UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON D.C. 20549

                                    FORM 10-K

(MARK ONE)
[X]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934
                   FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997

                                                        OR

[  ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
      EXCHANGE ACT OF 1934
             FOR THE TRANSITION PERIOD FROM __________ TO __________

                         COMMISSION FILE NUMBER: 0-22963

                             BIG DOG HOLDINGS, INC.
             (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

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

          CALIFORNIA                                     52-1868665
          ----------                                     ----------
     (STATE OR OTHER JURISDICTION OF                  (I.R.S. EMPLOYER
       INCORPORATION OR ORGANIZATION)                 IDENTIFICATION NO.)

     121 GRAY AVENUE, SANTA BARBARA, CALIFORNIA             93101
     ------------------------------------------             -----
     (ADDRESS OF PRINCIPAL EXECUTIVE OFFICE)              (ZIP CODE)

                                 (805) 963-8727
                                 --------------
               (REGISTRANT'S TELEPHONE NUMBER INCLUDING AREA CODE)

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:  NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:  Common Stock, $0.01
                                                              par value

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

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

         The aggregate  market value of Common Stock held by  non-affiliates  of
the  registrant on March 23, 1998 was  approximately  $34,377,666  million.  All
outstanding shares of Common Stock, other than those held by executive officers,
directors and 10% shareholders, are deemed to be held by non-affiliates.

         On March 23, 1998 the registrant had 13,159,550  shares of Common Stock
outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

         Part III  incorporates  information  by reference  from the  definitive
Proxy  Statement for the 1998 Annual Meeting of  Shareholders,  to be filed with
the Commission no later than 120 days after the end of the  registrant's  fiscal
year covered by this Form 10-K.


<PAGE>


                                     PART I

ITEM 1.  BUSINESS

GENERAL

         Big  Dog  Holdings,  Inc.  and  its  subsidiaries  ("Big  Dogs"  or the
"Company")  develops,  markets and retails a branded,  lifestyle  collection  of
unique,  high-quality,  popular-priced consumer products,  including activewear,
casual sportswear,  accessories and gifts. BIG DOGS-Registered  Trademark- is an
All-American,  family-oriented brand that the Company believes has established a
unique niche in its  dedication  to providing  quality,  value and fun. Big Dogs
products were first sold in 1983, and operations  remained  limited through 1992
when the  current  controlling  stockholders  acquired  the BIG  DOGS-Registered
Trademark-  brand  and  related  assets.  Following  the  acquisition,  Big Dogs
initiated a strategy of leveraging the brand through  dramatic  expansion of its
product line and rapid growth in its retail stores.  The number of the Company's
stores has grown from 5 in 1993 to 150 as of December 31, 1997.

         The  Company's   collection  is  centered   around  its  signature  BIG
DOGS-Registered  Trademark-  name, logo and "Big Dog" characters and is designed
to appeal to a broad range of  customers  when they are in the "Big Dog state of
mind." The BIG  DOGS-Registered  Trademark-  brand conveys a sense of fun, humor
and a "Big Dog  attitude,"  whereby  each  customer can feel that he or she is a
"Big Dog." The Big Dog attitude and sense of fun are brought to life through the
Company's  graphic  capabilities that portray the Big Dog characters in a number
of engaging,  positive and  inspiring  situations  and  activities.  The Big Dog
attitude  is further  defined  by a number of slogans  such as "If You Can't Run
with the Big Dogs Stay on the Porch"-Registered  Trademark-,  "Unless You're the
Lead Dog, the Scenery Never Changes," and "Lead,  Follow or Get Out of the Way."
These  graphics  and  slogans  combine  a  bold,  spirited  attitude  with  wry,
lighthearted  humor. The appeal of the brand is further  strengthened  through a
customer's  personal  identification with particular sports and other activities
depicted in these  graphics.  In addition to its focus on fun, Big Dogs develops
customer  loyalty and enhances its brand image by providing a consistently  high
level of quality at moderate price points.  Big Dogs accomplishes this primarily
through (i)  selling  its own brand  directly  to the  consumer,  (ii)  low-cost
product development, and (iii) sourcing  high-volume/low-cost basic apparel with
limited fashion risk.

         The BIG DOGS-Registered  Trademark- brand is designed to appeal to men,
women and children of all ages,  particularly  baby boomers and their kids, when
they are engaged in leisure or recreational activities. Furthermore, the Company
believes that the millions of dog and other pet owners in the United States,  as
well as children,  have a strong natural affinity toward the dog-related  images
and themes in Big Dogs  graphics.  In addition,  the Company  believes  that the
positive  image  the brand  brings to being a "Big Dog" has a special  appeal to
large-size  customers.  The  Company's  apparel  products,  which include a wide
variety of basic apparel and related products, are developed with an emphasis on
being functional rather than  fashion-forward or trendy.  These apparel products
include  graphic  T-shirts,   shorts,  knit  and  woven  shirts,  fleece  items,
loungewear and boxer shorts. In addition to its BIG  DOGS-Registered  Trademark-
line of  activewear  and casual  sportswear  for men and women,  the Company has
successfully  introduced  and expanded its LITTLE BIG DOGS-TM-  line of infants'
and  children's  apparel and its BIG BIG DOGS-TM-  line of Big and Tall apparel.
The Company has also successfully expanded its non-apparel  products,  including
plush animals,  stationery and pet products,  which feature Big Dog graphics and
are developed to complement its apparel.

         The   Company   reinforces   its  brand  image  by   distributing   BIG
DOGS-Registered  Trademark-  products  primarily  through its own retail stores.
This distribution  strategy enables the Company to present a complete  selection
of its merchandise in a creative and fun environment. In addition, this strategy
enables it to more effectively  reach its targeted  customers by locating stores
in  tourist-oriented  and other casual  environments where it believes consumers
are more likely to be in the "Big Dog state of mind." The Company  operates  its
retail stores in both outlet and full-price formats,  depending on the location.
In addition to its retail  stores,  Big Dogs markets its products  through other
channels, including its catalog and better wholesale accounts.


<PAGE>


BUSINESS STRATEGY

         Big Dogs' mission is to build a brand that is recognized throughout the
world for providing high quality, good value and fun and functional products. To
achieve this goal, the Company has adopted the following operating strategies:

         PROMOTE  THE BIG DOG  SPIRIT OF FUN.  A key and  unique  element in the
Company's  brand image is its focus on fun.  This spirit of fun revolves  around
the Company's Big Dog character that has broad appeal to men, women and children
of all ages.  The Company  fosters this spirit by creating  positive,  humorous,
topical and inspiring  graphics and slogans which it applies to its merchandise.
More  than just a logo,  the Big Dog  represents  the  leader,  athlete,  child,
comedian,  musician,  boss, traveler,  parent and dog lover in everyone. Big Dog
products  are fun, not only  because of their  graphics  and  slogans,  but also
because they are designed for  recreational,  sports and leisure  activities and
make ideal  gifts.  Big Dogs'  focus on fun is further  enhanced  by the lively,
enjoyable  atmosphere in its retail stores and is also  reflected in its catalog
and marketing promotions and activities.

         DELIVER  HIGH  QUALITY  AT  A  GOOD  VALUE.   Big  Dogs'  products  are
constructed using high-quality fabrics and other materials. Many of its products
feature unique graphics  characterized by advanced print techniques,  as well as
unique appliques and embroideries on many of its apparel  products.  The Company
believes that this  combination  of quality  fabrics and graphics in its apparel
products  provides the customer with a product that has an exceptional  look and
feel.  Big Dogs is able to deliver  this level of quality at  reasonable  prices
primarily as a result of (i) selling its own brand direct to the consumer,  (ii)
low-cost  product  development,  (iii) sourcing of basic  apparel,  and (iv) low
marketing  costs.  The Company  believes  that  delivering  quality and value is
instrumental  in generating  customer appeal and brand loyalty for its products,
particularly those that do not prominently feature Big Dog graphics.

         ENHANCE FUNCTIONAL PRODUCTS WITH GRAPHICS.  Big Dog develops functional
rather than  fashion-forward  products.  The  Company  believes it has a special
competency  in  creating   distinctive,   popular  graphics  which  it  uses  to
differentiate its products from those of its competitors. Big Dogs has developed
a broad assortment of classic,  functional  clothing  ("basics") in traditional,
less  fashion-forward  colors.  The Company's focus on basics and its ability to
leverage  its  graphics  across  multiple  product  categories  have allowed the
Company to  eliminate  the need for a  traditional  buyer or design  staff,  and
thereby lower its product  development  costs  compared to most fashion  apparel
companies.  Furthermore,  since  its  graphics  are  added in the last  stage of
production,  the Company is able to be more  responsive to customer  preferences
while also lowering its inventory risk.

         TARGET  A BROAD,  DIVERSE  CUSTOMER  BASE.  Big  Dogs  believes  it has
established an All-American,  family-oriented brand featuring products,  graphic
themes,  slogans  and  promotions  that  appeal to a broad  range of  consumers.
Although  its  marketing  focus is on baby  boomers  and their  kids,  Big Dogs'
customers  include men, women and children of all ages, and span a wide range of
geographic areas and income levels.  Furthermore,  the Company believes that the
millions of dog and other pet owners in the United States,  as well as children,
have a strong natural affinity for the dog-related images and themes in Big Dogs
graphics.  In addition,  the Company  believes that the positive image the brand
brings to being a "Big Dog" has a special appeal to large-size customers.

         MAINTAIN  CONTROLLED   DISTRIBUTION.   Big  Dogs'  sells  its  products
primarily  through its own stores and, to a lesser extent,  through its catalog.
By selling  direct to its  customers,  Big Dogs is able to present its  complete
line of  merchandise in a creative and fun  environment.  This also allows it to
target its customers more  precisely by locating its stores in  tourist-oriented
and other  high-traffic  areas,  where the Company  believes  consumers are more
likely to be in the "Big Dog state of mind." Selling direct to the consumer also
allows the Company (i) to enhance its  margins  while still  providing  customer
value, (ii) to be more responsive to customer  feedback,  especially with regard
to new product  development,  (iii) to reduce its need to build brand  awareness
through  large-scale media  advertising,  and (iv) to collect customer names for
its catalog through in-store sign-ups.


<PAGE>


         CREATE AN ENTERTAINING SHOPPING EXPERIENCE.  Big Dogs seeks to create a
distinctive  and fun shopping  environment  in its stores  through an innovative
display of its graphic art and humor,  including  in-store  "T-shirt  walls" and
other displays that are designed to immediately put the customer in the "Big Dog
state of mind." By showcasing  the  Company's  complete  product line,  Big Dogs
stores offer something for everyone in the family. Effective cross-merchandising
in the stores is designed to add  excitement  and prompt add-on  purchases.  The
Company believes the customer's  shopping  experience is further enhanced by the
Company's knowledgeable and enthusiastic sales staff.

         EMPHASIZE GRASSROOTS MARKETING. The Company believes its most effective
marketing is its products  themselves  and their  presentation  in the Company's
retail stores and catalog.  As a result, the Company has spent relatively little
on advertising.  Also important to Big Dogs' marketing  strategy is its targeted
"grassroots"  marketing  activities.  These activities include local and charity
sponsorships (such as high school sports teams),  community-oriented promotional
events (such as the Company's annual dog parade in Santa Barbara), and corporate
cross-promotions  with leading consumer  product  companies (such as Nabisco and
IAMS).

         The Company's  continued growth will depend to a significant  degree on
its  ability  to open  and  operate  new  stores,  to  increase  net  sales  and
profitability  from the  Company's  existing  stores,  and to  expand  its other
sources of revenue. Big Dogs' primary growth strategy is the continued expansion
of its retail stores.  The Company opened 29 net new stores in 1997. The Company
opens stores in locations  and venues that  management  believes best target its
customers  and can be  obtained  on  terms  that  meet  its  unit  profitability
requirements.  Depending  on the  location,  the Company will open new stores in
either an outlet or full-price format.  Although Big Dogs' traditional  emphasis
has been on outlet malls,  the Company has more recently  increased its focus on
opening  full-price,  stand-alone  stores  in  tourist  and  leisure  locations.
Accordingly, the Company anticipates that the stores it opens in the near future
will be  located in a variety of venues,  including  outlet  malls,  stand-alone
stores in tourist areas, tourist-oriented malls, regional malls and metropolitan
locations.  These new markets and venues  have in the past  presented,  and will
continue to present, competitive and merchandising challenges that are different
from those faced by the Company in its existing markets and venues.

MERCHANDISING

         Big Dogs'  product line  features a branded,  lifestyle  collection  of
unique,  high-quality,  popular-priced consumer products,  including activewear,
casual  sportswear,  accessories and gifts. Big Dogs' apparel lines include full
collections  of classic unisex casual  sportswear and activewear for adults,  as
well as more recently  introduced  collections  for infants and children and the
Big and Tall  market.  Big Dogs has also in recent  years  further  expanded its
product  lines to include not only a wide  variety of apparel  accessories,  but
also a  collection  of gift and  consumer  products.  The  Company  continuously
explores  opportunities  to further  leverage  its brand and  graphics  into new
product lines.

         The Company's  apparel products are  manufactured  from premium cotton,
or,  in  some  instances,   cotton/  synthetic  blends.  Big  Dogs'  apparel  is
characterized  by  quality  fabrics,  construction  and  embellishments,  and is
distinguished  from other  apparel lines by the BIG  DOGS-Registered  Trademark-
name, dog logo, graphics and slogans.  In addition to its distinctive  graphics,
the Company believes it has achieved recognition for the quality and performance
of its products. For example, the Company's solid nylon volley shorts and madras
plaid shorts were selected by the Atlanta  Committee for the Olympic Games to be
officially licensed shorts for the 1996 Atlanta Olympics.


