2006.

12

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Results of Operations

During
the 13 and 26 weeks ended July 2, 2006, we continued to experience improvements
in comparable-store sales. Additionally, the strong margins we experienced in
the second half of fiscal 2005 continued during 2006. These increases were offset by higher store expenses primarily
attributable to higher utility expenses. Although, increasing energy costs have impacted our cost
of doing business in the form of higher freight charges and store utility
costs, we were able to maintain operating margins by passing these costs on in
the form of higher pricing. However,
if higher energy costs persist, we may not be able to continue to offset these
increases in the future.

Comparison of the 13 and 26 Weeks Ended July
2, 2006, to the 13and 26 Weeks Ended June 26, 2005:

Net
Sales: Net sales of $53.6 million for the 13 weeks
ended July 2, 2006, increased 2.4% compared to net sales of $52.3 million for
the same period in the prior year. Net sales of $108.3 million for the 26 weeks
ended July 2, 2006, increased 2.6% compared to net sales of $105.5 million for
the same period in the prior year. The increase in net sales in the 13 and 26
weeks ended July 2, 2006, as compared to the same periods in the prior year,
was due to comparable-store sales increases partially offset by a decline in
business-to-business sales as compared to the same period in the prior year. We
expect the level of business-to-business activity for fiscal 2006 to be similar
to or slightly less than the levels in 2005.

Comparable-store
sales (stores open for a full 13 months) increased 2.8% and 3.2% for the 13 and 26 weeks ended July 2,
2006, respectively, as compared to the
same periods in the prior year. Nine of our eleven stores experienced
increased sales in both the 13
and 26 weeks ended July 2, 2006, as
compared to the same periods in the prior year, primarily due to general
inflationary trends and related price increases, improvements in our assortment
of goods and operating improvements including better in-stock inventory levels.
The improvement in our comparable-store sales during the 13 weeks ended July 2,
2006, occurred despite the negative impact of the Easter holiday, during which
all of our stores are closed for a least one day. The Easter holiday fell in
the second quarter of fiscal 2006 as compared to the first quarter of fiscal
2005. This shift in the holiday weekend negatively impacted sales for the 13
weeks ended July 2, 2006, by approximately 1%.

Gross
Profit:Gross profit of $10.1 million, or 18.8% of
sales, for the 13 weeks ended July 2, 2006, increased as compared to gross
profit of $9.7 million, or 18.5% of sales, in the same period in the prior
year. Gross profit of $20.3 million, or 18.7% of sales, for the 26 weeks ended
July 2, 2006, increased as compared to gross profit of $19.3 million, or 18.3%
of sales, in the same period in the prior year. The improvement in gross profit
dollars in both the 13 and 26 weeks ended July 2, 2006, was primarily due to
improvements in merchandising, including enhanced sourcing and pricing
strategies to maintain operating margins.

Store
expenses:Store expenses increased to $7.3 million and
$14.5 million for the 13 and 26 weeks ended July 2, 2006, respectively, as
compared to $7.0 million and $13.7 million for the same periods in the prior
year. As a percentage of sales, store expenses were 13.7% and 13.4% of sales
for the 13 and 26 weeks ended
July 2, 2006, respectively, as
compared to 13.3% and 13.0% for the same periods in the prior year. For
the 13 weeks ended July 2, 2006, approximately 59% of the dollar increase in
store expenses was attributable to higher energy (utility) expenses, which were
20% higher than the same period in the prior year. Another 39% of the dollar
increase was due to increased depreciation expense, primarily due to our new
store in St. Croix. For the 26 weeks ended July 2, 2006, approximately 46% of
the dollar increase in store expenses, was attributable to higher energy
(utility) expenses, which were 21% higher than the same period in the prior
year. Another 32% of the dollar increase was due to increased depreciation expense,
primarily due to our new store in St. Croix. An additional 13% of the dollar
increase was attributable to payroll and related costs such as health care,
which were 2% higher than the same period in the prior year. Payroll and
related costs, although higher due to volume, remained comparable as a percent
of store sales at 5.2% of store sales for both 2006 and 2005.