<PAGE>


         Prices for most of the  Company's  products  range from  between $5 and
$30. The following  table sets forth the approximate  contribution  that each of
the Company's product categories made to total net sales in the Company's retail
stores for the year ended December 31, 1997:

                                                                 RETAIL STORE
                                                                   NET SALES
                                                                  % OF TOTAL
                                                                 ------------

      Adult Apparel and Accessories ...................................59.0%
      Infants' and Children's Apparel and Accessories .................19.7
      Big and Tall Apparel ............................................11.8
      Non-Apparel Products .............................................9.5
                                                                      ------
                           Total .....................................100.0%

         ADULT APPAREL AND ACCESSORIES.  Big Dogs sells a complete line of adult
unisex activewear and casual sportswear.  The Company offers  screen-printed and
embroidered  T-shirts and sweatshirts,  in a variety of styles and colors,  that
generally  prominently  display the Big Dogs graphics and slogans.  In addition,
the  Company  offers  shorts,  knit and woven  casual  shirts,  fleece  tops and
bottoms,  loungewear, boxer shorts, swimwear and sleepwear, all of which feature
print designs or simply the BIG DOGS-Registered Trademark- name and/or dog logo.
The  Company's  adult apparel line  primarily  focuses on basic items that recur
with relatively minor variation from season-to-season and year-to-year. Although
the  Company  introduces  new apparel and other  products  throughout  the year,
certain classic,  popular items and graphics have been in the Big Dogs line with
very little change for over ten years.

         Big Dogs leverages its trademarks, characters and more popular graphics
by  carefully  translating  them  to a  wide  variety  of  apparel  accessories,
including  caps,  ties,  socks,  sunglasses,  bags,  watches and wallets.  These
products are developed and introduced based on their  consistency with Big Dog's
brand image and whether  they  complement  the  Company's  other  products.  The
Company's introduction of accessories not only provides an opportunity to create
add-on  purchases,  but also minimizes  product  development costs and inventory
risk by utilizing  graphics  and slogans  that have first proven  popular on the
Company's graphic T-shirts.

         INFANTS'  AND  CHILDREN'S  APPAREL  AND  ACCESSORIES.  The  LITTLE  BIG
DOGS-Registered  Trademark-  line  includes  infants,  toddlers,  kids and youth
sizes.  Products in this line include graphic  T-shirts,  shirts,  fleece items,
infant and toddler one-pieces,  boxer shorts, dresses and shorts,  virtually all
of which feature distinctive graphics. The graphics and fabrics of this line are
designed to mirror many of the more popular graphics and fabrics in the BIG DOGS
adult line in order to encourage  family  purchases and leverage overall product
development   costs.   The   Company   sells  its  LITTLE  BIG   DOGS-Registered
Trademark-line  primarily through its retail stores and catalog,  and wholesales
it to certain specialty and better department stores.

         BIG AND TALL APPAREL. The Company believes that the BIG DOGS-Registered
Trademark-image  and the positive  emphasis the brand gives to being a "Big Dog"
have a unique appeal to consumers  who wear large sizes.  In the spring of 1996,
the   Company    significantly    expanded    its   BIG   BIG    DOGS-Registered
Trademark-category  targeting  Big and Tall  customers.  The  Company's  BIG BIG
DOGS-TM-category  offers a line of unisex activewear and casual  sportswear.  As
with  the  regular  adult  sizes,  this  category  features  screen-printed  and
embroidered  T-shirts and sweatshirts,  in a variety of styles and colors,  that
generally  prominently  display  the Big Dogs  graphic  themes and  slogans.  In
addition,  the Company offers  shorts,  knit and woven casual and sports shirts,
fleece tops and bottoms, loungewear, boxer shorts, swimwear and sleepwear, which
may  feature  print  designs  or simply the BIG  DOGS-Registered  Trademark-name
and/or dog logo. The Company sells its BIG BIG  DOGS-TM-line  primarily  through
its retail stores and catalog and also through selected wholesale accounts.

         NON-APPAREL  PRODUCTS.  Big  Dogs  further  leverages  its  trademarks,
characters  and more  popular  graphics  by applying  them to a wide  variety of
adult's and children's non-apparel items, including pet products,  plush animals
and other toys,  sporting  goods,  stationery,  calendars,  mousepads and screen
savers. As with apparel accessories,  new non-apparel products are developed and
introduced  based on whether they are consistent  with Big Dogs' brand image and
complement  the  Company's  other  products.  As with apparel  accessories,  the
graphics  applied to these  products have first proven  popular on the Company's
T-shirts,  resulting in lower product  development  costs and inventory risk. In
general,  non-apparel items have higher gross margins than many of the Company's
other products.

MARKETING

         The Company  strives to maintain a consistent  brand image  through the
coordination of its merchandising,  marketing and sales efforts. The goal of the
Company's marketing efforts is to present a distinctive image of quality,  value
and fun that consumers  will  associate with the Company's  products and thereby
enhance the BIG DOGS-Registered Trademark- brand image. The BIG DOGS brand image
has been developed with relatively little  advertising,  as the Company believes
its most effective  marketing is its products  themselves and their presentation
in the Company's  retail stores and catalog.  The Company's  catalog  serves not
only as a means of product distribution, but also as the key marketing piece for
the Company's retail stores.

         Also  important  to the  Company's  marketing  strategy is its targeted
"grassroots"  marketing  activities.  These activities include local and charity
sponsorships (such as high school sports teams),  community-oriented promotional
events (such as the Company's annual dog parade in Santa Barbara), and corporate
cross-promotions  with leading consumer  product  companies (such as Nabisco and
IAMS).  The  Company  trains and  incentivizes  its store  managers  to actively
involve their stores in local,  grassroots activities.  In addition, the Company
utilizes  billboard  advertising  designed to direct customers to local Big Dogs
retail stores.

RETAIL STORES

         Big Dogs seeks to create a distinctive and fun shopping  environment in
its  stores  through  the  innovative  display  of its  graphic  art and  humor,
including  in-store  "T-shirt walls" and other displays  designed to immediately
put the  customer  in the "Big Dog state of mind." In  addition,  the  Company's
cross-merchandising  and colorful  signage are designed to add excitement in the
stores and prompt  add-on  purchases.  While  maintaining  a consistent  Big Dog
"look"  throughout the chain, many stores  incorporate  graphics and props which
are consistent  with the store's local  environment  (for example,  a car racing
theme in  Indianapolis  and an Old  Spanish  Days  theme in Santa  Barbara).  By
showcasing the Company's  complete product line and broad  assortment,  Big Dogs
stores offer something for everyone in the family and are particularly appealing
to the dedicated Big Dogs customer.

         In 1997, the Company's retail stores  contributed  approximately 91% of
total net sales. As of December 31, 1997, the Company  operated 150 stores in 41
states  and one store in  England.  Big Dogs  stores  are  typically  located in
tourist and recreation-oriented shopping locations and other casual environments
where the Company believes consumers are more likely to be in the "Big Dog state
of mind." In making site  selections,  the Company  also  considers a variety of
other factors, including proximity to large population centers, area income, the
prestige and potential customer-draw of the other tenants in the center or area,
projected  profitability,  store location and visibility within the center,  and
the accessibility and visibility of the center from nearby thoroughfares.


<PAGE>



The table below sets forth the number of stores located in each state or country
   as of the end of 1997:

  State       No. of Stores            State               No. of Stores
  -----       -------------            -----               -------------
Alabama             1                Minnesota                   2
Alaska              1                Mississippi                 2
Arizona             6                Missouri                    3
California          30               Nevada                      2
Colorado            3                New Hampshire               1
Connecticut         2                New Jersey                  2
Delaware            2                New Mexico                  1
Florida             9                New York                    8
Georgia             4                North Carolina              5
Hawaii              2                Ohio                        3
Idaho               2                Oregon                      5
Illinois            3                Pennsylvania                6
Indiana             4                South Carolina              3
Iowa                1                Tennessee                   5
Kansas              3                Texas                       5
Louisiana           1                Utah                        2
Maine               2                Vermont                     1
Maryland            2                Virginia                    3
Massachusetts       3                Washington                  4
Michigan            3                West Virginia               1
                                     Wisconsin                   1

  Country                           No. of Stores
  -------                           -------------
United Kingdom                             1

         The Company  operates its retail  stores in both outlet and  full-price
formats,  depending on the location.  Big Dogs' traditional emphasis has been on
outlet malls  because those malls are often located in tourist areas and attract
significant numbers of Big Dogs' targeted customers.  More recently, the Company
has increased its focus on opening full-price, stand-alone stores in tourist and
leisure locations.  The Company anticipates that the stores it opens in the near
future  will be in a variety  of venues,  including  outlet  malls,  stand-alone
stores in tourist areas, tourist-oriented malls, regional malls and metropolitan
locations.

         The Company's  outlet mall stores  average  approximately  3,000 square
feet.  The  Company's  outlet  stores  offer a complete  and current line of the
Company's  products priced  approximately  25% less than the same items are sold
for in the Company's  catalog and the Company's  full-price  stores and by other
retailers.  In addition,  the Company has tested a smaller format store which it
intends  to open in  certain  circumstances.  This  smaller  format  will  carry
substantially all of the Company's product categories,  but will be more densely
merchandised to accommodate  the smaller square  footage.  The Company opened 29
net new stores during 1997. The Company's  average cost to open a store in 1997,
including leasehold  improvements and furniture and fixtures,  was approximately
$70,000 (net of tenant  improvement  allowances).  The average per store initial
inventory  (partially  financed by trade  payables)  for the new 1997 stores was
approximately  $69,000 and pre-opening expenses averaged  approximately  $15,000
per store.  The average  total cost to build new stores will vary in the future,
depending on various factors,  including local  construction  costs,  changes in
store format and design and tenant improvement allowances.


<PAGE>


         Big   Dogs   store   operations   are   managed   by  a   Senior   Vice
President--Retail,  three regional  managers and  approximately  24 district and
area managers. Each of the stores is managed and operated by a store manager, an
assistant  manager and  full-time and part-time  sales  associates.  The Company
seeks to further  enhance its  customers'  shopping  experience  by developing a
knowledgeable  and  enthusiastic  sales staff to  distinguish  Big Dogs from its
competition.  In this regard, the Company has implemented  employee training and
incentive  programs  and  encourages  its sales  associates  to be friendly  and
courteous  and to guide  customers to graphics and products  that tie into their
individual  interests.  The Company  believes its commitment to customer service
enhances its ability to generate  repeat  business and to attract new customers.
The Company also  believes that the fun nature of its products and the growth of
the Company create employee  enthusiasm and positive morale that in turn enhance
customer service and contribute to the fun shopping experience.

NON-RETAIL DISTRIBUTION

         Non-retail channels of distribution,  including catalog, wholesale and,
to a  lesser  extent,  corporate  sales,  premium  programs,  international  and
internet sales, contributed approximately 9% of the Company's total net sales in
1997.

         CATALOG.  Introduced  in late  1992,  the  Company's  catalog  is a key
marketing  piece for its products and stores,  and enables it to reach customers
who are not located near a Big Dogs store.  The  Company's  proprietary  mailing
list has been  developed  largely  through  sign-ups by  customers in its retail
stores rather than through active  prospecting.  Big Dogs'  proprietary  mailing
list has over 700,000 active customer names. The Company's catalog sales in 1997
were approximately $4.9 million, or approximately 6% of total net sales.

         WHOLESALE. During 1997, the Company sold to over 600 wholesale accounts
throughout  the  United  States.  The  Company's  wholesale  sales in 1997  were
approximately $2.5 million, or approximately 3% of total net sales.

         INTERNATIONAL.  Big Dogs products are not currently sold outside of the
United States,  with the exception of one store in England and incidental  other
sales.  The  Company  plans to expand the sale of its  products  internationally
through  efficient,  profitable  and  brand-enhancing  means,  which may vary by
country and may include  retail  stores,  exporting to resellers,  licensing and
catalog sales.

         OTHER BRAND  LEVERAGING.  Big Dogs  intends to  carefully  evaluate and
pursue   opportunities  to  leverage  the  power  of  the  BIG   DOGS-Registered
Trademark-brand  through  various  activities that are consistent with the brand
image,  which may include  selective product  licensing,  co-branding (such as a
current  co-branding  program  for ski jackets  with  Columbia  Sportswear)  and
entertainment and media activities.

SOURCING

         DOMESTIC  AND  INTERNATIONAL  SOURCING.  The  Company  does  not own or
operate  any   manufacturing   facilities  and  sources  its  products   through
third-party  contractors  with  manufacturing   facilities  that  are  primarily
overseas.  The Company believes that outsourcing allows it to enhance production
flexibility and capacity,  while substantially reducing capital expenditures and
avoiding  the costs of  managing  a large  production  workforce.  In  addition,
outsourcing  allows the Company to leverage working  capital,  transfer risk and
focus its energy and resources on merchandising, marketing and sales.

         Big Dogs' domestic  sourcing is primarily  limited to graphic T-shirts.
In 1997,  as in prior  years,  the Company  purchased  substantially  all of its
graphic T-shirts from a commonly  controlled  company,  Fortune  Fashions,  Inc.
based near Los Angeles,  California.  Fortune Fashions  purchases blank T-shirts
and other products and provides screen -printing and embroidery  services to the
Company  for these  products.  However,  during the first  quarter of 1998,  the
Company moved in-house the bulk of its graphic T-shirt  business,  including the
management of  screen-printing  and blanks that had previously  been provided by
Fortune  Fashions,  and the Company  expects its future  business  with  Fortune
Fashions to be minimal.