General
and administrative expenses:General and
administrative expenses increased to $1.7 million and $3.3 million for the 13 and
26 weeks ended July 2, 2006, respectively, as compared to $1.5 million and $3.2
million for the same periods in the prior year. As a percentage of sales, store
expenses were 3.1% of sales for both the
13 and 26 weeks ended July 2, 2006, respectively, as compared to 2.9% and 3.0% for the same periods in the
prior year. The increase in both the 13 and 26 week periods was primarily
attributable to an increase in health benefits paid. Approximately 40% of our
employees, including all of our corporate employees, are in a health plan that
is self-insured with a stop-loss provision. We experienced a higher volume of
claims during the 13 and 26 weeks ended July 2, 2006, than we experienced in
the same periods in the prior year.

13

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Store
opening expenses:Store opening expenses decreased to
$0.1 million and $0.2 million for the 13 and 26 weeks ended July 2, 2006,
respectively, as compared to $0.2 million and $0.3 million for the same periods
in the prior year. Store opening expenses in 2006 include costs associated with
our initial work on our store in the Cayman Islands, including rent expense
associated with our land lease for that location. Store opening expenses in
fiscal 2005 primarily relate to costs associated with the relocation of our St.
Croix store and the evaluation of potential new store locations. We expect
store opening expenses in fiscal 2006 to be higher than those incurred in
fiscal 2005 as we continue to develop our new store in the Cayman Islands.

Store
closing expenses:Store closing expenses of $59,000 in
both the 13 and 26 weeks ended June 26, 2005, represent the costs incurred with
closing our former St. Croix location after we relocated our store on May 26,
2005.

Interest
expense, net: Interest expense, net increased to $0.1
million and $0.2 million for the 13 and 26 weeks ended July 2, 2006,
respectively, as compared to $59,000 and $0.1 million for the same periods in
the prior year. The increase was primarily attributable to the capitalization
of approximately $40,000 and $0.1 million of interest related to the
construction of our new store in St. Croix during the 13 and 26 weeks ended
June 26, 2005, respectively.

Other
income/(expense): Other income/(expense) was ($3,000)
for the 13 weeks ended July 2, 2006, as compared to ($34,000) for the same
period in the prior year. Other income/(expense) was ($15,000) for the 26 weeks
ended July 2, 2006, as compared to $82,000 for the same period in the prior
year. The decrease in the 26 weeks ended July 2, 2006 was primarily due to the
receipt of a $0.1 million non-recurring insurance reimbursement in 2005. All
other amounts included in other income/(expense) are attributable to gains on
foreign currency transactions and translation of intercompany balances for
transactions that exceed the permanent investments in those countries.

Income
tax provision: Our income tax provision for the 13
weeks ended July 2, 2006, increased to $330,000, or 41.0% of pre-tax income, as
compared to $310,000, or 37.7% of pre-tax income, for the same period in the
prior year. Our income tax provision for the 26 weeks ended July 2, 2006,
increased to $760,000, or 38.1% of pre-tax income, as compared to $760,000, or
37.8% of pre-tax income, for the same period in the prior year. The increase in
effective tax rate in fiscal 2006 was primarily due to expenses incurred in the
Cayman Islands that are not tax deductible as there are no corporate taxes in
the Cayman Islands. This increase was partially offset by the implementation of
tax planning strategies in the latter half of fiscal 2005, which enabled us to
offset a portion of our other foreign subsidiary losses against foreign
subsidiary income.

Net
income: Net income was $0.5 million, or $0.11 per
fully diluted share, for the 13 weeks ended July 2, 2006, as compared to a net
income of $0.5 million, or $0.12 per fully diluted share, in the same period in
the prior year. Net income was $1.2 million, or $0.29 per fully diluted share,
for the 26 weeks ended July 2, 2006, as compared to $1.2 million, or $0.30 per
fully diluted share for the same period in the prior year.