         The  majority of Big Dogs' other  products are  manufactured  overseas,
primarily in Asia. In order to reduce the Company's exposure to production risks
and delays arising from trade  disputes,  political  disruption or other factors
relating to any one vendor or country,  the Company  utilizes a diverse group of
vendors. Big Dogs sources product from over 100 unaffiliated vendors,  including
over 35 foreign  vendors in a number of countries,  with a  significant  portion
being produced by contractors with  manufacturing  facilities in China. In order
to enhance its sourcing  flexibility,  the Company uses purchasing agents rather
than operate its own foreign sourcing office. These agents assist the Company in
selecting and overseeing  third-party  vendors,  sourcing  fabric and monitoring
quotas and other trade  regulations.  The Company does not have supply contracts
with any of its  suppliers.  Although the loss of major  suppliers  could have a
significant effect on the Company's  immediate  operating  results,  the Company
believes  alternate  sources of  merchandise  for most  product  categories  are
available at comparable prices and that it could replace these suppliers without
any long-term adverse effect on the Company.

         The  Company  forecasts  production  requirements  to secure  necessary
manufacturing  capacity and quota. Since the Company's foreign manufacturers are
located at greater  geographic  distances  from the  Company  than its  domestic
manufacturers,  the Company  generally  allows  greater  lead-times  for foreign
orders.  However,  due to the Company's focus on widely  available basics rather
than  fashion  items,  the  Company  believes  these lead  times do not  present
significant risks.

         QUALITY CONTROL.  The Company's  quality control program is designed to
ensure that all goods bearing BIG DOGS-Registered  Trademark-trademarks meet the
Company's  standards.  With respect to its  products,  the Company,  through its
employees and sourcing agents,  develops and inspects prototypes of each product
prior to manufacture.  For apparel products, the Company,  through its employees
and sourcing agents, inspects the prototypes and fabrics prior to cutting by the
contractors,  establishes  fittings based on the prototype and inspects samples.
The Company or its sourcing  agents  inspect the final product prior to shipment
to the Company's warehouse or at the warehouse prior to payment.

MANAGEMENT INFORMATION SYSTEMS

         The  Company is  committed  to  utilizing  technology  to  enhance  its
competitive  position.  The Company has put in place computer hardware,  systems
applications  and networks  that are the same as those used by a number of large
retailers.  These systems support the sales and  distribution of products to its
stores and customers and improve the  integration and efficiency of its domestic
and foreign sourcing  operations.  Big Dogs' MIS system provides  integration of
store, merchandising,  distribution and financial systems. These systems include
stock keeping unit ("SKU") and classification inventory tracking, purchase order
management,  open-to-buy,  merchandise  distribution,  automated  ticket making,
general ledger, sales audit, accounts payable,  fixed asset management,  payroll
and integrated financials.  These systems operate on an IBM AS 400 platform, and
a Novell  server  network and utilize  Island  Pacific  software.  The Company's
point-of-sale  ("POS")  system  consists of registers  providing  price look-up,
e-mail  and  credit  card and check  authorization.  Through  automated  two-way
communication  with each store, sales information and e-mail are uploaded to the
host  system,  and  receiving,   price  changes  and  systems   maintenance  are
down-loaded   through  the  POS  devices.   Sales  are  updated   daily  in  the
merchandising  report  systems by polling sales from each store's POS terminals.
The Company evaluates  information  obtained through daily polling,  including a
daily tracking of gross margin, to implement  merchandising  decisions regarding
reorders,  markdowns  and  allocation  of  merchandise.  Wholesale  and  catalog
operations  are also supported by MIS  applications  from  established  vendors,
designed  specifically to meet the unique  requirements of these segments of the
business.  These  applications  include  customer  service phone  center,  order
processing and mailing list maintenance.

ALLOCATION AND DISTRIBUTION OF MERCHANDISE

         Allocation  and  distribution  of the Company's  inventory is performed
centrally  at  the  store,  merchandise  classification  and  SKU  levels  using
integrated third-party software.  Utilizing its MIS capabilities,  the Company's
planning and allocation  group works closely with the  merchandising  and retail
departments  to monitor and respond to customer  purchasing  trends and meet the
seasonal and locale-specific  merchandising requirements of the Company's retail
stores.  The  Company  is  currently  implementing  fuller  utilization  of  its
merchandising  information systems to capitalize on regional and seasonal trends
and on individual store characteristics.


<PAGE>


         During 1997, Big Dogs maintained two  distribution  facilities:  a main
facility of approximately 67,000 square feet located in Commerce, California and
a mail order warehouse and fulfillment  facility of approximately  21,000 square
feet in Ventura,  California.  In early 1998,  the  Company  consolidated  these
operations  into a new  136,000  square-foot  distribution  facility in Santa Fe
Springs,  California.  All  merchandise  is  delivered  by  vendors  to this new
facility, where it is inspected,  entered into the Company's allocation software
system,  picked and boxed for shipment to the stores or  customers.  The Company
ships  merchandise  to its stores at least  weekly,  to provide a steady flow of
merchandise.

TRADEMARKS

         The Company utilizes a variety of trademarks  which it owns,  including
the  U.S.  registered  trademarks  BIG  DOGS-Registered   Trademark-,   BIG  DOG
SPORTSWEAR-Registered  Trademark-and  dog logo and the  trademarks  BIG DOG-TM-,
LITTLE  BIG  DOGS-TM-  and  BIG BIG  DOGS-TM-.  In  addition,  the  Company  has
registered certain of its trademarks or has registration applications pending in
over  14  other  countries.   The  Company  regards  its  trademarks  and  other
proprietary  rights as valuable  assets and believes that they have  significant
value in the marketing of its products.  From time to time the Company discovers
products  in the  marketplace  that  the  Company  believes  infringe  upon  its
trademark  rights.  The  Company  vigorously  protects  its  trademarks  against
infringement,   including   through  the  use  of  cease  and  desist   letters,
administrative proceedings and lawsuits.

COMPETITION

         Although the level and nature of competition differ among the Company's
product  categories,  the Company  competes  primarily on the basis of its brand
image,  offering a unique  combination  of quality,  value and fun, and on other
factors  including product  assortment,  price,  store location and layout,  and
customer  service.  The markets for each of the  Company's  products  are highly
competitive.  The Company believes that its long-term  competitive position will
depend  upon its  ability to  anticipate  and  respond  effectively  to changing
consumer  demands and to offer  customers a wide  variety of  high-quality,  fun
products  at  competitive  prices.  Although  the  Company  believes it does not
compete  directly  with any single  company  with respect to its entire range of
merchandise,   within  each  merchandise  category  the  Company  competes  with
well-known  apparel and specialty retail companies such as The GAP, Eddie Bauer,
Warner  Brothers  Stores and The  Disney  Stores,  as well as a large  number of
national  and  regional  department  stores,  specialty  retailers  and  apparel
designers and manufacturers.  In addition, in recent years, the amount of casual
sportswear and activewear  manufactured  specifically for department  stores and
sold  under  their own  labels has  significantly  increased.  Many of Big Dogs'
competitors are significantly larger and more diversified and have substantially
greater financial, distribution, marketing and other resources and have achieved
greater recognition for their brand names than the Company.

EMPLOYEES

         At March 10, 1997, the Company had  approximately 500 full-time and 550
part-time employees.  The number of part-time employees fluctuates significantly
based  on  seasonal  needs.  None of the  Company's  employees  are  covered  by
collective  bargaining  agreements and the Company  considers its relations with
its employees to be good.



<PAGE>


EXECUTIVE OFFICERS OF THE REGISTRANT

         Set forth  below are the  names,  ages,  titles  and  present  and past
positions of persons  serving as  executive  officers of the Company as of March
23, 1998:

NAME                   AGE      POSITION
------------------     ---      -----------------------------------------------
Andrew D. Feshbach     37       President, Chief Executive Officer and Director
Douglas N. Nilsen      49       Executive Vice President - Merchandising
Anthony J. Wall        42       Executive Vice President - Business Affairs,
                                    General Counsel and Secretary
Roberta J. Morris      38       Chief Financial Officer, Treasurer and
                                    Assistant Secretary
Andrew W. Wadhams      37       Senior Vice President - Retail

     ANDREW D.  FESHBACH  co-founded  the  Company in May 1992 and has served as
President,  Chief Executive Officer and as a director since that time. From June
1992 until May 1997, Mr. Feshbach also served as Chief Financial  Officer of the
Company. Mr. Feshbach co-founded Fortune Fashions Inc. ("Fortune  Fashions"),  a
custom  manufacturer of embellished  apparel (See Item 1. "Business - Sourcing")
in 1991 and has served as a director since that time,  and, from 1991 until June
1992, served as its Chief Financial Officer. From 1990 until the present, he has
served as a Vice President of Fortune Financial, a private merchant banking firm
owned by the  Company's  Chairman  and  majority  stockholder,  Fred Kayne.  Mr.
Feshbach  serves as a director  of The Right  Start,  Inc.,  an infant  products
retailer  and  catalog  company.   Mr.  Feshbach  has  an  M.B.A.  from  Harvard
University.

     DOUGLAS  N.  NILSEN  joined the  Company in October  1995 and has served as
Executive Vice  President--Merchandising  since December 1995. From October 1995
until  December  1995, he served as Senior Vice  President of the Company.  From
1990 to  September  1995,  he served as Director of  Merchandise  at Walt Disney
Attractions, Inc. for its U.S. theme parks and resorts, and in such capacity was
responsible for  merchandising  all apparel and accessories.  From 1976 to 1990,
Mr.  Nilsen  was  employed  by Macy's  California  in various  capacities,  most
recently as Vice President of  Merchandising  in both the  Accessories and Men's
Divisions. Mr. Nilsen has an M.B.A. from New York University.

         ANTHONY J. WALL joined the Company in September  1994 and has served as
Executive Vice President since March 1996. He has also served as General Counsel
and  Secretary of the Company since  September  1994. He served as a director of
the Company  from  November  1995 until  September  1997 and also as Senior Vice
President from  September 1994 until March 1996.  From 1981 until 1994, Mr. Wall
practiced as an attorney with Gibson, Dunn & Crutcher and, from 1990 until 1994,
was a partner in the corporate  department of that firm. Mr. Wall also serves as
Vice  President and General  Counsel of Fortune  Fashions and Vice  President of
Fortune  Financial.  Mr.  Wall  has a  J.D.  from  the  University  of  Southern
California.

         ROBERTA J.  MORRIS  joined the Company in August 1993 and has served as
Chief Financial  Officer since March 1, 1998, having previously served as Senior
Vice President--Finance since January 1995 and as Vice President--Finance of the
Company from August 1993 to January 1995.  From 1988 to August 1993,  Ms. Morris
was employed by Deloitte & Touche LLP, a national  accounting firm, serving as a
Senior  Manager from August 1992 until August  1993.  Ms.  Morris is a certified
public accountant.

         ANDREW W.  WADHAMS  joined the  Company in August  1996 as Senior  Vice
President--Retail.  From January 1994 to June 1996,  Mr.  Wadhams served as Vice
President of Retail  Operations of  Imaginarium,  Inc., a retailer of children's
games and  educational  items.  From 1986 to  November  1993,  Mr.  Wadhams  was
employed  in  various  capacities  by The Gap  Inc.  in its  Gap,  GapKids,  Gap
International  and  Banana  Republic   divisions,   most  recently  as  Regional
Manager--Retail Operations of Banana Republic from 1991 to 1994.


<PAGE>


ITEM 2.           PROPERTIES

         The  Company's  corporate  headquarters  are located in Santa  Barbara,
California in two leased buildings  comprising  approximately 28,000 square feet
under leases that expire in July 1999. The Company has two five-year  options to
extend the lease on one of these buildings.  The Company's distribution facility
is located  in Santa Fe  Springs,  California  in a leased  building  comprising
approximately  136,000  square feet under a lease that expires in January  2008.
The Company has an option to extend this lease for five years

         The  Company  leases  all of its  store  locations.  Store  leases  are
typically  for a term of 5 years with a 5-year  option and provide for base rent
plus  contingent  rent based upon a percentage of sales in excess of agreed-upon
sales levels.

ITEM 3.           LEGAL PROCEEDINGS

         The Company is involved from time to time in  litigation  incidental to
its business.  Management  believes  that the outcome of the current  litigation
will not have a material  adverse  effect upon the  financial  statements of the
Company.

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

         Not applicable.

                                     PART II

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

         The common stock of the Company is traded on the NASDAQ National Market
under the symbol  BDOG.  The Company  effected  its initial  public  offering in
September 1997 at a price of $14.00 per share.  The following  table sets forth,
for the  periods  indicated,  the high and low  "sales"  price of the  shares of
Common Stock of the Company, as reported on the NASDAQ National Market.

1997                                                HIGH             LOW
----                                                ----             ---

Third Quarter (commencing September 24, 1997)      $15-3/4           $14
Fourth Quarter                                     $14-3/8          $  5

         On March 25, 1998, the last sales price of the Common Stock as reported
on the NASDAQ  National  Market was $6.625 per share. As of March 25, 1998 there
were approximately 121 shareholders of record of the Company's Common Stock.

         The Company has not paid any cash dividends  since  inceptions and does
not anticipate paying any cash dividends in the foreseeable future.