Liquidity and Capital Resources

We
currently finance our operations with proceeds from various credit facilities
and internally generated funds. Although we utilized existing working capital
to finance the $5.6 million used to purchase the land and construct our new St.
Croix store during fiscal 2005, we hope to re-finance our St. Croix store, and
any future relocations and new stores, either through an operating lease, a
sale-leaseback arrangement or long-term funding from a financial institution.
We intend to continue leasing as many of our store locations as feasible. In
those instances where a lease is not available on acceptable terms, we intend
to finance our stores utilizing long-term funding from a financial institution
(as we currently do for our St. Thomas and St. Maarten buildings).

We
generated $0.6 million of net cash from operations during the 26 weeks ended
July 2, 2006, as compared to the utilization of $1.4 million of net cash from
operations during the same period in the prior year. The increase in cash
provided by operations during the 26 weeks ended July 2, 2006, as compared to
the same period in the prior year, was primarily due to a decrease in cash used
to pay down accounts payable and accrued expenses, partially offset by an
increase in cash used to acquire inventory during the 26 weeks ended July 2,
2006.

Net
cash used in investing activities was $2.5 million for the 26 weeks ended July
2, 2006, as compared to $4.7 million in the same period in the prior year. The
cash used in investing activities during the 26 weeks ended July 2, 2006, was
primarily due to costs associated with renovating and expanding the size of our
store in St. Thomas by approximately 6,400 square feet (an increase of
approximately 18%) and the replacement of our current point of sale system with
a new and improved version. We anticipate that the cost associated with
building construction and updating equipment associated with our St. Thomas
store will be approximately $1.5 to $1.9 million, of which approximately $1.0
million was spent during the 26 weeks ended July 2, 2006. We anticipate that
the cost of replacing our current point of sale system will be approximately
$1.0 million when complete, most of which will be financed with a capital
lease. Additionally, we spent approximately $0.2 million on the remodel of our
Kauai

14

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store in order
to add retail enhancements such as fresh produce by the pound. The cash used in
investing activities in the 26 weeks ended June 26, 2005, was primarily due to
costs associated with the construction of the new building in St. Croix where
we relocated our St. Croix store on May 26, 2005.

We
currently have no plans to open stores in new markets during fiscal 2006.
However, we are currently in the process of working with local architects and
engineers to define the type of building we could construct in the Cayman
Islands, which we expect to open during the first half of 2007. We anticipate
spending approximately $3.5 to $4.5 million dollars during fiscal 2006 on our
proposed new store in the Cayman Islands. In addition, we are continuing to
explore expansion opportunities in selected markets and additional relocation
opportunities for stores in existing markets.

We
generated $0.5 million of cash from financing activities in the 26 weeks ended
July 2, 2006, as compared to $4.3 million generated in the same period in the
prior year. The $3.7 million decrease was primarily due to a decrease in
borrowings on our line of credit and a decrease in bank checks outstanding
during the 26 weeks ended July 2, 2006, as compared to the same period in the
prior year. This was partially offset by $0.7 million obtained from a short
term note payable that is being utilized to finance the replacement of our
point of sale system. The short term note payable will be converted into a
capital lease once all of our stores are converted over to the new system,
which we expect to occur in the third quarter of 2006.

We
maintain a line of credit with Wells Fargo Business Credit. The line of credit
expires on May 18, 2007, has an annual interest rate equal to the prime rate
as defined by Wells Fargo Bank National Association, and has an unused line fee
of three-eighths of one percent (0.375%) per annum on the average daily unused
line. The line of credit contains various financial covenants, including
minimum book net worth, minimum net income and capital expenditures.

The
line of credit consists of a $6.0 million committed, secured revolving credit
line with a sublimit for letters of credit and bankers acceptances in an amount
up to $0.7 million. At July 2, 2006, there was $0.4 million outstanding on the
line of credit and $0.2 million in letters of credit outstanding. At July 2, 2006, the rate charged by Wells Fargo
was 8.25%.

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

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

Contractual
Obligations

As
of July 2, 2006, our commitments to make future payments under long-term
contractual obligations were as follows (in thousands):

|                        |  |                          |        |                 |   |             |  |             |        |              |   |       |  |   |        | 
|----------------------- |  | ------------------------ | ------ | --------------- | - | ----------- |  | ----------- | ------ | ------------ | - | ----- |  | - | ------ | 
|                        |  | Payments
  Due by Period |       
|                        |  |                          |       
|Contractual Obligations |  | Total                    |        | Less than1 year |   | 1 to 3years |  | 4 to 5years |        | After 5years |  
|                        |  |                          |        |                 |   |             |  |             |        |              |  
|                       
|Long-term debt          |  | $                        | 2,144  |                 | $ | 267         |  | $           | 534    |              | $ | 534   |  | $ | 809    | 
|Operating
  Leases (1)  |  |                          | 35,684 |                 |   | 4,959       |  |             | 8,936  |              |   | 4,999 |  |   | 16,790 | 
|Capital
  Lease         |  |                          | 1,723  |                 |   | 321         |  |             | 642    |              |   | 572   |  |   | 188    | 
|                        |  |                          |        |                 |   |             |  |             |        |              |   |       |  |   |        | 
|                        |  |                          |        |                 |   |             |  |             |        |              |   |       |  |   |        | 
|Total                   |  | $                        | 39,551 |                 | $ | 5,547       |  | $           | 10,112 |              | $ | 6,105 |  | $ | 17,787 | 
|                        |  |                          |        |                 |   |             |  |             |        |              |   |       |  |   |        | 

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Adjusted to
  reflect a new agreement to lease land entered into in April 2006 for a
  potential store location in the Cayman Islands. The agreement commenced on
  April 1, 2006 and provides for a lease term of 20 years from the date on
  which the building is completed and ready for occupancy. Initial payments
  under the agreement are $15,000 per month until the building is completed and
  ready for occupancy, after which the base rent under the lease agreement will
  increase pursuant to its terms.

15

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Critical Accounting Policies

We
have chosen accounting policies that we believe are appropriate to report
accurately and fairly our operating results and financial position, and we
apply those accounting policies in a consistent manner. The significant
accounting policies are summarized in Note 1 to the consolidated financial
statements included in our annual report on Form 10-K for the fiscal year ended
January 1, 2006.

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

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

Inventories

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

Long
Lived Assets

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

Foreign
Currency Translation

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

Income
Taxes

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

Accounting
Pronouncements

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

16

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construct and
operate a store under the Cost-U-Less name. Rental payments under this lease
commenced on April 1, 2006. In accordance with FSP 13-1 and other applicable
lease accounting guidance, we will expense rental costs over the lease term,
which includes the construction period.

ITEM 3. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK

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

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

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

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

We
did not have any derivative financial instruments as of July 2, 2006.

ITEM 4. CONTROLS AND PROCEDURES

Under
the supervision and with the participation of our management, including our
principal executive officer and principal financial officer, we conducted an
evaluation of our disclosure controls and procedures, as such term is defined
under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as
amended, as of July 2, 2006. Based on this evaluation, our principal executive
officer and principal financial officer concluded that our disclosure controls
and procedures were effective as of such date.

17

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PART II 
OTHER INFORMATION

ITEM
1A. RISK FACTORS

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

Because we have a small store base, adverse
store performance or increased expenses will have a more significant adverse
impact on our operating and financial results than if we had a larger store
base.

We
opened our first store in 1989 and opened a total of 21 stores through June
2006 and presently operate eleven stores. Our closure of the ten other stores
prior to March 2001 adversely affected our operating results. Should any
existing store experience a significant decline in profitability or any new
store be unprofitable, the negative effect on our business would be more
significant than would be the case if we had a larger store base, and could
have a material adverse effect on our business, financial condition and results
of operations. In addition, if our general and administrative expenses
increase, the negative effect on our business and results of operations would
be more significant than if we had a larger store base. Although we intend to
carefully plan for the implementation of additional stores, there can be no
assurance that such plans can be executed as envisioned or that the
implementation of those plans will not have a material adverse effect on our
business, financial condition and results of operations. In addition, our
ability to acquire products at a lower cost than competitors or obtain
volume-based pricing can be adversely affected because of our small store base.

Our ability to operate profitably in existing
markets and to expand into new markets may be adversely affected by competing
warehouse clubs or discount retailers.