1997 Sales of Unregistered Securities

         In 1997,  the Company  sold an  aggregate  of 199,000  shares of common
stock upon  exercise of  outstanding  warrants  and  options at purchase  prices
ranging  from $2.59 to $4.00 per share for total  consideration  of  $723,000 in
cash.  The  sales  of the  securities  in such  transactions  were  exempt  from
registration  under the  Securities Act of 1933 by virtue of Section 4(2) and/or
Regulation D promulgated thereunder.


<PAGE>


ITEM 6.  SELECTED FINANCIAL DATA

         The selected consolidated financial data set forth below should be read
in conjunction with the Consolidated  Financial Statements and the Notes thereto
and with  "Management's  Discussion  and  Analysis of  Financial  Condition  and
Results of Operations" appearing elsewhere in this Form 10-K.

<TABLE>
<CAPTION>

                                                                          YEARS ENDED DECEMBER 31,
                                                          ----------------------------------------------------
                                                            1993       1994       1995       1996        1997
                                                            ----       ----       ----       ----        ----
                                                           (in thousands, except per share and operating data)
<S>                                                      <C>        <C>        <C>        <C>        <C>
STATEMENT OF OPERATIONS DATA:

Net sales ............................................   $ 11,413   $ 28,404   $ 51,541   $ 68,683   $ 86,181
Cost of goods sold ...................................      5,946     12,857     21,571     29,720     36,328
                                                            -----     ------     ------     ------     ------
Gross profit .........................................      5,467     15,547     29,970     38,963     49,853
                                                            -----     ------     ------     ------     ------
Selling, marketing and distribution expenses .........      3,873     12,993     24,814     32,309     39,549
General and administrative expenses ..................      1,341      1,746      3,167      3,937      4,738
                                                            -----      -----      -----      -----      -----
Total operating expenses .............................      5,214     14,739     27,981     36,246     44,287
                                                            -----     ------     ------     ------     ------
Operating income (loss) ..............................        253        808      1,989      2,717      5,566
Interest expense .....................................        306        397      1,189      1,647      1,268

Income (loss) before provision (benefit) for
income taxes .........................................        (53)       411        800      1,070      4,298
Provision (benefit) for income taxes .................          1         19        162        435      1,633
                                                         ---------  ---------  ---------  ---------  ---------
Net income (loss).....................................   $    (54)  $    392   $    638   $    635   $  2,665
                                                         =========  =========  =========  =========  =========

Net income (loss) per share
     Basic and diluted ...............................   $  (0.01)  $   0.04   $   0.07   $   0.06   $   0.24

Weighted average common shares
     Basic ...........................................      9,000      9,000      9,503      9,978     10,965
     Diluted..........................................      9,000      9,000      9,503     10,049     11,187

OPERATING DATA:
Number of stores: (1)
  Open at beginning of period ........................          5         16         51         91        121
  Stores added (net of closures)......................         11         35         40         30         29
                                                               --         --         --         --         --
  Open at end of period ..............................         16         51         91        121        150
Comparable store sales increase (decrease)(2) ........       31.8%      (1.5)%      9.0%       3.2%      6.5%
</TABLE>


<PAGE>

<TABLE>
<CAPTION>

DECEMBER 31
                            1992      1993     1994      1995      1996      1997
                            ----      ----     ----      ----      ----      ----
<S>                      <C>       <C>       <C>       <C>       <C>       <C>
BALANCE SHEET DATA:

Working capital ......   $ 1,141   $ 1,506   $ 3,072   $ 8,030   $13,742   $35,468

Total assets .........     3,623     5,756    13,647    19,011    25,773    52,584

Total indebtedness (3)     1,530     2,272     6,141    10,732    15,697         0

Stockholders' equity .       556     2,502     3,094     4,737     6,142    45,541
</TABLE>


   (1)  Excludes  two  temporary  stores  open  for a  portion  of 1995 and four
   temporary stores open for a portion of 1996.

   (2)  Comparable  store sales  represent net sales of stores open at least one
   full year. Stores are considered comparable beginning on the first day of the
   first month following the one-year anniversary of their opening.  Stores that
   are relocated  but remain in the same shopping area remain in the  comparable
   store base.

   (3) Includes subordinated debt, obligations under the bank line of credit and
   obligations  under  capital  leases.  All  indebtedness  was  paid off with a
   portion  of the  proceeds  from the  Company's  initial  public  offering  in
   September 1997.



<PAGE>


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

        This Annual  Report on Form 10-K  contains  forward-looking  statements
that involve risks and uncertainties. The statements contained in this Form 10-K
that are not purely historical are forward-looking statements, including without
limitation statements regarding the Company's expectations,  beliefs, intentions
or strategies regarding the future. Such forward-looking  statements include the
discussions in this Management's  Discussion and Analysis of Financial Condition
and Results of Operations regarding the seasonality of business, use of proceeds
from the Company's  initial  public  offering,  expected new store  openings and
costs, the impact of year 2000 compliance and inflation risks.  Uncertainties to
which the foregoing  and other aspects of the Company's  business may be subject
include  those  discussed  below in regard to factors that may affect  quarterly
results discussed below, the factors affecting the costs of building new stores,
and other risks and uncertainties, some of which are discussed in greater detail
in the  Company's  Prospectus  dated  September 25, 1997 filed with the SEC. All
forward-looking statements in this document are based upon information available
to the Company on the date  hereof,  and the Company  assumes no  obligation  to
update any such forward-looking statements. Notwithstanding the Company's growth
in sales and profitability  during recent periods, the Company faces significant
risks and, as a result,  there can be no assurance that the Company's historical
growth will be indicative of future  performance.  The following  discussion and
analysis  should  be  read  in  conjunction  with  the  Consolidated   Financial
Statements  and Notes  thereto of the Company  contained  elsewhere in this Form
10-K.

GENERAL

         Big Dogs develops,  markets and retails a branded, lifestyle collection
of unique, high-quality, popular-priced consumer products, including activewear,
casual sportswear, accessories and gifts. The number of Company stores has grown
from 5 in 1993 to 150 as of December 31, 1997.

RESULTS OF OPERATIONS

         The  following  table sets forth,  for the periods  indicated,  certain
selected statement of operations data expressed as a percentage of net sales:

                                                     YEARS ENDED DECEMBER 31,
                                                     ------------------------
                                                     1997     1996     1995
                                                     ----     ----     ----
Net sales ........................................  100.0%   100.0%   100.0%
Cost of goods sold ...............................   42.2     43.3     41.9
                                                     ----     ----     ----
Gross profit .....................................   57.8     56.7     58.1

Selling, marketing and distribution expenses .....   45.9     47.0     48.1
General and administrative expenses ..............    5.5      5.7      6.1
                                                      ---      ---      ---
Total operating expenses .........................   51.4     52.8     54.3
                                                     ----     ----     ----
Income from operations ...........................    6.5%     4.0%     3.9%


<PAGE>


YEARS ENDED DECEMBER 31, 1997 AND 1996

         NET  SALES.  Net sales  consist  of sales  from the  Company's  stores,
catalog,  and wholesale accounts,  all net of returns and allowances.  Net sales
increased to $86.2  million in 1997 from $68.7  million for 1996, an increase of
$17.5  million,  or 25.5%.  Of the $17.5  million  increase,  $13.4  million was
attributable to stores not yet qualifying as comparable  stores and $3.8 million
came from the 6.5% comparable store sales increase for the period. Additionally,
non-retail  sales  increased by $0.3  million for the year.  The increase in net
sales in 1997 was  primarily  attributable  to continued  improvements  in store
operations and the Company's merchandise assortments and in-stock positions as a
result of better utilization of the merchandise planning and allocation systems.
In  particular,  continued  strong growth in the Company's  recently  introduced
categories of children's, Big and Tall and non-apparel products increased to 41%
of total retail net sales from 34% of net sales in 1996.

         GROSS  PROFIT.  Gross profit  increased  to $49.9  million in 1997 from
$39.0 million for 1996, an increase of $10.9 million,  or 27.9%. As a percentage
of net sales,  gross profit  increased to 57.8% in 1997 from 56.7% in 1996. This
increase  as a  percentage  of net sales was  primarily  attributable  to better
sourcing of certain key products.  Also contributing to the percentage  increase
were continued improvements in merchandising,  planning and allocation which led
to better product sell-throughs and less markdowns in the fourth quarter 1997 as
compared to the same period in 1996.

         SELLING,  MARKETING AND DISTRIBUTION EXPENSES.  Selling,  marketing and
distribution   expenses   consist  of   expenses   associated   with   creating,
distributing,  and  selling  products  through  all  channels  of  distribution,
including  occupancy,   payroll  and  catalog  costs.  Selling,   marketing  and
distribution  expenses  increased to $39.5 million in 1997 from $32.3 million in
1996, an increase of $7.2 million, or 22.3%. As a percentage of net sales, these
expenses decreased to 45.9% in 1997 from 47.0% in 1996, primarily as a result of
operational  efficiencies  gained from previous  infrastructure  investments and
spreading them over a larger revenue base.

         GENERAL  AND  ADMINISTRATIVE   EXPENSES.   General  and  administrative
expenses consist of administrative salaries, corporate occupancy costs and other
corporate  expenses.  General  and  administrative  expenses  increased  to $4.7
million in 1997 from $3.9 million in 1996. As a percentage  of net sales,  these
expenses decreased to 5.5% in 1997 from 5.7% in 1996, reflecting the leverage of
spreading them over a larger revenue base.

         INTEREST  EXPENSE,  NET.  Interest  expense,  net of  $0.2  million  of
interest income in 1997,  decreased to $1.3 million in 1997 from $1.6 million in
1996,  a  decrease  of  $0.3  million.  The  decrease  is due to the  payoff  of
indebtedness  from a portion of the proceeds from the Company's  initial  public
offering in September 1997.

YEARS ENDED DECEMBER 31, 1996 AND 1995

         NET  SALES.  Net sales  increased  to $68.7  million in 1996 from $51.5
million in 1995, an increase of $17.1  million,  or 33.3%.  Of the $17.1 million
increase,  $19.6  million  was  attributable  to stores  not yet  qualifying  as
comparable stores and $1.2 million was attributable to the 3.2% comparable store
sales  increase  for the period.  These  increases  were  partially  offset by a
decline  of $3.7  million  in  non-retail  sales  as a result  of the  Company's
streamlining of its catalog and wholesale operations which it initiated with the
objectives of improving  their  profitability  and  positioning  them for future
growth.  Comparable store sales increased in the fall and holiday periods, which
management believes was primarily a result of fundamental  improvements in store
operations.  These improvements include integration of newly recruited executive
management in merchandising,  store operations and distribution,  utilization of
the  new  computer  system  to  improve  merchandising   decisions  and  product
allocation and improvements in warehouse operations. Comparable store sales also
increased  as a result  of the  continued  growth of the  three  relatively  new
product  lines  (children's,  Big and Tall  and  non-apparel  products)  and new
promotional techniques.


<PAGE>


         GROSS  PROFIT.  Gross profit  increased  to $39.0  million in 1996 from
$30.0  million in 1995,  an increase of $9.0 million,  or 30.0%.  However,  as a
percentage of net sales,  gross profit  decreased to 56.7% in 1996 from 58.1% in
1995.  This decline in gross  profit as a  percentage  of net sales is primarily
attributable  to  certain  inefficiencies  throughout  the year  related  to the
integration  of the new  merchandising  information  system.  In  addition,  the
Company  experienced  lower than  expected  retail gross  profit  margins in the
fourth  quarter of 1996 due to product mix and  out-of-stock  issues in December
related to better than expected sell-throughs in October and November.

         SELLING,  MARKETING AND DISTRIBUTION EXPENSES.  Selling,  marketing and
distribution  expenses  increased to $32.3 million in 1996 from $24.8 million in
1995, an increase of $7.5 million, or 30.2%. As a percentage of net sales, these
expenses  decreased  to 47.0% in 1996  from  48.1% in  1995.  This  decrease  in
operating  expenses as a percentage of net sales was primarily  attributable  to
the Company's decision to streamline its catalog  operations.  This decrease was
offset in part by higher  occupancy  costs and payroll  costs as a percentage of
net sales related primarily to the timing of new store openings.

         GENERAL  AND  ADMINISTRATIVE   EXPENSES.   General  and  administrative
expenses  increased  to $3.9  million  in 1996 from  $3.2  million  in 1995,  an
increase of $0.8 million or 24.3%. As a percentage of net sales,  these expenses
decreased  to  5.7% in 1996  from  6.1% in  1995,  reflecting  the  leverage  of
spreading these expenses over a larger revenue base.

         INTEREST  EXPENSE,  NET.  Interest expense increased to $1.6 million in
1996 from $1.2 million in 1995,  an increase of $0.4  million,  as a result of a
$6.1 million increase in the amount of subordinated notes outstanding during the
year and increased borrowings under the Company's revolving credit facility.

         PROVISION FOR INCOME TAXES. The effective tax rate in 1996 was 40.7% as
compared to 20.3% in 1995.  The lower  effective  tax rate in 1995 was primarily
attributable   to  the   utilization   of   alternative   minimum   tax   credit
carry-forwards.  As of December 31, 1995, the Company had fully utilized its net
operating loss carryforwards.

SEASONALITY AND QUARTERLY RESULTS

         The Company  believes its  seasonality is somewhat  different than many
apparel retailers since a significant number of the Company's stores are located
in tourist areas and outdoor malls that have different  visitation patterns than
urban and suburban retail centers.  The third and fourth quarters (consisting of
the summer vacation,  back-to-school  and Christmas  seasons) have  historically
accounted  for the  largest  percentage  of the  Company's  annual net sales and
profits. In 1997,  excluding sales generated by stores not open for all of 1997,
substantially  all the Company's  operating income and approximately 28% and 36%
of the Company's net sales were generated  during the third and fourth quarters,
respectively.  In  addition,  the Company has  historically  incurred  operating
losses in its first  quarter  and  anticipates  that it will  continue  to do so
during the first quarter of each year for the foreseeable future.