The
warehouse club and discount retail businesses are highly competitive. If we
fail to successfully respond to competitive pressures in this industry, or to
effectively implement our strategies to respond to these pressures, our
operating results may be negatively affected. Many of our competitors have
substantially greater resources, buying power and name recognition than we
have. The cost of doing business in island markets is typically higher than on
the U.S. mainland because of ocean freight and duty costs and higher facility
costs. In addition, our gross margin and operating income are generally lower
for stores in markets where traditional warehouse clubs and discount retailers
also operate stores, due to increased price competition and reduced market
share. We may be required to implement price reductions and other actions in
order to remain competitive in our markets. For example, Costco is expected to open a new store in
Kauai in late 2006, which would likely cause our gross margin and operating
income for our Kauai store to be lower in fiscal 2006 due to the increased
competition and reduced market share and the actions we may be required to take
to remain competitive in Kauai. Furthermore, our ability to expand into
and operate profitably in new markets may be adversely affected by the
existence or entry of competing warehouse clubs or discount retailers. These
factors could result in reduced sales and margins or loss of market share, any
of which could negatively affect our results of operations.

One or more of our stores may be damaged or
destroyed by volatile weather conditions or natural disasters, which would
severely harm our business and financial results.

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

18

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

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

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

If energy costs and fuel surcharges continue
to rise, the profitability of our stores may decline and our business and
financial condition could suffer.

We have
experienced increasing energy and fuel surcharge costs over the last few years
and have largely been able to pass these additional costs on to our customers
with higher prices. For example, during the 26 weeks ended July 2, 2006, our
energy (utility) expenses were approximately 20% higher than the same period in
fiscal 2005. If these costs continue to rise, we may not be able to continue
the practice of passing on these additional costs to our customers. Our
inability to effectively pass on these costs to our customers could have a
significant adverse effect on our business, results of operations and financial
condition.

If we fail to effectively manage the
logistical and local operating challenges we face because our business
primarily consists of island and international operations, our business and
results of operations would suffer.

Our
net sales from island operations represented approximately 94.5% of our total
net sales for fiscal 2005. We expect that our island and international
operations together will continue to account for nearly all of our total net
sales. The distance, as well as the time-zone differences, involved with island
locations impose significant challenges to our ability to manage our
operations. Logistical challenges are presented by operating individual store
units in remote locations, whether in terms of information flow or transportation
of goods. In addition, island operations involve uncertainties arising from
items such as:

|  |                                                                                                                                                                                                  
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|§ | Changes in local labor markets, including unionization and inadequate labor pools;                                                                                                               
|§ | Local business practices, language and cultural considerations, including the capacity or willingness of local business and government officials to provide necessary services;                  
|§ | Ability to acquire, install and maintain modern capabilities such as dependable and affordable electricity, telephone, computer, Internet and satellite connections often in undeveloped regions;
|§ | Political, military and trade tensions;                                                                                                                                                          
|§ | Currency exchange rate fluctuations and repatriation restrictions;                                                                                                                               
|§ | Local economic conditions;                                                                                                                                                                       
|§ | Difficulty enforcing agreements or protecting intellectual property;                                                                                                                             
|§ | Collection of debts and other obligations in foreign countries; and                                                                                                                              
|§ | Volatile island operating expenses, including utilities.                                                                                                                                         

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

We do not have operating experience in many
of the markets in which we may consider opening new stores. If we are unable to
adapt our operations to support any future expansion plans or if any new stores
we open are not profitable, our business and financial condition could suffer.

We
have not opened stores in foreign island markets at a rapid pace. Although we
have no plans to open stores in new markets during 2006, we continue to explore
expansion opportunities in selected markets and additional relocation
opportunities for stores in existing markets. For example, in May 2005 we moved
our St. Croix store into a newly constructed building on a