         The Company's  quarterly  results of operations may also fluctuate as a
result of a variety of  factors,  including  the timing of store  openings,  the
amount of revenue contributed by new stores,  changes in comparable store sales,
changes in the mix of products sold,  customer  acceptance of new products,  the
timing  and  level  of  markdowns,  competitive  factors  and  general  economic
conditions.


<PAGE>


         The  following  table sets forth certain data for each of the Company's
last eight fiscal quarters. The quarterly data set forth below were derived from
unaudited consolidated financial statements of the Company, which in the opinion
of management of the Company contain all adjustments  (consisting only of normal
adjustments) necessary for a fair presentation of such data.
<TABLE>
<CAPTION>

                                                           1996                                              1997
                                      ---------------------------------------------  ----------------------------------------------
                                        FIRST      SECOND       THIRD      FOURTH       FIRST      SECOND       THIRD      FOURTH
                                         QTR.       QTR.         QTR.        QTR.        QTR.        QTR.        QTR.        QTR.
                                         ----       ----         ----        ----        ----        ----        ----        ----
                                                             (in thousands, except per share and operating data)
<S>                                   <C>         <C>         <C>         <C>         <C>         <C>         <C>         <C>
STATEMENT OF OPERATIONS DATA:

Net sales .........................   $  9,131    $ 15,220    $ 19,652    $ 24,680    $ 12,265    $ 18,878    $ 24,129    $ 30,909
Gross profit ......................      4,812       8,922      11,311      13,918       6,670      11,265      14,107      17,811
Selling, marketing and distribution      6,091       7,594       8,631       9,993       8,454       9,310       9,879      11,906
expenses
General and administrative expenses        979         997         976         985       1,035       1,076       1,118       1,509
Total operating expenses ..........      7,070       8,591       9,607      10,978       9,489      10,386      10,997      13,415
Income (loss) from operations .....     (2,258)        331       1,704       2,940      (2,819)        879       3,110       4,396
Net income (loss) .................     (1,522)        (18)        755       1,420      (2,031)        228       1,607       2,861
Net income (loss) per share
     Basic and Diluted ............   $  (0.16)   $  (0.00)   $   0.07    $   0.14    $  (0.20)   $   0.02    $   0.14    $   0.22
Weighted average shares outstanding
     Basic ........................      9,734       9,863      10,101      10,211      10,161      10,161      10,355      13,157
     Diluted ......................      9,734       9,863      10,138      10,420      10,161      10,421      10,652      13,271

AS A PERCENTAGE OF NET SALES:
Gross profit ......................       52.7%       58.6%       57.6%       56.4%       54.4%       59.7%       58.5%       57.6%
Sellings, marketing and ...........       66.7        49.9        43.9        40.5        68.9        49.3        40.9        38.5
distribution expenses
General and administrative expenses       10.7         6.6         5.0         4.0         8.4         5.7         4.6         4.9
Total operating expenses ..........       77.4        56.4        48.9        44.5        77.4        55.0        45.6        43.4
Income (loss) from operations .....      (24.7)        2.2         8.7        11.9       (23.0)        4.7        12.9        14.2
Net income (loss) .................      (16.7)       (0.1)        3.8         5.8       (16.6)        1.2         6.7         9.3

OPERATING DATA:
Comparable store sales (decrease) .       (6.2)%      (3.8%)      (2.8%)      16.1%       16.4%        5.5%        5.2%        4.9%
increase
Stores open at end of period ......         95         105         113         121         121         132         139         150
</TABLE>


         LIQUIDITY AND CAPITAL RESOURCES

         During the last three years,  the  Company's  primary uses of cash have
been to finance store openings and purchase merchandise inventories. The Company
has satisfied its cash  requirements  principally from proceeds from the sale of
debt and equity  securities,  including its initial public offering in September
1997,  a  revolving  line of  credit  with its bank and in 1997  cash  flow from
operations.

         The  Company  completed  its  initial  public  offering  of  shares  in
September  1997,  and  received  net proceeds of  approximately  $35.6  million.
Approximately  $21.5 million of the net proceeds were used to repay subordinated
debt,  short-term  borrowings and capital lease obligations.  Remaining proceeds
were used for general  corporate  purposes and to increase working capital,  and
the Company expects to use certain of the proceeds to finance store openings and
remodeling  in 1998.  Also,  in the first  quarter of 1998 the Company  Board of
Directors  authorized  to the  Company to  repurchase  up to $10  million of its
common stock. The shares repurchased will be used by the Company in its employee
stock option programs  covering  future option grants and for general  corporate
purposes.

         Cash flows  (used in)  provided  by  operating  activities  were ($1.8)
million and $7.3 million in 1996 and 1997, respectively. Inventories at December
31, 1997 were $16.7  million  compared to $15.4 million at December 31, 1996, an
increase of $1.3 million.  The Company's average inventories vary throughout the
year and  increase  in advance of its peak  selling  periods  during the summer,
back-to-school   and  Christmas   seasons.   The  increase  in   inventories  is
attributable  to opening 29 net new stores in 1997.  The  increase  in  accounts
payable is directly  attributable to the increase in  inventories.  In addition,
the Company believes that it has generally  negotiated  favorable terms with its
overseas vendors,  who in many instances allow the Company to pay for goods when
received rather than post letters of credit in advance.

         Cash used in  investment  activities  in 1997 and 1996 was $5.3 million
and $3.5 million,  respectively.  Cash flows used in investing activities relate
primarily to new store openings,  retrofitting of existing stores,  new fixtures
and the acquisition and implementation of a new computer system in 1996.

         Cash  provided  by  financing  activities  in 1997 and  1996 was  $20.8
million and $5.2 million,  respectively.  In February 1996, the Company received
net proceeds of $2.5 million from the sale of 10% subordinated  notes and Common
Stock. In November 1996, the Company  received net proceeds of $4.2 million from
the sale of 10%  subordinated  notes and warrants to purchase  Common Stock.  In
September  1997,  the Company  received  approximately  $35.6  million  from its
initial public  offering and net proceeds of $723,000 from the exercise of stock
options and warrants.

         The Company has a revolving credit facility with a bank that expires in
May 1998, which the Company expects to extend on comparable terms. The revolving
credit facility provides for a $3.0 million revolving line of credit that can be
used for cash  advances  and letters of credit.  Interest on advances  under the
revolving  credit  facility is payable monthly at the bank's prime rate (8.5% at
December 31,  1997).  As of December  31, 1997,  the Company had no advances and
$0.6 million of letters of credit  outstanding.  This facility is collateralized
by  substantially  all the  assets of the  Company  and  subjects  it to various
restrictive  covenants,  including  maintenance of minimum  working  capital and
tangible net worth levels,  limitations on indebtedness and a prohibition on the
payment of dividends.

         The Company plans to open  approximately 35 net new stores in 1998. The
Company's average cost to open a store in 1997, including leasehold improvements
and furniture and fixtures, was approximately $70,000 (net of tenant improvement
allowances).  The average per store  initial  inventory  (partially  financed by
trade  payables)  for  the  new  1997  stores  was  approximately   $69,000  and
pre-opening expenses averaged approximately $15,000 per store. The average total
cost to build new stores will vary in the future,  depending on various factors,
including local  construction  expenses,  changes in store format and design and
tenant improvement  allowances.  In addition to new store openings,  the Company
retrofitted 61 stores in 1997 at an average cost of $17,000 per store.

         The Company believes that its existing cash balances and cash generated
from operations will be sufficient to fund its operations and planned  expansion
through 1998.

YEAR 2000

         The Company has  conducted a review of its computer  systems to address
the  implications  of  the  Year  2000  compliance.  The  Company  is  currently
developing an  implementation  plan to accomplish  these  objectives.  Year 2000
compliance  refers to the  inability  of certain  computer  systems to recognize
dates  commencing  on January 1,  2000.  Such  inability  has the  potential  to
materially  adversely  affect the  operation  of computer  systems.  The Company
currently  believes that by upgrading  existing  software and  converting to new
software  for certain  tasks,  Year 2000  compliance  will not pose  significant
operations  problems  and is not  anticipated  to be material  to its  financial
position or results of  operations in any given year.  However,  there can be no
assurance that the systems of other companies on which the Company may rely will
be timely  converted or that the failure to convert by another company would not
have an  adverse  effect  on the  Company.  At the  present  time,  the  Company
estimates that the incremental cash requirements  related to system upgrades and
Year 2000 compliance will not be material.
Such expenditures will be expensed or capitalized as appropriate.


<PAGE>


INFLATION

         The Company does not believe that  inflation has had a material  effect
on  operations  in the past year.  However,  there can be no assurance  that the
Company's business will not be affected by inflation in the future.

ITEM 8.           FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         See "Index to  Consolidated  Financial  Statements" at Item 14(a) for a
listing of the consolidated financial statements filed as part of this report.

ITEM 9.           CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
                  AND FINANCIAL DISCLOSURE
         None.
                                                     PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

         See the section entitled "Executive  Officers" in Part I, Item 1 hereof
for information regarding the executive officers. Other information with respect
to this item is incorporated by reference from the registrant's definitive proxy
statement to be filed with the  Commission not later than 120 days after the end
of the registrant's fiscal year.

ITEM 11. EXECUTIVE COMPENSATION

         Information with respect to this item is incorporated by reference from
the registrant's  definitive proxy statement to be filed with the Commission not
later than 120 days after the end of the registrant's fiscal year.

ITEM 12  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

         Information with respect to this item is incorporated by reference from
the registrant's  definitive proxy statement to be filed with the Commission not
later than 120 days after the end of the registrant's fiscal year.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         Information with respect to this item is incorporated by reference from
the registrant's  definitive proxy statement to be filed with the Commission not
later than 120 days after the end of the registrant's fiscal year.

                                                      PART IV

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

(a)      1. The  financial  statements  listed  in the  "Index  to  Consolidated
                  Financial Statements" at page F-1 are filed as a part of this
                  report.

         2.       Financial statement schedules are omitted because they are not
                  applicable  or  the  required  information  is  shown  in  the
                  financial statements or notes thereto.

         3.       Exhibits  included  or  incorporated  herein:  See  "Index  to
                  Exhibits".

(b)               Reports on Form 8-K.

                  There  were no  reports  on Form  8-K  filed  during  the last
                  quarter of the fiscal year covered by this report.


<PAGE>


                                                    SIGNATURES

         Pursuant to the  requirements  of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
March 25, 1998 on its behalf by the undersigned, thereunto duly authorized.

                                                          BIG DOG HOLDINGS, INC.

                                                       By /s/ ANDREW D. FESHBACH
                                                              Andrew D. Feshbach
                                           Chief Executive Officer and President

         Each person whose signature  appears below hereby  authorizes Andrew D.
Feshbach and Anthony J. Wall or either of them, as  attorneys-in-fact to sign on
his behalf,  individually,  and in each  capacity  stated  below and to file all
amendments and/or supplements to the Annual Report on Form 10-K.

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

SIGNATURE                       TITLE                                                         DATE
---------                       -----                                                         ----
<S>                            <C>                                                        <C>
/s/ ANDREW D. FESHBACH         Chief Executive Officer, President and Director            March 25, 1998
----------------------         (Principal Executive Officer)
Andrew D. Feshbach

/s/ ROBERTA J. MORRIS          Chief Financial Officer, Treasurer and Assistant           March 25, 1998
---------------------          Secretary (Principal Financial and Accounting
Roberta J. Morris              Officer)

/s/ FRED KAYNE                 Chairman of the Board                                      March 25, 1998
--------------
Fred Kayne

/s/ STEVEN C. GOOD             Director                                                   March 25, 1998
------------------
Steven C. Good

/s/ ROBERT H. SCHNELL          Director                                                   March 25, 1998
---------------------
Robert H. Schnell

/s/ KENNETH A. SOLOMON         Director                                                   March 25, 1998
----------------------
Kenneth A. Solomon

/s/ DAVID J. WALSH             Director                                                   March 25, 1998
------------------
David J. Walsh
</TABLE>



<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

                          INDEX TO FINANCIAL STATEMENTS

                  YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>


                                                                                   PAGE
                                                                                 --------
<S>                                                                                 <C>
Independent Auditors' Report ....................................................   F-2

Consolidated Balance Sheets as of December 31, 1997 and 1996 ....................   F-3

Consolidated Statements of Operations for the years ended December 31, 1997, 1996
     and 1995 ...................................................................   F-4

Consolidated Statements of Stockholders' Equity for the years ended December 31,
     1997, 1996 and 1995 ........................................................   F-5

Consolidated Statements of Cash Flows for the years ended December 31, 1997,
     1996 and 1995 ..............................................................   F-6

Notes to the Consolidated Financial Statements ..................................   F-7
</TABLE>

























F-1


<PAGE>


                          INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Stockholders of Big Dog Holdings, Inc.:

         We have audited the accompanying consolidated balance sheets of Big Dog
Holdings,  Inc. and subsidiary (the "Company") as of December 31, 1997 and 1996,
and the related consolidated statements of operations, stockholders' equity, and
cash flows for each of the three years in the period  ended  December  31, 1997.
These financial  statements are the responsibility of the Company's  management.
Our responsibility is to express an opinion on these financial  statements based
on our audits.