19

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parcel of land
located closer to the main trade area in the center of the island than our
former store. Additionally, on April 25, 2006, we announced that we had entered
into a long-term lease with the developer of Governors Square in Grand Cayman
to lease land on which to construct and operate a store under the Cost-U-Less
name through a controlled subsidiary organized in the Cayman Islands. The
signing of the lease is one in a number of steps that we must undertake before
we can open a store operating under the Cost-U-Less name in the Cayman Islands.
Although there are still a number of steps that we have to take before the
store can be opened, we expect to open the store during the first half of 2007.
New markets such as the Cayman Islands and others we may enter may present
operational, competitive, regulatory and merchandising challenges that are
different from those we currently encounter. We do not have operating
experience in many of the markets in which we may consider opening new stores.
In fact, in June 2000, we closed the two stores that we had opened in New
Zealand in 1999, as they had performed below expectations, due in part to
competitive and merchandising challenges that are different from our other
stores. Additionally, in February 2001, we closed one of our two Fiji stores,
due primarily to the impact that political turmoil and the resulting economic
downturn in Fiji were having on the tourist industry. We have encountered, and
may continue to encounter, substantial delays, increased expenses or loss of
potential store sites due to the complexities, cultural differences, and local
political issues associated with the regulatory and permitting processes in the
island markets in which we may locate our stores. There can be no assurance
that we will be able to adapt our operations to support our future expansion
plans or that any new stores will be profitable. Any failure on our part to
manage our growth could have a material adverse effect on our business,
financial condition and results of operations.

A decline in the general economic condition
in the United States or in island markets in which we operate could have a
significant impact on our financial performance.

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

A prolonged decrease in tourism and air
travel could have an indirect but significant impact on our financial
performance, operations and liquidity.

Because
our operations are primarily located in U.S. Territories and foreign island
countries throughout the Pacific and Caribbean, the success of our operations
depends to a significant extent on tourism and the travel industry. Prolonged
adverse occurrences affecting tourism or air travel, particularly to non-U.S.
destinations, including political instability, armed hostilities, terrorism,
weather conditions, or other activity that involves or affects air travel or
the tourism industry generally, could have an indirect but adverse and
significant impact on our financial performance, operations, liquidity or
capital resources.

The loss of key personnel or our inability to
successfully hire skilled store managers could harm our business and results of
operations.

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

If our information systems are disrupted, our
business and results of operations could suffer.

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

20

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If ourstore employees decided to become unionized, we
may experience increased operating costs or other operation problems.

None
of our employees are currently covered by a collective bargaining agreement.
However, several of our hourly employees in our St. Maarten store have joined
the local union. Unionization of any of our stores could result in higher
employee compensation and restrictive working condition demands that could
increase our operating costs and have a material adverse effect on our
business, financial condition and results of operations.

We are subject to various governmental
regulations and licensing requirements, which may have an adverse effect on our
business.

Governmental
regulations and licensing requirements in foreign countries where we plan to
expand our operations might prevent or delay entry into the market or prevent
or delay the introduction, or require modification, of certain of our
operations. For example, in July 2005 the Cayman Islands Trade and Business
Licensing Board granted approval for us to operate a retail and wholesale
business in the Cayman Islands through a controlled subsidiary. However, this
is the first in a series of steps that we must take before we can open a store
operating under the Cost-U-Less name in the Cayman Islands. Additionally, our
ability to compete may be adversely affected by foreign governmental
regulations and licensing requirements that encourage or mandate the employment
of citizens of, or purchase of supplies from vendors, in a particular
jurisdiction. We may also be subject to taxation in these foreign
jurisdictions, and the final determination of our tax liabilities may involve
the interpretation of the statutes and requirements of the various domestic and
foreign taxing authorities. We may also be subject to currency repatriation
restrictions. If governmental regulations or licensing requirements prevent or
delay our entry into market, require modification of our existing operations,
or subject us to taxation or currency repatriation issues, our business,
financial condition and results of operations could suffer.

If we are unable to overcome challenges
resulting from the isolation of store operations from our corporate management
and our increased dependence on local managers, we may experience decreased
productivity or other operational problems.

Our
headquarters and administrative offices are located in Washington State;
however, ten of our eleven stores and a majority of our employees are located
on islands. Although we invest resources to hire and train our on-site
managers, the inability of our executives to be physically present at our
current and planned store sites on a regular basis may result in the following:

|  |                                                                                                                 
|- | ----------------------------------------------------------------------------------------------------------------
|§ | Isolation of store operations from corporate management and an increased dependence on store managers;          
|§ | Diminished ability to oversee employees, which may lead to decreased productivity or other operational problems;
|§ | Construction delays or difficulties caused by inadequate supervision of the construction process; and           
|§ | Communication challenges.                                                                                       

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

We may encounter disruption in the
transportation of our products, which would significantly harm our business.