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

         In our opinion, such consolidated  financial statements present fairly,
in all material  respects,  the financial position of the Company as of December
31, 1997 and 1996, and the results of its operations and its cash flows for each
of the three years in the period  ended  December  31, 1997 in  conformity  with
generally accepted accounting principles.

DELOITTE & TOUCHE LLP

Los Angeles, California
February 20, 1998
























F-2



<PAGE>

<TABLE>

                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

                           CONSOLIDATED BALANCE SHEETS

                                                                               DECEMBER 31,
                                                                               ------------
                                                                            1997          1996
                                                                            ----          ----
                                       ASSETS (NOTE 3)
<S>                                                                    <C>            <C>
CURRENT ASSETS:
  Cash and cash equivalents ........................................   $ 23,508,000   $   723,000
  Receivables:
    Trade, net .....................................................        457,000       353,000
    Other ..........................................................        294,000       617,000
  Inventories (Note 9) .............................................     16,714,000    15,403,000
  Prepaid expenses and other current assets ........................        744,000       478,000
  Deferred income taxes (Note 6) ...................................        144,000       144,000
                                                                            -------       -------
Total current assets ...............................................     41,861,000    17,718,000

PROPERTY AND EQUIPMENT, Net (Notes 2 and 5) ........................     10,232,000     7,445,000
INTANGIBLE ASSETS, Net (Note 1) ....................................        131,000       266,000
OTHER ASSETS (Note 1) ..............................................        360,000       344,000
                                                                       -------------  -----------
TOTAL ..............................................................   $ 52,584,000$   25,773,000
                                                                       =============  ===========

                                       LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
  Current portion of obligations under capital leases (Note 5) .....   $       --     $   530,000
  Accounts payable (Note 9) ........................................      2,767,000     1,235,000
  Income taxes payable (Note 6) ....................................      1,395,000       400,000
  Accrued expenses and other current liabilities (Note 4) ..........      2,231,000     1,811,000
                                                                          ---------     ---------
Total current liabilities ..........................................      6,393,000     3,976,000

DEFERRED RENT (Note 7) .............................................        650,000       488,000
OBLIGATIONS UNDER CAPITAL LEASES, Net of current portion (Note 5) ..           --         767,000
SUBORDINATED DEBT (Note 4) .........................................           --      14,400,000
                                                                          ----------   ----------
      Total liabilities ............................................      7,043,000    19,631,000
                                                                          ---------    ----------

COMMITMENTS AND CONTINGENCIES (Note 7)
STOCKHOLDERS' EQUITY (Notes 4 and 8):
  Preferred stock, $.01 par value, 3,000,000 shares authorized,
    none issued and outstanding ....................................   $       --     $      --
  Common stock $.01 par value,  30,000,000  shares  authorized,
    13,159,550  and 10,160,550 shares issued and outstanding at
    December 31, 1997 and 1996, respectively .......................        132,000       102,000
  Additional paid-in capital .......................................     42,224,000     5,705,000
  Retained earnings ................................................      3,732,000     1,067,000
  Notes receivable from common stockholders ........................       (547,000)     (732,000)
                                                                         ----------     ---------
      Total stockholders' equity ...................................     45,541,000     6,142,000
                                                                         ----------     ---------

TOTAL ..............................................................    $52,584,000   $25,773,000
                                                                        ===========   ===========

                 See notes to consolidated financial statements.
</TABLE>

F-3


<PAGE>


<TABLE>

                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

                      CONSOLIDATED STATEMENTS OF OPERATIONS


                                                                             YEARS ENDED
                                                                             DECEMBER 31,
                                                         -------------------------------------------------
                                                               1997             1996             1995
                                                         --------------   --------------    --------------

<S>             <C>                                         <C>              <C>               <C>
NET SALES (Note 9) ...................................      $86,181,000      $68,683,000       $51,541,000
COST OF GOODS SOLD (Note 9) ..........................       36,328,000       29,720,000        21,571,000
                                                         --------------   --------------    --------------
GROSS PROFIT .........................................       49,853,000       38,963,000        29,970,000
                                                         --------------   --------------    --------------
OPERATING EXPENSES:
  Selling, marketing and distribution (Note 1)               39,549,000       32,309,000        24,814,000
  General and administrative (Note 9) ................        4,738,000        3,937,000         3,167,000
                                                          -------------    -------------     -------------
    Total operating expenses .........................       44,287,000       36,246,000        27,981,000
                                                          -------------    -------------     -------------
INCOME FROM OPERATIONS ...............................        5,566,000        2,717,000         1,989,000
INTEREST EXPENSE, NET (Notes 3, 4,
  and 5) .............................................        1,268,000        1,647,000         1,189,000
                                                          -------------    -------------     -------------
INCOME BEFORE PROVISION FOR INCOME
  TAXES ..............................................        4,298,000        1,070,000           800,000

PROVISION FOR INCOME TAXES (Note 6)                           1,633,000          435,000           162,000
                                                            -----------      -----------       -----------
NET INCOME ...........................................      $ 2,665,000      $   635,000       $   638,000
                                                            ===========      ===========       ===========

NET INCOME PER SHARE (Note 1)
  BASIC AND DILUTED ..................................      $      0.24      $      0.06       $      0.07
                                                            ===========      ===========       ===========
</TABLE>





                See notes to consolidated financial statements.

F-4


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

<TABLE>

                                                                                               NOTES
                                            COMMON STOCK        ADDITIONAL     RETAINED      RECEIVABLE
                                                                 PAID-IN       EARNINGS     FROM COMMON
                                         SHARES       AMOUNT     CAPITAL       (DEFICIT)    STOCKHOLDERS          TOTAL
                                       ---------   ---------   -----------   ------------   ------------       -----------
<S>                                   <C>          <C>         <C>           <C>             <C>              <C>
BALANCE, JANUARY 1, 1995............   9,000,000   $  90,000   $ 3,210,000   $  (206,000)         --          $ 3,094,000
  Common stock issued (Note 4)           670,000       7,000       998,000          --            --            1,005,000
  Net income .......................        --          --            --         638,000          --              638,000
                                      -----------  ----------  ------------  ------------   ------------      ------------
BALANCE, DECEMBER 31, 1995             9,670,000      97,000     4,208,000       432,000          --            4,737,000
  Common stock issued
    (Notes 4 and 8) ................     540,550       5,000     1,395,000          --       $ (855,000)          545,000
  Warrants issued (Note 4) .........        --          --         240,000          --            --              240,000
  Repurchased common stock
    (Note 8) .......................     (50,000)       --        (138,000)         --          123,000           (15,000)
  Net income .......................        --          --            --         635,000          --              635,000
                                      -----------  ----------  ------------  ------------   ------------      ------------

BALANCE, DECEMBER 31, 1996            10,160,550     102,000     5,705,000     1,067,000       (732,000)        6,142,000
  Common stock issued ..............   2,800,000      28,000    35,548,000          --            --           35,576,000
  Options exercised ................      55,000       1,000       170,000          --            --              171,000
  Warrants exercised ...............     144,000       1,000       551,000          --            --              552,000
  Collections of notes receivable ..        --          --            --            --          185,000           185,000

Tax benefits related to exercise
    of stock options (Note 8) ......        --          --         250,000          --            --              250,000
  Net Income .......................        --          --            --       2,665,000          --            2,665,000
                                     -----------   ---------   -----------   -----------    ------------      ------------
BALANCE, DECEMBER 31, 1997            13,159,550   $ 132,000   $42,224,000   $ 3,732,000     $ (547,000)      $45,541,000
                                     ===========   =========   ===========   ===========    ============      ============
</TABLE>













                See notes to consolidated financial statements.

F-5


<PAGE>


                                       BIG DOG HOLDINGS, INC. AND SUBSIDIARY
                                       CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>

                                                                       YEARS ENDED DECEMBER 31
                                                                ------------------------------------
                                                                    1997       1996         1995
                                                                ----------- ----------- ------------
<S>                                                             <C>         <C>           <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
  Net income ................................................   $2,665,000  $   635,000   $  638,000
  Adjustments  to  reconcile  net  income  to net cash
    provided  by  (used  in) operating activities:
    Depreciation and amortization ...........................    2,620,000    1,931,000    1,059,000
    Provision for losses on receivables .....................       25,000      174,000       57,000
    Loss on disposition of property and equipment ...........       37,000       35,000         --
    Deferred income taxes ...................................         --         80,000     (224,000)
    Changes in operating assets and liabilities:
      Receivables ...........................................      194,000     (387,000)     327,000
      Inventories ...........................................   (1,311,000)  (4,577,000)  (2,980,000)
      Prepaid expenses and other assets .....................     (266,000)     (45,000)    (225,000)
      Accounts payable ......................................    1,532,000     (641,000)  (1,463,000)
      Income taxes payable ..................................    1,245,000       35,000      360,000
      Accrued expenses and other current liabilities ........      420,000      740,000        2,000
      Deferred rent .........................................      162,000      258,000      230,000
                                                               ------------ ------------ ------------
        Net cash provided by (used in) operating activities..    7,323,000   (1,762,000)  (2,219,000)
                                                               ------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
  Capital expenditures ......................................   (5,285,000)  (3,377,000)  (2,346,000)
  Other .....................................................      (23,000)    (108,000)     (18,000)
                                                               ------------ ------------ ------------
        Net cash used in investing activities ...............   (5,308,000)  (3,485,000)  (2,364,000)
                                                               ------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
  Proceeds from issuance of common stock ....................   35,576,000      545,000    1,005,000
  Repurchase of common stock ................................         --        (15,000)        --
  Proceeds from issuance of warrants ........................         --        114,000
  Proceeds from exercise of options .........................      171,000         --           --
  Proceeds from exercise of warrants ........................      552,000         --           --
  Collection of notes receivable ............................      185,000
  Proceeds from subordinated debt ...........................         --      7,900,000    8,270,000
  Principal repayments of subordinated debt .................  (14,400,000)  (1,774,000)  (3,500,000)
  Principal repayments under capital lease obligations ......   (1,314,000)    (344,000)
      --
  Short-term borrowings, net ................................        --      (1,225,000)  (1,286,000)
                                                               ------------ ------------ ------------
        Net cash provided by financing activities ...........   20,770,000    5,201,000    4,489,000
                                                               ------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS            22,785,000      (46,000)     (94,000)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR ................      723,000      769,000      863,000
                                                               ------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF YEAR.... ..................  $23,508,000  $   723,000   $  769,000
                                                               ============ ============ ============

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
  Cash paid for:
    Interest ................................................  $ 1,659,000   $1,521,000   $1,225,000
    Income taxes ...........................................  $    388,000   $  367,000   $   42,000
</TABLE>

SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES:
The Company  entered into capital lease  obligations of $18,000,  $533,000,  and
$1,108,000 for equipment for the years ended 1997, 1996, and 1995,  respectively
(see Note 5).

In 1997 the  Company  recorded  an increase  to  additional  paid-in-capital  of
$250,000  related to tax benefits  associated with the exercise of non-qualified
stock options (see Note 8).

In 1996, the Company refinanced  $138,000 of capital lease obligations (see Note
5).

In 1996, a stockholder  converted $2,226,000 of short-term  subordinated debt to
$2,100,000 of long-term subordinated debt and warrants valued at $126,000.

In July 1996,  certain key employees and other  individuals  issued  $855,000 of
long-term notes  receivable to the Company as payment for common stock (see Note
8).

In December  1996,  the Company  repurchased  50,000  shares of common stock for
$138,000,  $123,000 of which was by the  retirement of a related  long-term note
receivable (see Note 8).
                See notes to consolidated financial statements.

F-6


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION AND BUSINESS

     The  consolidated  financial  statements  include  the  accounts of Big Dog
Holdings,  Inc.  and its  wholly  owned  subsidiary,  Big  Dog  USA,  Inc.  (the
"Company").  All significant  intercompany  accounts and transactions  have been
eliminated.

         The Company principally develops and markets apparel and other consumer
products  through  Company-operated  retail  stores,  wholesale  accounts  and a
catalog.

         On  September  25,  1997,  the  Company's  $56,000,000  initial  public
offering of  4,000,000  shares of common  stock at $14.00 per share was declared
effective (the "Offering").  Of the 4,000,000 shares, the Company sold 2,800,000
shares and  certain  stockholders  sold  1,200,000  shares.  The  Company's  net
proceeds, after underwriting discounts and expenses associated with the offering
were approximately $35,600,000.

USE OF ESTIMATES

         The  preparation of financial  statements in conformity  with generally
accepted  accounting  principles  requires  management  to  make  estimates  and
assumptions  that  affect the  reported  amounts of assets and  liabilities  and
disclosure of  contingent  assets and  liabilities  at the date of the financial
statements  and the  reported  amounts  of  revenues  and  expenses  during  the
reporting period. Actual results could differ from those estimates.

CONCENTRATION OF CREDIT RISK

         The Company has cash on deposit  with a high credit  quality  financial
institution  which is in excess of the  Federal  Deposit  Insurance  Corporation
limit.

FAIR VALUE OF FINANCIAL INSTRUMENTS

         The  estimated  fair  values  of  receivables   and  accounts   payable
approximate  their carrying  values because of the short-term  maturity of these
instruments  or the stated  interest  rates are  indicative  of market  interest
rates. A reasonable  estimate of fair value is not practicable for  subordinated
debt due to the limited availability of similar financing.

CASH & CASH EQUIVALENTS

         The Company considers all highly liquid  investments with a maturity of
less than three months when purchased to be cash equivalents.

INVENTORIES

         Inventories,  consisting substantially of finished goods, are stated at
the lower of cost (first-in, first-out method) or market.




F-7


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

PROPERTY AND EQUIPMENT

         Property and  equipment  are stated at cost and  depreciated  using the
straight-line  method over their estimated useful lives, ranging from two to ten
years.   Amortization   of  leasehold   improvements   is  computed   using  the
straight-line  method based upon the life of the  improvement or the term of the
lease, whichever is shorter.

INTANGIBLE ASSETS

         Intangible   assets  are  stated  at  cost  and  amortized   using  the
straight-line method over five years.  Accumulated amortization was $534,000 and
$393,000, at December 31, 1997 and 1996, respectively.

OTHER ASSETS

         Other  assets  include  long-term  deposits of $353,000 and $293,000 at
December  31, 1997 and 1996,  respectively,  which  relate  primarily  to leased
facilities, including retail stores.

IMPAIRMENT OF LONG-LIVED ASSETS

         The Company  evaluates  the  carrying  value of  long-lived  assets for
impairment  whenever  events  or  changes  in  circumstances  indicate  that the
carrying value of such assets may not be  recoverable.  If the estimated  future
cash flows  (undiscounted and without interest charges) from the use of an asset
are less than the carrying  value, a write-down  would be recorded to reduce the
related asset to its estimated fair value.

SELLING, MARKETING AND DISTRIBUTION EXPENSES

         Included in this classification are approximately  $547,000,  $439,000,
$640,000 in 1997, 1996 and 1995,  respectively,  of store  preopening  expenses,
which are expensed as incurred.

INCOME TAXES

         Deferred  income taxes  reflect the income tax effects of (a) temporary
differences between the carrying amounts of assets and liabilities for financial
reporting  purposes  and the  amounts  used for  income  tax  purposes,  (b) net
operating loss and tax credit carryforwards,  and (c) valuation allowances, when
necessary,  to reduce  deferred  income tax assets to the amount  expected to be
realized (see Note 6).










F-8


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

EARNINGS PER SHARE

         The  Company  adopted  Statement  of  Financial   Accounting  Standards
("SFAS") No. 128,  "Earnings Per Share",  for the year ended  December 31, 1997.
SFAS No. 128  requires  the Company to present  basic and diluted  earnings  per
share  on the  face  of the  income  statement.  Basic  earnings  per  share  is
calculated based on the weighted average number of shares  outstanding.  Diluted
earnings  per  share is  calculated  based on the same  number  of  shares  plus
additional  shares  representing  stock  distributable  under  stock-based plans
computed using the treasury stock method.  The weighted average number of shares
outstanding used to compute basic earnings per share were 10,965,000,  9,978,000
and  9,503,000  for  the  years  ended   December  31,  1997,   1996  and  1995,
respectively,  and for  computing  diluted  earnings per share were  11,187,000,
10,049,000 and 9,503,000 for the same respective years. The following reconciles
the numerator and  denominator of the basic and diluted  per-share  computations
for net income:
<TABLE>
                                                                              YEAR ENDED DECEMBER 31,
                                                                              -----------------------
                                                                        1997          1996        1995
                                                                    ------------ ------------ ------------
<S>                                                                  <C>         <C>          <C>
Net income ......................................................    $2,665,000  $   635,000  $   638,000
Basic Weighted Average Shares:                                      ============ ============ ============
  Weighted average number of shares outstanding .................    10,965,000    9,978,000    9,503,000
Effect of Dilutive Securities:
   Options and warrants .........................................       222,000       71,000         --
                                                                    ------------ ------------ ------------
Diluted Weighted Average Shares:
  Weighted average number of shares outstanding and common
    share equivalents ............................................   11,187,000   10,049,000    9,503,000
                                                                    ============ ============ ============
</TABLE>

RECENTLY ISSUED ACCOUNTING STANDARDS

         In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an  Enterprise  and  Related  Information,"  which  redefines  how  operating
segments  are  determined  and  requires  disclosure  of certain  financial  and
descriptive  information about a company's operating  segments.  SFAS No. 131 is
effective for financial  statements  issued for periods beginning after December
15, 1997.  The Company has determined the adoption of SFAS No. 131 will not have
a material impact on the financial statements.

2.  PROPERTY AND EQUIPMENT

Property and equipment consist of the following:
                                                            DECEMBER 31,
                                                            ------------
                                                          1997          1996
                                                      ------------  -----------
Leasehold improvements ............................   $ 5,866,000   $ 3,926,000
  Equipment and fixtures (Note 5) .................     9,792,000     6,548,000
                                                      ------------  -----------

                                                       15,658,000    10,474,000
  Less accumulated depreciation and
    amortization ..................................    (5,426,000)   (3,029,000)
                                                      ------------  ------------
  Property and equipment, net .....................   $10,232,000   $ 7,445,000
                                                      ============  ===========

F-9


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2.  PROPERTY AND EQUIPMENT (CONTINUED)

         Depreciation and amortization expense on property and equipment totaled
$2,479,000, $1,794,000, $932,000 in 1997, 1996 and 1995, respectively.

3.  SHORT-TERM BORROWINGS

         The Company has a line of credit  arrangement  with a bank  whereby the
Company  may borrow up to  $3,000,000  as cash  advances  and letters of credit.
There were no outstanding balances on the line of credit as of December 31, 1997
and 1996,  respectively.  The line of credit  currently  bears  interest  at the
bank's prime  lending rate,  expires on May 2, 1998,  and is  collateralized  by
substantially all assets of the Company. The short-term borrowings bore interest
at the rate of 8.5% and 8.75% at December 31, 1997 and 1996, respectively.

         This  credit  arrangement   contains  various  restrictive   covenants,
including  maintenance of minimum  working capital and tangible net worth levels
and  limitations  on  indebtedness.  The credit  arrangement  also prohibits the
payment of dividends by the Company. The Company was in compliance with all debt
covenants as of December 31, 1997.

         The Company has commitments under letters of credit totaling  $551,000,
at December 31, 1997. The letters of credit expire through May 1, 1998.

4.  SUBORDINATED DEBT

         In April 1995, the Company completed a private placement of 67 units to
new investors,  each unit consisting of a $60,000  promissory  note,  which bore
interest at 10%, and 10,000 shares of common stock of Big Dog Holdings,  Inc. at
$1.50 per share. Proceeds from the offering,  totaling $5,025,000,  consisted of
$1,005,000  from the issuance of 670,000  shares of common stock and  $4,020,000
from the issuance of subordinated  notes. Of the proceeds  received,  $3,500,000
was used to repay certain  stockholder  notes  outstanding at December 31, 1994.
The notes  were due at the  earlier of April 3, 2002 or the  consummation  of an
initial  public  offering.  Upon  completion of the Offering,  the $4,020,000 of
subordinated  debt was repaid by the  Company.  During  1995,  the Company  also
issued  additional   subordinated  debt  to  an  existing  stockholder  totaling
$4,250,000 which was due in 1998 and bore interest at the rate of 10% per annum.
Upon completion of the Offering,  all of the above discussed  subordinated  debt
was repaid by the Company.

         In February 1996, the Company completed a private placement of 50 units
to  investors,  each unit  consisting  of a $40,000  promissory  note which bore
interest at 10%, and 3,861 shares of common stock of Big Dog  Holdings,  Inc. at
$2.59 per share. Proceeds from the offering,  totaling $2,500,000,  consisted of
$500,000 from the issuance of 193,050 shares of common stock and $2,000,000 from
the issuance of subordinated  notes.  The notes were due the earlier of November
4, 2003 or the  consummation of an initial public  offering.  Upon completion of
the Offering, the $2,000,000 of subordinated debt was repaid by the Company.







F-10


<PAGE>


                     BIG DOG HOLDINGS, INC. AND SUBSIDIARY
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

SUBORDINATED DEBT (CONTINUED)

         In November 1996, the Company  completed a private  placement of 10 "A"
units and 10 "B"  units to  investors.  Each "A" unit  consisted  of a  $200,000
promissory note, which bore interest at 10%, and 12,000 redeemable "A" warrants.
Each "B" unit consisted of a $200,000  promissory  note,  which bore interest at
10%, and 12,000 redeemable "B" warrants.  Each "A" warrant is exercisable at any
time for the  purchase of one share of the  Company's  common stock at $3.00 per
share. Each "B" warrant is exercisable at any time for the purchase of one share
of the Company's  common stock at $4.00 per share.  All warrants  expire in five
years from the date of grant. Proceeds from this offering,  totaling $4,240,000,
consisted of $240,000  from the issuance of 120,000 "A" warrants and 120,000 "B"
warrants and $4,000,000  from the issuance of  subordinated  debt.  During 1997,
24,000 "A" warrants and 120,000 "B" warrants were exercised.  Upon completion of
the Offering, the $4,000,000 of subordinated debt was repaid by the Company. The
Company may redeem all or part of any  unexercised  warrants at a price of $2.50
per warrant if the stock  trades at a price equal to or greater  than $21.00 per
share for a period of 20 out of 30 consecutive trading days.

         At December 31, 1996,  accrued  interest on the notes  discussed  above
totaled  $174,000.  Interest expense on these notes for the years ended December
31,  1997,  1996 and 1995  amounted  to  $1,077,000,  $1,535,000  and  $766,000,
respectively.

5.  OBLIGATIONS UNDER CAPITAL LEASES

         Upon  completion  of the  Offering,  the Company  paid off all existing
capital  leases.  At  December  31,  1996,  capital  lease  assets  and  related
accumulated  amortization included in property and equipment in the consolidated
balance sheets amounted to $1,988,000 and $415,000, respectively.

6.  INCOME TAXES

         Significant  components of the Company's net deferred income tax assets
are as follows:
<TABLE>

                                                                          DECEMBER 31,
                                                                    ------------------------
                                                                       1997           1996
                                                                    ----------     ---------
<S>                                                                 <C>           <C>
Deferred income tax assets:
  Allowance for doubtful receivables and sales returns ........     $  40,000     $  36,000
  Accrued vacation ............................................        30,000        34,000
  Inventory uniform capitalization ............................       324,000       302,000
  Intangible assets ...........................................       148,000       109,000
  State income taxes ..........................................        39,000        18,000
  Alternative minimum tax credits .............................        26,000        88,000
  Stockholders' accrued interest ..............................          --          67,000
  Other .......................................................        70,000          --
                                                                    ----------     ---------
Total deferred income tax assets ..............................       677,000       654,000
                                                                    ----------     ---------
Deferred income tax liabilities:
  Prepaid expenses ............................................       (92,000)      (59,000)
  Depreciation ................................................      (441,000)     (451,000)
                                                                    ----------     ---------
Total deferred income tax liabilities .........................      (533,000)     (510,000)
                                                                    ----------     ---------
Deferred income tax asset .....................................     $ 144,000     $ 144,000
                                                                    ==========     =========
</TABLE>

F-11

<PAGE>


                     BIG DOG HOLDINGS, INC. AND SUBSIDIARY
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

6.  INCOME TAXES  (CONTINUED)
<TABLE>
                                                              YEAR ENDED DECEMBER 31,
                                                   -----------------------------------------------
                                                       1997             1996               1995
                                                       ----             ----               ----
<S>                                                <C>                <C>              <C>
Current:
  Federal .......................................  $ 1,438,000        $ 321,000        $   324,000
  State .........................................      195,000           34,000             62,000
                                                   ------------       ----------        -----------
Total ...........................................    1,633,000          355,000            386,000
                                                   ------------       ----------        -----------
Deferred:
  Federal .......................................        5,000          102,000          (202,000)
  State .........................................       (5,000)         (22,000)          (22,000)
                                                   ------------       ----------        -----------
Total ...........................................         --             80,000          (224,000)
                                                   ------------       ----------        -----------
Total income tax provision ......................  $ 1,633,000        $ 435,000         $ 162,000
                                                   ============       ==========        ===========
</TABLE>

         The  Company's  effective  income  tax rate  differs  from the  federal
statutory income tax rate due to the following:

                                                     YEAR ENDED DECEMBER 31,

                                                1997      1996      1995
                                                ----      ----      ----
Federal statutory income tax rate ...........   34.0 %    34.0 %    34.0 %
State taxes, net of federal benefit .........    3.2       2.4       4.7
Use of net operating loss carryforwards .....               --      (5.0)
Alternative minimum credits .................               --     (15.6)
Other, net ..................................    0.8       4.3       2.2
                                               ------    ------    ------
Total .......................................   38.0 %    40.7 %    20.3 %
                                               ======    ======    ======

7.  COMMITMENTS AND CONTINGENCIES

LEASES

         The Company leases retail stores,  office buildings and warehouse space
under lease  agreements that expire through 2007.  Future minimum lease payments
under noncancelable operating leases are as follows:

YEARS ENDING DECEMBER 31,
-------------------------
1998 .....................................................  $12,366,000
1999 .....................................................   11,229,000
2000 .....................................................    9,442,000
2001 .....................................................    6,604,000
2002 .....................................................    3,812,000
Thereafter ...............................................    8,522,000
                                                            -----------
Total ....................................................  $51,975,000
                                                            ===========
F-12


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

7.  COMMITMENTS AND CONTINGENCIES (CONTINUED)

         The above amounts do not include  contingent  rentals based on sales in
excess of the stipulated minimum that may be paid under certain leases on retail
stores and common area charges.  Additionally,  certain  leases  contain  future
adjustments in rental payments based on changes in a specified  inflation index.
The  effective  annual rent  expense for the Company is the total rent paid over
the term of the  lease,  amortized  on a  straight-line  basis.  The  difference
between  the actual  rent  amount paid and the  effective  rent  recognized  for
financial statement purposes is reported as deferred rent.