Our
island locales require the transportation of products over great distances on
water, which results in the following:

|  |                                                                                                                                 
|- | --------------------------------------------------------------------------------------------------------------------------------
|§ | Substantial lags between the procurement and delivery of product, thus complicating merchandising and inventory control methods;
|§ | Possible loss of product due to potential damage to, or destruction of, ships or containers delivering our goods;               
|§ | Tariff, customs and shipping regulation issues;                                                                                 
|§ | Substantial ocean freight and duty costs;                                                                                       
|§ | Port and container security issues; and                                                                                         
|§ | Interruption in the delivery of product due to labor disruption or weather related issues.                                      
|  |                                                                                                                                 

Moreover,
only a limited number of transportation companies service our regions, none of
which has entered into a long-term contract with us. The inability or failure
of one or more key transportation companies to provide transportation services
to us, changes in the regulations that govern shipping tariffs or any other
disruption in our ability to transport our merchandise could have a material
adverse effect on our business, financial condition and results of operations.

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Our failure to adequately address barriers
and challenges associated with expansion outside of the United States or its
territories could cause our business to suffer.

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

Certain provisions in our charter documents
and elsewhere may discourage third parties from attempting to acquire control
of our Company, which may have an adverse effect on the price of our stock.

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

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

The
annual meeting of our shareholders was held on May 17, 2006. The following
proposals were submitted to a vote:

The
election of one director, to hold office until our annual meeting of
shareholders in 2009 and until his successor is duly elected and qualified. The
terms of the other members of our board of directors, Robert C. Donegan, J.
Jeffrey Meder, David A. Enger and Gary W. Nettles, continued after the annual
meeting of shareholders.

This proposal
received the following number of votes:

| |                  |             |  |         
| | ---------------- | ----------- |  | --------
| |                  | Affirmative |  | Withheld
| |                  |             |  |         
|
| | George C. Textor | 3,367,975   |  | 480,279 

The
ratification of the appointment of Grant Thornton LLP as our independent
auditors for fiscal year 2006. This proposal was approved with 3,806,409 shares
voting for approval, 41,515 shares voting against approval, and 330 shares
abstaining.

ITEM 6. EXHIBITS

|              |   |                                                                                                                                                                                                                                          |             | 
|------------- | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------- | 
|Exhibit
  No. |   |                                                                                                                                                                                                                                          | Description | 
|              |   |                                                                                                                                                                                                                                          |             | 
|              |   |                                                                                                                                                                                                                                         
|10.1          |   | Lease
  Agreement between Governors Square Limited and Cayman Cost U Less Limited
  dated April 19, 2006 *                                                                                                                             
|31.1          |   | Certification
  of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act
  of 2002                                                                                                                                  
|31.2          |   | Certification
  of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act
  of 2002                                                                                                                                  
|32.1          |   | Certification
  of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act
  of 2002                                                                                                                                  
|32.2          |   | Certification
  of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act
  of 2002                                                                                                                                  
|              |   |                                                                                                                                                                                                                                         
|              | * | This exhibit
  (or portions thereof) has been filed separately with the Commission pursuant
  to an application for confidential treatment. The confidential portions of
  this Exhibit have been omitted and are marked by an asterisk.

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SIGNATURES

Pursuant to
the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.

|                        |                                                             
|----------------------- | ------------------------------------------------------------
|                        | COST-U-LESS,
  INC.                                         
|                        |                                                             
|Date: August
  11, 2006 | /s/ J.
  Jeffrey Meder                                      
|                        |                                                             
|                        | J. Jeffrey
  Meder
  President and
  Chief Executive Officer
|                        |                                                             
|Date: August
  11, 2006 | /s/ Martin
  P. Moore                                       
|                        |                                                             
|                        | Martin P.
  Moore
  Chief Financial Officer                 

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