         Rent  expense  for the years ended  December  31,  1997,  1996 and 1995
totaled  $11,333,000,  $8,431,000,  and $4,774,000,  respectively,  and includes
contingent  rentals  of  $149,000,  $79,000,  and  $49,000  for the years  ended
December 31, 1997, 1996 and 1995, respectively.

LITIGATION

         The Company is not involved in any legal proceedings other than certain
actions  arising in the ordinary  course of its  business.  While the outcome of
such proceedings and threatened  proceedings cannot be predicted with certainty,
in  the  opinion  of  management,  the  ultimate  resolution  of  these  matters
individually or in the aggregate will not have a material  adverse effect on the
Company's business, financial condition or results of operations.

STOCKHOLDERS' EQUITY

PREFERRED STOCK

         On August 1, 1997 the Board of  Directors  of the Company  approved the
authorization  of 3,000,000 shares of $0.01 par value preferred stock. No shares
of preferred stock have been issued as of December 31, 1997.

1996 STOCK INCENTIVE PLAN

         In July 1996,  the Company  issued 347,500 shares of common stock under
the 1996 Stock Incentive Plan (the "Plan").  The Plan authorized the issuance of
up to 500,000  shares of the  Company's  common stock to key employees and other
persons.  The shares were sold at $2.59 per share,  which the Board of Directors
determined to be at or above the fair market value, with proceeds to the Company
consisting of $45,000 in cash and the balance of $855,000 in full recourse notes
receivable.  The notes receivable are due ten years from their date of issuance,
bear  interest  at the rate of 7% per annum,  are  secured  by the common  stock
acquired  and  are  included  as a  component  of  stockholders'  equity  in the
consolidated financial statements. The Plan was terminated on December 31, 1996.

         The stock vests over a two-year  period,  with  one-third of the shares
vesting at the  purchase  date.  On December 31,  1996,  the Company  reacquired
50,000  shares at an average of $2.76 per share.  During  1997,  $185,000 of the
notes receivables were repaid to the Company.







F-13


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8.  STOCKHOLDERS' EQUITY (CONTINUED)

STOCK OPTIONS

         In March 1996, the Company issued a five-year option to its chairman to
acquire  35,000  shares of the  Company's  common stock at an exercise  price of
$2.59 per share.  In August 1996,  the Company  issued an  additional  five-year
option to the  chairman to acquire an  additional  20,000  shares at an exercise
price of $4.00. The exercise prices were determined by the board of directors to
be equal to or greater than the fair value of the Company's  common stock at the
date of grant.  During  1997,  these  options  were  exercised,  and the Company
recognized  tax  benefits  of  $250,000  resulting  from the  exercise  of these
non-qualified stock options which were recorded as additional paid-in capital in
the consolidated financial statements.

         In  January  1997,  the  Company  adopted  the 1997 Stock  Option  Plan
authorizing the issuance of nonqualified  stock options to directors,  officers,
employees,  consultants  and others to purchase  common stock at prices equal to
the fair value of the Company's shares at the grant dates. In 1997,  options for
92,500  shares were  granted at  exercise  prices from $5.00 to $7.50 per share.
Such options vest one-third  each year,  beginning one year after the grant date
and  expire ten years from the date of grant.  The 1997  Stock  Option  Plan was
terminated on August 1, 1997.

         On August 1, 1997, the Company adopted the 1997 Performance  Award Plan
to attract,  reward and retain  officers and  employees.  The maximum  number of
shares  reserved for issuance  under this plan is  1,000,000.  Awards under this
plan may be in the form of nonqualified stock options,  incentive stock options,
stock appreciation rights,  restricted stock, performance shares, stock bonuses,
or cash bonuses based upon performance. During 1997, the Company granted options
under this plan for the  purchase of 389,500  shares of common stock at exercise
prices ranging from $10.25 to $14.00 per share,  the fair value of the shares at
the date of grant. Such options vest at 20% each year,  beginning one year after
the grant date and expire seven to ten years from the date of grant.

The following summarizes stock option activity for the periods presented:

                                                            WEIGHTED
                                          NUMBER            AVERAGE
                                         OF SHARES       EXERCISE PRICE
                                     ----------------   ----------------
Balance at December 31, 1995 ......           --               --
  Options granted .................        55,000         $    3.10
                                     ----------------   ----------------
Balance at December 31, 1996.              55,000              3.10
  Options granted .................       482,000             11.14
  Options exercised ...............       (55,000)            (3.10)
  Options cancelled ...............       (13,250)           (12.04)
                                     ----------------   ----------------
Balance at December 31, 1997 ......       468,750          $  11.11
                                     ================   ================
F-14


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8.  STOCKHOLDERS' EQUITY (CONTINUED)

                                                                   1997    1996
                                                                   ----    ----
Weighted-average fair value of options granted during the year ..$ 4.37  $ 1.55

The following table summarizes  information  about stock options  outstanding at
December 31, 1997:

<TABLE>
<CAPTION>

                                               OPTIONS OUTSTANDING                       OPTIONS EXERCISABLE
                                   -----------------------------------------  ----------------------------------------
                        NUMBER                                                      NUMBER
                     OUTSTANDING    WEIGHTED-AVERAGE                             EXERCISABLE
     RANGE OF        AT DECEMBER        REMAINING         WEIGHTED-AVERAGE       AT DECEMBER       WEIGHTED-AVERAGE
 EXERCISE PRICES      31, 1997      CONTRACTUAL LIFE       EXERCISE PRICE          31, 1997         EXERCISE PRICE
-----------------  --------------  ------------------  ---------------------  -----------------  ---------------------
<S>                    <C>              <C>                    <C>                    <C>              <C>
$  5.00 - $ 7.50        92,500          9.2 years              $ 6.01                 0                $    --
     $10.25             20,000          6.9 years               10.25                 0                     --
$ 12.00 - $14.00       356,250          7.0 years               12.49                 0                     --
-----------------  --------------  ------------------  ---------------------  -----------------  ---------------------
$  5.00 - $14.00       468,750          7.4 years              $11.11                 0                $    --
=================  ==============  ==================  =====================  =================  =====================
</TABLE>


         The Company  accounts for its  stock-based  awards using the  intrinsic
value method in  accordance  with  Accounting  Principles  Board Opinion No. 25,
"Accounting  for Stock  Issued to  Employees"  and its related  interpretations.
Accordingly,  no  compensation  expense  has been  recognized  in the  financial
statements for employee stock arrangements.

         SFAS No. 123, "Accounting for Stock-Based  Compensation,"  requires the
disclosure  of pro forma net income  and net  income  per share had the  Company
adopted the fair value method as of the  beginning of 1995.  Under SFAS No. 123,
the fair value of stock-based  awards to employees is calculated through the use
of option pricing models, even though such models were developed to estimate the
fair  value of freely  tradable,  fully  transferable  options  without  vesting
restrictions, which significantly differ from the Company's stock option awards.
These models also require subjective  assumptions,  including future stock price
volatility  and expected time to exercise,  which greatly  affect the calculated
values.  The Company's  calculations  were made using the  Black-Scholes  option
pricing model with the following weighted average assumptions:  expected life of
7.7 years following  vesting;  stock price  volatility of 7%; risk free interest
rate of 6.4%;  and no  dividends  during  the  expected  term.  Forfeitures  are
recognized  as they  occur.  If the  computed  fair  values of the 1997 and 1996
awards had been amortized to expense over the vesting period of the awards,  pro
forma net income  would have been  reduced  to the pro forma  amounts  indicated
below. There were no stock options granted prior to 1996.

                                                   YEARS ENDED DECEMBER 31,
                                                   ------------------------
                                                    1997               1996
                                                    ----               ----
Net income:
  As reported ..............................  $  2,665,000       $    635,000
  Pro forma ................................     2,567,000            584,000
Net income per share:
  As reported:
       Basic and diluted ...................  $       0.24       $       0.06
  Pro forma:
       Basic and diluted ...................  $       0.23       $       0.06

F-15


<PAGE>


                      BIG DOG HOLDINGS, INC. AND SUBSIDIARY
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

9.  RELATED PARTY TRANSACTIONS

         Certain of the  Company's  stockholders  and  officers  have  ownership
interests in certain merchandise vendors to the Company.  Merchandise  inventory
purchased  from  these  related  vendors  totaled  $8,636,000,  $8,030,000,  and
$6,696,000 for the years ended December 31, 1997,  1996 and 1995,  respectively.
Included in accounts  payable are $412,000  and $62,000 due to these  vendors at
December  31,  1997 and  1996,  respectively.  During  1996,  the  Company  also
processed  certain  sales  for one of these  merchandise  vendors  and  recorded
revenue of $71,000.

         The Company also received advisory,  legal and consulting services from
related parties.  Such expenses  incurred for the years ended December 31, 1997,
1996 and 1995 were  $120,000,  $208,000,  and  $388,000,  respectively,  and are
included in general and administrative  expenses in the consolidated  statements
of operations.

         The  Company  engaged a related  party to perform  retail  construction
services.  During 1997,  construction  services  provided to the Company totaled
$371,000.

10.  QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>

                                                   FIRST      SECOND       THIRD     FOURTH
                                                  QUARTER     QUARTER     QUARTER    QUARTER
                                                  -------     -------     -------    -------
                                                      (In thousands, except per share)
<S>                                              <C>         <C>         <C>        <C>
Year ended December 31, 1997:
  Net sales ..................................   $ 12,265    $ 18,878    $ 24,129   $ 30,909
  Gross profit ...............................      6,670      11,265      14,107     17,811
  Selling, marketing and distribution expenses      8,454       9,310       9,879     11,906
  General and administrative expenses ........      1,035       1,076       1,118      1,509
  Total operating expenses ...................      9,489      10,386      10,997     13,415
  Income (loss) from operations ..............     (2,819)        879       3,110      4,396
  Net income (loss) ..........................     (2,031)        228       1,607      2,861
  Net income (loss) per share
     Basic and diluted .......................   $  (0.20) $     0.02    $   0.14   $   0.22
 Weighted average shares outstanding
     Basic ...................................     10,161      10,161      10,355     13,157
     Diluted .................................     10,161      10,421      10,652     13,271

Year ended December 31, 1996:
  Net sales ..................................   $  9,131    $ 15,220    $ 19,652   $ 24,680
  Gross profit ...............................      4,812       8,922      11,311     13,918
  Selling, marketing and distribution expenses      6,091       7,594       8,631      9,993
  General and administrative expenses ........        979         997         976        985
  Total operating expenses ...................      7,070       8,591       9,607     10,978
  Income (loss) from operations ..............     (2,258)        331       1,704      2,940
  Net income (loss) ..........................     (1,522)        (18)        755      1,420
  Net income (loss) per share
     Basic and Diluted .......................   $  (0.16)   $  (0.00)  $    0.07   $   0.14
  Weighted average shares outstanding
     Basic ...................................      9,734       9,863      10,101     10,211
     Diluted .................................      9,734       9,863      10,138     10,420
</TABLE>

F-16


<PAGE>



                                                 INDEX TO EXHIBITS

Exhibit No.                Description

        3.1           Amended and Restated Certificate of Incorporation*
        3.1A          Certificate of Correction*
        3.2           Amended and Restated Bylaws
        4.1           Reference is hereby made to Exhibits 3.1*, 3.1A* and 3.2
        4.2           Specimen Stock Certificate*
       10.1           Amended and Restated Credit Agreement dated as of June 30,
                      1995 between Big Dog Holdings,  Inc.,  Big Dog USA,  Inc.,
                      and Fortune  Dogs,  Inc.,* as amended by First  Amendment,
                      dated as of February 15, 1996*,  Second Amendment dated as
                      of April 30,  1996,*  Third  Amendment  dated as of May 3,
                      1997* and Fourth  Amendment to Amended and Restated Credit
                      Agreement dated as of November 10, 1997
       10.2           Form of Stockholder Agreement made as of January 2, 1996
                      between Big Dog Holdings, Inc. and certain stockholders*
       10.3           Forms of Notes and Warrants issued November 4, 1996*
       10.6           1996 Stock Incentive Plan*
       10.7           Form of Purchase Agreement under the Big Dog Holdings,
                      Inc. 1996 Stock Incentive Plan*
       10.8           1997 Stock Option Plan*
       10.9           Form of Stock Option Agreement under the 1997 Stock Option
                      Plan*
       10.10          Amended and Restated 1997 Performance Award Plan*
       10.10A         Form of Employee Nonqualified Stock Option Agreement under
                      1997 Performance Award Plan*
       10.11          Lease between Big Dog USA, Inc. and The Prudential
                      Insurance Company of America dated November 4, 1997
       10.12          Lease Agreement between Big Dog Holdings, Inc. and S.V.B.
                      Properties dated as of June 1, 1994, as amended by Lease
                      Agreement dated as of December 1, 1994, Second Lease
                      Amendment dated as of March 1, 1996 and Third Lease
                      Amendment dated as of July 22, 1996*
       10.13          Lease Agreement between Big Dog Holdings, Inc., and the
                      Eldred Family Trust & Jason Eldred Trust dated as of
                      April 4, 1996*
       10.14          Form of Indemnification Agreement*
       21.1           List of Subsidiaries of Big Dog Holdings, Inc.*
       24.1           Power of Attorney (included in signature page)*
       27.1           Financial data schedule

-------------
* Incorporated by reference from the Company's Form S-1  Registration  Statement
     (No. 333-33027), as amended, which became effective September 25, 1997